Overview

We are a self-advised REIT incorporated in Maryland in August 2004 to pursue current and future opportunities in the full-service, upper upscale, upscale and mid-scale segments of the hotel industry. We commenced operations in December 2004 when we completed our initial public offering and acquired six hotel properties. Since the initial public offering, we have engaged in the following acquisitions and dispositions:

• On July 22, 2005, we acquired the Crowne Plaza Jacksonville Riverfront (formerly, the Hilton Jacksonville Riverfront).

• On August 10, 2006, we sold the Holiday Inn Downtown Williamsburg.

• On September 20, 2006, we acquired the Louisville Ramada Riverfront Inn, which has been through an extensive renovation and which we re-opened in May 2008 as the Sheraton Riverside Louisville.

• On August 8, 2007, through our joint venture with Carlyle, we acquired a 25.0% indirect non-controlling interest in the Crowne Plaza Hollywood Beach Resort, a newly renovated 311-room hotel in Hollywood, Florida.

• On October 29, 2007, we acquired a hotel in Tampa, Florida, formerly known as the Tampa Clarion Hotel, which has been through an extensive renovation and which we re-opened in March 2009 as the Crowne Plaza Tampa Westshore.

• On April 24, 2008, we acquired the Hampton Marina Hotel in Hampton, Virginia, which has been renovated and was converted to the Crowne Plaza Hampton Marina in October 2008.

Our hotel portfolio currently consists of nine full-service, upper upscale and mid-scale hotels. These hotels are 100% owned by subsidiaries of our operating partnership. We also own a 25.0% indirect non-controlling interest in the Crowne Plaza Hollywood Beach Resort and we have a leasehold interest in a resort condominium facility in Wrightsville Beach, North Carolina. As of December 31, 2008, we owned the following nine hotel properties:

                                        Number of
Property                                  Rooms      Location              Date of Acquisition
Operating Properties
Hilton Philadelphia Airport                   331    Philadelphia, PA      December 21, 2004
Holiday Inn Laurel West                       207    Laurel, MD            December 21, 2004
Holiday Inn Brownstone                        187    Raleigh, NC           December 21, 2004
Hilton Wilmington Riverside                   272    Wilmington, NC        December 21, 2004
Hilton Savannah DeSoto                        246    Savannah, GA          December 21, 2004
Crowne Plaza Jacksonville Riverfront          292    Jacksonville, FL      July 22, 2005
Sheraton Louisville Riverside                 181    Jeffersonville, IN    September 20, 2006
Crowne Plaza Hampton Marina                   172    Hampton, VA           April 24, 2008
Property Under Development
Crowne Plaza Tampa Westshore(1)               225    Tampa, FL             October 29, 2007

Total                                       2,113

(1) The property formerly operated as the Tampa Clarion Hotel in Tampa, Florida recently completed extensive renovations and re-opened in March 2009 as the Crowne Plaza Tampa Westshore.

We conduct substantially all our business through our operating partnership, MHI Hospitality, L.P. We are the sole general partner of our operating partnership and we own an approximate 65.0% interest in our operating partnership, with the remaining interest being held by limited partners who were contributors of our original hotel properties and related assets.

To qualify as a REIT, we cannot operate hotels. Therefore, our operating partnership leases our hotel properties to our TRS Lessee. Our TRS Lessee has engaged MHI Hotels Services to manage our hotels. Our TRS Lessee and its parent, MHI Hospitality TRS Holding, Inc., are consolidated into our financial statements for accounting purposes. The earnings of MHI Hospitality TRS Holding, Inc. are subject to taxation similar to other C corporations.

Key Operating Metrics

In the hotel industry, most categories of operating costs, with the exception of franchise, management, and credit card fees and the costs of the food and beverages served, do not vary directly with revenues. This aspect of our operating costs creates operating leverage, whereby changes in sales volume disproportionately impact operating results. Room revenue is the most important category of revenue and drives other revenue categories such as food and beverage and telephone. There are three key performance indicators used in the hotel industry to measure room revenues:

• Occupancy, or the number of rooms sold, usually expressed as a percentage of total rooms available;

• Average daily rate or ADR, which is total room revenue divided by the number of rooms sold; and

• Revenue per available room or RevPAR, which is the room revenue divided by the total number of available room nights.

Results of Operations

Comparison of Year Ended December 31, 2008 to Year Ended December 31, 2007

The following table illustrates the key operating metrics for the years ended December 31, 2008 and 2007 for our eight operational properties ("actual properties") as well as the six properties in our portfolio that were under our control during all of 2008 and 2007 ("same-store" properties). Accordingly, the same store data does not reflect the performance of the property previously operated as the Louisville Ramada Riverfront Inn, the property previously operated as the Tampa Clarion Hotel or the property in Hampton, Virginia previously operated as the Hampton Marina Hotel.

                  Year Ended December 31, 2008              Year Ended December 31, 2007
                  Actual              Same-Store            Actual              Same-Store
Occupancy %              61.9 %                66.5 %              69.8 %                69.8 %
ADR           $        123.55       $        120.06     $        118.86       $        118.86
RevPAR        $         76.51       $         79.88     $         82.97       $         82.97

Revenue. Total revenue for the year ended December 31, 2008 was approximately $70.7 million, an increase of approximately $0.9 million or 1.4% from total revenue for the year ended December 31, 2007 of approximately $69.8 million. Increases in room revenue attributable to the opening of the Sheraton Louisville Riverside and the acquisition of the Crowne Plaza Hampton Marina offset declines in room revenues at our property in Savannah while it was under renovation. The overall increase in room revenue offset a decrease in food and beverage revenue.

Room revenues at our properties for the year ended December 31, 2008 increased approximately $1.6 million or 3.3% to approximately $48.1 million compared to room revenues for the year ended December 31, 2007 of approximately $46.5 million. Room revenue from the newly opened Sheraton Louisville Riverside and our recently acquired Crowne Plaza Hampton Marina accounted for incremental room revenues of approximately $3.2 million. The incremental revenue from these two properties offset a decline in room revenue at the Hilton Savannah DeSoto of approximately $1.8 million while it was undergoing renovations. Despite the decline in occupancy and revenue at our Savannah property, our same-store set of hotels produced RevPAR of $79.88, a decrease of only 3.7% over RevPAR of $82.97 for the year ended December 31, 2007. With the progressive

slowing of the economy through the last half of the year and the precipitous decline in business travel and consumer spending, we experienced weakened demand in each of the markets in which we operate. We expect lower demand to continue as the general economic slowdown persists, but total room revenue to increase with the opening of the Crowne Plaza Tampa Westshore and a full year of operations at the Sheraton Louisville Riverside and the Crowne Plaza Hampton Marina.

Food and beverage revenues at our properties for the year ended December 31, 2008 decreased approximately $1.1 million or 5.8% to approximately $18.4 million compared to food and beverage revenues for the year ended December 31, 2007 of approximately $19.5 million. Food and beverage revenue from the newly opened Sheraton Louisville Riverside and our recently acquired Crowne Plaza Hampton Marina accounted for incremental food and beverage revenue of approximately $1.1 million. The incremental revenue from these two properties offset a decline in food and beverage revenue from the Hilton Savannah DeSoto during its renovation, as well as the Hilton Wilmington Riverside. The Hilton Wilmington Riverside closed its restaurant in mid-2007 and entered into a lease with a franchisee of Ruth's Chris Steakhouse restaurant. Revenues from the new lease are reflected in other operating revenues. With the exception of the Holiday Inn Brownstone in Raleigh, North Carolina, we experienced lessened demand for banqueting services in all of our markets due to the weakening economy.

Other operating revenues for the year ended December 31, 2008 increased approximately $0.5 million or 14.4% to approximately $4.2 million compared to other operating revenues for the year ended December 31, 2007 of approximately $3.7 million. Lease revenue from new restaurant tenants at the Hilton Wilmington Riverside and the Sheraton Louisville Riverside, as well as the asset management fee we received from the joint venture that owns the Crowne Plaza Hollywood Beach Resort, constituted a significant portion of the increase.

Hotel Operating Expenses. Hotel operating expenses, which consist of room expenses, food and beverage expenses, other direct expenses, indirect expenses, and management fees, increased approximately $4.0 million or 7.7% for the year ended December 31, 2008 to approximately $55.9 million compared to hotel operating expenses for the year ended December 31, 2007 of approximately $51.9 million. If not for the opening of the Sheraton Louisville Riverside and the acquisition of the Crowne Plaza Hampton Marina, hotel operating expenses would have decreased approximately $1.5 million or 2.9%. We expect hotel operating expenses to increase with the opening of the Crowne Plaza Tampa Westshore and a full year of operations at the Sheraton Louisville Riverside and the Crowne Plaza Hampton Marina.

Rooms expense at our properties for the year ended December 31, 2008 increased approximately $1.3 million or 10.8% to approximately $13.6 million compared to rooms expense of approximately $12.3 million for the year ended December 31, 2007. Rooms expense from the Sheraton Louisville Riverside and the Crowne Plaza Hampton Marina, as well as additional charges for three months of outside laundry services at our Philadelphia property necessitated by the breakdown of laundry equipment in mid-January 2008, accounted for the increase in rooms expense. Food and beverage expenses at our properties for the year ended December 31, 2008 decreased approximately $0.2 million or 1.7% to approximately $13.4 million compared to food and beverage expense of approximately $13.7 million for the year ended December 31, 2007. A significant decrease in sales of food and beverage through banqueting services at many of our properties and lower food costs at our Wilmington property due to closure of the restaurant were partially offset by food and beverage costs related to our newly opened operations at the Sheraton Louisville Riverside and operations at our newly acquired hotel in Hampton, Virginia.

Indirect expenses at our properties for the year ended December 31, 2008 increased approximately $2.9 million or 11.7% to approximately $28.0 million compared to indirect expenses of approximately $25.1 million for the year ended December 31, 2007. Sales and marketing costs, franchise fees, utilities, repairs and maintenance, insurance, management fees, real and personal property taxes as well as general and administrative costs at the property level are included in indirect expenses. Indirect expenses related to the opening of the Sheraton Louisville Riverside and the acquisition of the Crowne Plaza Hampton Marina account for the increase in indirect expenses.

Depreciation and Amortization. Depreciation and amortization for the year ended December 31, 2008 increased approximately $1.3 million or 25.7% to approximately $6.3 million compared to depreciation and amortization expense of approximately $5.0 million for the year ended December 31, 2007. The increase in depreciation and amortization was attributable to the renovations placed in service at the Hilton Wilmington Riverside, the Hilton Savannah DeSoto and the Sheraton Louisville Riverside as well as the acquisition and renovation of the Crowne Plaza Hampton Marina. We expect to realize higher levels of depreciation and amortization expense after the Crowne Plaza Tampa Westshore opens in March 2009 and is placed into service and a full year of depreciation and amortization expense is reflected for renovations completed in 2008.

Corporate General and Administrative. Corporate general and administrative expenses for the year ended December 31, 2008 decreased approximately $0.2 million or 6.3% to approximately $2.9 million compared to corporate general and administrative expenses of approximately $3.1 million for the year ended December 31, 2007. A substantial portion of the decrease is attributable to the lower bonuses in 2008 compared to 2007 awarded to the principal executive officers pursuant to the cash bonus plan established in the first quarter 2007 by the Nominating, Corporate Governance and Compensation Committee of the Board of Directors. We also incurred one-time legal fees in 2007 to structure the program and operating agreements that will allow us to jointly acquire, develop and operate hotel assets and, perhaps, hotel portfolios with Carlyle.

Interest Expense. Interest expense for the year ended December 31, 2008 increased approximately $2.6 million or 61.7% to approximately $6.8 million (net of capitalized interest of approximately $1.6 million) compared to approximately $4.2 million of interest expense (net of capitalized interest of approximately $1.0 million) for the year ended December 31, 2007. Higher interest expense relates to borrowings on the credit facility used to fund the renovations at the Hilton Wilmington Riverside; interest expense on the borrowings on the credit facility associated with the Sheraton Louisville Riverside subsequent to its re-opening and completion of its renovations; borrowings on the mortgage on the Hilton Savannah DeSoto for completion of the renovations at that property, as well as borrowings associated with the purchase of the property in Hampton, Virginia. Interest expense will also increase once the Crowne Plaza Tampa Westshore opens in March 2009 and interest on the borrowings related to that property are no longer capitalized. Higher interest rates on our revolving credit facility related to the execution of the third amendment will result in higher interest costs.

Impairment of Note Receivable. Impairment of note receivable represents a $0.3 million valuation allowance against the $0.4 million promissory note we received upon sale of the Holiday Inn Downtown Williamsburg in August 2006. After entering into default earlier in early 2008, the property was sold at auction in August 2008 for less than the total mortgage indebtedness on the property. We are pursuing the collection of the note, which was guaranteed by individuals affiliated with the debtor. A charge for impairment is being taken in anticipation that a negotiated settlement for less than the full value of the note is more likely to occur than collection of the full face value of the note.

Equity Loss in Joint Venture. Equity income in the joint venture was approximately $50,000 for the year ended December 31, 2008 compared to an equity loss in the joint venture of approximately $1.0 million for the year ended December 31, 2007 and represents our 25.0% share of the net income of the Crowne Plaza Hollywood Beach Resort. During the year ended December 31, 2008, the joint venture was able to restructure the mortgage on the property by purchasing a $22.0 million principal balance junior participation in the outstanding loan on the property at a price of $19.0 million resulting in a $3.0 million gain on extinguishments of debt of the joint venture. For the year ended December 31, 2008, the Crowne Plaza Hollywood Beach Resort reported occupancy of 59.0%, ADR of $151.64 and RevPAR of $89.49. This compares with results reported by the hotel for the first few months of operation ending December 31, 2007, of occupancy of 32.1%, ADR of $144.94 and RevPAR of $46.58.

Income Taxes. The income tax benefit for the year ended December 31, 2008 increased more than six-fold to approximately $1.5 million compared to an income tax benefit for the year ended December 31, 2007 of approximately $0.2 million. The income tax benefit is primarily derived from the operations of our TRS lessee. The net operating loss of our TRS lessee for the year ended December 31, 2008 was significantly larger than the net operating loss for the year ended December 31, 2007.

Net Income. Net income for the year ended December 31, 2008 swung to a loss of approximately $0.6 million compared to net income of approximately $2.5 million for the year ended December 31, 2007 as a result of the operating results discussed above.

Comparison of Year Ended December 31, 2007 to Year Ended December 31, 2006

The following table illustrates the key operating metrics for the years ended December 31, 2007 and 2006 for the six operational properties that are in our current portfolio that were under our control in both 2007 and 2006. Accordingly, it does not reflect the performance of the Holiday Inn Downtown Williamsburg, the property previously operated as the Louisville Ramada Riverfront Inn, the property previously operated as the Hampton Marina Hotel or the property previously operated as the Tampa Clarion Hotel.

                                      Year Ended December 31,
                                        2007             2006
                      Occupancy %           69.8 %          69.7 %
                      ADR           $     118.86       $  112.22
                      RevPAR        $      82.97       $   78.26

(1) The statistics presented for the current portfolio reflect the full-year metrics for all of the six operational hotels in our portfolio at the end of 2007.

Revenue. Total revenue for the year ended December 31, 2007 was approximately $69.8 million, an increase of approximately $2.6 million or 3.8% from total revenue for the year ended December 31, 2006 of approximately $67.2 million. Strong growth in room revenues of approximately 6.0% was offset by the loss of non-recurring consulting fees of approximately $0.7 million from the developer of the Crowne Plaza Hollywood Beach Resort in Hollywood, Florida.

Room revenues at our properties for the year ended December 31, 2007 increased approximately $2.6 million or 6.0% to approximately $46.5 million compared to room revenues for the year ended December 31, 2006 of approximately $43.9 million. A 6.0% increase in RevPAR was achieved through a combined increase in occupancy of 0.1% and average ADR growth of 5.9%. We experienced increases in ADR at our Philadelphia property due to a better mix of business and a strong market. Our property in Laurel, Maryland also contributed to the increase in ADR as we experienced improved results from our efforts to reposition the property. Occupancy increases at our properties in Savannah, Georgia and Jacksonville, Florida were offset by occupancy decreases at our property in Wilmington, North Carolina that had been undergoing significant renovations from April 2007 through April 2008.

Food and beverage revenues at our properties for the year ended December 31, 2007 increased approximately $0.4 million or 2.1% to approximately $19.5 million compared to food and beverage revenues for the year ended December 31, 2006 of approximately $19.1 million. With the exception of our Savannah, Georgia and Philadelphia properties where we saw a significant increase in demand for banqueting services, the remainder of our properties experienced weaker demand for such services. Overall, while room sales from group business remained strong, the demand for banqueting services from those groups had not been as strong.

Other operating revenues for the year ended December 31, 2007 decreased approximately $0.5 million or 11.4% to approximately $3.7 million compared to other operating revenues for the year ended December 31, 2006 of approximately $4.2 million. In the last half of 2006, we realized approximately $0.7 million in non-recurring consulting fees from the developer of the Hollywood, Florida property.

Hotel Operating Expenses. Hotel operating expenses, which consist of room expenses, food and beverage expenses, other direct expenses, indirect expenses, and management fees, increased approximately $1.7 million or 3.3% for the year ended December 31, 2007 to approximately $51.9 million compared to hotel operating expenses for the year ended December 31, 2006 of approximately $50.2 million.

Rooms expense at our properties for the year ended December 31, 2007 increased approximately $0.2 million or 1.3% to approximately $12.3 million compared to rooms expense of approximately $12.1 million for the year ended December 31, 2006. As a percent of room revenues, rooms expense fell from 27.6% to 26.4%. The decrease was due to one-time costs realized in the year ended December 31, 2006 to replace room amenities at our Hilton brand properties.

Food and beverage expenses at our properties for the year ended December 31, 2007 increased approximately $0.7 million or 5.0% to approximately $13.7 million compared to food and beverage expense of approximately $13.0 million for the year ended December 31, 2006. Higher food costs and increased costs related to the renovation of the kitchen at the Wilmington, North Carolina property contributed to the increase in food and beverage expense. Indirect expenses at our properties for the year ended December 31, 2007 increased approximately $0.9 million or 3.5% to approximately $25.1 million compared to indirect expenses of approximately $24.2 million for the year ended December 31, 2006.

Depreciation and Amortization. Depreciation and amortization for the year ended December 31, 2007 increased approximately $0.1 million or 2.7% to approximately $5.0 million compared to depreciation and amortization expense of approximately $4.9 million for the year ended December 31, 2006.

Corporate General and Administrative. Corporate general and administrative expenses for the year ended December 31, 2007 increased approximately $0.5 million or 21.1% to approximately $3.1 million compared to corporate general and administrative expenses of approximately $2.6 million for the year ended December 31, 2006. A substantial portion of the increase is attributable to the bonuses granted pursuant to the cash bonus plan for principal executive officers established in the first quarter 2007 by the Nominating, Corporate Governance and Compensation Committee of the Board of Directors. We also incurred additional legal fees in structuring the program and operating agreements that will allow us to jointly acquire, develop and operate hotel assets and, perhaps, hotel portfolios with Carlyle.

Net Operating Income. Operating income for the year ended December 31, 2007 increased approximately $0.2 million or 2.4% to approximately $9.7 million compared to approximately $9.5 million of operating income for the year ended December 31, 2006 as a result of the operating results discussed above.

Interest Expense. Interest expense for the year ended December 31, 2007 decreased approximately $0.05 million or 1.2% to approximately $4.2 million (net of capitalized interest of approximately $1.0 million) compared to approximately $4.3 million of interest expense (net of capitalized interest of approximately $0.2 million) for the year ended December 31, 2006. Lower interest expense related to borrowings on the credit facility for working capital purposes was partially offset by higher interest expense on the mortgage on the Wilmington Hilton Riverside.

Equity Loss in Joint Venture. Equity loss in the joint venture for the year ended December 31, 2007 represents our share of the start-up costs for the Crowne Plaza Hollywood Beach Resort as well as the initial operating losses incurred during the first three months of operation. During the first few months of operation ending December 31, 2007, the hotel reported occupancy of 32.1%, ADR of $144.94 and RevPAR of $46.58.

Income Taxes. We experienced an income tax benefit for the year ended December 31, 2007 of approximately $0.2 million compared to an income tax provision of approximately $0.3 million for the year ended December 31, 2006. The income tax benefit in the current year was largely due to our share of start-up expenses and initial operating losses from our joint venture with Carlyle related to the opening of the Crowne Plaza Hollywood Beach Resort.

Net Income. Net income for the year ended December 31, 2007 decreased approximately $0.7 million or 22.6% to approximately $2.5 million compared to approximately $3.2 million for the year ended December 31, 2006 as a result of the operating results discussed above.

Sources and Uses of Cash

Operating Activities. Our principal source of cash to meet our operating requirements, including distributions to unit holders and stockholders as well as repayments of indebtedness, is the operations of our hotels. Cash flow provided by operating activities for the year ended December 31, 2008 was approximately $7.2 million. We expect that the net cash provided by operations will be adequate to fund the Company's operating requirements, debt service and the payment of dividends in accordance with federal income tax laws which require us make annual distributions to our stockholders of at least 90% of our REIT taxable income, excluding net capital gain. We declared dividends of $0.17 per share (unit) paid on January 11, 2008, April 11, 2008 and July 11, 2008, which we funded out of working capital.

Investing Activities. Approximately $44.4 million was spent during the year ended December 31, 2008 on renovations and capital improvements. Approximately $20.3 million was spent to complete renovations at the Hilton Wilmington Riverside, the Hilton Savannah DeSoto and the Sheraton Louisville Riverside. Approximately $18.6 million was spent on renovations on the Crowne Plaza Tampa Westshore, which opened in March 2009. Lastly, we spent approximately $4.2 million on the renovation of the Crowne Plaza Hampton Marina pursuant to a product improvement plan required in conjunction with its Crowne Plaza license.

On April 24, 2008, we used approximately $2.1 million to purchase the 172-room Hampton Marina Hotel in Hampton, Virginia. To facilitate the purchase, a subsidiary of the Company assumed $5.75 million of existing indebtedness.

On June 13, 2008, we used approximately $4.8 million to restructure the mortgage on the Crowne Plaza Hollywood Beach Resort in which we own a 25.0% minority interest through our joint venture with Carlyle. The joint venture purchased a . . .