Business context and reporting period
This is Apple REIT Nine, Inc.’s unaudited Form 10-Q for the quarter and nine months ended September 30, 2012. The filing identifies the registrant as Apple REIT Nine, Inc., not Apple Hospitality REIT, Inc.; investors should confirm the entity before relying on this summary. The company elected REIT status and reported one operating segment. At quarter-end it owned 89 hotels with 11,371 rooms in 27 states.
Financial performance and position
Amounts below are in U.S. dollars; financial statement amounts are rounded to millions.
| Metric | Q3 2012 | Q3 2011 | Nine months 2012 | Nine months 2011 |
|---|---|---|---|---|
| Total revenue | $93.7m | $85.7m | $278.9m | $242.1m |
| Operating income | $19.6m | $16.9m | $60.2m | $44.6m |
| Income from continuing operations | $17.9m | $15.6m | $55.6m | $41.5m |
| Net income | $17.9m | $20.8m | $62.3m | $56.1m |
| Basic and diluted earnings per share | $0.10 | $0.11 | $0.34 | $0.31 |
- Revenue and hotel indicators: Revenue increased 9% in Q3 and 15% year to date. For comparable hotels, Q3 occupancy was 74% versus 72%, ADR was $111 versus $107, and RevPAR was $82 versus $78. Nine-month occupancy was 73% versus 71%, ADR $112 versus $108, and RevPAR $82 versus $76.
- Margins and costs: Operating margin, calculated as operating income divided by revenue, was approximately 21.0% in Q3 2012 versus 19.8% in Q3 2011, and 21.6% versus 18.4% for the nine-month periods. Hotel operating expenses were 57% of Q3 revenue versus 58%; year to date, 56% versus 57%. General and administrative expense increased 34% year to date, including higher legal and advisory costs.
- Net income comparison: Q3 net income declined despite higher continuing-operations income, largely because the prior-year quarter included $5.1m from discontinued operations; 2012 had none. Nine-month discontinued-operations income was $6.8m in 2012 versus $14.6m in 2011.
- Cash flow: Nine-month operating cash flow was $93.9m, up from $86.4m. Investing activities provided $106.4m, principally reflecting $135.4m in asset-sale proceeds, compared with $148.4m used in the prior-year period. Financing activities used $211.6m, including the $136.1m special distribution and $117.2m in monthly distributions. Cash declined $11.2m to $19.5m.
- Debt and liquidity: Notes payable were $169.5m at September 30, 2012, versus $124.1m at December 31, 2011; total liabilities were $184.9m. The company originated $47.7m of mortgages at 4.89%–4.97%, maturing in 2022, and used part of the proceeds to repay its $30m short-term line of credit. Management planned to seek a $50m revolving credit facility in Q4 2012 and stated expected liquidity sources should meet anticipated needs.
- Assets and equity: Total assets were $1,553.9m versus $1,701.0m at year-end 2011. Real estate held for sale fell from $158.6m to zero following the sale of the Fort Worth parcels. Shareholders’ equity was $1,369.0m versus $1,563.6m.
Material changes and unusual items
- In April 2012, the company sold 110 Fort Worth-area parcels for $198.4m: $138.4m cash and a $60m note receivable. The note bears 10.5% interest, is secured by a junior lien, and has a long-dated maturity in April 2049. Applying the cost-recovery method, the company deferred the approximately $33.7m gain and note interest until cash recovery exceeds its cost basis. The net note receivable reported was $23.6m.
- The sale was followed by a $0.75-per-unit special distribution totaling $136.1m. The annualized regular distribution rate was reduced from $0.88 to $0.83 beginning June 2012, then increased slightly to $0.83025 in August. The company said some distributions had been funded from offering proceeds and borrowings; nine-month distributions of $117.2m, excluding the special distribution, exceeded operating cash flow of $93.9m.
- The company purchased a 119-room Home2 Suites in Nashville for $16.7m and acquired land in Richmond for $3.0m for planned adjoining Courtyard and Residence Inn hotels. The Richmond development is expected to cost about $30m; approximately $0.8m had been spent by quarter-end. Construction was expected to begin in early 2013, with a seller option to reacquire the land at the company’s cost if vertical construction had not begun by July 2013.
- Capital improvements were $13.5m for the first nine months; management anticipated another $6m–$8m for the rest of 2012. Capital-improvement reserves were $8.5m at quarter-end.
Outlook, risks, and contingencies
- Management anticipated mid-single-digit revenue growth at comparable hotels for the remainder of 2012 and similar year-over-year increases in 2013. It cautioned that unemployment, slow economic recovery, fiscal-policy uncertainty, local competition, and hotel seasonality could affect results; comparable hotels were not expected to regain pre-recession revenue and operating-income levels in 2012.
- Redemption requests exceeded the program’s limits. In July 2012, 1.0m units were redeemed out of 10.7m requested; management planned redemptions at approximately 2% of weighted-average units for the rest of 2012. The program may be changed, suspended, or terminated. October’s subsequent redemption fulfilled about 9% of requests.
- The company disclosed consolidated shareholder litigation alleging securities-law and other claims. It moved to dismiss and said it could not predict the outcome or estimate any possible loss. Separately, an SEC staff non-public investigation concerned disclosures and certain transactions; the company said it was cooperating, could not predict the outcome, and expected significant legal costs through at least the rest of 2012 and possibly into 2013.
- Material related-party arrangements include acquisition/disposition commissions and advisory services provided by entities owned by Chairman and CEO Glade M. Knight. The company acknowledged these transactions are not necessarily at arm’s length. The CEO also guaranteed and secured the repaid $30m credit line without compensation.
- Management reported disclosure controls were effective as of September 30, 2012, with no material change in internal control over financial reporting during the quarter. The filing also identifies possible risks from natural disasters and interest-rate movements.
Important facts for investors to verify
- Confirm that Apple REIT Nine, Inc.—rather than Apple Hospitality REIT, Inc.—is the intended filing entity.
- Review the $60m buyer note’s payment terms, junior-lien priority, collectability, and the timing of recognition of deferred gain and interest.
- Assess the sustainability and funding of distributions relative to operating cash flow, debt, and planned capital spending; verify the status and terms of the proposed $50m revolver.
- Track the shareholder litigation and SEC investigation, including any subsequent developments, estimated exposure, and legal costs.
- Evaluate related-party fees, cost allocations, governance safeguards, and the constraints on unit redemptions.
- Compare reported growth with comparable-hotel performance, recognizing that acquisitions, newly opened hotels, and renovations affect period-to-period comparability.