SHO

Business Context and Reporting Period

Sunstone Hotel Investors, Inc. (Sunstone) is a Maryland corporation operating as a Real Estate Investment Trust (REIT). As of March 31, 2008, the Company owned 45 hotels with 15,620 rooms, primarily luxury, upper upscale, and upscale properties managed by third parties including Interstate SHP, Marriott, Hyatt, and Hilton. The Company leases its properties to a taxable REIT subsidiary (TRS) to comply with REIT regulations. This filing covers the quarterly period ended March 31, 2008.

Key Financial Metrics

Operating Performance: For the total portfolio, RevPAR increased 3.1% to $116.69, driven by a 4.8% increase in Average Daily Rate (ADR) to $162.07, partially offset by a 120 basis point decrease in occupancy to 72.0%.

Material Changes vs. Prior Period

• Revenue Growth: Total revenues increased 9.4% year-over-year. Room revenue grew 9.9% and food and beverage revenue grew 8.8%. Growth was driven by three hotels acquired in 2007 (Renaissance LAX, Marriott Long Wharf, Marriott Boston Quincy) and ADR increases in the existing portfolio.
• Profitability Decline: Net income decreased 78.1% to $1.1 million. This decline is primarily due to the absence of $1.3 million in income from discontinued operations (seven hotels sold in 2007) and increased interest expense of $2.0 million.
• Expense Increases: Operating expenses rose 10.8%, with depreciation and amortization increasing 20.6% due to new acquisitions. Interest expense increased 8.7% due to new debt financing for acquisitions and the issuance of exchangeable senior notes.
• Capital Deployment: The Company invested $31.8 million in capital improvements and renovations during the quarter. Unlike the prior year, there were no significant hotel acquisitions in Q1 2008.

Guidance, Outlook, and Risks

Liquidity and Capital Resources: The Company maintains a $200 million credit facility with $189.2 million available as of March 31, 2008. Management believes cash flow from operations and available credit will meet obligations for the next twelve months. The Company has a remaining authorization to repurchase up to $138.2 million of common stock.

Outlook and Commentary: Management notes that while ADR growth is positive, occupancy has declined. Rising operating expenses, including labor, benefits, and utilities, are compressing margins. The Company continues to evaluate capital sources, though market volatility may impact financing terms.

Risks and Contingencies:

• Economic Conditions: Exposure to general economic downturns and recession risks affecting the lodging industry.
• Debt Covenants: Compliance with financial ratios under the credit facility and mortgage agreements is required.
• Renovation Disruptions: Ongoing renovations may temporarily impact hotel operations and revenue.
• Joint Ventures: The Company holds a 38% interest in the Doubletree Guest Suites Hotel Times Square, which contributed to equity losses in the quarter.

Investor Verification Checklist

• Debt Maturity Profile: Verify the weighted average interest rate (5.5%) and maturity dates of the $1.72 billion debt load, noting that all outstanding debt is currently fixed-rate.
• Occupancy Trends: Monitor the 120 basis point decline in occupancy to determine if it is a seasonal anomaly or a structural shift in demand.
• Capital Expenditures: Confirm the $25.7 million in remaining contractual construction commitments and their impact on future cash flows.
• Dividend Sustainability: Review the $25.8 million in dividends payable and the Company's ability to maintain the $0.35 per share common dividend given the loss attributable to common stockholders.
• Joint Venture Performance: Assess the ongoing performance of the Doubletree Times Square joint venture, which generated a $1.5 million equity loss in the quarter.