Choice Hotels International Inc (CHH) 2009 Q3 法說會逐字稿

Good morning and welcome to the Choice Hotels International Third Quarter 2009 earnings Conference Call. At this time all lines are in a listen only mode. Later there will be a question and answer session and further instructions will be given at that time. As a reminder today's call is being recorded.

During the course of this Conference Call certain predictive or forward-looking statements will be used to assist you in understanding the Company and its results which constitute forward-looking statements under the Safe Harbor Provisions of the Securities Reform Act of 1995. These forward-looking statements generally can be identified by phrases such as Choice or its Management "beliefs, expects, anticipates, foresees, forecasts, estimates", or in other words phrases of similar import. Such statements are subject to risks and uncertainties that could cause actual results to differ materially from those expressed or implied by such statements. Please consult the Company's Form 10K for the year-ended December 31, 2008, and other SEC filings for information about important risk factors affecting the Company that you should consider. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements. We caution you do not place undue reliance on forward-looking statements which reflect our analysis only and speak only as of today's date. We undertake no obligation to publicly update or our forward-looking statements to reflect subsequent events or circumstances.

You can find a reconciliation of our non-GAAP financial measures referred to in our remarks as part of our Third Quarter 2009 earnings Press Release, which is posted on our website at Choicehotels.com under the investor information section. With that being said I would now like to introduce Steve Joyce, President and Chief Executive Officer of Choice Hotels International Incorporated. Please go ahead, sir.

Thank you. Good morning and welcome to our Third Quarter earnings Conference Call. With me as always is David White, our Chief Financial Officer. This morning Dave and I will provide a few brief remarks regarding our Third Quarter results, share our perspective on the current trends we are seeing in the business and provide you with a Fourth Quarter outlook. We will then open up the call for your questions.

So first let's talk about unit growth and despite the most challenging lodging environment in the last 60 years, we continue to build on our strong track record of global franchise system growth, on account of our strong well known brands, a proven ability to deliver guests to our franchisees hotels and an unrelenting focus on our hotel owners return on investment and property level profitability. During the quarter, we achieved global and domestic unit growth of 4.1% and 4.9% respectively. We also surpassed a significant milestone with the opening of our 6,000th franchise property. This comes barely four years after opening our 5,000th franchise hotel. At the end of the Third Quarter our branded distribution platform supported 6006 hotels representing more than 485,000 hotel rooms in the United States and more than 35 other countries and territories worldwide.

Let's talk a little bit about RevPAR. The operating environment for hotels continues to be challenging. For the third quarter, RevPAR for our domestic franchise system declined by 15.9%; however, our domestic RevPAR results on account of our system being predominantly in the mid tier and economy space out performed the lodging industry by roughly 190 basis points which experienced a RevPAR decline of 17.8%. This RevPAR performance was also approximately 50 basis points better than the comparable mid scale and economy chain scale segment performance reported by Smith Travel which had a RevPAR decline of 16.4%, so overall, our brands performed better than similarly positioned competitors. The pace of RevPAR declines in the third quarter was comparable to the rate of decline we experienced during the Second Quarter. We are encouraged though that the RevPAR environment appears to be stabilizing.

In recent weeks, as reported in the Second Quarter, with the exception of this past weekend which was impacted by the timing of Halloween, we have noted that occupancy rate, and RevPAR declines on the weekend nights Friday and Saturday have been noticeably less severe than week nights, and as a result, we see that as a future positive indicator for the business. Weekend RevPAR declines have been in high single to low digit percentage areas whereas week night declines have been in the mid to high teens. As a result, our RevPAR results for the Fourth Quarter will include the property level performance of our hotel franchises during September, October, and November. December performance will as usual be reflected in our First Quarter 2010 results.

Considering our recent experience plus what we already know about RevPAR results for September and October, which represents the first two months of our Fourth Quarter RevPAR results, we are expecting the pace of RevPAR declines to continue to ease during the Fourth Quarter. We are also taking into account easier comparisons to 2008. As stated in yesterday's earnings announcement, our guidance for RevPAR for the Fourth Quarter is a decline of 12% and a decline between 13% and 14% for the full year 2009.

We do, however, continue to focus on the key business and key strategies of the Company and we continue to execute against those as we believe they will enable our franchisees to be more successful and position us well to continue to build on our track record of long term profitable growth. These strategies include expansion of our distribution while appropriately protecting the equity of our brands, improving our already strong central reservations delivery by continuing to improve on our Choice Privileges program and eCommerce offerings, and expanding on our emerging brands and seeking other opportunities to profitably grow our business. We are focusing extensive efforts and resources around activities that make guests aware of our brands and the tremendous value they offer, particularly in this environment. We are continuously refining and expanding and improving our central reservation systems that facilitate guest stays in our franchised hotels through cost effective guest loyal distribution systems.

One key area of focus for our Company that can enable us to improve our ability to deliver guests to our hotels through our central channels is the dramatically increasing membership in our Choice Privileges rewards program. I am very excited that we've already met our goal of 1.75 million new members for 2009, a top organizational priority for the year. By the end of the year, we will have over nine million members in our guest loyalty program. Choice Privileges members are among our most loyal guests and account for more than 24% of our domestic gross room revenues year-to-date through August 31, 2009. This represents a greater than 200 basis point improvement for the Choice Privileges contribution levels that we experienced last year, and this business comes at higher rated business than our normal. The continued global growth of this program is a priority and will continue to allocate significant energies towards that program.

We are also focusing extensive efforts on building brands that are better differentiated and in greater demand by consumers to drive better returns for our owners. Our recently launched room condition program is an example of the type of program that is a win-win for our franchisees and Choice and supports that objective. Developing with our three largest brands, Comfort Inn, Quality and Econo Lodge that represent 3,000 of our 5,000 domestic hotels, this low cost comprehensive program helps owners focus on the elements that matter most to the travelers in the guest room. The program is showing strong increases in likelihood to recommend and guest satisfaction, which are the key drivers of property level profitability.

During the quarter, we continue to make progress on allocating resources to areas of potential long term growth for the Company. On the global front, to strengthen the value proposition we provide to our current franchisees and more importantly to attract new owners to our system, we have launched a multi-year strategy to strengthen our reservations delivery and marketing capabilities in key international markets. Over the next several years we expect this effort to improve our ability to grow our international system and its related revenues and profits.

Finally, as described in yesterday's announcement, we continue to demonstrate our committment to returning excess free cash flow to shareholders. During the third quarter the Company generated approximately $40 million in free cash flows and returned nearly $32 million of those free cash flows to shareholders through dividends and share repurchase. Let me turn it over to Dave now to cover our Third Quarter performance in a little more detail.

Thanks, Steve. I just want to highlight a few additional items before we open up the call for your questions. To reemphasize one of the strengths of our model, during the quarter we were able to offset apportion of the RevPAR declines we experienced through new unit growth and improved pricing on our contracts. Steve already mentioned our unit growth and RevPAR performance so I won't repeat those figures, but I'll point out we achieved a four basis point improvement in the system wide effective royalty rate compared to last year. As a result, the effective royalty rate increased to 4.23% for the three months ended September 30, 2009, and we remain on track to achieve a five basis point improvement for full year 2009.

Our domestic royalty fees for the third quarter of 2009 were $60.7 million compared to $69.5 million last year. The companies international fees included a royalty fees revenue were $5.7 million for the third quarter of 2009 compared to $7.1 million last year.

Regarding development, the Company executed 79 new domestic hotel franchise contracts during the third quarter of 2009. This represents a decrease of 51% compared to 160 contracts executed during the third quarter last year. Applications for conversion hotel franchises in the third quarter were essentially flat compared to last years Third Quarter. The lack of hotel financing and significant RevPAR declines continue to hamper our new construction and conversion franchise development efforts. As expected new construction franchise sales continued to be relatively more impacted than conversion franchise sales. New construction franchise sales declined by 82% in the third quarter compared to a 26% decline per conversion franchise sales.

The number of relicensing transactions for the third quarter of 2009 were 22, a 72% decline from the 79 relicensing transactions reported last year. The reduced contract volumes resulted in initial franchise and relicensing fee revenues declining to $3 million for the third quarter of 2009, a 58% decline from last years Third Quarter results.

On the cost side of the business, as a result of our focus on cost containment, our adjusted selling, general and administrative expenses for Third Quarter 2009 were $23 million, or approximately 8% below last year's Third Quarter levels. We continue to expect to manage adjusted SG&A expenses of the business for full year 2009 to a high single digit percentage decline compared to last years comparable full year expense.

Diluted earnings per share for Third Quarter 2009 were $0.55 compared to $0.57 for the same period of last year. Our adjusted diluted earnings per share, which excludes certain special items we described in yesterday's Press Release for Third Quarter were $0.56 per share compared to $0.57 per share last year. Year-to-date through September 30, the Company repurchased approximately 2.1 million shares of our Common Stock at an average price of $26.90, for a total cost of approximately $55 million. The Company has remaining authorizations to repurchase up to an additional 3.9 million shares under the share repurchase program. Year-to-date through September 30, 2009, we also paid cash dividends totaling approximately $33 million.

Our Balance Sheet and liquidity position remain strong. We finished the third quarter with approximately $64 million of cash on hand and total long term debt of $292 million which represents a multiple of 1.8 times our adjusted EBITDA projections for 2009. As of the close of business yesterday, the Company had approximately $73 million of available unused borrowing capacity pursuant to revolving bank facilities that are committed until June of 2011.

Now turning to our outlook for the remainder of 2009. Earnings Release we shared our outlook for the Fourth Quarter and full year 2009. We currently expect Fourth Quarter 2009 adjusted diluted earnings per share of $0.40 and full year 2009 adjusted diluted earnings per share of $1.68. Adjusted EBITDA for full year 2009 are expected to be approximately $164.5 million. These figures assume domestic unit growth of approximately 4% for full year 2009 and approximately 12% decline in RevPAR for Fourth Quarter 2009 and a RevPAR decline ranging between 13% and 14% for full year 2009. The figures also assume a five basis point increase in the effective royalty rate for full year 2009 and an effective tax rate of 36.3% for Fourth Quarter and 36% for full year 2009. All figures exclude currently anticipated operating expenses related to employee termination benefits and a loss on the sub lease of office space as we described in Exhibit 8 to yesterday's Press Release. Now let at the turn the call back over to Steve.

Thanks, Dave. Well as we've noted we're still in the midst of a very tough environment to operate in, however, let me assure you that we are very optimistic and we have a great recipe for success, because of our strong well known value oriented brands, because of our proven ability to drive business to our franchisees hotels, because of a wealth of centralized education and training resources we provide to those franchisees, and a strong focus on using technology to improve the performance our franchisees through innovation on our website, continued leadership in the area of mobile applications. We were the first major Company to market an iPhone application and we are well positioned in the GPS device arena, and rate and revenue management tools we are delivering to the field. A vision to help our owners which is to generate the highest ROI of any hotel franchise out there. I'm confident that our strong business model, financial strength, and asset light model position us well to continue to create value for our shareholders. As we have stated in the past, our top priorities are to continue over time to return excess cash flows generated by our business to the shareholders through opportunistic share repurchases and dividends, to support an expansion of our emerging brands and international system and seeking opportunities to add additional brands to our platform through acquisition or organic growth. I will now open up the call to answer your questions.

(Operator Instructions). Your first question is from the line of Patrick Scholes with FBR Capital Markets.

Hi, good morning. In your release it looks like you've changed up your guidance for unit growth from 3.25 from 4% from when you gave it out in I believe it's late July. What's changed between then and now to raise that number?

Sure, hi, Patrick, this is Dave.

Good morning.

Essentially the gross opening figure that we're using for full year is comparable to where we were last quarter which changed a little bit and I think the differential you're talking about 3.25% to 4% is around 30 to 35 units so it's not a big piece of the system but it's been more on the termination side so they just haven't occurred at the clip we were anticipating previously so we tweeked that a little bit so it's primarily timing. It's nothing on the gross opening side, more timing around terminations.

I would note that's actually a positive for the Company because that anticipated additional terminations were based on the fact that we are more aggressively pursuing Quality Assurance and what we found is that as we've done that franchisees value those brands significantly and there for, are making the changes required which has limited our need to terminate some of those properties.

Okay. Thank you. One other question. Can you just give a little bit more color on what you're seeing as far as conversions of late? How has that been trending?

Well, I guess if there's a bright spot that's the one. That's holding up better than everything else. Obviously the new build market has just, it's really just actually become extraordinarily different because of financing so the conversion market continues to move along reasonably well. We have not yet seen which we would normally see at some point in this cycle that big uptick in conversions and that is we think related strongly to the lack of transactions out there. There is a belief among many that credit for existing hotels will loosen up some time next year and when that occurs presumably then there will be a large number of hotels that will trade hands. As you can see in the marketplace the bid and the ask for hotels is beginning to become more into sync and when those transactions begin to occur we would normally in that cycle see a significant number of conversion opportunities which we expect to be able to take advantage of as we have in the past and as we've noted, we think the action in the hotel business for at least the next 18 to 24 months is going to be all about conversions and there is no Company out there better positioned to take advantage of those conversion opportunities than we are because we really are the premier conversion Company in the space.

Great. Thanks for the color.

Your next question is from the line of Ryan Meliker with Morgan Stanley. Please proceed.

Good morning guys. Just wanted to talk a little bit more about the pipeline and what's going on there. First question was out of the maybe I missed this in earlier comments but out of the 558 properties that you currently have in your pipeline under new construction, what percentage of those are actually under construction right now versus scheduled to be under construction at some point in the near future? And then along the same lines looking at Cambria Suites, we've seen only two executed new contracts this year, none this quarter. Do you have new growth expectations for that brand? Thanks.

On the Cambria Suites side, that is obviously a victim of the current financing scenario. We have stated and would like to help push that brand to grow that brand rapidly. The reality though is in today's financing environment, loans that are above $10 million in a typical Cambria loan depending on the size of the property can push $12 million to $15 million simply aren't available and as a result, while we still and continue to push the brand and have very strong interest from the franchise community for the brand, they simply aren't signing up the deals until they figure out where they're going to get them financed. We stand ready to support them to do that but the reality is that's not occurring in any significant amounts this year and so until we get a return of financing which if you listen to various experts for new construction can be as much as 18 months out from now, that's going to be a tough area for new unit growth to begin. We are going to get a couple done and our expectations have been ramped down considerably from a normalized environment but we're going to continue to push because we believe that where we stand with franchisees today is that as soon as financing is available, we're going to see significant growth in that brand as a result of our efforts and as a result of customer reaction and performance of the hotels, so we are still very optimistic about the brand but we got to have a financing environment that's going to support it and until we get that we aren't going to see much in the way of new signings because the franchisees generally don't want to sign an application and move forward with a project that they don't know they can get financed.

And in answer to your question on the pipeline, the percentage of the new construction hotels that I guess I would say are under way are somewhere in the low to mid teens area, but the other thing I want to make a point on to make sure everybody is clear on in the pipeline is you got to look at the two separate components. There's new construction of the conversions and the conversion side of things has traditionally for us represented about 2/3 of our gross openings and because conversion franchise hotels can open pretty quickly, range anywhere from three to nine months is typical. A lot of times, we'll execute a contract for a conversion hotel that will actually open into the system and really won't be in the pipeline for any extended period of time so the pipeline is an important thing to consider particularly on the new construction side but don't forget the conversion side of the story because I think there's a real positive there once we see the catalyst for that market as Steve talked about.

Because your question is a good one and that is size of the pipeline and then that pipeline being financed and actually going under construction, and what we think you're going to see for the foreseeable future is a lot of that pipeline not starting because new construction is not available and it's not available just for our products, it's not available to any other major lodging companies either. The first financing that will come back will be smaller hotels under $7 million and that's going to benefit us and then really, we think all of the action for the next two years call it is conversions and nobody does that business in a more significant way than we do.

Great. And then speaking about the conversions if I could just ask one more question, obviously you do a lot of conversions. Are you seeing in the current environment and how does it compare to past environments for the conversions you are seeing are you seeing a lot of trade up, trade down, lateral trade, how are you looking at tips for conversions? Are you being aggressive, are you being conservative? Just trying to get an idea of what type of properties are coming in and what type of properties might be coming out, thanks.

Well we are aggressively as we always do looking at all options for conversions. We are holding to a standard though to make sure the products fit well within the brand but we are seeing a significant number of independent hotels rebrand themselves or brand themselves for the first time. That's a big chunk for us. Another big chunk is as other hotels have either voluntarily or been moved out of another system, that creates big opportunity for us particularly with the quality brand and then we see several hotels wanting to upgrade to a brand and improve their property from other brands and that's actually another significant opportunity for us, so that business is actually holding up better than anything else; however, what we believe is going to happen and has happened in previous cycles that we haven't seen yet is that uptick in conversions and when we see that uptick, we think we're well positioned to get more than our fair share of them and when we do that, that's when we're going to really see a strong development year for us and so the assumption you got to make though is when is it that there's availability in the finance environment for existing hotels and once those transactions begin to pick up we believe we're going to see a significant pick up in our pipeline and then entrance into our system from conversions.

Great. Thanks a lot guys.

Your next question is from the line of Chris Woronka, Deutsche Bank. Please proceed.

Hi guys good morning. Can you talk a little bit about maybe what you're seeing on the brand front in terms of potential acquisitions? Are you seeing distress or is it more companies that own other brands in maybe thinking this is the right time to divest? Maybe just some of your general thoughts there, thanks.

We have seen obviously there's some brands in play which you have all read about, ESA being one of them, for example, that we are obviously like other people interested looking at. We have not yet seen a significant amount of brands being marketed either privately or publicly from the other hotel companies. We are assuming and hoping actually that as the environment stays relatively stable at the current levels that that is causing other companies who don't have the Balance Sheet strength and liquidity that we have to begin to look at opportunities to delever somewhat or provide more liquidity that that will then some provide brand opportunities to purchase but to date with the exceptions of the ones that you've seen publicly, we have not seen a lot of that. We are looking at everything and are constantly scanning the environment because we're in the rare position of, we've got money to move if somebody is looking to sell brands and then the other piece of it is we are hoping that given the environment, given the circumstances that brands will trade at a more reasonable price point than they have over the last 10 years and so the combination of those two we see as a real opportunity for us. We just have not yet seen everything coming into alignment with a brand that we're really interested at the right price with a Company that needs to be a seller.

Okay, great. And then if I could just ask about are your competitors doing any, we've heard earlier this year that there was some fairly aggressive actions kind of to stimulate unit growth. Is that becoming a little bit more rational or are you seeing change in incentives that some of your competing brands are providing to developers either or for conversion activity?

Yes, we've seen some of the other brands move pretty aggressively. We've seen it from the quality companies on their new build environment offering very aggressive incentives. That has limited success in the environment there's no financing in. On the conversion side we have seen also folks offer very incentive-oriented agreements. Those companies though we don't believe compete with us from the standpoint of performance, so we have not seen any need at this point to discount our normal approach to our deals primarily because in this space if you look around, we are the quality brand Company that does conversions. If you look at the other major companies they don't really do conversions in any numbers. They do a few conversions on the full service end but for the most part, their brands are new builds. We have brands that are conversion opportunity brands that drive real business across those units. That's well known in the industry and so therefore, we are sort of the premium conversion Company in that conversion space because not only do we have strong brands but we drive business to your hotels. The other quality companies do not tend to do a lot of conversions particularly in the space that we play in. Their brands are new build and as a result that puts us in a relatively unique situation whereby we don't really have to discount that significantly to get more than our fair share of those units.

Okay, great. Thanks guys.

Your next question is from the line of Mr. Jeff Donnelly with Wells Fargo.

Good morning guys. First question pertains to the RevPAR guidance you were giving for the Fourth Quarter. If we use the Smith Travel data the first two months that we have it for, I think it equates to something about down 15% but you're looking for about a 12% decline for the quarter. I guess I'm curious, is there something in your comps that gives you an easier time in I guess it would be the November period?

Yes, November of last year was when we really saw pretty significant drop off. November for us was kind of a double digit percentage decline which is really actually the first month we've seen that last year, so we've got a pretty easy comparison for us in November. So we really, as Steve alluded to in the call script, at this point we're sitting here on November 6th, we really have a very good handle on what September and October actual RevPAR performance was for the system so from a guidance perspective we're really more point of view primarily on the month of November and what we look back at last year comparison was about 600 basis points easier in November than it was in October and September of last year.

That's helpful, and actually sticking with Smith Travel Research they recently put out charts that was showing the absolute demand for rooms by chain scale and it was a pretty noticeable downturn I guess I would call it for the mid scale segments where some of the higher price points were showing relatively more not on percentage terms but absolute rooms consumed, more resilient demand. Can you tell from looking at your, talking with your guests and hearing from your franchisees do you think that the price discounting at the higher price points is causing some folks to actually move upscale?

We continue to see because of our share gain, we continue to think that we are getting significant value seeking on the part of customers which we like better than trading down by the way, so and so as a result, we think we continue to benefit through the RFP process for corporations we're seeing more corporations come to us because the reality is even in a discounted environment for the upscale hotels, we're still providing free parking, free breakfast, free internet and those guys don't provide that so we think the value equation that we've got particularly for consumers is going to continue to stick. We've got that question. There's no question when you look at the results that the upscale brands bought business by discounting but we don't think it affected us, we think it affected more of the lower upscale and upper moderate tier and as a result, we love where we're positioned for the foreseeable future because we think that value sense among the American public is not here just for the short-term which is the normal cycle but is here at least through the midterm and as a result, based on the positioning of our brands, we think we're going to continue to do extraordinarily well as companies do their business planning and as travelers think about their requirements, it is the total cost of the stay that's important to them and we provide that best value in the space and in a way that's appropriate for customers to use, so there is a lot of discussion about people going back up. We're not seeing anything significant. We're continuing to see that people look at and value our brands and are utilizing them in bigger numbers as a percentage and also from the business climate that the business, the industries & companies are looking to us as a way to get their people back on the road to try to get normalized levels travel days but at a lower cost that gives them an overall benefit.

That actually prompts a question and I know you don't have a lot of negotiated corporate business necessarily in your typical customer base, I guess on each year, but are you seeing more corporations than you ever have before coming to you for that type of contract business as you look out to 2010 and 2011?

Yes, absolutely. So it's been up, it ticked up last year, I haven't seen a recent number but it was roughly a third up and so the results of our activities I think that has continued through this season as well and so I think what you're seeing is sort of a revamping and recalibrating what businesses want to provide to their travelers in terms of hotel stays and while they want their folks back on the road doing business, they want it in a way that provides more value to that Company so therefore, not only have we seen significant uptick but we think it's going to continue to build.

Just last question, can you talk just because I know it's been in the news of late, can you talk a little bit about I guess how you think about using the online travel booking segment or I guess as we roll forward here I know you've had disagreements with folks at Expedia you seem to be working out. I guess can you talk a little bit about that in generally either Expedia or OTA, but maybe as an add-on to that maybe give us the education on the importance of certain factors like last room availability and et cetera?

Sure. So first let me State, we don't view ourselves as an outlier. We view ourselves as a central player, so however, the OTAs play a role. They're an expensive channel but they play a role. They are not a big part of our business. Expedia is the largest OTA we use and they are 3% of our business, so however, for a number of our hotels that are in resort or destination markets, they can be a much higher percentage than that and so they are an important channel, we want to do business with them, we believe that they're an expensive channel, we prefer to be able to yield and manage the channels that we utilize and that in part lies at the heart of the discussion; however I'll tell you that we're in negotiations with Expedia today and hope to be able to utilize their channel because particularly in today's environment, anywhere you can get revenues is a good place to go. There's is more expensive than some of the other channels we utilize but they are a player in the market and we want to do business with them.

Thank you.

Your next question is from the line of Josh Attie with Citigroup. Please proceed.

Hi guys, thanks. I have two questions. First on the guidance your business model is not that sensitive to RevPAR and it seems like the EBITDA guidance is coming down by more than what I think could be accounted for by just the RevPAR decline. Could you give us more detail on what's changed since last quarter if anything has changed in some of the other P & L items?

Sure. On the guidance question, Josh, essentially as you can tell from our guidance we reduced RevPAR, our range on RevPAR slightly for full year, we took our unit growth up slightly, the net-net of that is a slight reduction on the royalty revenue side of things and then in addition to that we were also expecting now for initial fees and relicensing fees to be lower than we thought at the end of last quarter just given the trends we're seeing in terms of relicensing volumes and franchise sales activities. So it's primarily on the revenue side, really nothing that different on the cost side of the business for the Fourth Quarter.

And that revenue side, you can look to the lack of transactions in the marketplace because those transactions are typically a significant driver of the relicensing and other fees that we pick up and that's with when that returns then it will be a nice pick up for us but in today's environment of little to no hotel transactions, it makes that side of the business a lot slower than it was previously.

Are you guys giving people discounts on those fees in order to stimulate unit growth?

Well the relicensing side of things, that's driven more by a franchise owner of a hotel making the decision to sell their hotel so I don't think there's a real any real way to incent that. It's driven more by the Capital Markets making financing available for hotels to transact and the bid ask between buyers and sellers to get lined up. On the initial fee side of things where you drive new unit growth, we've over a long period of time now had various incentives that we used to drive franchise sales. We've talked in the past, one of the reasons that our effective royalty rate gradually improves over time is that we've ramped up royalty fees over time. Occasionally we'll discount the initial fee, those types of things so I would say that on balance, things are not dramatically different today in that area from where they were last quarter. So a couple of important things to note in this area though is we have a very high retention rate of the properties that are in our system, because of the fact that we are sort of the premier business provider in this space and the next step off from our brands is a big drop in terms of production, so we retain a large number of them without having to do significant discounting against the fees.

We have looked at whether or not more incentives would make a difference to us and the net result of that is because there's no financing available, you can't incent your way into getting more transactions. It's when the financing comes back and hotels begin to sell that we'll see that pick up and to date, we haven't seen any real benefits of doing any deep discounting on any of our brands. We'll continue to monitor that but again, because of where we sit in that space and because we're the premier conversion Company, we tend not to have to do anything more than the traditional ramp up kind of activity.

Thanks, and that's helpful and I have one more question. Can you just walk us through your capital allocation priorities? It sounds like you're seeing fundamentals begin to stabilize, how do you think about putting capital to work to grow the pipeline and then how does share repurchase fit in and how do you think about ramping that up either in advance or in connection with a fundamental recovery?

Okay, so our primary priority is getting cash back to the shareholders, and we have a unique record as it relates to that, we say this all the time, not counting this year, we've made roughly a billion dollars and we've given a billion dollars back. There's not very many companies out there that can make that claim so that is priority one so we will continue to look at our share price and when we think there's a discount to our value we will be an opportunistic but aggressive buyer of the stock, so that's point in one. Point two is we are the only Company that I'm aware of that's raised dividends in the last 12 months, we raised it last year in an environment where a lot of people were reducing or canceling their dividends and we've maintained that dividend this year which also puts us in a rare class so we are a strong believer in continuing to pay out dividends as that is a as long as that continues to be a tax effective way of distributing cash back to shareholders. So those two are our absolute priorities and then following that, we are looking at this environment at whether or not our ability to utilize capital to grow our Company either through the acquisition of brands, through support of a multi unit transaction, through at some point when we get new build capital support of our emerging brands, or other alternatives to utilize our skill set and our massive distribution system in varying ways are also attractive opportunities for us but those returns on that capital invested need to be pretty high considering the return that we've generated so far on share repurchase, because that's always our top priority.

The only other thing I'd add is just in addition to price when we're thinking about share repurchases, we always have in the back of our head we have to think about the amount and the cost of capital that we have available to us and the need in light of what's going on in the economy and industry to maintain prudent liquidity buffers and debt capacity and as Steve alluded to one of the other alternative uses of that capital and how much financial flexibility do we want to retain so it's more of a long term strategy things are really no different today than they were two or three years ago, it's more just kind of timing depends upon the price as well as a couple other factors.

Okay, thank you very much.

Your next question is from the line of Michael Millman with Millman Research Associates.

Thank you I have several questions but just following up on that last question discussion, when you say look for stock buying opportunities is that based upon a multiple basis or is it some other basis?

Well normally the analysis we get through is we kind of model out what we think the future cash flows of the business would look like under different scenarios and discount that back for a DCF value of the business and one key thing about this business is that most of our brands have long term contracts so that makes that DCF approach in our view a good way to think about valuing the intrinsic value of the business and then once you come up with what you think the right discount rate is, that will get you to the intrinsic value and then you figure out where the market price of your stock is relative to that value. So you can back into the multiple from that analysis but we just come up with a DCF model with a few different scenarios.

On your conversions, typically what comes from kind of same-store owners versus change in owners?

When we say conversions, we usually are talking about changing the flag either from an independent or a competitive brand to us.

I think you're talking about how many do we sell to existing franchisees?

Correct.

Yes, that's traditionally a pretty high percentage for us, normally it's been north of 50% in the past on the conversion side of things so it's normally a pretty good source of business for us as repeat business from our existing franchisees and we think that that's really born out, if you look at our market share of hotels in the US over the last four or five years, we've grown our market share faster than any other hotel Company out there, any other major hotel Company out there and we think that's a testament to the fact our franchisees are pretty happy with the business we deliver to them and the services we provide to them.

Those franchisees when they're converting what are they buying something new and converting it?

A lot of times that's the case which is one of the reasons the current credit market conditions have an impact on the conversion side, so the franchisee can't get financing to buy that next hotel, it's tough for them to sign a conversion contract with us.

So one of the many ways that we get conversions would be buying a brand that doesn't necessarily generate the same level of business that we do, investing in a property improvement plan that we require but then turning on our distribution channel so that hotel, our franchisees believe that they know they're going to get the production and there for believe that the significant value component for them is that change of the brand, their investment is obviously the purchase of the hotel plus the property improvement plan, but as they look at the up swing in revenues and profitability as a result, that gives them a high level of confidence they are going to be successful having seen the performance of our channels for the hotels that are currently in our system.

And you touched upon this in your script but if you look at RevPAR on a seasonally adjusted basis, what are you seeing as opposed to just looking at it year-over-year?

Well, we've been through the seasons and our strongest season which is the summer months look pretty much like the Spring season so we don't really see that as, it's not a seasonally adjusted, it is a decline in the overall environment that is consistent throughout the season.

And so are you currently in this Fourth Quarter seeing any seasonal, if you seasonally adjust, is there any improvement?

Well, in our outlook we've guided to 12% down for Q4 and basically at this point we have a really good handle on what September and October rules are for RevPAR so we're really only trying to estimate one month of RevPAR.

Let me give you a different way to look at it. Seasonality we don't think plays an important role so let me give you a way we do think that the role is played so what you should be watching is the employment figures, that's what we track so you've got a decline today to 10% and that's not helpful to the overall RevPAR environment but if you track our performance against unemployment, what you see in past cycles is when there's a downturn in employment there is an exaggerated effect on our hotels performance and it's mostly a room night drop, and on the upside when there's an uptick in employment levels there's a correspondingly significant more uptick in room night sales available to us. So for us when we see a bright spot on the weekends which is a good sign for us because we're heavily leisure oriented Company and normally over some period of time that will follow into the weekday scenario we are not seeing that today, we would attribute that to the employment figures and we believe when we see an uptick in employment we'll see a corresponding uptick in our performance from a RevPAR basis driven by more room nights and it's as simple as when people are confident they are going to retain their job and where they get one they travel and when they don't they don't.

So I guess in terms of answering my question, given what we're seeing a 10.2% unemployment, the fact that your RevPAR numbers look better really easier comparisons.

That's exactly right.

Another quick question is to what extent do you pay or used GSDs and to what extent and how much does that cost you and are you looking at more direct connect if you don't already have direct connect?

Yes. GDS which is global distribution, which is primarily travel agents, they are a major distribution for us. Typical cost for a travel agent is 10% and so there are other companies involved in distribution channels whose cost vary from that, but the travel agents are very important part of our overall distribution channel. We work hard to make sure we provide value to them and they're a significant contributor.

And the cost of that gets passed back directly to the franchisee, those fees we paid to the GDS and travel agent gets passed back to the franchisee.

Are you looking to use more direct connect to eliminate that?

Yes, we've done more direct connect over the last couple years. I think that's a process that's ongoing and will continue to do it when it makes sense based upon the volumes that provider delivers to the system.

Thank you very much.

(Operator Instructions). Your next question is from the line of Joseph Gagan with Equity Research.

Two questions. On the cash flow statement and operating cash flow it's a negative $5.2 million for other liability. Does that represent a reserve reversal into earnings? Is that like a bad debt reserve reversal and that's why that's negative or what exactly is under that other liability category?

It doesn't represent a reserve reversal of the full $5 million. There was a small FIN 48 tax reserve reversal during the quarter but it was less than $1 million so the rest of that is more timing of current liability type stuff.

So there's about $1 million in reserve reversals in the earnings?

Yes, we'll come out with our 10-Q, I think it gets filed on Monday that has the exact number but I think it's just under $1 million.

And then earlier, you said that the change in the unit growth was because I guess it was like 30 units or so that you thought were going to be terminated and they weren't terminated, does that mean they were kicked out until next year or what happened with that?

It's probably a combination. Some would move into a future year but some of them as Steve alluded to really reflects the fact that we were anticipating some quality assurance type terminations that didn't take place because the franchisees were able to do what they needed to do to get the property in compliance with our brand standards and remain in the system.

Okay, thank you very much.

Sure.

We have a follow-up question from the line of Michael Millman. Please proceed.

Thank you. What do you assume in your guidance, what are you assuming for these retirement fund gains, not exactly sure what they are but whatever they are.

Yes, we in our outlook for the Fourth Quarter we've assumed no gain or loss on those investments for the Fourth Quarter.

And are they driven basically by the Stock Market?

Yes, it's a mix of equity and fixed income securities call it about 70% equity securities the other 30% are fixed income.

So if the market is up in the Fourth Quarter there should be some gain?

That's right. If the markets go up in the Fourth Quarter you could have a gain and if the markets go down you could have also and a portion of that investment income or loss actually gets offset with an a justment going the other direction for compensation expense for the third quarter I think that year was about $1 million, so about $1 million of investment gains translated to an additional $1 million of SG&A expense in the third quarter so the ratio there is I think somewhere around 1/3 impacts essentially our SG&A expense and the other 2/3 flows through to earnings per share.

So then it was about a $0.04 or $0.05 gain from--

Yes, relative to our guidance I would attribute $0.04 or $0.05 to the performance of those investments.

Thank you, Dave.

No problem.

This concludes the question and answer session. I would now like to turn the call over to Mr. Steve Joyce for closing remarks.

Thanks. We appreciate your participation. We are extraordinarily happy with the performance that we've done to date this year. We've seen our guidance for the remainder of the year and we await in anticipation either opportunity to utilize our capital and help further grow our Company and also hopefully an improvement in the employment statistics over some period of time that will begin to reflect a performance improvement in our properties themselves but anyway we remain poised for any opportunity that comes our way and are optimistic about the growth of our Company and the future. Thank you very much.

Ladies and Gentlemen, that concludes today's conference. Thank you for your participation. You may now disconnect. Have a great day.