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IHT > SEC Filings for IHT > Form 10-K on 1-May-2013All Recent SEC Filings

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Form 10-K for INNSUITES HOSPITALITY TRUST


1-May-2013

Annual Report


Item 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

OVERVIEW

We are engaged in the ownership and operation of hotel properties. At January 31, 2013, the InnSuites system included five moderate and full-service hotels with 843 hotel suites. Four of our Hotels are branded through membership agreements with Best Western. All five Hotels are trademarked as InnSuites Hotels. We are also involved in various operations incidental to the operation of hotels, such as the operation of restaurants, meeting/banquet room rentals and the operation of a reservation system.

Our operations consist of one reportable segment, hotel ownership, which derives its revenue from the operation of the Hotels. In addition, we receive management fees and reservation fees from three hotels owned by Mr. Wirth and his affiliates, trademark license fees from one hotel owned by a non-related third party and reservation fees from sixty-one hotels owned by non-related third parties.

Our results are significantly affected by occupancy and room rates at the Hotels, our ability to manage costs, and changes in the number of available suites caused by acquisition and disposition activities. Results are also significantly impacted by overall economic conditions and conditions in the travel industry. Unfavorable changes in these factors could negatively impact hotel room demand and pricing, which would reduce our profit margins on rented suites. Additionally, our ability to manage costs could be adversely impacted by significant increases in operating expenses, resulting in lower operating margins. Management expects greater demand and steady supply to continue. However, either a further increase in supply or a further decline in demand could result in increased competition, which could have an adverse effect on the revenue of the Hotels in their respective markets.

Weak economic conditions, both generally and specifically in the travel industry, had a negative impact on our operations in fiscal years 2013 and 2012. We anticipate moderate improvement in these conditions during fiscal year 2014. We expect moderate improvements in overall economic conditions to result in improved business and leisure travel and relatively steady room rates. We expect the major challenge for fiscal year 2014 to be the continuation of strong competition for corporate leisure group and government business in the markets in which we operate, which may affect our ability to increase room rates while maintaining market share. We believe that we have positioned the hotels to remain competitive through selective refurbishment, by carrying a relatively large number of two-room suites at each location and by maintaining a robust guest internet access system.

GENERAL

The following discussion should be read in conjunction with our consolidated financial statements and notes thereto appearing elsewhere in this Form 10-K.

At January 31, 2013, through our sole general partner's interest in the Partnership, we owned a 72.04 % interest in a Hotel Tucson, Arizona, direct 50.13% interest in the Albuquerque, New Mexico Hotel, and a 99.9% direct interest in the Yuma, Arizona Hotel. Additionally, at January 31, 2013, we together with the Partnership owned a 58.11% interest in another hotel located in Tucson, Arizona and a 61.84% interest in a hotel located in Ontario, California. At January 31, 2012, through our sole general partner's interest in the Partnership, we owned a 72.04 % interest in Hotels in Ontario, California and Tucson, Arizona, direct 42.25% interest in the Albuquerque, New Mexico Hotel, 42.20% interest in another Tucson, Arizona Hotel, and a 99.9% direct interest in the Yuma, Arizona Hotel. We purchased 7,631 Partnership Class A units during the year ended January 31, 2013. We purchased 75,726 Partnership Class A units during the year ended January 31, 2012.

Our expenses consist primarily of property taxes, insurance, corporate overhead, interest on mortgage debt, professional fees, depreciation of the Hotels and hotel operating expenses. Hotel operating expenses consist primarily of payroll, guest and maintenance supplies, marketing and utilities expenses. Under the terms of its Partnership Agreement, the Partnership is required to reimburse us for all such expenses. Accordingly, management believes that a review of the historical performance of the operations of the Hotels, particularly with respect to occupancy, which is calculated as rooms sold divided by total rooms available, average daily rate ("ADR"), calculated as total room revenue divided by number of rooms sold, and revenue per available room ("REVPAR"), calculated as total room revenue divided by number of rooms available, is appropriate for understanding revenue from the Hotels. In fiscal year 2013, occupancy increased 2.86% to 64.59% from 61.73% in the prior year. ADR decreased by $3.77 or 5.2% to $67.43 in fiscal year 2013 from $71.20 in fiscal year 2012. The reduced ADR resulted in a decrease in REVPAR of $0.40 or 0.9% to $43.55 in fiscal year 2013 from $43.95 in fiscal year 2012. The increased occupancy and continued pressure on rates reflect the slowly improving economy and travel industry during fiscal year 2013. We have accepted slightly reduced rates to increase our occupancy.


The following table shows certain historical financial and other information for the periods indicated:

                                              For the Years Ended January 31,
                                               2013                     2012

   Occupancy                                        64.59 %                  61.73 %

   Average Daily Rate (ADR)              $          67.43         $          71.20

   Revenue Per Available Room (REVPAR)   $          43.55         $          43.95

No assurance can be given that occupancy, ADR and REVPAR will not increase or decrease as a result of changes in national or local economic or hospitality industry conditions.

We enter into transactions with certain related parties from time to time. For information relating to such related party transactions see the following:

For a discussion of management and licensing agreements with certain related parties, see "Item 1 - Business - Management and Licensing Contracts."

For a discussion of guarantees of our mortgage notes payable by certain related parties, see Note 10 to our Consolidated Financial Statements - "Mortgage Notes Payable."

For a discussion of our equity sales and restructuring agreements involving certain related parties, see Notes 3, 4 and 5 to our Consolidated Financial Statements - "Sale of Ownership Interests in Albuquerque Subsidiary," "Sale of Partnership Interests in Tucson Hospitality Properties Subsidiary," and "Sale of Partnership Interests in Ontario Hospitality Properties Subsidiary," respectively.

For a discussion of other related party transactions, see Note 16 to our Consolidated Financial Statements - "Other Related Party Transactions."

Results of operations of the Trust for the year ended January 31, 2013 compared to the year ended January 31, 2012.

Overview

A summary of operating results for the fiscal years ended January 31 is:

                                          2013              2012            Changes         % Change
Total Revenues                        $  14,977,619     $  17,068,036     $ (2,090,417 )       -12.25 %
Less Payroll Reimbursements from
Related Parties                                   -        (2,231,712 )      2,231,712        -100.00 %
Total Revenues                           14,977,619        14,836,324          141,295           0.95 %

Operating Expenses without Payroll
Costs Related to Management
Contracts                               (15,100,697 )     (14,760,882 )       (339,815 )         2.30 %
Operating Income (Loss) without
Payroll Costs Related to Management
Contracts                                  (123,078 )          75,442         (198,520 )      -263.14 %
Interest Income                               8,937             3,721            5,216         140.18 %
Interest Expense                           (961,709 )      (1,527,507 )        565,798         -37.04 %
Consolidated Loss before Payroll
Costs Related to Management
Contracts                                (1,075,850 )      (1,448,344 )        372,494         -25.72 %

Our overall results in fiscal year 2013 were positively affected by the improving economic environment and the hospitality industry in particular.


Revenue:

For the twelve months ended January 31, 2013, we had total revenue of $15.0 million compared to $17.1 million for the twelve months ended January 31, 2012, a decrease of approximately $2.1 million. This decrease in total revenue is primarily due to the management agreements with the three affiliated hotels being amended. During fiscal year 2013, the Trust did not provide the personnel for the three hotels and therefore did not recognize payroll reimbursement revenue. These agreements were discontinued and the Trust does not expect to realize such revenue in the future. During fiscal year 2012, the Trust recognized income of $2.2 million related to personnel reimbursements. Total revenue for fiscal year 2012 was $14.8 million without these reimbursements. When compared to this adjusted total, fiscal year 2013 revenues increased $141,000 or 1.0%. During fiscal year 2014, we expect improvements in occupancy and modest improvements in rates.

Expenses:

Total expenses of $16.1 million for the twelve months ended January 31, 2013 reflect a decrease of approximately $2.5 million compared to total expenses of $18.5 million for the twelve months ended January 31, 2012. The decrease was primarily due to the amendments to the management contracts mentioned above resulting in no payroll expenses related to those three hotels. Total expenses for fiscal year 2012 were $16.3 million without these payroll expenses. When compared to this adjusted total, fiscal year 2013 total expenses decreased $226,000.

Room expense consisting of salaries and related taxes for property management, front office, housekeeping personnel, reservation fees and room supplies increased to $3.8 million for the fiscal year ended January 31, 2013 compared to $3.5 million in the prior year period for approximately an 8.5% increase in costs. The increase was primarily due to the 2.9% increase in occupancy rate.

General and administrative expenses include overhead charges for management, accounting, shareholder and legal services. General and administrative expenses of $3.0 million for the twelve months ended January 31, 2013 decreased $124,000 from $3.1 million for the twelve months ended January 31, 2012 primarily due to decreased payroll and professional fees at the corporate office.

Sales and marketing expenses of $1.1 million for the twelve months ended January 31, 2013 were consistent with the prior year as were most other expense categories.

Total operating expenses were $15.1 million for the twelve months ended January 31, 2013, a decrease of $1.9 million from the prior year total of $17.0 million. This was primarily due to the amendments to the management agreements with the affiliated hotels resulting in no payroll costs related to management contracts in fiscal year 2013. Total operating expenses for fiscal year 2012 were $14.8 million without these payroll expenses. When compared to this adjusted total, fiscal year 2013 operating expenses increased $340,000. The increase was primarily due to increased room expenses due to higher occupancy and higher food and beverage expenses due to higher revenues in that department.

Total interest expense for the twelve months ended January 31, 2013 was $962,000, a decrease of $566,000 from $1.5 million for the twelve months ended January 31, 2012. The decrease was primarily due to the restructuring of the Ontario mortgage note payable.

Net Loss:

We had a consolidated net loss before income taxes of $1.1 million for the twelve months ended January 31, 2013, compared to $1.4 million in the prior year. After deducting the loss allocated to the non-controlling interest of $69,705, we had a net loss attributable to controlling interests of approximately $1.0 million for fiscal year 2013, which represented approximately $73,000 in additional income attributable to controlling interests, as compared to the twelve months ended January 31, 2012. Basic and diluted net loss per share was $(0.12) for the twelve months ended January 31, 2013, compared to $(0.13) for fiscal year 2012. The change from the prior year is primarily attributable to reduced interest expenses due to the restructure of the Ontario mortgage note payable. Overall, our non-controlling interest has decreased in the current fiscal year.


LIQUIDITY AND CAPITAL RESOURCES

Overview

Our principal source of cash to meet our cash requirements, including distributions to our shareholders, is our share of the Partnership's cash flow, quarterly distributions from Albuquerque, New Mexico property and through the Partnership and our direct ownership of the Yuma, Arizona property. The Partnership's principal source of revenue is hotel operations for the one hotel property it owns and quarterly distributions from the Tucson, Arizona and Ontario, California properties. Our liquidity, including our ability to make distributions to our shareholders, will depend upon our ability, and the Partnership's ability, to generate sufficient cash flow from hotel operations and to service our debt.

Hotel operations are significantly affected by occupancy and room rates at the Hotels. We anticipate occupancy and ADR will be improved in the coming year, capital improvements are expected to be reduced by approximately $800,000 from the prior year and we expect increased cash flow from the reduction of principal and interest payments on the Ontario property. Additionally, we have extended and increased our bank line of credit from $500,000 to $600,000 which matures on June 23, 2013. As of January 31, 2013, the Trust had $450,000 drawn on this line of credit. We are currently in discussions with the bank and anticipate a renewal of at least an additional year on this line of credit. As of April 24, 2013, the outstanding balance on the line of credit was $0.

With the expected decrease in capital improvements, the availability of the $600,000 bank line of credit which Management expects to renew and increased cash flow from the reduction of principal and interest payments on the Ontario property, management believes that it will have enough cash on hand to meet all of our financial obligations as they become due. Management is actively discussing with the bank an extension of the line of credit. In addition, our management is analyzing other strategic options available to us, including the refinancing of another property or raising additional funds through additional non-controlling interest sales.

We anticipate a moderate improvement in the weak overall economic situation that negatively affected results in fiscal year 2012 and 2013, which could result in higher revenues and operating margins. Challenges in fiscal year 2014 are expected to include continued competition for all types of business in the markets in which we operate and our ability to maintain room rates while maintaining market share.

Net cash provided by operating activities totaled $868,000 and $936,000 for the years ended January 31, 2013 and 2012, respectively. The decrease in fiscal year 2013 compared to fiscal year 2012 was due to the large decrease in prepaid balances and increase in payables in fiscal year 2012, which offset the $372,000 improvement in consolidated net loss in fiscal year 2013 compared to fiscal year 2012.

Net cash used in investing activities totaled $1.1 million and $ 970,000 for the years ended January 31, 2013 and 2012, respectively. The increase in funds used in 2013 was due to increased capital refurbishment projects.

Net cash used in financing activities totaled $215,000 for the year ended January 31, 2013, compared to cash provided by financing activities of $522,000 for the year ended January 31, 2012. The decrease was primarily due to the $1.0 million additional principal pay down of the mortgage note payable on the Ontario, California property, which was partially offset by net borrowings of $450,000 on the Trust's bank line of credit during fiscal year 2013.

As of January 31, 2013, we had no commitments for capital expenditures beyond a 4% reserve for refurbishment and replacements that is set aside annually, as described below.

We continue to contribute to a Capital Expenditures Fund (the "Fund") an amount equal to 4% of the InnSuites Hotels' revenues from operation of the Hotels. The Fund is restricted by the mortgage lender for three of our properties. As of January 31, 2013, $13,783 was held in these accounts and is reported on our Consolidated Balance Sheet as "Restricted Cash." The Fund is intended to be used for capital improvements to the Hotels and refurbishment and replacement of furniture, fixtures and equipment. During the twelve months ended January 31, 2013 and 2012, the Hotels spent approximately $1.3 million and $970,000, respectively, for capital expenditures. We consider the majority of these improvements to be revenue producing. Therefore, these amounts are capitalized and depreciated over their estimated useful lives. We plan to spend approximately $505,000 for capital expenditures in fiscal year 2014. The Hotels also spent approximately $1.4 million during both fiscal years 2013 and 2012 on repairs and maintenance and these amounts have been charged to expense as incurred.

We have minimum debt payments of approximately $1.4 million and approximately $6.2 million due during fiscal years 2014 and 2015, respectively. On November 23, 2010, we established a revolving bank line of credit, with a credit limit of $500,000 that was subsequently raised to $600,000. The line of credit bears interest at the prime rate plus 1.0% per annum with a 6.0% rate floor, has no financial covenants and matures on June 23, 2013. Management is actively working with the lender to extend this line of credit. The line is secured by a junior security interest in the Yuma, Arizona property and our trade receivables. Mr. Wirth is a guarantor on the line of credit. On January 31, 2013, the Trust had drawn $450,000 under the line of credit. The largest outstanding balance on the line of credit during fiscal year 2013 was $600,000.


As of January 31, 2013, we had mortgage notes payable of $20.0 million outstanding with respect to the Hotels, $352,256 in secured promissory notes outstanding to unrelated third parties arising from the Shares of Beneficial Interest and Partnership unit repurchases, $450,000 outstanding under our bank line of credit, and no principal due and payable under notes and advances payable to Mr. Wirth and his affiliates.

We may seek to negotiate additional credit facilities or issue debt instruments. Any debt incurred or issued by us may be secured or unsecured, long-term, medium-term or short-term, bear interest at a fixed or variable rate and be subject to such other terms as we consider prudent.

SALE OF OWNERSHIP INTERESTS IN ALBUQUERQUE SUBSIDIARY

On July 22, 2010, the Board of Trustees unanimously approved, with Mr. Wirth abstaining, for the Partnership to enter into an agreement with Rare Earth Financial, LLC ("Rare Earth"), an affiliate of Mr. Wirth, to sell additional units in Albuquerque Suite Hospitality, LLC (the "Albuquerque entity"), which owns and operates the Albuquerque, New Mexico hotel property. Under the agreement, Rare Earth agreed to either purchase or bring in other investors to purchase at least 51% of the membership interests in the Albuquerque entity and the parties agreed to restructure the operating agreement of the Albuquerque entity. A total of 400 units were available for sale for $10,000 per unit, with a two-unit minimum subscription. On October 29, 2010, the parties revised the operating agreement.

Under the new operating agreement, Rare Earth became the administrative member of the Albuquerque entity, in charge of the day-to-day management of the company. Additionally, the membership interests in the Albuquerque entity were allocated to three classes with differing cumulative priority distribution rights. Class A units are owned by unrelated third parties and have first priority for distributions, Class B units are owned by the Trust and/or the Partnership and have second priority for distributions, and Class C units are owned by Rare Earth or other affiliates of Mr. Wirth and have the lowest priority for distributions from the Albuquerque entity. Priority distributions are cumulative for five years. After the five years, the Partnership will make distributions per the Partnership agreement at the discretion of the Managing Member. Rare Earth also earned a formation fee equal to $320,000, payable in either cash or units in the Albuquerque entity, which was intended for 32 Class C units in the Albuquerque entity after the sale of at least 160 units. If certain triggering events related to the Albuquerque entity occur prior to the payment of all accumulated distributions to its members, such accumulated distributions will be paid out of any proceeds of the event before general distributions to the members. In the event that the proceeds generated from a triggering event are insufficient to pay the total amount of all such accumulated distributions owed to the members, all Class A members will participate pro rata in the funds available for distribution to them until paid in full, then Class B, and then Class C. After all investors have received their initial capital plus a 7% per annum simple return, any additional profits will be allocated 50% to Rare Earth, with the remaining 50% allocated proportionately to all unit classes. Priority distributions to all Classes are projected to be $280,000 each year for fiscal years 2014 through 2016. The Albuquerque entity is required to use its best efforts to pay the cumulative priority distributions. The Trust does not guarantee and is not otherwise obligated to pay the priority distributions. InnSuites Hotels will continue to provide management, licensing and reservation services to the property.

On July 29, 2010, the Partnership sold approximately 11% of its sole membership interest in the Albuquerque entity for $400,000 to Rare Earth. The price paid reflects the net assets of the Albuquerque entity calculated using the third-party appraisal value for the hotel property and the carrying cost of all other assets and liabilities. Subsequently, Rare Earth received an additional 32 units, or approximately 8%, worth $320,000 as a formation fee resulting in Rare Earth having a total ownership interest of approximately 19% as of January 31, 2011. During the fiscal year ended January 31, 2011, the Partnership sold an additional approximately 47% of its membership interests for $1,754,000 to unrelated third parties and approximately 1% for $20,000 to Mr. Lawrence Pelegrin, who is a member of the Board of Trustees. The transactions were a reduction in the Partnership's controlling interest (see Note 6 - "Variable Interest Entity"), and therefore no gain or loss was reflected in the statements of operations and funds received in excess of cost basis were recorded to equity. On January 24, 2012 the Trust purchased 40 units at $10,000 per unit, or $400,000 from Rare Earth. On August 28, 2012, the Trust repurchased an additional 31.5 units at $10,000 per unit, or $315,000 from Rare Earth. On January 31, 2012 the Trust purchased the Partnership's 114 units at $10,000 per unit, or $1,140,000, by reducing The Trust's receivable from the Partnership. As of January 31, 2013 and January 31, 2012, the Partnership does not hold any ownership interest in the Albuquerque entity, the Trust holds a 50.13 % ownership interest, Mr. Wirth and his affiliates hold a 0.13% interest, and other parties hold a 49.75% interest. The Albuquerque entity has minimum preference payments to unrelated unit holders of $139,300, to the Trust of $140,350 and to Rare Earth of $350 per year payable quarterly for calendar years 2013 and 2014.

SALE OF PARTNERSHIP INTERESTS IN TUCSON HOSPITALITY PROPERTIES SUBSIDIARY

On February 17, 2011, the Trust and Partnership entered into a restructuring agreement with Rare Earth to allow for the sale of non-controlling interest units in Tucson Hospitality Properties, LP (the "Tucson entity"), which operates the Tucson Foothills hotel property and was then wholly-owned by the Partnership. Under the agreement, Rare Earth agreed to either purchase or bring in other investors to purchase up to 250 units, which represents approximately 41% of the outstanding limited partnership units in the Tucson entity, on a post-transaction basis, and the parties agreed to restructure the limited partnership agreement of the Tucson entity. The Board of Trustees approved this restructuring on January 31, 2011.


Under the restructured limited partnership agreement, Rare Earth became a general partner of the Tucson entity along with the Partnership. The limited partnership interests in the Tucson entity were allocated to three classes with differing cumulative priority distribution rights. Class A units are owned by unrelated third parties and have first priority for distributions, Class B units are owned by the Trust and/or the Partnership and have second priority for distributions, and Class C units are owned by Rare Earth or other affiliates of Mr. Wirth and have the lowest priority for distributions from the Tucson entity. Priority distributions are cumulative for five years. After the five years, the Partnership will make distributions per the Partnership agreement, at the discretion of the General Parnter. Rare Earth also received a formation fee of $320,000, conditioned upon and arising from the sale of the first 160 units in the Tucson entity. If certain triggering events related to the Tucson entity occur prior to the payment of all accumulated distributions to its members, such accumulated distributions will be paid out of any proceeds of the event before general distribution of the proceeds to the members. In the event that funds generated from a triggering event are insufficient to pay the total amount of all such accumulated distributions owed to the members, all Class A members will participate pro rata in the funds available for distribution to them until paid in full, then Class B, and then Class C. After all investors have received their initial capital plus a 7% per annum simple return, any additional profits will be allocated 50% to Rare Earth, with the remaining 50% allocated proportionately to all unit classes. Priority distributions to all Classes are projected to be $452,900 each year for fiscal years 2014 through 2017. The Tucson entity is required to use its best efforts to pay the priority distributions. The Trust does not guarantee and is not otherwise obligated to pay the cumulative priority distributions. InnSuites Hotels will continue to provide management, licensing and reservation services to the property.

At January 31, 2013, the Partnership had sold 259 units to unrelated parties at $10,000 per unit totaling $2,590,000. As of January 31, 2013, the Partnership holds a 56.41% ownership interest in the Tucson entity, the Trust holds a 1.70 % ownership interest, Mr. Wirth and his affiliates hold a 1.86% interest, and other parties hold a 40.03% interest. The Tucson entity has minimum preference payments to unrelated unit holders of $181,300, to the Trust of $7,700, to the Partnership of $255,500 and to Rare Earth of $8,400 per year payable quarterly for calendar years 2013 and 2014.

SALE OF PARTNERSHIP INTERESTS IN ONTARIO HOSPITALITY PROPERTIES SUBSIDIARY

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