Apple Hospitality REIT, Inc. — 2016 Form 10-K
Reporting period: Fiscal year ended December 31, 2016. The filing also reports fourth-quarter results; it is an annual report, not a standalone quarterly filing.
Business context
Apple Hospitality is a self-advised U.S. lodging REIT. At year-end it owned 235 Marriott- or Hilton-branded hotels, with 30,073 rooms across 33 states, managed by 22 unaffiliated hotel management companies. The September 1, 2016 Apple REIT Ten merger added 56 hotels and 7,209 rooms. Results include those hotels only from the merger date unless otherwise noted.
Key financial and operating metrics
| Metric | 2016 | 2015 |
|---|---|---|
| Total revenue | $1,041.0 million | $898.3 million |
| Operating income | $185.3 million | $136.0 million |
| Net income | $144.7 million | $117.3 million |
| Diluted net income per share | $0.76 | $0.65 |
| Net cash from operating activities | $332.0 million | $281.1 million |
| Net cash used in investing activities | $169.8 million | $82.3 million |
| Net cash used in financing activities | $162.2 million | $198.8 million |
| Total debt at year-end | $1,338.0 million | $998.1 million |
| Total assets / shareholders’ equity | $4,979.9 million / $3,517.1 million | $3,722.8 million / $2,647.1 million |
Revenue grew 15.9% and net income 23.3%; the filing cautions that acquisitions and dispositions materially affect year-over-year comparability. Operating income was about 17.8% of revenue and net income about 13.9%. Hotel operating expense was 56.0% of revenue, down from 56.4% in 2015. These are calculated ratios.
For comparable hotels, ADR rose 2.6% to $133.47, occupancy edged up to 77.0% from 76.9%, and RevPAR increased 2.7% to $102.81. For the full portfolio’s periods of ownership, RevPAR increased 3.4% to $102.80. Fourth-quarter 2016 revenue was $282.4 million, net income $41.6 million, and diluted EPS $0.19; comparable-hotel RevPAR rose approximately 1.8% year over year.
FFO was $298.2 million and modified FFO (MFFO) $336.6 million, versus $276.0 million and $286.5 million, respectively, in 2015. These are non-GAAP supplemental measures, not substitutes for operating cash flow or funds available for distributions.
Liquidity, debt and distributions
Year-end cash was zero. The company had $270 million outstanding and approximately $270 million of unused capacity under its $540 million revolving facility, which matures in 2019. Debt comprised $840.9 million of revolver and term loans and $497.0 million of mortgage debt on the balance sheet. Property-level principal debt was approximately $494.4 million, secured by 32 properties. Management reported a 23% debt-to-total-capitalization ratio using market capitalization and stated it was in compliance with debt covenants.
Approximately 28% of debt was exposed to variable interest rates after swaps; management estimated that a 100-basis-point rate change would affect annual net income by about $3.7 million, all else equal. Contractual commitments totaled approximately $2.02 billion, including $1.55 billion of debt payments and interest, $367.7 million of ground-lease payments, and $100.6 million of hotel purchase commitments.
Distributions paid in 2016 were $1.20 per share, or $229.1 million, against $332.0 million of operating cash flow. The current annualized rate was $1.20 per share, paid monthly. The board may change distributions; the company said it may use the revolver to smooth payments and is not required to maintain the current rate for REIT purposes. The credit facility generally limits distributions and repurchases to 95% of FFO, subject to REIT requirements.
Material changes and unusual items
- The Apple Ten merger consideration was estimated at approximately $1.05 billion, including about $956.1 million in issued shares and $93.6 million cash. The company issued 48.7 million shares and assumed Apple Ten liabilities, including debt.
- Transaction and litigation costs increased to $35.0 million from $7.2 million, largely related to the merger and legal settlements. The $5.5 million impairment charge was substantially below 2015’s $45.0 million impairment.
- The company sold a Chesapeake, Virginia hotel for approximately $9.9 million and classified a Dallas hotel as held for sale under a $56.1 million contract. It expected the Dallas sale to close in the first half of 2017 and estimated a gain of approximately $16 million, subject to closing.
- Capital improvements were $63.4 million in 2016. Management anticipated $65–$75 million in 2017, including renovations at approximately 30–35 hotels.
- Two proposed settlements were accrued: $32 million for the Apple Ten-related derivative action and $5.5 million for the Apple Seven/Eight DRIP class action. The former had preliminary court approval; both remained subject to final approval. Approximately $10 million of D&O insurance proceeds related to the first matter had been received in January 2017 and recorded as an asset. The company cautioned actual losses could exceed accrued amounts.
Outlook, commentary and risks
Management forecast low-single-digit revenue growth for comparable hotels and the industry in 2017, with comparable growth expected to resemble the second half of 2016. It cited inconsistent demand and new supply in some markets as constraints on rate increases. Houston, Miami and Chicago were described as weak markets; Los Angeles, Tampa and Phoenix were stronger. Management also anticipated continued property-tax increases and potential labor-cost pressure.
Key risks include economic or travel downturns, local hotel supply and competition from alternative lodging, reliance on third-party managers and the Marriott/Hilton brand families, rising labor and property costs, recurring renovation needs, refinancing and interest-rate exposure, seasonality, uninsured catastrophic or environmental losses, and maintaining REIT qualification. The company also disclosed related-party relationships and litigation exposure. It reported effective internal control over financial reporting, and the auditor issued unqualified opinions on the financial statements and internal controls.
Most important facts for investors to verify
- How much of reported growth reflects the Apple Ten merger versus comparable-property performance; note that some comparable-property historical data was unaudited and supplied by prior owners.
- Progress and final court approval of both settlements, and whether total litigation costs exceed accrued amounts or insurance recoveries.
- Actual 2017 comparable revenue and RevPAR trends, especially in markets facing supply growth or weaker demand.
- Debt maturities, revolver availability, covenant headroom and sensitivity to interest-rate increases.
- Whether the $1.20 annualized distribution remains supported by operating cash flow after debt service, renovation spending, acquisitions and repurchases.
- Completion and economics of the Dallas sale and pending hotel purchases, including the remaining construction-related closing conditions.