Sunstone Hotel Investors Inc (SHO) 2007 Q1 法說會逐字稿

Good morning, ladies and gentlemen, and welcome to Sunstone Hotel Investors first-quarter conference call. (OPERATOR INSTRUCTIONS). As a reminder, this conference is being recorded today, Thursday, May 3, 2007. I would like to turn the conference over to Mr. Bryan Giglia, Vice President of Corporate Finance of Sunstone Hotel Investors. Please go ahead, sir.

Good morning, everyone, and thank you for joining us today. By now you should have all received a copy of the corresponding earnings release. If you do not yet have a copy, please call my office or alternatively, you can access it on our Web site at www.sunstonehotels.com.

Before we begin this conference, I would like to remind everyone that this call contains forward-looking statements that are subject to risks and uncertainties, including those contained in our prospectuses, 10-Qs, 10-K, and other filings with the SEC, which could cause actual results to differ materially from those projected. We caution you to consider those matters in evaluating our forward-looking statements.

We also note that this call contains non-GAAP financial information, including EBITDA adjusted EBITDA, FFO, adjusted FFO and hotel operating margins. We're providing that information as a supplement to information prepared in accordance with Generally Accepted Accounting Principles. Explanations of such non-GAAP items and reconciliations to net income are contained in the earnings release we filed yesterday.

With us today are Bob Alter, Executive Chairman; Steve Goldman, Chief Executive Officer; Jon Kline, President; and Ken Cruse, Chief Financial Officer. Steve will go over the highlights for the quarter and provide an overview of the operating investing environment. Jon will provide information related to our acquisitions, dispositions, and renovations. And Ken will provide an overview of our first quarter as well as second-quarter and full-year guidance. Following their remarks, the team will be available to answer questions.

To begin management's discussion, I would like to turn to call over to Steve. Steve, please go ahead.

Thanks, Bryan. Good morning, everyone. Welcome to the first-quarter 2007 earnings call for Sunstone Hotel Investors, my first official call as CEO for the Company.

I'd like to start today by reviewing the highlights from the quarter. After that, I will discuss my initial impressions of Sunstone.

As for the highlights, in short, we are on plan. We beat our guidance as well as consensus with strong operating performance on each of the key metrics, RevPAR, EBITDA, and FFO per share. We continue to execute on our renovations program, on time, on budget. We continue to upgrade the quality of our portfolio by selectively acquiring high-quality assets, to which we as an owner and asset manager can add meaningful value and by selling non-core hotels in a tax efficient manner.

The first quarter of 2007 was very strong for Sunstone. First-quarter comparable RevPAR increased 11.9% over the prior year. Total revenue was up 21% over the prior year to 240 million and adjusted corporate EBITDA was up 17% to nearly $61 million.

Our hotel renovation is progressing as planned with $37 million of the 120 to $130 million 2007 budget completed in the first quarter. One of my top priorities this year is to complete our renovations on time and on budget. Over the last month, I've visited five of the six major renovation hotels and am very pleased with what I've seen and our progress. At the Renaissance Baltimore, we're spending $12 million on bringing new life to the lobby and revamping the bar and restaurant concept by highlighting the most spectacular views of the harbor. As you may know, this hotel has the best location in Baltimore.

At the Long Beach Renaissance, we're spending a total of $11 million on a new specialty restaurant, a Starbucks, and the addition of a junior ball room. The hotel was the location of our annual shareholders meeting yesterday and I must say the place looked absolutely great.

Hopefully by now, most of you have been able to see what we have done at the Hyatt Regency Century Plaza. The $32 million renovation included all the guest rooms, the addition of a Regency club, the opening of the Equinox Health Club and Spa, a Starbucks, and the newest destination bar in Century City, the X Bar. We're working on a plan to replace the lobby furniture and liven up the property's backyard during the third quarter.

At the Hilton Times Square, we're capitalizing on the hotel's 90-plus-% annual occupancy and $330 average rate by converting our underutilized suites into 16 additional guest rooms. This project has less than a two-year payback. We're also installing flat-panel televisions in all the guest rooms.

At the Embassy Suites La Jolla, we have completed the renovation of all guest rooms and they look great. Later in the fourth quarter, we will complete the public area, principally the lobby, which will significantly enhance the guests' initial impression of this property. Lastly, we are wrapping up our $27 million renovation of the Orlando Renaissance. The rooms and meeting space have been completed and the atrium redo is in the final stages. Once completed, the atrium will include a spectacular media great room featuring a 24-foot video wall. The great room will serve as a focal point of the lobby and an ideal meeting place for both business and convention travelers.

To date, the team has done an outstanding job of increasing the quality of the portfolio by acquiring great institutional hotels and divesting of our lower quality and limited service properties. The two recent Boston acquisitions and our anticipated dispositions of non-core hotels in the third quarter are great examples of execution of this strategy. We are not only upgrading our portfolio in a tax efficient manner but we're also capitalizing on the proximity of the two Boston assets and consolidating certain back-house operations into the Quincy Hotel. This should not only drive operational efficiencies at both hotels but it will also enable us to add up to nine additional guest rooms to Long Wharf in place of office space located in one of the guest room corridors. We are also working on a master plan to add even more rooms to Long Wharf by reconfiguring space within the existing building envelope.

Going forward, we will continue to be disciplined in our deployment capital, looking for assets that increase our overall portfolio quality and where we have opportunities to create value through aggressive and creative asset management and select capital projects. The market remains very competitive and we will not acquire assets merely for the sake of making acquisitions.

I'd like to give you some of my initial impressions before John and Ken discuss the quarter in more detail.

For the past 1.5 months, Bob and I have been doing our version of planes, trains and automobiles, hitting the road and visiting our properties. To date, we've been to 31 of our 53 hotels, comprising nearly 70% of the Company's earnings. At the same time, I've been making great efforts to get to know all the Company's general managers and corporate office employees while understanding the Company's current strategies and long-term goals. I plan to more formally present my thoughts on Sunstone's strategy at an investor breakfast we will host on June 6th at NAREIT. I hope you will be able to join me for the presentation, either in person or via Web-cast.

For now, I'd like to say that overall, I am very excited with what I've seen. This portfolio is truly first-class. We own great assets in some of the strongest markets in the United States, including New York, D.C., Boston, Chicago and Southern California, and the overall condition of our assets is very good.

We also have great brands. In addition to Hilton, Hyatt and Starwood, which collectively represent 35% of our earnings, we also have a large concentration of Marriott-branded hotels. Thirty of our 53 properties representing 55% of our earnings carry the Marriott flag. You know, spending the last 15 years at Starwood and Hyatt, I've been conditioned to view Marriott as a worthy adversary. Kind of like the Yankees, seeing as I'm from Boston and a loyal Red Sox fan. I'm very happy now to be on the same team with Marriott, as well as the other great brands represented in our hotels. I believe all of this definitely gives us a competitive advantage over our peers, who have less consistent portfolios. I just hope the next time I go to Fenway Park, I don't have to wear a Marriott cap.

I'm also very excited about the quality of our management team. Before I started at Sunstone about six weeks ago, I knew Bob and all of the other senior executives, but what I did not know and have been very pleasantly surprised by, is the talent at all levels of the organization. We have an extremely skilled and deep bench and I'm really looking forward to the opportunity to work with this talented group of professionals and watch these individuals grow into more senior positions as our Company continues to grow. As I complete my review of the Company, I plan to redistribute responsibilities throughout the organization. I strongly believe that roles and responsibilities must be clearly defined and every executive must be accountable for his or her area of expertise and responsibility. As I finalize the organization of the Company over the next three months, I will adhere to that principle.

You may have read that Gary Stougaard, Sunstone's former Chief Investment Officer, will be leaving Sunstone after ten years of valuable service to the Company. I would like to personally thank Gary for his contributions and wish him well on his future endeavors.

During the quarter, we filled two key positions. Chris Lal was hired as Vice President, Legal in early April. Chris comes to Sunstone from Remedy, where he was general counsel, and prior to that he spent over six years at O'Melveny & Myers, where he practiced corporate and securities law. In just six three weeks, Chris has demonstrated that he is going to be a valuable member of the team, and I'm looking forward to working with him.

Last Friday we announced Habib M. Enayetullah was hired as Senior Vice President of Development. Habib will oversee our designing construction function as well as other real estate initiatives specifically focusing on completing our property renovations. Habib worked with me at Hyatt for several years and has a wide array of real estate experience, both in the United States and abroad. He is also one of the smartest people I've ever worked with and his skills and experience will be a tremendous asset to the team.

Habib will start at Sunstone on May 14. Between now and the 14th, I've asked Bob Alter, who is familiar with these assets and knows a thing or two about the renovation process, to step in and monitor progress in our projects and then transition the department to Habib.

With that, let me turn things over to Jon Kline to take you through additional detail on our recent acquisitions and dispositions.

Thanks, Steve, and good morning, all. So far, '07 has been a busy year for us. We completed three acquisitions -- the LAX Renaissance for $65 million, the Boston Marriott Long Wharf for $228 million, and announced yesterday, the 464-room Marriott Boston Quincy Hotel for $116 million. We spoke about LAX on our February call and I would like to spend a few minutes describing the two Boston assets and the rationale for acquiring them.

As Steve mentioned, we plan to capitalize on the close proximity of the two hotels by potentially combining certain back-of-the-house operations. This will enable us to create efficiencies in overhead and free up office space at Long Wharf, which can be converted into up to nine additional guest rooms.

The Long Wharf asset is a world-class Boston location. It will be enhanced by the completion of the Rose Kennedy Greenway over the big dig, which will directly connect it for the first time in its history to downtown. The hotel is one of the very best-performing Marriott hotels in the system and it's run over an 80% occupancy every year since its opening in 1982. We'll be commencing a rooms renovation at the end of '07 and are currently space planning and developing revenue enhancing opportunities in the restaurant, meeting space and other public areas. Long Wharf will have one of the highest rates and RevPAR in our Company, outside of New York, of course.

Quincy is a beautiful suburban Marriott hotel in a strong Boston submarket, seven miles south of the city. The hotel, which opened in 2001, is in an office park with 3 million square feet, including the corporate headquarters of Dunkin Donuts, Reebok, Stop & Shop, with presence by a number of other large corporate customers, including [Stage Tree].

As for the overall acquisitions environment, there still is a mountain of capital chasing deals and pricing remains full. We will remain patient and disciplined and deploy our capital only when we find assets, which will on a pro forma basis generate IRRs in excess of our cost of capital, which will increase the overall quality and long-term cash flow growth rate of our portfolio. We, as always, are looking at a number of high-quality individual assets, as well as several portfolios. We remain focused first on markets. We're also looking for high-quality locations within these markets, good buildings and brand affiliations and ideally, hotels where something is broken -- either undercapitalized, under branded, or undermanaged.

Turning to the disposition front, we intend to ultimately fund the Quincy acquisition through the expected sale of five to seven non-core limited-service hotels in the third quarter, which represent approximately 14 to $15 million of EBITDA. For your preliminary modeling purposes, we would guide you to anticipate gross proceeds of 155 to $160 million.

Finally, before turning the call over to Ken to take you through the numbers, I'd like to review our CapEx spending in the aggregate for the quarter and the full year.

In the first quarter, we spent $37 million, of which $18 million was spent on the major projects that Steve highlighted. We still intend to spend 120 to $130 million for the year. The operational disruption resulting from the six major projects is expected to result in approximately $8 million of revenue displacement this year. We estimate that approximately $5 million occurred in the first quarter, primarily attributable to Baltimore and Orlando. With that, I'd like to turn it over to Ken to take you through the numbers.

Thank you, John, and good morning, everybody. I would like to spend a few minutes reviewing the operations for the quarter before providing outlook for the second quarter and the full year, including a summary of the various moving parts affecting our numbers this year. First, as Steve mentioned, at the corporate level, we surpassed the high end of our guidance on all fronts, including RevPAR, adjusted EBITDA, and adjusted FFO per share. Our adjusted EBITDA was $60.9 million, which is above our guidance of 56.8 to $58.8 million. Our adjusted FFO came in -- our adjusted FFO available to common shareholders per diluted share -- came in at $0.48 for the quarter, which was $0.02 above the top end of our guidance of $0.43 to $0.46.

With respect to RevPAR, our 47 hotels owned at the end of the quarter, excluding the four hotels which experienced significant disruption due to renovation programs during the quarter -- for a reminder, these were the Renaissance Baltimore, Renaissance Orlando, Renaissance Long Beach, and the Embassy Suites La Jolla -- achieved a comparable RevPAR growth of 11.9%, significantly above the top end of our guidance of 7.5% to 9%. Our strong performance was partially driven by the Century Plaza and Fairmont Newport Beach, both of which are ramping up very nicely post renovation, which should be a positive indicator for the growth potential of our remaining hotels in our portfolio, currently undergoing renovations.

Our comparable hotel RevPAR improvement was driven by a 5.9% increase in average rate and an occupancy increase of 400 basis points. In other words, changes in rate and occupancy each accounted for approximately 50% of our RevPAR improvement.

RevPAR for the full portfolio of 51 hotels we owned at the end of the first quarter increased 8.5% to $110.62, comprised of an average daily rate of $149.[28] and an occupancy of 74.1%. This compares very favorably to the total U.S. RevPAR, which increased 5.2% in the first quarter according to Smith Travel Research. This change in RevPAR for the U.S. was comprised of 6.1% increase in rate and a 0.9% decline in occupancy.

With respect to regional RevPAR performance, our top-performing region for the quarter was once again California, which saw a 14.7% growth in RevPAR. All of our California subregions outperformed, with our San Diego hotels turning in a solid 9.2% gain in RevPAR, Manhattan Beach at 17%, Century Plaza up 28.5%, and the Fairmont Newport Beach up 205% over the prior year.

The Midwest region continues to post double-digit RevPAR growth for the quarter as a result of continued strength in the Chicago market and our success at The International, our five-star hotel within a hotel at the Rochester Kahler Grand, as well as the recently renovated Rochester Marriott. In total, our Rochester region was up 16% over the prior year.

Finally, our Middle Atlantic region also posted impressive gains over last year, even with rooms out of service for renovations at our Times Square Hilton. We're seeing a very nice rebound at the Washington D.C. market. Our 871-room Washington D.C. Renaissance achieved 21% RevPAR gain over Q1 2006.

Hotel operating margins for the quarter ended up 140 basis points. Our Q1 margin increase was positively impacted by the Hilton Times Square, which benefited from a strong top-line performance combined with Sunstone Hotel Properties' ability to control costs better than the prior operator.

On the expense control side, management fee expense, including IMF, incentive management fees, was $6.9 million for the quarter or less than 3% of gross revenues. I encourage you to compare that to our other lodging REIT peers who tend to a much higher percentage of their gross revenues out as management fees.

Total management fees included $2.1 million paid to Sunstone Hotel Properties, $3.3 million paid to Marriott, $1 million to Hyatt, and $200,000 each to Starwood and Fairmont and 70,000 to Hilton.

With respect to the transition hotels, the Fairmont Newport Beach continues to improve. Booking pace has been robust. The property's pace is up 72% from last year and the advanced bookings are up 26% in rate.

Our Hyatt Regency Century Plaza has performed well post renovation. However, there is still room for improvement. Operationally, the hotel has made great strides. The Equinox Spa, Century City's hottest fitness and spa venue, and the new X Bar, Century City's hippest new night spot, are both open and running. And food and beverage margins at the hotel increased 900 basis points over Q1 last year as a result of our focus on inventory management, portion control, and improved purchasing practices. We're not done, though. Our asset management team is working with Hyatt to continue to drive additional profitability.

With respect to the balance sheet, at the end of the quarter, we ended up with $1.8 billion of debt. Our debt has an average maturity of eight plus years and an average rate below 6%. We also had approximately $90 million of cash on hand and this includes restricted cash.

Before I jump into guidance, let's review the major moving parts that will affect our numbers this year. Just to help you match up the sources and uses of our investing activities thus far in 2007, the $409 million worth of hotels that we've acquired to date have been funded by approximately $122 million of borrowings on our line of credit, a $176 million first mortgage on the Boston Marriott Long Wharf and our $111 million equity forward agreement. We currently have $141 million outstanding on our credit facility which we plan to repay in its entirety with the proceeds from the third-quarter asset sale that Jon mentioned.

So tying this altogether, once the non-core hotel sale is complete we will have used the forward sale proceeds to fund the $65 million LAX Renaissance acquisition, the $45 million equity portion of the Boston Marriott Long Wharf and we will have used the asset sale proceeds to fund the $117 million acquisition of the Boston Marriott and Quincy, as well as for other corporate purposes.

Just a quick side note on that non-core asset sale. Although we anticipate on capitalizing on the strong seller's market, because the hotels are being sold, are limited service and in secondary markets, we expect the assets to be sold at a slightly lower multiple than that of the institutional quality assets we have been recently acquiring, which may cause some short-term dilution in our earnings. We believe any dilution resulting from the sale of non-core hotel hotels will be short-term and warranted as we're using the sale proceeds to trade into better quality assets for superior long-term growth potential. Our new guidance does reflect this anticipated short-term displacement.

Additional moving parts are as follows. On April 27, we took advantage of the strong market conditions and sold for gross proceeds of $29.5 million our 8.5% mezzanine loan on the Doubletree Guest Suite Times Square, which you may recall we funded for $28.5 million on December 29 (multiple speakers). Our gross annualized IRR on this trade was right around 20%. As a non-participating debt investment, had we held the loan to term, our yield to maturity would have been capped at 9%. Our rationale for selling the note now is that we're confident that we can redeploy this capital to participating investments, which will generate much stronger returns over time. In the meantime, we've used the proceeds from this sale to repay amounts outstanding on our credit facility. So, as a result, we reduced interest expense by an amount similar to but slightly less than the amount of interest income we gave up by selling the loan.

Other moving parts -- as a reminder, our second-quarter and full-year guidance includes an add-back to adjusted EBITDA and adjusted FFO of $0.7 million, and $1.7 million respectively, for onetime costs associated with our CEO succession.

It's also important to reiterate that our full-year guidance contemplates approximately $8 million of revenue displacement resulting from our hotel renovation program. As John mentioned, we expect approximately $5 million occurred in the first quarter. And finally, with respect to moving parts, full-year guidance also includes $2.8 million of guaranteed payments for the Hyatt Century Plaza, of which $1 million was realized in the first quarter and $2 million was guaranteed payments for the Fairmont Newport Beach, which we will recognize in the fourth quarter.

Okay, on to guidance. With regard to our outlook and guidance, I will run through the second quarter and then update you on the full-year '07 guidance for the Company.

For the second quarter, we expect comparable RevPAR to increase between 7.5% and 9% over the prior year. Adjusted EBITDA should be approximately $83 million to $86 million; adjusted FFO available to common shareholders should be $48.1 million to $51.1 million; and we expect adjusted FFO per fully diluted common share to come in between $0.74 to $0.78.

We expect hotel operating margins to be up approximately 25 to 50 basis points in the second quarter. This is lower than target, primarily as a result of disruption from the completion of the suite conversion of the Hilton Times Square and the completion of the remainder of our significant renovations, as well as increases in certain benefits costs and property taxes. Also, during the second quarter, we expect to invest between 35 and $40 million in our existing portfolio, including those capital projects described by Jon.

For the full year 2007, we expect comparable RevPAR to increase between 7.5% and 9.5%. We expect adjusted EBITDA to come in between $306 million and $313 million and adjusted FFO available to common shareholders to be between $175.3 million and $182.3 million.

For the full year, we are increasing the lower end of our adjusted FFO per fully diluted share guidance from $2.65 to $2.69 and reaffirming the high end of our range at $2.80. We expect 2007 margins to increase by 100 to 150 basis points over 2006. We expect margins in 2007 to be somewhat pressured by increases in property taxes, which we see being up about 13%. Health insurance costs, up around 12% and salaries and wages up roughly 6.4% as a result of several local minimum wage increases. Offsetting these pressures, we expect to see our workers' comp costs come down by approximately 3.7%, largely as a result of a renegotiation of our California workers' comp program. We are also seeing utilities costs grow lower slower than revenues at many of our hotels. And finally, we are in the process of renewing our property insurance policy, which expires at the end of the second quarter. Although we do not yet have an indication on pricing, we're optimistic that this year's program will come in relatively flat to last year.

To wrap up, we're very optimistic about our portfolio's performance for 2007. Group pace at our brand managed hotels is up over last year and we're seeing nice increases in rate as well on the group bookings. This is pretty impressive, considering as you know, several of our brand managed hotels are being renovated during the first half of the year. With that, I will now turn the call back over to Steve.

Thanks, Ken. Before we open the call to questions, I would like to address one last topic, valuation. Sunstone trades at a meaningful discount to its peers on virtually every metric. With the recently announced privatizations of innkeepers in Highland and Eagle, our valuation discount has become even more apparent. Highland recently announced a deal to be sold at 13.3 times 2007 EBITDA or 250,000 per key. According to consensus, we're trading slightly better than 12.5 times 2007 EBITDA or approximately 215,000 per key. Even more interesting is a reported all-in multiple for Eagle of 15 times 2007 EBITDA. We know the Highland portfolio well and it is clear that ours is better in every regard. With our solid strategy, asset quality, favorable geographic concentration, and conservative balance sheet, I really can't believe that our valuation discount is warranted. If Sunstone were simply to trade at Highland's multiple, it would equate to a $33 stock price. And that number does not even take into consideration the embedded growth in our assets associated with recent renovations.

I would like to reiterate that my primary focus over the next quarter is to continue to get to know the Company's principal assets, its hotel properties and its management and ensure that we complete our renovations on time and within budget. We will remain patient and disciplined with regard to acquisitions and look to dispose of assets that do not enhance long-term value. In short, we will stay the course.

With that, I would like to open the call up to your questions. Operator, please go ahead.

(OPERATOR INSTRUCTIONS). Jeff Donnelly, Wachovia.

Actually, since you brought it up, on valuation, I guess why hasn't Sunstone repurchased shares then this year, just given where your stock has been relative to some of the transactions you're seeing?

Ken, why don't you address that?

Sure, Jeff, let me jump in. This is Ken Cruse. On the stock repurchase front, we have certainly kept that right on our radar screen as a possibility. We, as of Monday, had outstanding our forward equity share transaction that we finally closed on Monday. So one of the concerns about repurchasing shares when the forward equity agreement was outstanding was that we felt it would create some confusion in the market. Obviously, that's been cleaned up now. So the issuance part is wrapped up and we can continue to consider repurchasing shares. But, to date we've found that deploying our capital into assets that have long-term growth potential where we can create value in the hotels has still been an NAV accretive transaction for us. And so our focus has still been to purchase hotels on a very disciplined and selective basis rather than repurchasing our shares, which we view as a very temporary kind of value-engineering strategy versus a long-term engineer value-creating strategy.

Okay. Steve, I guess one of the clouds that's been over Sunstone of late has been the burn off if you will of the guarantees at Hyatt Century Plaza. Can you give us a view of what the world looks like when that burns off and since you are fresh from Hyatt, what is their perspective there?

Yes, let me do that. You know, Jeff, I've thought a lot about this asset and we actually talked about it at great length at yesterday's board meeting. Having come from Hyatt, I think Hyatt is a great brand and I know there are very talented people in the Company. And because of those two factors, I would very much like to do more business with them. With regard to the performance of the hotel, I have actually been having recent conversations with Hyatt's chief executive officer. You know, we've got a lot of capital tied up in the CP and more than any other single asset in New York. So, I think it warrants a lot of our focus.

At the end of the day, it's my responsibility to make sure that not only does the hotel continue to perform to the best of its ability but that I'm 100% sure that the operating team does not lose its focus, particularly as the guarantee runs to a close. And I guess the best I can tell you is, I'm committed to take action and do whatever I need to do to maximize the value of this asset.

Is there a chance that Hyatt fails to perform in that when that guarantee burns off?

Look, as I said, if we focus on the asset, Mark Hoffman, who oversees the asset management of that asset, is looking into ways to create additional value. In fact, we're going to a meeting after this call to look at how we can spruce up the lobby and the backyard to create a little bit more excitement to capitalize on what we've done at the X Bar. But at the end of the day, we've got to do what we need to do to make sure that this asset performs. And that's really all I can say at this point. I'm going to remain focused on it and I'm going to make sure that whoever is managing the asset is going to remain focused on it as well.

Have you had any interest from additional -- from developers in that market? I know the property next door, the St. Regis, was effectively bought for its land value at a pretty high price. And I think a vacant parcel over by Hilton there in Beverly Hills I heard recently went from 40 to $50 million an acre. Has that renewed interest from anyone on your asset?

You know, we haven't had any calls to speak of on the asset. But if you look at what's happening in the market, look across the street at the creative arts building, which is -- it's a spectacular building. You look next to us at the St. Regis site, which I think was around $130 million they bought it just to knock down the building and do a residential project. I think the site you're talking about is the Robinson/May site. If you look at the value of that and then, if you look at our asset, the way -- my understanding is, the way development works here is on trip counts. And we've got trip counts that could justify a significantly large development.

I don't think in the near term for sure that I want to look to convert this asset into anything other than a hotel. But what makes me feel good about this asset at the end of the day is, it's got inherent real estate value. If you look at that acreage in that location in Los Angeles, it's never going to be replicated. So I really think that that gives us a cushion to valuation that this asset is really never going to decline in value. So our responsibility in the near term is to make sure that we maximize the cash flow that comes out of it.

Last question and I will yield the floor, is, there's been a lot of speculation over the last or two about Hyatt inevitably becoming public. Does that imply that they might be a willing seller of assets? And does that present any opportunities for you guys, particularly given your relationship there?

Well I, look, I've got a great relationship at Hyatt. I suspect, if you want to talk about what their business strategy, you ought to give a call over to the people in Chicago. You know, I don't really have much color on what they're going to do going forward.

But you don't expect they're going to be selling or --?

They may or may not. I think in today's market, Jeff, everybody has got to look at what's the best thing to do. I suspect that they're probably looking at their portfolio of assets similar to the way we're looking at ours. What do they want to hold long term, what do they want to invest, and what do they want to dispose of that has a lower growth rate or that they can use to put into partnerships or to use as a vehicle for future growth of their chain.

Michelle Ko, UBS.

Just a couple of questions. Given that some of the renovation projects have been slightly pushed back, are you anticipating any disruption in the second half of '07? And then also, can you give us a little bit more details on the corporate G&A, excluding the amortization of stock compensation expense? It seems to be up 20% year over year, and I vaguely remember that in Q1 of last year, corporate expenses were unusually high because of some California state income taxes. But I thought that was one time.

Let me answer the first question and I'm going to turn the second question over to Ken.

With regard to this disruption, disruption is a very hard thing to determine. I would estimate that we will probably through 2007 see somewhere between 5 and $10 million of disruption in the properties. But, unfortunately, it's not an exact science to measure why people are coming and why they are not coming to the hotel during renovations. So I don't think we can specifically give you an answer of how much it will be in the quarters going forward. But I can tell you that we are internally estimating that we think it's about 5 to $10 million this year in total.

And the other point, Michelle, if you look at the timing of our renovations, where the bulk of them are going to be completed, by the end of the second quarter of this year, we should have very little disruption of any sort in the back half of the year. Ken, why don't you answer the A&G question?

Sure. And just one more wrap-up comment on the first question. I think in general, our renovation projects are on target, as Steve mentioned several times, and I don't think much has been pushed back at all from our perspective. So the timing remains very consistent with what we originally were expecting.

On the corporate expense side, our G&A costs on a year-over-year basis, we'd spent a lot of time looking at this, are about 7.8% on a true run rate basis. As I mentioned before, we've got dual CEO costs for the bulk of this year, as Steve and Bob continued their mentoring program and Bob will transition out at the end of this year. So if you look on a full year-over-year run rate basis, the increase in our corporate overhead costs really isn't materially above what we think it should be.

In fact, if you compare us to some of our peers, our corporate overhead at just right around 2% of total revenues is significantly below the average of our comp set, especially if you pull out some of the real big scale players, where we are about a third below the average of our peers. So we feel our corporate expenses are very much in line. And the only other thing that you're going to see on a year-over-year basis in the first quarter and in each quarter is just the additional stock grant amortization, which as each year progresses for a fairly new company, you get one more tranche of restricted stock vesting in any given year.

Right, but if you exclude the amortization on the stock compensation in the corporate G&A for the first quarter of this year versus last year, there seems to be a significant increase and that's why I was asking.

Yes, other than the double costs, which actually came in very late in the first quarter, there is really nothing that we're seeing that would cause an increase on a year-over-year basis.

Patrick Scholes, JPMorgan.

What is your sense right now on your level of 2008 CapEx as it compares to this year's CapEx?

Probably, Patrick, probably somewhere in the vicinity of $50 million. It will be a more traditional run rate in line with a 4% or 5% reserve per year.

Great. And just a little bit of question on supply. What type of supply growth are you seeing in your major markets? We keep hearing about these looming clouds of significant supply growth coming on in the next several years. But what are you seeing in for example Southern California as far as supply growth?

You know, it's an interesting thing. I think this is one of the benefits of where the bulk of our portfolio is located. Supply growth now is traditionally coming through more of the select service. The proportion of supply in full-service hotels, particularly in urban locations, is very small relative to the overall supply. So, if you look at major markets like New York, for example, New York is actually going to have a decrease in supply. If you look at supply in other markets like Washington and Chicago and Boston, you're also going to not see significant full-service supply. So, I think the question is really a market-by-market question.

And, with respect to the markets we are in, we're not terribly concerned about full-service urban supply and in California, where it's more difficult and more costly to build, I think we have a bit of an inherent advantage there as well.

Alex Bresler, Rockwood Capital.

I wanted to congratulate you on the new position. I think you're going to do a great job. I had a question regarding one of the things you touched on at the beginning of the question-and-answer session about the valuations for the recent innkeepers Highland and Eagle trades. A lot of those valuations were driven by public to private plays. Have you put any thought into a leveraged recapitalization or pursuing those options in the coming few quarters?

By the way, thank you for those kind words, starting, Alex.

You know, I look at the Company and I look at the fact that we've got a bunch of assets coming out of renovation; we've got a bunch of capital that we've put into the assets; and I think our Company is undervalued. And I think it's my responsibility to free up that value for the current shareholders. And that is how we're going to focus our time.

Our final question comes from Jeff Randall, A.G. Edwards.

Welcome aboard, Steve. Steve, you guys keep talking about renovations being completed on time. But, clearly it looks like there's been some slippage occurring at a number of projects. I'm just wondering if you can comment on what's behind that slippage?

Can you be more specific? I'm not sure I understand the question.

Sure. If I match up I guess the fourth-quarter press release with the one put out last night, the spot -- the Renaissance Orlando slips from the second quarter to the fourth. The junior ball room at the Renaissance Long Beach slips from the second quarter to the third. The Hilton Times Square, the meeting space and guest room LCD installation slips from 2Q to 3Q. Street-level improvements slip from 2Q to 4Q. And then at the Embassy Suites La Jolla, the public space enhancement slipped from the second quarter to the fourth quarter.

Right. I guess I would respond in a couple of ways. First, one of the challenges of doing these renovations -- and I saw this when we did this at Hyatt as well, is you want to time the renovation so it fits in as best seasonally as you can. Meaning that you want to -- if you are taking out a bay of rooms or if you are taking out meeting space you want to take it out in a nonpeak period or a non-meeting period. So one of the things that we've done is, we've opportunistically moved a bit of the renovations around seasonality. The other thing, and this is why I've stressed and this will be my focus and Habib's focus when he comes on board in a couple of weeks, is, we're going to get things done when we say we get them done. And we're going to put appropriate factor for seasonality and other issues into the schedules to make sure we do that.

The reality of these renovations, and I'm sure every company faces this, this stuff is complicated and it always takes as much time as you think it's going to take and you optimistically want to get it done early. You generally don't. But, the key thing is to make sure we get it done once and get it done right. And then, that's really where we're going to focus our time.

So I guess, on the seasonality, was the seasonality really not considered back in early February?

You know what happens? You slip a little bit and then you've got to adjust for seasonality on top of that. And the fact of the matter, and I'm not trying to hide it, which is why now I'm stressing we're going to be on time and within budget, there was some slippage. And I think there was slippage that impacted the value of our stock price at the end of last year.

Okay. Question for you, Jon. Jon, I've just wondered if you could walk us through the Marriott Long Wharf acquisition? It looks like the going in forward EBITDA yield was I think around 7%. So call it a 6% cap rate after factoring in CapEx. That looked certainly lower than your cost of capital, and I'm just wondering what kind of a five-year IRR was this underwritten to, and maybe share with us some of the major assumptions that drove the acquisition.

Yes, I guess most importantly, we feel like it's a strategic asset for us, which is a urban -- maybe the best located hotel in all of Boston, and we think Boston is going to be a tremendous growth market going forward, meaningfully above national averages. In fact, interestingly, of the major markets, Boston and San Francisco are the only two that haven't gotten back to 2000 RevPAR. So we think there's a lot of upside in Boston. I don't want to give you right now specific growth rates, but generally, we think this asset is going to grow meaningfully faster than the rest of our portfolio, which is why it adds to our both long-term cash flow growth rate as well as, on a long-term basis, our NAV per share. Generally speaking when we do IRRs, what we do is we will do them based on our target capital structure of 50% leverage. And generally we're looking for the leveraged IRR to be in the 13% to 16% range. And then we also look at the asset in a second way, which is to look at it as if we were a private buyer or an opportunity fund buyer, which in many cases is our competition. And in that case, we used 75% to 80% leverage and we typically are looking to get to a 20% IRR.

Hey, Jeff, let me just add something. What Jon didn't mention is, my coming on board being a Red Sox fan, I need to be ensured a room!

Actually, on a serious note, I would like to add a couple of things. If you look at the prior ownership of this asset, this was a non-hotel company owner without a professional asset management team that was a long-term owner. If you look at the way they ran this asset -- and it's a very reputable real estate company -- you know, one of the largest in the Boston area, they didn't really focus on this hotel like hotel owners would. They didn't really do the kind of things to maximize the value. You know, we're going to this asset and with Mark Hoffman who, by the way, for those of you who don't know Mark, a 27-year Marriott executive, which we were very fortunate to hire within the last year.

We are going to go into this asset. First thing we're going to do very quickly is a rooms renovation. We're also going to add nine additional rooms to this property that we're going to be able to get by virtue of our owning Quincy and moving back-of-house functions from this hotel to Quincy. And I think the great thing here -- and I can say this being from Boston and I had worked with people in the city and local developers for a couple of years on that Westin Convention Hotel. So, I know the development climate very well there. We think there's opportunity here. And I don't want to oversell but we think in an asset like this, by reutilizing the existing space and perhaps maybe there's the ability to expand outside of the space, we think there's some pretty good potential here for expansion of revenue in this asset.

So, we're very excited and you know, you add to that what John said, this is just a world-class location. Boston is a great market and this is arguably one of the best locations if not the best location in Boston. We visited with the Marriott Corporation last week -- Bob and I -- and we spent about an hour with Bill Marriott, and it was very clear by some of the questions and the conversations with Bill Marriott that this is one of his favorite hotels. And I think it's one of his favorite hotels because it's just a great asset with great potential that has always performed year in and year out.

Just another kind of follow-up question on that, related to the assumptions, Jon, on the acquisition. Can you give us any sense of what the delta was between the going in and the exit cap rate on this deal?

Yes I mean, not just on this asset but on all of our underwriting, we typically assume, in this environment, a higher cap rate on the exit than on the entry, which is sort of unique in terms of over cycles. But generally, we underwrite a 1-point higher cap rate on the exit (multiple speakers). Being conservative and given the relatively modest current yield going in and the negative cap rate compression, if you will, all of the return is driven by growth in cash flow. There's only three ways to make a return, and we think the growth in cash flow here is so extraordinary that it supports the price.

And by the way, we did buy this in a brokered process and we know well who was playing there. We know that there were several very, very astute institutional investors, some of whom live in Boston, who are willing to pay the same price as us, and we were fortunate to be able to make this acquisition.

Just based on -- or just a question on acquisitions in general and based on Steve's comments about Sunstone's discount valuation, is it prudent to be issuing equity capital to acquire hotels at this point in the cycle given your higher cost of capital?

Are you referring to the forward or are you referring to going to the forward that we just --?

Yes, the forward.

I will let Ken talk about that, but I will make a general comment. You know, that was something that was done -- when did you guys get into it, about a year ago? Last July, and that was done for a specific transaction, I believe, where they were working on a large individual transaction in New York, where they thought they were going to be asked to go hard on a significant amount of money and that transaction allowed them to have the flexibility to get into that transaction. And that transaction turned out to be the Doubletree Suites, where we talked about the mezz loan that we just sold and we retain a 38% interest in the hotel, and we think our 38% interest is already worth significantly more than what it was when we paid for it at the end of the year. Ken, do you want to add to that?

Yes, let me just add a little bit to that. As Steve mentioned, the forward equity trade was entered into last year and so it was tantamount to us issuing those shares last summer. We look at every deal on a stand-alone basis, hoping our weighted average cost of capital is sub-10%. If you look at our debt it is obviously below 6% on an average rate. And our cost of equity, even adjusting for our discount to what we think is a warranted share price, is still factored into that WAC and it's still around a 10% WAC. So if we can find an acquisition that's accretive to the NAV of our portfolio where we can add value and that will ultimately create a better long-term growth stream for our earnings, then, and if we can justify that through issuing equity, then we will do that. As you know in this environment, that's not easy to do. And which is why we haven't been nearly as acquisitive lately as we had been over the last call it two years. We will continue to be -- I expect we will continue to be even more disciplined as we go forward and really put that math to the test on every deal that we do.

One last question. Just the thoughts on the supply outlook in San Diego, specifically as it relates to the W, it just seems like there's a fair amount of new supply coming in. Now you've got the 1200-room Hilton Convention Hotel, the Hard Rock Condo Hotel; there is an IV repositioning. All of those are going to play arguably in the W's space. I just wondered how you felt about that market going forward.

Look, I think we're still relatively bullish on that market. Ironically, we actually have a deal -- it's being very quietly brought to market that we are looking at in San Diego. And the reality is, given this particular asset and its location, I suspect at the right price, of course, it might be something that we would consider buying, looking long term at San Diego, which we think is a very strong market.

With regard to the W in particular, if you look at the size of that asset, the location and its uniqueness and its quality, I don't think that that asset is as vulnerable to the increase in supply. You know, a 1200-room Hilton I think is going to go more against the Hyatt and the Marriott, because it's going to be right in its wheelhouse for the same kind of business. I think the niche that we are in is somewhat protected.

We do have a follow-up question from Jeff Donnelly.

Actually, John, I wasn't sure if you might be able to answer this. But if you were looking at the two Boston hotels on a combined basis, what do you think the EBITDA and the multiple that you paid for it -- was it in place today, looks like after you integrate the benefit of the back-of-house consolidation and add the incremental rooms? I guess I'm trying to figure out if there's a material change in what your multiple or your EBITDA is.

Sure. There's a couple of questions in there. The back-of-the-house consolidation, I should just emphasize, is something that we're discussing with Marriott and we need to get their full acquiescence to implement that. And it's relatively modest. It's really more of a qualitative point that we're making, which is that we're intelligently looking to create additional dollars to the bottom line, rather than the actual dollars created by that particular point.

And Jeff, probably where a bulk of the value creation is going to come from the lift from the additional rooms. You know, you may see a few hundred thousand dollars in actual operational savings. But the real lift is coming from the ability to move those guys out and build some rooms.

Yes, and just to give you sort of a stat, we gave you the EBITDA multiple at which we bought Long Wharf so you can calculate this yourself. But the hotel is going to do this year about $40,000 of EBITDA per key. So it's not the salaries we're looking to save. It's more importantly if we can create the nine additional keys, that's some significant dollars based on the cap rates that these assets are trading at. So that's really how we think about it; if that asset is worth 5 or $600,000 a key and build nine keys, that's some real value creation.

Okay. Just a last question I meant to ask you earlier, Steve, is now that you've been at Sunstone I know just for a brief while and you did share some of your initial impressions. Any areas that you think -- I guess areas for improvement that you've seen in the Company that you think are done well that could certainly be enhanced?

Yes, I think probably the biggest area of improvement is the organization. This Company was and is an entrepreneurial organization. There are a lot of great people in the Company. I tell you what, what I love about this Company is, particularly the younger guys, you've got guys doing two jobs. You know, you've got somebody who is running one function and materially assisting to run another function. And I think probably the best way that I can improve coming in is just bring clarity to the organization and make people accountable and responsible for what they're doing and make it very clear who's doing what. I think that's probably where I can add some immediate improvement. You know, these guys -- they are smart acquisition guys. We've got a good design and construction team. We've got good asset management. You know, I think just kind of pulling it together and helping the train run a little bit better is where I can make a very immediate impact.

Management, at this time, there are no further questions. Do you have any closing remarks?

Thank you very much. I hope all of you -- I will see you in June at NAREIT and we will look forward to working with you.

Ladies and gentlemen, this concludes the Sunstone Hotel Investors Q1 2007 conference call. If you'd like to listen to a replay of today's teleconference, please dial 1-800-405-2236 or 303-590-3000 and enter the pass code 1108 7759. (OPERATOR INSTRUCTIONS). We would like to thank you for your participation today. You may now disconnect.