Chatham Lodging Trust (CLDT) Q2 2012 Earnings Report, Transcript and Summary

Welcome to the Chatham Lodging Trust's Second Quarter Earnings Conference Call. [Operator instructions] I would like to remind everyone that this conference call is being recorded today, Tuesday, August 7, 2012, at 10:00 a.m. Eastern Time. I will now turn the conference over to Mr. Jerry Daly of Daly Gray Public Relations. Please go ahead, sir.

Thank you, Ron, and good morning, everyone, and welcome to the Chatham Lodging Trust Second Quarter 2012 Results Conference Call. Yesterday, after the close of the market, Chatham released results for the second quarter ended June 30, 2012, and I hope you had a chance to review the press release. If you did not receive a copy of the release or you would like a copy, please call my office at 703-435-6293 and we'll be happy to e-mail one to you or you may view the release online at Chatham's website www.chathamlodgingtrust.com. Today's conference call is being transmitted live via telephone and by webcast over Chatham's website and at streetevents.com. A recording of the call will be available by telephone until midnight on Tuesday, August 14, 2012, by dialing 1-800-406-7325 with a reference number of 4552955. A replay of the conference call will be posted on Chatham's website. As a reminder, this conference call is the property of Chatham Lodging Trust and any redistribution, retransmission or rebroadcast of this call in any form without the express written consent of Chatham is prohibited. Before we begin, management has asked me to remind you that in keeping with the SEC Safe Harbor guidelines, today's conference call may contain forward-looking statements about Chatham Lodging Trust, including statements regarding future operating results and the timing and composition of revenues, among others. Except for historical information, these forward-looking statements are subject to certain risks and uncertainties that could cause actual results to differ materially, including the volatility of the national economy, economic conditions generally and the hotel and real estate markets, specifically. International and geo-political difficulties or health concerns, government actions, legislative and regulatory changes, availability of debt and equity capital, interest rates, competition, weather conditions or natural disasters, supply and demand for lodging facilities in our current and proposed market areas and the company's ability to manage integration and growth. Additional risks are discussed in the company's filings with the Securities and Exchange Commission. All information in this call is as of August 6, 2012 unless otherwise noted and the company undertakes no obligation to update any forward-looking statement to conform the statement to actual results or changes in the company's expectations. During this call we may refer to certain non-GAAP financial measures such as EBITDA and adjusted EBITDA, which we believe to be common in the industry and helpful indicators of our performance. In keeping with SEC regulations, we have provided and encourage you to refer to the reconciliation of these measures, the GAAP results and our earnings release. Now to provide you with some insights into Chatham's 2012 second quarter results, I'd like to introduce Jeff Fisher, Chairman, President and Chief Executive Officer, and Dennis Craven, Executive Vice President and Chief Financial Officer. Jeff?

Thanks, Jerry. Good morning, everyone. We're certainly glad to be here again and talk to you about our second quarter results. We started the second quarter announcing a 14% increase in our annual dividend based on the confidence of our business model, our expectation for a strong 2012 and a very encouraging outlook for the next couple of years based on favorable supply and demand fundamentals in our industry. We finished the quarter producing continued strong results generating adjusted FFO per share of $0.43, in line with consensus and up 79% year-over-year. Results were driven by hotel RevPAR growth of 7.6% at our comparable hotels and continued improving operating margins. As you probably know, our business plan is to build a high quality portfolio of premium branded, select service and upscale extended-stay hotels in great markets with high barriers to entry that will provide industry leading cash flow and dividends with strong revenue and EBITDA growth going forward. The investments we've made with our 18 wholly owned hotels, as well as our investment in the JV with Cerberus in the Innkeeper's portfolio represent our strategy and our performance has been right in line with our plan. The joint venture investment is producing upper teen level cash-on-cash returns within this first year of closing that transaction. We are all very pleased with that investment and the results that we're seeing there. Dennis will give you more color on those shortly. As I said, we've worked on building a well diversified portfolio that produces industry leading cash flow and dividends. The cash flow is the result of strong margins and our premium RevPAR. As a matter of fact, our overall RevPAR on an absolute basis is among the highest of all lodging REITs. We know from our experience at Innkeeper's and looking at the REIT index over the last 20 years that its dividends that drive total returns over time and our dividend is strong. Our cash flow is growing and our dividends will grow over time. Getting back to our second quarter results, we generated adjusted FFO per share, as I said, of $0.43, almost double the adjusted FFO per share in the second quarter of 2011. The FFO growth is attributable to the Innkeeper's acquisitions we made last year, as well as healthy improvement in our original 13 hotels. We made these investments at the right price and with appropriate leverage, the returns are strong. Looking at our RevPAR growth of 7.6%, for the first time I'm pleased to report that ADR growth comprised a larger component than occupancy growth with ADR up 4.1% to $131 and occupancy up 3.4% to 85%. With our market occupancies in the competitive sets of our 18 hotels growing and now approaching 73% for the year, our ability to drive rate continues to improve which ultimately will drive our already strong margins even higher and we are nowhere near peak margins as of today. Second quarter hotel EBITDA margins were 41.63%, up 170 basis points for the quarter. With rates growing, our operating model is very efficient at driving revenue growth to the bottom line and we should continue to see that in our portfolio. We refer to this as operating leverage and it's very powerful in the select service model that we're in. In the second quarter we were able to drive an increase in comparable hotel EBITDA of 10.8% for the 18 hotels on RevPAR growth of 6.9%. This equates to a 1.6 times flow-through multiple for the quarter. Look at the six months, year-to-date, numbers for the six months ended June 30, hotel EBITDA is up 18.3% on RevPAR growth of 9.4%. A very strong flow-through multiple of 1.9% and I appreciate the efforts of our operators very much in that regard. As the cycle matures and as a larger component of the RevPAR increase will driven by ADR increases, our ability generate excess cash flow and increase our dividends increases. I want to shift gears for a minute and talk about the joint venture. Not only does the joint venture provide us with many strategic advantages, but the performance within the JV has been excellent and the investment returns have been great. The asset sales are progressing as planned and proceeds are within the range we expected when we closed the transaction in the 2011 fourth quarter. On the operations side, RevPAR growth was 11.6% in the JV for the quarter and up 10.7% year-to-date. Very pleased with those results, needless to say. Hotel EBITDA margins were up 370 basis points in the quarter and for the year are up 400 basis points to almost 37%. I recall in that portfolio, in the Innkeeper's portfolio, peak EBITDA margins were in the mid 40s, so there is still strong room for growth there in that portfolio. Before I turn it over to Dennis, we mentioned on our last call that we mutually agreed to transition the management of the six hotels operated by Hilton to Island Hospitality. As of today, management of all six hotels has been moved to Island and Island is managing these hotels under the same general fee structure as Hilton with base fees of 2%. Five hotels transitioned during the 2012 second quarter and RevPAR growth at those five hotels was 13.1% during the second quarter. So the transition is not negatively impacting performance. If anything, we look forward to further enhancement as Island gets their arms around those deals. With that, I'd like to turn it over to Dennis for more details.

Thanks, Jeff, and thanks everyone for participating in the call. For the quarter we reported net income of $1.1 million or $0.08 a diluted share compared to a net loss of $1.9 million, a $0.14 per share in the 2011 second quarter. Included in our net income was $0.7 million related to our share of earnings or the joint venture for the quarter. Additionally, non-cash charges for depreciation and amortization were $4.1 million in the quarter compared to $3.8 million in the 2011 second quarter. Since this is the second quarter we've seen, I do want to reiterate that we have a new line items within our revenue and expenses on our income statement, which is titled "cost reimbursements from unconsolidated real estate entities." It's merely line items that are shown to present on a gross basis the cost that are reimbursed to Chatham for employees of Chatham who have performed work for the joint venture as Chatham's role is managing member of the JV. These items completely offset and have no impact on net income, EBITDA or FFO. First quarter RevPAR was up 7.6% in our 17 comparable hotels. Late in the first quarter we had a small fire in one of our rooms at a White Plains Hotel that took 43 rooms or almost a third of the hotel out of service for approximately one month of the quarter. The water damage began up on one of the upper floors of the hotel and, basically, moved down that same tower of rooms and caused, obviously, the significant damage. Including the hotel in our 18-hotel portfolio our RevPAR was up 6.9% for the 2012 second quarter. As Jeff alluded to earlier, more than half of our RevPAR growth was attributed to rate increases as opposed to occupancy. We expect this is a trend that will continue for the balance of the year and as we move forward into 2013. Newly renovated with no rooms out of service, we are continuing to improve our market share with our RevPAR index up over 5% for the year. The acquisitions we made in the third and fourth quarters of 2011 have propelled the company's earnings power to a new level. Adjusted EBITDA almost tripled for the quarter to $11.9 million from $4.3 million in 2011. Importantly, our operating margins continued to grow, up 170 basis points in the quarter. The margins reflect pro forma adjustments to account for Hilton's reclassification of guest reward reimbursements. Previously, these reimbursements were an expense credit. Now they're included in revenue. Even without these adjustments, our margins grew year-over-year by 70 basis points. Our industry-leading margins have continued to improve as REIT accounts for the better part of RevPAR growth in the near future. Adjusted FFO almost doubled to $5.9 million from $3.3 million in 2011 on a per share basis, adjusted FFO advanced to $0.43 a share from $0.24 a share in 2011. The mid-point of the guidance that we provided for the quarter on our last earnings call. Although RevPAR was at the lower end of the range, our margin performance was slightly ahead of our expectations and, therefore, we had stronger flow-through, which enhanced our earnings. Jeff already provided key operating performance data for the joint venture, but to provide a little color on the composition of the joint venture during the second quarter we sold five hotels for a total proceeds of $51 million. We subsequently sold one additional hotel in the third quarter to date. The original joint venture investment was $37 million and through June we had received distributions of $19.2 million or 52% of our original investment within eight months of closing the joint venture. Of these distributions, we received approximately $12 million from the financing in the first quarters, $4 million from net proceeds of asset sales and $3 million from cash flow. Distributions to date have been used to repay a portion of our line of credit. Within the joint venture we have six other non-core hotels listed for sale, four of which are under executed purchase and sale agreements with the remaining two hotels under various stages of agreement. The net proceeds on the remaining six hotels, after repayment of debt, we expect will be approximately $10 million to $12 million, which will be distributed to the partners on a pro rata basis. We expect those sales to close within 2012. After those proceeds are distributed, we expect Chatham's net investment into joint venture to be approximately $16 million and with a net investment of $16 million in expected FFO of $3 million to $4 million from the joint venture, the returns, as you can tell, have been outstanding. From the balance sheet side, we closed the quarter with total assets of approximately $440 million and including the assets of the joint venture, approximately $550 million. Net debt was $206 million at June 30, comprised of debt of $214 million at an average rate of 5.8% and approximately $8 million of cash. Included in debt outstanding is $53 million on an $85 million line of credit and our ratio of net debt to investment in hotels at cost, including investment in the joint venture was 47%. When you include the net debt of $286 million and assets of $550 million within the joint venture, our leverage is 53%. During the quarter we were able to pay down almost $9 million of debt outstanding on our line of credit. As we continue pay down our line, the proceeds from asset sales within the joint venture and free cash flow, from within the joint venture as well as within Chatham, we have some capacity to potentially make an acquisition or investment. We have been evaluating acquisition opportunities and will consider recycling some of our capital through the disposition of assets if the pricing is warranted to invest in real estate investments that will generate incremental returns without raising equity. From a CapEx perspective, we still plan to begin our renovations on the Residence Inns in New Rochelle, New York and in Anaheim, California later this year and to date in 2012 we spent approximately $1.1 million on non-renovation related capital items, which is pretty much in line with our plan for 2012. Additionally, we've identified an opportunity to add three rooms to our New Rochelle Residence Inn and one room to our White Plains Residence Inn through the conversion of existing space within the hotel. Given the high occupancy performance of these hotels, we expect these additions to pay for themselves many times over and expect them to be completed by the end of the year. With respect to our guidance, we provided initial guidance for the 2012 third quarter within the release and amended slightly our full year guidance to reduce the upper end of our adjusted FFO and FFO per share based on the second quarter performance and more modest RevPAR projections for the balance of the year. With RevPAR growth of over 10% for the first half of the year, the second half growth is more modest with third quarter slightly stronger than the fourth quarter In our fourth quarter we project growth of between 4% and 6% as disruption at two hotel scheduled for renovations a bit higher than we had originally forecast and we had some difficult occupancy comps at our White Plains and DC hotels. For example, at White Plains our occupancy was almost 95% in October and November of 2011 and at our DC hotel occupancy in November, December 2011 was unseasonably high. Our guidance assumes no macro-economic factors that are out there that are unknown at this point in time, which could have a negative effect on the industry. From a capital perspective we expect remaining capital spend in 2012 to be approximately $4 million to $5 million. Operator, that concludes our remarks at this time and we'll turn it over to you for questions.

[Operator instructions] Your first question comes from Patrick Scholes from SunTrust Robinson Humphrey.

Just 2 questions here. I saw that you took down the forecast for RevPAR slightly, but you didn't for the dollar amount of RevPAR is unchanged. Is that just having to do with how you're calculating the comp set in there? And, basically, why isn't the dollar amount unchanged?

Patrick, that's really just rounding within those numbers. I mean it’s less than a buck, it's less than $0.50, so it's more rounding.

Okay. And then, on these renovations, you mentioned you have two coming up that may be material, can you give us more color, exactly what the scope and the extent of these renovations, as well as timing?

Both renovations, your Anaheim Garden Grove renovation is a six-year renovation requirement, which is basically everything within the lobby in the rooms, soft goods, design package, you name it. Within the New Rochelle hotel, it's actually a 12-year renovation requirement. So it's a little more inclusive of items within the room that you have to replace, but they're full public space and room adjustments.

When we look at last year's number, Patrick, one of the key metrics in this portfolio, obviously, is the occupancy rate. So 85% in the second quarter, New Rochelle, for example, ran, I just looked, 87% in November last year, 82%, believe it or not, in December. So, we get disproportionately affected, I think, sometimes by some of these renovations because these hotels run such high occupancy rates.

[Operator instructions] Your next question comes from Whitney Stevenson from JMP Securities. Please go ahead.

I just have a quick question on the margins. Regarding the comment about the margins nowhere near their peak, I see they're up 170 basis points in the quarter. Can you just provide any comments on what we might be able to expect for the back half of the year?

Hey, Whitney, this is Dennis. I think when we look at both the Chatham 18-owned hotels and the joint venture hotels, I think you can expect that the EBITDA margins on a peak, especially within the joint venture, were mid 40s. I think you can assume that there's going to be mid 40s and probably slightly a little bit higher for the Chatham 18 hotel portfolio because what you'll see in the Chatham 18 portfolio is if the actual RevPAR for the hotels is a little bit higher than what we had in the joint venture. So the upside there is a little bit larger. So you're going to expect more from the upper range of the 40s from a margin perspective compared to the joint venture.

When I was referring to the mid-40 EBITDA range for the Innkeeper's portfolio, again, we're looking out over the next couple of years for that kind of margin growth. Certainly, don't expect that kind of growth in the six- to nine-month period of time or something like that.

Your next question comes from Nikhil Bhalla from FBR.

And you may have addressed this a little bit earlier and I apologize as I'm entering the call a little late, are you guys thinking about selling some assets and, if so, what may we expect on that? Thank you.

We are looking at one particular hotel that we had, frankly, been approached on by a few different folks and, therefore, working on that opportunity to sell that hotel and, as we said during our comments, really recycle some capital, generate a pretty significant profit from what we paid for the hotel and use that to buy probably two hotels and grow the FFO, doing all that without raising any equity makes us pretty happy. But there is nothing signed, I want to make it clear, nor imminent in the next month or two is something that will take us a little bit time. Hopefully, we'll get it done.

Got it. And as you look at that asset and maybe the implied cap rate on whatever price you might be able to get on it, any color that you may be able to provide us? Thank you.

Well, the only thing I'll tell you is that this is going to be a hotel that's having a change of use and the beauty of owning these kind of hotels, meaning upscale extended stay hotels, is that in some case, not all, they have been snapped up by residential real estate guys at multiples for hotel guys that make no sense and that's what we're looking at here.

So, it's kind of a redevelopment deal almost.

Correct.

Okay. And one more follow-up question, just with the -- there's been a lot of talk about government per diem rates going down over the next year as when they're released. What's your sense? I mean is this something that maybe benefits the upscale segment in some ways just because you may have some of our demand drive down to the space?

Well, I think you could look at it from both perspectives. You absolutely may have some trade down. On the other hand, I don't think it's good for lodging generally and we do have in our hotels plenty of government business. So, depending on the hotel and the market, that's not something I think anybody's looking forward to.

[Operator instructions] There are no further questions at this time. Please continue.

Well, I appreciate again everybody being on the call and I actually enjoyed the questions we got this time because last time we didn't. But, nonetheless, we are here for your calls and your questions and, again, we are pleased and I hope you are with our results. We look forward to finishing out this year in a strong manner and moving forward in recycling some capital and growing our FFO and continuing to grow our dividend. Thank you.

Ladies and gentlemen, this concludes the conference call for today. Thanks for your participation, you may now disconnect your lines.