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UNITED STATES
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
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the Quarter Ended June 30, 2003 Commission File No. 0-16728
FAIRFIELD INN BY MARRIOTT LIMITED PARTNERSHIP
---------------------------------------------
(Exact name of registrant as specified in its charter)
Delaware 52-1638296
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
P.O. Box 9507, 7 Bulfinch Place - Suite 500, Boston, MA 02114
-------------------------------------------------------------
(Address of principal executive offices)
(617) 570-4600
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(Registrant's telephone number, including area code)
Indicate by check whether the registrant (1) 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.
Yes X No
--- ---
Indicated by check whether registrant is an accelerated filer (as identified
in Rule 12b-2 of the Exchange Act).
Yes No X
----- ---
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FAIRFIELD INN BY MARRIOTT LIMITED PARTNERSHIP
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TABLE OF CONTENTS
PAGE NO.
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PART I - FINANCIAL INFORMATION
Item 1 Financial Statements (unaudited)
Condensed Balance Sheets as of June 30, 2003 and December 31, 2002 3
Condensed Statements of Operations - Quarters and Six Months Ended
June 30, 2003 and 2002 4
Condensed Statements of Cash Flows - Six Months Ended June 30, 2003 and 2002 5
Notes to Condensed Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 10
Item 3. Quantitative and Qualitative Disclosures about Market Risk 14
Item 4. Controls and Procedures 14
PART II - OTHER INFORMATION
Item 1. Legal Proceedings 15
Item 6. Exhibits and Reports on Form 8-K 15
SIGNATURES 16
EXHIBIT INDEX
2
FAIRFIELD INN BY MARRIOTT LIMITED PARTNERSHIP
CONDENSED BALANCE SHEETS
(IN THOUSANDS)
June 30, December 31,
2003 2002
--------------- ----------------
(unaudited)
ASSETS
Property and equipment, net $ 96,262 $ 99,626
Property held for sale -- 1,122
Deferred financing costs, net of accumulated amortization 1,641 1,875
Accounts receivable 1,586 1,008
Prepaid insurance and other current assets 685 1,270
Inventory 920 920
Due from Marriott International, Inc. 387 387
Property improvement fund 2,018 2,785
Restricted cash 3,985 8
Cash and cash equivalents 5,508 5,900
--------------- ----------------
$ 112,992 $ 114,901
=============== ================
LIABILITIES AND PARTNERS' DEFICIT
LIABILITIES
Mortgage debt in default, net $ 136,979 $ 137,070
Due to Marriott International, Inc., affiliates and other in default 6,277 5,034
Accounts payable and accrued liabilities 14,800 8,546
--------------- ----------------
Total Liabilities 158,056 150,650
--------------- ----------------
PARTNERS' DEFICIT
General Partner (400) (307)
Limited Partners (44,664) (35,442)
--------------- ----------------
Total Partners' Deficit (45,064) (35,749)
--------------- ----------------
$ 112,992 $ 114,901
=============== ================
See Notes to Condensed Financial Statements.
3
FAIRFIELD INN BY MARRIOTT LIMITED PARTNERSHIP
CONDENSED STATEMENTS OF OPERATIONS
(UNAUDITED, IN THOUSANDS, EXCEPT UNIT AND PER UNIT AMOUNTS)
Three Months Three Months Six Months Six Months
Ended Ended June 30, Ended June 30, Ended June 30,
June 30, 2003 2002 2003 2002
------------------ ---------------- ----------------- ------------------
REVENUES
Rooms $ 19,441 $ 22,267 $ 35,030 $ 39,985
Other inn revenues 203 291 420 597
Other revenues -- 1,374 -- 1,374
------------------ ---------------- ------------------ -----------------
19,644 23,932 35,450 41,956
------------------ ---------------- ------------------ -----------------
OPERATING EXPENSES
Rooms 6,401 6,739 12,038 12,707
Other department costs and expenses 318 522 614 801
Selling, administrative and other 6,265 6,809 12,459 12,858
Depreciation 2,456 2,415 4,832 4,860
Ground rent, taxes and other (Note 4) 2,449 2,464 5,053 4,751
Base management fee 597 683 1,076 1,231
Loss on impairment of long-lived
assets (Note 3) 892 -- 2,850 --
------------------ ---------------- ------------------ -----------------
19,378 19,632 38,922 37,208
------------------ ---------------- ------------------ -----------------
OPERATING PROFIT (LOSS) 266 4,300 (3,472) 4,748
Interest expense (2,952) (3,118) (5,872) (6,228)
Interest income 15 70 29 124
------------------ ---------------- ------------------ -----------------
NET (LOSS) INCOME $ (2,671) $ 1,252 $ (9,315) $ (1,356)
================== ================ ================== =================
ALLOCATION OF NET (LOSS) INCOME
General Partner $ (27) $ 13 (93) $ (14)
Limited Partners (2,644) 1,239 (9,222) (1,342)
------------------ ---------------- ------------------ -----------------
$ (2,671) $ 1,252 $ (9,315) $ (1,356)
================== ================ ================== =================
NET (LOSS) INCOME PER LIMITED PARTNER UNIT
(83,337 Units) $ (32) $ 15 $ (111) $ (16)
================== ================ ================== =================
See Notes to Condensed Financial Statements.
4
FAIRFIELD INN BY MARRIOTT LIMITED PARTNERSHIP
CONDENSED STATEMENTS OF CASH FLOWS
(UNAUDITED, IN THOUSANDS)
Six Months Six Months
Ended June 30, Ended June 30,
2003 2002
---------------- -----------------
OPERATING ACTIVITIES
Net loss $ (9,315) $ (1,356)
Depreciation 4,832 4,860
Loss on impairment of long-lived assets 2,850 --
Amortization of deferred financing costs 234 244
Amortization of mortgage debt premium (91) (175)
Changes in operating accounts 5,306 3,675
---------------- -----------------
Cash provided by operating activities 3,816 7,248
---------------- -----------------
INVESTING ACTIVITIES
Additions to property and equipment (3,196) (595)
Change in property improvement fund 767 (2,400)
---------------- -----------------
Cash used in investing activities (2,429) (2,995)
---------------- -----------------
FINANCING ACTIVITIES
Repayment of mortgage debt -- (2,344)
Change in restricted cash (1,779) (189)
---------------- -----------------
Cash used in financing activities (1,779) (2,533)
---------------- -----------------
(DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS (392) 1,720
CASH AND CASH EQUIVALENTS at beginning of period 5,900 1,597
CASH OF THE INNS, as restated -- 3,482
---------------- -----------------
CASH AND CASH EQUIVALENTS at end of period $ 5,508 6,799
================ =================
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash paid for mortgage interest $ -- $ 6,205
================ =================
See Notes to Condensed Financial Statements.
5
FAIRFIELD INN BY MARRIOTT LIMITED PARTNERSHIP
NOTES TO CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
1. ORGANIZATION
Fairfield Inn by Marriott Limited Partnership, a Delaware limited partnership
(the "Partnership"), owns 46 Fairfield Inn by Marriott properties (the "Inns")
located in sixteen states within the contiguous United States. The Partnership
leases the land underlying 30 of the Inns from Marriott International, Inc.
("MII") and certain of its affiliates. Effective November 30, 2001, Sage
Management Resources III, LLC ("Sage"), an affiliate of Sage Hospitality
Resources, LLC, began providing management at the properties. Prior to such
date, the Inns were managed by Fairfield FMC Corporation, a wholly-owned
subsidiary of MII, as part of the Fairfield Inn by Marriott hotel system under a
long-term management agreement. Under Sage, the Inns continue to be operated
under the Fairfield Inn by Marriott system.
2. GOING CONCERN UNCERTAINTY, LIQUIDITY AND FINANCING REQUIREMENTS
Adequate liquidity and capital are critical to the ability of the Partnership to
continue as a going concern. Annual revenues have declined each year from $94.4
million in 1998 to $78.8 million in 2002. The decline in Inn operations is
primarily due to increased competition, over-supply of limited service hotels in
the markets where the Partnership's Inns operate, increased pressure on room
rates, lack of funds for capital improvements needed to make the Inns more
competitive in their marketplaces, and a slowdown in the economy resulting in a
softness in the lodging industry as a whole. Exacerbating this trend was the
impact of the events of September 11, 2001 and the war with Iraq which have had
a significant detrimental effect on the hospitality industry in general and the
Inns in particular as travel nationwide has severely decreased. The Partnership
did not have sufficient cash flow from current operations to make its required
debt service payments beginning in November 2002, nor did it have sufficient
cash flow to make its property improvement fund contributions beginning in
September 2002. Further, on March 26, 2003, the Partnership received notice from
MII that it was in default under the ground lease agreements, due to its failure
to pay the full amount due of minimum rentals owed under the Ground Leases
beginning in January 2003. A default under the ground lease agreements also
constitutes a default under the loan agreement. On May 7, 2003, the Partnership
received notice from MII that the Ground Leases would be terminated effective
June 15, 2003 for nonpayment. On May 9, 2003, the lender exercised its right to
cure the default and paid the non-subordinated ground rent owed under the Ground
Leases through March 2003. On behalf of the Partnership, the Lender has
continued to pay the non-subordinated ground rent under the Ground Leases
through June 2003. The Partnership has recognized the obligation to repay the
Lender for these advances.
The Partnership is not projecting improved results for 2003 over 2002.
Partnership cash, including $4.0 million and $8,000 held in lender reserve
accounts at June 30, 2003 and December 31, 2002, respectively, totaled
approximately $9.5 million and $5.9 million at June 30, 2003 and December 31,
2002, respectively. As of November 11, 2002, the Partnership is in default under
the mortgage loan agreement due to its failure to pay the regularly scheduled
debt service payment due on that date. The Partnership is also in default under
the Franchise Agreements with MII due to its failure to make its property
improvement fund contributions beginning in September 2002, also resulting in
technical default under the mortgage loan agreement. The Partnership had
requested from the lender further modifications to the mortgage loan agreement.
These modifications included paying debt service solely from available cash
flow, and selling certain of the Partnership's properties and applying the
proceeds from the sales toward replenishing reserves held by the lender. This
proposal was rejected by the lender. The Partnership has reached a tentative
agreement with the lender to permit the Partnership to sell its interest in the
Inns without penalty. This agreement is subject to the consent of multiple
parties. If the requisite consents to the tentative agreement are obtained, it
is expected that any such liquidation will generate minimal, if any, proceeds in
excess of debt and expenses. If the requisite consents are not obtained, the
Partnership may be required to seek protection by filing for bankruptcy (Chapter
7 (liquidation) or Chapter 11 (reorganization)) and/or the Partnership's
properties may be lost through foreclosure.
The lack of available funds from operations over the past several years has also
delayed room refurbishments at the Inns. Based upon information provided by
Sage, the capital expenditure needs through November 30, 2003 for the Inns are
estimated to total approximately $19 million. As of July 1, 2003, the
Partnership has spent approximately $6.4
6
FAIRFIELD INN BY MARRIOTT LIMITED PARTNERSHIP
NOTES TO CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
2. GOING CONCERN UNCERTAINTY, LIQUIDITY AND FINANCING REQUIREMENTS (CONTINUED)
million toward the completion of the property improvements plans required under
the Franchise Agreements with MII. The Partnership is required to provide
evidence by no later than November 30, 2003 that at least $23 million has been
set aside to complete these capital improvements. The capital improvements will
not be completed by November 30, 2003, therefore the Franchise Agreement could
be terminated and the Inns could be prohibited from operating as "Fairfield Inn
by Marriott". If MII exercises its right to terminate the Franchise Agreement,
the Partnership would seek to become part of a comparable, nationally recognized
hotel system in order to continue to comply with the obligations under its loan
documents. If the Partnership is unable to retain another nationally recognized
brand, it could significantly impair its revenues and cash flow. The Partnership
estimates that the shortfall in available funds for capital expenditures will be
approximately $8.1 million by November 30, 2003.
For the years ended December 31, 2002, 2001 and 2000, the Partnership
contributed $3.5 million, $5.8 million, $6.0 million, respectively, to the
property improvement fund. For the six months ended June 30, 2003 and 2002, the
Partnership contributed $863,000 and $2.9 million, respectively, to the property
improvement fund.
The Partnership had insufficient cash flow from operations beginning in
September 2002 to make its property improvement fund contributions. This
resulted in a default under the Partnership's Franchise Agreements with MII, and
thus a technical default under the mortgage loan agreement. If the Partnership
is unable to reach an agreement with the lender, the Partnership may be required
to seek protection by filing for bankruptcy (Chapter 7 (liquidation) or Chapter
11 (reorganization)) and/or the Partnership's properties may be lost through
foreclosure.
All of the above mentioned factors raise substantial doubt about the
Partnership's ability to continue as a going concern. These financial statements
have been prepared on a going concern basis. In the event of liquidation, the
carrying values as presented in the accompanying financial statements could be
materially different and the accompanying financial statements do not include
any adjustments to reflect the possible future effects on the recoverability and
classification of assets or the amounts and classification of liabilities that
may result from the outcome of this uncertainty.
3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The accompanying unaudited condensed financial statements have been prepared
without audit. Certain information and footnote disclosures normally included in
financial statements presented in accordance with accounting principles
generally accepted in the United States have been condensed or omitted from the
accompanying statements. The Partnership believes the disclosures made are
adequate to make the information presented not misleading. However, the
unaudited, condensed financial statements should be read in conjunction with the
Partnership's audited financial statements and notes thereto for the year ended
December 31, 2002.
In the opinion of the Partnership, the accompanying unaudited, condensed
financial statements reflect all normal and recurring adjustments necessary to
present fairly the financial position of the Partnership as of June 30, 2003 and
2002, the results of its operations for the quarters and six months ended June
30, 2003 and 2002, and its cash flows for the six months ended June 30, 2003 and
2002. Interim results are not necessarily indicative of full year performance
because of seasonal and short-term variations. The Partnership's hotels have
historically experienced seasonal differences typical of the U.S. Hotel Industry
with higher revenues in the second and third quarters of calendar years compared
with the first and fourth quarters. This seasonality can cause material
fluctuations in Partnership income. In addition, the Partnership sold four of
its hotels during 2002.
The Partnership assesses impairment of its real estate properties based on
whether estimated future undiscounted cash flows from such properties will be
less than their net book value upon the evidence of impairment indicators. If a
property is impaired, its basis is adjusted to its estimated fair value. In
2002, Inns located in Atlanta, Georgia; Birmingham, Alabama; Detroit, Michigan;
Greenville, South Carolina; and St. Louis, Missouri experienced declining
7
FAIRFIELD INN BY MARRIOTT LIMITED PARTNERSHIP
NOTES TO CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
cash flows, primarily due to additional competition in their local markets and
therefore were impaired. As a result, during 2002, the Partnership concluded
that these Inns were impaired and adjusted their basis to their estimated fair
market value. An impairment charge was also taken on one of the Inns held for
sale, located in Orlando, Florida, based on the most recent sales offer. The
Partnership recorded an impairment charge of $5.3 million in the third quarter
of 2002.
As of December 31, 2002, the Partnership had four of its Inns remaining as held
for sale. These Inns were located in Orlando, Florida; Columbus, Ohio;
Charlotte, North Carolina; and Raleigh, North Carolina. Effective January 1,
2003, after the Partnership determined to no longer market these Inns for sale,
the Partnership reclassified these Inns as held and used. Accordingly, upon
reclassification an impairment charge was taken to record these Inns at the
lower of carrying value when classified as held and used, less depreciation not
taken during the period they were held for sale, or fair value. During the six
months ended June 30, 2003, Inns located in Atlanta, Georgia and Miami, Florida
also experienced declining cash flows, primarily due to additional competition
in their local markets and therefore were impaired. As a result, the Partnership
recorded an impairment charge of $2.9 million during the six months ended June
30, 2003.
In 2002, the Partnership concluded that the components of the working capital
managed by Sage should be consolidated with the working capital of the
Partnership. Previously reported financial statements have been revised to
reflect this accounting presentation. This revision did not impact the statement
of operations, partners' deficit or the net operating, investing and financing
cash flows, but did affect the comparability of the components of the operating
cash flows for 2003 to 2002.
For financial reporting purposes, the net income of the Partnership is allocated
99% to the limited partners and 1% to the general partner of the Partnership.
Significant differences exist between the net income for financial reporting
purposes and the net income for Federal income tax purposes. These differences
are due primarily to the use, for Federal income tax purposes, of accelerated
depreciation methods and shorter depreciable lives for certain assets and
differences in the timing of the recognition of certain fees and straight-line
rent adjustments.
4. AMOUNTS PAYABLE TO MARRIOTT INTERNATIONAL, INC.
The following table provides the significant expenses incurred to MII and its
affiliates for the periods ended June 30, 2003 and 2002 (in thousands):
Six Months Ended
June 30,
2003 2002
----------------- -------------
Royalty fee $2,236 $2,599
Ground rent 1,647 1,316
Reservation costs 346 396
----------------- -------------
Total $ 4,229 $ 4,311
================= =============
On March 26, 2003, the Partnership received notice from MII that it was in
default under the ground lease agreements due to its failure to pay the full
amount due of minimum rentals owed under the Ground Leases beginning in January
2003. On May 7, 2003, the Partnership received notice from MII that the Ground
Leases would be terminated effective June 15, 2003 for nonpayment. On May 9,
2003, the lender exercised its right to cure the default and paid the
non-subordinated ground rent owed under the Ground Leases through March 2003. On
behalf of the Partnership, the Lender has continued to pay the non-subordinated
ground rent under the Ground Leases through June 2003. The Partnership has
recognized the obligation to repay the Lender for these advances.
8
FAIRFIELD INN BY MARRIOTT LIMITED PARTNERSHIP
NOTES TO CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
4. AMOUNTS PAYABLE TO MARRIOTT INTERNATIONAL, INC. (CONTINUED)
During the fourth quarter of 2002, the Partnership recorded an adjustment to
recognize its ground rent expense on a straight-line basis for fiscal year 2002.
An adjustment has been made for the six months ended June 30, 2002 to present
ground rent expense under the straight-line method. This revision increased
ground rent expense and increased net loss by approximately $633,000 and $1.3
million for the quarter and six months ended June 30, 2002, respectively.
9
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
FORWARD-LOOKING STATEMENTS
Certain matters discussed herein are forward-looking statements. We have based
these forward-looking statements on our current expectations and projections
about future events. Certain, but not necessarily all, of such forward-looking
statements can be identified by the use of forward-looking terminology, such as
"believes," "expects," "may," "will," "should," "estimates," or "anticipates,"
or the negative thereof or other variations thereof or comparable terminology.
All forward-looking statements involve known and unknown risks, uncertainties
and other factors which may cause our actual transactions, results, performance
or achievements to be materially different from any future transactions,
results, performance or achievements expressed or implied by such
forward-looking statements. Although we believe the expectations reflected in
such forward-looking statements are based upon reasonable assumptions, we can
give no assurance that our expectations will be attained or that any deviations
will not be material. We disclaim any obligations or undertaking to publicly
release any updates or revisions to any forward-looking statement contained in
this quarterly report on Form 10-Q to reflect any change in our expectations
with regard thereto or any change in events, conditions or circumstances on
which any such statement is based.
LIQUIDITY AND CAPITAL RESOURCES
Going Concern and Other Important Risk Factors: Adequate liquidity and capital
are critical to the ability of the Partnership to continue as a going concern.
Annual revenues have declined each year from $94.4 million in 1998 to $78.8
million in 2002. The decline in Inn operations is primarily due to increased
competition, over-supply of limited service hotels in the markets where the
Partnership's Inns operate, increased pressure on room rates, lack of funds for
capital improvements needed to make the Inns more competitive in their
marketplaces, and a slowdown in the economy resulting in a softness in the
lodging industry as a whole. Exacerbating this trend was the impact of the
events of September 11, 2001 and the war with Iraq which have had a significant
detrimental effect on the hospitality industry in general and the Inns in
particular as travel nationwide has severely decreased. The Partnership did not
have sufficient cash flow from current operations to make its required debt
service payments beginning in November 2002, nor did it have sufficient cash
flow to make its property improvement fund contributions beginning in September
2002. Further, on March 26, 2003, the Partnership received notice from MII that
it was in default under the ground lease agreements, due to its failure to pay
the full amount due of minimum rentals owed under the Ground Leases beginning in
January 2003. On May 7, 2003, the Partnership received notice from MII that the
Ground Leases would be terminated effective June 15, 2003 for nonpayment. On May
9, 2003, the lender exercised its right to cure the default and paid the
non-subordinated ground rent owed under the Ground Leases through March 2003. On
behalf of the Partnership, the Lender has continued to pay the non-subordinated
ground rent under the Ground Leases through June 2003. The Partnership has
recognized the obligation to repay the Lender for these advances.
The Partnership is not projecting improved results for 2003 over 2002.
Partnership cash, including $4.0 million and $8,000 held in lender reserve
accounts at June 30, 2003 and December 31, 2002, respectively, totaled $9.5
million and $5.9 million at June 30, 2003 and December 31, 2002, respectively.
As of November 11, 2002, the Partnership is in default under the mortgage loan
agreement due to its failure to pay the regularly scheduled debt service payment
due on that date. The Partnership is also in default under the Franchise
Agreements with MII due to its failure to make its property improvement fund
contributions beginning in September 2002, also resulting in technical default
under the mortgage loan agreement. The Partnership had requested from the lender
further modifications to the mortgage loan agreement. These modifications
included paying debt service solely from available cash flow, selling certain of
the Partnership's properties and applying the proceeds from the sales toward
replenishing reserves held by the lender. This proposal was rejected by the
lender. The Partnership has reached a tentative agreement with the lender to
permit the Partnership to sell its interest in the Inns without penalty. This
agreement is subject to the consent of multiple parties. If the requisite
consents to the tentative agreement are obtained, it is expected that any such
liquidation will generate minimal, if any, proceeds in excess of debt and
expenses. If the requisite consents are not obtained, the Partnership may be
required to seek protection by filing for bankruptcy (Chapter 7 (liquidation) or
Chapter 11 (reorganization)) and/or the Partnership's properties may be lost
through foreclosure.
10
ITEM 2 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS (CONTINUED)
LIQUIDITY AND CAPITAL RESOURCES (CONTINUED)
The lack of available funds from operations over the past several years has also
delayed room refurbishments at the Inns. Based upon information provided by
Sage, the capital expenditure needs for 2002 and 2003 for the Inns are estimated
to total approximately $19 million. As of July 1, 2003, the Partnership has
spent approximately $6.4 million toward the completion of the property
improvements plans required under the Franchise Agreements with MII. The
Partnership is required to provide evidence by no later than November 30, 2003
that at least $23 million has been set aside to complete a portion of these
capital improvements. If the capital improvements are not completed, the
Franchise Agreement could be terminated and the Inns could be prohibited from
operating as "Fairfield Inn by Marriott". If this were to occur, which is
likely, the Partnership would seek to become part of a comparable, nationally
recognized hotel system in order to continue to comply with the obligations
under its loan documents. If the Partnership is unable to retain another
nationally recognized brand, it could significantly impair its revenues and cash
flow. The Partnership estimates that the shortfall in available funds for
capital expenditures will be approximately $8.1 million by the end of 2003.
For the years ended December 31, 2002 and 2001, the Partnership contributed $3.5
million and $5.8 million, respectively, to the property improvement fund. For
the six months ended June 30, 2003 and 2002, the Partnership contributed
$863,000 and $2.9 million, respectively, to the property improvement fund. The
Partnership had insufficient cash flow from operations beginning in September
2002 to make its property improvement fund contributions. This resulted in a
default under the Partnership's Franchise Agreements with MII, and thus a
technical default under the mortgage loan agreement. If the Partnership is
unable to reach an agreement with the lender, the Partnership may be required to
seek protection by filing for bankruptcy (Chapter 7 (liquidation) or Chapter 11
(reorganization)) and/or the Partnership's properties may be lost through
foreclosure.
All of the above mentioned factors raise substantial doubt about the
Partnership's ability to continue as a going concern.
Partnership cash, including $4.0 million held in lender reserve accounts,
totaled $9.5 million at June 30, 2003.
Principal Sources and Uses of Cash: The Partnership's principal source of cash
has been from operations. The Partnership's principal uses of cash are to make
debt service payments, fund the property improvement fund and maintain reserves
required pursuant to the terms of the mortgage debt.
The Partnership's cash and cash equivalents, excluding funds held in lender
reserves, declined to $5.5 million compared to $5.9 million at December 31,
2002. The decline from year end is due to $2.4 million of cash used in investing
activities and $1.8 million of cash used in financing activities, which were
partially offset by $3.8 million of cash provided by operating activities. Cash
used in investing activities consisted of changes in the property improvement
fund and capital expenditures. Cash used in financing activities consisted of
changes to the restricted cash reserves as required under the terms of the
mortgage debt.
Shortfall in Funds Available for Capital Expenditures: In light of the age of
the Partnership's Inns, which range from 13 to 16 years, major capital
expenditures are required over the next several years in an effort to be
competitive in the markets where the Partnership operates and to satisfy brand
standards required by the franchise agreement. These capital expenditures
include room refurbishments planned for 22 of the Inns over the next several
years and the replacement of roofs, facades, carpets, wall vinyl and furniture.
The capital expenditure needs for the Partnership's Inns through November 30,
2003 are estimated to total approximately $19 million.
The cost of future capital expenditures for the Partnership's Inns is estimated
to exceed available funds. The Partnership's property improvement fund became
insufficient to meet anticipated capital expenditures in 1999 and
11
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS (CONTINUED)
LIQUIDITY AND CAPITAL RESOURCES (CONTINUED)
continued to be insufficient through the second quarter of 2003. To address this
shortfall, the Partnership deposited an additional $2.4 million into the
property improvement fund during 1999 from its Partnership cash beyond the
required contributions. In addition, the contribution rate to the property
improvement fund was increased to 7% of gross sales for 1997 and thereafter. The
Partnership contributed $3.5 million and $5.8 million during 2002 and 2001,
respectively, to the property improvement fund. The Partnership contributed
$863,000 to the property improvement fund during the six months ended June 30,
2003.
The estimated property improvement fund shortfall is expected to be $8.1 million
of projected capital expenditure requirements by November 30, 2003. Until the
Partnership reaches a resolution concerning funding of the Partnership's
operating and capital expenditure shortfalls, any proposed capital expenditures
exceeding the amount available in the property improvement fund will be
deferred.
As discussed above, existing Partnership operations do not generate sufficient
revenue to enable the Partnership to meet its operating expenses, debt service
payments and ground lease payments. As such, the Partnership is currently in
default under its loan agreement. The Partnership has entered into negotiations
with the lender to address this situation. If an agreement cannot be reached,
the Partnership may seek to protect its investment in the Inns by filing for
bankruptcy protection (Chapter 7 (liquidation) or Chapter 11 (reorganization))
and/or could lose some or all of its Inns through foreclosure or to the ground
lessor.
RESULTS OF OPERATIONS
Net loss. The Partnership incurred a net loss of $2.7 million in the second
quarter of 2003 as compared to net income of $1.3 million generated in the
second quarter of 2002. For the six months ended June 30, 2003, net loss was
$9.3 million compared to a net loss of $1.4 million for the six months ended
June 30, 2002, an increase of $7.9 million. This increase is due primarily to
the decrease in revenues and increase in operating expenses discussed below.
Operating Profit (Loss). Operating profit for the second quarter of 2003
decreased by $4.0 million to $266,000 when compared to operating profit of $4.3
million for the first quarter of 2002. For the six months ended June 30, 2003,
operating loss was $3.5 million compared to operating profit of $4.7 million for
the six months ended June 30, 2002, an increase of $8.2 million. The increase in
operating loss for the comparable six month periods is due to the decrease in
revenues and increase in operating expenses.
Total Revenues. Total revenues decreased $4.3 million, or 17.9%, to $19.6
million for the second quarter of 2003 from $23.9 million in the second quarter
of 2002. Total revenues decreased $6.5 million, or approximately 15.5%, to $35.5
million for the six months ended June 30, 2003 from $42.0 million for the six
months ended June 30, 2002. The decrease is primarily due to the decline in
rooms revenues. Additionally, the decrease is due to the final settlement of
outstanding accruals maintained by the Partnership's former manager, MII. The
Partnership received approximately $700,000 from MII in April 2002. As a result
of the settlement, the Partnership recognized non-recurring revenues of
approximately $1.4 million during the second quarter of 2002.
Rooms Revenues. Rooms revenues decreased $5.0 million, or approximately 12.4% to
$35.0 million for the six months ended June 30, 2003 from $40.0 million for the
six months ended June 30, 2002, reflecting a 0.4% decrease in occupancy to
59.7%, and a $2.15 decrease in average room rate to $52.43. These changes in
occupancy and room rates caused a decrease in revenue per available room
("REVPAR") of 4.6% to $31.28. The decrease in average occupancy was primarily
the result of increased competition in the economy segment and the deferral of
capital improvements needed to make our Inns more competitive in their
marketplaces because of the lack of funds. The decrease in rooms revenues is not
proportional to the decreases in occupancy and average room rate due to the sale
of four of the Partnership's hotels during 2002. Excluding the effect on
revenues of the sale of these four hotels, rooms revenues for the remaining 46
Inns decreased $2.2 million, or approximately 5.8% to $35.0 million for the six
months ended June 30, 2003 from $37.2 million for the six months ended June 30,
2002.
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS (CONTINUED)
RESULTS OF OPERATIONS (CONTINUED)
Operating Expenses. Operating expenses decreased during the second quarter of
2003 by $254,000 or 1.3% to $19.4 million when compared to the second quarter of
2002. For the six months ended June 30, 2003, operating expenses increased $1.7
million or 4.6% to $38.9 million when compared to the six months ended June 30,
2002. The increase for the comparable six month periods is primarily due to the
loss on impairment of $2.9 million recorded during the six months ended June 30,
2003.
Interest Expense. Interest expense decreased $166,000 to $3.0 million in second
quarter 2003 when compared to the second quarter of 2002. For the year-to-date
comparable periods, interest expense decreased by $356,000 to $5.9 million. This
decrease is due to the payment of $11.4 million of principal on the mortgage
debt during 2002 as a result of proceeds applied from Inn sales.
CRITICAL ACCOUNTING POLICIES
The preparation of financial statements in conformity with accounting principles
generally accepted in the United States requires management to make estimates
and assumptions in certain circumstances that affect amounts reported in the
accompanying financial statements and related footnotes. In preparing these
financial statements, management has made its best estimates and judgments of
certain amounts included in the financial statements, giving due consideration
to materiality. The Partnership does not believe there is a great likelihood
that materially different amounts would be reported related to the accounting
policies described below. However, application of these accounting policies
involves the exercise of judgment and use of assumptions as to future
uncertainties and, as a result, actual results could differ from these
estimates.
Impairment of long-lived assets: At June 30, 2003 and December 31, 2002, the
Partnership had $96.3 million and $99.6 million, respectively, of property and
equipment (net), and $0 million and $1.1 million, respectively, of properties
held for sale, which collectively accounted for approximately 85% and 88%,
respectively, of the Partnership's total assets. Property and equipment is
carried at cost but is adjusted to fair value if there is an impairment loss.
During the years ended December 31, 2002, 2001, and 2000, the Partnership
recognized $5.2 million, $3.8 million, and $8.1 million, respectively, of
impairment losses related to its property and equipment. For the six months
ended June 30, 2003, the Partnership recognized an additional $2.9 million
impairment loss related to property and equipment at its Inns located in
Atlanta, Georgia; Charlotte, North Carolina; Columbus, Ohio; Miami, Florida;
Orlando, Florida; and Raleigh, North Carolina. An impairment loss may be
recorded for an Inn if estimated undiscounted future cash flows are less than
the net book value of the Inn. The Partnership calculates estimated future cash
flows over the remaining useful lives of each Inn, which are between 14-17
years. Upon the occurrence of events such as the Partnership's resolution of the
necessary actions to cure the mortgage debt in default, the Partnership will
reassess and modify, if necessary, the holding period assumptions for the Inns.
This change in assumption may result in additional impairment charges to the
Partnership. Impairment losses are measured based on the estimated fair value of
the Inn compared to the net book value of the Inn. The Partnership based its
estimates of fair value primarily upon appraisal.
Useful lives of long-lived assets: Property and equipment, and certain other
long-lived assets, are amortized over their useful lives. Useful lives are based
on management's estimates of the period that the assets will generate revenue.
Deferred ground rent: Deferred ground rent payable to MII and its affiliates at
June 30, 2003 and December 31, 2002 was $5.6 million and $4.7 million,
respectively, and is included in Due to Marriott International, Inc., affiliates
and other on the accompanying balance sheet. The Partnership's deferred ground
rent of $2.2 million that remained payable at November 30, 2001 was waived in
accordance with the amended lease agreement that was entered between the
Partnership and MII and its affiliates. The amount of deferred ground rent
waived as a result of the ground lease amendment will be recognized as a
reduction in ground rent expense over the remaining life of the new lease term,
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS (CONTINUED)
CRITICAL ACCOUNTING POLICIES (CONTINUED)
which has been extended to November 30, 2098, since it represents a new
operating lease as of November 30, 2001, for accounting purposes. Ground rent
expense is recognized on a straight-line basis over the term of the lease. The
excess of ground rent expense recognized over rental payments required by the
lease agreement of $3.4 million is deferred at June 30, 2003.
SEASONALITY
Our hotels have historically experienced seasonal differences typical of the
U.S. Hotel Industry with higher revenues in the second and third quarters of the
calendar years compared with the first and fourth quarters. This seasonality can
cause material fluctuations in our income.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We do not have market risk with respect to interest rates, foreign currency
exchanges or other market rate or price risk, and we do not hold any financial
instruments for trading purposes. As of June 30, 2003, all of our debt has a
fixed interest rate.
ITEM 4. CONTROLS AND PROCEDURES
The general partner's principal executive officer and principal financial
officer have, within 90 days of the filing date of this quarterly report,
evaluated the effectiveness of the Partnership's disclosure controls and
procedures (as defined in Exchange Act Rules 13a - 14(c) and have determined
that such disclosure controls and procedures are adequate. There have been no
significant changes in the Partnership's internal controls or in other factors
that could significantly affect such internal controls since the date of
evaluation. Accordingly, no corrective actions have been taken with regard to
significant deficiencies or material weaknesses.
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PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The Partnership is involved in routine litigation and administrative proceedings
arising in the ordinary course of business, some of which are expected to be
covered by liability insurance and which collectively are not expected to have a
material adverse effect on the business, financial condition or results of
operations of the Partnership.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
Exhibits required by Item 601 of Regulation S-K are filed herewith or
incorporated herein by reference and are listed in the attached Exhibit Index.
(b) Reports on Form 8-K
No Current Reports on Form 8-K were filed by the Partnership during the
three month period ended June 30, 2003.
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SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this Form 10-Q to be signed on its behalf by the
undersigned, thereunto duly authorized this 13th day of August, 2003.
FAIRFIELD INN BY MARRIOTT LIMITED PARTNERSHIP
By: AP-Fairfield GP, LLC
General Partner
By: AP-Fairfield Manager Corp.
Manager
By: /s/ Carolyn Tiffany
------------------------------
Carolyn Tiffany
Vice President
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EXHIBIT INDEX
No. Exhibit Page
--- ------- ----
2.1 Amended and Restated Agreement of Limited Partnership of Fairfield Inn by Marriott Limited (1)
Partnership by and among Marriott FIBM One Corporation (General Partner), Christopher,
G. Townsend (Organizational Limited Partner), and those persons who become Limited Partners
(Limited Partners) dated July 31, 1990.
2.2 First Amendment to Amended and Restated Agreement of Limited Partnership dated as of (2)
December 28, 1998.
10.1 Loan Agreement between Fairfield Inn by Marriott Limited Partnership and Nomura Asset Capital (1)
Corporation dated January 13, 1997.
10.2 Secured Promissory Note made by Fairfield Inn by Marriott Limited Partnership (the "Maker") (1)
to Nomura Asset Capital Corporation (the "Payee") dated January 13, 1997
10.3 Form of Ground Lease (1)
16 Letter from Arthur Andersen LLP to the Securities and Exchange Commission dated May 20, 2002. (4)
31 Certifications Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 18
32 Certification Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 20
(1) Incorporated by reference to the Registrant's Form 10 filed on January 29, 1998.
(2) Incorporated by reference to the Registrant's Form 10/A filed on April 11, 2001
(3) Incorporated by reference to the Registrant's Annual Report on Form 10K filed for the year ended
December 31, 2001.
(4) Incorporated by reference to the Registrant's Current Report on Form 8K filed May 20, 2002.
17