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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
For the quarterly period ended March 31, 2004
OR
[ ] Transition Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the transition period from to
--------------- ---------------
COMMISSION FILE NO. 0-15291
ARLINGTON HOSPITALITY, INC.
(Exact name of Registrant as specified in its charter)
DELAWARE 36-3312434
--------------------------------- --------------------------------------
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
2355 S. ARLINGTON HEIGHTS ROAD, SUITE 400, ARLINGTON
HEIGHTS, ILLINOIS 60005
- ------------------------------------------------------- ------------
(Address of principal executive offices) (Zip Code)
(847) 228-5400
----------------
(Registrant's telephone number, including area code)
Indicate by check mark 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 [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).
YES [ ] NO [X]
As of May 14, 2004, 5,038,149 shares of the registrant's common stock were
outstanding.
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ARLINGTON HOSPITALITY, INC.
FORM 10-Q
FOR THE THREE MONTHS ENDED MARCH 31, 2004
INDEX
Page
----
PART I: Financial Information
Item 1 - Financial Statements
Consolidated Balance Sheets as of March 31, 2004
and December 31, 2003 4
Consolidated Statements of Operations for the Three Months
Ended March 31, 2004 and 2003 6
Consolidated Statements of Cash Flows for the Three Months
Ended March 31, 2004 and 2003 7
Notes to Consolidated Financial Statements 9
Item 2 - Management's Discussion and Analysis of Financial Condition 21
and Results of Operations
Item 3 - Quantitative and Qualitative Disclosures about Market Risk 49
Item 4 - Controls and Procedures 49
PART II: Other Information
Item 2 - Changes in Securities; Use of Proceeds and Issuer 50
Purchases of Equity
Item 6 - Exhibits and Reports on Form 8-K 51
Signatures 54
Page 2
Part I: Financial Information
Item 1: Financial Statements
Page 3
ARLINGTON HOSPITALITY, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
March 31, December 31,
2004 2003
----------- ------------
ASSETS
Current assets:
Cash and cash equivalents $ 4,972,805 $ 3,623,550
Accounts receivable, less an allowance of $76,500
at March 31, 2004 and December 31, 2003 (including
approximately $975,000 and $382,000 from related parties) 2,255,281 1,289,492
Notes receivable, current portion -- 146,000
Prepaid expenses and other current assets 664,635 1,142,032
Refundable income taxes 228,197 975,316
Costs and estimated earnings in excess of billings on
uncompleted contracts 142,766 1,232,481
Assets held for sale - other brands 10,276,601 10,603,160
Assets held for sale - AmeriHost Inn hotels 22,351,372 28,162,442
----------- -----------
Total current assets 40,891,659 47,174,473
----------- -----------
Investments in and advances to unconsolidated
hotel joint ventures 3,215,243 3,309,344
----------- -----------
Property and equipment:
Land 5,735,489 5,735,489
Buildings 31,177,381 31,174,776
Furniture, fixtures and equipment 13,394,351 13,176,842
Construction in progress 319,711 312,925
Leasehold improvements 2,396,689 2,396,689
----------- -----------
53,023,621 52,796,721
Less accumulated depreciation and amortization 14,033,627 13,242,842
----------- -----------
38,989,994 39,553,879
----------- -----------
Notes receivable, less current portion 966,042 867,500
Deferred income taxes 7,121,423 6,071,000
Other assets, net of accumulated amortization of
approximately $1,066,000 and $1,311,000 2,529,389 2,737,217
----------- -----------
10,616,854 9,675,717
----------- -----------
$93,713,748 $99,713,413
=========== ===========
- 4 -
ARLINGTON HOSPITALITY, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
March 31, December 31,
2004 2003
----------- ------------
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 2,499,428 $ 2,768,402
Bank line-of-credit 4,000,000 3,850,000
Accrued payroll and related expenses 380,709 393,815
Accrued real estate and other taxes 1,992,265 1,980,015
Other accrued expenses and current liabilities 1,585,082 1,407,511
Current portion of long-term debt 1,195,050 1,195,050
Liabilities of assets held for sale - other brands 9,396,312 9,585,492
Liabilities of assets held for sale - AmeriHost Inns 24,442,718 28,540,561
------------ ------------
Total current liabilities 45,491,564 49,720,846
------------ ------------
Long-term debt, net of current portion 26,250,445 26,513,398
------------ ------------
Deferred income 11,405,455 11,361,927
------------ ------------
Commitments and contingencies
Minority interests 183,122 329,819
------------ ------------
Shareholders' equity:
Preferred stock, no par value; authorized 100,000 shares;
none issued -- --
Common stock, $.005 par value; authorized at 25,000,000 shares;
issued and outstanding 5,038,174 shares at March 31, 2004,
and 4,994,956 shares at December 31, 2003 25,191 24,975
Additional paid-in capital 13,391,231 13,220,302
Retained earnings (deficit) (2,596,385) (1,020,979)
------------ ------------
10,820,037 12,224,298
Less:
Stock subscriptions receivable (436,875) (436,875)
------------ ------------
Total shareholders' equity 10,383,162 11,787,423
------------ ------------
$ 93,713,748 $ 99,713,413
============ ============
Page 5
ARLINGTON HOSPITALITY, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE THREE MONTHS ENDED MARCH 31,
(UNAUDITED)
2004 2003
------------ ------------
Revenue:
Hotel operations:
AmeriHost Inn hotels $ 7,819,524 $ 8,522,509
Other hotels 370,710 336,835
Development and construction 1,200,654 1,479,978
Hotel sales and commissions 6,839,249 6,443,290
Management services 100,622 111,154
Employee leasing 562,276 517,407
Incentive and royalty sharing 283,408 205,655
Office building rental 173,907 177,228
------------ ------------
$ 17,350,350 17,794,056
------------ ------------
Operating costs and expenses:
Hotel operations:
AmeriHost Inn hotels 7,029,163 7,664,409
Other hotels 439,049 450,089
Development and construction 1,480,392 1,592,127
Hotel sales and commissions 5,543,601 5,240,817
Management services 90,381 64,933
Employee leasing 545,130 501,922
Office building rental 41,112 49,552
------------ ------------
15,168,828 15,563,849
------------ ------------
2,181,522 2,230,207
Depreciation and amortization 863,610 1,034,035
Leasehold rents - hotels 1,256,545 1,270,127
Corporate general and administrative 867,227 447,831
Impairment provision 320,133 100,000
------------ ------------
Operating loss (1,125,993) (621,786)
Other income (expense):
Interest expense (974,874) (1,095,394)
Interest income 125,938 119,959
Other income (expense) 20,135 (1,333)
Equity in net income and (losses) from unconsolidated joint ventures (6,166) (74,446)
------------ ------------
Loss before minority interests and income taxes (1,960,960) (1,673,000)
Minority interests in operations of consolidated joint ventures 33,812 28,363
------------ ------------
Loss before income tax (1,994,772) (1,701,363)
Income tax benefit 798,000 681,000
------------ ------------
Net loss from continuing operations (1,196,772) (1,020,363)
Discontinued operations, net of tax (378,634) (462,157)
------------ ------------
Net loss $ (1,575,406) $ (1,482,520)
============ ============
Net loss from continuing operations per share:
Basic $ (0.24) $ (0.20)
Diluted $ (0.24) $ (0.20)
Net loss per share:
Basic $ (0.31) $ (0.30)
Diluted $ (0.31) $ (0.30)
See notes to consolidated financial statements
Page 6
ARLINGTON HOSPITALITY, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE THREE MONTHS ENDED MARCH 31,
(UNAUDITED)
2004 2003
------------ ------------
Cash flows from operating activities:
Cash received from customers $ 17,811,979 $ 20,313,497
Cash paid to suppliers and employees (11,970,788) (15,093,781)
Interest received 158,539 106,502
Interest paid (1,013,175) (1,300,742)
Income taxes received 893,222 505,764
Income taxes paid (146,103) (123,936)
------------ ------------
Net cash provided by operating activities 5,733,674 4,407,304
------------ ------------
Cash flows from investing activities:
Distributions, and collections on advances,
from unconsolidated joint ventures 244,148 285,980
Purchase of property and equipment (264,707) (1,796,169)
Purchase of investments in, and advances
to, unconsolidated joint ventures (121,054) (325,740)
Collections (issuance) of notes receivable 47,458 (145,625)
------------ ------------
Net cash used in investing activities (94,155) (1,981,554)
------------ ------------
Cash flows from financing activities:
Proceeds from issuance of long-term debt -- 3,070,961
Principal payments on long-term debt (4,430,899) (4,716,314)
Net borrowings (repayment) on the line of credit 150,000 (404,287)
Distributions to minority interest (180,510) --
Issuance (repurchase) of common stock 171,145 (121)
------------ ------------
Net cash used in financing activities (4,290,264) (2,049,761)
------------ ------------
Net increase in cash 1,349,255 375,989
Cash and cash equivalents, beginning of period 3,623,550 3,969,515
------------ ------------
Cash and cash equivalents, end of period $ 4,972,805 $ 4,345,504
============ ============
(continued)
Page 7
ARLINGTON HOSPITALITY, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE THREE MONTHS ENDED MARCH 31,
(UNAUDITED)
2004 2003
----------- -----------
Reconciliation of net loss to net cash provided by
operating activities:
Net loss $(1,575,406) $(1,482,521)
Adjustments to reconcile net loss to net cash provided by
operating activities:
Depreciation and amortization 863,610 1,352,623
Equity in net (income) loss and interest income from unconsolidated
joint ventures and amortization of deferred income (37,823) 33,524
Minority interests in operations of consolidated joint ventures 33,812 (39,576)
Amortization of deferred gain (375,580) (314,167)
Deferred income taxes (1,050,423) (1,000)
Issuance of common stock and options -- 126,400
Proceeds from sale of hotels 6,839,249 6,443,290
Income from sale of hotels (1,295,648) (1,202,473)
Provision for impairment 731,719 100,000
Changes in assets and liabilities, net of effects of acquisition:
Increase in accounts receivable (1,055,528) (309,733)
Decrease in prepaid expenses and
other current assets 507,696 2,369
Decrease (increase) in refundable income taxes 747,119 (605,172)
Decrease in costs and estimated earnings
in excess of billings 1,089,715 711,472
Decrease (increase) in other assets 94,558 (70,201)
Decrease in accounts payable (356,597) (1,036,550)
Increase (decrease) in accrued payroll and other accrued
expenses and current liabilities 145,759 (49,277)
Decrease in accrued interest -- (5,773)
Increase in deferred income 427,442 754,069
----------- -----------
Net cash provided by operating activities $ 5,733,674 $ 4,407,304
=========== ===========
See notes to consolidated financial statements.
Page 8
ARLINGTON HOSPITALITY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE MONTHS ENDED MARCH 31, 2004 AND 2003
1. ORGANIZATION AND BUSINESS:
Arlington Hospitality, Inc. was incorporated under the laws of Delaware on
September 19, 1984. Arlington Hospitality, Inc. also acts through its
wholly-owned subsidiaries which have been formed since 1984 under the laws
of several states (Arlington Hospitality, Inc. and its subsidiaries,
collectively, where appropriate, referred to as the "Company"). The
Company is engaged in the development and construction of limited service
hotels, without food and beverage facilities, as well as the ownership,
operation, management and sale of these hotels. During the past several
years, the Company has focused almost exclusively on AmeriHost Inn hotels,
with limited ownership and operation of other branded hotels. The
AmeriHost Inn brand is used by the Company to provide for the consistent,
cost-effective development and operation of mid-price hotels in various
markets. To date, all of the Company's AmeriHost Inn hotels have been
developed and constructed using a two- or three-story prototype, featuring
60 to 120 rooms, interior corridors and an indoor pool area and generally
have been located in smaller town markets, and to a lesser extent,
secondary markets. The Company intends to focus its new AmeriHost Inn
development on larger, secondary markets, and has designed a larger,
three-story AmeriHost Inn & Suites prototype with more public space and
certain other enhancements for this purpose.
The Company's operations are seasonal by nature. The Company's hotel
operations and sales revenues are generally greater in the second and
third calendar quarters than in the first and fourth calendar quarters,
due to weather conditions in the markets in which the Company's hotels are
located, as well as general business and leisure travel trends.
2. BASIS OF PRESENTATION:
The financial statements included herein have been prepared by the
Company, without audit. In the opinion of the Company, the accompanying
unaudited consolidated financial statements contain all adjustments, which
consist only of recurring adjustments necessary to present fairly the
financial position of Arlington Hospitality, Inc. and subsidiaries as of
March 31, 2004 and December 31, 2003, and the results of its operations
and cash flows for the three months ended March 31, 2004 and 2003. The
results of operations for the three months ended March 31, 2004, are not
necessarily indicative of the results to be expected for the full year. It
is suggested that the accompanying consolidated financial statements be
read in conjunction with the consolidated financial statements and the
notes thereto included in the Company's 2003 Annual Report on Form 10-K.
Certain prior period amounts have been reclassified to conform to current
period presentation. These reclassifications had no effect on previously
reported operations or total shareholders' equity.
3. PRINCIPLES OF CONSOLIDATION:
The consolidated financial statements include the accounts of the Company,
its wholly-owned subsidiaries and entities in which the Company has a
majority or controlling ownership interest. All significant intercompany
accounts and transactions have been eliminated.
4. INCOME TAXES:
Deferred income taxes are provided on the differences in the bases of the
Company's assets and liabilities, as determined for tax and financial
reporting purposes, and relate principally to hotel impairment charges,
depreciation of property and equipment and deferred income. The deferred
income tax balance at March 31, 2004 also includes a net operating loss
carryforward of approximately $5.2 million expiring in 2024, which is
expected to be utilized and has not been reserved against. However,
certain state net operating loss carry forwards included in the net
deferred tax asset have been fully reserved for.
- 9 -
ARLINGTON HOSPITALITY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE MONTHS ENDED MARCH 31, 2004 AND 2003
5. EARNINGS PER SHARE:
Basic earnings per share ("EPS") is calculated by dividing the income
(loss) available to common shareholders by the weighted average number of
common shares outstanding for the period, without consideration for common
stock equivalents. Diluted EPS gives effect to all dilutive common stock
equivalents outstanding for the period. The Company excluded stock
equivalents which had an anti-dilutive effect on the EPS computations.
The calculation of basic and diluted earnings per share for the three
months ended March 31, is as follows:
2004 2003
------------- -----------
Net loss from continuing operations $ (1,196,772) $(1,020,363)
Discontinued operations, net of tax (378,634) (462,157)
------------- -----------
Net loss $ (1,575,406) $(1,482,520)
============= ===========
Weighted average common shares outstanding 5,007,119 $ 5,005,395
Dilutive effect of stock options -- --
------------- -----------
Dilutive common shares outstanding 5,007,119 5,005,395
============= ===========
Net loss per share - Basic:
From continuing operations $ (0.24) $ (0.20)
From discontinued operations (0.07) (0.10)
------------- -----------
$ (0.31) $ (0.30)
============= ===========
Net loss per share - Diluted:
From continuing operations $ (0.24) $ (0.20)
From discontinued operations (0.07) (0.10)
------------- -----------
$ (0.31) $ (0.30)
============= ===========
6. NOTES RECEIVABLE:
March 31, December 31,
2004 2003
------------- ------------
Notes receivable consist of:
Hotel sale related notes $ 950,000 $ 996,000
Other notes 16,042 17,500
------------- ------------
966,042 1,013,500
Less current portion -- 146,000
------------- ------------
Notes receivable, less current portion $ 966,042 $ 867,500
============= ============
Notes receivable at March 31, 2004, consists primarily of notes received
in connection with the sale of hotels. The notes provide for the monthly
payment of interest only at rates ranging from 6.0% to 9.0% and mature
through December 31, 2021. Certain of the notes are collateralized by the
related hotel or other tangible assets.
- 10 -
ARLINGTON HOSPITALITY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE MONTHS ENDED MARCH 31, 2004 AND 2003
7. INVESTMENT IN AND ADVANCES TO UNCONSOLIDATED HOTEL JOINT VENTURES:
The Company has non-controlling ownership interests, ranging from 1.0% to
50.0%, in general partnerships, limited partnerships and limited liability
companies formed for the purpose of owning and operating hotels. These
investments are accounted for using the equity method, under which method
the original investment is increased (decreased) for the Company's share
of the joint venture's net income (loss), increased by contributions made
and reduced by distributions received. The Company had investments in 14
hotel joint ventures at March 31, 2004, with a total investment balance of
$880,000, and 14 hotel joint ventures at December 31, 2003, with a total
investment balance of approximately $859,000. The Company is secondarily
liable for the obligations and liabilities of the limited partnerships in
which it holds a general partnership interest.
The Company advances funds to hotels in which the Company has a minority
ownership interest for working capital and construction purposes. The
advances bear interest ranging from the prime rate to 10% per annum and
are due on demand. The Company expects the partnerships to repay these
advances through the sale of the properties, cash flow generated from
hotel operations and mortgage financing. The advances were approximately
$2,331,000 and $2,451,000 at March 31, 2004 and December 31, 2003,
respectively, and are included in investments in and advances to
unconsolidated hotel joint ventures in the accompanying consolidated
balance sheets.
During the first quarter of 2004, a joint venture owning a non-AmeriHost
Inn hotel, in which the Company has a 50% ownership interest, amended its
partnership agreement. The amendment (i) provided for all future capital
calls to be funded by the other partner, with no funding obligation by the
Company and without dilution of ownership interest to the Company, (ii)
clarified the Company's first priority distributions upon the sale of the
hotel, (iii) mandated that the hotel be marketed for sale, and (iv)
transferred the hotel management responsibilities to an affiliate of the
joint venture partner.
The mortgage balances for the unconsolidated joint ventures have not been
included in the Company's consolidated balance sheet. Approximately $8.8
million of the mortgage debt with unconsolidated joint ventures relates to
five properties that have been identified to be sold as part of the
Company's strategic hotel disposition plan. One mortgage in the amount of
approximately $1.7 million matures in November 2004. This mortgage had
matured on November 1, 2003, however the lender extended the maturity for
one year, and waived a covenant violation for the minimum debt service
coverage ratio for 2003. This hotel is included in the hotel disposition
plan, and is expected to be sold prior to the loan maturity, with the net
proceeds being used to pay off the mortgage. However, if the joint venture
is unable to sell the hotel prior to the loan maturity, on acceptable
terms, and the lender is unwilling to extend the maturity date of the
loan, or if acceptable alternative financing is not available, it could
create a default on behalf of the joint venture whereby the lender would
look to the Company for repayment of the loan under the guarantee.
The Company has provided approximately $19.0 million in guarantees as of
March 31, 2004, on mortgage loan obligations for ten joint ventures in
which the Company holds a minority equity interest, which expire at
various dates through March 2024. Other partners also have guaranteed
portions of the same obligations. The partners of one of the partnerships
have entered into a cross indemnity agreement whereby each partner has
agreed to indemnify the others for any payments made by any partner in
relation to the guarantee in excess of their ownership interest.
- 11 -
ARLINGTON HOSPITALITY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE MONTHS ENDED MARCH 31, 2004 AND 2003
8. BANK LINE-OF-CREDIT:
The Company had $4,000,000 and $3,850,000 outstanding on its bank
operating line-of-credit at March 31, 2004 and December 31, 2003,
respectively. In April 2004, the operating line-of-credit was renewed for
a one year period expiring April 30, 2005, and provides for a maximum
availability of $4.0 million with a reduction in the maximum availability
to $3.5 million on February 28, 2005. In addition, the lender has the
right to reduce the maximum availability further based on hotel sales, or
as deemed necessary. The operating line-of-credit is collateralized by
substantially all the assets of the Company, subject to first mortgages
from other lenders on hotel assets, and bears interest at the rate of 10%
per annum. The line-of-credit provides for the maintenance of certain
financial covenants, including minimum tangible net worth, a maximum
leverage ratio, minimum debt service coverage ratio, and minimum net
income. The Company was in compliance with all covenants as of March 31,
2004.
9. LONG-TERM DEBT:
The Company's plan to sell certain hotel assets is expected to result in
the payoff of the related mortgage debt, and has been classified in
current liabilities, as liabilities of assets held for sale, in the
accompanying consolidated balance sheet as of March 31, 2004. The table
below presents the total mortgage debt outstanding, as well as the amounts
which are contractually due within the next twelve months, regardless of
the plan for hotel disposition.
Outstanding Contractually
Balance at due in the next
March 31, 2004 twelve months
-------------- ---------------
Held for Sale - AmeriHost Inn hotels $ 24,442,718 $ 2,361,799
Held for Sale - Other brands 8,858,802 1,260,617
Operating hotels 22,461,151 910,199
Office building 4,984,344 284,851
-------------- ---------------
$ 60,747,015 $ 4,817,466
============== ===============
The above amounts include two mortgages which mature within the next
twelve months. These mortgages have an aggregate outstanding balance of
$2.5 million as of March 31, 2004, and are secured by hotels held for
sale. The Company expects to sell the related hotel assets prior to the
mortgage maturity dates and to payoff the mortgages using the sale
proceeds. If not sold, the Company expects to refinance or extend the
mortgage loans until a sale is consummated.
The hotel mortgage loans bear interest at the floating rates of prime
minus 0.25% to prime plus 2.5% per annum. The office building loan matures
January 1, 2006, and bears interest at the floating rate of either prime
minus 0.25% or LIBOR plus 2.25%, as chosen by the Company.
Certain of the Company's hotel mortgage notes and the office building note
contain financial covenants, principally minimum net worth requirements,
debt to equity ratios, and minimum debt service coverage ratios. These
financial covenants are typically measured annually, based on our fiscal
year end. The Company was in compliance with all covenants as of March 31,
2004.
- 12 -
ARLINGTON HOSPITALITY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE MONTHS ENDED MARCH 31, 2004 AND 2003
10. SHAREHOLDERS' EQUITY:
Authorized shares:
The Company's corporate charter authorizes 25,000,000 shares of Common
Stock with a par value of $0.005 per share and 100,000 shares of Preferred
Stock with no par value. The Preferred Stock may be issued in series and
the Board of Directors shall determine the voting powers, designations,
preferences and relative participation, optional or other special rights
and the qualifications, limitations or restrictions thereof.
Stock subscriptions receivable:
In connection with the purchase of certain management contracts from
Diversified Innkeepers, Inc. ("Diversified"), the Company secured
promissory notes from the principals of Diversified in the total amount of
$436,875 with interest at 6.5% per annum. The notes are collateralized by
125,000 shares of common stock of the Company, which were issued upon the
exercise of stock options in 1993. The total principal balance is due
December 31, 2005. These notes receivable have been classified as a
reduction of shareholders' equity on the accompanying consolidated balance
sheets.
Reverse-Forward stock split:
In November 2003 the Company executed a reverse-forward stock split
whereby the shares held by shareholders owning less than 100 shares on the
effective date were redeemed and converted into the right to receive cash
from the Company. Shareholders owning at least 100 shares as of the
effective date were not impacted. A total of 33,332 shares held by
approximately 775 shareholders, or 40% of the total shareholders, were
converted on the effective date into the right to receive approximately
$128,000 in cash. Through March 31, 2004, the Company has paid
approximately $43,000 for the redemption of 11,289 shares in connection
with the reverse-forward stock split. All shares that were repurchased or
redeemed have been retired.
11. BUSINESS SEGMENTS:
The Company's business is primarily involved in seven segments: (1) hotel
operations, consisting of the operations of all hotels in which the
Company has a 100% or controlling ownership or leasehold interest, (2)
hotel development, consisting of development, construction and renovation
of hotels for unconsolidated joint ventures and unrelated third parties,
(3) hotel sales and commissions, resulting from the sale of AmeriHost Inn
hotels, (4) hotel management, (5) employee leasing, (6) incentive and
royalty sharing fees due from Cendant, the owner of the AmeriHost Inn
brand, and (7) office building rental activities.
Results of operations of the Company's business segments are reported in
the consolidated statements of operations. The following represents
revenues, operating costs and expenses, operating income, identifiable
assets, capital expenditures and depreciation and amortization for each
business segment, which is the information utilized by the Company's
decision makers in managing the business:
Revenues 2004 2003
- -------- ------------- --------------
Hotel operations $ 8,190,234 $ 8,859,343
Hotel development and construction 1,200,654 1,479,978
Hotel sales and commissions 6,839,249 6,443,290
Hotel management 100,622 111,154
Employee leasing 562,276 517,407
Incentive and royalty sharing fees 283,408 205,655
Office building rental and other 173,907 177,228
------------- --------------
$ 17,350,350 $ 17,794,055
============= ==============
- 13 -
ARLINGTON HOSPITALITY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE MONTHS ENDED MARCH 31, 2004 AND 2003
11. BUSINESS SEGMENTS (CONTINUED):
2004 2003
------------- --------------
Operating costs and expenses
Hotel operations $ 7,468,212 $ 8,114,498
Hotel development and construction 1,480,392 1,592,127
Hotel sales and commissions 5,543,601 5,240,817
Hotel management 90,381 64,933
Employee leasing 545,130 501,922
Incentive and royalty sharing fees - -
Office building rental and other 41,112 49,552
------------- --------------
$ 15,168,828 $ 15,563,849
============= ==============
Identifiable assets
Hotel operations $ 74,533,319 $ 100,950,157
Hotel development and construction 1,653,591 2,140,883
Hotel sales and commissions - -
Hotel management 975,530 645,956
Employee leasing 309,859 515,243
Incentive and royalty sharing fees - -
Office building rental and other 6,381,730 6,461,708
Corporate, including deferred tax asset 9,859,719 5,117,323
------------- --------------
$ 93,713,748 $ 115,831,270
============= ==============
Capital Expenditures
Hotel operations $ 259,923 $ 1,772,762
Hotel development and construction - 15,218
Hotel sales and commissions - -
Hotel management 1,955 6,658
Employee leasing - -
Incentive and royalty sharing fees - -
Office building rental and other 1,354 799
Corporate 1,475 732
------------- --------------
$ 264,707 $ 1,796,169
============= ==============
Depreciation/Amortization
Hotel operations $ 803,411 $ 946,124
Hotel development and construction 700 1,114
Hotel sales and commissions - -
Hotel management 10,167 11,727
Employee leasing 347 569
Incentive and royalty sharing fees - -
Office building rental and other 39,767 40,557
Corporate 9,218 33,944
------------- --------------
$ 863,610 $ 1,034,035
============= ==============
- 14 -
ARLINGTON HOSPITALITY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE MONTHS ENDED MARCH 31, 2004 AND 2003
12. PLAN FOR FUTURE HOTEL DISPOSITIONS:
Sale of hotels
Effective July 10, 2003, the Company implemented a plan to sell
approximately 25 - 30 hotel properties over a period of two years. The
properties to be sold included 20-25 AmeriHost Inns and six non-AmeriHost
hotels that are wholly owned or in which the Company has an ownership
interest. The Company has hired several regional and national hotel
brokerage firms to market most of the properties and manage the sales
process. The Company expects this plan to reduce debt and generate cash to
pursue development and other strategic objectives as well as accelerate
the economic benefits of the Company's transaction with Cendant
Corporation, the owner of the AmeriHost Inn franchise system. However,
there can be no assurances under the plan as to timing, terms of sale, or
that any additional sales will be consummated.
The Company sold two wholly-owned AmeriHost Inn hotels during the three
months ended March 31, 2004. Gross sale proceeds, net of closing costs,
from these hotels was approximately $6.8 million, which has been included
in hotel sales and commission revenue in the accompanying consolidated
financial statements. The net book value of these hotels at the time of
their sales was approximately $5.5 million, resulting in operating income
from the sale of these hotels of approximately $1.3 million. In addition,
approximately $3.9 million in mortgage debt was paid off with proceeds
from the sale of these hotels.
During the three months ended March 31, 2003, the Company sold two
wholly-owned AmeriHost Inn hotels. Gross sale proceeds, net of closing
costs, was approximately $6.4 million; net book value of these hotels at
the time of their sales was approximately $5.2 million, resulting in
operating income from the sale of these hotels of approximately $1.2
million; and mortgage debt of approximately $4.2 million was paid off with
the proceeds. In addition, a joint venture in which the Company had a
minority ownership interest sold its hotel asset during the first quarter
of 2003. The Company accounted for this joint venture by the equity method
and included its share of the gain from this sale in equity in net income
and (losses) of unconsolidated joint ventures in the accompanying
consolidated financial statements.
Impairment
On January 1, 2002, the Company adopted SFAS 144, "Statement of Financial
Accounting Standard (SFAS) No. 144, Accounting for Long-Lived assets (SFAS
144)". SFAS 144 addresses financial accounting and reporting for the
impairment or disposal of long-lived assets. SFAS 144 requires a
long-lived asset to be sold to be classified as "held for sale" in the
period in which certain criteria are met, including that the sale of the
asset within one year is probable. In addition, the debt that is expected
to be paid off as a result of these hotel sales has been classified as
current liabilities in the accompanying consolidated financial statements.
SFAS 144 also requires that the results of operations of a component of an
entity that either has been disposed of or is classified as held for sale
be reported in discontinued operations if the operations and cash flows of
the component have been or will be eliminated from the Company's ongoing
operations. However, the disposition of AmeriHost Inn hotels, although
classified as "held for sale" on the accompanying consolidated balance
sheets, have not been treated as discontinued operations due to the
ongoing royalty fees to be earned by the Company after their disposition.
In addition, in accordance with this literature, depreciation ceased on
the hotel assets that have been classified as "held for sale".
The Company periodically reviews the carrying value of certain of its
long-lived assets in relation to historical results, current business
conditions and trends to identify potential situations in which the
carrying value of assets may not be recoverable. If such reviews indicate
that the carrying value of such assets may not be recoverable, the Company
would estimate the undiscounted sum of the expected cash flows of such
assets to determine if such sum is less than the carrying value of such
assets to ascertain if an impairment exists. If an impairment exists, the
Company would determine the fair value by using quoted market prices, if
available for such assets, or if quoted market prices are not available,
the Company would discount the expected future cash flows of such assets.
- 15 -
ARLINGTON HOSPITALITY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE MONTHS ENDED MARCH 31, 2004 AND 2003
12. PLAN FOR FUTURE HOTEL DISPOSITIONS (CONTINUED):
During 2003, in connection with the implementation of the plan to sell
hotels, the Company recorded non-cash impairment charges of approximately
$6.0 million, including approximately $909,000 which was included in
"discontinued operations," related to the hotels targeted for sale as a
result of current market conditions and the change in holding periods of
the properties. The Company recorded $320,00 and $100,000 in non-cash
impairment charges during the first three months of 2004 and 2003,
respectively, related to consolidated AmeriHost Inn hotels and
unconsolidated hotels. In addition, approximately $411,000 in non-cash
impairment charges related to consolidated non-AmeriHost Inn hotels
anticipated to be sold, have been included in "discontinued operations"
during the three months ended March 31, 2004. The non-cash impairment
charges represent adjustments to reduce the carrying value of certain
hotel assets to the estimated sales prices, net of estimated costs to
sell.
13. DISCONTINUED OPERATIONS:
The Company has reclassified its consolidated statements of operations for
the three months ended March 31, 2004 and 2003, to reflect discontinued
operations of seven consolidated non-AmeriHost Inn hotels sold during this
period, or to be sold pursuant to the plan for hotel dispositions within
the next twelve months. This reclassification has no impact on the
Company's net income or net income per common share. Non-AmeriHost Inn
hotels sold or held for sale, which are owned by joint ventures and
accounted for using the equity method of accounting, are not presented as
"discontinued operations," nor are the sales of the AmeriHost Inn hotels
due to the Company's long-term royalty sharing agreement for all
non-Company owned AmeriHost Inn hotels. Condensed financial information of
the results of operations for the hotels presented as discontinued
operations is as follows:
2004 2003
----------- ------------
Hotel Operations:
Revenue $ 885,396 $ 1,363,634
Costs and expenses 967,103 1,616,779
----------- ------------
(81,707) (253,145)
Depreciation and amortization - 318,588
Leasehold rents - hotels - 64,850
Hotel impairment provision 411,586 -
----------- ------------
Operating loss (493,293) (636,583)
Other income (expense):
Interest expense (155,712) (199,575)
Other income (expense) 17,948 (938)
----------- ------------
Loss from discontinued
operations, before minority
interests and income taxes (631,057) (837,096)
Minority interests in (income) loss
of consolidated joint ventures - (67,939)
----------- ------------
Loss from discontinued operations,
before income taxes (631,057) (769,157)
Income tax benefit (252,423) (307,000)
----------- ------------
Net loss from discontinued operations $ (378,634) $ (462,157)
=========== ============
- 16 -
ARLINGTON HOSPITALITY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE MONTHS ENDED MARCH 31, 2004 AND 2003
13. DISCONTINUED OPERATIONS (CONTINUED):
Five consolidated non-AmeriHost Inn hotels to be sold pursuant to the plan
for hotel disposition, the operations of which are included in
discontinued operations, have been classified as held for sale in the
accompanying consolidated balance sheet as of March 31, 2004. Condensed
balance sheet information for these hotels is as follows:
March 31,
2004
--------------
ASSETS
Current assets:
Cash and cash equivalents $ 163,790
Accounts receivable 139,652
Prepaid expenses and other current assets 38,978
------------
Total current assets 342,420
------------
Property and equipment 14,250,714
Less accumulated depreciation and amortization (4,329,857)
------------
9,920,857
------------
Other assets, net of accumulated amortization 177,114
------------
$ 10,440,391
============
LIABILITIES
Current liabilities:
Accounts payable $ 176,627
Accrued payroll and other expenses 360,883
Current portion of long-term debt 360,974
------------
Total current liabilities 898,484
Long-term debt, net of current portion 8,497,828
Equity 1,044,079
------------
$ 10,440,391
============
- 17 -
ARLINGTON HOSPITALITY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE MONTHS ENDED MARCH 31, 2004 AND 2003
14. COMMITMENTS, CONTINGENCIES AND OTHER MATTERS:
Sale/leaseback of hotels:
In 1998 and 1999, the Company completed the sale of 30 AmeriHost Inn
hotels to PMC Commercial Trust ("PMC"), a real estate investment trust
("REIT") for $73.0 million. Upon the respective sales to PMC, a subsidiary
of the Company entered into agreements to lease back the hotels. The
leases had an initial term of 10 years, and in January 2001, the master
lese agreement with PMC was amended to allow either PMC or the Company to
extend the leases for a five-year period, through 2013. The lease payments
are currently 10.51% of the sale price and are subject to an annual CPI
increase with a 2% maximum. All of these leases are triple net and provide
for monthly base rent payments ranging from $14,000 to $27,000.
The January 2001 amendment also provided for the sale by PMC to third
parties or to the Company, eight unidentified hotels under specified
terms, with the specific hotels to be chosen by both PMC and the Company.
The amendment provides for four increases in rent payments of 0.25% each,
if these hotels are not sold to a third party or purchased by the Company
by the dates specified. As of March 31, 2004, the first three scheduled
rent increases were not effective due to the sale of hotels by PMC to the
Company. The Company is obligated to either facilitate the sale of one
hotel to a third party, or purchase it from PMC at a price of
approximately $2.6 million by June 5, 2004, or the fourth 0.25% rent
increase of approximately $127,000 on an annual basis becomes effective.
The Company is in discussions with PMC to extend this obligation, as
discussed below. If the Company decides to purchase this hotel, it intends
to fund the $2.6 million purchase price with a combination of mortgage
debt to be obtained and cash from operations or working capital. In
addition to the three hotels sold to the Company, PMC has also sold six
hotels to third parties since the lease inception, resulting in 21 hotels
currently leased by the Company from PMC as of March 31, 2004.
The gains from the sale of the hotels to PMC were deferred for financial
statement reporting purposes, due to the continuing involvement with the
long-term lease agreement, and are being amortized on a straight-line
basis into income as a reduction of leasehold rent expense over the
15-year term, including the five-year extension option. At March 31, 2004,
the balance of this deferred income was approximately $6.3 million.
In 2004, the Company entered into discussions with PMC, on behalf of its
subsidiary, with the objective to restructure these long-term lease
agreements, including the extension of the obligation discussed above, and
to allow for the sale of the hotels to third parties. On March 12, 2004,
the subsidiary entered into a temporary letter agreement with PMC which
provided that base rent will continue to accrue at the rate of
approximately $445,000 per month, as set forth in the lease agreements;
however the base rent payments required to be paid on March 1, 2004 and
April 1, 2004 were reduced to approximately $360,000 per month, with the
March 1, 2004 payment being due and payable upon the execution of the
temporary letter agreement. In addition, the subsidiary was allowed to
utilize $200,000 of its security deposit held with PMC to partially fund
these payments. Prior to its expiration on April 30, 2004, the terms of
the temporary letter agreement were extended for an additional one month
period, providing for the same reduced rent payment for May 2004. In
addition, upon the expiration of the temporary letter agreement (as
revised) on May 31, 2004, the deferred portion of the base rent
(approximately $264,000) plus the $200,000 needed to restore the security
deposit to its March 12, 2004 balance will be payable to PMC in four equal
monthly installments beginning June 1, 2004. While the objective is to
reach a restructured agreement prior to the expiration of the temporary
letter agreement, there can be no assurance that the leases will be
restructured on terms and conditions acceptable to the Company, if at all.
- 18 -
ARLINGTON HOSPITALITY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE MONTHS ENDED MARCH 31, 2004 AND 2003
14. COMMITMENTS, CONTINGENCIES AND OTHER MATTERS (CONTINUED):
Hotel lease:
A joint venture in which the Company has a controlling ownership interest
leases one non-AmeriHost Inn hotel. This lease is triple net, and provided
for rent payments of $20,000 per month. The lease was scheduled to expire
May 31, 2010, however, in May 2004, the terms of the lease were revised to
(i) change the monthly lease payments from $240,000 per year to an amount
based on a percentage of hotel room revenue, with a minimum of $90,000 on
an annual basis, and (ii) to change the lease expiration date to the
earlier of November 1, 2005, or when and if, the landlord sells the
property, redevelops the property, or leases the property to a new tenant.
In addition, the Company will receive a portion of the residual value of
the furniture, fixtures, and equipment upon termination of the lease.
Construction in progress:
As of March 31, 2004, the Company had entered into non-cancelable
subcontracts for approximately $321,000 in connection with the
construction of a new hotel, representing a portion of the total estimated
construction costs for this hotel. These commitments will be funded
through construction and long-term mortgage financing currently in place.
Employment agreement:
The Company has entered into employment agreements with its Chief
Executive Officer, its Chief Financial Officer and three other executives.
The agreements expire January 2005 through December 2005, and provide for
total annual base compensation of $907,000. The agreements also provide
for performance bonuses tied to company performance, and are payable in a
combination of cash and restricted common stock of the Company, with the
restricted stock to be issued pursuant to the 2003 Long Term Incentive
Plan adopted by the shareholders in 2003.
Legal matters:
The Company and certain of its subsidiaries are defendants in various
litigation matters arising in the ordinary course of business. In the
opinion of management, the ultimate resolution of all such litigation
matters is not likely to have a material effect on the Company's financial
condition, results of operation or liquidity.
15. SUPPLEMENTAL CASH FLOW DATA:
The following represents the supplemental schedule of noncash investing
and financing activities for the three months ended March 31:
2004 2003
---------- ----------
Notes received in connection with the
sale of hotels $ 100,000 $ 150,000
========== ==========
Interest paid, net of interest capitalized $1,013,175 $1,300,742
========== ==========
16. NEW ACCOUNTING STANDARDS:
In December 2003, the FASB issued Interpretation No. 46R (FIN 46R),
"Consolidation of Variable Interest Entities," which addresses how a
business enterprise should evaluate whether or not it has a controlling
financial interest in an entity through means other than voting rights and
accordingly should consolidate the entity. FIN 46R replaces FIN 46,
"Consolidation of Variable Interest Entities", which was issued in January
2003. The Company is required to adopt the requirements of FIN 46R for
interim periods ending after December 15, 2004. This Interpretation
requires that the Company present any variable interest entities in which
it has a majority variable interest on a consolidated basis in its
financial statements. The Company is continuing to assess the provisions
of this Interpretation and the impact to the
- 19 -
ARLINGTON HOSPITALITY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE MONTHS ENDED MARCH 31, 2004 AND 2003
16. NEW ACCOUNTING STANDARDS (CONTINUED):
Company of adopting this Interpretation. Therefore the following amounts
may change based upon additional analysis. Due to the adoption of this
Interpretation, the Company expects that it will begin to present its
investments in four joint ventures in which it has a majority variable
interest, as determined in accordance with the provisions of this
Interpretation, on a consolidated basis in its financial statements
beginning with the consolidated financial statements issued for the
quarterly period ended December 31, 2004. The consolidation of these joint
ventures is expected to add approximately $10.0 million in assets and $8.1
million in liabilities to the Company's consolidated balance sheet. As of
December 31, 2003, the Company had investments in, and advances to, these
joint ventures of approximately $1.8 million, which was presented as such
under the equity method of accounting in the accompanying consolidated
financial statements. The Company expects that it will continue to present
all of its other unconsolidated investments under the equity method.
- 20 -
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
FORWARD LOOKING STATEMENTS
Information both included and incorporated by reference in this Quarterly
Report on Form 10-Q may contain forward-looking statements within the
meaning of Section 27A of the Securities Act of 1933 and Section 21E of
the Securities Exchange Act of 1934, and as such may involve known and
unknown risks, uncertainties and other factors which may cause our actual
results, performance or achievements to be materially different from
future results, performance or achievements expressed or implied by such
forward-looking statements. Forward-looking statements, which are based on
various assumptions and describe our future plans, strategies and
expectations, are generally identified by our use of words such as
"intent," "plan," "may," "should," "will," "project," "estimate,"
"anticipate," "believe," "expect," "continue," "potential," "opportunity,"
and similar expressions, whether in the negative or affirmative. We cannot
guarantee that we actually will achieve these plans, intentions or
expectations. All statements regarding our expected financial position,
business and financing plans are forward-looking statements.
Factors that could have a material adverse effect on our operations and
future prospects include, but are not limited to:
- a downturn or sluggishness in the national economy in general,
and the real estate market specifically;
- the effect of threats or acts of terrorism and increased
security precautions on travel patterns and demand for hotels;
- governmental actions and other legislative/regulatory changes,
including changes to tax laws;
- level of proceeds from asset sales;
- ability of our hotel buyers to obtain adequate financing;
- cash available for operating expenses and ongoing capital
expenditures;
- availability of capital for new development/acquisition
growth;
- ability to refinance debt and restructure our lease agreements
with PMC;
- rising interest rates;
- rising insurance premiums;
- competition;
- supply and demand for hotel rooms in our current and proposed
market areas,including the existing and continuing weakness in
business travel and lower-than-expected daily room rates; and
- other factors that may influence the travel industry,
including health, safety and economic factors.
These risks and uncertainties, along with the risk factors discussed under
"Risk Factors" in our Annual Report on Form 10-K for the year ended
December 31, 2003, and those risk factors discussed under "Risk Factors"
herein, should be considered in evaluating any forward-looking statements
contained in this report or incorporated by reference herein. All
forward-looking statements speak only as of the date of this report or, in
the case of any document incorporated by reference, the date of that
document. All subsequent written and oral forward-looking statements
attributable to us or any person acting on our behalf are qualified by the
cautionary statements in this section. We undertake no obligation to
update or publicly release any revisions to forward-looking statements to
reflect events, circumstances or changes in expectations after the date of
this report.
- 21 -
EXECUTIVE OVERVIEW
We are engaged primarily in developing, selling, owning, operating and
managing limited service hotels, without food and beverage facilities,
primarily AmeriHost Inn hotels. Our hotels are concentrated primarily in
the Midwestern U.S., however we have developed a number of hotel
properties in California and the South Central U.S. over the past several
years. Our portfolio, as well as the changes in 2004 are summarized as
follows:
Hotels at Hotels Hotels Hotels at
12/31/03 Sold/Disposed Opened/Acquired 03/31/04
----------------- ------------------- ------------------ -------------------
Hotels Rooms Hotels Rooms Hotels Rooms Hotels Rooms
-------- ------ -------- -------- ------- -------- -------- --------
Consolidated (1):
AmeriHost Inn hotel 49 3,161 (2) (144) - - 47 3,107
Other brands 5 692 - - - - 5 692
-- ----- -- ---- --- --- --- -----
54 3,853 (2) (144) - - 52 3,709
-- ----- -- ---- --- --- --- -----
Unconsolidated:
Amerihost Inn hotel 8 574 - - - - 8 574
Other brands 2 228 - - - - 2 228
-- ----- -- ---- --- --- --- -----
10 802 - - - - 10 802
-- ----- -- ---- --- --- --- -----
Totals:
AmeriHost Inn hotel 57 3,735 (2) (144) - - 55 3,591
Other brands 7 920 - - - - 7 920
-- ----- -- ---- --- --- --- -----
64 4,655 (2) (144) - - 62 4,511
-- ----- -- ---- --- --- --- -----
(1) Consolidated hotels are those in which we have a 100% or controlling
ownership interest or a leasehold interest.
Our AmeriHost Inn hotels operate under franchise agreements with Cendant. Our
other brand hotels are those hotels operated under other national franchise
affiliations, such as Days Inn, Ramada Inn, and Howard Johnson Express. These
brands are also owned by Cendant.
Sources of Revenue
We generate revenue from the following primary sources:
- Hotel operations consisting of the revenues from all hotels in
which we have a 100% or controlling ownership or leasehold
interest (consolidated hotels). Unconsolidated hotels are
those hotels in which we have a minority or non-controlling
ownership or leasehold interest, and which are accounted for
by the equity method.
- Development and construction revenues consisting of fees for
new development, construction and renovation activities.
- Commissions and revenue from selling of our consolidated
AmeriHost Inn hotels.
- Incentive and royalty sharing fees consisting of the
amortization of one-time development incentive fees received
from Cendant, and our portion of the AmeriHost Inn franchise
royalty fees Cendant receives from all other AmeriHost Inn
franchisees and pays to us.
We generate revenue from additional secondary sources;
- Management and employee leasing revenues consisting of fees
for hotel management and employee leasing services.
- Rental revenue from the third-party tenants in our office
building.
- 22 -
Operating Expenses
Operating expenses consist of the following:
- Operating expenses from hotel operations consisting of all
costs associated with operating our consolidated hotels
including front desk, housekeeping, utilities, marketing,
maintenance, insurance, real estate taxes, and other general
and administrative expenses.
- Operating expenses from hotel development including all direct
costs of development and construction activities, such as site
work, zoning costs, the cost of all materials, construction
contracts, and furniture, fixtures and equipment, as well as
indirect internal costs such as architectural, design,
purchasing and legal expenses.
- Operating expenses from Amerihost Inn hotel sales equal to the
net book value of consolidated AmeriHost Inn hotels we sell.
- Operating expenses from hotel management including the direct
and indirect costs of management services, including sales,
marketing, quality control, training, purchasing and
accounting.
- Operating expenses from employee leasing including the actual
payroll cost for hotel employees.
- Operating expenses for the office building including all costs
associated with managing and owning the office building, such
as maintenance, repairs, security, real estates taxes, and
other direct and indirect administrative expenses.
Hotel and corporate level financing
Our company-owned and operated hotels have been financed historically through
either a combination of debt and equity, or lease financing. Our lenders are
typically local or regional banks, or other financial institutions, that provide
mortgage debt based on a percentage of cost or value, as determined by each
individual lender. The loan to value ratios have typically ranged from 60%-75%.
The equity requirement has been funded through our operating cash flow or other
corporate financing resources, such as our operating line-of-credit with LaSalle
Bank NA.
Our joint ventures have also historically been financed through a combination of
debt and equity, similar to the terms discussed above, and in one case, through
a long-term lease. We have also typically made an equity contribution of up to
30% of the total equity as a minority partner. In addition, we have guaranteed
the mortgage debt of the joint venture in most instances.
We paid off approximately $3.9 million in mortgage debt in the first quarter of
2004, in connection with the sale of two hotels. We expect to decrease our
mortgage debt further as we sell additional hotels. Total annual debt service
for the hotels currently in our portfolio, excluding mortgages which mature in
the next 12 months, is approximately $5.5 million for all of our consolidated
hotels. Total annual debt service for our current portfolio of unconsolidated
joint ventures, excluding mortgages which mature in the next twelve months, is
approximately $1.9 million. However, if certain anticipated hotel sales occur,
these obligations would decrease, as the related mortgage debt would be paid off
with the proceeds therefrom.
In May 2004, the one joint venture which operates its hotel under a lease,
revised the terms of the lease agreement. The revised agreement reduced the
annual lease payments from $240,000 to a percentage of hotel room revenue with a
minimum of $90,000 on an annual basis, and changed the lease expiration date
from May 31, 2010 to the earlier of November 1, 2005, or when, and if, the
landlord sells the property, redevelops the property, or leases the property to
a new tenant.
In 1998 and 1999, our subsidiary completed a sale and lease back transaction
with PMC Commercial Trust ("PMC"), a real estate investment trust ("REIT"), for
30 AmeriHost Inn hotels. Since then, PMC has sold, or we have repurchased, nine
hotels, leaving 21 hotels currently leased from PMC. The leases expire in 2008,
subject to a five-year extension as elected by either our subsidiary or PMC, as
provided in an amendment executed in January 2001. The lease payments are
currently at 10.51% of the sales prices per annum, and are subject to annual CPI
increases with a 2% maximum. Our subsidiary's current lease obligation for these
21 hotels is approximately $5.3 million on an annual basis. We have guaranteed
our subsidiary's obligation under the leases.
-23-
Hotel and corporate level financing (continued)
The January 2001 master lease amendment also provided for the sale of eight
unidentified hotels to third parties or to the Company under specified terms.
The amendment provides for four increases in rent payments of 0.25% each, if
these hotels are not sold to a third party or purchased by us by the dates
specified. As of March 31, 2004, the first three scheduled rent increases were
avoided due to the sale of hotels by PMC to us. The fourth 0.25% increase of
approximately $127,000 on an annual basis becomes effective if we do not either
facilitate the sale to a third party, or purchase from PMC, one specified hotel
at a price of approximately $2.6 million by June 5, 2004. The Company is in
discussions with PMC to extend this obligation, as discussed below. If we decide
to purchase this hotel, we intend to fund the $2.6 million purchase price with a
combination of mortgage debt, the source of which has not yet been identified,
and cash from operations or working capital. In addition to the hotels sold
pursuant to this amendment, PMC has also sold six other hotels to third parties.
We facilitated all of the sales of hotels by PMC to third parties, and have
received a commission from PMC for this service.
Due to numerous economic and market-driven factors relating to these 21
remaining hotels, the parent Company, Arlington Hospitality, Inc., has had to
fund, on behalf of our subsidiary, from other operating sources such as the sale
of hotels, a significant portion of the approximate $5.3 million annual lease
obligation, as the aggregate operating cash flow from these hotels in 2003 was
insufficient to meet the lease obligation. We have entered into discussions with
PMC, on behalf of our subsidiary, with the objective to restructure these
long-term lease agreements, including the extension of the obligation discussed
above, and to provide for the sale of the hotels to third parties. On March 31,
2004, we entered into a temporary letter agreement with PMC that expired on
April 30, 2004. The temporary letter agreement provided that base rent will
continue to accrue at the rate of approximately $445,000 per month, as set forth
in the lease agreements; however the base rent payments required to be paid on
March 1, 2004 and April 1, 2004 were reduced to approximately $360,000 per
month, with the March 1, 2004 payment being due and payable upon the execution
of the temporary letter agreement. In addition, we were allowed to utilize
$200,000 of our security deposit held with PMC to partially fund these payments.
On April 30, 2004, the temporary letter agreement was revised to extend its
terms for one additional month, which reduced the base rent payable on May 1,
2004 from approximately $445,000 to approximately $360,000. Additionally, the
deferred portion of the March, April and May 2004 rent (approximately $264,000),
plus the $200,000 needed to restore the security deposit to its March 12, 2004
balance, will be payable to PMC in four equal monthly installments beginning
June 1, 2004.
Our objective of the contemplated restructuring is to improve our operating
results and cash flow with respect to these hotels, and to agree on a plan that
would transfer these hotels to third party operators through the sale of the
properties. The sale of these hotels is consistent with our strategic
objectives, as discussed above. While our objective is to reach a restructured
agreement prior to the expiration of the temporary letter agreement (as
revised), there can be no assurance that the leases will be restructured on
terms and conditions acceptable to us, if at all, or that a restructuring will
improve operating results and cash flow, or provide for the sale of the hotels
to third party operators.
At the corporate level, our sole financing source is our operating
line-of-credit with LaSalle Bank NA. This line-of-credit is a revolving
facility, allowing us to take advances when needed, up to the allowed maximum,
and to repay any advances without penalty. This facility also requires us to
satisfy financial covenants such as minimum net worth, maximum debt to net
worth, minimum net income, and minimum debt service ratio. Our current maximum
availability under the line-of-credit is $4.0 million, subject to adjustments
discussed below. As of March 31, 2004 the outstanding balance on the
line-of-credit was $4.0 million.
Overall industry and economic factors
The lodging industry's performance, and the related travel patterns of both
business and leisure travelers, generally follows the trends of the overall U.S.
economy. Both the U.S. economy and the lodging industry began to decline in
2001. The performances of our hotels have followed this same trend. As the U.S.
economy began to show signs of improvement in 2003, the lodging industry has
followed in the latter part of 2003 and we continue to see improvement in 2004.
However, historically we have seen that lodging demand trends will typically lag
six to nine months behind these economic trends. Based on the economic forecasts
such as the GDP growth forecast, our industry outlook for the remainder of 2004
is optimistic.
- 24 -
Overall industry and economic factors (continued)
The downturn in the lodging industry has also negatively impacted the values of
hotel assets. In an environment with declining revenues and margins, the prices
at which hotels are sold have generally been relatively lower than prior to the
economic downturn. Fluctuations in values could have a material adverse or
positive impact on our plan to sell a significant number of hotels on an
accelerated basis in 2004 and 2005, and the net cash proceeds that we receive.
Key business trends and developments
We have several key indicators that we use to evaluate the performance of our
business. These indicators include room revenue per available room, or RevPAR,
and RevPAR penetration index. RevPAR is a commonly used measure within the hotel
industry to evaluate hotel operations. RevPAR is defined as the product of the
average daily room rate charged and the average daily occupancy achieved. RevPAR
does not include revenues from telephone and other guest services generated by
the property. RevPAR is generally considered the leading indicator of core
revenues for many hotels, and we use RevPAR to compare the results of our hotels
between periods and to compare results of our comparable hotels.
The table below shows our same room AmeriHost Inn hotel RevPAR results versus
the mid-scale without food and beverage segment of the limited service hotel
industry over the past eight years and in 2004, through March. The variance in
2004 can be attributed to the lagging economic recovery in the Midwestern U.S.,
which is where our hotels are primarily located.
RevPAR Growth
YTD(3)
1996 1997 1998 1999 2000 2001 2002 2003 2004
------ ------ ------ ------ ------ ------ ------- ------ ------
AmeriHost Inn Hotels (1) 14.5% 3.9% 9.4% 7.2% 5.9% (2.1%) 3.7% (0.3%) 2.3%
Limited service segment,
without food and
beverage (2) 3.5% 3.2% 3.1% 2.2% 4.4% (1.6%) (0.6%) 0.5% 6.3%
(1) Includes all AmeriHost Inn hotels we owned and operated, including
unconsolidated minority-owned hotels, operating for at least 13 full
months during the periods presented.
(2) According to Smith Travel Research, a leading industry analyst.
(3) Through March 2004.
A related revenue measure for our hotels is the RevPAR penetration index. The
RevPAR penetration index reflects each property's RevPAR in relation to the
RevPAR for that property's competitive set. We use the measure as an indicator
of a property's market share. For example, a RevPAR penetration index of 100
would indicate that a hotel's RevPAR is, on average, the same as its
competitors. A RevPAR penetration index exceeding 100 would indicate that a
hotel maintains a RevPAR premium in relation to its competitive set, while a
RevPAR penetration index below 100 would be an indicator that a hotel is under
performing its competitive set. One critical component in this calculation is
the determination of a hotel's competitive set. Factors that we consider include
geographic proximity, as well as the level of service provided at the property.
Our methodology for determining a hotel's competitive set, however, may differ
for those used by other owners and/or managers. From a market penetration
standpoint, in the aggregate, our AmeriHost Inn hotels were at an index of 99.2
for the three months ended March 31, 2004.
We believe that many factors contribute to the RevPar penetration index. Some
factors which may negatively impact the index at some of our hotels, include:
- the relatively smaller size of the AmeriHost Inn brand compared to many
other hotel brands with significant critical mass and market
penetration,
- a lower contribution rate from the AmeriHost Inn reservation system
compared to many other hotel brands, and the level of new competition
in the local markets which compete directly with our hotels.
- 25 -
Key business trends and developments (continued)
Despite some positive trends with regard to same room revenue and RevPAR
penetration, the cash flow from the operations of many of our hotels in 2003 was
not sufficient to pay their related mortgage debt service, lease obligations,
and ongoing capital expenditures. Our operating margins declined significantly
in 2003 as many expenses increased substantially, including employee wages and
benefits, insurance, maintenance, utilities, and property taxes. During the
first quarter of 2004, we made improvements in controlling some of these costs,
including insurance and energy. We have a significant amount of debt and
obligations under long-term leases, such as the leases with PMC, requiring us to
dedicate a substantial portion of our cash flow from our overall operations,
including our business activities other than hotel operations, to make these
required payments.
While we believe the combination of improved demand for hotel rooms and our cost
control initiatives create the possibility of improvements in our hotel
operations in 2004, there can be no assurance that any increases in hotel
revenues, or improvement in earnings will be achieved. The trends discussed
above may not occur for any number of reasons, including slower than anticipated
growth in the economy, changes in travel patterns of both business and leisure
travelers and the continued threat of terrorist attacks, all of which may result
in lower revenues or higher operating costs and declining operating margins.
LaSalle Bank NA, the lender for our corporate line-of-credit has decreased the
availability under this facility over the past two years. We have recently
executed a renewal with LaSalle Bank for this facility through April 30, 2005 at
an initial maximum availability of $4.0 million. The reduction from the previous
level of $5.5 million was the result of the sale of two hotel properties during
the first quarter of 2004 with the proceeds used to pay down the line of credit
balance. In addition, the terms require that the maximum availability under the
facility be reduced to $3.5 million on February 28, 2005, and also provides
LaSalle Bank with the right to reduce the maximum availability further, based on
future hotel sales, or as deemed necessary. The renewed facility bears interest
at the rate of 10% per annum.
Our $20 million new construction loan facility expired October 31, 2003 without
renewal. Historically, we have used local, regional, and national lenders,
including this new construction loan facility. Mortgage financing is a critical
component of the hotel development process and we are continually seeking
financing sources. If we, or the hotel joint ventures in which we are a partner,
are unable to obtain adequate mortgage financing on acceptable terms, our
ability to develop new hotels will be significantly limited.
Management's priorities
Based on our primary business objectives and anticipated operating conditions,
our key priorities, and focus in 2004 and the next several years include the
following:
- Divest up to 40% of our existing hotel portfolio, which hotels in many
instances have operated with cash flow that is insufficient to pay
their debt service and ongoing capital expenditures during the past
year;
- Expand our hotel development activities to be developing and/or
acquiring and converting hotels at a pace of 10 - 15 hotels per year by
the end of 2005. We intend for this development to primarily be the new
construction of larger AmeriHost Inn hotels, or selective acquisition
of existing hotels and their conversion to AmeriHost Inn, in larger
markets, primarily through joint ventures where we can earn significant
development fees, with the intention of selling these hotels after a
shorter holding period than we have historically;
- Grow our relationships with existing and new joint venture partners in
connection with the development of new AmeriHost Inn hotels;
- Improve hotel operation results through a combination of selling
hotels, revenue generation initiatives, and cost control measures;
- Increase the fees we receive from Cendant, including the one-time
development incentive fee and the recurring royalty sharing fees, from
selling of our hotels to third parties, and as a result of Cendant's
efforts from growing the number of AmeriHost Inn franchises through
their own sales;
- Restructure our lease agreements with PMC;
- Obtain longer term corporate level financing than our historical
one-year operating line-of-credit, to better match our financing
sources with our business plan of developing, building and selling
AmeriHost Inn hotels; and
- Obtain growth capital to finance both the equity and debt required for
the anticipated development projects.
- 26 -
SUMMARY OF FIRST QUARTER 2004 RESULTS
Total revenues decreased 2.5% in the first quarter of 2004, due primarily to the
fewer number of Consolidated AmeriHost Inn hotels operated in the first quarter
of 2004 versus the first quarter of 2003. Total revenues from Consolidated
AmeriHost Inn hotels decreased from $8.5 million to $7.8 million during the
first quarter of 2004, due primarily to the sale of six hotels in 2003,
partially offset by an increase in same room revenues from these hotels of 0.8%
for the first three months of 2004 compared to 2003. Revenues from the
development segment also decreased during the first quarter of 2004, as we
recognized less revenue on the one AmeriHost Inn hotel we were building for a
joint venture in the first quarter of 2004, versus the one hotel we built for a
joint venture in 2003. Revenues from hotel sales and commissions increased
during the first quarter of 2004, as a result of the sale of two AmeriHost Inn
hotels during the first quarter of 2004 at a greater total price than the two
wholly owned AmeriHost Inn hotels sold during the first quarter of 2003.
Incentive and royalty sharing revenues increased 37.8% to approximately $283,000
in the first quarter of 2004. We recorded a net loss of $1.6 million for the
first quarter of 2004, compared to a net loss of $1.5 million in 2003. These
results include non-cash hotel impairment provisions recorded in the first
quarter of 2004 and 2003, and discontinued operations related to non-AmeriHost
Inn hotels which have been recorded in connection with the implementation of the
plan for hotel disposition and hotel development repositioning as discussed
below. The results for the three months ended March 31, 2004 and 2003 are
summarized as follows:
(In thousands)
2004 2003
------------ ------------
Net loss from continuing operations,
before impairment $ (1,004,692) $ (960,363)
Impairment provision, net of tax (192,080) (60,000)
------------ ------------
Net loss from continuing operations (1,196,772) (1,020,363)
Discontinued operations, net of tax (378,634) (462,157)
Net loss $ (1,575,406) $ (1,482,520)
============ ============
Net loss per share - Diluted:
From continuing operations $ (0.24) $ (0.20)
From discontinued operations (0.07) (0.10)
------------ ------------
$ (0.31) $ (0.30)
============ ============
CRITICAL ACCOUNTING POLICIES
The preparation of financial statements in conformity with accounting principles
generally accepted in the United States of America, or GAAP, requires management
to use judgment in the application of accounting policies, including making
estimates and assumptions. We base our estimates on historical experience and on
various other assumptions believed to be reasonable under the circumstances.
These judgments affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the dates of the financial
statements and the reported amounts of revenue and expenses during the reporting
periods. If our judgment or interpretation of the facts and circumstance
relating to various transactions had been different, it is possible that
different accounting policies would have been applied resulting in a different
presentation of our financial statements. From time to time, we evaluate our
estimates and assumptions. In the event estimates or assumptions prove to be
different from actual results, adjustments are made in subsequent periods to
reflect more current information. Below is a discussion of accounting policies
that we consider critical in that they may require complex judgment in their
application or require estimates about matters that are inherently uncertain.
- 27 -
Consolidation Policy
The consolidated financial statements include the accounts of the Company, its
wholly owned subsidiaries and entities in which we have a majority or
controlling interest. All significant intercompany accounts and transactions
have been eliminated.
A joint venture project will be consolidated if we have a majority (i.e.,
greater than 50%) ownership interest, or when we have a minority ownership
interest (i.e., less than 50%) and can exercise control over the critical
decisions of the joint venture. We will evaluate several factors in determining
whether or not we have control over the joint venture to warrant consolidation.
These factors include the nature of our ownership (for example, the sole general
partner in a limited partnership, the sole managing member of a limited
liability company, etc.), oversight of the daily operations, and the ability to
make major decisions such as to refinance or sell the hotel asset without the
consent of the other partners, among others.
Minority-owned joint ventures in which we maintain a non-controlling ownership
interest are accounted for by the equity method. Under this method, we maintain
an investment account, which is increased by contributions made and our share of
the joint venture's income, and decreased by distributions received and our
share of the joint venture's losses, in accordance with the terms of the joint
venture agreement. Our share of each joint venture's income or loss, including
gains and losses from capital transactions, is reflected on our consolidated
statement of operations as "Equity in income and (losses) from unconsolidated
joint ventures."
In December 2003, the FASB issued Interpretation No. 46R (FIN 46R),
"Consolidation of Variable Interest Entities," which addresses how a business
enterprise should evaluate whether or not it has a controlling financial
interest in an entity through means other than voting rights and accordingly
should consolidate the entity. FIN 46R replaces FIN 46, "Consolidation of
Variable Interest Entities", which was issued in January 2003. The Company is
required to adopt the requirements of FIN 46R for interim periods ending after
December 15, 2004. This Interpretation requires that the Company present any
variable interest entities in which it has a majority variable interest on a
consolidated basis in its financial statements. The Company currently
anticipates consolidating four variable interest entities upon the application
of FIN 46R, however the Company is continuing to assess the provisions of this
Interpretation and the impact to the Company of adopting this Interpretation.
Therefore, the impact may change based upon this additional analysis. The
consolidation of these four joint ventures is expected to add approximately
$10.0 million in assets and $8.1 million in liabilities to the Company's
consolidated balance sheet. As of December 31, 2003, the Company had investments
in, and advances to, these joint ventures of approximately $1.8 million, which
was presented as such under the equity method of accounting in the accompanying
consolidated financial statements. The Company expects that it will continue to
present all of its other unconsolidated investments under the equity method.
Revenue Recognition
We provide hotel development, management, and staffing services to unrelated
third parties and unconsolidated, minority-owned joint ventures. Revenues can be
generated in three ways: (i) we will record revenue from the development and
construction of the hotel, (ii) if we enter into a hotel management agreement
with the owner, we will recognize revenue in accordance with the terms of the
agreement, and (iii) if we enter into a hotel staffing agreement with the owner,
we will recognize revenue in accordance with the terms of the agreement as
services are performed. An unrelated third party or an unconsolidated
minority-owned joint venture may contract with us for any or all three services.
However, we will not provide employee leasing services unless we also provide
hotel management services pursuant to a written agreement.
Hotel operations
The revenue from the operation of a Consolidated hotel is recognized as part of
the hotel operations segment when earned. Typically, cash is collected from the
guest at the time of check-in or checkout, however we also extend credit to
selected corporate customers. The reserve for doubtful accounts is reviewed
periodically for reasonableness and is considered appropriate as of March 31,
2004.
- 28 -
Hotel sales and commissions
Our intention is to operate the consolidated AmeriHost Inn hotels until a buyer
is found at an appropriate price. We may actively try to sell the hotel during
the construction period, upon opening, or anytime thereafter. Unless
specifically identified as held for sale, we will depreciate the hotel assets
and classify them as investment assets while we operate the hotel, since it is
not assured that a sale will ultimately be consummated. When a sale is
consummated, we record the hotel sale price as revenue and the net cost basis of
the hotel asset as expense, as part of our ongoing operational activity. From
time to time, PMC, a REIT that owns certain of our leased hotels, has sold its
hotels. We have earned a commission from PMC for our services in facilitating
these sales to third parties. This commission is recorded as revenue when the
sale is consummated.
Hotel development and construction
We recognize revenue from the development and construction of hotels for third
parties and unconsolidated minority-owned entities pursuant to development and
construction contracts with the hotel ownership entity. All contracts must be
fully executed prior to the start of construction. In addition, typically we
will not begin construction on a hotel for a joint venture or third party until
it is assured that both the equity and debt financing are in place. We record
the total contract price as development and construction revenue over the
relevant development and construction period, and all development and
construction costs as operating expenses in the hotel development segment.
Development fee revenue from construction/renovation projects with unaffiliated
third parties and unconsolidated joint ventures is recognized using the
percentage-of-completion method. However development fee revenue is not
recognized until certain development hurdles are met; such as the execution of a
land purchase contract and the debt and equity financing commitments.
Construction fee revenue from construction/renovation projects with unaffiliated
third parties and unconsolidated joint ventures is recognized on the
percentage-of-completion method, generally based on the ratio of costs incurred
to estimated total contract costs. Revenue from contract change orders is
recognized to the extent costs incurred are recoverable. Profit recognition
begins when construction reaches a progress level sufficient to estimate the
probable outcome. Provision is made for anticipated future losses in full at the
time they are identified.
When we build a hotel for an unconsolidated joint venture, a portion of the
profit is deferred and included on our consolidated balance sheet as deferred
income. The deferral is computed based on our ownership percentage in the joint
venture and the construction profit (as it is recognized on the percentage of
completion basis). We recognize the deferred income over the estimated useful
life of the related hotel asset. A portion of the deferral is amortized over the
same life the joint venture is depreciating the hotel asset (generally 39
years), and the remaining portion is amortized over the same life the joint
venture is depreciating the furniture, fixtures & equipment (generally 7 years).
Upon the sale of a hotel by the joint venture to an unaffiliated third party,
the remaining unamortized deferred income is recognized as equity in income and
(loss) of affiliates in our consolidated financial statements.
Hotel management services
We recognize management fee revenue when we perform hotel management services
for unrelated third parties and unconsolidated joint ventures. The management
fees are computed based upon a percentage of total hotel revenues, ranging from
4% to 8%, plus incentive fees in certain instances, in accordance with the terms
of the individual written management agreements. We recognize the management fee
revenue in the hotel management segment as the related hotel revenue is earned.
Employee leasing
We recognize employee leasing revenue when we staff hotels, and perform related
services, for unrelated third parties and unconsolidated joint ventures.
Employee leasing revenues are generally computed as the actual payroll costs
plus an administrative fee ranging from 2% to 3%, in accordance with the terms
of the individual written staffing agreements. We recognize the employee leasing
revenue in the employee leasing segment as the related payroll cost is incurred.
Although
- 29 -
Employee leasing (continued)
we maintain employee leasing agreements with the hotel ownership entities, we
are still ultimately responsible for its employees. In addition, we are
responsible for maintaining and determining staffing levels, scheduling, hiring,
firing, performance reviews, etc. through our managers who are our direct
employees. Moreover, we are at risk with regard to personnel issues and
lawsuits. As such, we have recorded employee leasing revenues primarily as the
gross payroll cost, plus the administrative fee.
Incentive and royalty sharing
We seek not only to generate profit from the sale of a hotel, but also to
generate an additional development incentive fee and long-term, ongoing royalty
sharing revenues from Cendant Corporation. Cendant has agreed to pay us a
development incentive fee every time we sell one of our existing AmeriHost Inn
hotels to a buyer who executes an AmeriHost Inn franchise agreement with
Cendant. In addition, this fee also will be paid to us for new hotels that we
develop which are then sold to a franchisee of Cendant. This fee applies to the
first 370 hotels we sell during the 15-year term of the agreement, expiring in
2015. The fee is computed based on the most recent twelve months revenue, or a
stipulated per room amount if the hotel has been open less than eighteen months.
Since the Cendant agreement provides for the potential reimbursement of this
fee, from future fees earned, in the event the buyer defaults on the franchise
agreement within the first 76 months, these fees are deferred when received, in
accordance with Staff Accounting Bulletin No. 101, "Revenue Recognition in
Financial Statements." The deferred fees are amortized as incentive and royalty
sharing segment revenue in the accompanying consolidated financial statements on
a straight-line basis over the 76-month period, as the contingencies on the
revenues are removed.
Cendant has agreed to pay us a portion of all royalty fees Cendant receives from
all of its AmeriHost Inn franchisees through September 2025. Generally, Cendant
receives royalty fees from each of their franchisees based upon a percentage of
guest room revenue, ranging from 4% to 5%. In turn, Cendant will pay us a
portion of this fee as stipulated in the agreement. We include this royalty
sharing fee as incentive and royalty sharing fee revenue in the accompanying
consolidated financial statements.
Guarantees
We apply the provisions of FASB Interpretation No. 45, "Guarantor's Accounting
and Disclosure Requirements for Guarantees, Including Indirect Guarantees of
Indebtedness to Others," with respect to mortgage loan guarantees for joint
ventures in which we are a partner. This interpretation elaborates on the
disclosures required by the guarantor and requires the guarantor to recognize,
at inception of a guarantee, a liability for the fair value of the obligation
undertaken.
Sale and Leaseback of Hotels
During 1998 and 1999, we sold 30 hotels to PMC Commercial Trust, a real estate
investment trust, for approximately $73 million. Upon the sale of the hotels,
our subsidiary simultaneously entered into agreements to lease back each of the
hotels from the PMC. The leases are for an initial term of 15 years, including a
five-year renewal at the option of either PMC or us, as provided in an amendment
dated January 2001, and provide for rent in the current amount of 10.51% of the
original sale price, increased annually by the lesser of 2% or the CPI
adjustment. The gains from the sale of the hotels in 1998 and 1999 were deferred
for financial statement reporting purposes, due to the continuing involvement
with the long-term lease agreement, and are being amortized on a straight line
basis into income as a reduction of leasehold rent expense over the 15-year
initial term. Upon the sale of a hotel, which is owned by PMC to an unaffiliated
third party, the remaining unamortized deferred income is recognized as gain on
sale of fixed assets in our consolidated financial statements. We are currently
in discussions with PMC to restructure the lease agreements and provide for the
sale of all the leased hotels (See "Executive Overview - hotel and corporate
level financing" above).
- 30 -
Impairment of Long-Lived Assets
We periodically review the carrying value of certain long-lived assets in
relation to historical results, current business conditions and trends to
identify potential situations in which the carrying value of assets may not be
recoverable. If such reviews indicate that the carrying value of such assets may
not be recoverable, we would estimate the undiscounted sum of the expected cash
flows of such assets to determine if such sum is less than the carrying value of
such assets to ascertain if an impairment exists. If an impairment exists, we
would determine the fair value by using quoted market prices, if available for
such assets, or if quoted market prices are not available, we would discount the
expected future cash flows of such assets.
In July 2003, we implemented a plan to sell approximately 25 to 30 hotels over a
two year period. In connection with the implementation of the plan to sell
hotels, and in accordance with Statement of Financial Accounting Standard (SFAS)
No. 144, "Accounting for Long-Lived Assets," we have recorded non-cash
impairment charges during 2004 and 2003, related to the hotels targeted for
sale. The non-cash impairment charges relating to consolidated non-AmeriHost Inn
hotels anticipated to be sold, have been included in "discontinued operations."
The non-cash impairment charge represents an adjustment to reduce the carrying
value of certain hotel assets to the estimated sales prices, net of estimated
costs to sell.
Based on the implementation of this plan for hotel dispositions, the hotel
assets identified for sale, which are being actively marketed and expected to be
sold within a twelve month period, have been classified as "held for sale" on
the accompanying consolidated balance sheet as of March 31, 2004. Hotels
identified as part of the plan of disposition, which are not currently marketed,
and are not expected to be sold within the next twelve months, have not been
classified as "held for sale." The debt that is expected to be paid off as a
result of these hotel sales has been classified as current liabilities in the
accompanying consolidated financial statements. The results of the operations of
business components which have been disposed of or classified as "held for sale"
are to be reported as discontinued operations if such operations and cash flow
have been or will be eliminated from our ongoing operations. Accordingly, the
disposition of non-AmeriHost Inn hotels have been treated as discontinued
operations. However, the disposition of AmeriHost Inn hotels, although
classified as "held for sale" on the accompanying consolidated balance sheet,
have not been treated as discontinued operations due to the ongoing royalty fees
to be earned by us after their disposition. In addition, in accordance with this
literature, we have ceased depreciating the hotel assets that have been
classified as "held for sale."
If the Company determines that a property is no longer for sale, or if a
property does not sell, after a certain period of time, under certain
conditions, a depreciation expense adjustment may be recorded at that time, up
to the amount of depreciation that would have been recorded during the period
that the asset was classified as "held for sale." During the fourth quarter of
2003, two AmeriHost Inn hotels previously classified as "held for sale" were
reclassified back to operating assets since we no longer were actively marketing
these properties for sale. In accordance with SFAS 144, depreciation was
recorded through December 31, 2003, as if the hotels were never classified as
"held for sale". We anticipate reviewing the market status of hotels currently
"held for sale" sometime later in 2004, which assessment may result in
additional depreciation adjustments if any hotels are removed from the "held for
sale" classification.
HOTEL DISPOSITION PLAN AND RESTRUCTURING
In 2001 and 2002, we sold, or have facilitated the sale for joint ventures for a
landlord, 17 hotel properties. However, during 2003, new senior management, and
the board of directors, determined that the sale of a significantly higher
number of hotel properties would assist us achieving our financial and growth
objectives, as well as support our liquidity. The sale of the hotels is expected
to:
- provide liquidity for operational and ongoing capital expenditure
needs;
- reduce outstanding debt;
- increase operating cash flow of the hotel operations segment;
- accelerate the generation and realization of development incentive and
royalty-sharing fees from our agreements with Cendant; and
- provide capital for future new hotel development and/or acquisition and
conversion of existing hotels.
- 31 -
HOTEL DISPOSITION PLAN AND RESTRUCTURING (CONTINUED)
In July 2003, we adopted a strategic plan to sell approximately 25 to 30 hotel
properties over a two year period. The properties to be sold include 20 to 25
AmeriHost Inns and six non-AmeriHost hotels that are wholly or partially-owned.
The decision to recommend the sale of a hotel property is made by our senior
management team and approved by a majority of the board of directors or a
committee thereof. We sold 11 hotels (including six hotels as part of this
disposition plan) in 2003, more than any other year in our history. We sold two
hotels during the first quarter of 2004. The financial impact for the first
quarter of 2004, and for the strategic plan to sell hotels to date, is
summarized as follows:
(in thousands)
Net cash
Number proceeds Mortgage Cendant
of after mortgage debt Incentive
hotels Payoff reduction Fees (1)
------ -------------- ---------- ---------
Consolidated hotels:
AmeriHost Inn hotels 2 $2,909 $ 3,851 $ 417
Other brand hotels - - - -
--- ------ ------- ------
2 $2,909 $ 3,851 $ 417
--- ------ ------- ------
Unconsolidated hotels:
AmeriHost Inn hotels - - - -
Other brand hotels - - - -
--- ------ ------- ------
- - - -
--- ------ ------- ------
Total 2 $2,909 $ 3,851 $ 417
=== ====== ======= ======
Total, since the implementation of
the strategic plan to sell hotels 8 $7,778 $12,567 $1,457
=== ====== ======= ======
(1) These fees are deferred for financial statement reporting purposes,
and amortized as revenue over a 76-month period.
An integral part of our growth plan, profitability, and liquidity is our ability
to sell hotels, including those under the plan for disposition, as well as our
other existing hotels, and hotels we develop in the future.
RESULTS OF OPERATIONS FOR THE THREE MONTHS ENDED MARCH 31, 2004, COMPARED TO THE
THREE MONTHS ENDED MARCH 31, 2003
The following tables set forth our selected operations data for the three months
ended March 31, 2004 and 2003. This data should be read in conjunction with our
financial statements in Item 1 of this Form 10-Q.
Three Months Ended Three Months Ended
March 31, 2004 March 31, 2003
---------------------------- ------------------------- %
Amount % of Amount % of Increase
(thousands) Revenues (thousands) Revenues (Decrease)
------------ ------------- ------------ ----------- ----------
Revenue:
Hotel operations:
AmeriHost Inn hotels $ 7,819 45.1% $ 8,523 47.9% (8.2%)
Other hotels 371 2.1% 337 1.9% 10.1%
Development and construction 1,201 6.9% 1,480 8.3% (18.9%)
Hotel sales and commissions 6,839 39.5% 6,443 36.2% 6.1%
Management services 101 0.6% 111 0.6% (9.5%)
Employee leasing 562 3.2% 517 2.9% 8.7%
Incentive and royalty sharing 283 1.6% 206 1.2% 37.8%
Office building rental 174 1.0% 177 1.0% (1.9%)
------------ ----- -------- ----- ------
17,350 100.0% 17,794 100.0% (2.5%)
------------ ----- -------- ----- ------
- 32 -
RESULTS OF OPERATIONS FOR THE THREE MONTHS ENDED MARCH 31, 2004, COMPARED TO THE
THREE MONTHS ENDED MARCH 31, 2003 (CONTINUED)
Three Months Ended Three Months Ended
March 31, 2004 March 31, 2003
---------------------------- ------------------------- %
Amount % of Amount % of Increase
(thousands) Revenues (thousands) Revenues (Decrease)
------------ ------------- ----------- ----------- ----------
Operating costs and expenses:
Hotel operations:
AmeriHost Inn hotels 7,029 89.9% 7,664 89.9% (8.3%)
Other hotels 440 118.4% 450 133.6% (2.5%)
Development and construction 1,480 123.3% 1,592 107.6% (7.0%)
Hotel sales and commissions 5,544 81.1% 5,241 81.3% 5.8%
Management services 90 89.8% 65 58.4% 39.2%
Employee leasing 545 97.0% 502 97.0% 8.6%
Office building rental 41 23.6% 50 28.0% (17.0%)
------------ ----- ----------- ------ -----
15,169 87.4% 15,564 87.5% (2.5%)
------------ ----- ----------- ------ -----
2,181 12.6% 2,230 12.5% (2.2%)
Depreciation and amortization 864 5.0% 1,034 5.8% (16.5%)
Leasehold rents - hotels 1,256 7.2% 1,270 7.1% (1.1%)
Corporate general & administrative 867 5.0% 448 2.5% 93.7%
Impairment provision 320 1.8% 100 0.6% 220.1%
------------ ----- ----------- ----- -----
Operating loss $ (1,126) (6.5%) $ (622) (3.5%) 81.1%
============ ===== =========== ===== =====
Segment Data:
Three Months Ended Three Months Ended
March, 2004 March 31, 2003
---------------------------- ------------------------- %
Amount % of Amount % of Increase
(thousands) Revenues (thousands) Revenues (Decrease)
------------ ------------- ------------ ----------- ----------
Operating Income (Loss) by Segment:
Hotel operations:
AmeriHost Inn hotels $ (921) (5.3%) $ (1,237) (7.0%) (25.6%)
Other hotels (417) (2.4%) (234) (1.3%) 77.9%
Non-cash impairment provision (320) (1.8%) (100) (0.6%) 220.1%
Development and construction (281) (1.6%) (113) (0.6%) 147.6%
Hotel sales and commissions 1,296 7.5% 1,202 6.8% 7.7%
Management services - 0.0% 34 0.2% (99.8%)
Employee leasing 17 0.1% 15 0.1% 12.6%
Incentive and royalty sharing 283 1.6% 206 1.1% 37.8%
Office building rental 93 0.5% 87 0.5% 6.8%
Corporate general & administrative (876) (5.1%) (482) (2.7%) 81.9%
----------- ---- ----------- ---- ----
Operating loss $ (1,126) (6.5%) $ (622) (3.5%) 81.1%
=========== ==== =========== ==== ====
- 33 -
RESULTS OF OPERATIONS FOR THE THREE MONTHS ENDED MARCH 31, 2004, COMPARED TO THE
THREE MONTHS ENDED MARCH 31, 2003 (CONTINUED)
Three Months Ended Three Months Ended
March 31, 2004 March 31, 2003
------------------ ------------------
Operating Income (Loss) as a
percentage of segment revenue:
Hotel operations:
AmeriHost Inn hotels (11.8%) (14.5%)
Other hotels (112.5%) (69.6%)
Non-cash impairment provision N/A N/A
Development and construction (23.4%) (7.7%)
Hotel sales and commissions 18.9% 18.7%
Management services 0.1% 31.0%
Employee leasing 3.0% 2.9%
Incentive and royalty sharing 100.0% 100.0%
Office building rental 53.5% 49.2%
Corporate general & administrative N/A N/A
------ -----
Total operating loss (6.5%) 4.3%
====== =====
REVENUES. Revenues from Consolidated AmeriHost Inn hotels decreased due to the
sale of six Consolidated AmeriHost Inn hotels in 2003, whereby the operations of
these hotels were included in our hotel operations segment during all or part of
the first quarter of 2003; however such hotels were not included during all or
part of the 2004 first quarter. The decrease in revenues from Consolidated
AmeriHost Inn hotels was partially offset by the opening of one newly
constructed AmeriHost Inn hotel and a 0.8% increase in same room revenues for
the Consolidated AmeriHost Inn hotels, during the first quarter, including those
that we sold, through the date of sale. Our hotel revenues have been impacted by
general economic and industry conditions, and an increase in competition in
certain markets, primarily from newly constructed hotels. As a result, we
experienced increased downward pressure on occupancy levels and average daily
rates. We believe that as the total number of AmeriHost Inn hotels in the brand
increases, the greater the benefits will be at all AmeriHost locations from
marketplace recognition and repeat business. In addition, we are now focused on
building new hotels in larger, growing markets where many of our competitors
already exist or where we factor in a certain level of additional hotel
development.
Hotel development revenues are directly related to the number of hotels being
developed and constructed for minority-owned entities or unrelated third
parties, and the timing of the construction period. We were constructing one
hotel for a minority-owned entity during the first quarter of 2004, and one
(other) minority-owned hotel during the first quarter of 2003, and the revenue
recognized was based on the construction progress achieved on each project
during the quarter.
Hotel sales revenue increased as a result of the sales of two wholly owned
AmeriHost Inn hotels during the first quarter of 2004, at an aggregate price
that was greater than the sale of two wholly owned AmeriHost Inn hotels during
the three months ended March 31, 2003. The sale of the two wholly owned
AmeriHost Inn hotels in 2004 generated net hotel revenues of approximately $6.8
million compared to $6.4 million from the sale of the two hotels in the first
quarter of 2003. We intend to continue to build and sell AmeriHost Inn hotels in
order to generate increased fees under the agreement with Cendant while
enhancing our operating results and cash flow.
Hotel management revenue decreased slightly, due primarily to the sale of one
hotel by a joint venture during the first quarter of 2003, which had a
management contract with the Company.
Employee leasing increased, due primarily to an increase in hotel employee
payroll costs, which is the basis for the employee leasing revenue.
- 34 -
Development incentive and royalty sharing revenue increased as a result of the
sale of additional AmeriHost Inn hotels and the increase in the number of
non-Company owned AmeriHost Inn hotels franchised with Cendant. Approximately
$209,000 and $141,000 was recognized during the first quarter of 2004 and 2003,
respectively, from the amortization of development incentive fees. We also
recorded approximately $75,000 and $60,000 in royalty sharing revenue during the
three months ended March 31, 2004 and 2003, respectively. We recorded
approximately $417,000 and $698,000 related to hotel sales during the three
months ended March 31, 2004 and 2003, respectively, in development incentive
fees from the sale of AmeriHost Inn hotels.
Office building rental consisting of leasing activities from our office
building, increased due to the annual increases as stipulated in the various
lease agreements with the tenants, and the leasing of additional office space
during 2003. We occupy approximately 27% of the rentable square feet, as reduced
as part of the restructuring activities discussed in Part 1 above. Approximately
50% of the space is leased to unrelated third parties pursuant to long-term
lease agreements, and we have hired a national real estate broker to assist us
in leasing the rest of the available space.
OPERATING COSTS AND EXPENSES. Total operating costs and expenses decreased,
primarily due to a decrease in operating costs and expenses from the
Consolidated AmeriHost Inn hotels, offset by the higher aggregate net book value
of the AmeriHost Inn hotels sold in the first quarter of 2004 versus 2003. A
decrease in operating costs in the hotel operations segment was due primarily to
the fewer number of AmeriHost Inn hotels included in this segment -- 47 hotels
at March 31, 2004, as compared to 53 hotels at March 31, 2003. Operating costs
and expenses as a percentage of revenues for the consolidated AmeriHost Inn
hotels decreased due primarily to the containment of certain costs including
insurance, real estate taxes, energy, and ongoing maintenance and secondarily
due to less hotels operating during their initial stabilization period in the
first quarter of 2004 when revenues are typically lower and significant start-up
costs are incurred.
Operating costs and expenses for the hotel development segment decreased,
consistent with the decrease in hotel development activity for the first quarter
of 2004, compared to 2003. Operating costs and expenses in the hotel development
segment as a percentage of segment revenue increased during 2004 due to the
lower revenue from third party and joint venture development activity.
Hotel management segment operating costs and expenses increased primarily due to
an expansion of sales and marketing activity designed to increase hotel
revenues. Employee leasing operating costs and expenses increased during the
three months ended March 31, 2004, compared to 2003, consistent with the
increase in segment revenue for 2004 as noted above.
Office building rental operating costs and expenses consisted primarily of
expenses related to the management of our office building. The decrease in
operating expenses from the first quarter of 2003 to 2004 was due primarily to a
change in the allocation of certain of the office building costs among the other
operating segments. The new allocation method was adopted based on an internal
review to more accurately reflect the segment occupancy expense.
Depreciation and amortization expense decreased, primarily due to the
classification of certain assets as "held for sale," which properties were not
depreciated beginning in July 2003, the date of this determination, in
accordance with the relevant accounting literature, and the sale of consolidated
AmeriHost Inn hotels during the last twelve months. Consequently, the hotels
classified as "held for sale" were depreciated for all of the first quarter of
2003, if open, and not the first quarter of 2004. This decrease was offset by an
increase resulting from an amendment to a lease on a non-AmeriHost Inn hotel
which accelerated the termination date to 2005, or earlier, verses the prior
termination date in 2010, whereby, the depreciation of the leasehold
improvements and furniture, fixtures and equipment at this hotel was accelerated
beginning January 1, 2004 to reflect the revised termination date.
Leasehold rents - hotels decreased slightly during the first quarter of 2004
compared to the first quarter of 2003, due to the purchase of one leased
AmeriHost Inn hotel and the termination of another non-AmeriHost Inn hotel lease
upon its expiration during the third quarter of 2003, partially offset by annual
rent increases pursuant to the lease agreements.
- 35 -
Corporate general and administrative expense increased due primarily to
increases in professional fees, corporate finance staff, directors and officers
liability insurance, and director expenses. Professional fees include a
significant amount of legal services, as well as analytical and financial
consulting services, incurred in connection with our ongoing discussions with
PMC and the related potential lease restructuring. As previously disclosed in
prior SEC filings, we added a Vice President of Finance in December 2003 to
assist us in all aspects of corporate accounting and financial analysis.
Director expenses include director fees, which were revised in 2003 to be
competitive with other public companies of a similar size, including non-cash
compensation in the form of restricted common stock.
The hotel impairment provision was recorded primarily in connection with our
plan for the disposition of certain hotel assets, as adopted in July 2003 that
we have marketed for sale as discussed above. The amount represents additional
adjustments for certain AmeriHost Inn hotel assets to decrease the carrying
value of the assets to the anticipated market value, net of closing costs, based
on our most recent analysis and market information.
OPERATING INCOME BY SEGMENT. The following discussion of operating income by
segment excludes any corporate general and administrative expense and the
non-cash hotel impairment charges. Operating income from consolidated AmeriHost
Inn hotels increased due to:
- the containment of certain expenses, including insurance, real
estate taxes, energy, and maintenance,
- an increase in same room revenues, and
- fewer hotels operating during their ramping up stage, when revenues
are typically lower, in the first quarter of 2004, versus 2003.
Operating loss from the hotel development segment increased in the first quarter
of 2004, versus 2003, due to the decrease in hotel development and construction
activity for third parties and minority-owned entities during 2004, compared
with 2003. Operating income from hotel sales and commissions increased due to
the sale of two AmeriHost Inn hotels at a greater total profit during the first
quarter of 2004, versus the sale of the two AmeriHost Inn hotels during the
first quarter of 2003. The decrease in hotel management segment operating income
during 2004 was due primarily to the increased expenses in the area of sales and
marketing. Employee leasing operating income increased slightly, due primarily
to the increase in revenue. Office building rental operating income increased,
attributable to the change in allocation of expenses among our other business
segments.
We believe that aggregate hotel revenue growth is critical to improving the
results of our hotel operations. As such, if our revenue enhancement programs
are not successful, or if the economy does not improve, or if the economy
improves without a corresponding improvement in the lodging industry, it could
have a significant, negative impact on our results of operation and financial
condition.
INTEREST EXPENSE. The decrease in interest expense during the three months ended
March 31, 2004 compared to three months ended March 31, 2003 was attributable to
the reduction in our overall level of debt as a result primarily of (i) the sale
of consolidated hotels and the use of proceeds to payoff the related mortgage
debt and a portion of our operating line-of-credit, and (ii) interest rate
reductions on floating rate debt, partially offset by the mortgage financing of
newly constructed or acquired consolidated hotels, and a higher interest rate on
our operating line-of-credit. Interest expense does not include interest
incurred on hotels under development and construction. We capitalize interest
expense incurred during the pre-opening construction period of a consolidated
hotel project, as part of the total development cost. The amount capitalized
includes both interest charges from a direct construction loan, plus interest
computed at our incremental borrowing rate on the total costs incurred to date
in excess of the construction loan funding.
GAIN ON SALE OF ASSETS. As part of our strategy to focus primarily on the
development and sale of new AmeriHost Inn hotels, we intend to sell all our
owned, non-AmeriHost Inn hotels. None of the non-AmeriHost Inn hotels were sold
during the three months of 2004 or 2003. Any gain or loss on the sale of these
hotels will be reported as "discontinued operations" in the period in which the
sale is consummated.
CHANGE IN EQUITY OF AFFILIATES. The change in equity of affiliates during the
three months ended March 31, 2004, compared to the three months ended March 31,
2003, was primarily attributable to the improved operating results of the hotels
owned by the unconsolidated joint ventures. Distributions from affiliates were
approximately $17,400 during the three months ended March 31, 2004, compared to
approximately $5,000 during the three months ended March 31, 2003.
- 36 -
DISCONTINUED OPERATIONS. Discontinued operations includes the operations, net of
tax, of consolidated non-AmeriHost Inn hotels sold, or to be sold pursuant to
the plan for hotel dispositions, or leased with an accelerated termination date.
These non-AmeriHost Inn hotels are expected to be disposed of during the next
twelve months. Discontinued operations for the three months ended March 31, 2004
includes 4 hotels, compared to 7 hotels during the three months ended March 31,
2003. In addition, discontinued operations includes approximately $411,000
during the three months ended March 31, 2004, in non-cash impairment charges
pursuant to the plan of disposition. The impairment amount included in 2004
relates primarily to one hotel which is over 25 years old with exterior
corridors and will require a significant amount of capital expenditures over the
next few years. The operations of this hotel have declined significantly over
the past several months, as a result of a change in brand affiliation and the
addition of newer hotels in its local market. This decline has had a negative
impact on the value of the hotel, resulting in the impairment charge. Exclusive
of the impairment charges, the pretax loss from the operations of the hotels
included in "discontinued operations" improved significantly, from a loss of
approximately $769,000 in the first quarter of 2003 to a loss of approximately
$219,000 in 2004, as a result primarily of the disposition of three
non-AmeriHost Inn hotels.
OFF-BALANCE SHEET ARRANGEMENTS. Through wholly-owned subsidiaries, we are a
general partner or managing member in 15 joint ventures as of March 31, 2004. As
a general partner, we are secondarily liable for the obligations and liabilities
of these joint venture partnerships. As of March 31, 2004, these joint ventures
had $28.9 million outstanding under mortgage loan agreements, compared to $26.7
million as of December 31, 2003. Approximately $4.8 million of this amount has
been included in our consolidated financial statements as of March 31, 2004,
reflecting the debt owed by joint ventures in which we have a majority or
controlling ownership interest, leaving approximately $24.1 million in
off-balance sheet mortgage debt owed by unconsolidated joint ventures. If we
subsequently obtain a majority or controlling ownership interest in a joint
venture, or if we conclude that a joint venture meets the provisions of FIN46R
as outlined below, the joint venture's debt will be included in our consolidated
financial statements. Of this $24.1 million of financing, we also have provided
approximately $19.0 million in guarantees to the lenders. Other partners have
also guaranteed $13.2 million of these financings, which may ultimately impact
the exposure on our guarantees. One unconsolidated joint venture mortgage loan
in the amount of approximately $1.7 million at March 31, 2004 matures on
November 1, 2004. Unless the properties collateralizing the debt are sold, the
remaining joint venture mortgage loans mature after 2004. [See also "Liquidity
and Capital Resources" below.] In connection with our plan to increase hotel
development through joint ventures, we anticipate that the total off-balance
sheet mortgage debt on joint ventures in which we have an ownership interest,
will increase. The level of guarantees we provide on this debt may also increase
accordingly, however this will be determined on a project by project basis, and
provided only if deemed appropriate.
From time to time, we advance funds to these joint ventures for working capital
and renovation projects. The advances bear interest at rates ranging from prime
to 10% per annum and are due upon demand. Interest is accrued in all loans, and
paid to us periodically. The advances totaled $2.3 million at March 31, 2004,
and are included in investments in and advances to unconsolidated hotel joint
ventures in our consolidated financial statements. We expect the joint ventures
to repay these advances primarily from the sale of the related hotels, and cash
flow generated from hotel operations, however there is no guarantee that we will
recover the entire amount outstanding.
During the first quarter of 2004, a joint venture owning a non-AmeriHost Inn
hotel, in which we have a 50% ownership interest, amended its partnership
agreement. The amendment (i) provided for all future capital calls to be funded
by the other partner, with no funding obligation to us and without dilution of
our ownership interest, (ii) clarified our first priority distributions upon the
sale of the hotel, (iii) mandated that the hotel be marketed for sale, and (iv)
transferred the hotel management responsibilities to an affiliate of our joint
venture partner.
- 37 -
In December 2003, the FASB issued Interpretation No. 46R (FIN 46R),
"Consolidation of Variable Interest Entities," which addresses how a business
enterprise should evaluate whether or not it has a controlling financial
interest in an entity through means other than voting rights and accordingly
should consolidate the entity. FIN 46R replaces FIN 46, "Consolidation of
Variable Interest Entities," which was issued in January 2003. We are required
to adopt the requirements of FIN 46R for interim periods ending after December
15, 2004. This Interpretation requires that we present any variable interest
entities in which it has a majority variable interest on a consolidated basis in
our financial statements. We are continuing to assess the provisions of this
Interpretation and the impact to us of adopting this Interpretation. Therefore
the following amounts may change based upon additional analysis. Due to the
adoption of this Interpretation, we expect that we will begin to present our
investments in four joint ventures in which we have a majority variable
interest, as determined in accordance with the provisions of this
Interpretation, on a consolidated basis in our financial statements beginning
with the consolidated financial statements issued for the quarterly period ended
December 31, 2004. The consolidation of these joint ventures is expected to add
approximately $10.0 million in assets and $8.1 million in liabilities to our
consolidated balance sheet. As of March 31, 2004, we had investments in, and
advances to, these joint ventures of approximately $1.8 million, which was
presented as such under the equity method of accounting in our consolidated
financial statements. We expect that we will continue to present all of our
other unconsolidated investments under the equity method.
LIQUIDITY AND CAPITAL RESOURCES
General
Our principal liquidity needs for the next twelve months are to:
- fund normal recurring expenses;
- meet debt service requirements including the repayment or refinancing
of approximately $2.5 million of hotel mortgage indebtedness that
matures within the twelve month period;
- meet the obligations under our operating line-of-credit, including the
$500,000 reduction on its maximum availability over the next 12 months;
- meet lease payment obligations of approximately $5.4 million, primarily
to PMC Commercial Trust, subject to ongoing discussions as described
herein; and
- fund capital expenditures, primarily hotel and office building
improvements of approximately $1.5 million to $2.1 million;
To the extent available, we also need funds for the following growth activities:
- fund equity contributions on joint venture development projects; and
- for wholly-owned hotel development projects, if any, fund development
costs not covered under construction loans.
In addition, we are obligated to either facilitate the sale of a hotel owned by
PMC, or purchase it from PMC for a total purchase price of $2.6 million by June
5, 2004. We are currently in discussions with PMC, regarding several of the
specific terms within the lease agreements, including the extension or
termination of this obligation, however there can be no assurance that this
obligation will be terminated or extended. If we choose not to purchase this
hotel from PMC, our rent on the entire 21 hotel portfolio will increase by
approximately $127,000 per year.
We expect to fund these liquidity needs and obligations using cash flows
generated by operations, particularly from hotel sales, and by financing
activities. Hotel revenue, hotel development fees, proceeds from the sale of
hotels, including fees received from Cendant, and other income from operations
are our principal sources of cash flow used to pay the hotel and corporate
operating expenses and obligations mentioned above. We also have a corporate
line-of-credit, however the availability under this facility is decreasing from
its current maximum of $4.0 million to $3.5 million by the end of February 2005.
As of March 31, 2004 the line-of-credit had an outstanding balance of $4.0
million. We intend to pursue alternative sources of debt and equity financing,
including longer-term alternatives to our corporate line-of-credit, as discussed
below.
- 38 -
The net cash flow from the operations of many of our hotels has been
insufficient to support their related mortgage debt payments, or lease payments,
primarily to PMC, as well as necessary and ongoing capital expenditures. In
addition, our hotel development activity for joint ventures has also decreased
over the past two years, with only one joint venture project completed in 2003
and one joint venture project completed thus far in 2004. As a result, the cash
flow from all of our business segments, with the largest amount funded by the
sale of hotel properties, has been utilized to maintain liquidity and meet the
line-of-credit availability reductions. A smaller amount has been used for
investment in new hotel development.
We believe that during the next twelve months, in order to maintain our
liquidity, it is critical for us to continue to sell hotel properties. In
addition, we seek to increase income from our existing hotel properties by
focusing on new revenue enhancement opportunities, and aggressive cost controls.
We believe that an upturn in the economy will result in increased demand for
hotel rooms, including ours, and such upturn could result in significantly
improved hotel operating results. However, historically we have seen that
lodging demand trends will typically lag six to nine months behind any such
economic trends. We have also been in discussions with PMC requesting a
reduction in our subsidiary's monthly lease payment and other modifications.
Our principal liquidity needs for periods beyond twelve months are for the cost
of new developments, property acquisitions, scheduled debt maturities, major
renovations, expansions and other non-recurring capital improvements. We expect
to satisfy these needs using one or more of the following:
- construction loans;
- long-term secured and unsecured indebtedness;
- income from operations, including the development and sales of real
estate;
- joint ventures;
- issuances of additional common stock and/or other equity securities;
and
- our revolving line of credit.
In addition to our normal operational and growth oriented liquidity needs, other
contingencies may also have a significant impact on us, including the impact of
seasonality on our hotel operations and hotels sales, and the inability to pay
off mortgage loans when maturing. See "Risk Factors" below and in our Report on
Form 10-K for the year ended December 31, 2003.
Our hotels are seasonal in nature, with the second and third calendar quarters
being the strongest from a cash flow standpoint, and the fourth and first
calendar quarters being the weakest. In addition, the buyers of our hotels tend
to purchase hotels on a seasonal basis, wanting to acquire the property just in
time for the stronger summer season. As the sale of hotel properties is a
critical part of our liquidity, our inability to sell during the winter months
could have a negative impact on our liquidity, if we do not generate strong cash
flow from our other segments, or if we do not have adequate financing sources.
We believe our revenues, together with proceeds from financing activities, will
continue to provide the necessary funds for our short-term liquidity needs.
However, material changes in these factors, including factors that could inhibit
our ability to sell hotels under acceptable terms and within certain time
frames, or ability to secure new hotel level or corporate level debt, may
adversely affect net cash flows. Such changes, in turn, would adversely affect
our ability to fund debt service, lease obligations, capital expenditures, and
other liquidity needs. In addition, a material adverse change in our cash
provided by operations may affect the financial performance covenants under our
unsecured line of credit and certain mortgage notes.
Cash Flow Summary
The following summary discussion of our cash flows is based on the consolidated
statements of cash flows in "Item 1 - Financial Statements."
- 39 -
Cash Flow Summary (continued)
Cash and cash equivalents were approximately $5.0 million and $3.6 million at
March 31, 2004 and December 31, 2003, respectively, or an increase of
approximately $1.3 million. The increase was a result of the following increases
and decreases in cash flows:
Three Months ended March 31,
(in thousands)
--------------------------------------------
Increase
2004 2003 (Decrease)
---------- --------- ---------
Net cash provided by operating activities $ 5,733 $ 4,407 $ 1,326
Net cash used in investing activities (94) (1,981) 1,887
Net cash used in financing activities (4,290) (2,050) (2,240)
---------- --------- ---------
Increase in cash $ 1,349 $ 376 $ 973
========== ========= =========
Cash provided by operating activities
We have four main sources of cash from operating activities:
- revenues from hotel operations;
- revenues from the sale of hotel assets;
- fees from development, construction and renovation projects, and
- hotel development incentive fees and royalty sharing pursuant to the
Cendant transaction.
To a lesser extent, we have these additional sources of cash from operating
activities:
- fees from management contracts,
- fees from employee leasing services, and
- rental income from the ownership of an office building.
Hotel operations
Approximately 10% of our hotel operations revenue not received at checkout is
generated through other businesses and contracts, such as direct billings to
local companies using the hotel and third party hotel room brokers, which is
usually paid within 30 to 45 days from billing.
We have implemented a number of initiatives to control costs at our hotels,
especially in the areas of labor, insurance, utilities, and maintenance. We have
also started to implement energy control systems at a few hotels and are
exploring the expansion of this program. We have entered into discussions with
PMC with the objective to improve the operating results and cash flow generated
by these leased hotels through a permanent reduction in the monthly lease
payment. Currently, our subsidiary's lease obligation for these 21 hotels is
approximately $5.3 million per year, significantly greater than the operating
cash flow generated from these hotels before the rent payment (see "Executive
Overview" above). However, there can be no assurance that we will be successful
in any such restructuring, or that a restructuring will result in improved
operational results for these hotels.
Sale of hotels
We typically receive an earnest money deposit from the buyer of a hotel when a
sales contract is executed. The remaining proceeds from the sale of hotel assets
are received at the time of closing. However, in certain instances, we have
provided seller financing in the form of a note to the buyer with specified
interest and repayment terms.
- 40 -
Sale of hotels (continued)
During the first quarter of 2004, net proceeds from the sale of two wholly owned
AmeriHost Inn hotels, after the payoff of the related mortgage debt was $2.9
million. We intend to continue to sell hotels, as discussed above under "Hotel
Disposition Plan and Restructuring." However, there can be no assurance that we
will be able to sell hotel assets under terms acceptable to us, and the timing
and estimated proceeds from any such sales could differ materially from that
anticipated.
Historically, we have experienced greater activity in hotels for sale from
prospective buyers during the second and third calendar quarters, versus the
first and fourth quarters, consistent with the seasonality of the hotel
operations. The timing of hotel sales can be affected by numerous factors, many
of which are beyond our control. For example, many of our historical buyers
obtain debt financing under various U.S. Small Business Administration ("SBA")
loan guarantee programs. Due to the recent federal budget issues, certain SBA
programs, and all loans currently being underwritten and documented under this
program, were significantly delayed. In fact, one hotel which was under contract
for sale and scheduled to close in December 2003, was delayed by SBA financing
issues and the sale was not consummated until the end of March 2004. The
seasonality of the hotel sales, as well as the delays from numerous factors,
including buyer financing, can create significant liquidity issues for us,
especially at times when our hotel operations cash flow may be minimal or
negative, after debt service and lease obligations, as during the winter months.
Currently, we expect to realize net cash proceeds of approximately $4.0 to $4.6
million from the sale of the remaining hotels in our strategic plan for hotel
disposition, after the payoff of the related mortgage debt, and exclusive of any
Cendant fees. Six hotels are currently under contract for sale, which are
expected to be consummated within the next six (6) months. Under the terms of
the contracts, these anticipated sales are expected to generate approximately
$12.8 million in gross proceeds and the reduction of mortgage debt of
approximately $8.1 million. However, there can be no assurance that these hotel
sales will be consummated as anticipated. Any forecasted amounts from these
sales could differ from the final amounts included in the company's quarterly
and annual financial statements when issued.
Hotel development
Fees from development, construction and renovation projects are typically
received within 15 to 45 days from billing. Due to the procedures in place for
processing our construction draws, we typically do not pay our contractors until
we receive our draw from the equity or lending source.
Developing hotels for joint ventures in which we have an ownership interest, and
third parties, has historically provided stronger returns and cash flow,
compared to the longer term returns from developing and operating hotels for our
own account. In addition, our equity contribution is much less for a joint
venture development project, as most of the cash equity is contributed by our
partners. However, many of the same factors affecting hotel operations, as
discussed above, have also had an impact on our ability to develop hotels for
third parties and for joint ventures, and as a result, this development activity
has declined from 2001 to 2004. We currently have several projects under
development for joint ventures, or which will be marketed to joint venture
partners, and our goal is to significantly increase this activity in the future,
provided that we can find acceptable sites to locate the hotels, find acceptable
joint venture partners with sufficient equity, maintain sufficient liquidity to
make our share of capital contributions, as needed, and that the joint venture
can obtain the necessary mortgage debt financing on acceptable terms.
Fees from Cendant
The development incentive fee from Cendant is a one-time fee typically received
within 20 days of the simultaneous closing of the sale of an AmeriHost Inn hotel
and the execution by the buyer of a franchise agreement with Cendant, including
all proper documentation, and subject to certain conditions. Royalty sharing
payments from Cendant are received monthly, based on the actual royalty payments
received by Cendant from all AmeriHost Inn hotel franchisees, except those
operated by us.
We received approximately $-0- and $698,000 during the three months ended March
31, 2004 and 2003, respectively, in development incentive fees. The development
incentive fees of approximately $417,000 related to the two AmeriHost Inn hotels
sold in the first quarter of 2004 were received in April 2004. These fees may be
refundable to Cendant if the buyer
- 41 -
Fees from Cendant (continued)
of our AmeriHost Inn hotel defaults under their franchise agreement with Cendant
during the first 76 months. However, any such amounts due would be reduced by a
portion of any damages recovered by Cendant and would only be paid by us an
offset against future fees earned. To date, there have been no defaults, and we
have not had to repay any incentive fees.
We recognized royalty sharing fees revenue from Cendant in the amount of $75,000
in the first quarter of 2004, compared to $60,000 during the first quarter of
2003, which is based on the royalty fees Cendant receives for all non-Arlington
Hospitality AmeriHost Inn hotels in their franchise system. We will receive
royalty sharing payments through 2025 under the terms of the agreement with
Cendant, including fees from AmeriHost Inn hotels that are not developed or
operated by us. While we expect this cash flow to increase as the AmeriHost Inn
brand is expanded, there can be no assurance that Cendant will be able to sell
additional AmeriHost Inn franchises, or that we will be able to sell existing or
newly developed AmeriHost Inn hotels to third party operators.
Cendant must approve the franchise applications of the buyers of our AmeriHost
Inn hotels, which approval is based solely on Cendant's evaluation of the
buyers' experience and ability to effectively operate the hotels, the physical
condition of the hotels, and other factors. If we choose to sell an AmeriHost
Inn hotel, where the buyer does not execute an AmeriHost Inn franchise
agreement, we may be subject to liquidated damages to Cendant under our
franchise agreements, which is computed as a percentage of room revenue or a
fixed amount per room, and their would be no incentive fee nor ongoing revenue
sharing fees paid to us by Cendant.
Other sources
We receive management fees and employee leasing fees which result in a
relatively smaller amount of cash flow, after the payment of related expenses in
comparison to the activities discussed above. These fees and cash flow could
increase as we develop and manage more hotels for joint ventures, as
anticipated. In addition, we receive rental income from the other tenants in our
office building. Owning our office building assists us in minimizing our own
corporate headquarter occupancy costs.
Cash used in investing activities
Cash is used in investing activities to fund acquisitions, invest in joint
ventures, to make loans to affiliated hotels for the purpose of construction,
renovation and working capital, for new hotel development, for recurring and
nonrecurring capital expenditures, and from time to time, for the purchase of
our own common stock. We selectively invest in new projects that meet our
investment criteria and enable us to take advantage of our development and
property management skills.
Cash used in investing activities for the three months ended March 31, 2004 and
2003, consisted of the following:
(in thousands)
2004 2003
-------- --------------
Investments in unconsolidated joint ventures, net of
distributions and collections on advances from affiliates $ 123 $ (40)
Purchase of property and equipment (265) (1,796)
Issuance of notes receivable, net of collections 48 (146)
-------- -------------
Total $ (94) $ (1,982)
======== =============
The purchase of property and equipment includes all ongoing capital expenditures
as well as approximately $1,542,000 million for construction, furniture and
fixtures costs incurred in the first quarter of 2003 for three new hotel
projects, which opened in 2003. We were not constructing any hotels for the
Company's own account during the first quarter of 2004. We expect these costs to
be lower than historically, as we focus on new development for joint ventures
and others.
- 42 -
Cash used in investing activities (continued)
From time to time, we advance funds to these joint ventures for working capital
and renovation projects. During the first three months of 2004, we collected
$120,000 from joint ventures in which we are a partner, net of advances, which
were initially advanced primarily for working capital purposes. We expect the
joint ventures to repay the outstanding advances primarily through the sale of
the hotel, and cash flow generated from hotel operations, however in certain
cases, we may not realize the entire amounts advanced. We anticipate that these
advances will be repaid to us prior to any distributions to our partners. In
2004, we expect to continue advancing funds to certain joint ventures for
working capital purposes. If we do not continue to support these joint ventures
for working capital needs and debt service, it may create defaults under their
mortgage agreements, which in most cases have been guaranteed by us.
In addition, during the first quarter of 2004, we invested approximately $14,000
in new and existing joint ventures, and received approximately $17,400 in
distributions from joint ventures. The advances were used primarily for working
capital purposes.
Cash used in financing activities
Cash used in financing activities was $4.3 million during the three months ended
March 31, 2004, compared to $2.0 million during the three months ended March 31,
2003, summarized as follows:
(in thousands)
2004 2003
----------- ---------
Principal Payments on long-term debt $ (4,431) $ (4,716)
Net proceeds (repayments) on operating line of credit 150 (404)
Common stock repurchases - -
Distributions to minority interests (180) -
The cash used in financing activities was partially offset by:
Proceeds from issuance of long-term debt - 3,071
Issuance of common stock 171 -
---------- --------
Total $ (4,290) $ (2,049)
========== ========
Principal payments on long-term debt include the payoffs of mortgages upon the
sale of hotel properties of approximately $3.9 million the first three months of
2004, and $4.2 million in the first three months of 2003. We paid off 10 hotel
mortgages in 2003, and two additional hotel mortgages in 2004. Proceeds from the
issuance of long-term debt includes $-0- in 2004 and $3.1 million in 2003, as a
result of opening three newly constructed consolidated AmeriHost Inn hotels
during 2003. Future hotel development is dependent upon our ability to attain
mortgage debt financing. Lenders typically advance mortgage debt at the rate of
60% - 75% of total project value. Assuming the total value of a new hotel
development is $5.0 million, the typical mortgage loan amount would range from
$3.0 million to $3.75 million. There can be no assurance that we will be able to
obtain such mortgage financing on terms acceptable to us, to support our growth
objectives.
Our board of directors has authorized a common stock buy back, at any time and
without notice, of up to 1,000,000 shares under certain conditions and
consistent with securities laws governing these buybacks. In addition, in 2003
we executed a reverse-forward stock split whereby the shares held by
shareholders owning less than 100 shares on the effective date were redeemed and
converted into the right to receive cash from the Company. The shareholders
owning at least 100 shares were not impacted. As a result of the reverse-forward
split, approximately 33,000 shares were converted to the right to receive $3.83
per share, or a total of approximately $128,000, of which approximately $22,000
was funded through December 31, 2003 and approximately $21,000 was funded during
the first quarter of 2004. We consider the reverse-forward split a one-time
transaction, and we do not anticipate a similar transaction in the foreseeable
future. All shares that we have repurchased or redeemed have been retired.
- 43 -
Mortgage Debt
Historically, we have used local, regional, and national lenders to finance
hotel projects, including a $20 million loan facility, which provided for new
construction financing that automatically converted to permanent financing upon
opening. However, the lender's commitment to review and underwrite new
construction projects under this $20 million facility expired on October 31,
2003. This lender continues to review and underwrite the debt financing for some
of our current development projects on a per project basis. Mortgage financing
is a critical component of the hotel development process and we are continually
seeking financing sources for new construction and long term permanent mortgage
financing to assist us in the development of AmeriHost Inn hotels.
The table below summarizes our mortgage notes payable as of March 31, 2004 and
December 31, 2003:
(in thousands)
March 31, December 31,
2004 2003
------------- ------------
Outstanding balance:
Fixed rate $ 22,489 $ 22,678
Variable rate 38,258 42,500
------------- ----------
Total $ 60,747 $ 65,178
============= ==========
Percent of total debt:
Fixed rate 37.02% 34.79%
Variable rate 62.98% 65.21%
------------- ----------
Total 100.00% 100.00%
============= ==========
Weighted average interest rate at end of period:
Fixed rate 7.60% 7.60%
Variable rate 5.31% 5.64%
------------- ----------
Total 6.08% 6.24%
============= ==========
The variable rate debt shown above bears interest based on various spreads over
the Prime Rate or the London Interbank Offered Rate. The Company's plan to sell
certain hotel assets is expected to result in the payoff of the related mortgage
debt in the amount of approximately $33.3 million, which has been classified in
current liabilities in the accompanying consolidated balance sheet as of March
31, 2003. This amount includes (i) one hotel loan in the amount of $1.5 million
which matures in August 2004, (ii) one hotel loan in the amount of $986,000
which matures in January 2005, and (iii) approximately $1.2 million in principal
payments which are contractually due within the next twelve months regardless of
the plan for hotel disposition. We have received notice from the lender on the
loan which matures in August 2004 indicating that they will not be extending or
renewing the loan. We expect this hotel to be sold prior to its maturity, as it
is currently being actively marketed for sale as part of our plan for hotel
disposition, with the proceeds to be used to payoff the mortgage loan. However,
based on our current estimates, we anticipate that the net proceeds from the
sale of this hotel will be less than the outstanding mortgage balance by
approximately $200,000 - $300,000. We have received a commitment from this
lender, which provides that this shortfall will be funded by both us and the
lender upon the sale of the property. However, there can be no assurance that a
sale will be consummated and the lender will fund its portion of the shortfall.
We also expect the hotel mortgage loan, which matures in January 2005 to be
repaid prior to maturity with proceeds from the sale of the hotel, as it is also
being actively marketed. If these hotels are not sold by their maturity dates,
we are currently obligated to payoff the mortgage notes using funds from other
sources, if available, including mortgage refinancings with other lenders, or if
not paid off, we would be in default of the mortgage agreements, absent any
other agreement with these lenders. However, there can be no assurance that
these hotels will be sold by their loan maturity dates, or that alternative
financing will be available if needed. If these hotels are not sold prior to
their loan maturity dates, and absent an extension by the current lenders, or a
refinancing with another lender, it could have a significant impact on our
liquidity.
- 44 -
Mortgage Debt (continued)
With respect to our office building mortgage and mortgages on hotels that are
not held for sale, approximately $1.2 million is classified in current
liabilities, which is the principal amortization due within the next twelve
months. The office building in which our headquarters is located, has a mortgage
loan which matures January 1, 2006, and bears interest at the floating rate of
either prime minus 0.25% or LIBOR plus 2.25%, as determined by us.
Certain of our hotel mortgage notes and our office building mortgage note
contain financial covenants, principally minimum net worth requirements, debt to
equity ratios, and minimum debt service coverage ratios. These financial
covenants are typically measured annually, based upon our fiscal year end. We
were in compliance with all covenants as of March 31, 2004.
Other Mortgage debt guaranteed by the Company
We are a general partner or managing member in 15 joint ventures as of March 31,
2004, 13 of which had mortgage debt. The following is a summary of the mortgage
debt held by the various types of joint ventures:
(in thousands)
No. of hotels Balance Outstanding Guarantee Balance
------------- ------------------- -----------------
Consolidated joint ventures
in which we have a majority
or controlling interest 2 $ 4,814 $ 964
Unconsolidated joint ventures
in which we are a general partner 2 4,161 3,661
Unconsolidated joint ventures
in which we are a managing
member of a limited liability company 9 19,957 15,842
-- ------------ ----------
13 $ 28,932 $ 20,467
== ============ ==========
The mortgage balances for the two consolidated joint ventures have been included
in "liabilities of assets held for sale - other brands" in our consolidated
balance sheet as of March 31, 2004.
The mortgage balances for the unconsolidated joint ventures has not been
included in our consolidated balance sheet. Other partners have also guaranteed
a portion of these financings, which may ultimately reduce the exposure on our
guarantees. Approximately $8.8 million of the mortgage debt with unconsolidated
joint ventures relates to five properties that have been identified to be sold
as part of our strategic hotel disposition plan. One mortgage in the amount of
approximately $1.7 million matures in November 2004. This mortgage had matured
on November 1, 2003, however the lender extended the maturity for one year, and
waived a covenant violation for the minimum debt service coverage ratio for
2003. This hotel is included in the hotel disposition plan, and we expect this
hotel to be sold prior to the loan maturity, with the net proceeds being used to
pay off the mortgage. However, if the joint venture is unable to sell the hotel
prior to the loan maturity, on acceptable terms, and the lender is unwilling to
extend the maturity date of the loan, or if acceptable alternative financing is
not available, it could create a default on behalf of the joint venture whereby
the lender would look to us for repayment of the loan under our guarantee,
possibly creating significant liquidity issues for us (see also, "Off Balance
Sheet Arrangements").
Operating line-of-credit
At March 31, 2004, we had $4.0 million outstanding under our operating
line-of-credit with LaSalle Bank NA. We have recently executed a renewal with
LaSalle Bank for this facility through April 30, 2005 at an initial maximum
availability of $4.0 million. The reduction from the previous level of $5.5
million was the result of the sale of two hotel properties during the first
quarter of 2004 with the proceeds used to pay down the line of credit balance.
In addition, the terms require that the maximum availability under the facility
be reduced to $3.5 million on February 28, 2005, and also provides LaSalle Bank
with the right to reduce the maximum availability further, based on future hotel
sales, or as deemed necessary. The renewed facility bears interest at the rate
of 10% per annum, and is collateralized by substantially all the
- 45 -
Operating line-of-credit (continued)
assets of the Company, subject to first mortgages from other lenders on hotel
assets. The credit line provides for the maintenance of certain financial
covenants, including minimum tangible net worth, a maximum leverage ratio,
minimum debt service coverage ratio, and minimum net income.
We intend to pursue longer term financing options with other lenders that is
consistent with our business plan of developing, building and selling AmeriHost
Inn hotels and expect to engage an investment/financial advisor in the near
future to assist us in this undertaking. However, there can be no assurance that
we will obtain an alternative credit facility of longer duration under terms and
conditions that we deem satisfactory.
Lease Purchase Obligation
Under the terms of our existing arrangement with PMC, if we do not either
facilitate the sale to a third party, or purchase from PMC, one of our leased
hotels at a price of approximately $2.6 million by June 5, 2004, a rent increase
of approximately $127,000 on an annual basis, becomes effective. If we decide to
purchase this hotel, we intend to fund the $2.6 million purchase price with a
combination of mortgage debt, the source of which has not yet been identified,
and cash from operations or working capital. As discussed in the "Executive
Overview - hotel and corporate level financing," we are in the process of
addressing this purchase obligation, including a possible extension of the
obligation, as part of our ongoing discussions with PMC, however there can be no
assurance that an alternative agreement will be in place prior to June 5, 2004,
or that such an alternative agreement will include an extension of this
obligation.
SEASONALITY
The lodging industry, in general, is seasonal by nature. Our hotel revenues are
generally greater in the second and third calendar quarters than in the first
and fourth quarters due to weather conditions in the primarily Midwest markets
in which many of our hotels are located, as well as general business and leisure
travel trends. This seasonality can be expected to continue to cause quarterly
fluctuations in our revenues. Quarterly earnings also may be adversely affected
by events beyond our control, such as extreme weather conditions, economic
factors, securities and geopolitical concerns and other general factors
affecting travel. In addition, hotel construction is seasonal, depending upon
the geographic location of the construction projects. Construction activity in
the Midwest may be slower in the first and fourth calendar quarters due to
weather conditions. Also, since our management fees are based upon a percentage
of the hotel's total gross revenues, we are further susceptible to seasonal
variations. We have also experienced greater interest in hotel sales from
prospective buyers during the second and third calendar quarters, consistent
with the seasonality of hotel operations.
GOVERNMENT REGULATION
The impact of government regulations, and related risks, are discussed in the
Company's Annual Report on Form 10-K for the year ended December 31, 2003, and
should be read in conjunction with this quarterly report on Form 10-Q.
RECENTLY ISSUED ACCOUNTING STANDARDS
In December 2003, the FASB issued Interpretation No. 46R (FIN 46R),
"Consolidation of Variable Interest Entities," which addresses how a business
enterprise should evaluate whether or not it has a controlling financial
interest in an entity through means other than voting rights and accordingly
should consolidate the entity. FIN 46R replaces FIN 46, "Consolidation of
Variable Interest Entities", which was issued in January 2003. The Company is
required to adopt the requirements of FIN 46R for interim periods ending after
December 15, 2004. This Interpretation requires that the Company present any
variable interest entities in which it has a majority variable interest on a
consolidated basis in its financial statements. The Company is continuing to
assess the provisions of this Interpretation and the impact to the Company of
adopting this Interpretation. Therefore the following amounts may change based
upon additional analysis. Due to the adoption of this Interpretation, the
Company expects that it will begin to present its investments in four joint
ventures in which it has a majority variable interest, as determined in
accordance with the provisions of this Interpretation, on a consolidated basis
in its financial statements beginning with the consolidated financial statements
issued for the quarterly period ended December 31, 2004. The consolidation of
these joint ventures is expected to add approximately $10.0 million in assets
and $8.1 million in liabilities to the Company's consolidated balance sheet. As
of December 31, 2003, the Company had investments in, and advances to, these
joint ventures of approximately $1.8 million, which was presented as such under
the equity method of accounting in the accompanying consolidated financial
statements. The Company expects that it will continue to present all of its
other unconsolidated investments under the equity method.
- 46 -
SUBSEQUENT EVENTS
In 2004, we entered into discussions with PMC Commercial Trust, regarding 21
AmeriHost Inn hotels PMC owns that are leased and operated by our subsidiary,
with the objective to restructure these long-term lease agreements. On March 12,
2004, we entered into a temporary letter agreement with PMC that expired on
April 30, 2004. The temporary letter agreement provided that base rent will
continue to accrue at the rate of approximately $445,000 per month, as set forth
in the lease agreements; however the base rent payments required to be paid on
March 1, 2004 and April 1, 2004 were reduced to approximately $360,000 per
month, with the March 1, 2004 payment being due and payable upon the execution
of the temporary letter agreement. In addition, our subsidiary was allowed to
utilize $200,000 of its security deposit held with PMC to partially fund these
payments. On April 30, 2004, the temporary letter agreement was revised to
extend its terms for one month, which reduced the base rent payable on May 1,
2004 from approximately $445,000 to approximately $360,000. Upon the expiration
of the temporary letter agreement on May 31, 2004 (as revised), the deferred
portion of the base rent (approximately $264,000) plus the $200,000 needed to
restore the security deposit to its March 12, 2004 balance, will be payable to
PMC in four equal monthly installments beginning June 1, 2004. While the
objective is to reach a restructured agreement prior to the expiration of the
temporary letter agreement (as revised), there can be no assurance that the
leases will be restructured on terms and conditions acceptable to us, if at all,
or that a restructuring will improve operating results and cash flow, or provide
for the sale of the hotels to third party operators.
In May 2004, a joint venture in which we have a controlling ownership interest,
and which operates a non-AmeriHost Inn hotel, revised the terms of its lease
agreement to (i) change the monthly lease payments from $240,000 per year to an
amount based on a percentage of hotel room revenue, with a minimum of $90,000 on
an annual basis, and (ii) change the lease expiration date to the earlier of
November 1, 2005, or when, and if, the landlord sells the property, redevelops
the property, or leases the property to a new tenant. In addition, the Company
will receive a portion of the residual value of the furniture, fixtures, and
equipment upon termination of the lease.
RISK FACTORS
The following important factors, among others, have affected, and may in the
future continue to affect, our business, results of operations and financial
condition, and could cause our operating results to differ materially from those
expressed in any forward-looking statements made by us or on our behalf
elsewhere in this report. These risk factors should be read in conjunction with
the risk factors set forth in our Annual Report on Form 10-K, for the year ended
December 31, 2003, under the heading "Management's Discussion and Analysis -
Risk Factors."
We have substantial long-term obligations, which could limit our flexibility or
otherwise adversely affect our financial condition.
We have a significant amount of debt and obligations under long-term leases,
such as the leases with PMC, requiring us, or our subsidiaries, to dedicate a
substantial portion of our, or their, cash flow from operations to make these
required payments. These payments reduce the cash flow otherwise available to
fund capital expenditures, expansion efforts and other general corporate needs.
For the last three years our cash flow from hotel operations, after the payment
of mortgage debt service, lease obligations, and ongoing capital expenditures,
has been negative and we have used the proceeds from the sale of hotels to
primarily fund these payments and other operational expenses. There is no
assurance that we will generate positive cash flow from hotel operations. If our
hotel operating cash flow or other sources of cash is not sufficient to fund our
expenditures or to make our debt and lease payments, we will have to raise
additional funds through:
- the sale of capital stock;
- additional borrowings; or
- selling a greater number of assets and sooner than planned.
- 47 -
We cannot assure you that any of these sources would be available to us on
acceptable terms, if at all. An inability to fund our operating or capital
needs, including our debt and lease payments, would have a material adverse
effect on our results of operations and financial condition. Further, pursuant
to the renewal of our existing line-of-credit for a one-year period, the
proceeds from the sale of hotel properties was used to repay draws on the line
as the maximum availability on this credit facility decreased to $4.0 million
from $5.5 million. In addition, the maximum availability will be further reduced
to $3.5 on February 28, 2005. There is no assurance that this line will be
sufficient to meet our needs or that we would be able to obtain a replacement
line on terms and conditions acceptable to us, if at all.
Additionally, our loan facility for new construction expired on October 31,
2003. If we are unable to replace this facility, or if we are unable to obtain
alternative new construction financing, or other hotel debt arrangements, on
acceptable terms, our ability to develop new hotels will be significantly
limited and our future prospects will be adversely affected.
If we are not able to restructure our lease agreements with PMC Commercial
Trust, our financial results may suffer.
One of our wholly-owned subsidiaries is the lessee for 21 hotels with PMC. We
have guaranteed the obligations under these leases. To date, we have been making
a significant portion of the lease payments for our subsidiary, since the cash
flow generated by these hotels has been insufficient to cover the annual lease
payment obligation of approximately $5.3 million. On March 12, 2004, we and our
subsidiary entered into an interim agreement with PMC. This interim agreement
temporarily deferred a portion of the March and April 2004 payments required
under the leases. This interim agreement expired on April 30, 2004, however was
extended for an additional month including the deferral of a portion of the May
2004 payment. The interim agreement (as revised) provides for the payment of the
deferred portions to PMC in four equal monthly installments beginning June 1,
2004. If this interim agreement is not renewed or extended, or a revised
agreement not entered into, the terms of the original agreement will return in
effect. Thus, if the operations of the hotels subject to the leases do not
improve sufficiently, we will either have to continue subsidizing the lease
payments or take other actions to restructure the leases. Any such actions could
cause us to default under other credit agreements or our agreement with Cendant.
Any such default would have a material adverse effect on our results of
operations, financial condition and prospects.
Additionally, the lease provides for the sale of eight unidentified hotels to
third parties or to the Company under specified terms. The lease provides for
four increases in rent payments of 0.25% each, if these hotels are not sold to a
third party or purchased by us by the dates specified. As of March 31, 2004, the
first three scheduled rent increases were avoided due to the sale of hotels by
PMC to us. The fourth 0.25% increase of approximately $127,000 on an annual
basis becomes effective if we do not either facilitate the sale to a third
party, or purchase from PMC, one specified hotel at a price of approximately
$2.6 million by June 5, 2004. Currently, we are in discussions with PMC to
extend this obligation. There can be no assurance that we will be able to extend
the obligation on favorable terms, if at all. Failure to extend the obligation
may have a material adverse effect on our results of operations, financial
condition and prospects.
- 48 -
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Our exposure to market risk for changes in interest rates relates primarily to
our long-term debt obligations. We have some cash flow exposure on our long-term
debt obligations to changes in market interest rates. We primarily enter into
long-term debt obligations in connection with the development and financing of
hotels. We maintain a mix of fixed and floating debt to mitigate our exposure to
interest rate fluctuations. We do not enter into any market risk sensitive
investments for trading purposes.
Our management believes that fluctuations in interest rates in the near term
would not materially affect our consolidated operating results, financial
position or cash flows as we have limited risks related to interest rate
fluctuations.
The table below provides information about financial instruments that are
sensitive to changes in interest rates, for each interest rate sensitive asset
or liability as of March 31, 2004. As the table incorporates only those
exposures that existed as of March 31, 2004, it does not consider those
exposures or positions that could arise after that date. Moreover, the
information presented therein is merely an estimate and has limited predictive
value. As a result, the ultimate realized gain or loss with respect to interest
rate fluctuations will depend on the exposures that arise during future periods,
hedging strategies and prevailing interest rates at the time.
Average Nominal
Carrying Value Interest Rate
-------------- ---------------
Operating line of credit - variable rate $ 4,000,000 10.00%
Mortgage debt - fixed rate $ 22,488,610 7.60%
Mortgage debt - variable rate $ 38,258,405 5.31%
If market rates of interest on our variable debt increased by 10%, the increase
in interest expense on the variable rate debt would be approximately $203,000
annually.
ITEM 4. CONTROLS AND PROCEDURES
An evaluation was performed under the supervision and with the participation of
our management, including our Chief Executive Officer and Chief Financial
Officer, of the effectiveness of our disclosure controls and procedures (as
defined in Rules 13a-15(e) and 15d-15(e) under the Securities and Exchange Act
of 1934, as amended) as of the end of the period covered by this report. Based
on that evaluation, the Chief Executive Officer and Chief Financial Officer
concluded that these disclosure controls and procedures were effective.
Additionally, there has been no change in our internal control over financial
reporting during our most recent fiscal quarter that has materially affected, or
is reasonably likely to materially affect, our internal control over financial
reporting.
- 49 -
PART II
ITEM 2. CHANGES IN SECURITIES; USE OF PROCEEDS AND ISSUER PURCHASES OF EQUITY.
The following table sets forth information regarding shares of our common stock
that we repurchased during the three months ended March 31, 2004.
Total No. Of Shares Maximum No. Of Shares
Total No. Purchased as Part Of That May Yet Be
Of Shares Average Price Publicly Announced Purchased Under the
Period Purchased(1) Paid Per Share(2) Plans or Programs Plans or Programs (3)
------ ------------ ----------------- -------------------- ----------------------
January 2004 4,099 $ 3.83 4,099 23,488
February 2004 901 $ 3.83 901 22,587
March 2004 544 $ 3.83 544 22,043
(1) All of the purchases in the table were made pursuant to our reverse forward
stock split, which was approved by our stockholders on October 29, 2003 and
announced on October 30, 2003. The transaction was effective on November
28, 2003, and the holdings of all affected shareholders were converted to a
right to receive cash as of this date, and the redemption of the related
shares was recorded in 2003. However, certain redemption payments were
still being made in 2004 as indicated above.
(2) The price per share cashed out as a result of the reverse-forward stock
split was $3.83, the average official closing price of our common stock on
the Nasdaq National market over the thirty trading days immediately
preceding the effective date of the split, which was November 28, 2003.
(3) Does not include up to 963,200 shares, which may be repurchased pursuant to
the Company's common stock buyback authorization (see "Management's
Discussion and Analysis - Liquidity and Capital Resources" under the
subheading "cash used in financing activities").
- 50 -
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
The following exhibits were included in the Registrant's Report on Form 10-K
filed on March 26, 1993, and are incorporated by reference herein:
Exhibit No. Description
- ----------- -----------
3.1 Amended and Restated Certificate of Incorporation of Arlington
Hospitality, Inc. (formerly Amerihost Properties, Inc.)
4.2 Specimen Common Stock Purchase Warrant for Employees
The following exhibits were included in the Registrant's Proxy Statement for
Annual Meeting of Shareholders filed on July 25, 1996, and are incorporated by
reference herein:
Exhibit No. Description
- ----------- -----------
10.2 1996 Omnibus Incentive Stock Plan (Annex A)
10.3 1996 Stock Option Plan for Nonemployee Directors (Annex B)
The following exhibit was included in the Registrant's Report on Form 10-K filed
March 30, 1999:
Exhibit No. Description
- ----------- -----------
10.5 Agreement of Purchase and Sale between PMC Commercial Trust and
Arlington Hospitality, Inc. (formerly Amerihost Properties,
Inc.), including exhibits thereto
The following exhibits were included in the Registrant's Report on Form 10-Q
filed November 7, 2000:
Exhibit No. Description
- ----------- -----------
10.10 Asset Purchase Agreement between Arlington Hospitality, Inc.
and AmeriHost Inn Franchising Systems, Inc. (a subsidiary of
Cendant Corporation)
10.11 Royalty Sharing Agreement between Arlington Hospitality, Inc. and
AmeriHost Inn Franchising Systems, Inc. (a subsidiary of Cendant
Corporation)
10.12 Development Agreement between Arlington Hospitality, Inc. and AmeriHost
Inn Franchising Systems, Inc. (a subsidiary of Cendant Corporation)
The following exhibits were included in the Registrant's Report on Form 10-Q
filed November 14, 2002:
Exhibit No. Description
- ----------- -----------
10.7 Form of Indemnification Agreement executed by independent directors
The following exhibits were included in the Registrant's Report on Form 8-K
filed December 19, 2002:
Exhibit No. Description
- ----------- -----------
10.13 Employment agreement between Arlington Hospitality, Inc. and Jerry H.
Herman dated December 19, 2002
The following exhibit was included in the Registrant's Report on Form 10-K filed
March 31, 2003:
Exhibit No. Description
- ----------- -----------
10.14 Line of credit agreement with LaSalle Bank, NA
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The following exhibits were included in the Registrant's Proxy Statement for
Annual Meeting of Shareholders filed on September 26, 2003, and are incorporated
by reference herein:
Exhibit No. Description
- ----------- -----------
3.2 Seventh Certificate of Amendment of Restated Certificate of
Incorporation of Arlington Hospitality, Inc., attached as
exhibit F
3.3 Eighth Certificate of Amendment of Restated Certificate of
Incorporation of Arlington Hospitality, Inc., attached as
exhibit G
10.15 2003 Non-Employee Director Restricted Stock Plan, attached as
exhibit D
10.16 2003 Long Term Incentive Plan, attached as exhibit E
The following exhibits were included in the Registrant's Report on Form 10-Q
filed November 14, 2003:
Exhibit No. Description
- ----------- -----------
3.4 By-laws of Arlington Hospitality, Inc. as revised on September 8, 2003
3.5 Amendment to By-laws of Arlington Hospitality, Inc. dated September 8, 2003
10.17 Employment agreement between Arlington Hospitality, Inc. and Stephen Miller dated July 25, 2003
10.18 Amendment to employment agreement between Arlington Hospitality, Inc. and Stephen Miller dated
September 10, 2003
10.19 Employment agreement between Arlington Hospitality, Inc. and James B. Dale dated January 12, 2001
and Amendment No. 1 thereto dated October 29, 2001.
10.20 Supplemental retention and performance agreement between Arlington Hospitality, Inc. and James B.
Dale dated December 1, 2002
10.21 Employment agreement between Arlington Hospitality, Inc. and Richard A. Gerhart dated July 1, 2002
10.22 Supplemental retention and performance agreement between Arlington Hospitality, Inc. and Richard
A. Gerhart dated December 1, 2002
The following exhibits were included in the Registrant's Report on Form 10-K
filed March 31, 2004:
Exhibit No. Description
- ----------- -----------
10.23 Amended and Restated Master Lease Agreement dated January 24, 2001
between Arlington Hospitality, Inc. and PMC Commercial Trust
10.24 Amended and Restated Loan and Security Agreement dated April 30, 2003
between Arlington Hospitality, Inc. and LaSalle Bank N.A.
21.1 Subsidiaries of the Registrant
The following exhibits are included in this Report on Form 10-Q filed May 17,
2004:
Exhibit No. Description
- ----------- -----------
10.25 Second Amendment to Amended and Restated Loan and Security Agreement
dated April 30, 2004 between Arlington Hospitality, Inc. and LaSalle
Bank. N.A.
31.1 Certification of Chief Executive Officer Pursuant to SEC Rules 13a-15(e)
and 15d-15(e), as adopted pursuant to Section 302 of the Sarbanes-Oxley
Act of 2002
31.2 Certification of Chief Financial Officer Pursuant to SEC Rules 13a-15(e)
and 15(d)-15(e), as adopted pursuant to Section 302 of the Sarbanes-Oxley
Act of 2002
32.1 Certification of Chief Executive Officer pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002
32.2 Certification of Chief Financial Officer pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
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Reports on Form 8-K:
The Company filed the following reports on Form 8-K during the three months
ended March 31, 2004:
Date Filed Description
- ---------- -----------
January 14, 2004 Press Release announcing December 2003 results and hotel sales
and development activity
February 24, 2004 Press release announcing January 2004 results and hotel sales and
development activity
February 27, 2004 Press release announcing discussions with hotel landlord and providing
an update with respect to the company's operating line of credit
March 17, 2004 Press release announcing temporary letter agreement with hotel landlord
and February 2004 results, hotel sales and development activities.
March 30, 2004 Press release announcing company to hold a fourth quarter and year end
2003 earnings conference call on April 1, 2004.
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SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
ARLINGTON HOSPITALITY, INC.
By: /s/ Jerry H. Herman
------------------------
Jerry H. Herman
Chief Executive Officer
By: /s/ James B. Dale
------------------------
James B. Dale
Chief Financial Officer
By: /s/ Keith P. Morris
------------------------
Keith P. Morris
Vice President Finance
May 17, 2004
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