Ashford Hospitality Trust Inc (AHT) 2006 Q3 法說會逐字稿

Good day and welcome to the Ashford Hospitality Trust conference call. Today's call is being recorded. At this time for opening remarks and introductions, I would like turn the call over to Mr. Tripp Sullivan. Please go ahead, sir.

Good morning and welcome to this Ashford Hospitality Trust conference call to review the Company's results for the third quarter of 2006. On the call today will be Monty Bennett, President and Chief Executive Officer; Doug Kessler, Chief Operating Officer and Head of Acquisitions; and David Kimichik, Chief Financial Officer and Head of Asset Management.

The results, as well as notice of the accessibility of this conference call on a listen-only basis over the Internet were released yesterday evening in a press release that has been covered by the financial media. As we start, let me remind you that certain statements and assumptions in this conference call contain or are based upon forward-looking information and are being made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements are subject to numerous assumptions, uncertainties and known or unknown risk which could cause actual results to differ materially from those anticipated. These risk factors are more fully discussed in the section entitled Risk Factors in Ashford registration statement on From S-3 and other filings with the Securities and Exchange Commission. The forward-looking statements included in this conference call are only made as of the date of this call and the Company is not obligated to publicly update or revise them.

In addition, certain terms used in this call are non-GAAP financial measures, reconciliations of which are provided in the Company's earnings release and accompanying tables or schedules which has been filed on Form 8-K with the SEC on November 1, 2006, and may also be accessed through the Company's web site at www.AHTREIT.com. Each listener is encouraged to review those reconciliations provided in the earnings release, together with all other information provided in the release.

I will now turn the call over to Monty Bennett. Please go ahead, Monty.

Good morning and welcome. The last quarter, we celebrated our third anniversary as a public company. The most rewarding aspect is not that we have grown from a company with just over $200 million in assets to one with almost $2 billion, but along the way we've done what we said we would do. We would like to thank our shareholders for their support, the research community that follows our stock, and our valued relationships with investment bankers, hotel brands, management companies and brokers who have helped to fuel our performance.

Today, we're even more excited about the many growth opportunities ahead of us as an established entity among our lodging peers. We had a very active and successful third quarter. We completed a $107 million acquisition, signed definitive agreements for on additional $392 million in acquisitions, completed an equity raise that generated $162 million in net proceeds and increased our borrowing capacity while reducing our cost of capital.

Our portfolio performance was also strong with continued improvements in RevPAR exceeding industry averages and additional gains in hotel operating profit margins.

Most of the statistics I will be referring to this morning are included in our earnings release and the tables attached to it, including a detailed breakdown of our RevPAR and hotel operating profit by brand, region and whether or not the asset is under renovation.

I would like to take a few minutes to highlight the performance for our portfolio. Our portfolio metrics continued to show solid growth in every category. AFFO was up 47%, CAD increased 35% resulting in a year-to-date dividend coverage ratio of 127%. Pro forma RevPAR for hotels not under renovation was up 9.5%. The 9.5% increase in pro forma RevPAR for hotels not under renovation was driven by a 6.4% increase in ADR and a 293-basis-point increase in occupancy. For all hotels, the pro forma RevPAR increase of 8.1% was driven by a 6.3% increase in ADR and a 172-basis-point increase in occupancy.

Our RevPAR yield index for the quarter increased from 114.0% to 117.2% for the hotels not under renovation and from 113.8% to 115.9% for all core hotels. Our capital expenditure program and enhanced services at many of our hotels continue to position our assets for strong RevPAR growth, while still improving our already-high operating margins.

Hotel operating profit, or hotel-level EBITDA, continued its strong pace with an 11.6% increase for hotels not under renovation and a 9.2% increase for all hotels. Our hotel operating profit margin improved 124 basis points for the hotels not under renovation and 90 basis points for all hotels. As we discussed in our last call, with the completion of the third quarter, the year-over-year comparisons for the CNL portfolio are more reflective of actual margin gains we continued to produce.

Energy prices were more in line during the quarter, but we're still experiencing higher labor and property taxes from a year ago. With many of the insurance contracts rolling over in the second half of the year, we expect the lack of hurricanes during the season to limit the pace of insurance increases from year-ago. All of these trends point to a margin improvement during the fourth quarter as well.

During the third quarter, we had six hotels under renovation. All of these had already been completed. We expect to commence renovation work on an additional eight hotels in the fourth quarter, bringing our total capital spending this year to 40 to $50 million. With $120 million more CapEx to be spent over 2007 and 2008, we will continue to maintain the high quality of our assets and drive more top-line growth.

Our earnings release provides a detailed breakdown of our portfolio by brand and region. As of September 30, our portfolio breakdown by segment was 3% luxury, 43% upscale, 43% upper-upscale and 11% mid-scale without food and beverage. We remain concentrated in sub-markets that are positioned for growth and continue to recycle assets that show relatively less upside. This positioning is attributed to the intentional diversity we have built into our portfolio as well as the significant investments we have made in enhancing the hotels.

Our capital structure is perhaps as strong as it has ever been. Our net [density] is low, we increased the size of our primary revolving credit facility and we lowered our overall cost of a facility. We believe our balance sheet is one of the most pristine in the hotel sector with current capacity for a substantial amount of acquisitions, if desired.

Our outlook for the lodging sector remains favorable and we expect our portfolio management strategy, as well as our internal growth strategies, to yield excellent results for our shareholders. While industry RevPAR may see some deceleration from the peak growth levels, it will remain well above industry norms. Supply levels are increasing but are still well below industry averages of 2.5%. We believe the new [supply] pipeline is slightly overstated due to the increasing attrition rates as a result of high construction costs.

As a result of the ongoing favorable imbalance between demand and supply, there could easily be three to five years of significant value increases in lodging assets.

To speak in greater detail about our results, I would now like to turn the call over to David Kimichik to take you through the numbers.

Good morning. For the third quarter, we reported net income of $5,931,000, EBITDA of $33,147,000 and AFFO of $22,339,000, or $0.25 per share. You will note that we have included a new table in our release that provides a quarterly breakdown of hotel EBITDA and hotel EBITDA margin for current- and prior-year periods. In this table, you will see a distinct seasonality trend with the second quarter having by far the highest margin over the other periods.

Published estimates of EBITDA margin for the quarter were an average of 340 basis points over last year, compared to actual results of 90 basis points of improvement. That difference alone was worth a $0.03 swing in AFFO per share. Our policy is to provide as much disclosure and detail as possible on existing metrics in lieu of specific future guidance.

The following statistics are as of the quarter ending September 30. Ashford had total assets of $1.7 billion, including $127 million of cash. We had $754 million of mortgage debt, leaving net debt to total enterprise value at 35%, and our blended annual interest cost was approximately 5.6% with 100% of our mortgage debt fixed.

For the quarter, pro forma RevPAR for all hotels was up 8.1% as compared to the third quarter '05, and for the hotels not under renovation, which is all but six hotels, the RevPAR was up 9.5%, driven by a 6.4% increase in ADR and a 293-basis-point increase in occupancy.

Pro forma hotel operating profit for the entire portfolio was up by $2.9 million, or 9.2% for the quarter. For the 67 hotels not under renovation, hotel operating profit increased by 11.6%. Our hotel operating profit margin improved by 124 basis points for the hotels not under renovation and 90 basis points for all hotels.

With the equity offering early in the quarter, we had 72.3 million common shares outstanding, 7.4 million Series B convertible preferred shares outstanding and 14.1 million OP units issued for a total share count of 93.9 million.

Our portfolio consisted of 73 owned hotels containing 12,963 rooms. The major acquisition activity for the quarter occurred when we acquired the 697-room Marriott Crystal Gateway in Arlington, Virginia. At quarter end, we owned a position in 10 mezzanine loans with total principal outstanding of $98 million, with an average annual unleveraged yield of 13.5%.

During the quarter, we were repaid on the $15 million Boston Logan Embassy Suites loan. We have agreements for management with six different companies. The most significant managers are Remington Lodging and Hospitality, which manages 30 of our properties; and Marriott International, which manages 24 of our hotels.

Finally, for the second quarter, we reported CAD of $19,305,000, or $0.22 per share, and announced and paid a dividend of $0.20 per share. Our dividend coverage ratio is 127% of CAD year-to-date through the third quarter.

I would now like to turn it over to Douglas Kessler to discuss our ongoing investment plan.

Thanks, David. We continued to see numerous benefits of our investment strategy, which is based upon finding the best risk-adjusted total returns. First, our strategy gives us access to a larger pipeline and better opportunities to find investments meeting our 13 to 15% targeted threshold returns. Second, the many ways we can approach a given transaction from a capital investment standpoint increase our odds of winning a bid. Finally, our ongoing capital recycling and multiple opportunities to redeploy capital enhance shareholder return.

Over the past few months, we have seen clear examples of these strategic advantages. In July, we raised $162 million and have already announced $392 million of investments. As we have done before, we put the capital to work quickly as promised in transactions consistent with our overall strategy of capital appreciation and dividend growth.

The Westin O'Hare transaction is a good example of our strategy. We recently announced this $125 million acquisition of a AAA Four-Diamond hotel for $238,000 per key, or about two-thirds of replacement value at a 7.8% trailing 12 EBITDA yield. We believe the benefits of this investment are many, including the best hotel asset in the O'Hare marketplace, highest ratio of meeting space per guestroom in the rapidly improving Chicago market area. We also believe there is further upside from the $6 million of capital improvements we plan to spend on the asset over the next 24 months, the $15 billion O'Hare Airport expansion and the potential to increase the room count, as well as sell or lease PAD sites, given the 11.5 acres the property encompasses.

An interesting aspect of this transaction is that the lead for this acquisition actually came through our lending program. We were prepared to make a mezzanine loan. After negotiating with the borrower, discussions evolved into an outright sale about two weeks prior to when we expected to close on the loan. As a result, we were the only buyer in position to purchase this hotel.

The financing we plan to put in place on the hotel is very attractive as well. At $101 million, the 10-year loan is based on 80% loan to cost and priced on 10-year swap spreads, plus 50 basis points, for a fixed rate of 5.81%. We have already locked in this rate. In concert with our ongoing capital recycling efforts, we are taking title to this hotel as part of a reverse 1031 exchange which will ultimately defer capital gains for hotels we may sell in the near term.

The largest transaction announced during the quarter was the seven-hotel portfolio of well-branded geographically diverse assets. These hotels provide us the opportunity to add value through capital expenditure, increasing margins and RevPAR yield penetration. The hotels are in need of capital improvements in order to better drive revenue growth and we have outlined a capital reinvestment plan totaling $35 to $40 million over the next 12 months that should help us achieve that goal.

On the surface, the initial returns on this portfolio obscure the true value we expect to add through renovations and the changeover in management that will generate better operating margins from cost controls. We expect to sell two hotels in [Trumbull] and Iowa City with the remaining portfolio consisting of the Embassy Suites in Philadelphia and Walnut Creek, along with the Hilton Minneapolis and the Sheratons in Anchorage and in Mission Valley, San Diego.

The financing of this portfolio is likewise very attractive. We have negotiated 80% financing for a term of three years and a rate of LIBOR plus 172 basis points. The loan also includes the $35 to $40 million in CapEx we have budgeted to spend. We decided to access the floating-rate market for this portfolio in anticipation of significant cash flow improvements which should enable us to refinance upon asset stabilization with a fixed rate loan.

We have a substantial pipeline. In 2006, we have evaluated more than $11.9 billion of investment opportunities on both our debt and equity platforms. We have been disciplined in underwriting just under $4 billion of these opportunities. Most importantly, we've been very selective in being the winning bidder on approximately $650 million of investments. A measure of our success is the all-in price per key for our acquisitions after closing costs and capital improvements of $113,000, which is substantially below replacement cost for upper-upscale and upscale hotels.

From the debt side, our current unleveraged yield in excess of 13% demonstrates our skill at finding the right risk/reward opportunities.

Although deal flow is not an issue in today's market, we have remained disciplined in our investing with a watchful eye on current yields and future RevPAR trends. We continue to be successful in off-market transactions despite this highly competitive marketplace and are encouraged to see that cap rates seem to be stabilizing. We continue to be very cautious in the mezzanine market and currently do not see a risk/reward balance for many debt deals in terms of pricing or deal structure. As a result, our mezzanine platform only represents about 4% to 5% of our EBITDA.

Complementing the pace of our acquisitions, we expect to continue with capital recycling efforts, such as our plans for the MIP portfolio to immediately sell two assets. In addition, we have several other assets in our portfolio that we currently monitor for sales opportunities and we will hopefully announce some additional asset sales in the next six months.

I will now turn the call over to Monty for some concluding remarks.

Thank you, Douglas. We continue to remain bullish about industry and anticipate hotel values to increase for the next three to five years. We plan to continually seek out growth and income hotel opportunities as we shed lower-performing assets. We will continue our policy of a high level of transparency regarding the performance metrics of our hotel assets as we purchase them in lieu of providing ongoing earnings or RevPAR guidance. However, we hope to provide dividend guidance for 2007 towards the end of this year.

That concludes our prepared remarks, and now we will be open to any questions that you may have.

(OPERATOR INSTRUCTIONS). Jeff Randall, AG Edwards.

Just looking at the balance sheet, this unfavorable contract liability of about $15.5 million -- can you just comment on that? I got on the call late, so if you addressed that, I apologize.

No problem; we hadn't addressed it yet. Kimo will take that up here.

That relates to the Marriott Gateway in Crystal City, and it relates specifically to the Marriott management contract that we inherited. That contract provides Marriott with a 50% incentive fee payment after an owner's priority, and we don't believe that that's market, so this is sort of a mark-to-market on the hotel management contract. That $15 million number represents the present value difference of the -- that 50% incentive fee versus what we consider market of 20% over the life of the contract, and that will amortize over the balance of the initial term of the contract.

And what is the initial term of the contract?

Through 2017, I believe.

And I believe they have extensions beyond that.

That's correct.

And at that time, if they elect those extensions, then we'll have to revisit the issue and we might have to do it all over again.

Will that amortization -- that won't be an add-back in getting to AFFO, correct?

Correct.

Is it that different from going ahead and just flushing it regularly through the income statement, versus creating this deferred liability you're going to amortize?

Well, I think this is the proper treatment pursuant to GAAP.

You mean -- is it much different, as far as the resulting effects on AFFO?

Exactly.

Not necessarily. I think it's nominal. I think the amortization will be slightly less than $1 million a year. So roughly, $0.01 effect.

But it's offset by the lower incentive fees we're booking because of it. So it should be pretty close. Off-hand here, Jeff, I don't know if the accounting is a perfect match on it.

No, that's fine, it just jumped out. I wanted to get some clarity. Second question and then I will yield the floor. It looked like you guys have slowed up a bit on the renovation activity compared to what you were looking to renovate at the end of the second quarter. Can you just comment on that if you would?

Sure.

I think big picture, where we currently stand is that, at the beginning of this year to where we are now, we have embarked on about $160 million worth of renovation projects. That includes the assets that we have announced that we're going to acquire here in the fourth quarter as well, and we believe -- we've currently spent through the third quarter about $30 million, we'll have about $50 million completed as of the end of the year. So that will leave roughly $110 million to $120 million to complete over the next 12 to 24 months. I would expect the majority of that to be done by the end of '07, but everything is well-planned out in terms of where we are in shoulder periods with key hotels. We have some big renovations that we're embarking on with the JW Marriott in San Francisco and the Gateway Marriott next year. And so I think we're methodically knocking it out and we'll continue to do these renovations in the shoulder periods.

Jeff, if I understand your question, one aspect of it may have been that, earlier in this year, we indicated that we would have been doing more renovations at this point in the year than we're doing. An answer to that part of the question is that, as we got into the summer and we found that we could push some of these into the slow season more effectively of November, December, January and February, we moved some of these projects. Now I'm talking kind of broad-brush, and Kimo, you might have some more specifics on that. But, we did see that opportunity and thought that was a better use of the timing of it. So that's what we did.

No, that's fine. Thank you very much.

[Jill Slattery], Merrill Lynch.

Just kind of a quick opinion question on the renovations -- it just seems like a lot of hotel companies and REITs that are investing significant amounts of CapEx into renovations as well. Are you concerned at all going forward that all of the renovations will be viewed more as maintenance, as opposed to getting the returns that you expect?

I think it's hard for us to opine on how people will view of some of the other lodging companies' renovations and the effects on them. And to your point or within your point, I think there is the idea of -- what exactly counts as maintenance and what exactly counts as new value add, and we have that debate here internally to try to represent it to ourselves and to the market accurately. I think we just have to do a good job of explaining that and expressing that. There's no question that a substantial amount of the money we're putting in is value add. We will continue to add penetration, yield penetration, to our numbers in the marketplace. You saw this past month, we showed nice gains into our market, as far as the performance of our assets. That is really the bottom-line test as to whether these renovations were just maintenance or whether they were value-add. You guys might have some other commentary on it?

If you look from a macro perspective on our CapEx programs and you identify what is going into areas that the guest sees and touches and feels, over 80% of what we're spending goes into those areas, and so less than 20% is going to where the guest doesn't see it. So we feel it's primarily value add.

Okay, great. Thanks.

(OPERATOR INSTRUCTIONS). Nap Overton, Morgan Keegan.

A couple of questions. One, the seasonality table is a fabulous addition. I certainly applaud it, and just had one question to clarify it. It shows a pretty substantial increase, seasonal increase, from the third quarter to the fourth quarter, and revenues being up sequentially 12% last year for this portfolio third quarter to fourth quarter. Is this table what I understand it to be, in that that of comparable hotels, such that the typical seasonal pattern would be an increase like that in revenues, third to fourth quarter?

Hello, Nap, this is Monty. Glad to have you guys picking up coverage on us, and welcome to the call. I think Kimo has anticipated questions such as this, so I will let him answer it for you.

The answer is -- yes and no. There is a little bit of an unusual part to our fourth quarter which is the result of the way Marriott accounts. Marriott has 13 periods in their accounting system, and so we put that extra period in the fourth quarter. So from the Marriott assets, there is not an apples-to-apples comparisons from third quarter to fourth quarter because of that extra period.

But, the way that you will be reporting numbers, that would be a typical seasonal pattern?

That's correct. We will report the same periods and the same hotels for the fourth quarter of 2006.

And then could you just -- hate to talk or even mention taxes with a real estate investment trust -- but the tax line swung from a $1.2 million expense to almost a $1 million benefit, and what -- can you just tell us what happened there?

Yes. (Inaudible question - background noise) income tax expense times out of the TRS that leases the assets, and some of those leases don't work efficiently when there's renovation activity, et cetera, that's going on. So it gets a little bumpy when hotels are under renovation. We expect to be an income taxpayer as a company and we think we will be next year, but it's a little bit bumpy quarter to quarter, depending on which hotels go under renovation and how much income is affected by that.

Okay, that's all I have. Thank you very much.

(OPERATOR INSTRUCTIONS). Jeff Randall, A.G. Edwards.

Not to beat a dead horse, but Kimo, back on the liability on the unfavorable contract, was that a requirement for GAAP, to go ahead and capitalize that? Because it looks like what you end up doing by taking the present value of that difference and amortizing it is, you have artificially inflated the EBITDA margin on a same-store basis over the next -- whatever the life of that contract is. I guess, was that something that GAAP required, or was that something you guys just decided to handle in that way, and GAAP requires you to amortize it over the life of the contract?

No, it's a requirement of GAAP, and working with Ernst & Young, that's their guidance as to how it would be properly recorded. It's no different than the mark-to-market on -- when you assume debt and the rate is higher than market rates. It's the same treatment.

I guess from my perspective, it seems like you've still got this 50% higher incentive payment, or this 50% incentive payment, and that's the true economics for that contract. And yet, by structuring it this way, you have somehow sort of isolated that negative aspect of the management contract out of the EBITDA margin.

Well, we're not the only hotel company that reports this way for -- especially those Marriott contracts that were put in place in the early '80's. There are several other REITs that have recorded similar entries into their balance sheet. And from a relative impact standpoint, if you looked at the 73 hotels in our seasonality table, EBITDA was $137 million, $136 million last year. The impact is going to be less than $1 million. So I think it's a nominal impact.

Okay, that's great. Thanks.

(OPERATOR INSTRUCTIONS). Will Marks, JMP Securities.

Have you guys mentioned -- relative to the street, I guess the floater was relatively -- I guess weaker than the street was expecting. Could you help us I guess think about how we should look at your company going forward? For some of the companies, we see -- on the street -- we're seeing top-line RevPAR growth translating into high 1, almost 2-times EBITDA growth, and it looks like from your hotels not under renovation, you have 9.5% growth, translating to roughly 12% EBITDA growth. I just would like some help maybe thinking about it going forward.

Sure. I have a couple of comments, and then I'll let Kimo weigh in here as well. When we started out, we started out buying smaller properties, for exactly the reason I'm about to tell you. But in the past maybe year, we started buying bigger hotels. The reason we were reluctant at first is because of the impact some of these can make in a short period of time. For example, the Pan-Pacific Hotel that we bought in the spring of this year is in these numbers and year-to-year margins. Well, Marriott took over management the asset and converted it to a JW Marriott and we're very pleased with the performance and they're doing a great job. However, because of some groups that did not materialize that prior management had put on that you had to flush through the system while Marriott's still managing it, the margins on that particular property year-over-year were substantially down. But we still have great confidence in everything that's going on there, and it's just kind of a work through the system.

Well, that big box in our portfolio substantially impacted the margins. I think our margins would have been -- the 90 BPS would have been 50% to 100% higher were it not for just that one situation. So one comment is that, looking at those margins in aggregate is generally a good measure, and this -- I believe -- in this quarter, we had one box through a special situation that affected it. So that's kind of one factor. Kimo, you might want to comment of quarter-to-quarter margins versus year-over-year.

My opinion as to the way to look at the Company is a little bit different, and this comes from I think the way we have run our business over a long period of time. We look at incremental revenue as flowing 40% to 50% down to EBITDA. Now, that incremental revenue could be a lot of different things, so it's not a rule that works for everything. Obviously, average rate flows more, occupancy gains flow less, food and beverage gains flow less. But by and large, that's sort of a measure that I look at for success. I think we're currently doing that. I think we could do better if we didn't have some of the unusual fixed expense increases that we're having right now. Energy was bad for the last 18 months, insurance was bad the last 12 months. Our property taxes are a little bit higher than we would like, and that will flush out next year as property taxes adjust to levels we're buying assets at. So by and large, I think that's a rule of thumb that I've always used. I think we're in that ballpark right now. Obviously if we get a lot more average rate growth than occupancy growth, then we're going to see a higher percentage flowing to the bottom line, but that's my perspective.

Great, that's helpful. Thank you.

At this time, we have no further questions. I would like to provide everyone one final chance to signal for questions today. (OPERATOR INSTRUCTIONS).

We have no further questions at this time. I'd like to turn the call back over to senior management for any additional or closing comments.

You bet. Thank you for your participation on today's call. We look forward to seeing a number of your at the NAREIT annual convention next week in San Francisco, as well as at our analyst and institutional investor tour of our JW Marriott Hotel in San Francisco on November 8. The tour, presentation and reception afterwards runs from approximately 4:00 PM to 6:00 PM. If you have not RSVP'ed for the events and would like to attend, please contact Tripp Sullivan at Corporate Communications. We look forward to speaking with you again on our next call.

That concludes today's conference call. Thank you for your participation. You may now disconnect.