SVC

Business Context and Reporting Period

Company: Hospitality Properties Trust (HPT), a Maryland real estate investment trust (REIT).

Reporting Period: Fiscal year ended December 31, 2002.

Business Overview: HPT owns 251 hotels with 34,284 rooms located in 37 U.S. states. The portfolio cost approximately $2.8 billion. The company does not operate hotels; instead, properties are leased to or managed by unaffiliated third parties (e.g., Marriott, Wyndham, Candlewood) under long-term agreements requiring minimum rents and percentage returns based on gross revenue increases.

Key Financial Metrics

Material Changes vs. Prior Period

• Revenue Growth: Total revenues increased 14.8% to $348.7 million, driven primarily by the acquisition of 21 hotels in April 2002 and the consolidation of a Taxable REIT Subsidiary (TRS) which now reports hotel operating revenues and expenses directly.
• FF&E Reserve Income: Decreased 12.4% to $21.6 million due to reduced hotel sales volumes caused by the post-9/11 economic slowdown and reduced business travel.
• Operating Expenses: Total expenses rose 19.2% to $204.9 million, largely due to the inclusion of hotel operating expenses for TRS-leased properties and depreciation on new acquisitions.
• Extraordinary Item: Recognized a $1.6 million loss in 2002 for the early extinguishment of $115 million in senior notes.
• Hotel Performance: Average Daily Rate (ADR) declined 6.8% and RevPAR declined 7.3% across the portfolio compared to 2001, reflecting industry-wide pressure.

Guidance, Outlook, Risks, and Unusual Items

• Outlook: Management expects hotel operating revenues and expenses to increase in the future as 17 additional hotels currently leased by Marriott transition to the TRS structure by June 30, 2004.
• Capital Projects: Plans to fund a modernization program for 36 Courtyard by Marriott hotels (approx. $58.2 million cost) using FF&E reserves and existing cash/credit facilities. This will increase minimum annual rent by 10% of the funded amount.
• Financing Activity: In January 2003, issued $175 million of 6.75% senior notes due 2013. In February 2003, redeemed $150 million of 8.5% senior notes due 2009. Maintains a $350 million unsecured revolving credit facility (undrawn as of year-end).
• Risks:
  • Industry Conditions: Continued declines in travel due to terrorism concerns, war, or recession could impact tenant ability to pay rents.
  • Coverage Ratios: While all rent payments were current, only three of nine hotel pools generated coverage ratios of at least 1.0x in 2002 (down from eight in 2001).
  • Guarantor Net Worth: Certain subtenants and guarantors (Barcelo Crestline, Candlewood) may have net worths below contractual requirements; limited waivers have been granted pending negotiation.
• Unusual Items: Change of independent auditor from Arthur Andersen LLP (ceased operations) to Ernst & Young LLP effective June 28, 2002. No disagreements on accounting matters.

Investor Verification Checklist

• Tenant Guarantees: Verify the status of negotiations regarding net worth waivers for Barcelo Crestline and Candlewood guarantors.
• TRS Transition: Monitor the timeline and financial impact of the remaining 17 Marriott hotels transitioning to the TRS structure.
• Debt Maturity: Review the schedule for debt maturities ($150M in 2008, $50M in 2010, $125M in 2012, $175M in 2013) and refinancing plans.
• FF&E Reserve Utilization: Confirm the funding sources and execution of the $58.2 million Courtyard modernization program.
• Occupancy Trends: Track occupancy and RevPAR recovery rates given the 6.8% ADR decline reported in 2002.