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| MAR > SEC Filings for MAR > Form 10-Q on 17-Jul-2009 | All Recent SEC Filings |
17-Jul-2009
Quarterly Report
Forward-Looking Statements
We make forward-looking statements in Management's Discussion and Analysis of Financial Condition and Results of Operations and elsewhere in this report based on the beliefs and assumptions of our management and on information currently available to us. Forward-looking statements include information about our possible or assumed future results of operations, which follow under the headings "Business and Overview," "Liquidity and Capital Resources," and other statements throughout this report preceded by, followed by or that include the words "believes," "expects," "anticipates," "intends," "plans," "estimates" or similar expressions.
Forward-looking statements are subject to a number of risks and uncertainties that could cause actual results to differ materially from those expressed in these forward-looking statements, including the risks and uncertainties described below and other factors we describe from time to time in our periodic filings with the U.S. Securities and Exchange Commission (the "SEC"). We therefore caution you not to rely unduly on any forward-looking statements. The forward-looking statements in this report speak only as of the date of this report, and we undertake no obligation to update or revise any forward-looking statement, whether as a result of new information, future developments or otherwise.
In addition, see the "Item 1A. Risk Factors" caption in the "Part II-OTHER INFORMATION" section of this report.
BUSINESS AND OVERVIEW
Lodging
The deepening economic recession, the global credit crisis, and eroding consumer confidence all contributed to a difficult business environment in the first half of 2009. Lodging demand in the United States, as well as internationally, remained soft throughout the first half of 2009, as a result of slowing economic growth while hotel room supply increased in several markets. Outside the United States, concerns in the 2009 second quarter regarding the H1N1 virus also impacted demand in Mexico and some markets in Asia. Demand for our luxury properties remained particularly weak. We experienced continued weakness associated with both group and business transient demand. While group meeting cancellations have moderated in the 2009 second quarter, we continued to experience significant attrition rates from expected attendance at meetings. As compared to the 2009 first quarter, leisure demand has improved in the 2009 second quarter, largely due to significant discounting. Through these challenging times, our strategy and focus continues to be to preserve profit margins by driving revenue, increasing our market share and managing costs.
We currently have over 110,000 rooms in our lodging development pipeline. During the first half of 2009, we opened 17,276 rooms (gross), which included 298 residential units. Approximately 8 percent of these rooms were conversions from competitor brands and 30 percent of the new rooms were located outside the United States. For the full 2009 fiscal year, we expect to open approximately 30,000 rooms (gross), not including residential units or timeshare units.
Responding to the challenging demand environment for hotel rooms, we continue to deploy a range of new sales promotions with a focus on leisure and group business opportunities to increase both property-level revenue and market share. These promotions are designed both to reward and retain loyal customers and to attract new guests. Our sophisticated revenue management tools allow us to monitor and respond quickly across our system to changing demand patterns. Marriott.com and our loyal Marriott Rewards member base are both low cost and high impact vehicles for our revenue generation efforts. In response to increased hesitancy to finalize group bookings, we have also implemented sales associate and customer incentives to close on business.
As more customers use social media, we have also found new ways to connect, communicating with our customers on YouTube, Twitter, Facebook, and through our blog "Marriott on the Move." We also continue to enhance our Marriott Rewards loyalty program offerings and specifically and strategically
market to this large and growing customer base. As a result, most of our brands continue to gain market share on a global basis.
Properties in our system have instituted very tight cost controls. Given this slower demand environment, we continue to work aggressively to reduce costs and enhance property-level house profit margins by modifying menus and restaurant hours, reviewing and adjusting room amenities, relaxing some nonessential brand standards for hotels, cross-training personnel, utilizing personnel at multiple properties where feasible, eliminating certain positions, and not filling some vacant positions. We have also reduced above-property costs by scaling back systems, processing, and support areas that are allocated to the hotels. We have also not filled or eliminated certain above-property positions, and have encouraged, or, where legally permitted, required employees to use their vacation time accrued during the 2009 fiscal year. Additionally, we canceled certain hotel development projects in 2008.
Our lodging business model involves managing and franchising hotels, rather than owning them. At June 19, 2009, 48 percent of the hotel rooms in our system were operated under management agreements, 50 percent were operated under franchise agreements, and 2 percent were owned or leased by us. Our emphasis on management contracts and franchising tends to provide more stable earnings in periods of economic softness while continued unit expansion, reflecting properties added to our system, generates ongoing growth. With long-term management and franchise agreements, this strategy has allowed substantial growth while reducing financial leverage and risk in a cyclical industry. Additionally, we increase our financial flexibility by reducing our capital investments and adopting a strategy of recycling those investments we do make.
We calculate RevPAR (revenue per available room) by dividing room sales for comparable properties by room nights available to guests for the period. We consider RevPAR to be a meaningful indicator of our performance because it measures the period-over-period change in room revenues for comparable properties. RevPAR may not be comparable to similarly titled measures, such as revenues. References to RevPAR throughout this report are in constant dollars, unless otherwise noted.
Company-operated house profit margin is the ratio of property-level gross operating profit (also known as house profit) to total property-level revenue. We consider house profit margin to be a meaningful indicator of our performance because this ratio measures our overall ability as the operator to produce property-level profits by generating sales and controlling the operating expenses over which we have the most direct control. Gross operating profit includes room, food and beverage, and other revenue and the related expenses including payroll and benefits expenses, as well as repairs and maintenance, utility, general and administrative, and sales and marketing expenses. Gross operating profit does not include the impact of management fees, furniture, fixtures and equipment replacement reserves, insurance, taxes, or other fixed expenses.
For our North American comparable company-operated properties, RevPAR decreased by 20.9 percent in the first half of 2009, compared to the year-ago period, reflecting weakness in most markets. Our 2009 fiscal year began on January 3, 2009, while the prior year included the New Year's holiday. If RevPAR for the first half of 2009 was calculated for the twenty-four weeks beginning on December 27, 2008, RevPAR would have declined by an average of 22.5 percent for our North American comparable company-operated properties. For our comparable managed properties outside North America, RevPAR for the first half of 2009 also decreased versus the prior year period particularly in Mexico, China, Thailand, India, the United Arab Emirates, and Europe.
Timeshare
The recession, the global credit crisis, and weak consumer confidence also kept demand for timeshare intervals soft in the first half of 2009. Demand for Ritz-Carlton fractional and residential units was particularly weak. As a result, we slowed or canceled some development projects and closed less efficient timeshare sales offices in 2008 and 2009. We also increased marketing efforts and purchase
incentives and eliminated or did not fill certain positions in 2008 and the first half of 2009. During the 2009 second quarter, we were able to increase sales over the 2009 first quarter through various sales promotions, including pricing adjustments.
As with Lodging, our Timeshare properties have instituted very tight cost controls, and we have not filled or eliminated certain above-property positions, and have encouraged, or, where legally permitted, required employees to use their vacation time accrued during the 2009 fiscal year. In addition, we are currently assessing strategic alternatives for each of our projects to address the weaker demand environment, including among other things, future development plans, inventory requirements and determining what, if any, pricing adjustments may be appropriate to stimulate sales and accelerate cash flows and returns. Changes to our plans could have a material impact on the carrying value of certain projects in our inventory and result in impairment or other charges. For additional information on our company-wide restructuring efforts, see our "Restructuring Costs and Other Charges" caption later in this section.
Since the sale of timeshare and fractional intervals and condominiums follows the percentage-of-completion accounting method, soft demand frequently is not reflected in our Timeshare segment results until later accounting periods. Intentional and unintentional construction delays could also reduce nearer-term Timeshare segment results as percentage-of-completion revenue recognition may correspondingly be delayed as well.
CONSOLIDATED RESULTS
The following discussion presents an analysis of results of our operations for the twelve weeks and twenty-four weeks ended June 19, 2009, compared to the twelve weeks and twenty-four weeks ended June 13, 2008. Including residential products, we opened 234 properties (35,200 rooms) while 18 properties (3,370 rooms) exited the system since the second quarter of 2008.
Revenues
Twelve Weeks. Revenues decreased by $623 million (20 percent) to $2,562 million in the second quarter of 2009 from $3,185 million in the second quarter of 2008, as a result of lower: cost reimbursements revenue ($317 million); Timeshare sales and service revenue ($105 million); owned, leased, corporate housing, and other revenue ($81 million); incentive management fees ($68 million (comprised of $51 million for North America and $17 million outside of North America)); base management fees ($35 million (comprised of $26 million for North America and $9 million outside of North America)); and franchise fees ($17 million).
The decrease in Timeshare sales and services revenue, to $283 million in the 2009 second quarter, from $388 million in the 2008 second quarter, primarily reflected lower demand for timeshare interval and fractional projects and lower financing revenue. Favorable reportability from projects that started sales or became reportable subsequent to the 2008 second quarter partially offset this decrease.
The decrease in owned, leased, corporate housing, and other revenue, to $238 million in the 2009 quarter, from $319 million in the 2008 second quarter, largely reflected $74 million of lower revenue for owned and leased properties, and $8 million of lower hotel agreement termination fees, partially offset by $5 million of increased branding fees associated with affinity card endorsements. Combined branding fees associated with affinity card endorsements and the sale of branded residential real estate totaled $19 million and $15 million in the second quarters of 2009 and 2008, respectively. The decrease in owned and leased revenue primarily reflected RevPAR declines associated with weak lodging demand.
The decrease in incentive management fees, to $35 million in the 2009 second quarter from $103 million in the 2008 second quarter, reflected lower property-level revenue, associated with weak demand and the associated lower property-level operating income and margins in the second quarter of 2009 compared to the second quarter of 2008. The impact of weak demand on incentive management fees was partially offset by the impact of strong cost controls. The decreases in base management fees, to
$126 million in the 2009 second quarter from $161 million in the 2008 second quarter, and franchise fees, to $93 million in the 2009 second quarter from $110 million in the 2008 second quarter, reflected RevPAR declines driven by weaker demand, partially offset by the impact of unit growth across the system.
Cost reimbursements revenue represents reimbursements of costs incurred on behalf of managed and franchised properties and relates, predominantly, to payroll costs at managed properties where we are the employer. This revenue and related expense has no impact on either our operating income or net income attributable to us, because we record cost reimbursements based upon the costs incurred with no added markup. The decrease in cost reimbursements revenue, to $1,787 million in the 2009 second quarter from $2,104 million in the 2008 second quarter, reflected lower property-level costs, in response to weaker demand and cost controls, partially offset by the impact of growth across the system. We added 26 managed properties (8,098 rooms) and 179 franchised properties (21,965 rooms) to our system since the end of the 2008 second quarter, net of properties exiting the system.
Twenty-four Weeks. Revenues decreased by $1,075 million (18 percent) to $5,057 million in the first half of 2009 from $6,132 million in the first half of 2008, as a result of lower: cost reimbursements revenue ($540 million); Timeshare sales and service revenue ($222 million); owned, leased, corporate housing, and other revenue ($131 million); incentive management fees ($99 million (comprised of $73 million for North America and $26 million outside of North America)); base management fees ($58 million (comprised of $40 million for North America and $18 million outside of North America)); and franchise fees ($25 million).
The decrease in Timeshare sales and services revenue, to $492 million in the first half of 2009, from $714 million in the first half of 2008, primarily reflected lower demand for timeshare interval and residential projects and lower financing revenue. Favorable reportability from projects that became reportable subsequent to the first half of 2008 partially offset this decrease.
The decrease in owned, leased, corporate housing, and other revenue, to $458 million in the first half of 2009, from $589 million in the first half of 2008, largely reflected $123 million of lower revenue for owned and leased properties, and $10 million of lower hotel agreement termination fees, partially offset by $7 million of increased branding fees associated with affinity card endorsements. Branding fees associated with the sale of residential real estate declined by $4 million. Combined branding fees associated with affinity card endorsements and the sale of branded residential real estate totaled $31 million and $28 million in the first halves of 2009 and 2008, respectively. The decrease in owned and leased revenue primarily reflected RevPAR declines associated with weak lodging demand.
The decrease in incentive management fees, to $78 million in the first half of 2009 from $177 million in the first half of 2008, reflected lower property-level revenue, associated with weak demand and the associated lower property-level operating income and margins in the first half of 2009 compared to the first half of 2008. The impact of weak demand on incentive management fees was partially offset by the impact of strong cost controls. The decreases in base management fees, to $251 million in the first half of 2009 from $309 million in the first half of 2008, and franchise fees, to $181 million in the first half of 2009 from $206 million in the first half of 2008, reflected RevPAR declines driven by weaker demand, partially offset by the impact of unit growth across the system.
The decrease in cost reimbursements revenue, to $3,597 million in the first half of 2009 from $4,137 million in the first half of 2008, reflected lower property-level costs, in response to weaker demand and cost controls, partially offset by the impact of growth across the system.
Restructuring Costs and Other Charges
During the latter part of 2008, we experienced a significant decline in demand for hotel rooms both domestically and internationally as a result, in part, of the recent failures and near failures of a number of large financial service companies in the fourth quarter of 2008 and the dramatic downturn in the
economy. Our capital intensive Timeshare business was also hurt both domestically and internationally by the downturn in market conditions and particularly the significant deterioration in the credit markets, which resulted in our decision not to complete a note sale in the fourth quarter of 2008 (although we did complete a note sale in the first quarter of 2009). These declines resulted in reduced management and franchise fees, cancellation of development projects, reduced timeshare contract sales, and anticipated losses under guarantees and loans. In the fourth quarter of 2008, we put certain company-wide cost-saving measures in place in response to these declines, with individual company segments and corporate departments implementing further cost saving measures. Upper-level management responsible for the Timeshare segment, hotel operations, development, and above-property level management of the various corporate departments and brand teams individually led these decentralized management initiatives. The various initiatives resulted in aggregate restructuring costs of $55 million that we recorded in the fourth quarter of 2008. We also recorded $137 million of other charges in the 2008 fourth quarter. For information regarding the fourth quarter 2008 charges, see Footnote No. 20, "Restructuring Costs and Other Charges," in our 2008 Form 10-K.
Restructuring Costs
As part of the restructuring actions we began in the fourth quarter of 2008, we initiated further cost savings measures in the 2009 first and second quarters associated with our Timeshare segment, hotel development, above-property level management, and corporate overhead. These further measures resulted in additional restructuring costs of $35 million in the first half of 2009, $33 million of which were incurred in the second quarter. These first half 2009 restructuring costs included: (1) $12 million in severance costs related to the reduction of 854 employees, $10 million of which were incurred in the second quarter for 749 employees terminated during the quarter (the majority of whom were given notice of termination by June 19, 2009); (2) $22 million in facilities exit costs incurred in the second quarter of 2009; and (3) $1 million related to the write-off of capitalized costs relating to development projects no longer deemed viable in the second quarter of 2009. The severance costs do not reflect amounts billed out separately to owners for property-level severance costs. The $10 million of severance costs we recorded in the 2009 second quarter reflected a portion of the $8 million to $13 million in costs that, as disclosed in our 2009 First Quarter Form 10-Q, we expected to incur in the second through fourth quarter of 2009. Of the $22 million of facilities exit costs we recorded in the 2009 second quarter, $5 million reflected a portion of the $3 million to $5 million in costs that, as disclosed in our 2009 First Quarter Form 10-Q, we expected to incur in the second through fourth quarter of 2009 and $17 million reflected incremental costs that we incurred as a result of further cost savings measures we implemented in the second quarter.
As part of the restructuring efforts in our Timeshare segment, we reduced and consolidated sales channels in the United States and closed down certain operations in Europe in the fourth quarter of 2008. We recorded Timeshare restructuring costs of $28 million in the 2008 fourth quarter. We recorded further Timeshare restructuring costs in the first half of 2009 of $31 million including: (1) $8 million in severance costs, of which $7 million were incurred in the second quarter of 2009; (2) $22 million in facility exit costs incurred in the second quarter of 2009, primarily associated with noncancelable lease costs in excess of estimated sublease income arising from the reduction in personnel, ceased use of certain lease facilities, and $3 million in fixed asset impairments; and (3) $1 million related to the write-off of capitalized costs relating to development projects no longer deemed viable in the second quarter of 2009. In connection with these initiatives, we expect to incur an additional $2 million to $4 million related to severance and fringe benefits and $2 million to $4 million related to ceasing use of additional noncancelable leases in 2009. We are projecting $70 million to $90 million ($43 million to $55 million after-tax) of annual cost savings as of the beginning of 2009 as a result of the restructuring, of which $30 million ($18 million after-tax) has already been realized. These savings will likely be reflected in the "Timeshare-direct" and the "General, administrative, and other expenses" captions in our Condensed Consolidated Statements of Income. In addition, we are currently assessing strategic alternatives for each of our Timeshare projects to address the weak demand environment, including among other things, our future development plans and inventory requirements, and determining what, if any, pricing adjustments may be appropriate to stimulate Timeshare segment sales and accelerate cash flows and returns. It
is possible that changes to our plans could have a material impact on the carrying value of certain projects in our inventory and result in impairment or other charges. We expect to complete the portion of our restructuring efforts related to our Timeshare segment, including any adjustments related to inventory that may arise as a result of our assessment of strategic alternatives, by year-end 2009.
As part of the hotel development restructuring efforts across several of our Lodging segments in the fourth quarter of 2008, we discontinued certain development projects that required our investment. We recorded restructuring costs in the 2008 fourth quarter of $24 million. We recorded further hotel development restructuring costs in the first half of 2009 of $1 million for severance and fringe benefit costs, none of which was incurred in the second quarter of 2009. In connection with these initiatives, we expect to incur at least an additional $2 million related to severance and fringe benefits. We expect to complete this restructuring by year-end 2009. We are projecting $5 million to $6 million ($3 million to $4 million after-tax) of annual cost savings as of the beginning of 2009 as a result of the restructuring, of which $1 million ($1 million after-tax) has already been realized. These savings will likely be reflected in the "General, administrative, and other expenses" caption in our Condensed Consolidated Statements of Income.
We also implemented restructuring initiatives by reducing above property-level lodging management personnel and corporate overhead. We incurred 2008 fourth quarter restructuring costs of $3 million primarily reflecting severance and fringe benefit costs. We recorded further restructuring costs in the second quarter of 2009 of $3 million for severance and fringe benefit costs. In connection with these initiatives, we expect to incur at least an additional $2 million to $3 million related to severance and fringe benefits in 2009. We expect to complete this restructuring by year-end 2009. We are projecting up to $7 million ($4 million after-tax) of annual cost savings as of the beginning of 2009 as a result of the restructuring, of which $2 million ($1 million after-tax) has already been realized. These savings will likely be reflected in the "General, administrative, and other expenses" caption in our Condensed Consolidated Statements of Income.
Other Charges
We also incurred $151 million of other charges in the first half of 2009, of which $24 million were incurred in the second quarter of 2009, as detailed in the following paragraphs.
Security Deposit and Joint Venture Asset Impairments
We sometimes issue guarantees to lenders and other third parties in connection with financing transactions and other obligations. As a result of the continued downturn in the economy, certain hotels have experienced significant declines in profitability and accordingly, may experience cash flow shortfalls. In the fourth quarter of 2008, we concluded based on cash flow projections that we would fund certain cash flow shortfalls in two portfolios of hotels in order to prevent draws against the related security deposits and the potential conversion of the related management contracts to franchise agreements, even though the related guarantees had expired. We did not deem these fundings to be fully recoverable and recorded a corresponding charge of $16 million for the amount we expected to fund but not recover. However, in the first quarter of 2009 we decided not to continue funding, as the expected incremental funding levels had increased to unacceptable levels.
As a result of the Company's decisions to stop funding these cash flow shortfalls and based on our internal analysis of expected future discounted cash flows, we determined that we may not recover two security deposits totaling $49 million. We used Level 3 inputs for our discounted cash flows analysis in accordance with FAS No. 157. Our assumptions included property level proformas, growth rates, and inflation. We recorded an impairment charge of $49 million in the first quarter of 2009 to fully reserve these security deposits in the "General, administrative, and other expenses" caption in our Condensed Consolidated Statements of Income. In the 2009 first quarter, we applied the remaining $11 million of the $16 million liability established in the fourth quarter of 2008 against this impairment. In the tables that follow, see the "Impairment of investments and other" caption, which includes the $49 million
impairment charge, and the "Reserves for expected fundings" caption, which includes the $11 million reduction in the liability.
We expect that one project in development, in which the Company has a joint venture investment, will generate lower operating results than we had previously anticipated due to the continued downturn in the economy, and have concluded that it is highly unlikely that we will receive a return on or of our investment without first fully funding potentially significant incremental capital, which we are not inclined to do. As a result, based on our internal analysis of expected discounted future cash flows using Level 3 inputs in accordance with . . .
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