Diamondrock Hospitality Co (DRH) 2005 Q3 法說會逐字稿

Good day ladies and gentlemen, and welcome to the Diamondrock Hospitality third quarter conference call. The press release and supplemental disclosure package was distributed this morning, as well as furnished on the form 8-K to provide access to the widest possible audience.

In the supplemental disclosure package, the Company has reconciled all non-GAAP Financial Measures to the most directly comparable GAAP measure, in accordance with Reg G requirements. If you did not receive a copy, these documents are available on the Company's web site at www.DRHC.com in the investor relations section.

Additionally, we are hosting a live webcast of today's call, which you can access in the same section. At this time, management would like to inform you that certain statements made during this conference call which are not historical may constitute forward-looking statements within the meaning of the Privately Securities Litigation Reform Act of 1995. Although Diamondrock Hospitality believes the expectations reflected in many forward-looking statements are based on reasonable assumptions, we can give you no assurance that these expectations will be attained.

Factors and risks that could cause actual results to differ materially from those expressed or implied by forward-looking statements are detailed in today's press release, and from time to time in the Company's filings with the SEC. The Company does not undertake the duty to update any forward-looking statements. I'd like to now welcome management. With us today are Bill McCarten, Chief Executive Officer, John Williams, Chief Operating Officer, and Mark Brugger, Chief Financial Officer.

At this time I'd like to turn the call over to Mr. Bill McCarten for opening remarks. Please proceed.

Thanks Jean (ph). Good afternoon everyone and welcome to Diamondrock Hospitality's Third Quarter Earnings Conference Call. Our third quarter has been very active and productive. We added seven properties to our portfolio, with an aggregate purchase price of $475 million, more than doubling the size of our Company.

We closed on long-term financing, aggregating $202 million, and secured a $75 million line of credit. We also completed the $6 million rooms renovation of our Courtyard New York Manhattan Fifth Avenue on time and on budget. And that's quite a mouthful, so henceforth I think we are going to refer to it as the Courtyard Fifth Avenue throughout the presentation.

I'll take just a few minutes to provide a general perspective and overview of Diamondrock's performance and outlook. Mark will then review our financial performance and balance sheets in detail, and provide guidance for the remainder of the year. John will discuss the performance, outlook, and renovation plans for a number of our individual hotels. He will also touch on our pipeline and the current acquisition environment. Our third quarter and year-to-date results were solid. Third-quarter performance generally fell within the middle to upper end of our previous guidance, and importantly, our hotel portfolio is performing in line with our acquisition underwriting.

Quarterly adjusted FFO was 11.3 million, well above our previous guidance, due in part to the tax benefits in the quarter. Third-quarter RevPAR increased 8.25%. Year-to-date RevPAR increased 10.4%. Remember, that we report on a fiscal rather than a calendar quarter basis, and our RevPAR would have been higher on a calendar quarter basis. Also, because of the timing of our acquisitions, and significant renovation activities, our RevPAR presentation requires some detailed explanation, which Mark will cover in just a minute.

Year-to-date, hotel adjusted EBITDA margins increased a strong 226 basis points. Quarterly hotel adjusted EBITDA margin growth increased 126 basis points, and was constrained by the impact of significant renovation at the Courtyard Fifth Avenue. Excluding this hotel, third-quarter margins were up a solid 174 basis points.

Individual hotel performance varied, with some hotels turning in outsized RevPAR and margin growth, and some dealing with challenges, generally associated with lagging food and beverage results. S&B (ph) negatively impact the total revenue growth and margin expansion. Fortunately, these trends improved in the first operating period of the fourth quarter. We will discuss more details in these issues in just a couple of minutes.

We are very optimistic about the fourth quarter and are confident in our full year 2005 guidance, despite the impact of the Courtyard Fifth Avenue renovation and the planned renovation at our Torrance Marriott. With the completion of the expensive rooms renovation at the Courtyard Fifth Avenue, in time for New York's seasonally strong fourth quarter, we expect outstanding RevPAR and margin expansion at our 2 Manhattan Courtyard properties. We also expect strong performances at Frenchman's Reef and at Vail. Finally, strategic shifts at a couple of properties should improve performance in the fourth quarter.

We currently have about $150 million of investment capacity, assuming 50% leverage. Our pipeline is active. While we are confident that we will profitably invest our capital, current valuations do remain a challenge. Notably, our strategic relationship with Marriott continues to be an important source of attractive acquisition opportunities for Diamondrock. A number of the hotels in our portfolio were acquired based on brand conversion and repositioning opportunities, and we are making significant capital investments in the second half of 2005 and in 2006, related to these opportunities.

While current performance is solid at these properties, we also expect to realize meaningful incremental benefits in 2006 and 2007 from our investment. We are very positive about the outlook for our industry over the next several years. We expect continued demand growth and low to moderate supply growth. Despite some cost pressures, we are confident of continued RevPAR growth and margin expansion.

Mark will now review our third quarter and year-to-date financial results in detail. Mark?

Thank you, Bill. As Bill touched on, Diamondrock has had a very productive quarter, especially in terms of acquisitions and financing. Many of our previously owned properties, as well as recent acquisitions, are still in the early stages of enjoying both the upward trend in the lodging cycle, and our value added strategies. The third-quarter numbers are just starting to tell that story.

Let me jump into the particulars of the third quarter results. For the quarter, the company reported total revenue of $65.4 million, and net income of $2.2 million or $0.04 per diluted share. RevPAR for the 12 hotels increased 8.25%, driven almost exclusively by a 7% increase in average daily rate, including Oak Brook Hills Marriott Resort and the calculation of RevPAR, would lower the increased by 40 basis points.

To avoid any confusion, when we discuss the 12 hotels we are discussing all of our hotels except our most recent acquisition, Oak Brook Hills Marriott Resort, and the newly built SpringHill Suites Buckhead. We excluded these 2 hotels from our performance discussion to enable our investors to compare our performance on a same-store basis, with the guidance we provided at the end of the second quarter.

Additionally, to provide our investors with meaningful comparisons, the discussions of RevPAR and hotel adjusted EBITDA margins are done on a pro forma basis. In other words, assume in that the acquired hotels were earned by the Company for the entire reporting periods of 2005, and the similar periods of 2004. Moreover, the RevPAR results adjust for the out of service rooms at the Courtyard Fifth Avenue. We did not make this adjustment in our prior guidance. The inclusion of the out of service rooms in the calculation of RevPAR would reduce the overall increase of 8.25% by 1.15 percentage points.

For our fiscal third quarter, adjusted EBITDA, we adjust for the non-cash portion of (inaudible) expense was $13.8 million, because most of the RevPAR growth was derived from increased room rate, which is little incremental costs associated with it, we had strong flow-through to the bottom line, which benefits are adjusted EBITDA. Adjusted EBITDA was at the high end of our prior guidance. The hotel adjusted EBITDA margins for the 12 hotels in the fiscal third quarter increased 126 basis points, which is modest compared to the 260 basis point improvement in the prior quarter.

The margins in the third quarter were negatively impacted by the Courtyard Fifth Avenue renovation, which was budgeted and included in our prior guidance. As Bill mentioned earlier, excluding the Courtyard Fifth Avenue, hotel adjusted EBITDA margins are stronger, showing an increase of 174 basis points. Now, looking at adjusted FFO for the third quarter, it significantly exceeded prior guidance, at $11.3 million or $0.22 per diluted share. Adjusted FFO results, similar to the adjusted EBITA results, benefited from the strong flow-through associated with increased room rates, but it was also meaningful impacted by a $1.7 million tax benefit related to our wholly-owned tenant subsidiary.

This tax benefit was higher than previously anticipated, due to assignment of shorter depreciation lodge (ph) to certain FF&E at recently acquired hotels that will undergo renovation in the near future, as well as the way the leases between the tenant and our operating partnership are structured for some of our seasonal properties. Turning to our recent acquisitions, the Company acquired 7 hotels during the quarter, for a combined purchase price of $475 million. We are pleased that we were able to find so many attractive opportunities in this competitive environment for acquisitions.

The 7 hotels include the Vail Marriott Mountain Resort and Spa, the Buckhead SpringHill Suites by Marriott, in the Buckhead area of Atlanta Georgia, the Oak Brook Hills Resort and Conference Center, located outside of Chicago. Upon acquisition we rebranded this hotel as the Oak Brook Hills Marriott Resort and a portfolio of four hotels comprised of the Marriott Los Angeles Airport Hotel, the Worthington Renaissance Hotel, Fort Worth, the Atlanta Alpharetta Marriott Hotel, and the Frenchman's Reef and Morning Star Resort in St. Thomas.

I'd like to touch on the Company's strong balance sheet and recent financings. As of the date ending our fiscal third quarter, the Company had total assets of $891 million, including $33 million of restricted cash, dedicated to future capital improvements at the hotels. As of the same date, the Company had $366 million of total debt. Over 90% of the debt is property specific, long-term, and has a fixed rate of interest averaging 5.5%. $202 million of this debt was obtained in the third quarter, and is secured by individual loans on 3 of our recent acquisitions.

As part of our overall financing strategy, we have left several properties debt free so that we can tap that debt capacity as needed in the future. Moreover, to further enhance their financing flexibility and liquidity, the Company consummated a senior secured revolving credit facility during the third quarter. This facility has a 3-year term, and a $75 million limit, with an ability to increase the facility up to $250 million with lender approval. As of the end of our third fiscal quarter, the Company had only $5 million outstanding under the line.

The outlook for the Company operating results are solid. For the full year 2005, the Company is providing the following guidance; same-store RevPAR to increase in the range of 9 to 10% for the 12 hotels. If Oak Brook Hills Marriott Resort was included in the calculation, same-store RevPAR guidance would be reduced by half a percentage point. Hotel adjusted EBITDA margins for the 12 hotels are expected to increase by 210 to 230 basis points. If Oak Brook Hills Marriott Resort was included in the calculation, adjusted EBITDA operating margin guidance would be reduced by roughly 25 basis points.

Now for the Company's ownership (ph) period of the entire portfolio of 14 hotels, the Company estimates that for the full year 2005, adjusted EBITDA will be between 44 and $46 million, and adjusted FFO will be between 28 and $30 million. Importantly, this full year guidance includes the consequential negative impact from the renovation of the Courtyard Fifth Avenue in the third quarter, and the renovation of the Torrance Marriott in the fourth quarter.

I want to touch on 2006. The Company has just begun its budget process for 2006, and is not in position to provide formal guidance at this time. However, based on initial discussions with our operators, we expect same-store RevPAR to increase 7 to 9%. Overall, we feel very good about 2005, and its implications for 2006. We also expect that 2007 results will be the beneficiary of a number of our initiatives in 2006.

With that, I'd like to turn it over to John Williams, our Chief Operating Officer. John?

Thanks, Mark. I will build on Bill and Marks comments, and discuss in some debt of our portfolio's financial performance and our capital plans and some of our asset management activities. I'll finish up with a brief discussion of our pipeline and the current acquisition environment. Our portfolio is balanced and diversified, and generally located in primary markets with high barriers to entry. Our business mix is balanced at about two-thirds transient and one-third group, and the portfolio has an average RevPAR index of 125%.

Overall, we had a solid quarter, which included 7 acquisitions and completion of a major renovation. We remain on track to report outstanding results for the full year. As previously mentioned, third quarter RevPAR increase by 8.25%, and hotel EBITDA margins increased 126 basis points, despite significant disruption at one of our key properties, the Courtyard Fifth Avenue. Our RevPAR for the 12 hotels reached 10429 in the quarter. Over 80% of our RevPAR increase came from rates, and our rooms departmental profit flow-through was nearly 100%.

With only 14 hotels in our portfolio today, and 7 of those acquired in the third quarter, it's more productive to discuss individual property performance rather than concentrating on systemic trends. However, I want to make four observations about our portfolio before discussing specific properties. First, as Bill mentioned, food and beverage is lagging the strong RevPAR recovery for a variety of reasons. Pro forma food and beverage revenue for the 12 hotels was down 4%, and departmental profit margin was down 100 basis points or $350,000. The shortfall was driven primarily by specific situations at individual properties, and I'll give you a few examples.

At our Worthington hotel at Fort Worth, higher rate of transient demand was very strong in the quarter, which resulted in less group business, and therefore lower catering sales. Also, a restaurant was closed and leased to Sam and Harry's, which is a great decision going forward, but the transition hurt the third quarter operating results. Our Salt Lake City hotel booked rooms only groups in a much weaker 2004 market environment. The catering contribution from these groups was low, yet they occupied the meeting space so we couldn't solicit local catering business. Now, Salt Lake City expects a strong fourth quarter in catering, and still expects to reach budgeted food and beverage sales for the year.

At LAX, the lounge was closed for remodeling, impacting high profit margin beverage sales. So for several different reasons, food and beverage was weak in the third quarter. We believe it was caused by a series of unique events, and does not represent a trend. The fourth quarter will be instructive, in the first operating period of the fourth quarter, food and beverage sales and departmental profit are positive. Second, energy costs have been a topic of discussion, and with very good reason. Energy costs increased 15% year-to-date generally consistent with Marriott's system wide experience. While costs escalation is a concern and has some impact on our margins, energy costs are only 4% of revenue.

Of much greater import, we have not seen any measurable impact on lodging demand from higher energy prices. We continue to work aggressively with our properties and with Marriott on energy management systems, rate locks and other measures to control these costs, and with even with the high energy costs, our 12 hotel portfolio held total support costs to a 3.3% increase in the third quarter, and a 4.4% increase year-to-date on a pro forma basis.

Third, wages and benefits are a major cost category, representing about 34% of revenue. Generally, wage costs are under control and productivity, as measured by sales per man hour, is better than last year in each of our hotels where we have comparable statistics. We do not have comparable statistics for Vail, Oak Brook Hills, or of course Buckhead.The Fifth Avenue Courtyard is our only unionized hotel, with only 70 associates. We ensure that our hotels pay competitive wages and benefits, and we are diligent about surveying wage and benefit levels in all of our markets.

Fourth and finally, we've experienced relatively little direct impact from the Katrina tragedy. Worthington and Buckhead have realized some additional occupancy, and Salt Lake City picked up a displaced group, but both Vail and Worthington lost some group business. Naturally, where we lost group business, we waived cancellation fees. Now I'll discuss the performance at some of our individual properties and at the same time I will cover some of our asset management activities. Five of our properties turned in strong results for the quarter; Courtyard Midtown East, Frenchman's Reef, Salt Lake City, Torrance and LAX. Two properties experienced significant challenges; Vail and Griffin Gate.

Four properties were modestly better; Alpharetta, Bethesda, Sonoma and Worthington. And three properties were not comparable (ph); Courtyard Fifth Avenue, Oak Brook, and Buckhead. As for the strong performance, both the Courtyard midtown East and Frenchman's Reef reported double-digit RevPAR increases, with 12 and 15% respectively, and outstanding margin expansion at 350 and 780 basis points respectively. EBITDA for the Courtyard and Frenchman's Reef was up 25 and 113% respectively. LAX and Salt Lake City had a moderate RevPAR growth, but turned in outstanding margin improvement, up 300 and 450 basis points respectively. EBITDA increased 19 and 20%, and did so despite the food and beverage issues.

As the two challenging properties, Vail had a disappointing quarter, with RevPAR down 10%, and EBITDA down $450,000, in a seasonally slow summer period. Vail was negatively affect it by the significant construction taking place near the hotel Lionshead, as well as renovation of meeting space and the spa and fitness center in the hotel. Meeting planners are hesitant to aggressively booked groups during the off-season construction periods, and this is likely to be an issue during the off-season at Vail for 2 more years. Lionshead construction is scheduled for completion in May of 2007.

Now, keep in mind nearly 90% of Vail's profits come and ski season, from December to March, and we expect limited construction impact and another strong ski season. Moreover, we believe that the redevelopment of Lionshead will add tremendous value to the property when it's completed. Griffin Gate revenue was up only 2.7%. Moreover, RevPAR was flat, with higher rates being offset by lower occupancy. The property is facing very tough comparison with last year, as 4100 room nights (ph) from two film crews hit in the third and fourth quarters of 2004, and were not able to be replaced. Griffin Gate is also experiencing lower transient demand from a cut back at Lexmark and slower government demand.

We are currently evaluating a small spa addition in existing space in the hotel to enhance its group and weekend transient position. The property's group sales pace for 2006 is ahead of last year. As to the remaining comparable properties, the Lodge at Sonoma reported a very strong 17% RevPAR increase, with solid increases in both rates and occupancy in the recovering San Francisco Bay Area market. Transient demand, group demand, and rate growth have all been strong for the year. However, the property must focus on higher value groups with stronger food and beverage components.

The 2006 booking pace is up in room nights by 34.5% at an average rate 865 higher than last year. This higher group demand will create further compression and will allow us to drive transient pricing. Additionally, we will construct a seasonal banquet facility for the November through May wet season, which should improve catering sales. And finally, we have revised that a very minor cost, the menu for the restaurants, which has incurred some introductory costs, but should improve sales volumes for the balance of 2005 and 2006.

Bethesda Suite provides a good example of the benefits of aggressive asset management. In the third quarter we've been able to reverse some negative trends that began early in the year. Late last year and prior to our ownership, property management made a strategic decision not to renew special corporate contracts with two large customers, believing that market demand was strong enough to offset the lost business. Well, the strategy came up short. Our asset manager, working with property management identified and worked to solve the week third quarter booking pace and soft corporate demand, by implementing a weekend discount program to stimulate Thursday through Sunday room nights. While further improvement is needed, the RevPAR trend is improving. RevPAR increased 9.4% in the third quarter, and EBITDA was up of our internal budget.

As to the 3 noncomparable hotels, we've told you that the Courtyard Fifth Avenue was significantly impacted by the major rooms renovation in the third quarter, during which a rolling one-third of the rooms were out of service. We estimate, based on pre-renovation operating trends, that the EBITDA impact was likely in the $1 million range. It was that high because the hotel had been operating at nearly 90% occupancy in the strong Manhattan market. Importantly, the renovation was completed on time and on budget, and in time for the strong fourth quarter in New York.

Post-renovation trends are strong, as RevPAR in the first operating period of the fourth quarter was $216, which is up 55% over last year, and 30% over budget. The property reports having several nights of $400 plus average rates already on the books for the fourth quarter. We are excited about the prospects of our 2 most recent acquisitions; the Buckhead SpringHill Suites, and the Oak Brook Hills Marriott resort. Buckhead opened in July and is building occupancy, and just signed a FEMA contract, which should provide 50 rooms per night for several months. It's a great product in a very prominently and well located hotel in the strongest submarket in Atlanta.

Oak Brook Hills is a convergent from an undercapitalized and under marketed independent, and will benefit from Marriott's powerful brand recognition and sales organization. The property's performance declined precipitously over the past year, as it was marketed for sale for an abnormally long time. As the sales process dragged on, management defected and were not replaced, and the sales and marketing effort was virtually nonexistent. Therefore, current comparisons are difficult and not particularly meaningful. The conversion (ph) to Marriott management and system, did not take place until the middle of the third quarter.

As Marriott's group sales efforts take hold and we complete renovations over the next 2 years, we believe that Oak Brook Hills will be a top performer and a portfolio. We expect stabilized unlevered yield for the property to exceed 12%. Now for our capital projects. Over the next 18 months, a number of major capital projects are planned that will enhance the value and performance of our portfolio. Final capital budgets for 2006 will be finalized over the next 2 months, but some of the major projects include the following; we've begun renovation at the Torrance Marriott and includes guest rooms and guest room bath renovations, ballroom, meeting space and lobby renovations.

Importantly, we believe that we can drive meaningful additional revenue by converting an antiquated lounge concept to a much-needed catering space, and opening a Starbucks in the lobby. This project will cause some disruption, and we estimate an impact on EBITDA of about $400,000 in the fourth quarter of 2005. The impact has been included in our 2005 guidance. The overall project at Torrance will be completed in the second quarter of 2006.

At our Salt Lake City hotel, we are converting 1800 square feet of unused space off a lobby to additional meeting and banquet space. We project 38% internal rate of return with virtually no disruption for this project. We will complete a $4 million rooms and public space renovation at the Courtyard Midtown East in the first quarter. We are confident that in the Manhattan market we can drive rate with an improved rooms product. We will complete a $5 million guest room renovation at the Bethesda Suites in the first quarter in 2006. We are also converting 2 unappealing last sell suites to much-needed meeting space. We believe the renovation will position the hotel to compete more effectively for higher rated corporate transient and group business.

We have a number of projects that are underway or in the planning stages at LAX, including ballroom renovations, conversion of a former specialty restaurant to a junior ballroom, and a potential acceleration of a guest room soft goods (ph) replacements and bathroom renovation. And finally, as I've discussed, we are planning a major renovation at Oak Brook Hills over the next 2 years, to position this property to be one of the premier regional resorts and profit centers in the Midwest. The work at Oak Brook will include exterior lighting and landscaping, remodeling and reconfiguring the lobby, renovating the meeting and banquet space, renovating the guest rooms and guest room baths, and possibly adding a spa in some currently underutilized space. This work, and this is important, can be isolated by area and it can be completed in the slower winter and early spring seasons over the next 2 years to minimize lost business.

The property has already enjoyed significant midweek transient pickup as a result of the Marriott reservation system, and the group sales pace and the reaction from meeting planners has been very encouraging. We are very confident that we've created a valuable portfolio of hotels and that our planned capital investments in asset management activities will enhance its value. Our fourth quarter looks strong and we remain confident of our 2005 guidance. We strongly believe that our portfolio and capital strategy will produce strong growth in 2006 and outsized growth in 2007 as our portfolio approaches its potential returns.

Now, I'll finish up with a brief discussion of our pipeline. We are looking closely at several opportunities, but we need to be very disciplined in light of the aggressive pricing in the market today. Our sourcing relationship with Marriott continues to provide us with a number of valuable opportunities. About half of our initial 14 acquisitions have benefited from this relationship. Our portfolio has been acquired at an average 2005 projected EBITDA multiple of only 10.3 times, excluding of course the Buckhead SpringHill Suites, which just opened in July.

Finally, we just signed a contract for the acquisition of a property which never went to market because of contractual rights held by Marriott and conveyed to Diamondrock in keeping with our strategic relationship. We are in the due diligence phase and assuming due diligence confirms our underwriting, we expect to close on the acquisition within the next 60 days. We are very confident that we will utilize our remaining investment capacity in an accretive and timely fashion.

With that, I'll turn the callback over to Bill.

Thanks John. It's really been a very busy and productive year for us thus far. As we look ahead, we are optimistic that we can continue to follow through on our strategic initiatives, and present new opportunities to maximize shareholder value. The lodging recovery remains strong, our portfolio is performing well, and we have an investment capacity to continue to grow in a disciplined fashion. With that, we'd like to open it up to questions.

[Operator Instructions].

We have a question on the line from Mr. Will Marks, with JMP Securities.

Yes, good morning Bill, John, Mark. Or I guess it's afternoon there. A question on the CapEx. You mentioned -- I think you mentioned a restricted cash figure of 36 million. Is that correct?

$33 million.

33 million? And does that take into account all the projects that you discussed?

Now, there's $33 million today and those are property specific escrow accounts, you know, (inaudible) accounts either with the manager or with a lender who may have a particular loan on that property. Some of those are applicable towards some of the capital projects that John mentioned, some are being held for future rooms redoes, which may be in '07, '08 timeframes, and they are building up. I think this year we are looking to spend $35 million, and a significant portion of that has been pre-funded --

And how much of that has been spent already? You said 35 million --

We spent -- end of the quarter in cash we've spent 9.6 million.

9.6 of the 35 you've already spent?

Right, and we probably incurred another 3 million. And some of that will spillover. Those are our '05 CapEx projects (ph). Some of those are going to naturally spillover into the beginning of '06 as well.

And then in '06 what is an estimate on CapEx spending, would you say?

There's a number of moving parts. We are trying to finalize our CapEx budgets over the next 2 months, to get them improved by the Board in December, but there is a couple big projects that we are considering accelerating, considering the timing between '06 and '07, so it's really going to vary there. And John touched on a number of the projects --

If you take all the projects that John mentioned, what would you say the total CapEx for those is?

John, you probably should handle that.

Some of them you mentioned figures and I think others you didn't.

Well, Will, you know, we haven't bid these projects out. We have -- I mean we haven't approved any specific budget for 2006. If we were to do all of the projects we talked about, without giving a timeframe, the estimate is about $50 million.

Okay, right. And just one other unrelated question. On those 7 to 9% RevPAR growth, you know, preliminary thoughts on '06, that concurs with what we heard from Host (ph), and what we heard from Marriott, and I'm just kind of curious what -- we are hearing that as a figure for corporate negotiated rates and how do you get comfortable with the rest of your business coming in at -- with that kind of growth at this point?

Well, I mean, you know, with respect to group business we have either definites on it or tentatives that are on the books and we know the average rates that those definites and tentatives included. We can see sort of trends for example in Sonoma I mentioned we've got a great group base built-up for next year, and that will allow us to drive transient revenue. We can't tell you precisely how much, but we feel comfortable that it will be significant. And we can see trends in New York, Washington, the Worthington hotel, so with the business that we have on the books, and the reservations that we have, we estimate that that 7 to 9 will be achievable.

Great, that's very helpful. Thanks guys.

Thanks Will.

Sure, Will.

We will take our next question from Justin Maurer, Lord Abbett. Please go ahead.

Good afternoon guys.

Hi, Justin.

Mark, just relative to the tax benefit, is that just a onetime deal?

Well, the way that the tax benefit works is we have -- a lease is set with our -- between (our tenants and our operating partnership, and the expense or the benefit varies depending how each individual property may into versus the pre-established rent, so it's going to vary quarter to quarter. You know, I think in the fourth quarter we probably have about $600,000 of tax benefit coming in, but I would expect, given the strong performance in Q1 of '06 that probably -- it's tough to predict this until we finalize our budgets with individual properties, but I wouldn't envision a big tax benefit in '06. But again, I think we need to get better visibility as we refine the individual property budgets before giving you an estimate.

How does that money flowed back and forth? Not back and forth, but how does that money flow to you guys?

The tax benefit?

Yes.

There's a difference between booked tax benefit and the cash tax benefit because we carry forward some of that benefit, but you overall, we are not going to -- at our tenants subsidiary, which is the only taxable entity we have, this year we won't be having to pay taxes there, and then some of that benefit again on the tax base, not necessarily the book number, carry forward to next year.

I got you.

(inaudible)

Justin, if I could just pop in. On an annual basis I mean the leases are theoretically structured to generate taxable -- a minor amount of taxable income, to create a market base for our lease, so over a full year, there will be -- there's very likely to be some level of tax, so a lot of this is really timing, and the seasonality of our businesses.

Yes, okay. Just relative to incentive fees, what level are you guys paying today in terms of number of properties or what do you see for kind of balance of this year and '06?

We are in the incentive fee probably in 2 properties. The Bethesda Suites will pay an incentive fee this year --

Might get the Courtyard Third Avenue.

And may get there in the Courtyard Third Avenue, and LAX will pay an incentive fee this year.

And Justin, a number of our properties have new management agreements with Marriott, and just kind of as a rule of thumb, about -- they don't get an incentive fee until we get a 10.75% unlevered return on our total investment, including capital we put into the hotels. In those new agreements kind of get at (ph) where you're buying cap rates (ph) and you would expect to be over that unlevered yield in the first year or so.

Right.

I don't think our total incentive fees this year are going to exceed .5 million.

And you guys -- are you guys able to reach that though in each case? Have you done so far?

I think we assumed maybe -- 14 hotels we assumed about 5 at the management agreement, and 6.1 was officially redid (ph), but kept the old economics at the Bethesda. So where they have existing management agreement, it really depends case-by-case what's going on there. At Torrance, for example, we ripped up the old management agreement and entered into a new management agreement, so in that case, we did, but only four packs (ph) that we bought from -- which included LAX and the Worthington that I mentioned before, those, we took over the kind of existing IMF (ph) or extended management fee structure.

Yes, because that's generally been the case, right? The other ones you've mentioned are ones that you guys had purchased in conjunction with them, but were independently flagged.

That's right. Or you know, for instance, the Third Avenue Courtyard, which we bought out bankruptcies which they assigned to us, we entered into a new management agreement.

Right, okay. Just relative to last quarter and discussing RevPAR and kind of margin flow through, any reason as to why you guys decided to then isolate what -- how many rooms -- like you (ph) renovated and therefore pulled it out of RevPAR? Hindsight 2020 I guess.

I think it's a little bit of that. We spent some time studying, what's the uniform system of accounts, and we've also (ph) look at what all of our peers were doing, and that seems to be the more common convention, so we decided to report that way, and going forward, we will report that way making adjustment (ph) for unavailable rooms.

Yes, right.

I mean some large systems I think I've noted they may actually exclude properties that are undergoing major renovation, but with 14 hotels, and a lot of construction activity, we'd be excluding a lot of hotels (inaudible) I think what we came up with is the appropriate way to do this.

Yes, but you can only obviously isolate it to the rooms, in fact, not to the common areas.

Well, and that was the point, you know, John was making on Fifth Avenue. While it's a rough estimate, based on the operating trends that were going on the New York at that property pre-renovations, we are thinking that the impact might have been $1 million of EBITDA

Yes.

Now, the good news there it's just a really hot market, and that's why it was so high, because the occupancies are running close to 90%, and, that's painful, but the good news is it's a great market and its back on track, and it's going to be great.

Yes, okay. And then just lastly, the comments you made about the Marriott due diligence you are currently in, is that just order of magnitude? You mentioned 150 million of capability. Is that -- does that take half of it potentially? Or a third or-?

Roughly one-half.

Half of it okay, all right. Thanks guys.

Thanks, Justin.

Sure.

We will take a question from Gustavo Sarago, Friedman, Billings, Ramsey. Please go ahead.

Bill, John, Mark, just to kind of touch on Justin's question, can you give some more color on the profile of the asset? Is it CBD, suburban, value add, seasoned type asset? And maybe kind of pricing, where you see pricing coming out?

I think we would rather not on any specific asset at this point.

Okay, so no color on whether it's a CBD or a suburban asset or if it is a value add type investment, similar to Oak Brook.

Not right now.

Okay. Just kind of looking at some of the individual property detail that you provide, which is great, the Courtyard Manhattan Midtown East, you know, running at almost 89 -- 88% occupancy, are you guys looking to maybe sacrifice some are occupancy so you can drive more rate at that property, given some of the trends that you just talked about in your prepared remarks?

Well, at Midtown East, we think that with the rooms redo we are going to be able to drive a substantial amount of rate next year. It doesn't -- it's not a situation where you raise rates necessarily and runoff occupancy. The trick is to maximize those or get the best yield management out of the hotel. We think they are doing a great job of maximizing occupancy and rates. In the summertime, of course, you have to take some lower rate of business, but in general, -- and our weekends, but in general, we think the yield management in Manhattan is really spectacular.

Okay. All right, thanks guys.

Thank you.

We will take our next question from Bernard May (ph) of Haven Funds (ph).

Yes, hi. Can you talk a little bit more towards your experience in the fourth quarter of the Courtyard East? You talk to little bit about where it was relative to, you know, last year, and then (inaudible) Fifth Avenue, versus your budget? Can you do the same thing for the core W (ph) please?

It's a little hard to hear you, but I think you asked -- I think what you are driving at is the comparisons are going to get tougher in the fourth quarter in Manhattan?

Not necessarily, just wanted to see you know your experiences actually were in the Courtyard East, whether those were you know along the similar lines of being you know 30% over budget or what kind of ADRs we are looking at there? And also, maybe if you can touch little bit for both of those assets, into '06, once they've fully -- (inaudible) Marriott franchise, and have the benefit of renovations. You know, I would expect that there is quite a bit of growth there.

Well, with respect to Midtown East, of course, that property has a longer operating history, so it's budget was more accurate I would say then the Fifth Avenue conversion. The Fifth Avenue conversion budget was somewhat conservative, and we took that into account when we did our forecasts.

We see tremendous upside in rate and Fifth Avenue, because they are starting at a relatively lower level. If you look at the RevPAR of Fifth Avenue, which is a smaller hotel than Midtown East, it's lower than Midtown East, and it really shouldn't be. It's just as good a location, smaller hotel, great product, so it should surpass the Midtown East RevPAR. Midtown East RevPAR of course will be impacted by the first quarter renovation, but we see upside there in rates.

Okay. Thanks.

This is Mark. Justin put a little bit more color in it, Fifth Avenue last year, when it was an independent hotel, in the fourth quarter ran a RevPAR of about $150. I expect to see that in the fourth quarter, just on some of the preliminary bookings that we have, 50 to $75 higher than that, enormous growth. And then in the third Avenue hotel, had ran about 215 last year, and I would expect to see at least $30 of RevPAR increase there. So still 15, 16% in the quarter.

Okay, that's helpful. Thanks.

[Operator Instructions].

We will take a follow-up question from Mr. Sarago. Please go ahead.

Yes, another question for you John. Earlier today, LaSalle (ph) had their call and one of the trends that they noticed or mentioned was that booking patterns are maybe shifting back to kind of historical trends, where you are seeing longer lead times. Is that the case? Are you seeing that in your business? Either on the transient side or on the group business, earlier bookings?

Well, it's certainly -- it's certainly longer lead time than it was. All of our group oriented properties are showing increased booking pace for next year, which part of that is the improved business environment, but part of it is that groups are booking further out. And of course that's good because you can yield manage your hotel better, you can try and get groups that have a higher food and beverage contribution, and you can just generally plan much better, but yes, in general, we are seeing the same sort of trend. I'm not sure it's far enough along as we would say that it's back to normal, or back to 2000 levels, but it's certainly getting longer.

Okay, thank you.

And I see no questions at this time, folks.

Okay, well thanks again to all of you for your continued interest in Diamondrock. We are committed to consistent and open communications with all of our shareholders, and we look forward to talking with you again on our third quarter conference call -- fourth quarter conference call I guess.

Thank you.

Ladies and gentlemen, thank you for joining us on the call. You may now disconnect.