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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the Fiscal Year Ended December 31, 1998 Commission File No. 0-25087
HOST MARRIOTT, L.P.
Delaware 52-2095412
(State of Incorporation) (I.R.S. Employer Identification
Number)
10400 Fernwood Road
Bethesda, Maryland 20817
(301) 380-9000
Securities registered pursuant to Section 12(g) of the Act:
Title of each class
Units of limited partnership interest (292,296,998 units
outstanding as of March 28, 1999)
Indicate by check mark whether the registrant (i) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months, and (ii) has been subject to such filing
requirements for the past 90 days. Yes [X] No [_]
Document Incorporated by Reference
Notice of 1999 Annual Meeting and Proxy Statement of Host Marriott Corporation
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FORWARD-LOOKING STATEMENTS
Except as otherwise required by the context, references in this Form 10-K to
"we," "us," "our" and the "operating partnership" refer to Host Marriott, L.P.
and its subsidiaries, references in this Form 10-K to "Host Marriott" refer to
Host Marriott Corporation, a Delaware corporation, and its subsidiaries prior
to the REIT conversion (as discussed herein) and references in this Form 10-K
to "Host REIT" refer to Host Marriott Corporation, a Maryland corporation and
successor by merger to Host Marriott Corporation following the REIT
conversion.
Certain matters discussed herein are forward-looking statements. Certain,
but not necessarily all, of such forward-looking statements can be identified
by the use of forward-looking terminology, such as "believes," "expects,"
"may," "will," "should," "estimates" or "anticipates" or the negative thereof
or other variations thereof or comparable terminology. All forward-looking
statements involve known and unknown risks, uncertainties and other factors
which may cause our actual transactions, results, performance or achievements
to be materially different from any future transactions, results, performance
or achievements expressed or implied by such forward-looking statements.
Although we believe the expectations reflected in such forward-looking
statements are based upon reasonable assumptions, we can give no assurance
that our expectations will be attained or that any deviations will not be
material. We undertake no obligation to publicly release the result of any
revisions to these forward-looking statements that may be made to reflect any
future events or circumstances. The following risk factors should be
considered by prospective investors who should carefully consider the material
risks described below.
We do not control our hotel operations and are dependent on the managers and
lessees of our hotels
Because federal income tax laws restrict real estate investment trusts and
"publicly traded" partnerships from deriving revenues directly from operating
a hotel, we operate virtually none of our hotels. Instead, we lease virtually
all of our hotels to subsidiaries of Crestline which, in turn, retain managers
to manage our hotels pursuant to management agreements. Thus, we are dependent
on the lessees but, under the hotel leases, we have little influence over how
the lessees operate our hotels. Similarly, we are dependent on the managers,
principally Marriott International, Inc., but we have virtually no influence
over how the managers manage our hotels. We have no recourse if we believe
that the hotel managers do not maximize the revenues from our hotels, which in
turn will maximize the rental payments we receive under the leases. We may
seek redress under most leases only if the lessee violates the terms of the
lease and then only to the extent of the remedies set forth in the lease.
Each lessee's ability to pay rent accrued under its lease depends to a large
extent on the ability of the hotel manager to operate the hotel effectively
and to generate gross sales in excess of its operating expenses. Our rental
income from the hotels may therefore be adversely affected if the managers
fail to provide quality services and amenities and competitive room rates at
our hotels or fail to maintain the quality of the hotel brand names. Although
the lessees have primary liability under the management agreements while the
leases are in effect, we remain liable under the leases for all obligations
that the lessees do not perform. We may terminate a lease if the lessee
defaults, but terminating the lease could, unless another suitable lessee is
found, impair Host REIT's ability to qualify as a REIT for federal income tax
purposes and our ability to qualify as a partnership for federal income tax
purposes unless another suitable lessee is found. As described below, Host
REIT's inability to qualify as a REIT or our inability to qualify as a
partnership for federal income tax purposes would have a material adverse
effect on us.
We do not control certain assets held by the non-controlled subsidiaries
We own economic interests in certain taxable corporations, which we refer to
as non-controlled subsidiaries. These non-controlled subsidiaries hold various
assets which, under our credit facility may not exceed, in the aggregate, 15%
of the value of our assets. These assets consist primarily of interests in
certain partnerships and hotels which are not leased, and certain FF&E (as
defined below) used in our hotels. Ownership of these assets by us could
jeopardize Host REIT's REIT status and our status as a partnership for federal
income tax purposes. Although we own approximately 95% of the total economic
interests of the non-controlled subsidiaries, all of the voting common stock,
representing approximately 5% of the total economic interests, is owned by
Host Marriott Statutory Employee/Charitable Trust, the beneficiaries of which
are a trust formed for
1
the benefit of a number of our employees and the J. Willard and Alice S.
Marriott Foundation. These voting stockholders elect the directors who are
responsible for overseeing the operations of the non-controlled subsidiaries.
The directors are currently our employees, although this is not required. As a
result, we have no control over the operation or management of the hotels or
other assets owned by the non-controlled subsidiaries, even though we depend
upon the non-controlled subsidiaries for a significant portion of our
revenues. Also, the activities of non-controlled subsidiaries could cause us
to be in default under our principal debt facilities.
We are dependent on the ability of Crestline and the lessees to meet their
rent payment obligations
The lessees' rent payments are the primary source of our revenues. Crestline
guarantees the obligations of its subsidiaries under the hotel leases, but
Crestline's liability is limited to a relatively small portion of the
aggregate rent obligation of its subsidiaries. Crestline's and each of its
subsidiaries' ability to meet its obligations under the leases will determine
the amount of our revenue and, likewise, our ability to meet our obligations.
We have no control over Crestline or any of its subsidiaries and cannot assure
you that Crestline or any of its subsidiaries will have sufficient assets,
income and access to financing to enable them to satisfy their obligations
under the leases or to make payments of fees under the management agreements.
Although the lessees have primary liability under the management agreements
while the leases are in effect, we and our subsidiaries remain liable under
the management agreements for all obligations that the lessees do not perform.
Because of our dependence on Crestline, our credit rating will be affected by
its creditworthiness.
Our revenues and the value of our properties could be adversely affected by
conditions affecting the lodging industry
If our assets do not generate income sufficient to pay our expenses, service
our debt and maintain our properties, we will be unable to make expected
distributions to our unitholders, including Host REIT. Factors that could
adversely affect our revenues and the economic performance and value of our
properties include:
. changes in the national, regional and local economic climate,
. local conditions such as an oversupply of hotel properties or a reduction
in demand for hotel rooms,
. the attractiveness of our hotels to consumers and competition from
comparable hotels,
. the quality, philosophy and performance of the managers of our hotels,
primarily Marriott International, Inc.,
. the ability of any hotel lessee to maximize rental payments,
. changes in room rates and increases in operating costs due to inflation
and other factors and
. the need to periodically repair and renovate our hotels.
Our expenses may remain constant even if our revenues drop
The expenses of owning a property are not necessarily reduced when
circumstances such as market factors and competition cause a reduction in
income from the property. If a property is mortgaged and we are unable to meet
the mortgage payments, the lender could foreclose and take the property. Our
financial condition and ability to service debt and make distributions to our
unitholders, including Host REIT could be adversely affected by:
.interest rate levels,
.the availability of financing,
.the cost of compliance with government regulation, including zoning and
tax laws and
.changes in laws and governmental regulations, including those governing
usage, zoning and taxes.
New acquisitions may fail to perform as expected or we may be unable to make
acquisitions on favorable terms
We intend to acquire additional full service hotels and other types of real
estate. Newly acquired properties may fail to perform as expected, which could
adversely affect our financial condition. We may underestimate the costs
necessary to bring an acquired property up to standards established for its
intended market position. We expect to acquire hotels and other types of real
estate with cash from secured or unsecured financings and
2
proceeds from offerings of equity or debt, to the extent available. We may not
be in a position or have the opportunity in the future to make suitable
property acquisitions on favorable terms. Competition for attractive
investment opportunities may increase prices for hotel properties, thereby
decreasing the potential return on our investment. In addition, in order to
maintain Host REIT's status as a REIT we must lease virtually all of the
properties we acquire. We cannot guarantee that the leases for newly acquired
hotels will be as favorable to us as the existing leases.
Competition for acquisitions may result in increased prices for hotels
Other major investors with significant capital compete with us for
attractive investment opportunities. These competitors include other REITs and
hotel companies, investment banking firms and private institutional investment
funds. This competition may increase prices for hotel properties, thereby
decreasing the potential return on our investment.
The seasonality of the hotel industry may affect the ability of the lessees to
make timely rent payments
The seasonality of the hotel industry may, from time to time, affect either
the amount of rent that accrues under the hotel leases or the ability of the
lessees to make timely rent payments under the leases. A lessee's or
Crestline's inability to make timely rent payments to us could adversely
affect our financial condition and ability to service debt and make
distributions to our stockholders.
We may be unable to sell properties when appropriate because real estate
investments are illiquid
Real estate investments generally cannot be sold quickly. We may not be able
to vary our portfolio promptly in response to economic or other conditions.
This inability to respond promptly to changes in the performance of our
investments could adversely affect our financial condition and ability to
service debt and make distributions to our stockholders. In addition, sales of
appreciated real property could generate material adverse tax consequences,
which may make it disadvantageous for us to sell hotels.
We may be unable to renew leases or find other lessees
Our current hotel leases have terms generally ranging from seven to ten
years. There can be no assurance that upon expiration of our leases, our
hotels will be relet to the current lessees, or if relet, will be relet on
terms favorable to us. If our hotels are not relet, we will be required to
find other lessees who meet certain requirements of the management agreements
and of the federal income tax rules that govern REITs. We cannot assure you
that we would be able to find satisfactory lessees or that the terms of any
new leases would be favorable. Failure to find satisfactory lessees could
cause Host REIT to lose its REIT status, and cause us to be considered a
"publicly traded partnership" taxable as a "C" corporation. Under these
circumstances, we would have to pay substantial federal income taxes as well
as distribute more cash to Host REIT to enable Host REIT to meet its tax
burden. This would significantly impair, if not eliminate, our ability to
raise additional capital. Failure to enter leases on satisfactory terms could
also result in reduced cash available for servicing debt and for distributions
to unitholders, including Host REIT.
A significant number of our hotels are subject to ground leases
As of December 31, 1998, we leased 54 of our hotels pursuant to ground
leases. These ground leases generally require increases in ground rent
payments every five years. Our ability to make cash distributions to our
unitholders, including Host REIT, could be adversely affected to the extent
that the rents payable by the lessees under the leases do not increase at the
same or a greater rate as the increases under the ground leases. In addition,
if we were to sell a hotel encumbered by a ground lease, the buyer would have
to assume the ground lease, which could result in a lower sales price.
3
Some potential losses are not covered by insurance
We carry comprehensive liability, fire, flood, extended coverage and rental
loss (for rental losses extending up to 12 months) insurance with respect to
all of our hotels. We believe the policy specifications and insured limits of
these policies are of the type customarily carried for similar hotels. Certain
types of losses, such as from earthquakes and environmental hazards, however,
may be either uninsurable or too expensive to justify insuring against. Should
an uninsured loss or a loss in excess of insured limits occur, we could lose
all or a portion of the capital we have invested in a hotel, as well as the
anticipated future revenue from the hotel. In such an event, we might
nevertheless remain obligated for any mortgage debt or other financial
obligations related to the property.
Leases and management agreements could impair the sale or other disposition of
our hotels
Each lease with a subsidiary of Crestline generally requires us to make a
termination payment to the lessee if we terminate the lease prior to the
expiration of its term. A termination payment is required even if we terminate
a lease because of a change in the federal income tax laws that either would
make continuation of the lease jeopardize Host REIT's REIT status or would
enable us to operate the hotels directly. The termination fee generally is
equal to the fair market value of the lessee's leasehold interest in the
remaining term of the lease, which could be a significant amount. In addition,
if we decide to sell a hotel, we may be required to terminate its lease, and
the payment of the termination fee under such circumstances could impair our
ability to sell the hotel and would reduce the net proceeds of any sale.
Under the terms of the management agreements, we generally may not sell,
lease or otherwise transfer the hotels unless the transferee assumes the
related management agreements and meets certain other conditions. Our ability
to finance, refinance or effect a sale of any of the properties managed by
Marriott International or another manager may, depending upon the structure of
such transactions, require the manager's consent. If Marriott International or
other manager did not consent, we would be prohibited from consummating the
financing, refinancing or sale without breaching the management agreement.
The acquisition contracts relating to certain hotels limit our ability to sell
or refinance such hotels
For reasons relating to federal income tax considerations of the former
owners of certain of our hotels, we have agreed to restrictions on selling
certain hotels or repaying or refinancing the mortgage debt thereon for lock-
out periods which vary depending on the hotel. We anticipate that, in certain
circumstances, we may agree to similar restrictions in connection with future
hotel acquisitions. As a result, even if it were in our best interests to sell
such hotels or refinance their mortgage debt, it may be difficult or
impossible to do so during their respective lock-out periods.
Marriott International's and Crestline's operation of their respective
businesses could result in decisions not in our best interest
Marriott International, a public company in the business of hotel
management, manages a significant number of our hotels. In addition, Marriott
International manages hotels owned by others that compete with our hotels. As
a result, Marriott International may make decisions regarding competing
lodging facilities which it manages that would not necessarily be in our best
interests. Further, J.W. Marriott, Jr., a member of Host REIT's Board of
Directors, and Richard E. Marriott, Chairman of the Board of Host REIT and
J.W. Marriott, Jr.'s brother, serve as directors, and, in the case of J.W.
Marriott, Jr., also an officer, of Marriott International. J.W. Marriott, Jr.
and Richard E. Marriott also beneficially owned approximately 10.6% and 10.4%,
respectively, as of January 1, 1999 of the outstanding shares of common stock
of Marriott International, and approximately 5.7% and 6.0%, respectively, as
of March 24, 1999 of the outstanding shares of common stock of Crestline, but
neither serves as an officer or director of Crestline. As a result, J.W.
Marriott, Jr. and Richard E. Marriott have potential conflicts of interest as
directors of Host Marriott when making decisions regarding Marriott
International, including decisions relating to the management agreements
involving the hotels, Marriott International's management of competing lodging
properties and Crestline's leasing and other businesses.
4
Host REIT's Board of Directors and Marriott International's Board of
Directors follow appropriate policies and procedures to limit the involvement
of Messrs. J.W. Marriott, Jr. and Richard E. Marriott in conflict situations,
including requiring them to abstain from voting as directors of either company
or their subsidiaries on certain matters which present a conflict between the
companies. If appropriate, these policies and procedures will apply to other
directors and officers.
Provisions of Host REIT's charter and bylaws could inhibit changes in control
that could be beneficial to its stockholders
Certain provisions of Host REIT's charter and bylaws may delay or prevent a
change in control or other transaction that could provide its stockholders
with a premium over the then-prevailing market price of their shares or which
might otherwise be in their best interests. These include a staggered Board of
Directors and the ownership limit described below. Also, any future class or
series of stock may have certain voting provisions that could delay or prevent
a change in control or other transaction that might involve a premium price or
otherwise be good for its stockholders.
The Marriott International purchase right may discourage a takeover that could
be beneficial to Host REIT's stockholders
Marriott International has the right to purchase up to 20% of each class of
Host REIT's outstanding voting shares at the then fair market value upon the
occurrence of specified certain change of control events. We refer to this
right as the Marriott International purchase right. The Marriott International
purchase right will continue in effect until June 2017, subject to certain
limitations intended to protect the Host REIT's REIT status. The Marriott
International purchase right may have the effect of discouraging someone from
attempting to takeover Host REIT, because any person considering acquiring a
substantial or controlling block of Host REIT's common stock will face the
possibility that its ability to obtain or exercise control would be impaired
or made more expensive by the exercise of the Marriott International purchase
right.
Host REIT has adopted Maryland law limitations on changes in control
Maryland corporate law prohibits certain "business combinations" between a
Maryland corporation and any person who owns 10% or more of the voting power
of the corporation's then outstanding shares of stock (an "Interested
Stockholder") or an affiliate of the Interested Stockholder unless a business
combination is approved by the board of directors any time before an
Interested Stockholder first becomes an Interested Stockholder. The
prohibition lasts for five years after the Interested Stockholder becomes an
Interested Stockholder. Thereafter, any such business combination must be
approved by stockholders under certain special voting requirements. Host REIT
will be subject to such provisions although it may elect to "opt-out" in the
future. As a result, a change in control or other transaction that could
provide Host REIT's stockholders with a premium over the then-prevailing
market price of their shares or which might otherwise be in their best
interests may be prevented or delayed. Host REIT's Board of Directors has
exempted from this statute the acquisition of shares by Marriott International
pursuant to the terms of the Marriott International purchase right as well as
any other transactions involving Host REIT and Marriott International or their
respective subsidiaries, or J.W. Marriott, Jr. or Richard E. Marriott,
provided that, if any such transaction is not in the ordinary course of
business, it must be approved by a majority of Host REIT's directors present
at a meeting at which a quorum is present, including a majority of the
disinterested directors, in addition to any vote of stockholders required by
other provisions of Maryland corporate law.
Maryland control share acquisition law could delay or prevent a change in
control
Under Maryland corporate law, unless a corporation elects not to be subject
thereto, "control shares" acquired in a "control share acquisition" have no
voting rights except to the extent approved by stockholders by a vote of two-
thirds of the votes entitled to be cast on the matter, excluding shares owned
by the acquiror and by officers or directors who are employees of the
corporation. "Control shares" are voting shares which would entitle the
acquiror to exercise voting power in electing directors within certain
specified ranges of voting power.
5
A "control share acquisition" means the acquisition of control shares, subject
to certain exceptions. Host REIT is subject to these control share provisions
of Maryland law and, as a result, a change in control or other transaction
that could provide Host REIT's stockholders with a premium over the then-
prevailing market price of their shares or which might otherwise be in their
best interests may be delayed or prevented. Host REIT's bylaws contain an
exemption from this statute for any shares acquired by Marriott International,
together with its successors and permitted assignees, pursuant to the Marriott
International purchase right.
Host REIT has adopted a rights agreement which could delay or prevent a change
in control
Host REIT's rights agreement provides, among other things, that upon the
occurrence of certain events, stockholders will be entitled to purchase shares
of its stock, subject to the ownership limit. These purchase rights would
cause substantial dilution to a person or group that acquires or attempts to
acquire 20% or more of Host REIT's common stock on terms not approved by the
Board of Directors and, as a result, could delay or prevent a change in
control or other transaction that could provide Host REIT's stockholders with
a premium over the then-prevailing market price of their shares or which might
otherwise be in their best interests.
Host REIT has a stock ownership limit primarily for REIT tax purposes
Primarily to facilitate maintenance of Host REIT's REIT qualification, Host
REIT's charter imposes an ownership limit on Host REIT's common stock and
preferred stock. The attribution provisions of the federal tax laws that are
used in applying the ownership limit are complex. They may cause one
stockholder to be considered to own the stock of a number of related
stockholders. As a result, these provisions may cause a stockholder whose
direct ownership of stock does not exceed the ownership limit to, in fact,
exceed the ownership limit.
The ownership limit could delay or prevent a change in control and,
therefore, could adversely affect stockholders' ability to realize a premium
over the then-prevailing market price for the common stock in connection with
such transaction.
We are dependent on external sources of capital
For Host REIT to qualify as a REIT, we must distribute to our unitholders,
including Host REIT, each year at least 95% of our net taxable income,
excluding any net capital gain. Because of these distribution requirements, it
is not likely that we will be able to fund all future capital needs, including
acquisitions, from income from operations. We therefore will have to rely on
third-party sources of capital, which may or may not be available on favorable
terms or at all. Our access to third-party sources of capital depends upon a
number of factors, including general market conditions, the market's
perception of our growth potential, our current and potential future earnings
and cash distributions and the market price of Host REIT's common stock.
Moreover, additional equity offerings may result in substantial dilution of
unitholders' interests, and additional debt financing may substantially
increase our leverage.
Our degree of leverage could limit our ability to obtain additional financing
Host REIT's debt-to-total market capitalization ratio was approximately 59%
as of December 31, 1998. Host REIT has a policy of incurring debt only if,
immediately following such incurrence, Host REIT's debt-to-total market
capitalization ratio on a pro forma basis would be 60% or less. Our degree of
leverage could affect our ability to obtain financing in the future for
working capital, capital expenditures, acquisitions, development or other
general partnership purposes and to refinancing borrowings on favorable terms.
Our leveraged capital structure also makes us more vulnerable to a downturn in
our business or in the economy generally. Moreover, there are no limitations
in our or Host REIT's organizational documents that limit the amount of
indebtedness that we may incur, although our existing debt instruments contain
certain restrictions on the amount of indebtedness that we may incur.
Accordingly, Host REIT's Board of Directors, acting in its capacity as our
sole general partner, could alter or eliminate the 60% policy without
stockholder or limited partner approval to the extent permitted by our debt
agreements. If this policy were changed, we could become more highly
leveraged, resulting in an increase in debt service payments that could
adversely affect our cash flow and consequently our ability to service our
debt and make distributions to unitholders, including Host REIT.
6
Rental revenues from hotels are subject to prior rights of lenders
The mortgages on certain of our hotels require that rent payments under the
leases on such hotels be used first to pay the debt service on such mortgage
loans. Consequently, only the cash flow remaining after debt service will be
available to satisfy other obligations, including property taxes and
insurance, FF&E reserves for the hotels and capital improvements, and debt
service on unsecured debt, and to make distributions to unitholders, including
Host REIT.
We depend on our key personnel
We depend on the efforts of our executive officers and other key personnel.
While we believe that we could find replacements for these key personnel, the
loss of their services could have a significant adverse effect on our
operations. We do not intend to obtain key-man life insurance with respect to
any of our personnel.
The REIT conversion could result in litigation
Over the last several years, business reorganizations involving the
combination of several partnerships into a single entity have occasionally
given rise to investor lawsuits. These lawsuits have involved claims against
the general partners of the participating partnerships, the partnerships
themselves and related persons involved in the structuring of, or benefiting
from, the conversion or reorganization, as well as claims against the
surviving entity and its directors and officers. If any lawsuits are filed in
connection with the partnership mergers or other transactions in connection
with the REIT conversion, such lawsuits could result in substantial damage
claims against us, as successor to the liabilities of our predecessors. Such
lawsuits, if successful, could adversely affect our financial condition and
our ability to service our debt and make distributions to unitholders,
including Host REIT.
Joint venture investments have additional risks
Instead of purchasing hotel properties directly, we may invest as a co-
venturer. Joint venturers often share control over the operation of the joint
venture assets. Actions by a co-venturer could subject such assets to
additional risk. Our co-venturer in an investment might have economic or
business interests or goals that are inconsistent with our interests or goals,
or be in a position to take action contrary to our instructions or requests or
contrary to our policies or objectives. Although we generally will seek to
maintain sufficient control of any joint venture to permit our objectives to
be achieved, we might not be able to take action without the approval of our
joint venture partners. Also, our joint venture partners could take actions
binding on the joint venture without our consent. A joint venture partner
could go bankrupt, leaving us liable for its share of joint venture
liabilities. Also, the requirement that we lease our assets in order for Host
REIT to qualify as a REIT may make it more difficult for us to enter into
joint ventures in the future.
The year 2000 problem may adversely impact our business and financial
condition
Year 2000 issues have arisen because many existing computer programs and
chip-based embedded technology systems use only the last two digits to refer
to a year, and therefore do not properly recognize a year that begins with
"20" instead of the familiar "19." If not corrected, many computer
applications could fail or create erroneous results. Our potential year 2000
problems include issues relating to our in-house hardware and software
computer systems, as well as issues relating to third parties with which we
have a material relationship or whose systems are material to the operations
of our hotels.
In-House systems
Since October of 1993, we have invested in the implementation and
maintenance of accounting and reporting systems and equipment that are
intended to enable us to provide adequately for our information and
reporting needs and which are also year 2000 compliant. Substantially all
of our in-house systems have already been certified as year 2000 compliant
through testing and other mechanisms. We have not delayed any systems
projects due to the year 2000 issue. We have engaged a third party to
review our year 2000 in-house compliance.
7
Third-Party systems
We rely upon operational and accounting systems provided by third
parties, primarily the managers of our hotels, to provide the appropriate
property-specific operating systems, including reservation, phone,
elevator, security, HVAC and other systems, and to provide us with
financial information. We will continue to monitor the efforts of these
third parties to become year 2000 compliant and will take appropriate steps
to address any non-compliance issues.
Risks
We believe that future costs associated with year 2000 issues for our in-
house systems will be insignificant and therefore not impact our business,
financial condition and results of operations. However, the actual effect
that year 2000 issues will have on our business will depend significantly
on whether other companies and governmental entities properly and timely
address year 2000 issues and whether broad-based or systemic failures
occur. We cannot predict the severity or duration of any such failures,
which could include disruptions in passenger transportation or
transportation systems generally, loss of utility and/or telecommunications
services, the loss or disruption of hotel reservations made on centralized
reservation systems and errors or failures in financial transactions or
payment processing systems such as credit cards.
Moreover, we are dependent upon Crestline to interface with third parties
in addressing year 2000 issues at our hotels leased to its subsidiaries.
Due to the general uncertainty inherent with respect to year 2000 issues
and our dependence on third parties, including Crestline, we are unable to
determine at this time whether the consequences of year 2000 failures will
have a material impact on us. Although our joint year 2000 compliance
program with Crestline is expected to significantly reduce uncertainties
arising out of year 2000 issues and the possibility of significant
interruptions of normal operations, we cannot assure you that this will be
the case.
Environmental problems are possible and can be costly
We believe that our properties are in compliance in all material respects
with applicable environmental laws. Unidentified environmental liabilities
could arise, however, and could have a material adverse effect on our
financial condition and performance. Federal, state and local laws and
regulations relating to the protection of the environment may require a
current or previous owner or operator of real estate to investigate and clean
up hazardous or toxic substances or petroleum product releases at such
property. The owner or operator may have to pay a governmental entity or third
parties for property damage and for investigation and clean-up costs incurred
by such parties in connection with the contamination. These laws typically
impose clean-up responsibility and liability without regard to whether the
owner or operator knew of or caused the presence of the contaminants. Even if
more than one person may have been responsible for the contamination, each
person covered by the environmental laws may be held responsible for all of
the clean-up costs incurred. In addition, third parties may sue the owner or
operator of a site for damages and costs resulting from environmental
contamination emanating from that site. Environmental laws also govern the
presence, maintenance and removal of asbestos. These laws require that owners
or operators of buildings containing asbestos properly manage and maintain the
asbestos, that they notify and train those who may come into contact with
asbestos and that they undertake special precautions, including removal or
other abatement, if asbestos would be disturbed during renovation or
demolition of a building. These laws may impose fines and penalties on
building owners or operators who fail to comply with these requirements and
may allow third parties to seek recovery from owners or operators for personal
injury associated with exposure to asbestos fibers.
Compliance with other government regulations can also be costly.
Our hotels are subject to various forms of regulation, including Title III
of the Americans with Disabilities Act, building codes and regulations
pertaining to fire safety. Compliance with such laws and regulations could
require substantial capital expenditures. We do not believe, however, that
substantial non-budgeted capital expenditures will be required with respect to
our existing hotels based on existing laws and regulations. Such regulations
may be changed from time to time, or new regulations adopted, resulting in
additional or unexpected costs of compliance. Any such increased costs could
reduce the cash available for servicing of debt and distributions to
unitholders, including Host REIT.
8
Host REIT intends to qualify as a REIT, but we cannot guarantee that it will
qualify
Host REIT intends to operate to qualify as a REIT for tax purposes beginning
on January 1, 1999. If it qualifies as a REIT, Host REIT generally will not be
taxed on income that Host REIT distributes to its stockholders so long as Host
REIT distributes currently at least 95% of its net taxable income, excluding
net capital gain. Host REIT cannot guarantee, however, that it will qualify as
a REIT in 1999 or in any future year. Many of the REIT requirements are highly
technical and complex. The determination that Host REIT is a REIT requires an
analysis of various factual matters and circumstances that may not be totally
within its control. For example, to qualify as a REIT, at least 95% of Host
REIT's gross income must be income specified in the REIT tax laws, such as
"rents from real property." Host REIT is also required to distribute to
shareholders at least 95% of its REIT taxable income, excluding capital gains.
The fact that Host REIT holds its assets through us and our subsidiaries
further complicates the application of the REIT requirements. Even a technical
or inadvertent mistake could jeopardize Host REIT's REIT status. Furthermore,
Congress and the IRS might make changes to the tax laws and regulations, and
the courts might issue new rulings that make it more difficult, or impossible,
for Host REIT to remain qualified as a REIT. In addition, it is possible that
even if Host REIT does qualify as a REIT, new tax rules will change the way
Host REIT is taxed. If Host REIT fails to qualify as a REIT, it will be
subject to federal income tax at regular corporate rates. In this event, Host
REIT may cause us to distribute adequate amounts to it and our other
unitholders to permit Host REIT to pay its tax liabilities and our ability to
raise additional capital could be impaired. This would significantly reduce
the cash we would have available to service debt. Furthermore, Host REIT's
failure to qualify as a REIT could create a default under some of our debt
instruments, including our credit facility. If Host REIT fails to qualify as a
REIT, then unless certain specific statutory provisions apply, Host REIT will
be disqualified from treatment as a REIT for the next four taxable years.
If we are treated as a corporation, Host REIT will fail to qualify as a REIT
We intend to qualify as a partnership for federal income tax purposes.
However, we will be treated as a corporation, instead of a partnership, for
federal income tax purposes unless at least 90% of our income is qualifying
income as defined in the tax code. The income requirements applicable to REITs
and the definition of qualifying income for purposes of this 90% test are
similar in most, but not all, respects. Qualifying income for the 90% test
generally includes passive income, such as specified types of real property
rents, dividends and interest. However, real property rent will not be
qualifying income if we or one or more actual or constructive owners of 5% of
us actually or constructively own 10% or more of the tenant. Our partnership
agreement contains ownership restrictions intended to prevent the
disqualification of income based on these ownership restrictions. We believe
that it will meet this qualifying income test, but we cannot guarantee that we
will. If we were to be taxed as a corporation, we would incur substantial tax
liabilities, Host REIT would fail to qualify as a REIT for tax purposes, we
may be required to distribute adequate amounts to Host REIT to permit Host
REIT to pay its tax liabilities, and our and its ability to raise additional
capital could be impaired.
We may need to borrow money or issue additional equity in order for Host REIT
to qualify as a REIT
A REIT must distribute to its shareholders at least 95% of its net taxable
income, excluding any net capital gain. The source of the distributions Host
REIT makes to its stockholders will be money distributed to Host REIT by us.
Host REIT intends to meet this 95% requirement, but there are a number of
reasons why our cash flow alone may be insufficient for Host REIT to meet this
requirement. First, as a result of some of the transactions of certain of Host
REIT's predecessor entities, we and our subsidiaries, expect to recognize
large amounts of taxable income in future years for which we will have no
corresponding cash flow or earnings before interest, taxes, depreciation and
other non cash items which is referred to as EBITDA. This type of income is
often referred to as phantom income. Second, in order to qualify as a REIT in
1999, Host REIT needs to distribute to its stockholders, prior to the end of
1999, all of the "earnings and profits" that accumulated prior to 1999. If
Host REIT does not meet this requirement by virtue of the distributions
declared in connection with the REIT conversion, Host REIT will be required to
make further distributions prior to the end of 1999. We may not have cash flow
that corresponds to these distributions. Third, the seasonality of the
hospitality industry could cause a further mismatch of our income and cash
flow.
9
In addition, even if a REIT meets the 95% requirement, it may still be
subject to a 4% nondeductible excise tax. This excise tax applies to the
amount by which certain of the REIT's distributions in a given calendar year
are less than the sum of 85% of its ordinary income, 95% of its capital gain
net income and any undistributed taxable income from prior years. Host REIT
intends to make distributions to its stockholders so that Host REIT will not
be subject to this excise tax, but for the reasons described above, our cash
flow alone may be insufficient for us to distribute to Host REIT the funds
Host REIT will need.
Our partnership agreement requires us to distribute enough cash to Host REIT
for it to meet the 95% distribution requirement and avoid the 4% excise tax,
and we have to make proportionate distributions to our other equityholders. If
our cash flow alone is insufficient for us to distribute to Host REIT the
money Host REIT needs to meet the 95% distribution requirement or to avoid the
4% excise tax, we may need to issue additional equity or borrow money. We
cannot guarantee that these sources of funds will be available to us on
favorable terms or even at all. Any problems we have in borrowing money could
be exacerbated by two factors. First, we will need to distribute most if not
all of our earnings to Host REIT and other holders of our partnership units.
Therefore, we will be unable to retain these earnings. Accordingly, we
generally will need to refinance our maturing debt with additional debt or
equity and rely on third-party sources to fund future capital needs. Second,
our borrowing needs will be increased if Host REIT is required to pay taxes or
liabilities attributable to prior years. If we are unable to raise the money
necessary to permit Host REIT to meet the 95% distribution requirement, Host
REIT will fail to qualify as a REIT. If we are able to raise the money, but
only on unfavorable terms, then our financial performance may be damaged.
Host REIT is required to distribute all of its prior earnings and profits, but
it cannot guarantee that it will be able to do so
In order to qualify as a REIT for 1999, Host REIT is required to distribute
to its stockholders, prior to the end of 1999, all of its earnings and profits
that it accumulated prior to 1999. Host REIT believes that it will meet this
requirement. However, it is very hard to determine the exact level of Host
REIT's pre-1999 earnings and profits because the determination depends on an
extremely large number of factors. The complexity of the determination is
compounded by the fact that Host Marriott started accumulating earnings and
profits in 1929. Also, it is difficult to value Host REIT's distributions
which have not been cash, such as the distribution of Crestline common stock
Host Marriott made in December 1998. Therefore, Host REIT cannot guarantee
that it will meet this requirement. If Host REIT does not meet this
requirement, then Host REIT will not qualify as a REIT at least for 1999.
Host REIT will qualify as a REIT only if the rent from the leases meets a
number of tests, but Host REIT cannot guarantee that it will
A REIT's income must meet certain tests relating to its source. If the
income meets the tests, it is called "good income." Almost all of our income,
and therefore Host REIT's income, will be rent from the hotel leases. This
rent will be good income only if the leases are respected as true leases for
federal income tax purposes. If the leases are treated as service contracts,
joint ventures or some other type of arrangement, then this rent will not be
good income and Host REIT will fail to qualify as a REIT.
In addition, the rent from any particular hotel lease will be good income
only if Host REIT owns less than 10% of the lessee of the hotel. For purposes
of this test, Host REIT is treated as owning both any interests that it holds
directly and the interests owned by a person who owns more than 10% of its
stock. In determining who owns more than 10% of Host REIT's stock, a person
may be treated as owning the stock of another person who is either a relative
or has common financial interests. Host REIT will not directly own more than
10% of any of the lessees. In addition, Host REIT intends to enforce the
ownership limit in its charter, which restricts the amount of its capital
stock that any person can own. If the ownership limit is effective, then no
person will ever own more than 10% of Host REIT's capital stock and Host REIT
should never own more than 10% of the lessees. However, Host REIT cannot
guarantee that the ownership limit will be effective. If the ownership limit
is not effective, Host REIT's ownership in the lessees may exceed the 10%
limit. As a result, the rent from our
10
leases would not be good income and Host REIT would fail to qualify as a REIT.
Similar restrictions also apply to us and our partners who own a 5% or greater
interest in us. Our partnership agreement also contains ownership restrictions
intended to permit us to meet these requirements, but if those restrictions
were not effective, we might fail to qualify as a partnership for tax
purposes.
Furthermore, rent from any particular hotel lease will be good income only
if no portion of the rent is based on the income or profits of the lessee of
the hotel. The rent, however, can be based on the gross revenues of the
lessees, unless the arrangement does not conform to normal business practice
or is being used as a device to base rent on the income or profits of the
lessees. The rent from the current leases, other than the Harbor Beach Resort
lease, is based on the gross revenues of the lessees. We believe that the
leases conform to normal business practice and, other than the Harbor Beach
Resort lease, are not being used as a device to base rent on the income or
profits of the lessees. We cannot guarantee that the IRS will agree with our
position. If rent from leases in addition to the Harbor Beach Resort lease is
found to be based on the income or profits of the lessees, the rent would not
be good income and Host REIT would fail to qualify as a REIT.
Host REIT will qualify as a REIT and, if we are a "publicly traded
partnership," we would qualify as a partnership only if the personal property
arrangements are respected by the IRS
Rent that is attributable to personal property is not good income under the
REIT rules or the rules applicable to "publicly traded partnerships." Hotels
contain significant personal property. Therefore, in order to protect Host
REIT's ability to qualify as a REIT and our ability to qualify as a
partnership, we sold an estimated $59 million of personal property associated
with some of our hotels to the non-controlled subsidiaries. The non-controlled
subsidiaries lease the personal property associated with each hotel directly
to the lessee that is leasing the hotel. Under each personal property lease,
the non-controlled subsidiary receives rent payments directly from the
applicable lessee. We believe the amount of the rent represents the fair
rental value of the personal property. If for any reason these lease
arrangements are not respected by the IRS for federal income tax purposes and
we were treated as the lessor, Host REIT would not qualify as a REIT and, if
we are considered a "publicly traded partnership," we likely would not qualify
as a partnership.
Host REIT will be subject to taxes even if Host REIT qualifies as a REIT
Even if Host REIT qualifies as a REIT, it will be subject to some federal,
state and local taxes on its income and property. For example, it will have to
pay tax on income that it does not distribute. It also will be liable for any
tax that the IRS successfully asserts against its predecessors for corporate
income taxes for years prior to 1999. Furthermore, it may derive income from
the non-controlled subsidiaries and they will be subject to regular corporate
taxes.
In addition, Host REIT and its subsidiaries contributed a large number of
assets to us with a value that was substantially greater than their tax basis
in the assets. We refer to these assets as assets with "built-in gain." Host
REIT will be subject to tax on the built-in gain if we sell these assets prior
to the end of 2008. Host REIT also has substantial deferred tax liabilities
that it, or one of the non-controlled subsidiaries will recognize, without the
receipt by them of any corresponding cash. Even if we do not sell the built-in
gain assets prior to the end of 2008, there are a number of other transactions
that likely would cause Host REIT to be subject to the tax on the built-in
gain. In connection with this gain, neither Host REIT nor us will receive any
corresponding cash.
Proposed legislation, if enacted, could require us to restructure our
ownership of the non-controlled subsidiaries
The Clinton Administration's fiscal year 2000 budget proposal, announced
February 1, 1999, includes a proposal that would limit a REIT's ability to own
more than 10%, by vote or value, of the stock of another corporation.
Currently, a REIT cannot own more than 10% of the outstanding voting
securities of any one issuer. A REIT can, however, own more than 10% of the
value of the stock of a corporation provided no more than 25% of the value of
the REIT's assets consists of subsidiaries that conduct impermissible
activities and that the stock of any one single corporation does not account
for more than 5% of the total value of the REIT's assets. The budget proposal
would allow a REIT to own all of the voting stock and value of a "taxable REIT
11
subsidiary" provided all of a REIT's taxable subsidiaries do not represent
more that 15% of the REIT's total assets. In addition, under the budget
proposal, a "taxable REIT subsidiary" would not be entitled to deduct any
interest on debt funded directly or indirectly by the REIT. The budget
proposal, if enacted in its current form, may require that we restructure our
ownership of the non-controlled subsidiaries because we currently own more
than 10% of the value of the non-controlled subsidiaries. The budget proposal,
if enacted in its current form, would be effective after the date of its
enactment and would provide transition rules to allow corporations, like the
non-controlled subsidiaries, to convert into "taxable REIT subsidiaries" tax-
free. It is presently uncertain whether any proposal regarding REIT
subsidiaries, including the budget proposal, will be enacted, or if enacted,
what the terms of such proposal (including its effective date) will be.
Items 1 & 2. Business and Properties
We are a limited partnership owning full service hotel properties as part of
an umbrella partnership real estate investment trust with Host REIT as our
sole general partner. We, and our subsidiaries currently own 125 hotels,
representing approximately 58,000 rooms located throughout the United States
and Canada. These hotels are generally operated under the Marriott, Ritz-
Carlton, Four Seasons, Swissotel and Hyatt brand names, which are among the
most respected and widely recognized brand names in the lodging industry. As
described more fully below, our hotels are held by us and our subsidiaries and
leased by us and our subsidiaries to lessees, principally subsidiaries of
Crestline Capital Corporation. The hotels are managed on behalf of the lessees
by subsidiaries of Marriott International and other companies.
We were formed as a Delaware limited partnership in April 1998, as an
indirect wholly owned subsidiary of Host Marriott Corporation, a Delaware
corporation, in connection with Host Marriott's efforts to reorganize its
business operations to qualify as a REIT for federal income tax purposes. As
part of this reorganization, which we refer to as the REIT conversion, and
which is described below in more detail, on December 28, 1998, Host Marriott
and various of its subsidiaries contributed to us substantially all of their
assets and we assumed substantially all of their liabilities. As a result, we
have succeeded to the hotel ownership business formerly conducted by Host
Marriott, which is described more fully below. Throughout this Form 10-K,
activities prior to December 29, 1998, represent the activities of our
predecessor, Host Marriott Corporation and its subsidiaries.
The REIT conversion
During 1998, Host Marriott and its subsidiaries and affiliates consummated a
series of transactions intended to enable it to qualify as a REIT for federal
income tax purposes. As a result of these transactions the hotel ownership
business formerly conducted by Host Marriott and its subsidiaries and other
affiliates is conducted as an umbrella partnership REIT, or UPREIT, through us
and our subsidiaries. Host REIT is our sole general partner. Host REIT intends
to elect to be treated as a REIT for federal income tax purposes effective
January 1, 1999.
Certain of the transactions comprising the REIT conversion are described
below.
Reorganization of lodging assets under us. During 1998, Host Marriott
reorganized its hotel ownership assets and certain other assets so that they
were owned by us and our subsidiaries. In exchange for the hotel ownership
business, Host Marriott received a number of units of our limited partnership
interests (which we refer to as "OP Units") equal to the number of then-
outstanding shares of Host Marriott common stock, and we and our subsidiaries
assumed substantially all of the liabilities of Host Marriott and its
subsidiaries.
As a result of this reorganization, the merger of Host Marriott with and
into HMC Merger Corporation (a newly formed Maryland corporation wholly owned
by Host Marriott) and related transactions as described below, Host REIT is
the sole general partner and holds approximately 78% of our outstanding OP
Units. The remaining interests in us are owned by outside third parties as a
result of the acquisitions described below. We and our subsidiaries conduct
the hotel ownership business.
Host Marriott did not transfer to us (and we therefore do not own) certain
other assets formerly held by Host Marriott and its subsidiaries (principally
consisting of 31 retirement communities and controlling interests
12
in the entities that lease our hotels). Most of these assets are owned by
Crestline, formerly a wholly owned subsidiary of Host Marriott. Crestline
became a separate publicly traded company on December 29, 1998 as part of the
shareholder distribution discussed below.
Our acquisitions. Prior to the REIT conversion, Host Marriott and several of
its separate direct and indirect wholly owned subsidiaries were the sole
general partners of eight publicly traded limited partnerships and four
private partnerships in which Host Marriott or a subsidiary owned or held a
controlling interest in 28 full-service hotels operating under the Marriott
brand. The following table lists each of these partnerships and the hotel
properties owned by it or in which it holds a controlling interest.
Partnership Hotel Properties Rooms
----------- -------------------------------------- ------
Public
Atlanta Marriott Marquis II
Limited Partnership (1) Atlanta Marriott Marquis 1,671
Desert Springs Marriott
Limited Partnership (1) Desert Springs Resort and Spa 884
Hanover Marriott Limited
Partnership (1) Hanover, New Jersey 353
Marriott Diversified American
Hotels, L.P. Dayton, Ohio 399
Fairview Park, Virginia 395
Livonia, Michigan 224
Fullerton, California 224
Research Triangle Park, North Carolina 224
Southfield, Michigan 226
Marriott Hotel Properties
Limited Partnership (1) Orlando World Center 1,503
Harbor Beach Resort, Florida 624
Marriott Hotel Properties II
Limited Partnership (1) San Antonio Rivercenter 999
New Orleans 1,292
San Ramon, California 368
Santa Clara, California 754
Mutual Benefit Chicago
Marriott Suite Hotel
Partners, L.P. Chicago O'Hare Suites 256
Potomac Hotel Limited
Partnership Albuquerque, New Mexico 411
Greensboro/High Point, North Carolina 299
Houston Medical Center 386
Mountain Shadows Resort, Arizona 337
Miami Biscayne Bay 605
Raleigh Crabtree, North Carolina (2) 375
Seattle Sea-Tac Airport 459
Tampa Westshore (2) 309
Private
HMC BN Limited Partnership
(3) Ritz-Carlton, Buckhead, Georgia 553
Ritz-Carlton, Naples, Florida 463
Ivy Street Hotel Limited
Partnership (3) Atlanta Marriott Marquis 1,671
Times Square Marquis Hotel
Limited Partnership (3) New York Marriott Marquis 1,919
HMC/RGI Hartford Limited
Partnership (3) Hartford/Farmington 380
- --------
(1) Host Marriott owned or had a controlling interest in these partnerships
prior to the REIT conversion. These properties were previously
consolidated by Host Marriott.
(2) Host Marriott consolidated these properties through its investments,
including the ownership of mortgage notes prior to the REIT conversion.
(3) We acquired substantially all of the unaffiliated partnership interests
prior to the REIT conversion. These properties were previously
consolidated by Host Marriott.
In addition to the partnerships listed above, we own controlling interests
in certain private partnerships which Host Marriott had previously
consolidated. Certain of the minority partners in these partnerships retain
the right to exchange their interests in these partnerships for OP Units
subject to certain conditions. We estimate that as many as approximately 7
million OP Units could be issued at various points in time in the event that
all such minority partners were to elect to exchange their partnership
interests.
13
As part of the REIT conversion, we, directly and through our subsidiaries,
acquired all of the publicly-traded partnerships and the four private
partnerships identified on the table above in exchange for approximately
25 million OP Units. Approximately 8.5 million of these OP Units have been
converted into shares of Host REIT's common stock. Additionally, certain
limited partners of the publicly-traded partnerships elected to exchange OP
Units for approximately $3 million aggregate principal amount unsecured notes
due December 15, 2005 issued by us.
We also acquired, on December 30, 1998, from the Blackstone Group, a
Delaware limited partnership, and a series of funds controlled by affiliates
of Blackstone Real Estate Partners (together, the "Blackstone Entities"),
ownership of or a controlling interest in 12 upscale and luxury full-service
hotels in the U.S. and a mortgage loan secured by a thirteenth hotel and
certain other assets. As part of the Blackstone acquisition, we also acquired
a 25% interest in the U.S. Swissotel management company which was sold in turn
to Crestline at book value. In exchange for these assets, we issued to the
Blackstone Entities approximately 43.9 million OP Units, which OP Units are
redeemable for cash (or at Host REIT's option, Host REIT common stock),
assumed debt and made cash payments totaling approximately $920 million and
distributed approximately 1.4 million shares of Crestline common stock and
other consideration to the Blackstone Entities. The actual number of OP Units
to be issued to the Blackstone Entities will fluctuate based upon certain
adjustments to be determined at the close of business on March 30, 1999. Based
on current stock prices, we will be required to issue to the Blackstone
Entities on March 31, 1999 approximately 3.7 million additional OP Units
pursuant to such adjustments. As a result of the consummation of the
Blackstone Acquisition, after all the adjustments, the Blackstone Entities
will own approximately 16.4% of our outstanding OP Units. The Blackstone hotel
portfolio consists of two Ritz-Carlton, two Four Seasons, one Grand Hyatt,
three Hyatt Regency and four Swissotel properties. John G. Schreiber, co-
chairman of Blackstone Real Estate Partners' investment committee, is a member
of Host REIT's Board of Directors.
Contribution of assets to non-controlled subsidiaries. In connection with
the REIT conversion, two taxable corporations were formed in which we own
approximately 95% of the economic interest but none of the voting interest--
Rockledge Hotel Properties, Inc. and Fernwood Hotel Assets, Inc. (we refer to
these two subsidiaries as the non-controlled subsidiaries). The non-controlled
subsidiaries hold various assets which were originally contributed by Host
Marriott and its subsidiaries to us, the direct ownership of which by us or
our subsidiaries would jeopardize Host REIT's status as a REIT and our status
as a partnership for federal income tax purposes. These assets primarily
consist of interests in certain partnerships or other interests in hotels
which are not leased, and certain furniture, fixtures and equipment (also
known as FF&E) used in the hotels and certain international hotels. We have no
control over the operation or management of the hotels or other assets owned
by the non-controlled subsidiaries. The Host Marriott Statutory
Employee/Charitable Trust, the beneficiaries of which are a trust formed for
the benefit of certain of our employees and the J. Willard and Alice S.
Marriott Foundation, acquired all of the voting common stock of each non-
controlled subsidiary, representing, in each case, the remaining approximately
5% of the total economic interests in each non-controlled subsidiary.
Leases of hotels. Under current federal income tax law, a REIT cannot derive
income from the operation of hotels but can derive rental income by leasing
hotels. Therefore, as part of the REIT conversion we and our subsidiaries have
leased virtually all of our hotel properties to certain subsidiaries of
Crestline. Generally, there is a separate lessee for each hotel property or
there is a separate lessee for each group of hotel properties that has
separate mortgage financing or has owners in addition to us and our wholly
owned subsidiaries. Each lessee is generally a limited liability company whose
purpose is limited to acting as lessee under an applicable lease. The lessees
under leases of hotels that are managed by subsidiaries of Marriott
International are owned 100% by a wholly owned subsidiary of Crestline,
although Marriott International or its appropriate subsidiary has a non-
economic voting interest on certain matters. The LLC operating agreement or
the limited partnership agreement, as applicable, for such lessees provides
that the Crestline subsidiary or general partner of the lessee will have full
control over the management of the business of the lessee, except with respect
to certain decisions for which the consent of members or partners and the
manager will be required.
14
The hotel management agreements to which Host Marriott or its subsidiaries
were parties were assigned to the lessees for the term of the applicable
leases. Although the lessees have primary liability under the management
agreements while the leases are in effect, we retain contingent liability
under the management agreements for all obligations that the lessees do not
perform. We also remain primarily liable for certain obligations under the
management agreements.
From time to time, legislation has been proposed that would have the effect
of enabling a REIT to lease hotels to a wholly owned subsidiary corporation
that could operate hotels directly, provided that the subsidiary contracts out
the management functions to independent third parties. In the event that
legislation is enacted that would have the effect of enabling us to lease our
hotels to a wholly owned subsidiary, then we, at our discretion, may elect to
terminate the leases of our hotels with Crestline subsidiaries and pay certain
termination fees.
The shareholder distributions. As part of the REIT conversion, Host Marriott
made certain taxable distributions to its shareholders in which they received,
for each share of common stock, (1) one-tenth of one share of common stock of
Crestline and, (2) either $1 cash or 0.087 share of Host Marriott common stock
at the election of the shareholder. The aggregate value of the Crestline
common stock, the common stock and cash distributed to shareholders of Host
Marriott was approximately $510 million.
Operations as a REIT
Host REIT is our sole general partner and manages all aspects of our
business. This includes decisions with respect to, sales and purchases of
hotels, the financing of the hotels, the leasing of the hotels, and capital
expenditures for the hotels (subject to the terms of the leases and the
management agreements described below).
Under current federal income tax law, REITs are restricted in their ability
to derive revenues directly from the operations of hotels. Therefore, we lease
virtually all of our hotels to certain entities we refer to as the "lessees."
The lessees pay rent to us and our subsidiaries generally equal to a specified
minimum rent plus rent based on specified percentages of different categories
of aggregate sales at the relevant hotels to the extent such "percentage rent"
would exceed the minimum rent. The lessees operate the hotels pursuant to
management agreements with the managers. Each of the management agreements
provides for certain base and incentive management fees, plus reimbursement of
certain costs, as further described below. Such fee and cost reimbursements
are the primary obligation of the lessees and not us (although we remain
liable under the management agreements and the obligation of the lessees to
pay such fees could adversely affect the ability of the lessees to pay the
required rent to us). A summary of the material terms of these leases and
management agreements is provided below.
The leases, through the sales percentage rent provisions, are designed to
allow us to participate in any growth above specified levels in room sales at
the hotels, which management expects can be achieved through increases in room
rates and occupancy levels. Although the economic trends affecting the hotel
industry will be the major factor in generating growth in lease revenues, the
abilities of the lessees and the managers will also have a material impact on
future sales growth.
In addition to external growth generated by new acquisitions, we intend to
carefully and periodically review our portfolio to identify opportunities to
selectively enhance existing assets to improve operating performance through
major capital improvements. Our leases provide us with the right to approve
and finance major capital improvements.
Business Strategy
Our primary objective is to acquire upscale and luxury full service hotel
lodging properties and achieve long-term sustainable growth in "Funds from
Operations" (i.e., net income computed in accordance with generally accepted
accounting principles, excluding gains or losses from debt restructuring and
sales of properties, plus real estate related depreciation and amortization,
and after adjustments for less than 100% owned partnerships and joint
ventures) per OP Unit and cash flow. Since the beginning of 1994 through the
date hereof, we have grown our hotel portfolio, directly or through our
respective subsidiaries, by 105 full-service hotels representing more than
48,000 rooms for an aggregate purchase price of approximately $6.2 billion.
Based upon data provided by Smith Travel Research, we believe that our full-
service hotels outperform the industry's average occupancy rate by a
significant margin. Our full-service hotels averaged 78.8% occupancy for 1998,
for comparable properties, compared to a 71.1% average occupancy for our
competitive set. Our competitive set
15
refers to hotels in the upscale and luxury full-service segment of the lodging
industry, the segment which is most representative of our full-service hotels,
and consists of Marriott Hotels, Resorts and Suites; Crowne Plaza; Doubletree;
Hyatt; Hilton; Radisson; Red Lion; Sheraton; Westin; and Wyndham.
One commonly used indicator of market performance for hotels is REVPAR,
which measures daily room revenues generated on a per room basis. This does
not include food and beverage or other ancillary revenues generated by the
property. REVPAR represents the product of the average daily room rate charged
and the average daily occupancy achieved. The relatively high occupancy rates
of our hotels, along with increased demand for full-service hotel rooms, have
allowed the managers of our hotels to increase average daily room rates by
selectively raising room rates and by replacing certain discounted group
business with higher-rate group and transient business. As a result, on a
comparable basis, REVPAR for our full-service properties increased
approximately 7.3% and 12.6% in 1998 and 1997, respectively.
Although competition for acquisitions has increased, we believe that the
upscale and luxury full-service segments of the market offer opportunities to
acquire assets at attractive multiples of cash flow and at discounts to
replacement value. We intend to increase our pool of potential acquisition
candidates by considering acquisitions of select non-Marriott and non-Ritz-
Carlton hotels that offer long-term growth potential and are consistent with
the overall quality of our current portfolio. We will focus on upscale and
luxury full-service properties in difficult to duplicate locations with high
barriers to entry, such as hotels located in downtown, airport and
resort/convention locations, which are operated by quality managers. We
believe this ability to acquire hotel properties operated by a variety of
quality managers under long-term contracts represents a strategic advantage
over a number of competitors. For example, in December 1998, we consummated
the Blackstone Acquisition for approximately $1.55 billion in a combination of
OP Units, cash, assumed debt and other consideration.
In certain circumstances, we have improved the results of under-performing
hotels by converting them to the Marriott brand. In general, based upon data
provided by Smith Travel Research, we believe that the Marriott brand has
consistently outperformed the industry. Demonstrating the strength of the
Marriott brand name, our comparable properties generated a 26% REVPAR premium
over our competitive set for 1998. Accordingly, management anticipates that
any additional full-service properties acquired in the future and converted
from other brands to the Marriott brand should achieve higher occupancy rates
and average room rates than has previously been the case for those properties
as the properties begin to benefit from Marriott's brand name recognition,
reservation system and group sales organization. Of our 105 full-service
hotels acquired from the beginning of 1994 through the date hereof, sixteen
were converted to the Marriott brand following their acquisition although such
opportunities have been more limited recently.
We also plan to selectively develop new upscale and luxury full-service
hotels in major urban markets and convention/resort locations with strong
growth prospects, unique or difficult to duplicate sites, high barriers to
entry for other new hotels and limited new supply. We intend to target only
development projects that show promise of providing financial returns that
represent a premium to acquisitions. In 1997, Host Marriott announced that it
would develop the 717-room Tampa Convention Center Marriott for $104 million,
including a $16 million subsidy provided by the City of Tampa.
We believe we are well qualified to pursue our acquisition and development
strategy. Management has extensive experience in acquiring and financing
lodging properties and believes its industry knowledge, relationships and
access to market information provide a competitive advantage with respect to
identifying, evaluating and acquiring hotel assets.
Recent Acquisitions, Dispositions and Developments
In January 1998, one of Host Marriott's subsidiaries acquired an additional
interest in Atlanta Marquis, which owns an interest in the 1,671-room Atlanta
Marriott Marquis Hotel, for approximately $239 million, including the
assumption of approximately $164 million of mortgage debt. It previously owned
a 1.3% general and limited partnership interest. As noted above, the remaining
limited partner interests in Atlanta Marquis were acquired as part of the REIT
conversion.
16
In March 1998, one of Host Marriott's subsidiaries acquired a controlling
interest in the partnership that owns three hotels: the 359-room Albany
Marriott, the 350-room San Diego Marriott Mission Valley and the 320- room
Minneapolis Marriott Southwest for approximately $50 million. In the second
quarter of 1998, one of Host Marriott's subsidiaries acquired the partnership
that owns the 289-room Park Ridge Marriott in Park Ridge, New Jersey for $24
million. It previously owned a 1% managing general partner interest and a note
receivable interest in such partnership. In addition, Host Marriott's
subsidiary acquired the 281-room Ritz-Carlton, Phoenix for $75 million, the
397-room Ritz-Carlton, Tysons Corner in Virginia for $96 million and the 487-
room Torrance Marriott near Los Angeles, California for $52 million. In the
third quarter of 1998, Host Marriott acquired the 308-room Ritz-Carlton,
Dearborn for approximately $65 million; a subsidiary of Host Marriott also
acquired the 336-room Ritz-Carlton, San Francisco for approximately $161
million, and Host Marriott acquired the 404-room Memphis Crowne Plaza (which
was converted to the Marriott brand upon acquisition) for approximately $16
million. These assets are currently held by us and our subsidiaries.
As noted above, in December 1998, we completed acquisitions of eight public
partnerships and interests in four private partnerships which own or control
28 properties and we consummated the Blackstone acquisition. The Blackstone
hotel portfolio is one of the premier collections of hotel real estate
properties which includes: the 449-room Ritz-Carlton, Amelia Island; the 275-
room Ritz-Carlton, Boston; the 793-room Hyatt Regency Burlingame at San
Francisco Airport; the 469-room Hyatt Regency Cambridge, Boston; the 514-room
Hyatt Regency Reston, Virginia; the 439-room Grand Hyatt Atlanta; the 365-room
Four Seasons Philadelphia; the 246-room Four Seasons Atlanta; the 494-room
Drake (Swissotel) New York; the 630-room Swissotel Chicago; the 498-room
Swissotel Boston and the 348-room Swissotel Atlanta. Additionally, the
transaction included: a $65.6 million first mortgage loan on the 285-room Four
Seasons Beverly Hills; two office buildings in Atlanta--the offices at The
Grand (97,879 sq. ft.) and the offices at the Swissotel (67,110 sq. ft.); and
a 25% interest in the U.S. Swissotel management company (which was transferred
to Crestline).
During 1997, Host Marriott or its subsidiaries acquired, or purchased
controlling interests in, 17 full-service hotels, containing 8,624 rooms, for
an aggregate purchase price of approximately $765 million (including the
assumption of approximately $418 million of debt). Host Marriott's
subsidiaries also completed the acquisition of the 504-room New York Marriott
Financial Center following the acquisition of the mortgage on the hotel for
$101 million in late 1996.
In 1997, Host Marriott or its subsidiaries acquired, or obtained controlling
interests in, five affiliated partnerships, adding 10 hotels to its portfolio.
In January 1997, a subsidiary of Host Marriott acquired a controlling interest
in MHP. MHP owns the 1,503-room Marriott Orlando World Center and a 50.5%
interest in the 624-room Marriott Harbor Beach Resort. In April, a subsidiary
of Host Marriott acquired a controlling interest in the 353-room Hanover
Marriott. In the fourth quarter, a subsidiary of Host Marriott acquired the
Chesapeake Hotel Limited Partnership. This partnership owns the 430-room
Boston Marriott Newton; the 681-room Chicago Marriott O'Hare; the 595-room
Denver Marriott Southeast; the 588-room Key Bridge Marriott in Virginia; the
479-room Minneapolis Airport Marriott in Minnesota; and the 221-room Saddle
Brook Marriott in New Jersey. In December 1997, a subsidiary of Host Marriott
obtained a controlling interest in the partnership that owns the 884-room
Marriott's Desert Springs Resort and Spa in California and we acquired the
remaining interests in December 1998 as part of the REIT conversion.
In addition to investments in partnerships in which it already held minority
interests, Host Marriott has been successful in adding properties to its
portfolio through partnership arrangements with either the seller of the
property or the incoming managers (typically Marriott International or a
Marriott franchisee). We now have the financial flexibility and, due to our
existing private partnership investment portfolio, the administrative
infrastructure in place to accommodate such arrangements. We view this ability
as a competitive advantage and expect to enter into similar arrangements to
acquire additional properties in the future.
Through subsidiaries, we currently own four Canadian properties, with 1,636
rooms, and will continue to evaluate other attractive acquisition
opportunities in Canada. In addition, the overbuilding and economic stress
17
currently being experienced in some European and Pacific Rim countries may
eventually lead to additional international acquisition opportunities. We will
acquire international properties only when such acquisitions achieve
satisfactory returns after adjustments for currency and country risks and tax
consequences.
We may also expand certain existing hotel properties where strong
performance and market demand exists. Expansions to existing properties create
a lower risk to us as the success of the market is generally known and
development time is significantly shorter than new construction. We recently
began construction on a 500-room expansion and an additional 15,000 square
feet of meeting space to the 1,503-room Marriott Orlando World Center, which
is due to be completed in early 2000. In July 1998, a subsidiary of Host
Marriott purchased a 13-acre parcel of land for the development of a 295-room
Ritz-Carlton that will serve as an extension of the 463-room Ritz-Carlton,
Naples, which was purchased in September 1996. The existing hotel just
completed room, restaurant and public space refurbishment and is in the
process of adding a world-class spa. In addition, a subsidiary of one of the
non-controlled subsidiaries has entered into a joint venture through which it
owns 49% of the surrounding newly developed 27-hole world-class Greg Norman
designed golf course development. The golf course joint venture was
transferred to a non-controlled subsidiary in connection with the REIT
conversion. Our total investment in expansions and improvements of the Ritz-
Carlton, Naples property is expected to be approximately $97 million.
In February 1999, we sold the Minneapolis/Bloomington Marriott for $35
million and recorded a gain on the sale of approximately $13 million. We also
may selectively dispose of other hotel assets where we believe we can earn
higher returns on our invested capital.
Hotel Lodging Industry
The lodging industry posted strong gains in 1998 as higher average daily
rates drove increases in revenue per available room, or REVPAR. Over the last
five years, the lodging industry has benefited from a favorable supply/demand
imbalance, driven in part by low construction levels in our submarkets
combined with high gross domestic product (GDP) growth. Recently, however,
supply has begun to moderately outpace demand, causing slight declines in
occupancy rates in the upscale and luxury full-service segments in which we
operate. According to Smith Travel Research, supply in our competitive set
increased 1.2% for the year ended December 31, 1998 versus the same period one
year ago while demand in our competitive set decreased 0.3% for the same
period. At the same time, occupancy declined 1.5% in our competitive set for
the year ended December 31, 1998 versus the same period one year ago.
These declines in occupancy, however, were more than offset by increases in
average daily rates which generated higher REVPAR. According to Smith Travel
Research, for the year ended December 31, 1998, average daily rate and REVPAR
for our competitive set increased 6.5% and 5.0%, respectively, versus the same
period one year ago. The current amount of excess supply in the lodging
industry is relatively moderate and much less severe than that experienced in
the lodging industry beginning in 1989, in part because of the greater
financial discipline and lending practices imposed by financial institutions
and public markets today relative to those during the late 1980's.
Within the upscale and luxury full-service segment, our hotels have
outperformed the overall sector. The attractive locations of our hotels, the
limited availability of new building sites for new construction of competing
full-service hotels, and the lack of availability of financing for new full-
service hotels has allowed us to maintain REVPAR and average daily rate
premiums over our competitors in these service segments. On a comparable
basis, average daily rates for our full service hotels increased 6.9% during
1998 compared with 1997. The increase in average daily rate helped generate a
strong increase in comparable hotel REVPAR of 7.3% for the same period.
Furthermore, because our lodging operations have a high fixed-cost component,
increases in REVPAR generally yield greater percentage increases in EBITDA.
While we do not benefit directly from increases in EBITDA levels at our
properties due to the structure of our leases, we should benefit from such
increases due to expected higher market valuations of our properties based on
such elevated EBITDA levels.
18
We believe that the current environment of excess supply will most likely
continue over the next twelve to eighteen months, although any excess supply
is expected to be moderate given the fact that demand is expected to grow at
the same 1% to 2% rate as projected GDP and new construction has been limited
by capital constraints. Given the relatively long lead time to develop urban,
convention and resort hotels, we believe that growth in room supply in upscale
and luxury full-service sub-markets in which we operate will remain moderate
through the year 2000. However, there can be no assurance that growth in
supply will remain moderate or that REVPAR and EBITDA will continue to
improve.
Hotel Lodging Properties
Our lodging portfolio currently consists of 125 upscale and luxury full
service hotels with approximately 58,000 rooms. Our hotel lodging properties
represent quality assets in the upscale and luxury full-service lodging
segments. All but thirteen of our hotel properties are currently operated
under the Marriott or Ritz-Carlton brand names.
To maintain the overall quality of our lodging properties, each property
undergoes refurbishments and capital improvements on a regularly scheduled
basis. Typically, refurbishing has been provided at intervals of five years,
based on an annual review of the condition of each property. For the fiscal
years 1998, 1997 and 1996, we spent $165 million, $129 million and $87
million, respectively, on capital improvements to existing properties. As a
result of these expenditures, we will be able to maintain high quality rooms
at our properties.
Our hotels average nearly 465 rooms. Thirteen of our hotels have more than
750 rooms. Hotel facilities typically include meeting and banquet facilities,
a variety of restaurants and lounges, swimming pools, gift shops and parking
facilities. Our hotels primarily serve business and pleasure travelers and
group meetings at locations in downtown and suburban areas, near airports and
at resort convention locations throughout the United States. The properties
are generally well situated in locations where there are significant barriers
to entry by competitors including downtown areas of major metropolitan cities
at airports and resort/convention locations where there are limited or no
development sites. Marriott International serves as the manager for 99 of our
125 hotels and all but 13 are part of Marriott International's full-service
hotel system. The Marriott brand name has consistently delivered occupancy and
REVPAR premiums over other brands. Based upon data provided by Smith Travel
Research, our comparable properties have an eight percentage point occupancy
premium and a 26% REVPAR premium over the competitive set for 1998.
The average age of our properties is sixteen years, although several of the
properties have had substantial, more recent renovations or major additions.
In 1998, a subsidiary of Host Marriott substantially completed a two-year $25
million dollar capital improvement program at the New Orleans Marriott which
included renovations to all guest rooms, refurbishment of ballrooms and
restaurant updates. In early 1998, a subsidiary of Host Marriott completed a
$15 million capital improvement program at the Denver Marriott Tech Center.
The program included replacement of guestroom interiors, remodeling of the
lobby, ballroom, meeting rooms and corridors, as well as renovations to the
exterior of the building.
A number of our full-service hotel acquisitions, such as the Memphis
Marriott which was acquired in 1998, were converted to the Marriott brand upon
acquisition. The conversion of these properties to the Marriott brand is
intended to increase occupancy and room rates as a result of Marriott
International's nationwide marketing and reservation systems, its Marriott
Rewards program, group sales force, as well as customer recognition of the
Marriott brand name. The invested capital with respect to these properties is
primarily used for the improvement of common areas, as well as upgrading soft
and hard goods (i.e., carpets, drapes, paint, furniture and additional
amenities). The conversion process typically causes periods of disruption to
these properties as selected rooms and common areas are temporarily taken out
of service. Historically, the conversion properties have shown improvements as
the benefits of Marriott International's marketing and reservation programs,
group sales force and customer service initiatives take hold. In addition,
these properties have generally been integrated into Marriott International's
systems covering purchasing and distribution, insurance, telecommunications
and payroll processing.
19
The chart below sets forth performance information for our comparable
hotels:
1998 1997
------- -------
Comparable Full-Service Hotels(1)
Number of properties.......................................... 78 78
Number of rooms............................................... 38,589 38,589
Average daily rate............................................ $142.67 $133.45
Occupancy percentage.......................................... 78.8% 78.5%
REVPAR........................................................ $112.39 $104.79
REVPAR % change............................................... 7.3% --
- --------
(1) Consists of the 78 properties owned directly or indirectly by Host
Marriott for the entire 1998 and 1997 fiscal years, respectively. These
properties, for the respective periods, represent the "comparable
properties." Properties held for less than all of the periods discussed
above, respectively, are not considered comparable.
The chart below sets forth certain performance information for our hotels:
1998 1997 1996
------- ------- -------
Number of properties............................... 126(1) 95 79
Number of rooms.................................... 58,445(1) 45,718 37,210
Average daily rate................................. $140.35 $133.74 $119.94
Occupancy percentage............................... 77.7% 78.4% 77.3%
REVPAR............................................. $109.06 $104.84 $ 92.71
- --------
(1) Number of properties and rooms as of December 31, 1998 and includes 25
properties (9,965 rooms) acquired in the public partnerships merger and
the Blackstone acquisition.
The following table presents full service hotel information by geographic
region for 1998:
Number Average Number Average Average
Geographic Region of Hotels of Guest Rooms Occupancy(1) Daily Rate(1) REVPAR(1)
- ----------------- --------- -------------- ------------ ------------- ---------
Atlanta................. 11 486 72.3% $139.25 $100.67
Florida................. 13 513 78.9 141.22 111.45
Mid-Atlantic............ 17 364 76.5 122.56 93.75
Midwest................. 17 369 74.5 114.71 85.41
New York................ 12 631 85.2 183.21 156.18
Northeast............... 11 379 78.9 107.93 85.13
South Central........... 18 497 77.0 123.94 95.46
Western................. 27 491 78.1 150.80 117.76
Average--All regions.... 126 463 78.0 140.38 109.44
- --------
(1) The operating results of the 25 properties acquired through the Blackstone
acquisition and the merger of the public partnerships are not included.
During 1995 and 1996, Host Marriott divested virtually all of its limited-
service hotel properties through the sale and leaseback of 53 Courtyard
properties and 18 Residence Inn properties. During 1998, limited-service
properties represented less than 2% of our EBITDA from hotel properties and we
expect this percentage to continue to decrease as we continue to acquire full
service properties. These 71 properties that we lease continue to be reflected
in our revenues. The Courtyard and Residence Inn properties are subleased to
subsidiaries of Crestline under sublease agreements and are managed by
Marriott International under long-term management agreements. The owners of
the 71 limited-service properties that we lease have not yet consented to the
subleases but have agreed to waive any defaults under the related leases until
April 23, 1999, to provide us with additional time to obtain such consents
(which could require modifications in the terms of the sublease and structural
or other changes related thereto). If such consents are not obtained, we may
be required to terminate the subleases and contribute to a non-controlled
subsidiary our equity interests in the subsidiaries leasing the properties.
This
20
change would have the effect of reducing our revenues by $297 million and $282
million for 1998 and 1997, respectively, and increasing our net income by
approximately $5 million and $4 million for 1998 and 1997, respectively.
The following table sets forth as of March 1, 1999, the location and number
of rooms relating to each of our 125 hotels. All of the properties are leased
to a subsidiary of Crestline and operated under Marriott brands by Marriott
International, unless otherwise indicated.
Location Rooms
- -------- ------
Alabama
Grand Hotel Resort and Golf
Club........................................................... 306
Arizona
Mountain Shadows Resort......................................... 337
Scottsdale Suites............................................... 251
The Ritz-Carlton, Phoenix....................................... 281
California
Coronado Island Resort(1)(2).................................... 300
Costa Mesa Suites............................................... 253
Desert Springs Resort and Spa................................... 884
Fullerton(2).................................................... 224
Hyatt Regency, Burlingame(3).................................... 793
Manhattan Beach(1)(2)(4)........................................ 380
Marina Beach(1)(2).............................................. 368
Newport Beach................................................... 570
Newport Beach Suites............................................ 250
Ontario Airport(4).............................................. 299
Sacramento Airport(2)(3)(7)..................................... 85
San Diego Marriott Hotel and
Marina(2)(6)................................................... 1,355
San Diego Mission Valley(4)(7).................................. 350
San Francisco Airport........................................... 684
San Francisco Fisherman's
Wharf(4)....................................................... 285
San Francisco Moscone Center(2)................................. 1,498
San Ramon(2).................................................... 368
Santa Clara(2).................................................. 754
The Ritz-Carlton, Marina del
Rey(2)......................................................... 306
The Ritz-Carlton, San Francisco................................. 336
Torrance........................................................ 487
Colorado
Denver Southeast(2)............................................. 595
Denver Tech Center(1)........................................... 625
Denver West(2).................................................. 307
Marriott's Mountain Resort at
Vail(1)........................................................ 349
Connecticut
Hartford/Farmington............................................. 380
Hartford/Rocky Hill(2).......................................... 251
Florida
Fort Lauderdale Marina(2)....................................... 580
Harbor Beach Resort(2)(5)(6)(7)................................. 624
Jacksonville(2)(4).............................................. 256
Miami Airport(2)................................................ 782
Miami Biscayne Bay(2)........................................... 605
Orlando World Center............................................ 1,503
Palm Beach Gardens(4)........................................... 279
Singer Island Holiday Inn(3).................................... 222
Tampa Airport(2)................................................ 295
Tampa Westshore(2).............................................. 309
The Ritz-Carlton, Amelia Island................................. 449
The Ritz-Carlton, Naples........................................ 463
Georgia
Atlanta Marriott Marquis(6)..................................... 1,671
Atlanta Midtown Suites(2)....................................... 254
Atlanta Norcross............................................... 222
Atlanta Northwest.............................................. 400
Atlanta Perimeter(2)........................................... 400
Four Seasons, Atlanta(3)....................................... 246
Grand Hyatt, Atlanta(3)........................................ 439
JW Marriott Hotel at Lenox(2).................................. 371
Swissotel, Atlanta(3).......................................... 348
The Ritz-Carlton, Atlanta(2)................................... 447
The Ritz-Carlton, Buckhead..................................... 553
Illinois
Chicago/Deerfield Suites....................................... 248
Chicago/Downers Grove Suites................................... 254
Chicago/Downtown Courtyard..................................... 334
Chicago O'Hare(2).............................................. 681
Chicago O'Hare Suites(2)....................................... 256
Swissotel, Chicago(3).......................................... 630
Indiana
South Bend(2).................................................. 300
Louisiana
New Orleans.................................................... 1,290
Maryland
Bethesda(2).................................................... 407
Gaithersburg/Washingtonian
Center........................................................ 284
Massachusetts
Boston/Newton.................................................. 430
Hyatt Regency, Cambridge(3).................................... 469
Swissotel, Boston(3)........................................... 498
The Ritz-Carlton, Boston....................................... 275
Michigan
The Ritz-Carlton, Dearborn..................................... 308
Detroit Livonia................................................ 224
Detroit Romulus................................................ 245
Detroit Southfield............................................. 226
Minnesota
Minneapolis City Center(2)..................................... 583
Minneapolis Southwest(4)(7).................................... 320
Missouri
Kansas City Airport(2)......................................... 382
New Hampshire
Nashua......................................................... 251
New Jersey
Hanover........................................................ 353
Newark Airport(2).............................................. 590
Park Ridge(2).................................................. 289
Saddle Brook................................................... 221
New Mexico
Albuquerque(2)................................................. 411
New York
Albany(4)(7)................................................... 359
New York Marriott Financial
Center........................................................ 504
New York Marriott Marquis(2)(6)................................ 1,919
Marriott World Trade
Center(1)(2).................................................. 820
Swissotel, The Drake(3)........................................ 494
21
Location Rooms
- -------- -----
North Carolina
Charlotte Executive Park(4)........................................ 298
Greensboro/Highpoint(2)............................................ 299
Raleigh Crabtree Valley............................................ 375
Research Triangle Park............................................. 224
Ohio
Dayton............................................................. 399
Oklahoma
Oklahoma City...................................................... 354
Oklahoma City Waterford(1)(4)...................................... 197
Oregon
Portland........................................................... 503
Pennsylvania
Four Seasons, Philadelphia(3)...................................... 365
Philadelphia Convention
Center(2)......................................................... 1,200
Philadelphia Airport(2)............................................ 419
Pittsburgh City Center(1)(2)(4).................................... 400
Tennessee
Memphis(1)(2)...................................................... 404
Texas
Dallas/Fort Worth Airport.......................................... 492
Dallas Quorum(2)................................................... 547
El Paso(2)......................................................... 296
Houston Airport(2)................................................. 566
Houston Medical Center(2).......................................... 386
JW Marriott Houston................................................ 503
Plaza San Antonio(1)(2)(4)......................................... 252
San Antonio Rivercenter(2)......................................... 999
San Antonio Riverwalk(2)........................................... 500
Utah
Salt Lake City(2).................................................. 510
Virginia
Dulles Airport(2).................................................. 370
Fairview Park(2)................................................... 395
Hyatt Regency, Reston(3)........................................... 514
Key Bridge(2)...................................................... 588
Norfolk Waterside(2)(4)............................................ 404
Pentagon City Residence Inn........................................ 300
The Ritz-Carlton, Tysons
Corner(2)......................................................... 397
Washington Dulles Suites........................................... 254
Westfields(1)...................................................... 335
Williamsburg(1).................................................... 295
Washington
Seattle SeaTac Airport............................................. 459
Washington, DC
Washington Metro Center(1)......................................... 456
Canada
Calgary(1)......................................................... 380
Toronto Airport.................................................... 423
Toronto Eaton Center(2)............................................ 459
Toronto Delta Meadowvale(3)........................................ 374
------
TOTAL............................................................... 57,975
======
- --------
(1) This property was converted to the Marriott brand after acquisition.
(2) The land on which this hotel is built is leased under one or more long-
term lease agreements.
(3) This property is not operated under the Marriott brand and is not managed
by Marriott International.
(4) This property is operated as a Marriott franchised property.
(5) This property is leased to Marriott International.
(6) This property is not wholly owned by us.
(7) This property is not leased to Crestline.
Investments in Affiliated Partnerships
As previously discussed, in connection with the REIT conversion, the non-
controlled subsidiaries were formed to hold various assets. The direct
ownership of those assets by Host REIT or us could jeopardize Host REIT's
status as a REIT or our treatment as a partnership for federal income tax
purposes. Substantially all our general and limited partner interests in
partnerships owning 220 limited-service hotels were transferred to the non-
controlled subsidiaries prior to year end. Additionally, of the 20 full-
service hotels in which Host Marriott had general and limited partner
interests, 13 were acquired by us, two were sold, four were transferred to the
non-controlled subsidiary and one was retained by Host REIT.
Cash distributions provided from these partnerships including distributions
related to partnerships sold, transferred or acquired in 1998 are tied to the
overall performance of the underlying properties and the overall level of
debt. Distributions from these partnerships to Host Marriott were $2 million
in 1998 and $5 million in each of 1997 and 1996. All debt of these
partnerships is nonrecourse to us and our subsidiaries, except that we are
contingently liable under various guarantees of debt obligations of certain of
the limited-service partnerships.
Marketing
As of March 1, 1999, 99 of our 125 hotel properties were managed by Marriott
International as Marriott or Ritz-Carlton brand hotels. Thirteen of the 26
remaining hotels are operated as Marriott brand hotels under franchise
agreements with Marriott International. We believe that these Marriott-managed
and franchised properties will continue to enjoy competitive advantages
arising from their participation in the Marriott International hotel system.
Marriott International's nationwide marketing programs and reservation systems
as
22
well as the advantage of the strong customer preference for Marriott brands
should also help these properties to maintain or increase their premium over
competitors in both occupancy and room rates. Repeat guest business in the
Marriott hotel system is enhanced by the Marriott Rewards program, which
expanded the previous Marriott Honored Guest Awards program. Marriott Rewards
membership includes more than 7.5 million members.
The Marriott reservation system provides Marriott reservation agents
complete descriptions of the rooms available for sale and up-to-date rate
information from the properties. The reservation system also features
connectivity to airline reservation systems, providing travel agents with
access to available rooms inventory for all Marriott and Ritz-Carlton lodging
properties. In addition, software at Marriott's centralized reservations
centers enables agents to immediately identify the nearest Marriott or Ritz-
Carlton brand property with available rooms when a caller's first choice is
fully occupied. Host REIT's website (www.hostmarriott.com) currently permits
users to connect to the Marriott reservation system to reserve rooms in its
hotels.
Competition
Our hotels compete with several other major lodging brands in each segment
in which they operate. Competition in the industry is based primarily on the
level of service, quality of accommodations, convenience of locations and room
rates. Although the competitive position of each of our hotel properties
differs from market to market, we believe that our properties compare
favorably to their competitive set in the markets in which they operate on the
basis of these factors. The following table presents key participants in
segments of the lodging industry in which we compete:
Segment Representative Participants
------- ---------------------------
Luxury Full-Service Ritz-Carlton; Four Seasons
Upscale Full-Service Crown Plaza; Doubletree; Hyatt; Hilton; Marriott Hotels,
Resort and Suites; Radisson; Red Lion; Sheraton;
Swissotel; Westin; Wyndham
Other Real Estate Investments
We have lease and sublease activity relating primarily to Host Marriott's
former restaurant operations. Additionally, as part of the Blackstone
acquisition, we acquired 165,000 square feet of office space in two buildings
in Atlanta. Prior to the REIT conversion, we owned 12 undeveloped parcels of
vacant land, totaling approximately 83 acres, originally purchased primarily
for the development of hotels or senior living communities, which are now
owned by one of the non-controlled subsidiaries.
Employees
Currently, we have approximately 175 management employees, and approximately
16 other employees which are covered by a collective bargaining agreement that
are subject to review and renewal on a regular basis. We believe that we and
our managers have good relations with labor unions and have not experienced
any material business interruptions as a result of labor disputes.
Environmental and Regulatory Matters
Under various federal, state and local environmental laws, ordinances and
regulations, a current or previous owner or operator of real property may be
liable for the costs of removal or remediation of hazardous or toxic
substances on, under or in such property. Such laws may impose liability
whether or not the owner or operator knew of, or was responsible for, the
presence of such hazardous or toxic substances. In addition, certain
environmental laws and common law principles could be used to impose liability
for release of asbestos-containing materials, and third parties may seek
recovery from owners or operators of real properties for personal injury
associated with exposure to released asbestos-containing materials.
Environmental laws also may impose restrictions on the manner in which
property may be used or business may be operated, and these restrictions may
require expenditures. In connection with our current or prior ownership or
operation of hotels, we may be potentially liable for any such costs or
liabilities. Although we are currently not aware of any material environmental
claims pending or threatened against us, no assurance can be given that a
material environmental claim will not be asserted against us.
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The Leases
In order for Host REIT to qualify as a REIT and for us to be treated as a
partnership for federal income tax purposes, neither we nor Host REIT may
operate our hotels or related properties. Accordingly, we lease the hotels to
the lessees, which are primarily wholly owned, indirect subsidiaries of
Crestline.
Lessees. There generally is a separate lessee for each hotel or group of
hotels that is owned by us or one of our separate subsidiaries. Each lessee is
generally a Delaware limited liability company, whose purpose is limited to
acting as lessee under the applicable lease(s).
For those hotels where it is the manager, Marriott International or a
subsidiary has a non-economic membership interest in the lessee entitling it
to certain voting rights but no economic rights. The operating agreements for
such lessees provide that the Crestline member of the lessee has full control
over the management of the business of the lessee, except with respect to
certain decisions for which the consent of the members or partners and the
manager are required. These decisions are:
. dissolving, liquidating, consolidating, merging, selling or leasing all
or substantially all of the assets of the lessee;
. engaging in any other business or acquiring any assets or incurring any
liabilities not reasonably related to the conduct of the lessee's
business;
. instituting voluntary bankruptcy or similar proceedings or consenting to
involuntary bankruptcy or similar proceedings;
. terminating the management agreement relating to the lessee's hotel,
other than by reason of a breach by the manager or upon exercise of
express termination rights in the management agreement;
. challenging the status or rights of the manager or the enforceability of
the manager's consent rights; or
. incurring debt in excess of certain limits.
Upon any termination of the applicable management agreement, these special
voting rights of Marriott International (or its subsidiary) will cease.
Lease terms. Each lease has a fixed term ranging generally from seven to ten
years, depending upon the lease, subject to earlier termination upon the
occurrence of certain contingencies described in the lease, including,
particularly, the provisions described below under "--Damage or destruction,"
"--Termination of the leases upon disposition of full-service hotels" and "--
Termination of the leases upon changes in tax laws."
Minimum rent; percentage rent; additional charges. Each lease requires the
lessee to pay (1) minimum rent in a fixed dollar amount per annum plus (2) to
the extent it exceeds minimum rent, percentage rent based upon specified
percentages of aggregate sales from the applicable hotel, including room
sales, food and beverage sales and other income ("Gross Revenues"), in excess
of specified thresholds.
Minimum rent is a fixed dollar amount specified in each lease less the FF&E
adjustment (which is described under "--Personal property limitation" below).
Any amounts other than minimum rent and percentage rent due to the lessor
under the leases are referred to as "additional charges."
The amount of minimum rent and the percentage rent thresholds are to be
adjusted each year. The annual adjustment with respect to minimum rent equals
a percentage of any increase in the Consumer Price Index, or CPI, during the
previous twelve months. The annual adjustment with respect to percentage rent
thresholds is a specified percentage equal to the weighted average of a
percentage of any increase in CPI plus a specified percentage of any increase
in a regional labor cost index agreed upon by the lessor and the lessee during
the previous twelve months. Neither minimum rent nor percentage rent
thresholds will be decreased because of the annual adjustment.
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Rental payments will