Apple REIT Nine, Inc. — Q2 2012 Form 10-Q
Filing identity: The supplied filing is for Apple REIT Nine, Inc., not a filing identified as Apple Hospitality REIT, Inc. It reports the three and six months ended June 30, 2012; financial statements are unaudited. Amounts below are in millions except per-share and hotel statistics.
Business context
The company elected REIT status and invests in U.S. income-producing real estate. At June 30, 2012, it owned 89 hotels with 11,371 rooms in 27 states. During the quarter it acquired a newly opened, 119-room Home2 Suites in Nashville for $16.7 million. The company also completed the sale of 110 natural-gas lease parcels in Texas on April 27, 2012; those results are reported as discontinued operations.
Financial results and key metrics
| Metric | Q2 2012 | Q2 2011 | Six months 2012 | Six months 2011 |
|---|---|---|---|---|
| Total revenue | $97.1 | $84.4 | $185.2 | $156.4 |
| Operating income | $22.6 | $16.9 | $40.6 | $27.6 |
| Income from continuing operations | $21.0 | $15.7 | $37.6 | $25.9 |
| Income from discontinued operations | $1.5 | $4.7 | $6.8 | $9.4 |
| Net income | $22.6 | $20.4 | $44.4 | $35.3 |
| Basic and diluted EPS | $0.12 | $0.11 | $0.24 | $0.19 |
- Revenue increased 15% in Q2 and 18% for the first half year-over-year; reported comparisons include differing property ownership periods and are not fully like-for-like.
- Operating margin was approximately 23.3% in Q2 2012 versus 20.0% in Q2 2011, and 21.9% for the first half versus 17.7%. Net margin was approximately 23.2% and 24.2% for Q2, respectively, and 24.0% and 22.6% for the half year.
- Hotel indicators improved: Q2 occupancy was 77% versus 74%, ADR was $112 versus $107, and RevPAR was $86 versus $79. First-half RevPAR rose to $82 from $76.
- First-half operating cash flow was $58.1, versus $50.4 in 2011. Investing activities provided $111.3, chiefly reflecting $135.4 net proceeds from asset sales; financing activities used $192.7, largely due to distributions.
- Capital improvements were $9.2 in the first half; the company reported $9.0 in capital-improvement reserves and expected another $10.0 of spending in the remainder of 2012.
Financial position, distributions, and material changes
- At June 30, cash and cash equivalents were $7.4, total assets $1,552.3, and total liabilities $165.4. Notes payable were $152.6, up from $124.1 at December 31, 2011. The filing reports debt fair value of $154.1.
- In May, the company drew $30 million on a non-revolving Bank of America line bearing Daily LIBOR plus 2.75% (approximately 3.0% at quarter-end), due November 15, 2012. The loan is guaranteed by the CEO and secured by his assets, without compensation to him.
- The Texas parcel sale had a stated price of $198.4 million: $138.4 million cash and a $60 million junior-lien note bearing 10.5%. Under cost-recovery accounting, the approximately $33.7 million gain and note interest are deferred until qualifying cash receipts exceed the parcels’ cost basis. The balance-sheet note receivable, net, was $25.5 million at June 30.
- The company paid a $136.1 million special distribution ($0.75 per Unit) in May. It reduced the annualized regular distribution rate from $0.88 to $0.83 per share/Unit beginning with June, and adjusted the stated Series A liquidation preference and reinvestment/redemption prices from $11.00 to $10.25.
- First-half regular distributions were $79.4 million, compared with $58.1 million of operating cash flow. Management said some distributions have been funded from offering proceeds and borrowings and may be treated as return of capital for tax purposes. The company stated it was not required to maintain the current distribution rate to meet REIT requirements.
- Redemption demand exceeded the program’s limits: 1.51 million Units were redeemed in April against 11.23 million requested. The company planned to reduce redemptions to an approximately 2% annual rate for the rest of 2012; July redemptions were about 1.0 million Units, leaving approximately 9.7 million requests unfulfilled.
- After the sale and special distribution, cash declined to $7.4 million from $30.7 million at year-end. Management expected cash, operating cash flow, note interest, and planned additional borrowing to cover anticipated needs, including repayment of the $30 million loan, capital spending, distributions, and redemptions.
Outlook, commentary, and risks
- Management anticipated mid-single-digit 2012 revenue growth for comparable hotels versus 2011, citing improving occupancy and room rates. It cautioned that comparable hotels were not expected to return to pre-recession revenue and operating-income levels in 2012.
- One Richmond development project was planned, but construction was subject to conditions and not assured; the land purchase was completed in July 2012. Management said the project would be financed.
- The company cited hotel seasonality, economic and local-market conditions, competition, renovation disruption, and exposure to natural disasters. It said it had adequate insurance but could not assure against material adverse effects.
- A consolidated putative class-action lawsuit alleges securities-law and other claims and seeks damages, rescission, and other relief. The company intends to defend the claims but could not estimate the outcome or potential loss.
- The SEC staff was conducting a non-public investigation focused principally on disclosure adequacy and certain transactions. The company said it was cooperating, could not predict the outcome, and expected significant legal costs at least through the remainder of 2012. It stated it did not believe the issues affected the material accuracy of the financial statements.
- Related-party arrangements include acquisition/disposition brokerage commissions and advisory and shared-services fees involving entities owned by the CEO. The filing cautions these arrangements may not be at arm’s length. The company incurred a $4.0 million related-party brokerage commission on the parcel sale.
- The boards did not proceed at that time with a potential consolidation involving Apple REIT Six, Seven, and Eight. Management also identified acquisition execution, growth management, litigation/regulatory matters, economic cycles, and competition as risks to forward-looking expectations.
Important facts for investors to verify
- How the company will repay or refinance the $30 million line due November 15, 2012, given $7.4 million of quarter-end cash.
- The timing and collectability of the $60 million junior-lien note, including the senior-loan priority and deferred gain/interest accounting.
- Whether operating cash flow can support regular distributions, planned capital improvements, and redemptions without recurring reliance on asset sales, financing, or reinvestment proceeds.
- Developments and potential financial exposure from the consolidated litigation and SEC investigation, for which no loss estimate was available.
- The scale and governance of related-party fees, CEO-guaranteed borrowing, and limited Unit-redemption liquidity.