Sunstone Hotel Investors, Inc. — FY 2012 Form 10-K
Reporting period: Fiscal year ended December 31, 2012. This is an annual filing, not a quarterly report. Sunstone is a hotel-owning REIT; at year-end it held 26 hotels for investment (11,632 rooms) and classified four additional hotels and a laundry facility as held for sale. The four hotels and laundry facility were sold in January 2013.
Financial and operating performance
| Metric | FY 2012 | FY 2011 | Change / context |
|---|---|---|---|
| Continuing-operations revenue | $829.1 million | $721.8 million | Up 14.9% |
| Operating income | $79.0 million | $42.7 million | Up 85.1%; operating margin was about 9.5%, versus 5.9% |
| Income from continuing operations | $1.1 million | $40.8 million | Down 97.2% |
| Net income | $49.6 million | $81.3 million | Down 39.0% |
| Income available to common stockholders | $17.8 million | $53.0 million | Down 66.4%; diluted EPS was $0.14 versus $0.45 |
| Net cash from operating activities | $171.5 million | $155.2 million | Up $16.3 million |
| Adjusted EBITDA | $242.5 million | $212.5 million | Up $30.0 million |
| Adjusted FFO | $128.6 million | $102.1 million | Up $26.5 million |
Comparable Portfolio RevPAR increased 5.6% to $139.22, reflecting occupancy of 79.2% (up 280 basis points) and ADR of $175.78 (up 1.8%). Management reported 50% operating flow-through for 2012 versus 33% in 2011. These portfolio statistics include prior-ownership results for certain acquired hotels.
At December 31, 2012, total assets were $3.14 billion, total liabilities $1.52 billion, and equity $1.52 billion. Notes payable were about $1.36 billion in continuing operations, plus $27.3 million associated with held-for-sale assets. Unrestricted cash was $157.2 million and restricted cash was $78.4 million. The weighted-average debt rate was 4.9%; after specified January 2013 transactions, management reported about five years’ average maturity and 68.2% fixed-rate debt. The $150 million revolving credit facility had no borrowings, with $3.8 million of letters of credit outstanding.
Investing activities used $193.7 million, including $120.0 million for hotel acquisitions and $109.3 million for renovations and additions. Financing activities provided $30.2 million. The company reported $43.6 million in remaining construction commitments and $47.2 million in FF&E reserves.
Material changes versus the prior year
- Revenue growth reflected both improved existing-hotel results and contributions from five hotels acquired in 2011–2012. Acquisitions contributed $57.4 million of room revenue in 2012; existing-portfolio room revenue rose $17.6 million.
- Operating income rose as revenue increased faster than total operating expenses. However, interest expense increased 3.5% to $76.8 million, and income from continuing operations fell sharply.
- Net income included $48.4 million from discontinued operations, including $38.3 million of net gains on asset sales. The prior year included a $69.2 million gain from remeasuring equity interests in acquired joint ventures, making the annual net-income comparison less indicative of ongoing performance.
- Debt declined to $1.36 billion from $1.42 billion at year-end 2011. The company sold four hotels and an adjacent office building during 2012, repaid the $32.2 million Renaissance Long Beach mortgage, and repurchased $4.5 million of Senior Notes.
- Common shares outstanding increased to 135.2 million from 117.3 million, including 12.1 million shares issued for $126.2 million net proceeds and 5.45 million shares issued in the Hyatt Chicago acquisition. No common dividend was declared in 2012.
Outlook, risks and unusual items
- Management viewed the lodging industry as being in the first half of a recovery, citing rising demand and generally constrained new supply. It expected demand to remain strong over the next several quarters if the U.S. economy continued to grow, while noting market-specific supply risks, including in New York City.
- Near-term priorities included measured deleveraging, portfolio renovations, selective acquisitions, and funding a greater proportion of acquisitions with equity. Management stated that liquidity should cover operating and other business needs for at least the next 12 months.
- After the January 2013 sale of the Rochester portfolio and laundry facility and repayment of the remaining $58.0 million Senior Notes, management reported no debt maturities through December 31, 2014. The company also retained a $25.0 million preferred-equity investment yielding 11%, a $14.0 million pension-related liability exposure, and provided a $3.7 million working-capital advance to the buyer.
- In February 2013, Sunstone issued 25.3 million common shares in total for approximately $295.2 million net proceeds. It announced redemption of all Series A preferred shares for approximately $178.6 million, including accrued dividends, using part of the proceeds.
- Three hotel mortgages had cash-trap provisions triggered; $15.3 million was held by lenders at year-end. Separately, $8.2 million related to mortgages assumed by buyers in 2012 remained trapped pending lender release. Cash traps can constrain liquidity and distributions.
- The IRS issued a January 2013 proposed adjustment challenging rent charged to the taxable REIT subsidiary. Sunstone disagreed and intended to appeal; the filing states that an adverse outcome could result in additional income taxes or a 100% excise tax on rent deemed above arm’s-length rates.
- Hurricane Sandy and renovations reduced 2012 revenue: management estimated $1.4 million of room-revenue and $0.8 million of food-and-beverage losses in the existing portfolio from Sandy. Renovations also displaced estimated room revenue at two hotels.
- Other principal risks include hotel-cycle and travel-demand exposure, operating-cost inflation, geographic concentration, reliance on third-party managers and brands, refinancing and interest-rate exposure, required renovations, REIT qualification, environmental and insurance risks, and potential litigation or tax contingencies. The company reported no 2012 property impairment; it reserved the remaining $0.2 million balance of a defaulted subordinate hotel loan.
Important facts for investors to verify
- Reconcile GAAP earnings with gains from dispositions, discontinued operations, and non-GAAP measures; assess recurring earnings apart from these items.
- Review the full debt schedule, scheduled amortization, interest-rate caps, and the effect of the 2013 debt repayments and hotel sale on liquidity and leverage.
- Confirm release and availability of lender-held cash-trap balances and track the retained preferred-equity investment, pension exposure, and buyer advance.
- Monitor the IRS proposed adjustment and any resulting tax exposure, as well as the company’s continued REIT qualification.
- Assess renovation spending and remaining commitments against operating performance, and consider that common dividends had not been paid since 2009.