Choice Hotels International, Inc. — 2013 Form 10-K
Reporting period: Year ended December 31, 2013. The filing also reports unaudited fourth-quarter results. Choice is primarily a hotel franchisor, with a smaller hotel-ownership business and its newly launched SkyTouch technology division.
Business context and operating performance
- At year-end, Choice had 6,340 hotels open with 506,058 rooms and 503 hotels in its development pipeline with 38,957 rooms, across the United States and more than 35 countries and territories.
- Domestic franchised rooms grew 1.1% to 400,585; domestic hotels grew 1.9% to 5,180. Domestic RevPAR increased 3.0%, to $42.08, on occupancy of 56.3% and ADR of $74.76. The effective domestic royalty rate was unchanged at 4.33%.
- Domestic royalty revenue rose 3% to $242.5 million. International royalty revenue decreased from $25.1 million to $24.7 million despite 2.3% room growth, reflecting market RevPAR and unfavorable currency effects.
Financial results and liquidity
| Metric | FY 2013 | FY 2012 | Change |
|---|---|---|---|
| Total revenue | $724.3 million | $691.5 million | +4.7% |
| Operating income | $194.5 million | $193.1 million | +0.7% |
| Net income | $112.6 million | $120.7 million | -6.7% |
| Diluted EPS | $1.91 | $2.07 | -7.7% |
| Adjusted EBITDA | $204.0 million | $201.4 million | +1.3% |
| Operating cash flow | $152.0 million | $150.1 million | +$1.9 million |
- Reported operating and net margins were approximately 26.9% and 15.5%, respectively. Reported revenue includes marketing and reservation system fees, which are matched by related expenses under franchise agreements. Excluding those fees, SkyTouch, and hotel operations, franchising revenue was $316.4 million, up 5%.
- Capital expenditures were $31.5 million; operating cash flow less capital expenditures was approximately $120.5 million. Cash and cash equivalents were $167.8 million at year-end, including $157.4 million held by foreign subsidiaries.
- Total debt was $793.6 million, including $783.5 million long-term debt; debt less cash was approximately $625.8 million. The $200 million revolving tranche was undrawn. The company reported compliance with credit-facility covenants and leverage of 3.33x, against a maximum permitted total leverage ratio of 4.50x at that point in the covenant schedule.
- Current assets were $258.6 million and current liabilities $174.3 million. The company said operating cash flow and available financing capacity should cover expected needs.
Fourth-quarter results and material changes
- Fourth-quarter revenue was $180.7 million, up 1.3% year over year; operating income was $47.2 million, up 4.3%; net income was $27.3 million, up 11.8%; diluted EPS was $0.46 versus $0.42.
- For the full year, higher franchise revenue and operating income were outweighed at the bottom line by $15.3 million of additional interest expense, mainly from debt issued in 2012 to fund the $600.7 million special dividend. SG&A increased $11.7 million, including higher SkyTouch costs.
- SkyTouch, launched publicly in March 2013, generated $33,000 revenue and an $11.8 million operating loss. Its 2013 SG&A expenses were $11.5 million.
- The company revised prior-period cash-flow presentation for forgivable franchisee notes, reclassifying the flows from investing to operating activities. It stated the correction did not affect previously reported earnings, balance sheets, or shareholders’ deficit and was not material to previously issued financial statements.
Outlook, risks, and contingencies
- Management expected approximately 345 new franchise openings in 2014, compared with 340 in 2013. It expected $18–$22 million of 2014 operating cash flow from marketing and reservation activities and approximately $43.1 million of regular dividends at the prevailing rate. These are stated expectations, not earnings guidance.
- Management expected to invest $20–$40 million annually in franchisee financing, guarantees, equity support, and development-related real estate, subject to market conditions, generally seeking to recycle investments within five years. A separate Comfort Inn and Comfort Suites property-improvement program had $32.0 million of conditional commitments expected to be funded in the next twelve months.
- Principal risks include lodging demand and RevPAR declines, room oversupply, franchisee financing and financial health, brand competition and franchise terminations, recovery of marketing-system advances, international currency and political exposure, interest rates and debt service, and technology, cybersecurity, and privacy risks.
- At year-end, the company had $19.1 million of deferred marketing and reservation advances, down from $42.2 million; recovery depends on future system fees and the franchise system’s performance. It also disclosed guarantees relating to two hotel construction loans, plus construction-completion and environmental obligations on one project.
- A class action alleging anticompetitive practices was dismissed without prejudice on February 18, 2014; plaintiffs could seek to refile. The company did not expect a material financial or liquidity effect. Unrecognized tax positions and related interest and penalties totaled $5.6 million; up to $3.5 million could decrease within twelve months.
- Other notable items: the $600.7 million special dividend in 2012 was debt-financed; the regular quarterly dividend remained $0.185 per share. The company reported an effective tax rate of 28.2%, versus 28.7% in 2012. The 2013 cash-flow statements reflect the disclosed reclassification of forgivable-note cash flows.
Important facts for investors to verify
- Whether development-pipeline hotels open as planned and whether the stated 2014 opening expectation is achieved, given financing constraints and terminations.
- Whether domestic RevPAR, room growth, and royalty rates sustain franchise revenue growth, and whether international royalties recover from currency and market pressures.
- SkyTouch’s future revenue, losses, and cash requirements relative to its strategic contribution.
- Debt service, covenant headroom, access to the undrawn revolver, and the effect of foreign-held cash on domestic liquidity.
- Recoverability of marketing-system advances, franchisee loans, development investments, and guarantee exposure.
- Whether regular dividends continue at the stated rate, subject to board discretion and debt covenants.