Sunstone Hotel Investors, Inc. — Q3 2014 Form 10-Q
Reporting period: Three and nine months ended September 30, 2014. Sunstone is a U.S. hotel REIT that owned interests in 30 hotels at quarter-end and used third-party managers. Unless stated otherwise, financial amounts below are in millions.
Financial performance
| Metric | Q3 2014 | Q3 2013 | Nine months 2014 | Nine months 2013 |
|---|---|---|---|---|
| Revenue | $307.8 | $250.4 | $852.1 | $679.9 |
| Operating income | $50.8 | $34.4 | $121.0 | $74.6 |
| Operating margin | 16.5% | 13.7% | 14.2% | 11.0% |
| Net income | $33.6 | $15.8 | $73.7 | $64.8 |
| Income available to common stockholders | $29.3 | $11.6 | $60.6 | $44.3 |
| Common diluted EPS | $0.14 | $0.07 | $0.32 | $0.28 |
| Adjusted EBITDA | $91.4 | $69.8 | $235.2 | $178.5 |
| Adjusted FFO available to common stockholders | $69.6 | $48.0 | $169.3 | $110.7 |
Q3 comparable-portfolio RevPAR rose 7.7% to $171.47, on occupancy of 86.4% and ADR of $198.46. For the first nine months, comparable RevPAR increased 7.2% to $161.71, with occupancy up 220 basis points to 83.7%.
Nine-month operating cash flow was $200.3, versus $124.9 in 2013. Investing cash outflow was $372.8, chiefly reflecting acquisitions and $93.4 of renovations and additions. Financing cash inflow was $203.6, primarily from common-stock issuance. Cash and cash equivalents ended at $135.4, up from $104.4 at year-end 2013; restricted cash was $93.1.
Balance sheet, debt and liquidity
- Total assets were $3.87 billion and total liabilities $1.56 billion at September 30, 2014. Notes payable totaled $1.386 billion, plus $15.6 million of long-term capital lease obligations. The current portion of notes payable was $159.7 million.
- Management reported $228.6 million of cash, including restricted cash, and stated it expected available cash, operating cash flow, capital-markets access and unencumbered properties to cover operating and related needs for at least the next 12 months. The filing does not specify undrawn availability under the $150 million corporate credit facility.
- Debt had an approximately four-year weighted-average maturity. About 70.7% was fixed-rate; weighted-average rates were 5.4% on fixed-rate debt and 4.7% on all debt using quarter-end variable rates. Management estimated a 100-basis-point rate move would change annual cash interest by about $4.1 million.
- Quarterly common dividends declared were $0.05 per share; nine-month declarations totaled $0.15 per share. The 8.0% Series D preferred stock remained outstanding, with $115 million liquidation preference.
Material changes and unusual items
- Revenue increased 22.9% in Q3 and 25.3% year to date. Growth reflected stronger comparable-hotel performance and a larger portfolio, including the 2013 acquisitions and July 2014 acquisition of the 544-room Marriott Wailea. Wailea’s purchase price was $325.6 million, funded with cash and $60 million of stock consideration. The company also acquired land beneath the Fairmont Newport Beach for $11 million.
- Q3 net income increased 112.7%; nine-month net income increased 13.8%. Nine-month common income rose 36.6%, while prior-year results included a larger gain on the 2013 Rochester portfolio sale and related discontinued operations. The 2014 nine-month result included a $5.2 million discontinued-operations gain, principally the release of $7 million of Rochester pension-plan liability, partly offset by accrued costs.
- Common shares outstanding increased from 180.9 million at December 31, 2013 to 203.5 million at September 30, 2014, reflecting equity issuance, including the June offering and stock issued for Wailea.
- In August, the Hilton San Diego Bayfront mortgage was amended: maturity extended from April 2016 to August 2019 and the spread reduced from three-month LIBOR plus 325 basis points to one-month LIBOR plus 225 basis points. The transaction generated a $0.5 million debt-extinguishment loss and $1.3 million of deferred financing fees.
Outlook, commentary and risks
Management described the lodging cycle as in a middle-to-mature recovery phase and expected demand to remain strong over the next several years if the U.S. economy and employment continued to improve. It emphasized portfolio quality and scale, intensive asset management, disciplined acquisitions, and maintaining low leverage and financial flexibility. Near-term acquisitions were expected to rely more on equity than debt. The filing provides no numerical earnings or operating guidance.
- Renovations can disrupt room availability and revenue. The company spent $93.4 million on capital improvements in the first nine months and had $54.9 million of remaining construction commitments; $48.9 million was held in FF&E reserves.
- Risks include economic or lodging-demand weakness, operating-cost inflation, competition and new hotel supply, reliance on brands and third-party managers, capital-market access, leverage and refinancing, variable interest rates, REIT compliance, and property concentration. Nine of 30 hotels were subject to ground, building or air leases; management also identified elevated new-room supply in markets including New York, Washington, D.C. and Chicago.
- The Rochester portfolio sale left a $7.0 million potential pension-related liability and a $0.8 million accrued capital-expenditure contingency at quarter-end; management expected to resolve the latter in early 2015. The company also disclosed environmental indemnities and $0.7 million of workers’ compensation letters of credit, with no draws reported.
- Management reported effective disclosure controls and no material changes in internal control. The filing reported no legal proceedings and no additional risk-factor changes.
Important facts for investors to verify
- How much of reported growth came from comparable hotels versus acquisitions, and how renovation-related room closures affect future RevPAR and margins.
- The near-term maturity and refinancing implications of the $159.7 million current debt portion, along with actual availability on the corporate credit facility.
- Whether the equity-funded growth strategy preserves per-share returns given the increase in shares outstanding.
- The final resolution and cash cost of the Rochester pension and capital-expenditure contingencies, and the timing of any remaining deferred gain.
- Execution and funding of the $54.9 million renovation commitments, and future operating-cost, interest-rate and market-supply pressures.