Summit Hotel Properties Inc (INN) 2011 Q3 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the third-quarter 2011 Summit Hotel Properties earnings conference call. My name is Chantalay and I will be your facilitator for today's call. At this time, all participants are in listen-only mode. We will be facilitating a question-and-answer session towards the end of this conference. (Operator Instructions). As a reminder, this conference is being recorded for replay purposes. I would now like to turn the presentation over to your host for today's call, Mr. Dan Boyum. Please proceed, sir.

Thanks, Chantalay. Good morning, everyone and welcome to Summit Hotel Properties third-quarter 2011 earnings conference call. Today, I am joined by Dan Hansen, our President and Chief Executive Officer, as well as Stu Becker, our Executive Vice President and Chief Financial Officer.

If anyone has not received a copy of yesterday's press release, please visit our website at www.shpreit.com or call me at 605-782-2015 and I will e-mail copies to you.

Before we begin, I'd remind everyone that many of our comments today are not historical facts and are considered forward-looking statements under federal securities laws. They may not be updated in the future. These statements are subject to risks and uncertainties described in our securities filings. Also, as we discussed, certain non-GAAP financial measures may be helpful to review the reconciliation to GAAP in our earnings press release. To begin our discussion of our third-quarter results, please welcome President and Chief Executive Officer, Dan Hansen.

Thanks, Dan. It has been an exciting and busy year so far. We have seen the typical challenges all our peers face in the lodging industry, as well as a few unexpected obstacles. We are confident that our third-quarter operating performance clearly demonstrates that we have met those challenges and that we remain focused on our simple strategy of growth through recovery in our seasoned portfolio, outperformance in our unseasoned portfolio and through accretive acquisitions.

We are encouraged by the lodging fundamentals and are looking forward to the fourth quarter and especially 2012. We understand why investor sentiment has grown more cautious, but we trust in the disciplined, proven strategy that built this company and we are confident that this strategy will continue to provide solid returns for our investors.

I will share a few of the reasons we are enthused about the coming quarter and year. First of all, since our IPO in February, we have acquired five properties with a total of 567 rooms at an average cap rate of just over 10%. We have a pipeline of very attractive targets and we will continue delivering on that strategy. We remain, as always, very disciplined and deliberate in our approach. We are not buying just to add scale; we are buying to create value. The math has to work. That is how our portfolio became what it is today and that is how our portfolio will continue to grow.

On October 25, we successfully completed a preferred stock offering. We raised nearly $50 million, which will further enable us to execute on our acquisition strategy. We were quick to put under contract two Marriott properties in top 50 markets -- a Courtyard by Marriott in downtown Atlanta at a cap rate in the 8% to 9% range and a Residence Inn by Marriott in downtown Kansas City at a cap rate between 9% and 10%.

Secondly, the performance of our unseasoned properties continues to track with our stated goals. These are properties that were built or underwent major renovation at or after the last peak of the cycle and they continue to show outsized growth.

In the third quarter, RevPAR in these properties increased 14.9%, excluding the rebranded Choice properties. Our seasoned portfolio, which consists of those properties we have owned throughout a complete cycle, is still poised for growth. It underperformed the industry, but it is important to note that six of our historically most consistent properties were under renovation and we estimate an effective approximately $300,000 in lost revenue due to rooms being out of service. Our portfolio as a whole, excluding the 11 rebranded Choice properties, delivered a RevPAR increase of 6%.

The first of the challenges I mentioned earlier is the damage and disruption caused by the termination of 11 of our Choice properties. The third quarter offered us continued clarity on the effect to operations. The effect for the third quarter for these hotels was $0.03 per share in FFO. This was slightly less than the $0.04 per share in FFO we outlined in the second quarter and consistent with our view that this will diminish over the next several quarters.

The second component of damage is the collective loss of value of those 11 hotels given the franchises that were terminated. While we will be able to fix the operational effect over approximately a 12-month period, the loss of the Choice franchise on several of the hotels will affect the long-term value of the hotel.

These two components, the operational loss and the loss of value, are part of the arbitration with Choice hotels we have scheduled for December. We hope to have a resolution in January.

To make sure we have been clear in our message, the effect to FFO is expected to diminish in 2012, driven primarily by the strength of three of the converted Cambrias. This is consistent with our thesis of upgrading our hotels to the best brands in the best markets. Three of the former Choice properties are expected to stabilize through 2012 at respectable levels reducing the operational impact.

Lastly, without a clear trend, we must now assume the five Americans and the San Antonio Country Inn and Suites may never stabilize at levels or values as the previous brands. We expect full compensation for this damage from Choice.

As for the rebranding of the 11 properties, that process is nearly complete. Five properties that were converted to the American brand have undergone lobby, common area, as well as upgrades to guestrooms, including mattresses, televisions and lighting. We were able to secure comparable brands on three of the properties; however, these conversions involve significant renovation.

The first of these projects was completed last week. The Charleston, West Virginia property has been converted to a Holiday Inn Express and two others to be converted to the Fairfield Inn & Suites brand and we would expect to see those projects completed in the second quarter of 2012.

The four former Cambria Suites have undergone minor renovations to remove or change signature elements and are operating at the Doubletree by Hilton in Baton Rouge, Country Inn and Suites in San Antonio, Holiday Inn in Boise and Spring Hill Suites by Marriott in Bloomington, Minnesota.

The Boise, Idaho Holiday Inn and the Bloomington Spring Hill Suites have both had a few months of operations under their upgraded brand and give us the best indication of the positive effect of this rebranding. The Boise Holiday Inn converted on May 2 and has shown an 18% increase in RevPAR. The Bloomington, Minnesota Spring Hill Suites converted on June 24 and has shown a 30% increase in RevPAR.

Another challenge we faced was the change in management of our 65 properties at our IPO. We discussed the challenges this change brought in our last call and we continue to see improvement across the board and our performance reflects that. We are confident in our ability, as we6ll as Interstate's to continue improving and streamlining the operation.

Now to discuss details in our balance sheet and financials, please welcome our Executive Vice President and Chief Financial Officer, Stu Becker.

Thank you, Dan. Third-quarter revenues were $42.3 million, an increase of 12.5% over the same period last year. FFO came in at $8.4 million, or $0.23 per share. RevPAR for the portfolio as a whole increased 3.8% and hotel margins were 31.9%, a decrease of 3.6%.

Let's take a look inside our numbers. Our total number of hotels is now 70 properties -- the initial portfolio at the time of our IPO of 65 properties plus five acquisitions we have made year-to-date. The 3.8% increase in RevPAR includes the initial 65 properties, but excludes the five acquisitions. We believe a more meaningful picture of our RevPAR excludes the 11 rebranded former Choice properties. We have discussed and identified these properties in the past as our same-store 54. This group of hotels produced a RevPAR increase of 6% for the third quarter.

A further breakdown of that same-store 54 shows that 15 unseasoned properties had RevPAR growth of 14.9% and the 39 seasoned properties had RevPAR growth of 1.2%. As Dan noted, 6 of our seasoned hotels were under renovation during the third quarter.

We are encouraged by overall results, especially the consistent mid-teens growth that the unseasoned properties are showing. These hotels represent the newest properties in our portfolio and are the most similar to our five properties recently acquired, as well as future acquisitions we have under consideration.

Regarding hotel operating margins, our operating margins for the period for our entire portfolio contracted by 120 basis points and contracted by 30 basis points on our same-store 54 as compared to our predecessor for the same period in 2010.

The reason for the contraction is related to our transition from a private company to a public company. As a private company, we owned and operated our hotels at cost. Management, along with our investors, participated in profits as a managing member. As a public company, management, accounting and related expenses are outsourced to third parties who have a profit motive.

Additionally, at the execution of our IPO, two franchisors amended franchise agreements with our Company, which negatively affected ongoing royalty fees to our franchisors. Adjusting for these expenses, our operating margins for our total portfolio would have expanded by 110 basis points and our same-store 54 operating margins would have expanded by 200 basis points when comparing current to prior-year operating performance. The effect of converting from a private to a public company will no longer be meaningful beginning second quarter of 2012. We are confident we will see much better margin comparisons.

As we discussed in the past, we look at capital allocated towards property improvements the same way we look at capital allocated towards property acquisitions. We need to be able to demonstrate significant returns on investment. It is with this mindset that we continue with our strategy of upgrading our properties with capital renovations.

As the industry outlook continues to improve, our investment in property improvements will allow us to capture maximum RevPAR growth. Newer and cleaner wins every time. During the third quarter, we capitalized $10 million in improvements. We completed renovation of two properties. We completed a third shortly after quarter ended and renovations continue on six additional properties. We anticipate completion of these six properties by first quarter 2012. As Dan mentioned earlier, the process of rebranding the former Choice properties is nearly complete.

Third quarter was busy on the capital markets front as well. We have modified approximately $45 million in loans with Bank of Cascades and General Electric Capital Corp and have entered into a commitment to refinance or modify an additional $67.5 million in existing loans with ING. The approximately $113 million of refinanced or modified loans are part of the plan we discussed at our IPO of structuring and laddering our existing debt to manage interest rate and maturity risk.

At the end of the third quarter, we have total debt outstanding of $257.6 million. Of this total debt, $50.2 million was outstanding on our senior secured revolving credit facility. Shortly after the end of the third quarter, we successfully raised $48 million in net proceeds from our first preferred stock offering. The majority the proceeds of this offering were used to reduce the balance on the revolver. As of today, we have $84.2 million available on our credit facility. We remain committed to our discipline of maintaining reasonable conservative leverage.

Last quarter, we provided FFO guidance for the remainder of the year. We indicated that we would expect 2011 FFO to come in at a range of $0.72 to $0.77 per share. Our prior guidance did not assume the preferred offering and its immediate effect on FFO for the balance of the year. We feel more comfortable with offering guidance for our 2011 FFO in the range of $0.71 to $0.74 per share.

Thank you, Stu. And thanks to all of you who took the time to join us today. As always, we welcome your questions, so let's open the lines.

(Operator Instructions). Dennis Forst, KeyBanc.

Good morning, everybody. I wanted to ask about the press release yesterday -- the two acquisitions and the one disposition. Do you have timing on when you will complete the two acquisitions?

At this point, there is a couple small due diligence items we are finishing up there. We are estimating either December 31 or mid-part of January depending upon the seller's need for taxes.

Okay. Is it the same seller?

No, but it is one of the things that have allowed us to be aggressive with pricing and terms is their need to manage their tax liabilities.

Okay, and those will be managed by Interstate?

No, those are actually managed by Marriott.

Both of them will be managed by Marriott. Okay. And then on the disposition, when will that be completed?

We were originally under contract to have that sold in February, but, just to be clear, these smaller transactions sometimes take different turns in the negotiations. So we still have a long way to go. So I would say it is more likely towards the end of the first quarter, beginning of the second quarter.

It's a tiny property and probably irrelevant to the income statement, but, Stu, will that be considered a discontinued operation and not included in the income statement's detail?

Yes.

Okay. And then lastly, where did you source these acquisitions?

These are -- one is an owner we know very well. We have purchased a property from before. The other is -- there is a broker that is very strong in the Midwest that brought us the deal. So these were, I would say, direct kind of limited bid where there were no other buyers.

Okay. And then it seems like a little different strategy for you getting downtown major market properties. I think Atlanta was $190,000 a key. That is a little bit outside your historic comfort range. Can you talk a little about your strategy there?

Sure. We don't really underwrite based on a per key value. Per key for us is really a check and balance versus replacement cost. If you look back at our acquisitions, we will have purchased between $50,000 a key and now $190,000 a key. For us, it is the underwriting yield and we didn't look at Atlanta for any other reason than it underwrote consistent with our parameters.

Atlanta is -- obviously, it's a top 10 market, but we didn't pay a low single digit cap rate just to be in that market. It underwrote to a mid to high 9% cap -- or a mid 8% to 9% cap, which we feel very comfortable, which meets all our criteria, whether it is Atlanta or Kansas City or Denver.

So we don't consider that a stretch at all. It is 150 rooms. We run it just like we run our other 150 room Courtyards. It happens to be downtown, which is great, high barriers to entry. The replacement cost is obviously much higher and Kansas City is a little bit of the same issue. That came to us essentially off market with an opportunity to get to a place where there are more significant barriers to entry than many other markets around the country. So we look at a variety of factors and these are effectively right down the fairway and right in our sweet spot.

Terrific. Thanks for the answers.

[Tallus Von Sturdaheim], Deutsche Bank.

Hi, it's [Clouse] actually. Can you -- the preferred offer, that was, obviously, more expensive capital than the bank line, so can you just -- why did you do that?

Sure. We looked at the runway in front of us and with the great number of acquisitions we had and our ability to buy stuff in the 8.5% to 10% cap range, we felt it was a good use of capital. And when you combine that preferred offering with our line of credit, we get a weighted average cost of capital that makes everything we buy long term very, very accretive. So we thought, in this environment with so much volatility, if we had the opportunity to give us capital that would increase our runway and ability to execute our strategy over a longer period of time, it just made a lot of sense for our shareholders.

Mike Salinsky, RBC Capital Markets.

Good morning, guys. First question, just in terms of sticking on the transactional topic, are you guys marketing any additional assets for sale right now?

We are in the process of evaluating our portfolio. We had talked previously about recycling capital and we are putting together a list of hotels we will have held for sale and strategically dispose of them over the next 18 to 24 months. So consistent with our strategy, we are always trying to have best brands in the best markets and those that we don't feel offer the long-term growth potential will definitely be listed for sale. So a little bit of a long answer, but, yes, we will be putting together a strategy for disposition over the next quarter or so.

Okay, that's helpful. Second of all, can you touch a little bit just on the pipeline, what you are seeing in terms of pricing and also in terms of competition, whether you're starting to see more people going after these in terms of the bidding process?

We didn't have any other bidders on the two properties we have now under contract. We have several others in the pipeline that we lost out to to a private equity firm that have come back to us. So we are still in the markets, predominantly that 10 to 50 MSA markets, that there just are no other buyers. So as of yet, we haven't run into any competition. I am not saying that we won't, but we have got a pretty good runway of ability to have aggressive pricing and a lot of deals thrown at us.

The sheer numbers start to get a little bit ridiculous. We are not tracking every deal that comes across our desk anymore. At some point, we have got to stop doing that. But we do see several deals a week that come to us that fit our initial underwriting parameters and we keep at least a dozen in play that we have done due diligence on and underwriting and they get stack-ranked based on the opportunity and the return expectations. And when we feel there is capital available and it meets all of our underwriting criteria, we will go forward with those.

So the preferred offering has helped give us a little bit more clarity and runway so we can do a little bit more strategic planning. We expect to get back on a consistent path of acquiring. So there is still no slowdown in the number of acquisitions we are looking at and the actual pricing has probably gotten maybe a half a turn, maybe a full turn better on cap rates, not significant, but it has allowed us to be a little bit more aggressive to go after stuff.

Great. That is great color. Third, Stu, not to leave you out here, in terms of renovation spending, can you give us an update what your plan is for 2011? And also just as we think about for 2012 given the acquisitions, what is kind of -- if you are just looking at it from a source and usage standpoint, what is kind of the preliminary numbers in terms of spending plans for '12?

Yes, I think for '12, we think that is probably in that $20 million to $25 million range. We have to do some -- we have got some work on acquisitions that we will do some renovation too. We have got some of our seasoned portfolio that we want to do some renovation work on it and we have got a couple of those properties that we are converting from Choice, rebranding them completely to Fairfield.

So we will continue to be very active in '12 and I think that $20 million to $25 million range is a good number. This is probably an 18-month window out, not necessarily 12 months, because if we time it based on when those properties are on the off-season, that is a good look for a future look.

Okay, that is helpful. Then, finally, can you just give us an update on how the portfolio performed in October and also in terms of anything you can provide on forward transient demand and corporate negotiations would be helpful as well?

Don't really have any forward-look necessarily on October, nothing I can provide for you for anything we have released. I guess we have not seen -- and as we have talked about in the past, we are not really a group booking group. Transient is more how we look at things. And we have not seen a particular falloff in the latter half of this year relative to that transient business.

Okay. And then corporate negotiations for 2012?

They are a little bit better. We are in a lot of different markets, so they are all over the board, some better than others, but it is positive.

So better than last year's increases or --?

Probably more flat, along the lines of last year's increases.

Okay, that's all for me, guys. Thank you.

Daniel Donlan, Janney Capital Markets.

Thank you and good morning. Happy Veterans Day as well. What are the potential outcomes of the arbitration? And I guess if you could give us clarity on how much you are actually seeking.

You never really know what is going to happen in arbitration. I think we have outlined our damages in the past. I think Choice would expect $3 million to $5 million of liquidated damages. Our claims are obviously north of there.

Okay. And then just moving to the recently acquired assets or the assets you have under contract, what is the trailing 12-month cap as of, call it, the end of October before your anticipated renovation costs?

Relative -- on the acquisitions you are referring to?

Yes, the Atlanta one and then --.

The Atlanta one is a difficult one. That is a new property that opened up in January, so it really doesn't have a trailing 12 to it. The Kansas City one, I don't know if you can speak to that, Dan, but I think that is about a 7.5% or 8%.

Yes.

I think we were assuming -- we are assuming in line with kind of people's expectations on a forward look a RevPAR growth of that 5% to 7% is what our assumption is in '12, so, in fact, that ended '11 I guess.

Okay. And then this Residence Inn, when was it built? Is it a gen 1, gen 2, gen 3?

Yes, it's actually -- that is a good question. It is actually a gen 1, but it has 16 years left on its franchise, so there is plenty of runway. No other opportunity really to build in downtown Kansas City. It is across the street from the Federal Reserve Bank and all the museums there. So there are two components, real areas in Kansas City -- the Plaza and downtown -- and downtown really doesn't have a lot of competition, which is why we like it.

Okay. And then just moving to the Atlanta asset, I think you already -- you have already acquired -- I know it is not downtown Atlanta -- but I think you already acquired two assets in Atlanta this year. I think this asset will give you five assets in total in Atlanta. Could you maybe talk about the Atlanta downtown and then as well as kind of the outer ring and why you like that market so much and also maybe what did your existing Atlanta properties do in the quarter from a RevPAR growth standpoint?

Atlanta wasn't on a target list for us, so to speak. We always look for opportunities in top 50 markets. These all came -- the first Atlanta property came to us post -- second post-IPO directly from ISG and we saw an opportunity to add some value by going after the sister property next door that Noble manages for us. So it was more opportunistic than anything else. So again, we didn't identify Atlanta as a target market we wanted to get into.

Downtown Atlanta where we see a lot of opportunity is that there is not a lot of high-end select service. This is, obviously, in our view, the newest and very best property, but there is not a lot of Marriott product, select service product downtown. And despite convention business, not as strong as people would hope in Atlanta. This property actually opened in February and missed the booking window. So they didn't get their RFP process, so they didn't get any overflow from the convention business. So even if business is flat or down, we are coming off a base of zero. So that gives us great opportunity to grow our occupancy and stabilize very quickly.

So again, we didn't go into Atlanta because it is a top 10 market and we thought it most closely resembled Manhattan or Boston or anything. We underwrote it just like we do everything else and we think there is great opportunity there. So you shouldn't be surprised that we end up with two or three properties and markets as we continue to grow.

Sure, sure. And then since the Atlanta asset was recently built, do you know what it was built for on a per key basis?

I do not have that number.

Okay. All right. I will circle back.

We did get a significant price reduction from what it was originally marketed at. So I think as the industry got a little bit muddy and concerns about RevPAR growth came up, that allowed us to be a little bit more aggressive in pricing.

Okay. Thank you.

Tim Wengerd, Deutsche Bank.

Hey, good morning, guys. The flow-through on the same-store hotels looked good, excluding the IPO-related costs. Was that broad-based or were there a couple hotels that really drove that margin expansion?

I would say overall fairly broad-based. We talked about there are certain one of our seasoned hotels that we had in renovation. We have some additional renovation to do that we think aren't probably giving us full benefit. And so if you sort of net out that group, those that we had under renovation third quarter and we've probably targeted another six or eight for renovation in 2012, net of those, we had, across-the-board, pretty good flow-through on the balance of them.

Okay, thanks. And are there any legal costs related to this arbitration with Choice that could make sort of the back half of the year and 1Q lumpy?

Potentially. I mean year-to-date we probably have $250,000 worth of cost in Choice work. I think maybe $75,000 in this quarter and it will get a little bit more aggressive as we get -- we are doing a lot of work now relative to some analysis and we have got some third party doing some work about damages and that kind of stuff. So as we get closer to arbitration and things pick up here a little bit, I would anticipate probably fourth quarter a little heavier.

Okay. And most of that would fall in 4Q or 1Q?

Yes, we would hope -- really 4Q is what we are hoping. We have got arbitration set for like the 12th of December and the goal there, of course, would be to get a decision at that point in our favor and really have very little work to do into 2012, other than maybe when the settlement is, obviously, actually delivered.

Okay. And then -- so you issued the preferred and you are putting that money to work right now and let's say you get through this equity or this capital, how do you think about raising money going forward and beyond that, like --?

Tim, it's Dan. That is a great question. We fully expect to grow and execute on our strategy of acquisitions and provided that the stock price is rewarding us for the work we have done and the successes we have had, it is not unreasonable to think that we would be out raising equity some time mid to late part next year. Again, provided our stock price is strong and has been recognized through our successes with our other acquisitions and our operational improvement.

Thanks.

(Operator Instructions). Dennis Forst, KeyBanc.

Just had a couple of housekeeping items. Stu, do you have the available rooms for the third quarter? I wanted to just make sure my model is kind of in line.

We will run that for you. I will get that in a second. Let me get back to you on that. Second question?

Yes, the second question had to do with the preferred. When does the first dividend get paid?

The 30th of this month.

And it will be a partial?

It will be a partial. It will be a stub period, exactly. So it will be one-third of that quarter essentially.

At the end of this month. Okay. But for the fourth quarter, you will accrue that -- or you will expense that third and you will accrue another third for the month of December through the income statement?

That is correct.

Okay. And those two months, that is probably somewhere around $700,000, that is factored into your full-year $0.71 to $0.74 estimate?

Correct. When we did that adjustment down, we did it for just as you described.

Okay, terrific. I will wait to hear about the available rooms in the third quarter because -- the reason I asked that is because I know Marriott is on a different calendar and it sometimes screws -- it is not as simple as taking the total number of rooms times the number of days.

Got you. The number I have got for you is 650,611 to be precise. Those are room nights available in Q3.

Right. And how many of your properties are now managed by Marriott?

Two. At the time of closing of this transaction, there will be two.

Technically we have none at this point in time.

I got you. Good, good. Thanks a lot.

At this time, there are no further questions in queue and I would like to turn the call back over to Mr. Dan Hansen for closing remarks. Please proceed, sir.

Thank you once again for taking the time to join us today. One final thought before we wrap up, we believe Summit Hotel Properties is very well-positioned to deliver tremendous value to our investors. We have built a portfolio of high-quality properties and trust they will provide internal growth. We have demonstrated the ability to source accretive acquisitions at attractive yields and trust they will provide external growth.

We continue to maintain our discipline of reasonable leverage and a clean, simple balance sheet. There are many old sayings about successful investing. Be fearful when others are greedy and greedy when others are fearful or cash combined with courage in a time of crisis is priceless. Everyone has heard and knows these old sayings, but when every news story coming out is painting a darker picture of doom and gloom, having the courage and conviction and discipline to act on these beliefs makes all the difference in the world. That is a discipline our company was built on and it is the discipline that we are confident will reward our investors. Thanks again and as always, please reach out if you have any other questions. Have a great day.

Thank you for your participation in today's conference. This concludes the presentation. You may now disconnect. Have a wonderful day.