Business context and reporting period
Hospitality Properties Trust (HPT) filed this unaudited Form 10-Q for the quarter and nine months ended September 30, 2012. The filing identifies the registrant as Hospitality Properties Trust, not Service Properties Trust. HPT owned 471 properties—286 hotels and 185 travel centers—and leased one additional hotel. Unless noted, amounts below are in millions of dollars.
Financial performance and position
| Metric | Q3 2012 | Q3 2011 | Nine months 2012 | Nine months 2011 |
|---|---|---|---|---|
| Total revenue | $330.1 | $318.7 | $974.7 | $914.5 |
| Operating income | $68.5 | $81.6 | $219.8 | $253.4 |
| Net income | $44.7 | $47.5 | $125.3 | $152.2 |
| Net income available to common shareholders | $29.5 | $40.1 | $85.3 | $129.8 |
| Common earnings per share | $0.24 | $0.32 | $0.69 | $1.05 |
| Operating cash flow | — | — | $264.7 | $248.7 |
- Revenue increased 3.6% in Q3 and 6.6% year to date. Operating income margin, calculated as operating income divided by revenue, was approximately 20.8% in Q3 2012 versus 25.6% in Q3 2011; year-to-date margin was approximately 22.5% versus 27.7%.
- Hotel operating revenue rose, but hotel operating expenses and depreciation increased faster. Q3 net income also included a $10.6 gain from hotel sales; common earnings were reduced by preferred distributions and $5.0 of excess liquidation preference on Series C shares redeemed. For the nine months, the comparable preferred-redemption charge was $8.0.
- FFO was $85.4 million in Q3 and $267.8 million year to date; Normalized FFO was $91.5 million and $280.9 million, respectively. Per-share Normalized FFO was $0.74 in Q3 and $2.27 year to date, versus $0.79 and $2.52 in 2011. These are non-GAAP measures; the filing cautions they are not substitutes for GAAP income or cash flow.
- Cash and cash equivalents were $17.1 at September 30, 2012, with $38.9 of restricted FF&E reserves. The $750.0 million revolving facility was undrawn and fully available. The $400.0 million term loan was outstanding; total debt carrying value was approximately $2.4 billion, including notes and convertible notes.
- For the first nine months, investing activities used $379.0, primarily for acquisitions and property improvements; financing activities provided $123.2. Common distributions declared were $1.35 per share year to date, unchanged from 2011.
Material changes versus prior period
- Hotel operating revenue rose 10.6% year to date, including the January acquisition of the Cambridge and New Orleans hotels and the conversion of 19 hotels from leased to managed operations in 2011. Total rental income fell 4.0%, principally reflecting that conversion.
- Reported hotel statistics showed year-to-date average daily rate up 6.3%, but occupancy down 3.9 percentage points; RevPAR increased 0.8%. Management attributed some operating weakness to hotel renovations and rebranding.
- HPT issued $500 million of 5.00% senior notes due 2022, entered a $400 million five-year term loan, and issued $280.1 million net proceeds of Series D preferred shares. It redeemed 6.85% notes due 2012, 6.75% notes due 2013, all Series B preferred shares, and 6 million Series C preferred shares; it also repurchased $70.6 million of convertible notes.
- HPT acquired the Cambridge and New Orleans hotel interests for $150.5 million cash consideration, sold three hotels for aggregate net proceeds of about $34.2 million, and recorded the $10.6 million gain. After quarter-end, it acquired a Chicago hotel for $85.0 million.
Outlook, risks and unusual items
- Management expected operating cash flow to cover operating expenses, interest and declared distributions over the next twelve months, but warned weaker economic or lodging conditions could impair tenant and manager payments and force distribution reductions.
- HPT expected substantial additional property spending: approximately $43 million for Marriott renovations; about $67 million for InterContinental renovations during the remainder of 2012; $130–$150 million for Sonesta rebranding and improvements; and up to $75 million for Wyndham hotel refurbishments. Additional travel-center improvements were also contemplated. Estimates and timing may change.
- Payment shortfalls were material. InterContinental payments were $17.5 million below minimum returns for the first nine months and were covered by security deposits; $33.3 million remained in that deposit at November 6. Marriott No. 234 shortfalls were $7.0 million year to date, with no guarantee payment due under the guarantee threshold; the remaining guarantee was $30.9 million at November 6. Some shortfalls were not funded, and applying security deposits does not provide new cash.
- Eight of nine hotel operating agreements had trailing-twelve-month coverage below 1.0x; travel-center lease coverage was 1.71x. Sonesta agreements had no security deposits or guarantees, leaving returns dependent on hotel performance. TA leased 39% of HPT real estate at cost; HPT disclosed $150 million of previously deferred TA rent due in 2022 and 2024 that it had not recognized as income or receivable.
- The Host lease covering 53 hotels was due to expire December 31, 2012. Assuming no default, HPT expected to return a $50.5 million security deposit and lease the hotels to a taxable REIT subsidiary while continuing Marriott management.
- Interest-rate exposure includes the floating-rate $400 million term loan; management estimated a 10% rate increase would raise annual interest expense by about $0.7 million at the reported balance. Risks also include refinancing needs, covenant compliance, REIT qualification, renovation execution, and related-party conflicts involving RMR, TA, Sonesta and AIC. Management reported covenant compliance and effective disclosure controls.
Most important facts for investors to verify
- Whether hotel renovations and brand changes improve occupancy, RevPAR, operating margins and minimum-return coverage, particularly for Sonesta and Wyndham properties.
- Whether Marriott and InterContinental shortfalls persist and how quickly their remaining guarantees and deposits are consumed; distinguish accounting income from actual cash receipts.
- TA’s ability to meet rent obligations, including the collectability of deferred rent, given its substantial concentration in HPT’s property portfolio.
- Actual capital spending versus stated renovation plans, funding sources, and the returns generated by that investment.
- Debt maturities, refinancing costs, floating-rate exposure, available revolver capacity and continued covenant compliance.
- The terms and governance safeguards for related-party transactions, including the hotel sales to affiliates and the RMR, Sonesta and AIC relationships.