SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
- -----
X Quarterly Report Pursuant to Section 13 or 15(d) of
- ----- The Securities Exchange Act of 1934
For The Quarterly Period Ended June 30, 2002 Commission File Number 01-12073
EQUITY INNS, INC.
------------------------------------------------------
(Exact Name of Registrant as Specified in its Charter)
Tennessee 62-1550848
- ------------------------------- -------------------
(State or Other Jurisdiction of (I.R.S. Employer)
Incorporation or Organization Identification No.)
7700 Wolf River Boulevard, Germantown, TN 38138
--------------------------------------------------
(Address of Principal Executive Office) (Zip Code)
(901) 754-7774
----------------------------------------------------
(Registrant's Telephone Number, Including Area Code)
Not Applicable
----------------------------------------------------
(Former Name, Former Address and Former Fiscal Year,
if Changed Since Last Report)
Indicate by check mark whether the Registrant: (i) has filed all
reports required to be filed by Section 13 or 15(d) of the Securities Exchange
Act of 1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
X Yes No
----- -----
The number of shares of the Registrant's Common Stock, $.01 par value,
outstanding on August 9, 2002 was 40,469,186.
1 of 27
EQUITY INNS, INC.
INDEX
PAGE
PART I. Financial Information
Item 1. Financial Statements
Condensed Consolidated Balance Sheets - June 30, 2002
(unaudited) and December 31, 2001 3
Condensed Consolidated Statements of Operations (unaudited) -
For the three and six months ended June 30, 2002 and 2001 4
Condensed Consolidated Statements of Cash Flows (unaudited) -
For the six months ended June 30, 2002 and 2001 5
Notes to Condensed Consolidated Financial Statements 7
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 13
Item 3. Quantitative and Qualitative Disclosures About Market Risk 25
PART II. Other Information
Item 4. Submission of Matters to a Vote of Security Holders 26
Item 6. Exhibits and Reports on Form 8-K 26
2
PART I. Financial Information
Item 1. Financial Statements
EQUITY INNS, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
June 30, December 31,
2002 2001
------------ ------------
(unaudited)
ASSETS
Investment in hotel properties, net $738,397,477 $751,890,847
Cash and cash equivalents 7,899,052 4,358,787
Accounts receivable, net of doubtful accounts 5,899,834 2,534,208
Due from Lessees 162,265
Notes receivable, net 1,146,544 738,911
Deferred expenses, net 9,864,695 10,819,599
Deferred tax benefit 6,627,000 3,452,000
Deposits and other assets 6,582,908 4,122,657
------------ ------------
Total assets $776,417,510 $778,079,274
============ ============
LIABILITIES AND SHAREHOLDERS' EQUITY
Debt 352,143,277 384,165,875
Accounts payable and accrued expenses 30,145,467 22,224,994
Distributions payable 6,505,054 1,088,542
Interest rate swap 2,613,744 2,922,625
Minority interest in Partnership 9,089,694 9,511,897
------------ ------------
Total liabilities 400,497,236 419,913,933
------------ ------------
Commitments and contingencies
Shareholders' equity:
Preferred Stock, $.01 par value, 10,000,000 shares
authorized, 2,750,000 shares issued and outstanding 68,750,000 68,750,000
Common Stock, $.01 par value, 100,000,000
shares authorized, 41,216,997 and 37,591,622
shares issued and outstanding 412,170 375,916
Additional paid-in capital 445,741,375 418,351,351
Treasury stock, at cost, 747,600 shares (5,173,110) (5,173,110)
Unearned directors' and officers' compensation (854,020) (1,152,730)
Distributions in excess of net earnings (130,342,397) (120,063,461)
Accumulated other comprehensive income:
Unrealized loss on interest rate swap (2,613,744) (2,922,625)
------------ ------------
Total shareholders' equity 375,920,274 358,165,341
------------ ------------
Total liabilities and shareholders' equity $776,417,510 $778,079,274
============ ============
The accompanying notes are an integral
part of these condensed consolidated financial statements.
3
EQUITY INNS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(unaudited)
Three Months Ended Six Months Ended
June 30, June 30,
----------------------------- -------------------------------
2002 2001 2002 2001
----------- ----------- ------------ ------------
Revenue
Hotel revenues $64,882,791 $55,070,400 $120,216,480 $102,543,261
Percentage lease revenues 5,034,967 11,455,462
Other income 309,245 463,614 507,214 1,136,217
----------- ----------- ------------ ------------
Total revenue 65,192,036 60,568,981 120,723,694 115,134,940
----------- ----------- ------------ ------------
Expenses
Hotel operating expenses 39,341,388 31,253,405 73,661,476 61,626,807
Real estate and personal property taxes 3,532,673 2,763,486 6,936,776 6,506,737
Depreciation and amortization 10,344,669 10,011,102 20,673,424 20,022,204
Amortization of loan costs 511,035 470,803 1,022,070 939,350
Interest 7,234,423 7,771,776 14,677,498 15,730,606
General and administration expenses:
Stock based or non-cash compensation 172,727 244,567 344,236 487,905
Other general and administrative expenses 1,288,956 959,220 2,824,577 2,538,434
Lease expense 330,566 286,765 660,284 635,324
----------- ----------- ------------ ------------
Total expenses 62,756,437 53,761,124 120,800,341 108,487,367
----------- ----------- ------------ ------------
Income (loss) before minority interest and
income taxes 2,435,599 6,807,857 (76,647) 6,647,573
Minority interest 68,359 164,157 (5,022) 151,330
----------- ----------- ------------ ------------
Income (loss) before income taxes 2,367,240 6,643,700 (71,625) 6,496,243
Income tax benefit 1,371,000 3,175,000 1,390,000
----------- ----------- ------------ ------------
Net income 3,738,240 6,643,700 3,103,375 7,886,243
Preferred stock dividends 1,632,813 1,632,813 3,265,626 3,265,626
----------- ----------- ------------- -------------
Net income (loss) applicable to common
shareholders $ 2,105,427 $ 5,010,887 $ (162,251) $ 4,620,617
=========== =========== =========== ============
Net income (loss) per common share -
basic and diluted $ .05 $ .14 $ .00 $ .13
=========== =========== =========== ============
Weighted average number of common shares
and units outstanding - diluted 41,665,063 38,038,123 39,968,470 38,031,404
========== ========== ========== ==========
The accompanying notes are an integral
part of these condensed consolidated financial statements.
4
EQUITY INNS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)
For the Six Months Ended
June 30,
--------------------------------
2002 2001
----------- -----------
Cash flows from operating activities:
Net income $ 3,103,375 $ 7,886,243
Adjustments to net income provided by operating activities:
Depreciation and amortization 20,673,424 20,022,204
Amortization of loan costs 1,022,070 939,350
Amortization of unearned directors' and officers' compensation 298,710 449,238
Directors' stock-based compensation 45,527 38,666
Income tax benefit (3,175,000) (1,390,000)
Minority interest (5,021) 151,330
Changes in assets and liabilities:
Accounts receivable (3,365,626) (4,491,850)
Due from Lessees 162,265 4,508,092
Notes receivable (407,633) (80,127)
Deposits and other assets (2,460,251) 1,153,941
Accounts payable and accrued expenses 4,262,752 11,272,121
Deferred lease revenue 2,435,971
----------- -----------
Net cash provided by operating activities 20,154,592 42,895,179
----------- -----------
Cash flows from investing activities:
Improvements and additions to hotel properties (3,005,706) (9,114,766)
Cash paid for franchise applications (116,601)
Proceeds from sale of hotel properties 851,000
----------- -----------
Net cash used in investing activities (3,122,307) (8,263,766)
----------- -----------
Cash flows from financing activities:
Gross proceeds from public offering of common stock 28,520,000
Payment of offering expenses (1,599,381)
Distributions paid (8,265,128) (22,264,795)
Cash paid for loan costs (124,913) (51,593)
Proceeds from borrowings 9,578,885 19,606,711
Payments on debt (41,601,483) (26,464,642)
----------- -----------
Net cash used in financing activities (13,492,020) (29,174,319)
----------- -----------
Net increase in cash 3,540,265 5,457,094
Cash and cash equivalents at beginning of period 4,358,787 793,127
----------- -----------
Cash and cash equivalents at end of period $ 7,899,052 $ 6,250,221
=========== ===========
The accompanying notes are an integral
part of these condensed consolidated financial statements.
5
Supplemental disclosure of noncash investing and financing activities:
During January 2002, the Company issued to certain officers 51,704 shares of
common stock at $6.62 per share under the 1994 Stock Incentive Plan (the "1994
Plan") in lieu of cash as a performance bonus.
During the six months ended June 30, 2002, the Company recorded $4 million of
investment in hotel properties and a liability related to the purchase of a
hotel property.
During the six months ended June 30, 2002, 2,566 units of limited partnership
interest in the partnership ("Units") were exchanged for shares of common stock
by certain limited partners.
Additionally, during the six months ended June 30, 2002, the Company issued
2,264 shares of common stock at $6.62 per share, 875 shares of common stock at
$8.19 per share, 2,028 shares of common stock at $8.00 per share, 298 shares of
common stock at $7.30 per share and 640 shares of common stock at $7.77 per
share to its independent directors in lieu of cash as compensation.
At June 30, 2002, $5,416,513 in distributions to shareholders and limited
partners had been declared but not paid. The distributions were paid on August
1, 2002.
During January 2001, the Company issued to certain officers 39,722 shares of
common stock at $6.19 per share under the 1994 Plan in lieu of cash as a
performance bonus, and 31,820 restricted shares of common stock, valued at $6.19
per share, with restriction periods tied to the officers' continued employment
ranging from three to five years.
During the six months ended June 30, 2001, 11,421 Units were exchanged for
shares of common stock by certain limited partners.
During the six months ended June 30, 2001, the Company issued 2,420 shares of
common stock at $6.19 per share, 456 shares of common stock at $8.20 per share,
1,912 shares of common stock at $7.83 per share and 512 shares of common stock
at $9.72 per share to its independent directors in lieu of cash as compensation.
At June 30, 2001, $9,509,493 in distributions to shareholders and limited
partners had been declared but not paid. The distributions were paid on August
1, 2001.
The accompanying notes are an integral
part of these condensed consolidated financial statements.
6
EQUITY INNS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
-----------------------
1. Organization and Basis of Presentation
Equity Inns, Inc. (the "Company") was incorporated on November 24, 1993.
The Company is a self-administered real estate investment trust ("REIT")
for federal income tax purposes. The Company, through its wholly-owned
subsidiary, Equity Inns Trust (the "Trust"), is the sole general partner
of Equity Inns Partnership, L.P. (the "Partnership") and at June 30, 2002
owned an approximate 97.1% interest in the Partnership. The Company was
formed to acquire equity interests in hotel properties and at June 30,
2002 owned, through the Partnership or its affiliates, 96 hotel
properties with a total of 12,284 rooms in 34 states (the "Hotels"). All
96 Hotels were leased to taxable REIT subsidiaries of the Company (the
"TRS Lessees").
The REIT Modernization Act of 1999 (the "RMA") amended the tax laws to
permit REITs, effective January 1, 2001, to lease hotels to a subsidiary
that qualifies as a taxable REIT subsidiary ("TRS"). Accordingly, the
Partnership's operating leases with subsidiaries of Interstate Hotels
Corporation ("Interstate") were terminated on January 1, 2001. Effective
January 1, 2001, the TRS Lessees, which have elected to be treated as TRS
entities for federal income tax purposes entered into leases for 77 hotel
properties with the Partnership or its affiliates on January 1, 2001,
with terms substantially identical to those of the prior leases with
Interstate. On January 1, 2002, the Partnership's operating leases with
wholly-owned subsidiaries (collectively, the "Prime Lessee") of Prime
Hospitality Corporation ("Prime") were terminated. Effective January 1,
2002, the TRS Lessees entered into leases with the Partnership or its
affiliates for 19 hotel properties, with terms substantially identical to
those of the prior leases with the Prime Lessee. Effective January 1,
2002, the rents generated by the TRS Lessees are eliminated in
consolidation. As a result of these transactions, the Company's operating
results reflect property-level revenues and expenses rather than rental
income from third-party lessees with respect to all Hotels owned at
January 1, 2002. Therefore, the Company's consolidated results of
operations with respect to its 19 hotel properties previously leased to
the Prime Lessee, from the date of the aforementioned transactions, are
not comparable to 2001 results.
Under the RMA, the TRS Lessees are required to enter into management
agreements with eligible independent contractors to manage the Hotels. On
January 1, 2001, the TRS Lessees entered into new management agreements
for 77 hotel properties as follows: Promus Hotels, Inc. ("Promus") for 20
Hotels; Crestline Hotels & Resorts, Inc. ("Crestline") for two Hotels;
and Crossroads Hospitality Company, L.L.C., an IHC affiliate ("CHC") for
55 Hotels. On January 1, 2002, the TRS Lessees entered into new
management agreements for the 19 AmeriSuites Hotels with Prime's
subsidiaries and one of the TRS Lessees also entered into a new
management agreement with Waterford Hotel Group, Inc. ("Waterford") for
the Company's hotel in Burlington, Vermont.
7
EQUITY INNS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED
(unaudited)
-----------------------
1. Organization and Basis of Presentation, Continued
The management agreements with Prime's subsidiaries are structured to
guarantee the Company minimum net operating income at each hotel. In
addition, the management agreements specify a net operating income
threshold for each hotel. As the manager, the Prime subsidiaries can earn
25% of net operating income above the threshold, to a maximum of 6.5% of
gross revenues as their management fee. If net operating income exceeds
the level to require the full 6.5% of gross revenue, the Prime
subsidiaries may earn an additional fee of 10% on any remaining net
operating income. If a hotel fails to generate net operating income
sufficient to reach the threshold, Prime's subsidiaries are required to
contribute 25% of the shortfall in net operating income to the Company.
The TRS Lessees lease the Hotels pursuant to leases (the "Percentage
Leases") under which the rent due under the Percentage Leases is the
greater of base rent or percentage rent, as defined in the Percentage
Leases. Percentage rent varies by lease and is calculated by multiplying
fixed percentages by the total amounts of hotel, food and beverage, and
other types of hotel revenue over specified threshold amounts.
On March 28, 2002, the Company sold 3,565,000 shares of its common stock,
$.01 par value ("Common Stock") through an underwritten public offering.
The offering price was $8.00 per share, resulting in gross proceeds of
$28,520,000. The Company received approximately $27,000,000 after the
deduction of underwriter's discounts and offering expenses.
These unaudited condensed consolidated financial statements have been
prepared pursuant to the rules and regulations of the Securities and
Exchange Commission ("SEC") and should be read in conjunction with the
financial statements and notes thereto of the Company included in the
Company's Annual Report on Form 10-K for the year ended December 31,
2001. The accompanying unaudited condensed consolidated financial
statements reflect, in the opinion of the Company's management, all
adjustments necessary for a fair presentation of the interim financial
statements. All such adjustments are of a normal and recurring nature.
2. Summary of Significant Accounting Policies
Concentrations of Credit Risk
The Company maintains cash balances with financial institutions with high
ratings. The Company has not experienced any losses with respect to bank
balances in excess of government-provided insurance.
8
EQUITY INNS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED
(unaudited)
-----------------------
2. Summary of Significant Accounting Policies, Continued
Income Taxes
The provision for income taxes includes deferred income taxes which arise
from temporary differences between the tax basis of the TRS Lessees'
assets and liabilities and their reported amounts in the financial
statements. Deferred taxes are measured using the enacted tax rates and
laws that will be in effect when the differences are expected to reverse.
Management establishes a valuation allowance when it believes it is
necessary to reduce the deferred tax asset to an amount that will more
likely than not be realized.
3. Net Income Per Common Share
A reconciliation of the numerator and denominator used in the basic
earnings per share computation to the numerator and denominator used in
the diluted earnings per share computation is presented below for the
three months ended June 30, 2002 and 2001.
For the Three Months Ended June 30,
2002 2001
----------------------------------------- --------------------------------------
Income Shares Per Share Income Shares Per Share
(Numerator) (Denominator) Amount (Numerator) (Denominator) Amount
----------- ------------- --------- ----------- ------------- ---------
Net income applicable
to common
shareholders $2,105,427 40,468,097 $.05 $5,010,887 36,835,174 $.14
Dilutive effect of
potential conversion
of partnership units
and elimination of
minority interest 68,359 1,196,535 164,157 1,202,156
Dilutive effect of stock
options outstanding
using the treasury
stock method 431 793
---------- ---------- ---- ---------- ---------- ----
Net income applicable to
common shareholders-
diluted $2,173,786 41,665,063 $.05 $5,175,044 38,038,123 $.14
========== ========== ==== ========== ========== ====
9
EQUITY INNS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED
(unaudited)
-----------------------
3. Net Income Per Common Share, Continued
For the Six Months Ended June 30,
2002 2001
----------------------------------------- ---------------------------------------
Income Shares Per Share Income Shares Per Share
(Numerator) (Denominator) Amount (Numerator) (Denominator) Amount
----------- ------------- --------- ----------- ------------- ---------
Net income (loss)
applicable to common
shareholders $(162,251) 38,770,884 $.00 $4,620,617 36,824,729 $.13
Dilutive effect of
potential conversion
of partnership units
and elimination of
minority interest (5,022) 1,197,586 151,330 1,206,048
Dilutive effect of stock
options outstanding
using the treasury
stock method 627
--------- ---------- ---- ---------- ---------- ----
Net income (loss)
applicable to common
shareholders-diluted $(167,273) 39,968,470 $.00 $4,771,947 38,031,404 $.13
========= ========== ==== ========== ========== ====
4. Debt
The following details the Company's debt outstanding at June 30, 2002:
Interest Collateral
Rate Maturity # of Hotels
-------------- -------- -----------
Commercial Mortgage Bonds
Class A $ 9,416,248 6.83% Fixed Nov 2006
Class B 50,600,000 7.37% Fixed Dec 2015
Class C 10,000,000 7.58% Fixed Feb 2017
------------
70,016,248 21
Line of Credit 72,500,000 LIBOR plus Variable Oct 2003 28
Percentage
Mortgage 93,311,886 8.37% Fixed July 2009 19
Mortgage 68,350,579 8.25% Fixed Nov 2010 16
Mortgage 35,325,781 8.25% Fixed Nov 2010 8
Mortgage 3,030,441 8.50% Fixed Nov 2005 1
Mortgage 5,769,907 10.00% Fixed Sept 2005 1
Mortgage 3,838,435 8.57% Fixed Nov 2016 1
------------
$352,143,277
============
10
EQUITY INNS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED
(unaudited)
-----------------------
4. Debt, Continued
The Company's $125 million secured line of credit (the "Line of Credit")
bears interest at a variable rate of LIBOR plus 1.5%, 1.75%, 2.0%, 2.25%,
2.5%, 2.75% or 3.0% as determined by the Company's percentage of total
debt to earnings before interest, taxes, depreciation and amortization
("EBITDA"), as defined in the loan agreement (the "Percentage"). The
Percentage is reviewed quarterly and the interest rate is adjusted as
necessary. At June 30, 2002, the interest rate on the Line of Credit was
LIBOR (1.84% at June 30, 2002) plus 2.5%. An annual fee of 0.5%, as
determined by the Company's ratio of total indebtedness to EBITDA, is
paid quarterly on the unused portion of the Line of Credit.
The Line of Credit contains various covenants including the maintenance
of a minimum net worth, minimum debt coverage and interest coverage
ratios, and total indebtedness limitations. At June 30, 2002, the Company
was in compliance with all covenants contained in the Line of Credit.
5. Interest Rate Swap Contract
Effective January 16, 2001, the Company entered into an interest rate
swap agreement with a financial institution on a notional principal
amount of $50 million. The agreement effectively fixes the interest rate
on the first $50 million of floating rate debt outstanding under the Line
of Credit at a rate of 6.4275% plus the Percentage. The change in the
fair value of this contract from inception to June 30, 2002, has been
reported in other comprehensive income.
6. Comprehensive Income
SFAS No. 130, "Reporting Comprehensive Income", requires the disclosure
of the components included in comprehensive income (loss). For the six
months ended June 30, 2002, the Company's comprehensive income was
$3,412,256, comprised of a net income of $3,103,375 and the change in the
unrealized loss on its interest rate swap of $308,881.
11
EQUITY INNS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED
(unaudited)
-----------------------
7. Income Taxes
The Company's income tax benefit related to its TRS Lessee subsidiaries
consists of the following:
Deferred:
Federal $(2,840,000)
State (335,000)
-----------
Total $(3,175,000)
===========
The TRS Lessees' net deferred tax asset of $6,627,000 is comprised of net
operating loss carry- forwards which expire beginning on December 31,
2021. The Company believes that the TRS Lessees will generate sufficient
future taxable income to realize this deferred tax asset in full.
Accordingly, no valuation allowance has been recorded at June 30, 2002.
12
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations
BACKGROUND
Equity Inns, Inc. (the "Company") commenced operations on March 1, 1994 upon
completion of its initial public offering and the simultaneous acquisition of
eight Hampton Inn hotels with 995 rooms. The following chart summarizes
information regarding the Company's hotels at June 30, 2002:
Number of Number of
Franchise Affiliation Hotel Properties Rooms/Suites
--------------------- ---------------- ------------
Premium Limited Service Hotels:
Hampton Inn 48 6,030
Hampton Inn & Suites 1 125
Holiday Inn Express 1 101
Comfort Inn 2 245
-- ------
Sub-total 52 6,501
-- ------
All-Suite Hotels:
AmeriSuites 19 2,403
Premium Extended Stay Hotels:
Residence Inn 11 1,351
Homewood Suites 9 1,295
-- ------
Sub-total 20 2,646
-- ------
Full Service Hotels:
Holiday Inn 4 557
Comfort Inn 1 177
-- ------
Sub-total 5 734
-- ------
Total 96 12,284
== ======
Equity Inns Partnership, L.P., (the "Partnership") and its affiliates lease all
96 of the Company's hotels (the "Hotels") to wholly-owned taxable REIT
subsidiaries of the Company (the "TRS Lessees"). The Company, through its
wholly-owned subsidiary, Equity Inns Trust (the "Trust"), is the general partner
of the Partnership and at June 30, 2002 owned an approximate 97.1% interest in
the Partnership.
13
Management's Discussion and Analysis of
Financial Condition and Results of Operations, Continued
RESULTS OF OPERATIONS
During 2001, the Company's revenues primarily represented rental income from 19
hotels leased by subsidiaries (collectively, the "Prime Lessee") of Prime
Hospitality Corporation ("Prime") and hotel level revenues from 77 hotels
operated under management contracts. Upon the termination of the percentage
leases (the "Percentage Leases") with Prime, beginning in January 2002, all of
the Hotels were operated under management contracts. Effective January 1, 2002,
the Company's consolidated results of operations reflect hotel-level revenues
and operating costs and expenses for all 96 Hotels. In order to show
comparability of the Company's results of operations, in addition to the
discussion of the historical results, we have also presented an unaudited recap
of the three and six months ended June 30, 2002 and 2001.
Because of the significant changes to our corporate structure as a result of the
termination of the Prime leases effective January 1, 2002, management believes
that a discussion of our pro forma results for the 19 hotels which were subject
to third-party leases in 2001 is meaningful and relevant to an investor's
understanding of the Company's present and future operations. The pro forma
adjustments required to reflect the termination of the Prime leases are to
record hotel-level revenues and expenses and reduce historical rental income
with respect to the 19 properties.
The unaudited pro forma financial information does not purport to represent what
the Company's results of operations or financial condition would actually have
been if the transactions had in fact occurred at the beginning of 2001 or to
project our results of operations or financial condition for any future period.
The unaudited pro forma financial information is based upon available
information and upon assumptions and estimates that management believes are
reasonable under the circumstances.
Three Months Ended June 30, 2002 and 2001
Effective January 1, 2002, the Company leased all 96 Hotels to the TRS Lessees.
The rents generated by the Percentage Leases with the TRS Lessees have been
eliminated in consolidation, while the actual operating results of the Hotels
leased to the TRS Lessees have been included in the Company's financial
statements.
14
Management's Discussion and Analysis of
Financial Condition and Results of Operations, Continued
RESULTS OF OPERATIONS, Continued
The following tables separately set forth a comparison of all the Hotels leased
to the TRS Lessees.
For the Three Months Ended
-------------------------------------------------------------------------------------------
Pro Forma Pro Forma
June 30, June 30, June 30, June 30, June 30, June 30,
2002 2001 2002 2001 2002 2001
----------- ----------- ----------- ----------- ----------- -----------
77 Hotels 19 Hotels (AmeriSuites) All Hotels
--------------------------- --------------------------- ---------------------------
Hotel revenue $53,162,254 $55,070,400 $11,720,537 $12,623,138 $64,882,791 $67,693,538
Hotel operating
expenses 31,999,331 30,666,159 6,381,125 6,849,719 38,380,456 37,515,878
Management fees 1,391,715 746,638 (430,783) (164,188) 960,932 582,450
----------- ----------- ----------- ----------- ----------- -----------
Net operating
income $19,771,208 $23,657,603 $ 5,770,195 $ 5,937,607 $25,541,403 $29,595,210
=========== =========== ============ =========== =========== ===========
Pro forma numbers presented represent the Company's historical revenues and
expenses, adjusted as described by pro forma changes below.
Pro forma adjustments:
(a) Total revenue adjustments consist of the changes in historical revenue from
the elimination of historical percentage lease revenue and the addition of
historical hotel operating revenues.
(b) Total operating expense adjustments consist of: (i) the changes in
historical operating expense from the addition of historical hotel operating
expenses and the elimination of percentage lease expense for the 19 AmeriSuites
hotels; and (ii) the adjustments to record management fees at their new
contractual rates.
The decrease in pro forma hotel revenues is due primarily to a 3.4% decrease in
revenue per available room ("REVPAR") for Hotels owned by the Company throughout
both periods from $57.40 to $55.46.
On a historical basis, total revenue and total expenses increased $4,623,055 and
$8,995,313, respectively in 2002 over 2001, primarily as a result of reporting
hotel operating revenues and expenses in 2002 compared to reporting a
combination of hotel operating revenues and percentage lease revenues in 2001,
as a result of the aforementioned termination of the Prime leases on January 1,
2002. Hotel operating expenses, on a pro forma basis, increased by $864,578 due
primarily to increases in insurance premiums and repairs.
15
Management's Discussion and Analysis of
Financial Condition and Results of Operations, Continued
RESULTS OF OPERATIONS, Continued
Management fees, on a pro forma basis, increased by $378,482 due primarily to
increases in base management fees over the comparable period in 2001.
Other income decreased by $154,369, as compared to the same period of the prior
year, due primarily to (1) a decrease in the income received from the company
providing certain management services to the Company's joint venture partner,
and (2) a decrease in interest income due to a decline in rates earned on
temporary investments.
Real estate and personal property taxes increased by $769,187 from the
comparable period in 2001 due primarily to the completion of a successful appeal
in the second quarter of 2001 to the taxes due on the Company's Chicago Homewood
Suites hotel.
Depreciation and amortization increased over the comparable period in 2001 due
primarily to capitalized renovation costs at certain hotels.
Interest expense decreased to $7.2 million from $7.8 million due primarily to a
decrease in average borrowings under the Company's line of credit from $380.4
million to $357.1 million.
General and administrative expenses increased by $257,986 from the comparable
period in 2001.
The income tax benefit for the three months ended June 30, 2002 and 2001 was
generated by the net operating losses created by the TRS Lessees' operations
during each quarter.
Six Months Ended June 30, 2002 and 2001
Effective January 1, 2002, the Company leased all 96 Hotels to the TRS Lessees.
The rents generated by the Percentage Leases with the TRS Lessees have been
eliminated in consolidation, while the actual operating results of the hotels
leased to the TRS Lessees have been included in the Company's financial
statements.
16
Management's Discussion and Analysis of
Financial Condition and Results of Operations, Continued
RESULTS OF OPERATIONS, Continued
The following tables separately set forth a comparison of all the Hotels leased
to the TRS Lessees.
For the Six Months Ended
-------------------------------------------------------------------------------------------
Pro Forma Pro Forma
June 30, June 30, June 30, June 30, June 30, June 30,
2002 2001 2002 2001 2002 2001
----------- ------------ ----------- ----------- ------------ ------------
77 Hotels 19 Hotels (AmeriSuites) All Hotels
--------------------------- ---------------------------- ----------------------------
Hotel revenue $97,934,972 $102,543,261 $22,281,508 $24,931,655 $120,216,480 $127,474,916
Hotel operating
expenses 60,519,962 59,955,821 12,189,312 13,672,583 72,709,274 73,628,404
Management fees 2,585,893 1,830,378 (1,633,691) (1,081,364) 952,202 749,014
----------- ------------ ----------- ----------- ------------ ------------
Net operating
income $34,829,117 $40,757,062 $11,725,887 $12,340,436 $46,555,004 $ 53,097,498
=========== =========== ============ =========== =========== ============
Pro forma numbers presented represent the Company's historical revenues and
expenses, adjusted as described by pro forma changes below.
Pro forma adjustments:
(a) Total revenue adjustments consist of the changes in historical revenue from
the elimination of historical percentage lease revenue and the addition of
historical hotel operating revenues.
(b) Total operating expense adjustments consist of: (i) the changes in
historical operating expense from the addition of historical hotel operating
expenses and the elimination of percentage lease expense for the 19 AmeriSuites
hotels; and (ii) the adjustments to record management fees at their new
contractual rates.
The decrease in pro forma hotel revenues is due primarily to a 5.2% decrease in
REVPAR for Hotels owned by the Company throughout both periods from $54.48 to
$51.65.
On a historical basis, total revenue and total expenses increased $5,588,754 and
$12,312,974, respectively in 2002 over 2001, primarily as a result of reporting
hotel operating revenues and expenses in 2002, compared to reporting a
combination of hotel operating revenues and percentage lease revenues in 2001,
as a result of the aforementioned termination of the Prime leases on January 1,
2002. Hotel operating expenses, on a pro forma basis increased by $919,130 due
primarily to increases in insurance premiums and repairs.
17
Management's Discussion and Analysis of
Financial Condition and Results of Operations, Continued
RESULTS OF OPERATIONS, Continued
Management fees, on a pro forma basis, increased by $203,188 due to increases in
base management fees over 2001, which were partially offset by certain of the
Prime properties not meeting minimum return thresholds under their management
agreements, thereby triggering a requirement for Prime to fund such shortfalls
to the Company.
Other income decreased by $629,003, as compared to the same period of the prior
year, due primarily to (1) a decrease in the income received from the company
providing certain management services to the Company's joint venture partner,
(2) a decrease in interest income due to a decline in rates earned on temporary
investments and a decrease in the amount of interest collected on notes
receivable, and (3) recognition in the prior period of income of approximately
$300,000 from the cancellation of certain hotel leases.
Real estate and personal property taxes increased by $430,039 from the
comparable period in 2001 due primarily to the completion of a successful appeal
in the second quarter of 2001 to the taxes due on the Company's Chicago Homewood
Suites hotel.
Depreciation and amortization increased over the comparable period in 2001 due
primarily to capitalized renovation costs at certain hotels.
Interest expense decreased to $14.7 million from $15.7 million due primarily to
a decrease in weighted average interest rates from 8.2% to 8.0% in 2002 and a
reduction in the average borrowings under the Company's line of credit from
$381.9 million to $371.5 million.
General and administrative expenses decreased by $142,474 from the comparable
period in 2001.
The income tax benefit for the six months ended June 30, 2002 and 2001 was
generated by the net operating losses created by the TRS Lessees' operations
during each quarter.
LIQUIDITY AND CAPITAL RESOURCES
The Company's principal source of cash to meet its cash requirements, including
distributions to its shareholders, is its cash distributions from the
Partnership. The Partnership's, and therefore the Company's, principal source of
revenue is lease payments from the TRS Lessees which are paid from the net
operating income of the hotels leased by the TRS Lessees. The Company's
liquidity, including its ability to make distributions to shareholders, is
dependent upon the cash flow from its hotels leased by the TRS Lessees.
18
Management's Discussion and Analysis of
Financial Condition and Results of Operations, Continued
LIQUIDITY AND CAPITAL RESOURCES, Continued
Cash and cash equivalents as of June 30, 2002 were $7,899,052, compared to
$4,358,787 at December 31, 2001. Additionally, all of the December 31, 2001
receivables due from the Prime Lessee were received prior to the filing of this
Quarterly Report on Form 10-Q. Net cash provided by operating activities for the
six months ended June 30, 2002 was $20,154,592.
The Company intends to make additional investments in hotel properties over time
and may incur, or cause the Partnership to incur, indebtedness to make such
investments or to meet distribution requirements imposed on a REIT under the
Internal Revenue Code to the extent that working capital and cash flow from the
Company's investments are insufficient to make such distributions. The Company's
Board of Directors has adopted a debt limitation policy currently limiting
aggregate indebtedness to 45% of the Company's investment in hotel properties at
its cost. The Board of Directors can amend, modify or terminate the debt
limitation policy at any time, in its discretion, without shareholder approval.
The Company also may seek to sell selected hotels in its current portfolio.
On March 28, 2002, the Company sold 3,565,000 shares of common stock, $.01 par
value, through an underwritten public offering. The offering price was $8.00 per
share, resulting in gross proceeds of $28,520,000. The Company received
approximately $27,000,000 after the deduction of underwriter's discounts and
offering expenses. These proceeds were used to reduce the outstanding borrowings
under the Line of Credit (as defined below).
At June 30, 2002, the Company had outstanding debt of approximately $352.1
million, including $72.5 million under its $125 million secured line of credit
(the "Line of Credit"), leaving approximately $46.9 million available from
borrowings under the Line of Credit, after consideration of outstanding letters
of credit. The Company's consolidated indebtedness was 38.0% of its investments
in its hotels, at cost, at June 30, 2002.
The Line of Credit contains various covenants including the maintenance of a
minimum net worth, minimum debt coverage and interest coverage ratios, and total
indebtedness limitations. At June 30, 2002, the Company was in compliance with
all covenants contained in the Line of Credit. As a result of the events of
September 11, 2001 and the softening of the economic environment of the
hospitality industry, the Company has negotiated amendments to certain of its
financial covenants pertaining to the Line of Credit.
Effective January 16, 2001, the Company entered into an interest rate swap
agreement with a financial institution on a notional principal amount of $50
million. The agreement effectively fixes the interest rate on the first $50
million of floating rate debt at a rate of 6.4275%, plus the Percentage. The
swap agreement will expire in October 2003.
19
Management's Discussion and Analysis of
Financial Condition and Results of Operations, Continued
LIQUIDITY AND CAPITAL RESOURCES, Continued
During the six months ended June 30, 2002, the Company invested approximately
$4.0 million to fund capital improvements to its hotels, including replacement
of carpets, drapes, renovation of common areas and improvement of hotel
exteriors. In addition, the Company has committed to fund approximately $5.8
million during the remainder of 2002 for capital improvements. The Company
intends to fund such improvements out of future cash from operations, present
cash balances and borrowings under its line of credit. Under certain of its loan
covenants, the Partnership is obligated to fund 4% of room revenues per quarter
on a cumulative basis, to a separate room renovation account for the ongoing
replacement or refurbishment of furniture, fixtures and equipment at the Hotels.
For the six months ended June 30, 2002, the amounts expended exceeded the
amounts required under the loan covenants.
During the three months ended June 30, 2002, the Partnership declared
distributions in the aggregate of $5,416,513 to its partners, including the
Trust, of $.13 per unit of limited partnership interest ("Unit"), and the
Company declared distributions in the aggregate of $5,261,022, of $.13 per share
to its shareholders, with such distributions being paid on August 1, 2002.
The Company expects to meet its short-term liquidity requirements generally
through net cash provided by operations, existing cash balances and, if
necessary, short-term borrowing under the Line of Credit. The Company believes
that its net cash provided by operations will be adequate to fund both operating
requirements and payment of dividends to preferred and common shareholders that
are necessary to maintain the Company's REIT status based on current IRS
requirements.
The Company expects to meet its long-term liquidity requirements, such as
scheduled debt maturities and property acquisitions, through long-term secured
and unsecured borrowing, proceeds from the sale of certain of its hotel
properties, the issuance of additional equity securities of the Company, or, in
connection with acquisitions of hotel properties, issuance of Units in the
Partnership. Under the Partnership Agreement, holders of Units have the right to
require the Partnership to redeem their Units. During the six months ended June
30, 2002, 2,566 Units were tendered for redemption. Under the Partnership
Agreement, the Company has the option to redeem Units tendered for redemption on
a one-for-one basis for shares of Common Stock or for an equivalent amount of
cash. The Company anticipates that it will continue to acquire any Units
tendered for redemption in the foreseeable future in exchange for shares of
Common Stock and has agreed to register such shares so as to be freely tradeable
by the recipient.
FUNDS FROM OPERATIONS
Funds From Operations ("FFO") (as defined below) were $20,331,803 for the six
months ended June 30, 2002, compared to $27,055,774 for the six months ended
June 30, 2001. The decrease is due primarily to a decrease in REVPAR of 5.2%
over the same period last year, caused by the events of September 11, 2001 and
20
Management's Discussion and Analysis of
Financial Condition and Results of Operations, Continued
FUNDS FROM OPERATIONS, Continued
the softening of the economic environment of the hospitality industry, reduced
by the income tax benefit attributable to the losses incurred by the TRS
Lessees, which are included in the Company's consolidated financial statements.
The Company considers FFO to be a key measure of a REIT's performance and
believes that FFO should be considered along with, but not as an alternative to,
net income and cash flows as a measure of the Company's operating performance
and liquidity.
Industry analysts generally consider FFO to be an appropriate measure of the
performance of an equity REIT. In accordance with the resolution adopted by the
Board of Governors of the National Association of Real Estate Investment Trusts
("NAREIT"), FFO represents net income (loss) (computed in accordance with
generally accepted accounting principles), excluding gains (or losses) from
sales of property, plus depreciation, and certain amortization. For the periods
presented, deferred lease revenue, depreciation and minority interest were the
only adjustments to net income for the determination of FFO. The Company's
computation of FFO may not be comparable to FFO reported by other REITs that do
not define the term in accordance with the current NAREIT definition or that
interpret the current NAREIT definition differently from the Company. FFO should
not be considered an alternative to net income or other measurements under
generally accepted accounting principles as an indicator of operating
performance or to cash flows from operating, investing or financing activities
as a measure of liquidity. FFO does not reflect working capital changes, cash
expenditures for capital improvements or principal payments with respect to
indebtedness on the Hotels.
The following is a reconciliation of net income to Funds From Operations
(unaudited):
Three Months Ended Six Months Ended
June 30, June 30,
---------------------------- --------------------------
2002 2001 2002 2001
----------- ----------- ----------- -----------
Net income $ 3,738,240 $ 6,643,700 $ 3,103,375 $7,886, 243
Less:
Preferred stock dividends (1,632,813) (1,632,813) (3,265,626) (3,265,626)
Add:
Minority interest 68,359 164,157 (5,022) 151,330
Depreciation of buildings, furniture and
fixtures 10,257,495 9,923,928 20,499,076 19,847,856
Deferred lease revenue 1,086,710 2,435,971
----------- ----------- ----------- -----------
Funds From Operations $12,431,281 $16,185,682 $20,331,803 $27,055,774
=========== =========== =========== ===========
Weighted average number of outstanding shares
of Common Stock and Units of Partnership 41,665,063 38,038,123 39,968,470 38,031,404
========== ========== ========== ==========
21
Management's Discussion and Analysis of
Financial Condition and Results of Operations, Continued
INFLATION
Operators of hotels, including the TRS Lessees and any third-party managers
retained by the TRS Lessees, in general possess the ability to adjust room rates
quickly. However, competitive pressures, a slow economy and the tragic events of
September 11, 2001 have limited and may in the future limit the ability of the
TRS Lessees and the third-party managers retained by the TRS Lessees to raise
room rates in response to inflation.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The Company's discussion and analysis of its financial condition and results of
operations are based upon its consolidated financial statements, which have been
prepared in accordance with accounting principles generally accepted in the
United States of America. The preparation of these financial statements requires
the Company's management to make estimates and judgments that affect the
reported amount of assets, liabilities, revenues and expenses, and related
disclosure of contingent assets and liabilities.
On an on-going basis, all estimates are evaluated by the Company's management,
including those related to bad debts, carrying value of investments in hotel
properties, income taxes, contingencies and litigation. All estimates are based
upon historical experience and on various other assumptions that are believed to
be reasonable under the circumstances, the results of which form the basis for
making judgments about the carrying values of assets and liabilities that are
not readily apparent from other sources. Actual results may differ from these
estimates under different assumptions or conditions.
The Company believes the following critical accounting policies affect its more
significant judgments and estimates used in the preparation of its consolidated
financial statements:
o The Company maintains allowances for doubtful accounts for estimated losses
resulting from the inability of its customers and other borrowers to make
required payments. If the financial condition of its customers or other
borrowers were to deteriorate, resulting in an impairment of their ability
to make payments, additional allowances may be required.
o The Company records an impairment charge when it believes an investment in
hotels has been impaired, such that future undiscounted cash flows would not
recover the book basis of the investment in the hotel property. Future
adverse changes in market conditions or poor operating results of underlying
investments could result in losses or an inability to recover the carrying
value of the investments that may not be reflected in an investment's
carrying value, thereby possibly requiring an impairment charge in the
future.
22
Management's Discussion and Analysis of
Financial Condition and Results of Operations, Continued
CRITICAL ACCOUNTING POLICIES AND ESTIMATES, Continued
o The Company records a valuation allowance to reduce its deferred tax assets
to the amount that is more likely than not to be realized. The Company's
management has considered future taxable income and ongoing prudent and
feasible tax planning strategies in assessing the need for a valuation
allowance. If management determines that the Company will not be able to
realize all or part of its net deferred tax asset in the future, an
adjustment to the deferred tax asset will be charged to income in the
periods such determination was made.
o The Company has obtained property and casualty insurance with loss limits
and coverages deemed reasonable by management (and as may be required by the
Company's lenders and franchisors). There can be no assurance that the
insurance obtained will fully protect the Company against insurable losses
(i.e., our losses may exceed our coverage limits), that the Company will not
incur losses from risks that are not insurable (i.e., losses from war, acts
of terrorism, riots, etc.) or that are not economically insurable, or that
current coverages will continue to be available at reasonable rates.
Moreover, we have been advised by our carriers that terrorism is now an
expressly excluded risk under our current "all-risk" property coverages,
which we believe previously would have insured our property against certain
damages from acts of terrorism. It is possible that one or more of our
lenders will likely require that we carry terrorism-specific insurance. We
may not be able to obtain terrorism insurance, to obtain it with policy
limits and terms (including deductibles) that satisfy us or our lenders, or
to obtain it at an economically justifiable price. If we cannot satisfy a
lender's insurance requirements in any respect, including but not limited to
terrorism coverage, the lender could declare a default. Depending on our
access to capital, liquidity and the value of the properties securing the
affected loan in relation to the balance of the loan, a default could have a
material adverse affect on our results of operations and ability to obtain
future financing. Likewise, one or more large uninsured or underinsure
losses could have a material adverse affect on us. We currently believe,
given our discussions with participants in the insurance markets (which are
in flux and subject to frequent change), and the nature, physical
characteristics and locations of our assets, (a) that we have customary and
adequate coverages under our current insurance policies and (b) while there
are no assurances that we will be successful in renewing our insurance
policies and obtaining terrorism insurance on reasonably satisfactory terms.
FORWARD-LOOKING STATEMENTS
This Management's Discussion and Analysis of Financial Condition and Results of
Operations contains forward-looking statements within the meaning of Section 27A
of the Securities Act of 1933, as amended, and Section 21E of the Securities
Exchange Act of 1934, as amended, including without limitation, statements
containing the words "believes", "estimates", "projects", "anticipates",
"expects" and words of similar import. Such forward-looking statements relate to
future events and
23
Management's Discussion and Analysis of
Financial Condition and Results of Operations, Continued
FORWARD-LOOKING STATEMENTS, Continued
the future financial performance of the Company, and involve known and unknown
risks, uncertainties and other factors which may cause the actual results,
performance or achievements of the Company to be materially different from the
results or achievement expressed or implied by such forward-looking statements.
Such risks and uncertainties include, but are not limited to, the following: the
ability of the Company to cope with domestic economic and political disruption
and Federal and state governmental regulations or war, terrorism, states of
emergency or similar activities resulting from the terrorist attacks occurring
on September 11, 2001; the ability of the Company to successfully implement its
operating strategy; changes in economic cycles; competition from other
hospitality companies; and changes in the laws and government regulations
applicable to the Company. Risk factors relating to such forward-looking
statements are contained from time to time in the Company's filings with the
SEC, including the Company's Current Report on Form 8-K dated March 25, 2002
filed under the Securities Exchange Act of 1934, as amended. The Company is not
obligated to update any such forward-looking statements or risk factors.
SEASONALITY
The hotel industry is seasonal in nature. The hotels' operations historically
reflect higher occupancy rates and average daily rate during the second and
third quarters. This seasonality can be expected to cause fluctuations in
quarterly operating income. To the extent that cash flow from the hotels for a
quarter is insufficient to fund all of the distributions for such quarter, the
Company may fund seasonal-related shortfalls with available cash or borrowing
under the Line of Credit.
24
Item 3. Quantitative and Qualitative Disclosures About Market Risk
The Company is exposed to certain financial market risks, the most predominant
of which is the fluctuation in interest rates. At June 30, 2002, the Company's
exposure to market risk for a change in interest rates is related solely to its
debt outstanding under the Line of Credit. Total debt outstanding under the Line
of Credit totaled $72.5 million at June 30, 2002. On January 16, 2001, the
Company entered into an interest rate swap agreement with a financial
institution on a notional principal amount of $50 million. The agreement
effectively fixes the interest rate on the first $50 million of floating rate
debt at a rate of 6.4275% plus 1.5%, 1.75%, 2.0%, 2.25%, 2.5%, 2.75% or 3.0% as
determined by the Percentage. The swap agreement will expire in October 2003.
Thus, at June 30, 2002, the Company had $22.5 million of variable rate debt
outstanding under the Line of Credit that was exposed to fluctuations in the
market rate of interest.
The Company's operating results are affected by changes in interest rates,
primarily as a result of borrowings under the Line of Credit. If interest rates
increased by 25 basis points, the Company's interest expense for the six months
ended June 30, 2002 would have increased by approximately $112,000, based on
balances outstanding during the period ended June 30, 2002.
25
PART II - OTHER INFORMATION
Item 4. Submission of Matters to a Vote by Security Holders
The information called for by this item is answered by reference to the
Company's Current Report on Form 8-K dated May 9, 2002 and filed on May 10,
2002, reporting the results of the Company's annual meeting of shareholders held
on May 9, 2002. See Part II, Item 6(b)(2) below.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits -- No exhibits are filed with this Quarterly Report on Form
10-Q.
(b) Reports on Form 8-K -- During the period covered by this Quarterly
Report on Form 10-Q, the Company filed the following three (3) Current
Reports on Form 8-K with the SEC:
(1) Current Report on Form 8-K dated May 2, 2002 and filed on May 3,
2002, reporting the issuance of a press release reporting the
Company's first quarter 2002 results (no financial information
required).
(2) Current Report on Form 8-K dated May 9, 2002 and filed on May
10, 2002, reporting the results of the Company's annual meeting
of shareholders held on May 9, 2002 (no financial information
required).
(3) Current Report on Form 8-K dated June 21, 2002 and filed on June
25, 2002, reporting the issuance of a press release concerning
the Company's anticipated second quarter 2002 earnings (no
financial information required).
26
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Equity Inns, Inc.
August 12, 2002 By: /s/Donald H. Dempsey
- -------------------- ------------------------------------------------
Date Donald H. Dempsey
Executive Vice President, Secretary, Treasurer,
and Chief Financial Officer (Principal Financial
and Accounting Officer)
27