Service Properties Trust (SVC) 2009 Q2 法說會逐字稿

Good day, and welcome to the Hospitality Properties Trust second quarter 2009 financial results conference call. This call is being recorded. At this time, for opening remarks and introductions, I would like to turn the call over to the Director of Investor Relations, Mr. Tim Bonang. Please go ahead, sir.

Thank you Michelle, and good morning, everyone. Joining me on today's call are John Murray, our President, and Mark Kleifges, our Chief Financial Officer. John and Mark will make a short presentation which will be followed by a question-and-answer session. Before we begin today's call, I would like to read our Safe Harbor statement. Today's conference call contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 and federal securities laws. Forward-looking statements are based on HPT's present beliefs and expectations as of today, August 6, 2009. The Company undertakes no obligation to revise or publicly release the results of any revisions to the forward-looking statements made at today's conference call other than through filings with the Securities and Exchange Commission.

In addition, this call may contain non-GAAP numbers including funds from operations or FFO. A reconciliation of FFO to net income is available in our supplemental package found in the Investor Relations section of the Company's website. Actual results may differ materially from those projected in these forward-looking statements. Additional information concerning factors that could cause those differences is contained in our Form 10-K and 10-Q filed with the Securities and Exchange Commission and in our Q2 supplemental and financial data found on the website at www.HPTREIT.com. Investors are cautioned not to place undue reliance on any forward-looking statements. With that, I would like to turn the call over to John Murray.

Thank you, Tim. Good morning and welcome to our 2009 second quarter conference call. Today's prepared remarks may be more brief than usual. The fact is that there is not that much new to report. The economy is still quite weak and that has resulted in continued weak operating results in our properties. Earlier today, HPT reported FFO per share for the 2009 second quarter of $0.96 which excludes $0.14 per share of gains resulting from our repurchase of outstanding senior notes during the quarter. Yesterday TA reported second quarter 2009 financial performance which reflects the continued weakness in the US economy coupled with the impact of steadily rising fuel prices during the quarter, especially in June. Although fuel volumes were down approximately 10% quarter-over-quarter across the 185 HPT owned sites, fuel gross profit decreased by only approximately 5% on higher per gallon margins. We believe TA's performance is as good as could be expected given the weak transportation sector as evidenced by cumulative fuel volume declines of over 24% since 2007.

Non-fuel revenues and gross profit declined 8.7% and 9.4% respectively, about the same as fuel volumes. Property level operating expenses at HPT owned sites were down 3.6% compared to the 2008 second quarter. As a result of the continued volume declines, property level rent coverage declined to 1.19 times in the 2009 second quarter from 1.45 times in the 2008 second quarter. At June 30, TA had approximately $182 million of cash on hand, availability under its line of credit, access to additional CapEx reimbursement from HPT of about $11 million the ability to defer up to $5 million of rent per month through December 2010. We believe the actions taken by TA to improve their business combined with the current liquidity and flexibility provided by the rent deferral agreement enhances TA's ability to enhance liquidity risks that may arise during this continued recession.

Turning to HPT's hotel investments, second quarter 2009 RevPAR declined 23.5% across the 289 hotels driven by a 9 percentage point decline in average occupancy to 66.1% and a decline in average daily rate of 13.1%. RevPAR was weak across all regions, all brands, and all price points compared with the 2008 second quarter. Our upscale extended stay and higher place hotels showed the smallest RevPAR declines down in the 16% to 18% range while our Country Inn and Suites, Radisson, Courtyard by Marriott and Crown Plaza Hotels all dropped by more than 25%.

Across the properties generally, customer mix and shift is due to lower segments to hold occupancy and there is little rate integrity. Despite this, our hotels have generally performed well versus their competitors, direct competitors, and their average year-to-date occupancy, rate, and RevPar index premiums to their competitive sets continues to be approximately 10%, 9% and 20% respectively. Nonetheless, with only one portfolio generating greater than one times coverage of our minimum return this quarter, we are closely monitoring all of our markets and all of our contracts. As much as I would like to tell you that worst is over, there are no clear signs of that. In fact, since our operators were quick to initiate cost saving contingency plans beginning late in the second quarter 2008, year-over-year margin weakness may increase as we move through the balance of 2009. As our operators and industry forecasters, such as Smith Travel and PKF, update their expectations for the balance of 2009 and 2010, the estimates only seem to get worse.

Until the economy begins to generate meaningful GDP growth, hotel performance will remain weak as unusually low business trends in room demand continues to weigh on room rates. As all of HPT's hotel management agreements and leases require that we pay rents and returns monthly and there are corporate guarantees, security deposits and other features which are intended to secure the performance obligations of our tenants and operators. We believe the structure of our agreement aligns HPT's interest with those of our tenants and operators and our properties are operated by large well-known managers like Marriott, IHG, Hyatt and Carlson. Our structure was designed to afford downsize protection to HPT during normal cyclical downturns balanced by a greater sharing of the up side with our operators during normal cyclical up turns. This recession has been far worse than normal.

The severity of the current recession has caused defaults in both the 34 hotel Marriott No. 3 agreement and the 19 hotel Marriott No. 4 agreement. In both cases we have been paid less than the required periodic minimum return and rent since the beginning of the second quarter and have drawn on the related security deposits for the deficient amounts. Based on downward revised forecast for the remainder of 2009 we now expect to draw between $9 million and $10 million on the Marriott number three deposit and between $7 million and $8 million on Marriott number four deposit in 2009.

To keep this in perspective, the amounts we expect to draw on the deposits this year represent approximately 3% of HPT's 2009 total minimum rents and returns assuming full rent deferral by TA. Even if this recession continues through 2010, we believe the security deposits will be adequate to offset the cash flow short falls from these portfolios. HPT remains one of the most secure hotel REITs in the industry and we have maintained our investment grade rating throughout this difficult economic environment. HPT has one of the strongest balance sheets in the industry with $6.4 billion of unencumbered property and no significant debt maturities until 2011. In June and July we sold 19.1 million common shares raising net proceeds of approximately $221 million, further improving HPT's financial flexibility as we weather the storm. Nevertheless, this is the most challenging economic environment we have faced since HPT was formed. Management and our Board of Trustees intend to aggressively asset manage our real estate portfolio and maintain our strong capital base and liquidity. I will now turn the presentation over to Mark Kleifges, our CFO.

Consistent with the rest of the industry, the operating performance of our hotel portfolios continued to weaken in the 2009 second quarter. RevPAR decreased 23.5% with declines across all brands and all portfolios. Gross margin declined 6 percentage points from the 2008 second quarter to 40.1%, and cash flow available to pay our minimum returns and rents declined 41% quarter-over-quarter. As a result of this property level performance, 10 of our 11 hotel operating agreements had returned rent coverage ratios below one time for the second quarter. As John noted, we did not repayment during the quarter of all amounts due under the Marriott No. 3 and No. 4 agreements. For all of our remaining hotel agreements, we received payment of all amounts due to us in the second quarter and it is our current expectation that this will continue for the balance of the year.

Turning to our travel center portfolio. Cash flow available to pay rent at our 185 travel centers decreased $13.7 million or 16.7% from the 2008 second quarter. For the last 12 months cash flow available to pay rent at our travel centers increased $69.3 million or 26.8%. Property level coverage for the last 12 months was 1.24 times for our 145 property lease and 1.5 times for our 40 property lease. Both of these coverage amounts have been calculated based on contractual cash rents and excludes the impact of the rent deferral agreement. TA second quarter 2009 adjusted EBITDAR was $57.4 million, a 9.4% decline from the 2008 second quarter. TA's adjusted EBITDAR coverage of rent for the corporate level of the second quarter was 0.94 times, adding back the $15 million rent deferral during the quarter coverage of cash rent was 1.25 times.

Turning to HPT's operating results for the second quarter, this morning we reported FFO of $91.6 million, or $0.96 per share which excludes $13.3 million or $0.14 per share of gains resulting from our repurchase of senior notes during the quarter. Total minimum rents and returns in the second quarter were $130.2 million, which was affected by TA's deferral of $15 million of rent. Percentage rent and additional returns totaled only $308,000 in the 2009 second quarter versus $9.9 million in the 2008 quarter.

Turning to our balance sheet and liquidity, cash and cash equivalents totaled $31 million at June 30 which includes $23.6 million of cash escrowed for future improvements to our hotels. HPT debt to total capital on a book basis was approximately 46% at June 30. HPT's EBITDA was $134 million in the second quarter and our EBITDA to total fixed charges coverage ratio remains strong at 3.2 times. With respect to our common dividend there is nothing new to report. It remains the Board's plan to determine the amount of the 2009 dividend and what portion, if any, will be paid to common shares.

Next I would like to summarize HPT's recent financing activities. During the second quarter, we repurchased $13.5 million of our convertible senior notes and $57.2 million of various issues of our senior notes for an aggregate purchase price of $56.3 million. In July, we repurchased an additional $175.4 million of our convertible notes for approximately $159.5 million. As of today, we have approximately $265 million of convertible notes outstanding down from $575 million at the beginning of the year. These convertible notes are puttable to HPT in March 2012.

In June, we sold 17.5 million common shares raising net proceeds of approximately $192.4 million and on July 1 the underwriters exercised their option to buy an additional $2.6 million -- 2.6 million common shares generating net proceeds of approximately $28.9 million. In both cases, the proceeds were used to reduce borrowings on our revolver. As of today, we have $322 million available under our revolving credit agreement and only one debt maturity of $50 million between now and October 2011. By increasing our common equity base and reducing our 2012 debt maturities, we are working toward positioning HPT with the financial flexibility to grow when hotel acquisition opportunities become available over the next 12 to 24 months. Operator, that concludes our prepared remarks and we are ready to open up the call to questions.

(Operator Instructions). And we will take our first question from Jeff Donnelly with Wells Fargo.

Hi, guys. Actually, I just want to stick with that comment you made before, Mark, on the dividend. I am curious, after the common equity issuance, did the Board at least consider restoring the dividend earlier than Q4? I ask because I appreciate it was suspended earlier in year when visibility was poor to take a conservative stance on your sources and uses the next few years, but considering you raised money and it arguably provides relief, maybe it makes sense to bring that back for shareholders.

No. We didn't give it -- the Board did not give it a whole lot of consideration, Jeff. I think we are going to stick to our original plan and maintain as much flexibility as possible in terms of determining what to do with the dividend at year end and the best way is to look at the capital markets as well as our liquidity when we get to December and make a decision then as to amount and form of payment.

Just a second question is what are you hearing out of the major brands, be it Marriott, Hilton, Hyatt, Starwood etc. for acquisition opportunities out there? I am sure they're seeing difficulty in their own franchise system, but are they reaching out to you right now to maybe engineer ways you can maybe take control of some assets that they're concerned about?

As you know we don't have relationships today with Hilton or Starwood, so we haven't heard much from them. We do have good relationship with operators you mentioned. We have had conversations where they have mentioned that they do have some franchisees, some other owners who may have distress and who may seek to trade but we have not gotten to the point of underwriting any portfolios. And most of what we hear today still revolves around individual properties and typically they're caught up in loan agreements and CMBS structures and special servicers and are not -- we haven't seen any transactions that are sort of ready to come to market. Let's put it that way.

I guess how would you put the probability of HPT maybe making an acquisition, even if it's just single assets say in 2009 versus 2010?

I think the probability is far greater in 2010. It is possible that we might buy something between now and year end but it would have to be an unusual opportunity. I think we are keeping an eye on the market but, as I said, most of what we are seeing is one off, and it may well be that one or two pop free that would be nice additions to portfolios, but we have largely been focused on improving the strength of our balance sheet to be better positioned for portfolio transactions and to take care of maturities that seem problematic to us.

So we have within perhaps a little bit less focused on acquisition activity of hotels just because we haven't been seeing portfolios. We expect that pace to pick up. We are seeing an increased amount of emails flying around about potential transactions and hotels that may be coming to market and more of that is starting to have multiple properties as opposed to individual properties. So realistically I think 2010 is what, I don't think anyone should really be counting on any material acquisitions this year.

Great. Thank you.

(Operator Instructions). Our next question comes from Michael Salinsky with RBC Capital Markets.

Good morning, guys.

Hey, Mike.

A quick question as it relates to the unsecured market. Recently saw Mack-Cali come out with a pretty attractively priced unsecured offering. I know you guys had talked in the past about looking at the unsecured markets possibly to term out the line. Where do you stand with that right now? Is that something you guys are looking at doing and where do you think price would come in at this point?

I think you are right. You pointed to the transaction yesterday, and that was the first unsecured REIT transaction since May if my memory serves me correct and it was a very strong deal. There's two more REIT unsecured deals in the market this morning that I am aware of and what I've heard on those is they're both going very well also. So you have seen a lot of momentum in REIT unsecured markets just over the last few days which obviously we view as a real positive.

In terms of where we could do a deal for the reasons I just explained in terms of what's happened over the last several days, that's a tough question to answer and, to be quite frank, I haven't had a lot of time to reach out to bankers over the last couple of days as a result of the quarter end activities, but clearly I can say without doubt that if we went out now in the market the spreads would be a lot tighter than they were just a week ago which is a real positive from our perspective.

Okay. In the short term, are there still plans to term out the terminal portion of the line or do you want to maintain a pretty high variable rate exposure at this point just given where rates are?

I think our mode of operation has always been to try to take out the line with permanent financing in the form of debt and equity to have the most financial flexibility as possible should acquisition opportunities present themselves. So, as John mentioned, there's, we think the likelihood of the acquisition this year is not great but we think there's going be a lot more opportunity in 2010 and 2011 so there's probably no urgency to take out the line but that is our long-term plan.

I may have missed this in your comments, Mark, but did you talk about the CapEx spend for the year, what your plan is for that?

I think we have, we are expecting maybe $5 million to $10 million that we have got committed being spent over the balance of the year and we are currently in discussions with Marriott about a variety of things including capital spending on the 125 Marriott branded properties that we own. So, I don't really have a good number for that part of the portfolio. But over and above what's in the CapEx reserves I think the best estimate is between $5 million and $10 million over the next two quarters.

Okay. Just a quick check here. With the two Marriott leases, the Marriott Barcelo leases they're not covering shortfalls right now, once those get above one times coverage I'm assuming the excess proceeds go to back fill the security deposits before Barcelo or Marriott takes anything home, am I looking at that correctly?

Yes. After we get paid in those transactions, after we get paid our minimum returns or rent, then the next spot in the waterfall goes to replenishing the security deposit. And then after that it would go towards a base management fee.

Okay. So there's --

There are other fees reservation costs and system fees and things that Marriott gets currently.

But there's like -- there's no loopholes or anything like that where they can get around not having to back fill the security deposits before they take anything, correct? So those have to be back filled?

Correct.

Okay.

Absolutely. They have to repay the deposit.

Final question, the investment in the insurance company here in the first half of the year, what is that specifically related to?

Well, as you know, there's, in addition to HPT, there's a couple of other REITs and real estate operating companies here and property and casualty insurance is a major expense for all of those companies and this insurance company that we have invested in has been set up to provide insurance of -- property insurance, property and casualty insurance. We believe with the amount of properties that are owned by HPT and others here that we ought to be able to get attractive insurance rates and, in fact, we should be able to get insurance costs down from where they are with some of our hotel operating companies today. So, that is the reason for that investment and creating that company.

Okay. Thank you.

Our next question comes from David Loeb with Baird.

A couple of follow ups to those and maybe one in a different direction. I want to start with follow up on Jeff's question about the cash dividend. You made the decision to cut the dividend. It seemed really sound as a way to build up cash to be able to fund the maturities of the convert and the line of credit. Since then, you have issued equity, you bought back a lot of those converts and, therefore, lowered that maturity payment requirement. The unsecured markets are opening up a bit. I guess I am curious as to what the Board was thinking with not coming back with even a small even a token quarterly cash dividend in order to attract investors that are required to have a dividend. What's your thought on paying a nickel or a penny a quarter? What was the Board's thought on that?

As Mark mentioned, David, the Board didn't really, we didn't have any dividend discussion of any significance in our most recent Board meeting and the reason is although we have made up a lot of ground in terms of the maturities that were concerns, the feeling is that there is still a little bit more work to be done on that front and, as a result of those activities, there has been a lot of the activity buying in debt, for instance, generates gains and that all affects taxable income and there have been a lot of changes to tax regulations besides the option to defer, to pay a part of your dividend this year in shares versus cash.

There's different tax incentives where you can defer some of those gains on debt repurchases and then amortize them over longer period and there has been some -- anyway, there's a lot of moving parts and the dividend payment for REIT status is really based on your taxable income and we wanted -- the Board has made a decision they want to know that number is with a reasonable amount of certainty and the only way to know that is to wait until the end of the year and so that was their position and still is their position and we understand that in theory if we put some dividend in it would attract some investors but we don't want to attract investors for the wrong reason or cause other investors to maybe think we are sending a message with just a token dividend. We want to come out with a clear dividend policy based on the most possible knowledge at year end so that everybody is on the same page.

Fair enough. I think the big issue that a lot of us are dealing with is what the real risks are to your portfolio, to your cash flow. So I want to come back to the Marriott three and four. Clearly, Marriott can't be happy working for free and with the prospect of working for free for a really long time. What options do they have with regard to these leases and contracts and what options do you have given the short falls going forward?

First, I wouldn't cry too many tears for Marriott. They're a big well capitalized company and they're covering their costs in our contract. So they're not -- it may appear that they're working for free. They're not getting their profit. They're not getting the 2% base management fee which we believe is profit anyway, but they're not really coming out of pocket to any great degree. So I wouldn't feel too sorry for them. In terms of the rights under the agreement, since they first defaulted we have had the right to terminate the management agreements. We don't believe that they defaulted because they are bad managers or because they have weak brands, but we believe it is largely because of the economy. We also don't believe this is necessarily the best time to find a replacement manager.

So at the present time it seems to us, particularly where we have five arrangements with Marriott and only two of them are in default, it seems like the best course of action for two large well capitalized companies like ourselves who both intend to be in this business for a long period of time, the best course of action is to try and see if we can work this out in a way that's beneficial for both of us. We are in discussions with Marriott, trying to find a satisfactory resolution that is good for our shareholders as well as them trying to find one that's goods for theirs and those discussions are ongoing and probably doesn't make sense for me to go into much more detail about that. From their perspective, they're required to pay the cash flow from the properties to us at a minimum and it is up to them if they want to take the risk that the management contract may be canceled but they don't, for instance, have the right to keep that cash. That's our cash, not their cash. So, it is --

You have the right to terminate, but do they have the right to terminate?

No, they don't. --

Okay.

And I don't think they would, it is a substantial number of hotels at that time when losing that brand power and losing the ability to spread their costs over a large base of hotels would be a detriment to them not a positive to them I don't think.

I really don't mean to put you in a position where you are negotiating by a conference call but I just want to make sure I understand. You talked about them losing the brand power. That's where I was going next. You sounded confident in the past that you have the right to terminate the agreement, including pulling the flags from those. Marriott has said that worst case they would just convert those to franchises. So clearly there's a difference of opinion there. Can you explain a little about the contractual language?

The contractual language is very clear on the management contracts that we have the right to terminate them as manager. There's certain actions that companies take at different times and there have been some taken that we believe have given us some additional rights versus brand termination. We have felt strongly about that in the past but we have also, I think, been clear that we recognize that Marriott felt to the contrary and that it would end up in the fight and that wouldn't be in the probably in the interest of either of us. So, I think we are not currently looking at that.

So it sounds like what you're saying is it is in everybody's interest that these stay Marriott branded, that you stay in the current situation. Your economics are the same in that you're drawing the security deposit and eventually assuming a healthy upturn, you refill all of the buckets so at the end of the day the cash will all come in. I just I guess it is kind of important for everybody and for me at least to understand who's got what rights. So I don't mean to pester you on that, it is all kind of confusing.

Right. I have been as clear as I can on it.

You did fine.

In the circumstances.

One more.

Predicament.

One more quick question, can you give us the remaining balance in the IHG corporate guarantee?

There's -- as of the end of the second quarter is it about $96 million.

Great. Thank you very much.

Thanks, David.

And our next question comes from the Ryan Meliker with Morgan Stanley.

Hi guys. I just had a quick question for you. Actually following up on what David had before. You mentioned that you didn't think it was the best time to find a replacement manager if you decided to go that route. I am wondering why that is. Is it because of the downturn in the environment you think will be challenging to find a manager that would be willing to offer the minimum rents and returns you guys prefer?

Yes, I mean I think that at a minimum if somebody was taking over these properties as a third party manager and they were retaining the Marriott brands that the new manager would not be willing to subordinate their management fee to our return. So, that would automatically move something in that 1% to 3% of revenues from being paid after us to being paid before us.

Right.

And then whether in the current market they might want the terms or not, we don't feel compelled to change any of the terms because we think we have sufficient security.

Okay. That makes sense. Now, following off on that, if you were to acquire a portfolio, do you feel confident that you would have, be able to find management that would be willing to have a similar agreement to what you have with a lot of your portfolios now where you have these minimum returns and minimum rents or will that be a challenge as well as you start to look for acquisitions and will you look more towards not having that security in minimum returns and minimum rents?

Well, I wish I had a crystal ball and give you the absolute right answer on this. There's always risks both ways. I think on one hand, there are some of our -- all of our operators today are either seeing draws on the security deposits or making advances under the guarantees and that is never something a management company enjoys or wants to continue for a lengthy period of time. On the other hand, if you are entering into a new transaction presumably you're setting rents and returns and setting and determining the pricing all based on these reduced levels of performance and so most operators who would probably be looking at that saying probably never going to get this bad again. It's never been this bad before, most likely I am only going to have up side from here and maybe I should be willing to give up a security deposit or guarantee because chances are it is never going be used.

So, I think there is at least an even chance that we continue to do business the same way we have been doing it. I also think that in any capital decision you look at the alternatives. A couple of years ago -- we haven't bought a hotel since 2006 and part of the reason for that was that debt was available at very high loan to values and at very low cost. Today for hotel transactions, long-term values are very low in the 40% to 60% range, rates are high, terms are more onerous and acquirers need to come out with a fair amount of equity of their own and I think that scenario makes our style of financing much more attractive. I don't lose sleep at night over whether we are going to be able to have transactional growth going forward.

Thanks a lot.

Our next question comes from [William E. Thomas] with [Thomas] Income Investing.

Good morning.

Morning.

It concerns me when you say that the Board hasn't even talked or considered or done soul searching regarding the dividend. I think you have to realize, I hope you do in your ivory tower, you have to realize that a good number of HPT investors are income investors and rely on the income, rely on the -- and rely on it and when the Company gives every indication that it considers the dividend important until it does away with the dividend then it talks about the dividend as being, well they don't, you don't say the dividend is unimportant, you just say that other things are more important. And certainly you have to do what's right for the shareholder, but it would seem to me, and I'd like you to comment on this, that one of the main things you would talk about in all of the Board meetings or that the Board would talk about in all of the Board meetings would be return to the share owner, the dividend, what's happening to the dividend in the future. Sure, maybe you can't talk us about the individual share owner about the dividend in the future but the Board can certainly talk about it in the Board room.

I understand where you are coming from with your commentary, and I appreciate it. Maybe I misspoke in my, in that last response. Our Board talks about our dividend policy at every meeting. Our dividend policy is important to our Board, it's important to our management team, and I certainly didn't mean to belittle the importance of it. I guess the point I was trying to make is since we suspended the dividend in April, we have been -- we announced then and we have announced in every conference in every quarterly call since then that it was our intention when we suspended the dividend and it remains our strategy now to have the most facts and to understand where the economy is going and what the impact the economy is having on all of our portfolios and where the capital markets are in terms of our ability to repay coming maturities. And the decision was made we would have the most amount of information and facts about all of those things at the end of the year, and that a lot of those activities impact where the taxable income number is going to be at the end of the year. So the decision was to stick to the current strategy which is to wait until December to make a final determination of what the distribution would be and how it would be paid.

We have also been very clear that we expect to have substantial income this year and so there will need to be that decision made in December, but that's when it is going to be made. We will have the most information to make sure we do it right.

Thank you.

We will take our next question from [James Adams] with [Courage] Capital.

Good morning. Usually during your commentary you give a number on hotel gross margin, maybe I missed that but can you just tell us what that was during the quarter?

The gross margin percentage was 40.1%, down 6 percentage points from the 2008 quarter.

Okay. Thank you.

With no more questions in the queue, I would like to turn the call back over to John Murray for any additional or closing remarks.

Thank you all for joining us today. We look forward to talking to you next quarter. Thanks.

This does conclude today's conference. We thank you for your participation.