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HST > SEC Filings for HST > Form 10-Q on 6-Nov-2013All Recent SEC Filings

Show all filings for HOST HOTELS & RESORTS, INC.

Form 10-Q for HOST HOTELS & RESORTS, INC.


6-Nov-2013

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

The following discussion and analysis should be read in conjunction with the unaudited condensed consolidated financial statements and related notes included elsewhere in this report. Host Inc. operates as a self-managed and self-administered REIT. Host Inc. is the sole general partner of Host L.P. and holds 98.7% of its partnership interests. Host L.P. is a limited partnership operating through an umbrella partnership structure. The remaining approximately 1.3% of Host L.P.'s common OP units are owned by various unaffiliated limited partners.

Change in Reporting Periods

Effective January 1, 2013, we report quarterly operating results on a calendar cycle, which now is consistent across all of our hotel managers and the majority of companies in the lodging industry. Historically, our annual financial statements have been reported on a calendar basis and are unaffected by this change. However, our quarterly operating results have been reported based on a 52-53 week fiscal calendar used by Marriott International, Inc. ("Marriott"), the manager of approximately 50% of our properties. For 2013, Marriott converted to reporting results based on a 12-month calendar year. During 2012, Marriott used a fiscal year ending on the Friday closest to December 31 and reported twelve weeks of operations for the first three quarters and sixteen weeks for the fourth quarter of the year for its Marriott-managed hotels. Accordingly, our first three quarters of operations in 2012 ended on March 23, June 15 and September 7. In contrast, managers of our other hotels, such as Ritz-Carlton, Hyatt, and Starwood, reported results on a monthly basis. During 2012, we did not report the month of operations that ended after our fiscal quarter until the following quarter for those hotels using a monthly reporting period because these hotel managers did not make mid-month results available to us. Accordingly, the month of operations that ended after our fiscal quarter was included in our quarterly results of operations in the following quarter for those calendar reporting hotel managers. As a result, our 2012 quarterly results of operations include results from hotel managers reporting results on a monthly basis as follows: first quarter (January, February), second quarter (March to May), third quarter (June to August) and fourth quarter (September to December).

We will not restate the previously filed 2012 quarterly financial statements, which are prepared in accordance with GAAP because certain property-level operating expenses for our Marriott-managed properties necessary to restate operations are unavailable on a daily basis. Because we rely upon our operators for the hotel operating results used in our financial statements, the unavailability of this information on a calendar quarter basis for 2012 made restating our financial statements in accordance with GAAP unfeasible. Accordingly, the corresponding 2012 quarterly historical operating results are not comparable to our 2013 quarterly operating results.

However, to enable investors to better evaluate our performance over comparable periods, we have presented certain 2012 quarterly results and operating statistics on a calendar year basis of reporting, which we refer to as "2012 As Adjusted" results. The financial information for the 2012 As Adjusted periods presented herein was calculated based on our actual reported operating results for the quarter and year-to-date periods ended September 7, 2012, adjusted as follows:

Our 58 hotels operated by Marriott traditionally have reported operations on the basis of a 52-53 week fiscal calendar. For the third quarter, operations from June 16, 2012 through September 7, 2012 were included. Based on daily revenue information provided by Marriott, our 2012 third quarter As Reported results for these properties were adjusted to include $159 million of revenue for the 23 days from September 8, 2012 through September 30, 2012 (that previously were included in our results of operations for the fourth quarter 2012) and to exclude $99 million of revenues for the 15 days from June 16, 2012 through June 30, 2012 to determine the 2012 As Adjusted third quarter revenues. Our 2012 As Adjusted year-to-date revenues have been adjusted to include the same 23 days of revenues from September 8, 2012 through September 30, 2012.

Because Marriott is unable to provide us with operating expenses for our Marriott-operated hotels on a daily basis, we derived estimated expenses based on an internally developed allocation methodology based on historical expenses provided by Marriott consistent with its prior 52-53 week reporting calendar. Our 2012 third quarter As Reported operating expenses were adjusted to include approximately $110 million of estimated expenses incurred from September 8, 2012 through September 30, 2012 and to exclude approximately $76 million of operating expenses for the period from June 16, 2012 through June 30, 2012 to determine the 2012 As Adjusted third quarter expenses. Our 2012 As Adjusted year-to-date expenses also have been adjusted to include the 23 days from September 8, 2012 through September 30, 2012.

For our 58 hotels operated by managers other than Marriott (including those managed by Ritz-Carlton, Hyatt and Starwood) that traditionally have reported operations on a calendar month basis, our 2012 As Adjusted quarter results include $208 million of revenues and $154 million of operating expenses for these hotels for the full calendar month of September 2012 that previously were included in our results of operations for the fourth quarter 2012 and excluded $210 million of revenues and $154 million of operating expenses for these hotels for the full calendar month of June 2012, which were included in our second quarter "As Adjusted" results. Our 2012 As adjusted year-to-date results have also been adjusted to include the full calendar month of September 2012 for these hotels.


For all other income statement line items presented for the 2012 As Adjusted quarter and year-to-date periods ended September 30, 2012, including depreciation, interest income and expense and other corporate expenses, as well as those used in the reconciliations for our non-GAAP measures, our As Adjusted results reflect such amounts for the full calendar quarter and year-to-date periods ended September 30, 2012, respectively, based on historical information.

Forward-Looking Statements

In this report on Form 10-Q, we make forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These forward-looking statements are identified by their use of terms and phrases such as "anticipate," "believe," "could," "expect," "may," "intend," "predict," "project," "plan," "will," "estimate" and other similar terms and phrases, including references to assumptions and forecasts of future results. Forward-looking statements are based on management's current expectations and assumptions and are not guarantees of future performance. Forward-looking statements involve known and unknown risks, uncertainties and other factors which may cause our actual results to differ materially from those anticipated at the time the forward-looking statements are made.

The following factors, among others, could cause actual results and future events to differ materially from those set forth or contemplated in the forward-looking statements:

the effect on lodging demand of (i) changes in national and local economic and business conditions, including concerns about global economic prospects and the speed and strength of a recovery, and (ii) other factors such as natural disasters, weather, changes in the international political climate, and the occurrence or potential occurrence of terrorist attacks, all of which will affect occupancy rates at our hotels and the demand for hotel products and services;

operating risks associated with the hotel business, including the effect of increasing labor costs or changes in workplace rules that affect labor costs;

the continuing volatility in global financial and credit markets, and the impact of budget deficits and pending and future U.S. governmental action to address such deficits through reductions in spending and similar austerity measures, which could materially adversely affect U.S. and global economic conditions, business activity, credit availability, borrowing costs, and lodging demand;

the impact of geopolitical developments outside the U.S., such as the sovereign credit issues in certain countries in the European Union, or unrest in the Middle East, which could affect the relative volatility of global credit markets generally, global travel and lodging demand, including for our foreign hotel properties;

the effect of rating agency downgrades of our debt securities on the cost and availability of new debt financings;

the reduction in our operating flexibility and the limitation on our ability to pay dividends and make distributions resulting from restrictive covenants in our debt agreements, which limit the amount of distributions from Host L.P. to Host Inc., and other risks associated with the level of our indebtedness or related to restrictive covenants in our debt agreements, including the risk of default that could occur;

our ability to maintain our properties in a first-class manner, including meeting capital expenditures requirements, and the effect of renovations on our hotel occupancy and financial results;

our ability to compete effectively in areas such as access, location, quality of accommodations and room rate structures;

our ability to acquire or develop additional properties and the risk that potential acquisitions or developments may not perform in accordance with our expectations;

relationships with property managers and joint venture partners and our ability to realize the expected benefits of our joint ventures and other strategic relationships;

our ability to recover fully under our existing insurance policies for terrorist acts and our ability to maintain adequate or full replacement cost "all-risk" property insurance policies on our properties on commercially reasonable terms;

the effects of tax legislative action and other changes in laws and regulations, or the interpretation thereof, including the need for compliance with new environmental and safety requirements; and

the ability of Host Inc. and each of the REIT entities acquired, established or to be established by Host Inc. to continue to satisfy complex rules in order to qualify as REITs for federal income tax purposes, Host L.P's ability to satisfy the rules required to maintain its status as a partnership for federal income tax purposes, and Host Inc.'s and Host L.P.'s ability and the ability of our subsidiaries, and similar entities to be acquired or established by us, to operate effectively within the limitations imposed by these rules.


We undertake no obligation to publicly update forward-looking statements, whether as a result of new information, future events, or otherwise. Achievement of future results is subject to risks, uncertainties and potentially inaccurate assumptions, including those risk factors discussed in our Annual Report on Form 10-K for the year ended December 31, 2012 and in other filings with the Securities and Exchange Commission ("SEC"). Although we believe the expectations reflected in such forward-looking statements are based upon reasonable assumptions, we can give no assurance that we will attain these expectations or that any deviations will not be material.

Operating Results and Outlook

Portfolio Overview

Our portfolio strategy focuses on properties in gateway markets and key international cities that are positioned to attract premium, corporate, leisure and international travelers while, at the same time, have significant barriers to entry. We believe the strategic location of our assets in key markets has helped drive improvements in our results since 2009, and, based on historical trends, we believe these markets will have favorable long-term supply and demand dynamics and, consequently, better potential for revenue growth. In the U.S., we will primarily focus on acquiring upper upscale, luxury and upscale hotels, and, secondarily, developing midscale and upscale hotels with strategic partners in these target markets. Our efforts in Europe will include acquiring upper upscale and luxury hotels in our target markets, such as London, Paris and Munich, through our European joint venture. In the Asia-Pacific and Latin America regions, we will concentrate on both upper upscale and luxury hotels and the development of midscale and upscale hotels in our target markets, such as Australia and Brazil, which we may acquire or develop ourselves or in joint ventures with strategic partners. For a more detailed overview of our business, see our most recent Annual Report on Form 10-K.

The following graph summarizes the composition of our consolidated portfolio based on the percentage of owned hotel revenues represented by our luxury, upper upscale and other categories:

[[Image Removed: LOGO]]

Since 2002, the percentage of revenues from our target markets in the U.S. and internationally has increased from approximately 55% to almost 75%. These hotels, which are located in gateway cities such as Boston, New York, Chicago, Los Angeles, San Francisco, and Seattle, continue to benefit from strong overseas arrivals, which increased by approximately 25% between January 1, 2009 and December 31, 2012 (based on data provided by the U.S. Department of Commerce, Office of Travel & Tourism Industries). The following graph summarizes the composition of our consolidated hotels by market based on percentage of revenues (which excludes properties owned by our European and Asian joint ventures):


[[Image Removed: LOGO]]

Change in Reporting Periods

Due to the difference in the reporting period between the third quarter of 2013 (July 1, 2013 through September 30, 2013) and the third quarter of 2012 (June 16, 2012 through September 7, 2012), our results of operations as presented in accordance with GAAP are not comparable to the prior year. As discussed previously, when compared to the 2012 as reported amounts, the third quarter operations for 2013 include an additional 23 days for our Marriott properties for September 8 through September 30, as well as the month of September for our non-Marriott properties, which were reported in the fourth quarter of 2012, and exclude 15 days of operations for our Marriott properties for the period of June 16 through June 30, as well as the month of June for our non-Marriott properties, as these are now included in our second quarter 2013 results. Similarly, when compared to the 2012 as reported amounts, the year-to-date operations for 2013 include an additional 23 days for our Marriott properties, as well as the month of September for our non-Marriott properties. Therefore, management's discussion of the results of operations will focus on the September 30, 2013 operations compared to the September 30, 2012 As Adjusted period, as a supplemental measure of performance to describe the current trends in our operations.


The following charts reconcile significant statement of operation line items between the quarter and year-to-date ended September 7, 2012 as reported and the quarter and year-to-date ended September 30, 2012 As Adjusted (in millions):

                                                                                      Income (Loss) from
                                                                   Operating              Continuing
                                                 Revenues           Profit                Operations              Net Income (Loss)
For the quarter ended September 7, 2012 (As
Reported)                                        $   1,158        $        61        $                (40 )      $               (36 )
Marriott-managed properties - September 8, 2012
through September 30, 2012                             159                 49                          49                         49
Marriott-managed properties - June 16, 2012
through June 30, 2012                                  (99 )              (23 )                       (23 )                      (23 )
Non-Marriott-managed properties - September 2012
operations                                             208                 54                          54                         54
Non-Marriott-managed properties - June 2012
operations                                            (210 )              (56 )                       (56 )                      (56 )
Depreciation expense - September 8, 2012 through
September 30, 2012 less June 16, 2012 through
June 30, 2012                                           --                (12 )                       (12 )                      (12 )
Interest expense - September 8, 2012 through
September 30, 2012 less June 16, 2012 through
June 30, 2012                                           --                 --                          (5 )                       (5 )
Hotels leased from HPT and other                         8                  2                          (4 )                       (3 )
For the quarter ended September 30, 2012 (As
Adjusted)                                        $   1,224        $        75        $                (37 )      $               (32 )

                                                                                      Income (Loss) from
                                                                   Operating              Continuing
                                                 Revenues           Profit                Operations              Net Income (Loss)
For the year-to-date ended September 7, 2012 (As
Reported)                                        $   3,415        $       253        $                (15 )      $                48
Marriott-managed properties - September 8, 2012
through September 30, 2012                             159                 49                          49                         49
Non-Marriott-managed properties - September 2012
operations                                             208                 54                          54                         54
Depreciation expense - September 8, 2012 through
September 30, 2012                                      --                (37 )                       (37 )                      (37 )
Interest expense - September 8, 2012 through
September 30, 2012                                      --                 --                         (20 )                      (20 )
Hotels leased from HPT and other                        19                 --                          (7 )                       (5 )
For the year-to-date ended September 30, 2012
(As Adjusted)                                    $   3,801        $       319        $                 24        $                89

Operating Results Overview

Owned hotel revenues increased 5.5% for the third quarter and 6.7% for year-to-date 2013, compared to the 2012 As Adjusted results. The growth was driven by a 4.6% improvement at our comparable hotels for both the quarter and year-to-date, as well as non-comparable hotel operations, including strong performance from properties that have benefited from recently completed renovations and, for year-to-date results, $61 million of incremental revenues from the Grand Hyatt Washington and the Hyatt Place Waikiki Beach, which were acquired in July 2012 and May 2013, respectively. For the quarter, transient revenues increased 8.5% due to an increase in demand of 4.0%, as well as a positive mix shift to higher-rated business, which drove a 4.3% rate increase. Group revenues increased 1.5% due to average rate growth of 3.6%, partially offset by a decrease in group room nights of 2.0%. (Business mix results are based on data from 105 of our hotels for which business mix data is available.)

Operating margins (calculated based on GAAP operating profit as a percentage of revenues) increased 40 basis points and 130 basis points for the third quarter and year-to-date of 2013, respectively, as compared to the corresponding 2012 As Adjusted periods. Operating margins are affected significantly by several items, including results from our non-comparable hotels and depreciation expense. Our comparable hotel adjusted operating profit margins, which exclude, among other items, operations from our non-comparable hotels, depreciation and corporate expenses, increased 100 basis points for the year-to-date 2013 when compared to the 2012 As Adjusted periods. Additionally, as anticipated, operating profit growth in the third quarter was our weakest for the year as comparable hotel adjusted operating profit margin growth was unchanged compared to the third quarter 2012 As Adjusted, which was a particularly strong quarter and included significant property-tax refunds and utility rebates totaling $5 million. These items are also reflected in our quarterly comparisons for net income and Adjusted EBITDA. Year-to-date margin growth has been driven by the growth in revenues from room rate improvements. GAAP operating profit grew $4 million, or 5.3%, for the third quarter and $57 million, or 17.9%, for the year-to-date compared to corresponding 2012 As Adjusted periods.

Additionally, hotel dispositions and acquisitions affect year-over-year comparable measures such as net income and Adjusted EBITDA. For the two hotels acquired and five hotels sold (excluding gains on sale) in 2012 and 2013, our net income decreased $1 million in the third quarter 2013 and increased $9 million for year-to-date in the aggregate for operations of these hotels compared to the 2012 As Adjusted results. Similarly, Adjusted EBITDA decreased $5 million in the third quarter 2013 and increased $6 million year-to date for these transactions.


Outlook

While the recent recovery has been less robust than historical norms, particularly in terms of GDP and employment growth, we have experienced significant improvements in demand due to the overall strength in business investment and international travel, both of which correlate to our lodging demand. Over the same period, we have experienced relatively low supply growth in upper upscale hotels in most of our target markets due to the long planning cycle of hotel development projects, lack of available credit in prior years, and the fact that upper upscale hotels in gateway markets have continued to trade below replacement cost. As a result, demand has meaningfully exceeded supply growth in the industry and, assuming the U.S. economy expands at or above current rates, we would expect that trend to continue.

Looking to the fourth quarter of 2013, we continue to believe that the strong overall fundamentals in the lodging industry will continue to drive RevPAR growth and improvements in operating results. Specifically, we expect that the revenue growth in the fourth quarter will be driven by continued strength in transient business, as well as a slight pick-up in group demand for the fourth quarter. As occupancy is currently above prior peak levels, we expect RevPAR growth to be primarily driven by improvements in average rate, which typically drives more profit than growth in occupancy. However, these improvements will be partially offset by the impacts of the government shutdown in October, particularly at our Washington, D.C. properties. We estimate that the government shutdown will decrease revenues by $8 million to $10 million and net income and Adjusted EBITDA by $6 million to $7 million in the fourth quarter. For full year 2013, we believe that these trends will result in improved operating performance and comparable hotel RevPAR growth of 5.5% to 5.7%.

While we believe that the lodging industry will continue to improve, several key factors continue to affect negatively the economic recovery and add to general market uncertainty. These factors include, but are not limited to:
(i) continued high levels of unemployment; (ii) uncertainty in and possible changes to U.S. fiscal and monetary policies, including reduced government spending due to the sequester, potential tightening of monetary policy and uncertainty regarding the federal budget and the borrowing authority for the U.S.; and (iii) the uncertain economic environment in Europe. Therefore, there can be no assurance that any increases in hotel revenues or earnings at our properties or improvements in margins will continue for any number of reasons, including those listed above.

Investing activities outlook

Acquisitions and Development. We continue to seek investment opportunities in our target markets, which we have identified as those that are expected to have the greatest lodging demand growth, the fewest additions to supply, and consequently the strongest potential for revenue growth. We see increased competition for acquisitions in our target markets due to an abundance of capital and the current availability of inexpensive financing. Consequently, pricing for upper upscale and luxury assets has become more aggressive, and recent transaction values have approached replacement cost levels.

Through our 50/50 joint venture with White Lodging Services, we expect to open the Hyatt Place Nashville Downtown on November 12, 2013. The hotel will offer 255 guestrooms and nearly 3,400 square feet of meeting and function space strategically located in the heart of Nashville.

Dispositions. On November 1, 2013 we sold the Portland Marriott Downtown Waterfront for a price of $87 million, which includes $4 million for the FF&E replacement fund. The net proceeds will be used for general corporate purposes. The hotel was classified as held-for-sale as of September 30, 2013. We expect to recognize a gain on the sale of approximately $40 million in the fourth quarter.

Value Enhancement Initiatives. We look to enhance the value of our portfolio by identifying and executing strategies designed to achieve the highest and best use of all aspects of our properties. The following are recent transactions that depict these initiatives:

We reached an agreement with the city of Houston for a new 40-year ground lease for the Houston Airport Marriott, which was set to expire in 2019. Under the terms of the agreement, in 2014, we will invest over $35 million to renovate and enhance the hotel, including complete renovation of the guestrooms and public spaces, as well as elevator and systems upgrades, while ground lease expense as a percentage of revenues has been reduced.

During the third quarter, we successfully converted the Memphis Marriott Downtown to the Sheraton Memphis Downtown, franchised and managed by Davidson Hotels & Resorts. Management believes that this transaction matches the appropriate brand, operator and capital plan for the market and will increase the value of the property.

During the quarter, we reached an agreement with Marriott International with respect to the Calgary Marriott Downtown. We agreed to extend the term of the management agreement and received an increase in the owner's


priority threshold, which will reduce current and future management fees. We intend to invest $23 million in repositioning capital expenditures at the hotel.

In connection with the negotiation of the franchise and management agreements discussed above, we also received the right from our operators to franchise three additional hotels and accelerated a similar franchise right on a fourth hotel. We believe that this additional flexibility substantially improves the value of these hotels by increasing the potential pool of interested buyers. . . .

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