Choice Hotels International Inc (CHH) 2003 Q2 法說會逐字稿

Good afternoon and welcome to Choice Hotels International Second Quarter 2003 Earnings Conference Call. At this time, all the participants are in a listen-only mode. Later we will conduct a question and answer session, instructions will be given at that time. If you should require assistance during the call, please press "" then "0". And as a remainder, this conference is being recorded. During the course of this conference call, certain predictive and forward-looking statements will be used to assist you in understanding the company and its results. Such statements are subject to risks and uncertainties that could cause actual results to differ materially. The company's Form 10-Q for the quarter, ended March 31st, 2003, details some of the important risk factors that you should review. I would now like to introduce Chuck Ledsinger President and Chief Executive Officer of Choice Hotels. Please go ahead.

Thank you. Good morning, everyone. With me is Joe Squeri, our Senior Vice President of Development and Chief Financial Officer. Welcome to our second quarter 2003 earnings conference call. Late yesterday afternoon we reported the Choice recorded diluted EPS of 47 cents, which exceeded analysts' expectations by 6 cents. We also reported that our operating income increased 4.7% from 28.7 million for the second quarter and 5.3% through June from 43.6 million to 45.9 million. And what continues to drive our really strong performances is our ability to generate strong unit growth. Our brands are very much in demand by hotel owners and developers, as evidenced by the 7% increase in worldwide unit growth.

We now have 4,743 hotels open worldwide and with another almost 400 in development. On rooms basis, we have 383,592 rooms in our distribution system now with another almost 34,000 in development. These results are, of course, well ahead of last year's pace and on target for another strong year in terms of unit growth. If you can remember, just a year ago unit growth in the 2% to 3% range was considered good. We always thought that's good and that's probably more like our long-term target. In the last year or two, we have taken it up another notch, and we are working very hard to sustain our growth in 4% to 5% range. In our domestic system, we had 80 net property additions in the first six months of this year compared to 67 for the same period a year ago. Through the end of June, we’ve executed 186 new domestic franchise agreements, 44% increase over the 129 from the same period a year ago.

These outstanding results speak very well for the effort of our dedicated franchise sales force, which has succeeded in gaining very solid conversion products especially for our Quality and Clarion brands. And the quality of properties that we are seeing coming into this system are very good. They are higher than the average in our system now. We also believe that our recently introduced prototypes for our EconoLodge, Comfort Suites and Sleep brands will encourage more new build activity as the economy continues to improve and capital markets loosen up. It's clear that the war in Iraq contributed to weak economic activity in the first quarter and has had some lingering impact on the second quarter. And with the advent of the federal tax cut, we are hopeful, as every one is I think, that the economy will begin to show some more signs of life as more money begins to show up in workers pay checks and hope that more people get back to work.

Summer got off to a slow start this year due to severe winter that lengthen school years in some parts of the country and excessive that rain in other parts certainly in mid Atlantic and east coast. Just now, we are beginning to see an up tick in leisure travel though, as evidenced by activity through our central res system. On June 23, we experienced our single largest revenue day on voice reservations since July of 2000, and since then we've had several more days that were kind of high watermarks.

So we are hopeful that the late summer will see more travelers across the country. Actually in July, our gross revenue through the res -- central res system was up 3.2%. That's REV PAR that's gross revenue through the res systems. So part of that's due to unit growth but it is very positive signs, the first month we have seen in while that's been up and stronger.

To help our existing franchise hotels, we have underway two very exciting summer promotions. For the mid-scale brands, we are continuing our gas, food and lodging promotional theme. We have added sweepstakes that awards free gas and Jeep liberty vehicles. And for the economy brands we have a fast cash sweepstakes for the $50,000 grand price and other prices including lows gift certificates for winners of virtual rating game competing against Lows driver Jimmy Johnson. What's interesting is both sweepstakes that they available only on our choicehotels.com proprietary website, obviously you geared to drive more volume through our proprietary site. These promotions are geared to drive consumers to the site.

And in addition, the main scale promotion involves a free McDonalds meal coupon. That's available upon checkout after the guest books online and stays at one of our properties. We are also working hard with our online partners having signed agreements with Travelocity and TravelWeb to secure preferred placements on their website for our hotels. Both companies enjoy direct connections to our central res systems, the real time access to raise some inventories. In turn, we eliminated the need for our franchise hotels to have individual contracts with these sites.

So they enjoy lower administrative costs and get a worldwide exposure of the web. For the remainder of 2003, we’ll continue to use our best marketing reach to build more brand awareness and drive more business to our hotels. At our annual convention for franchise deals in May, I devoted a lot of time to discussing how we want to make sure we are giving franchises at least the tools and support they need to succeed. Together, how we can ensure that our brands and hotels have the consistency and a consumer appeal to keep on the track that the hotel gets.

Our field representatives are working with the individual properties on property improvement marketing plans, specifically designed to build greater guest satisfaction. So we are hopeful that we will begin to see the pay off on those efforts in the months ahead. As we announced this week in the light of recent tax law changes, we are studying the question of the establishment of cash dividend for our common stock, as a mean to augment our share repurchase program and building shareholder value. We will be discussing this matter with our board of directors at their next regularly scheduled meeting in late September. Now, I would like to turn the things over to Joe Squeri, who will review our results in more detail. After Joe is finished, we will then take your questions, Joe.

Thanks Chuck. As Chuck mentioned, we are extremely pleased with our second quarter results, which served as a testimony for the fundamental strength of our franchising model. Results we have enjoyed to date underscore the clear benefits of Choice's unique position as a pure play franchiser with strong brands and a highly efficient operating structure. Chuck has already talked about our strong unit growth.

I would like to further note that the sharp increase in executing contracts resulted in a 29.4% and a 26.5% increase in initial franchise and re-licensing fees respectively for three and six months ended June 30th. Two of our conversion brands are enjoying a reinvigoration and fleeing in the milestones. Quality will soon break the 500-hotel mark, and we expect that Clarion brand will see the 150 properties by year's end.

By focusing sharply on building brand attributes and targeted development, we have been able to attract new owners to those brands. In general, our application flow remains quite strong, and we have been able to turn many of them with executed agreements. We have executed 186 new domestic hotel franchise agreements through June 30th, a 44% increase over the previous year. More importantly, we have executed 17,695 rooms, a 66% increase over 2002. Overall, our franchise development effort has benefited greatly from the strength of our distribution and our presence on the web. We can demonstrate to perspective franchisees that we are able to use our electronic distribution channels both our own proprietary site and those of online partners to generate rate premiums for them as well as provide them with lower costs.

Coupled with our branding and overall national marketing programs, our reservation delivery system both voice and electronic, they provide a persuasive case for choosing and retaining a Choice flag for hotel. Our operating cash flow remains quite strong as shown by a 57% increase in the first six months of this year and 25.6 million to 40.2 million. We announced yesterday, that third quarter estimates for diluted earnings per share would be in the range of 61 to 63 cents. Full year estimates have been revised upward to $1.74 to $1.77 for 2003, up from $1.65 to $1.68. This assumes REV PAR is flat to slightly up for the balance for the year. And as you know, our earnings projection do not assumed any impact from future share repurchases. Choice continues to enjoy a strong balance sheet, ready access to capital and operative cash flow. Our franchise developmental organization is stronger than ever and we remained confident in our ability to compete successfully for new franchises and drive more unit growth. Now, let me turn it back to Chuck.

Thanks, Joe. We will be happy to take any questions now.

Thank you. And ladies and gentlemen, if you wish to ask a question, please press "" then "1" on your touchtone phone. You will hear a tone indicating that you have been placed in the queue and you may remove yourself from queue at anytime by pressing the "" key. If you are using a speakerphone, please pick up your handset before pressing the number. Once again, if you have a question or a comment, please press "" then "1" at this time. And our first question will come from the line of Gloria Sue [ph] from JP Morgan, please go ahead.

Hi, great quarter. Just wanting to ask about -- there was a -- I guess a year over year pretty sharp increase than other revenues and also interest in other investment incomes?

Right. Joe you will answer the -- the other revenue was out just, -- generally Joe would not get into that, the other revenue was a termination award on the sale of some MainStay Hotels, that happened, Joe you might want to elaborate on that a little bit.

Yes. I mean, Gloria as you know in our contracts, has provisions for liquidity damages whenever hotels use the system and from time to time we collect awards and actually we collect awards anytime our hotel leads outside the contractual terms. And so in the other revenue in addition, of some training fees and some service charges and some other things, there was some liquidity damage to our collections in that.

So, that's an on going revenue stream, but from time to time it will fluctuate. And at the same time if you will look at the SG&A because that was up and if that gets to your answer and other interest in an investment income. SG&A is up for some similar reasons not directly relates to liquidity damage claims but we have some one time costs going through there. The convention, we felt especially - it was a especial important to do a little bit more this year in conventions, so it probably add $0.5million to $.75 million related to some convention items and some just promotional things that we do with our customers, so that ran through SG&A this quarter.

In addition, there was a $0.5 million compensation adjustments for increases in 401-K define contribution arrangements and what happens in that situations, when people 401-K is in and the benefit plans depreciate, you have an increase in compensation expense and at the same time you have an increase in the assets in which they are invested. So, we had a $0.5 million increase in SG&A related to that and we had a $0.5 million increase in investment income related to that. So, they sort of offset, but I think, in all of that stuff you had numbers going back and forth offsetting one another for some unusual things going on I guess the headline in the whole quarter was franchise and licensing fees is more prospected.

Going forward, I mean, what are you guys expecting for the second half of the year for the - in the initial franchising, new licensing fees stream? Are you looking in that like, you know, 15% to 20%, at least 20% growth year-over-year, for the full year?

Well, I mean, to don't want to say any much, sales guys will listen to this they’re probably get upset at me but I’ll say it anyway, I mean, we expect, the way things work in the sales organization is sort of build up momentum in the beginning of the year and we went through a fairly significant reorganization and we added a bunch of people in it and I think, we gained some good traction and, we’re really starting to realize some of that. We had a huge second quarter, June was outstanding and I think we build up a lot of momentum. Historically, what's happened is, the second quarter is been better than the first and or second half of the year has been better than the first. So, I would assume that outside, if anything unusual that we would continue to maintain a level of momentum that we have had and I think that the - you know the first half of the year is pretty good indicative, we could be able to achieve in the second.

Okay. And just one last question that was a little late. Are you guys seeing any acceleration and new developments or is it mostly conversions or is there any change in that?

[indiscernible] 75, 25 is a little better than last year. I do think that it's - there are good deals, they will get done, people have control of land or get done, I think we're a little bit easier to get them done in the markets in which we compete. I do think that some of that shift has to be more with organizational focus than it does with liquidity. So, I do not really seeing any loosening up at this point and I don’t know if Chuck has any observations on that, I do not see any at this point.

Well, all I would say is that you know what we have done is developing the prototypes for three of the brands and new build brands and we are working on two more for quality and comfort that are going to be very well positioned, you know, when the cycle does change which it will. Usually, when you start to see the AVR increases, you usually start see more new development in some of these markets. But as Joe said, we're seeing a little but not, certainly not a trend here.

Thanks a lot.

Thank you and our next comes from the line Will Trulov [ph] with UBS. Please go ahead.

Yes, great quarter again guys. My question is on the main stage termination and your lost 16 hotels. Was that one owner and if that is one owner today, own other hotels branded under the Choice flags?

It was one owner and it was Sun Burst [ph] and they do own other hotels under the Choice flag but the mainstay sale was really a real estate transaction obviously for them and we don't expect, I mean, we expect that there will be some future sales although the bulk of that has been done and but we expect also that the majority of the future sales will remain in the system. They had an opportunity to sell this -- they have some greatest brand or they have the large brand concentration in the mainstay and they had an opportunity to make a real estate sale. So, that's the way it is.

Fair enough. My second question goes to your usage of cash going forward. Obviously, as you guys always mentioned and I agree with, you are generating a lot of steady cash with very little investment need. So, when you think about your usage of cash in terms of paying down debt or buying back stock or even potential dividend. Could you talk about at what point does may be paying down debt become inefficient and how you sort of or what criteria you are looking at about considering the dividend payment?

well I think what we look at is we -- its basically, what's the most efficient way to return capital to shareholders and when you're borrowing it at the rates that we are today which are pretty nominal. You know, it makes a lot of sense I think to return excess cash to shareholders in the most tax efficient way and obviously, that ground has now been equalized between returns of capital through share repurchases and payments of dividends. Obviously, we are going to look at it little differently than we have in the past. I think, when the time is right to or when make sense to retire some debt, we will. But up till now, it frankly doesn't make sense. So, Joe I don't know we have another option.

So, I mean, I think that there is some views that some people (inaudible) as a company are really, if you look at it would not have any long-term need for debt. I mean, the way I look at it as it is overall cost of capital. What we may be able to do is to lower our capital tremendously and I think that we're a company that can sustain a level of leverage and use that to our advantage and really drive to return in our operations. So, I would expect that there is going to be some long-term permanent capital, debt capital in this business and we will do that all under the guidelines and with the understanding that we enjoy the benefits of being an investment grade company and keeping the leverage at that point. So our EBITDA has been ramping up. Our actual debt levels have been remained the same and what happened for the past five years is we've used almost every dollar from operating cash flow and from asset monetization to go with higher equity and now we do use some consideration to dividend like Chuck mention.

Does Venum family have -- how many more shares does the Venum [ph] family is looking or how many share does the Venum own of Choice Hotel that you can potentially to be in repurchase from now?

They had about 16 million shares and the other large institution holder owns just under four. And the Float Bay [ph] again into the equity that's moving on. I mean the Float has maintained the level around 14 million with option exercises and things like that. So between 14 and 15. We have been able to achieve this recap or if you call it recap, we call it a cap allocation strategy without really touching or impaction that liquidity.

Great. Great quarter guys. Thanks a lot.

Thank you.

Thank you and our next question is from line of Mike Flayers [ph] with Dominique and Dominique [ph]. Please go ahead.

Yes. I was wondering what percentage of your hotels have Internet connections for the travelers and you making plans to increase that percentage?

I don't know if I can tell you the percentage. It's a Brand Standard [ph] now and comfort suites. So all of those -- its really on a case by case basis. We haven't made at the brand standard another subs rankly [ph] a lot of a hotels or smaller secondary-tertiary markets and much more leisure oriented. So we really leave it up to the individual owner except in the case of Comfort Suites where the Comfort Suites' owners came, we all decided together that was -- we needed to make that standard in that brand. Clarion the other there would have more or higher percentage of the Internet connections within the hotels but our business -- our mix is about 75% leisure or 25% business. So we really skew more than leisure's time.

Are you looking at any particular Internet providers to provide this service to you people? I believe you have a deal with Six Collin Telecom Net [ph] or might be some others but is this something that you would actively press that? I mean even if you're saying at least your hotel you might want to send e-mails.

Yes. we had worked at, yes, a couple of providers. And to be honest with you we've been after this for about three or four years and every time we think we've got somebody that go out of business. So it's been - we were very early, very earlier on, very interested in it and then we really backed off because it became obvious -- the early on model was that advertising models who say some words. You got to get something that's reasonable cost for the owner of the hotel and also a modest cost for, I think, for a guest. So you mentioned that the couple of our dealing with, I think, that’s it Joe somebody else that I'm not aware of.

No. That's right, that's right.

Okay. Thank you very much.

Sure.

Thank you. Our next question will come from line of Dan Corte [ph] from Principal Global Investment. Please go ahead.

Good morning. Three questions. What does CAPEX look like for this year? And what kind of good number you use? That's kind of a rule as firm. I know it's fairly minimal.

Right.

Yes. Let me take that.

Yes. Go ahead, sure.

Yes. I think that - I mean, I'm just (inaudible). We did about 4.9 and most of that will be ongoing. I would say that on an average it's between 12 to 15 and of that I'd say 6 or so is maintenance and the rest is discretionary. So the maintenance CAPEX is on an annual basis probably going to run anywhere from $3 million to $6 million and that’s just to sort of keep the lights on and keep the systems off and from time to time we have discretionary projects that go on for information technologies to make the business more efficient and for connectivity to our hotel.

Okay. Secondly, when is it likely that the Sun Burse Note [ph] will be paid off?

I don't know. It's -- what's -- I can't remember that term...

Seven-year note and five years left on it. Even cash paid this year 11/38 and that's really after them. They haven't -- we have the capability to pay it off. There is obviously, it's a typical sub-debt high-yield instrument and it's got your maintenance provisions in it and should they want to prepay it, they will be able to prepay it under those terms.

So right now it's just in cash pay interest only?

That's exactly right.

That's right.

And then, could you talk a little bit about what is going on, on the international side of the business and what the outlook is there and should we look for kind of a maintenance level of your existing room base or you think it maybe able to grow little bit or might it shrink over time?

Internationally. Yes, I think internationally it will grow, I don't think it will shrink. We've done a lot of cleanup in our international business of the last few years and I think we are getting a firm base, sort of infrastructure base in place to grow, it is not going to be a huge income contributor because of the nature of the way that we have done and most cases there is mass of franchise agreements that are set up, so the revenue coming back to us is fairly modest. In a couple of cases there is direct franchising i.e., Australia. So, over time we made us to be able to do a few more of those direct franchising type arrangements, that would could contribute more so I think its going to be a modest contributor but I think growth area.

And then lastly, of your domestic brands, which ones are the most likely candidates to see new construction when the industry kinds of turns around?

All the three new build brands are Comfort Suites, [Sleep] for the most part those too, but we will also see some new Comfort Suites we have taken and we have a new built prototype on a Econolodge and like to see a new build there, I would say that primarily it would probably be Comfort Suites, comfort and [Sleep], although we do get new builds and we have quality, quality suites, we're going to few of those and there would be going to some main size, I mean we're going to replace a few of those main size, we lost in some of those markets and we have some new main size in the pipeline.

Okay. Thank you very much.

Thank you. Once again, if you have a question or comment, please press "" "1" at this time. And at this time, we have no questions in queue for you to continue.

Okay. Well, there is no more questions. Thank you very much for your attention, and we will be talking in another three months or so. Thank you.

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