FORM 10-Q

UNITED STATES SECURITIES AND EXCHANGE COMMISSION

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934

SHOLODGE, INC.

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 as 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 Exchange Act Rule 12b-2). Yes   [  ]   No   [X]

Indicate the number of shares outstanding of each of the registrant’s classes of common stock as of the latest practicable date.

As of May 28, 2004, there were 5,006,611 shares of ShoLodge, Inc. common stock outstanding.

Table of Contents

ShoLodge, Inc. and Subsidiaries
Consolidated Balance Sheets

(1)

Derived from fiscal year ended December 28, 2003 audited financial statements. See accompanying notes.

ShoLodge, Inc. and Subsidiaries
Consolidated Balance Sheets (continued)

(1)

Derived from fiscal year ended December 28, 2003 audited financial statements. See accompanying notes.

ShoLodge, Inc. and Subsidiaries
Consolidated Statements of Earnings (unaudited)

See accompanying notes.

ShoLodge, Inc. and Subsidiaries
Consolidated Statements of Cash Flows (unaudited)

See accompanying notes.

SHOLODGE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)

BASIS OF PRESENTATION

The accompanying unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States for complete financial statements.

In Management’s opinion, the information and amounts furnished in this report reflect all adjustments which are necessary for the fair presentation of the financial position and results of operations for the periods presented. All adjustments are of a normal and recurring nature. These financial statements should be read in conjunction with the Company’s Annual Report on Form 10-K for the fiscal year ended December 28, 2003.

The fiscal year consists of a 52/53 week year ending the last Sunday of the year. The Company’s fiscal quarters have 16, 12, 12, and 12 weeks in the first, second, third and fourth quarters, respectively, in each fiscal year. When the 53rd week occurs in a fiscal year, it is added to the fourth fiscal quarter, making it 13 weeks in length.

The Company has historically reported lower earnings in the first and fourth quarters of the year due to the seasonality of the Company’s business. The results of operations for the quarters ended April 18, 2004 and April 20, 2003 are not necessarily indicative of the operating results for the entire year.

Certain reclassifications have been made in the first quarter 2003 consolidated statement of earnings to conform to the classifications used in 2004. These reclassifications had no impact on net earnings (losses) as previously reported.

LEASE ABANDONMENT INCOME

The Company leased three hotels to Prime Hospitality Corp. (“Prime”) in July of 2000. In the first quarter of 2003, Prime abandoned the lease of the three hotels and the Company resumed operations of the hotels on April 5, 2003. Due to the terms of the lease agreement, the Company had recorded a liability and a deferred credit in July of 2000. Due to the lease abandonment by Prime in the first quarter of 2003, the remaining deferred amounts totaling $4,913,836 and $415,668 in cash received from Prime upon the abandonment, were recognized as lease abandonment income totaling $5,329,504 in the first quarter of 2003.

DISCONTINUED OPERATIONS

SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets, requires that long-lived assets to be disposed of by sale, including those of discontinued operations, be measured at the lower of carrying amount or fair value less cost to sell, whether reported in continuing operations or in discontinued operations. Discontinued operations do not include amounts for operating losses that have not yet been incurred.

Under SFAS No. 144, the reporting of discontinued operations includes all components of an entity with operations that can be distinguished from the rest of the entity and that will be eliminated from the ongoing operations of the entity in a disposal transaction. The Company reports as discontinued operations assets held for sale (as defined by SFAS 144) and assets sold in the current period. All results of these discontinued operations are included in a separate component of income on the consolidated statements of earnings under the heading, “operations of hotels disposed of and transferred, net of income taxes.”

The following table summarizes the results of operations for five properties transferred in the fourth quarter of 2002 and eleven properties sold or classified as held for sale, from the hotel operations segment for the quarters ended April 18, 2004 and April 20, 2003 (amounts in thousands):

The assets of the five properties transferred in the fourth quarter of 2002 and presented in the accompanying consolidated balance sheets as assets of hotels transferred under contractual agreements (notes receivable) are as follows at April 18, 2004 (one property) and December 28, 2003 (two properties) (amounts in thousands):

The assets and liabilities of the properties held for sale presented in the accompanying consolidated balance sheets are as follows (amounts in thousands):

EARNINGS (LOSS) PER SHARE

Earnings (loss) per share was computed by dividing net earnings (loss) by the weighted average number of common shares outstanding. The following table reconciles earnings (loss) and weighted average shares used in the earnings (loss) per share calculations for the fiscal quarters ended April 18, 2004, and April 20, 2003:

OPERATING SEGMENT INFORMATION

The Company’s significant operating segments are hotel operations, franchising, reservation and management services, and construction and development. None of the Company’s segments conduct foreign operations. Operating profit includes the operating revenues and expenses directly identifiable with the operating segment. Identifiable assets are those used directly in the operations of each segment. A summary of the Company’s operations by segment follows (in thousands of dollars):

CONTINGENCIES

The Company is a party to legal proceedings incidental to its business. In the opinion of management, any ultimate liability with respect to these actions will not materially affect the consolidated financial position or results of operations of the Company.

STOCK BASED COMPENSATION

The Company uses the intrinsic value method for valuing its awards of stock options and recording the related compensation expense, if any. This compensation expense is included in general and administrative expense. The Company has adopted the disclosure provisions of SFAS No. 148, Accounting for Stock-Based Compensation- Transition and Disclosure. The Company’s pro forma net (loss) earnings would not be materially different than reported net (loss) earnings in the sixteen weeks ended April 18, 2004 and April 20, 2003 under the fair value method.

RELATED PARTY TRANSACTIONS

The chairman and chief executive officer is personally involved in various real estate development activities. The Company’s wholly-owned construction and development subsidiary has from time to time provided services in connection with these activities. Revenues earned by the Company from these projects were $7,741,531 and $2,944,623 in the sixteen weeks ended April 18, 2004 and April 20, 2003, respectively. Construction contracts due from related parties were $27,404,061 and $22,668,784 at April 18, 2004 and December 28, 2003, respectively.

ShoLodge, Inc. and Subsidiaries
Management’s Discussion and Analysis of Financial
Condition and Results of Operations

Overview

          The Company develops, owns, operates and is the exclusive franchisor of Shoney’s Inns and GuestHouse Inns & Suites. In the second quarter of 2002, the Company acquired the exclusive franchise rights of the GuestHouse Inns & Suites hotel brand and announced its plan to convert the name of the Shoney’s Inns and Shoney’s Inns & Suites hotel chain to GuestHouse International Inns & Suites as soon as practical. As of April 18, 2004, the Shoney’s Inn/GuestHouse lodging system consisted of 82 properties containing 6,486 rooms of which one containing 98 rooms is owned by the Company. Shoney’s Inns and GuestHouse Inns & Suites are currently located in 20 states. As of April 18, 2004, the Company also owned and operated two AmeriSuites hotels.

     Except for three owned hotel properties which the Company intends to continue to operate at present, all of the Company’s remaining owned hotel properties are held for sale at April 18, 2004. The Company’s present strategy does not include the ownership of additional hotel properties.

     The Company also franchises and manages Shoney’s Inns and GuestHouse Inns & Suites, earning revenues from royalties, reservation services, and management services provided to the franchisees, and reservation services provided to other hotel chains and independent hotel operators. The Company also leases hotels and restaurants to others, earning rental income from these third party lessees. No hotels have been leased to others since April of 2003.

          Shoney’s Inns and GuestHouse Inns & Suites operate in the economy limited-service segment and are designed to appeal to both business and leisure travelers, with rooms usually priced between $45 and $85 per night. The typical property includes 60 to 120 rooms and, in most cases, meeting rooms. Although they do not offer full food service, most offer continental breakfast, and most of the inns are located adjacent or in close proximity to free-standing restaurants. Management believes that the location of the inns in close proximity to free-standing restaurants gives it a competitive advantage over many other limited-service lodging chains by offering guest services approximating those of full-service facilities without the additional capital expenditures, operating costs or higher room rates.

          A significant portion of the Company’s operations have been generated in recent years by contract revenues from construction and development of hotels and other real estate projects for related parties and, to a lesser extent, third parties. Revenues from these activities have varied widely from period to period, depending upon whether the Company’s construction and development activities were primarily focused on its own

facilities or on outside projects. Construction revenues are generally recognized on the percentage of completion basis, but construction and development for related parties are generally performed on a cost-plus basis.

     As of April 18, 2004, the Company owned three hotel properties held for sale. These three hotels are expected to be sold by the end of the second fiscal quarter.

     The Company has historically reported lower earnings in the first and fourth quarters of the year due to the seasonality of the Company’s business. The results of operations for the quarters ended April 18, 2004 and April 20, 2003 are not necessarily indicative of the operating results for the entire year.

Results of Operations

For the Fiscal Quarters Ended April 18, 2004 and April 20, 2003

     Total operating revenues for the quarter ended April 18, 2004, were $11.5 million, or 86.4% more than the total operating revenues of $6.2 million reported for the first quarter of 2003. The net increases were due to increases in hotel, franchising and reservation revenues, and construction and development revenues, partially offset by decreases in rent income.

     Revenues from hotel operations in the first fiscal quarter increased by $569,000, or 72.4%, to $1.4 million from the $787,000 reported for the same period last year. For the two hotels opened for all of both quarterly periods, an increase of 2.1% in average daily room rates, from $56.16 in the first quarter of 2003 to $57.35 in the first quarter of 2004, and an increase in average occupancy rates on these hotels from 50.3% to 55.8% this year, were the primary causes of an increase in same hotel revenues of 13.1% from $709,000 in the first quarter of 2003 to $802,000 in the first quarter of 2004. The Company owned and operated a total of three hotels included in continuing operations at the end of its first fiscal quarter of 2003 (one GuestHouse Inns & Suites and two AmeriSuites hotels). RevPAR (revenue per available room) for all three of these Company-owned hotels increased by 17.6% from $28.55 in the first quarter of 2003 to $33.58 in the first quarter of 2004.

     The revenue effects of the hotels transferred, sold and held for sale as of April 18, 2004 are reflected in discontinued operations.

     Franchising, reservation and management service revenues increased by $98,000, or 4.7%, in the first quarter of 2004 from the first quarter of 2003. Initial and termination franchise fees decreased by $75,000, royalty fees decreased by $59,000, and reservation fees increased by $240,000 from the first quarter of last year. Initial franchise and termination fee revenue varies from quarter to quarter depending on the level of franchise sales activities and terminations. As of April 18, 2004, a total of 941 lodging facilities

were served by the Company’s reservation center as compared with 685 lodging facilities at April 20, 2003. Management fees decreased by $8,000 from the first quarter of 2003.

     Revenues from construction and development activities were $7.9 million in the first quarter of 2004, versus $3.0 million in the first quarter of 2003. These revenues include $7.7 million in the first quarter of 2004 and $2.9 million in the first quarter of 2003 earned from entities controlled by the Company’s chief executive officer. Revenues from construction and development can vary widely from period to period depending upon the volume of outside contract work and the timing of those projects. The events of September 11, 2001, have had a significantly negative impact on the Company’s construction and development opportunities in the first quarter of both 2004 and 2003.

     Rent income in the first quarter of 2004 decreased by $317,000, to $10,000, from $327,000, in the first quarter of 2003. The primary source of rent income was from the lease of three AmeriSuites hotels which were being operated by Prime Hospitality Corp. until April of 2003 when Prime abandoned the lease, at which time the Company took back the operations of these three properties. Two of these three AmeriSuites hotels are held for sale and the rent associated with these two hotels is included in discontinued operations. The decrease in the first quarter rent income was due to Prime’s abandonment of the lease of the hotel included in continuing operations and the sale of some restaurants to the lessees in 2003.

     Operating expenses from hotel operations of the three Company-owned hotels included in continuing operations for the first quarter of 2004 increased by $455,000, or 80.4%, from $565,000 in the first quarter of 2003. The operating expenses as a percentage of operating revenues for this activity increased from 71.9% in the first quarter of 2003 to 75.2% in the first quarter of 2004, reducing gross operating profit margin from 28.1% in the first quarter of 2003 to 24.8% in the first quarter of 2004. This was due primarily to increased insurance and advertising and sales expenses as a percentage of revenues in the first quarter of 2004 over the first quarter of 2003.

     Franchising, reservation and management service operating expenses increased by $40,000, or 2.4%, from the first quarter of 2003 to the first quarter of 2004. The increases were primarily in reservation center expenses incurred in order to support the additional revenues earned from services provided to additional chains and independent hotel properties since the first quarter of 2003, and to expenses related to the franchising of GuestHouse Inns & Suites.

     Construction and development costs in the first quarter of 2004 and 2003 were $6.6 million and $3.4 million, respectively, on construction contracts in progress during those quarters.

     Rent expense decreased by $6,000 in the first quarter of this year from last year’s first quarter. The Company leased only one hotel property in both years.

     General and administrative expenses decreased by $600,000, or 29.6%, from the first quarter of 2003. The decreases were due primarily to decreases in legal and professional fees and reduced administrative expenses related to the sale of hotel properties.

     Depreciation and amortization expense decreased by $24,000, or 4.4%, from the first quarter of 2003.

     In the first quarter of 2004, the Company wrote off $84,000 of accounts receivable deemed to be of doubtful collectibility and wrote down a first mortgage note receivable by $148,000 due to the sale on April 21, 2004, of the underlying property at less than the carrying value of the note receivable. In the first quarter of 2003, the Company wrote off $6,000 of pre-development costs, $16,000 of construction contracts receivable, and $13,000 of accounts receivable deemed to be of doubtful collectibility.

     In the first quarter of 2004, the Company recorded a gain on sale of property of $3,000 which had been previously deferred. The gain of $595,000 recognized on sale of property in the first quarter of 2003 was primarily from the sale of a restaurant to the lessee and the recognition of previously deferred gains on the sale of a hotel and two restaurants. The deferred gain on a hotel sold in 2002 was recognized in full in the first quarter of 2003 due to the collection in full of the seller-financed note.

     Pursuant to a plan adopted in 1999 to repurchase a portion of the Company’s outstanding subordinated indebtedness in the open market and in negotiated transactions, the Company repurchased $644,000 of its 7.50% subordinated debentures in the first quarter of 2003 at a discount, and also repurchased $739,000 of its outstanding senior subordinated notes at a discount, recognizing a gain of $283,000 on these transactions in the first quarter of 2003. The Company adopted Statement of Financial Accounting Standards No. 145 at the beginning of fiscal 2002. Accordingly, gains and losses from debt extinguishments are no longer classified in the statement of earnings as extraordinary items. See further discussion in “Liquidity and Capital Resources” below.

     Interest expense decreased by $1.1 million, or 37.4%, while interest income decreased by $882,000, or 93.8%, from the first quarter of 2003. The decrease in interest expense was due primarily to the termination of the Company’s bank credit facilities in 2003 and the payoff of other indebtedness in 2003, primarily from the proceeds of the sale of hotel properties. Interest income decreased due to the elimination of first mortgage notes receivable by taking the underlying hotel properties by deeds in lieu of foreclosure and selling them for cash, and to the collection of two seller-financed notes receivable which were refinanced by the borrowers in the first quarter of 2003.

     The Company leased three hotels to Prime in July of 2000. In the first quarter of 2003, Prime abandoned the lease of the three hotels and the Company resumed operations of the hotels on April 5, 2003. Due to the terms of the lease agreement, the Company had recorded a liability and a deferred credit in July of 2000. Due to the lease abandonment

by Prime in the first quarter of 2003, the remaining deferred amounts totaling $4.9 million, and $416,000 in cash received from Prime upon the abandonment, were recognized as lease abandonment income totaling $5.3 million in the first quarter of 2003.

     The zero effective tax rate in the first quarter of 2003 is due to the utilization of net operating loss carry-forwards that had previously been fully reserved.

     Discontinued operations resulted from 16 hotels sold, transferred, and/or reclassified to hotels held for sale in 2002 and 2003. The effect of these hotels’ operations, the gain or loss on the sale and transfer of the hotels, and the impairment of the hotels classified as held for sale, have been removed from operating earnings in accordance with Statement of Financial Accounting Standards No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets.

Liquidity and Capital Resources

     The Company’s cash flows used in operating activities were $6.7 million in the first quarter of 2004, compared with $947,000 used in operating activities in the first quarter of 2003.

     The Company’s cash flows provided by investing activities were $6.2 million in the first quarter of 2004, compared with $23.9 million for the comparable period in 2003. The Company’s capital expenditures are principally for the purchase of equipment and leasehold improvements. Capital expenditures for such purposes were $96,000 in the first quarter of 2004 and $164,000 in the first quarter of 2003. Proceeds from the sale of property and leasehold interests were $92,000 in the first quarter of 2004 versus $7.5 million for the comparable period in 2003. The Company received $6.7 million from the collection of notes receivable in the first quarter of 2004 and $17.3 million in the first quarter of 2003. The Company invested $490,000 and $1.1 million in other assets in the first quarter of 2004 and 2003, respectively.

     Net cash used in financing activities was $136,000 in the first quarter of 2004 compared with $7.4 million in the first quarter of 2003. Repayments, net of borrowings, on long-term debt obligations were $186,000 in the first quarter of 2004 versus $8.1 million in the first quarter of 2003. The repayments in the first quarter of 2003 include $1.4 million of long-term debt repurchased in the open market or in privately negotiated transactions.

     The Company established a three-year credit facility with a financial institution effective August 27, 1999. An amendment to the credit facility became effective October 3, 2001, which, among other changes, extended the maturity to September 30, 2004. A second amendment to the credit facility became effective November 26, 2002, which, among other changes, added real property collateral for the purpose of increasing the borrowing base. The credit facility was for $30 million (a $10 million term loan and a $20 million revolving line of credit), secured by a pledge of certain promissory notes payable to the

Company received in connection with the sale of 16 of the Company’s lodging facilities in the third quarter of 1998 and real property collateral (one hotel) added in 2002 by the second amendment. The borrowing base was the lower of (a) 85% of the outstanding principal amount of the pledged notes, (b) 65% of the appraised market value of the underlying real property collateral securing the pledged notes and of the real property collateral, (c) a multiple of the trailing twelve months’ net operating income of the real property collateral and of the underlying properties securing the pledged notes serving as collateral, or (d) $30 million. Effective October 3, 2001, the interest rate on the term loan was at the lender’s base rate plus 100 basis points, and the interest rate on the revolving line of credit was at the lender’s base rate plus 250 points, with a floor of 7.00% on both portions of the facility. The Company was to pay commitment fees on the unused portion of the facility at .50% per annum. The credit facility also contained covenants which limited or prohibited the incurring of certain additional indebtedness in excess of a specified debt to total capital ratio, prohibited additional liens on the collateral, restricted mergers and the payment of dividends and restricted the Company’s ability to place liens on unencumbered assets. The credit facility contained financial covenants as to the Company’s minimum net worth. In the fourth quarter of 2003, the Company decided that the credit facility no longer served the Company’s needs, terminated the facility, and has received all of its collateral back from the financial institution. On January 6, 2004, the Company filed a complaint against the financial institution for its breach of the loan agreement, claiming damages to the Company in excess of $25 million

     The Company also maintained a $1.0 million unsecured line of credit with another bank, bearing interest at the lender’s prime rate, maturing May 31, 2003. This line of credit was paid off in the first quarter of 2003 and was not renewed.

     The Company also has a loan secured by its corporate aircraft with a balance of $5.1 million as of April 18, 2004. This loan currently bears interest at 8.19% per annum and is amortized to its maturity of December 29, 2010. The interest rate was fixed for the first five years ending January 1, 2006, and is adjustable to a new rate for the second five years of the 10-year term equal to 325 basis points over 5-year Treasury rates.

     The Company’s outstanding 7.50% Convertible Subordinated Debentures in the face amount of $10.8 million matured and were paid on May 3, 2004, subsequent to the end of the Company’s first fiscal quarter. Its outstanding Series A and Series A-1 Senior Subordinated Notes in the face amount of $22.2 million mature in November of 2006 and its Series B and Series B-1 Senior Subordinated Notes in the face amount of $16.4 million mature in September of 2007.

     The Company’s Board of Directors has previously authorized the use of up to $23.0 million for the repurchase of shares of the Company’s common stock. The purchases, including block purchases, are to be made from time to time in the open market at prevailing market prices, or in privately negotiated transactions at the Company’s discretion. No time limit has been placed on the duration of the stock repurchase plan, and the Company may discontinue the plan at any time. As of the end of

the first fiscal quarter of 2004, approximately 3.7 million shares had been repurchased at a cost of $20.9 million.

     The Company is investigating various alternatives to maximize shareholder value. These alternatives could include, without limitation, the franchising and operation of additional GuestHouse Inns & Suites, a sale of the remaining Company-owned hotels, negotiating new credit arrangements, developing hotels for other owners, the repurchase of additional shares of the Company’s common stock or outstanding debt securities, or any combination of these or other strategies. The Company believes that a combination of existing cash, proceeds from the sale of properties, the collection of notes receivable, and net cash provided by operations, will be sufficient to fund its capital expenditures, stock repurchase plan, debt repayments and operations for at least the next twelve months.

Market Risk

     There have been no material changes in the Company’s exposure to market risk in the first fiscal quarter ended April 18, 2004.

Forward-looking Statement Disclaimer

     The statements appearing in this report which are not historical facts are forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, and are subject to risks and uncertainties that could cause actual results to differ materially from those set forth in the forward-looking statements, including delays in concluding or the inability to conclude transactions, the establishment of competing facilities and services, cancellation of leases or contracts, changes in applicable laws and regulation, in margins, demand fluctuations, access to debt or equity financing, adverse uninsured determinations in existing or future litigation or regulatory proceedings and other risks.

PART I

Item 4. Controls and Procedures

(a)

As of April 18, 2004, we carried out an evaluation, under the supervision and with the participation of our management, including our principal executive officer and our principal financial officer, of the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rules 13a-14(c) and 15d-14(c) under the Securities Exchange Act of 1934). Based upon that evaluation, our management, including our principal executive officer and our principal financial officer, concluded that the design and operation of these disclosure controls and procedures were effective to timely alert them to any material information relating to

			the company (including its consolidated subsidiaries) that must be included in our periodic SEC filings.
	(b)		There have been no significant changes in our internal controls or in other factors that could significantly affect internal controls subsequent to the date we carried out this evaluation.

PART II — OTHER INFORMATION

Item 1. No material developments occurred during the first quarter ended April 18, 2004 with respect to any pending litigation.

Item 4. Submission of Matters to a vote of Security Holders

     Not applicable

Item 6. Exhibits and Reports on Form 8-K

     6(a) Exhibits -

          Exhibit 31.1 — Certifications required by Section 302 of the Sarbanes-Oxley Act of 2002.

          Exhibit 32.1 – Certifications required by Section 906 of the Sarbanes-Oxley Act of 2002.

     6(b) Reports on Form 8-K

          A Form 8-K was filed on April 13, 2004 containing a copy of the Company’s press release announcing the financial results for the fourth quarter and fiscal year ended December 28, 2003

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.