Welcome to the DiamondRock's Third Quarter 2020 Earnings Call. I will now hand the call over to Ms. Briony Quinn. Please go ahead.

Thank you, Tiffany. Good morning, everyone. Welcome to DiamondRock's Third Quarter 2020 Earnings Call. Before we begin, let me remind everyone that many of the comments made on this call are considered forward-looking statements and not historical fact. As described in our filings with the SEC, these statements are subject to numerous risks and uncertainties that could cause future results to differ materially from those implied by our comments today. In addition, on today's call, we will discuss certain non-GAAP financial information. A reconciliation of this information to the most directly comparable GAAP financial measure can be found in our earnings press release. With that, I am pleased to turn the call over to Mark Brugger, our President and Chief Executive Officer.

Good morning, and thank you for your interest in DiamondRock. Since our last earnings call, we have made outstanding progress on multiple fronts. I'll highlight just 4. First, we increased our total liquidity and decreased our total debt through a successful preferred equity offering. Second, we reduced our monthly burn rate, significantly beating our prior expectations. Third, we reopened 5 additional hotels. And fourth, we struck a sweeping deal with Marriott that not only increased the NAV of our portfolio by $50 million but distinguishes DiamondRock's portfolio as the least encumbered by long-term management agreements among all full-service public lodging REITs. Now while we have made good progress and remain optimistic about the future of travel, the pandemic we are living through has obviously created tremendous dislocation in near-term demand. In the third quarter, there were some encouraging early signs of a recovery in travel demand. The relative bright spot has been in leisure travel, which, of course, is elective travel. Guests have been checking into the drive-to resorts DiamondRock is known for. In contrast, business travel and group business demand has only marginally improved and is likely to remain very constrained until there is a health care solution, such as a vaccine, effective therapy or a massive national testing program. Interestingly, we are seeing signs of pent-up demand, so we believe there is a chance for a meaningful snapback on the other side of the health care solution. Personally, this is my fourth downturn. And we know how to manage through these environments. That experience is why DiamondRock has always embraced a low leverage and conservative balance sheet strategy. We currently have more than enough liquidity to carry the company until such time as we are cash flow positive once again. History shows that travel demand always eventually surpasses…

Thanks, Mark. Let me start by talking about our liquidity. We improved our liquidity in the quarter by nearly $71 million as a result of a successful preferred offering -- preferred equity offering. At the end of the third quarter, we had approximately $435 million of total liquidity, including corporate-level cash, hotel-level cash and undrawn revolver capacity. I'm pleased to report we are beating our original estimates for monthly cash burn rates, and we continue to make significant gains. Before CapEx, our average monthly burn rate in the third quarter pro forma for the preferred dividend was $14.7 million. This was 14% better than the $16.8 million estimated in our early September investor presentation on a comparable basis. Let me walk through the sources of the $2 million improvement. The net operating loss at the corporate NOI level was $10 million per month in the quarter as compared to our earlier estimate of $11.5 million, a $1.5 million per month improvement, owing, among other reasons, to improving top line, strict cost controls and the decision to reopen additional hotels. Debt service was $4.1 million per month in the quarter as compared to a prior estimate of $4.5 million. The $300,000 to $400,000 per month savings is a result of forbearance that will reverse in the coming months. The straight-line capital expenditure budget in both cases is $3 million per month. Including CapEx, our total company burn rate was $17.7 million during the quarter and implies a cash runway through late 2022. As Mark mentioned at the start of the call, we strongly believe that we have more than enough liquidity to carry us through to a point where we are cash flow positive, and that is why we took the step of issuing preferred equity last quarter so that we…

Before we take your questions, I wanted to make a few comments about 2 events we announced in the quarter and conclude with our perspective on the future. In late August, we announced a sweeping transaction with Marriott International that has several features. Let me hit the highlights of that deal. Most significantly, we converted 5 of our managed hotel contracts to franchise agreements. These conversions were completed in September, and we have engaged a variety of leading third-party managers that are uniquely suited to each asset. In addition to the 50 to 100 basis point improvement in residual cap rate for the 5 hotels that generally inures to franchise properties, we believe the change will produce approximately $2 million of incremental profit on stabilized cash flows. We have already started reaping benefits from the change as we consolidated finance and management roles in Alpharetta, Denver, Sonoma and Charleston that will yield almost $400,000 of annual savings. The second biggest value creator from the deal is a new franchise agreement to upbrand the Vail Marriott resort to a luxury collection brand upon completion of the renovation next year. As you'll recall, we had undertaken the renovation of this hotel to a luxury standard over the past few years, and the lobby renovation next year is the final phase. We expect to be done in late 2021 in time for the ski season. Consistent with prior expectations, we estimate this repositioning at Vail could result in $3 million of incremental EBITDA given the significant rate differential that exists today between the resort as a Marriott and the luxury competitive set. The third benefit of the deal is that we have the right, but not the obligation, to convert the JW Marriott Cherry Creek to a Luxury Collection brand with a small…

[Operator Instructions] Our first question is from Rich Hightower with Evercore.

So a couple of questions here. I was -- Mark, I was intrigued by the additional comment that you might be looking for a joint venture partner for Frenchman's. And I guess in the same context of not wanting to issue common equity at current prices, you're still giving -- you would still sensibly be giving up some equity in the project that's worth something, and there's a cost obviously associated with that new capital. And so just help us understand maybe the cost of that equity contribution, the dollars that you're envisioning. Would you take on project-level debt, just some of the contours of what a deal might look like there?

Sure, Rich. I would say our thought right now is that we'll engage an adviser or broker over the next year and go out and seek a joint venture partner, which would essentially use their capital to fund the balance of the construction of the redevelopment and then share in the economics of the deal. That's kind of our, I'll call it, Plan A now. I think it could take a variety of structures and shapes. So it's probably premature to kind of speculate exactly what that will look like. But our thought is it probably makes more sense to use someone else's capital for the reconstruction, that will be debt and equity events to share the upside but also to share the risk in the balance sheet capacity as we move forward.

Okay. And would you contemplate taking some sort of a management fee or a promote or anything like that, just as we understand some of those economics?

Yes, I think we are very open to whatever structure maximizes value for us. So it could take a variety of forms. I'd hate to kind of lead you down one path because I think we're going to be flexible to make sure we can maximize profit.

Okay. Got it. And just in regards to the addition of Mike Hartmeier to the Board, just the fact that you sort of called it out in the prepared comments, is there anything that we should infer from that in terms of corporate strategy for DiamondRock in the time ahead?

No, I mean I think the point we're trying to make is that the Board added someone that's really got great M&A experience. And certainly, as we look out over the next couple of years, we think the well-capitalized companies like us are going to be in good shape to create value and want to make sure we had voices in the boardroom that were going to explore and be able to maximize those opportunities.

Our next question comes from Smedes Rose with Citi.

This is [ Seth ] on for Smedes. Just about -- you touched on group business a little bit. But what kind of rebooking activity are you seeing? And I guess, more specifically, what periods are you seeing that activity in?

Sure. So group volume, the leads is actually picking up. As you would expect, the cancellation rates have declined, but still, there's not much group business for the balance of this year, and the stuff that is booking early next year is pretty tentative. So the strength we're seeing in rebookings is really the second half of next year and really 2022 when people have more confidence that we'll be on the other side of the health care crisis.

Okay. And then on the -- we've seen a lot of the cost containments from the owner side as well as the brand. Is that changing anything from the brand fee structure that will help owners over the long term?

Yes. So that's -- it's a great question. So the brands have been, I would say, great partners overall in trying to figure out how we can minimize cost and go through this. So while the franchise and management fees remain consistent, there's a lot of other costs that are allocated out to the properties that come under the umbrella of different terms called program services fees and other things. And they've done, I think, a very good job of moving rapidly at the onset of this crisis to reduce head count and reduce allocated cost out to us, and we are seeing that. And in fact, they've either cut it by 50% in some categories, eliminated it or they're going to have periods where they're not going to charge it at all early next year. So I think our opinion is they're doing a great job, and they are doing things that are benefiting the costs that are allocated out to our hotels.

Our next question comes from Austin Wurschmidt with KeyBanc.

I wanted to circle back to the Frenchman's Reef and your comments around seeking a JV partner. Would you guys like to maintain control of the asset? And curious what's holding you back from just an outright sale? And then also curious if this is a partnership that you think you would consider additional investments beyond just the Frenchman's deal?

Yes. So there's a lot there. So I would say we think this is a spectacular piece of real estate, and it's an opportunity we see a lot of upside in. I think the idea of the joint venture is that we can kind of have our cake and eat it too a little bit, in that we can bring someone in that can help use their balance sheet to finish the project and, hopefully, we can stay in for an equity position and realize some of what we think is going to be great upside over the next 3 or 4 years. So that's the kind of impetus of going down that path. I think for your -- kind of the second part of your question, this probably isn't the ideal deal to do a broader joint venture. We have had a number of inquiries from institutions that have wanted to explore doing joint ventures to take advantage of distressed hotel opportunities in this environment. There might be something that's interesting, but those folks probably are -- there's not a lot of overlap for people that want to do Caribbean development deals.

Got it. Understood. And then just thoughts on an outright sale. I mean is this really just the upside that you talked about and you're just wanting to maintain that as EBITDA ramps over time?

Yes. I mean we're flexible, everything is for sale. So if someone's willing to pay us 100% of what we think the future value is, we would gladly sell the hotel. But I think that in this environment, we believe that there is value there. So we're likely to maximize our view of value versus what someone may pay us, probably the way to do that is through a joint venture.

Okay. Got it. And then I appreciate all the detail you provided and the thoughts on some of the near-term ROI projects, like you mentioned Barbary Beach and some other F&B initiatives. But maybe focusing more on some of the larger projects you've outlined, Frenchman's you mentioned is on hold and then you've got some restrictions, I believe, under the amended credit agreement. So how much of those nearly $40 million to $50 million of ROI spend you've specifically outlined, like adding keys at the Landing or the Boston Hilton, are targeted maybe for 2021? And how are you prioritizing some of those projects?

So we can progress better, we had a lot of front-end loaded ROI projects in this year, which got completed as the crisis was coming on. So we did Worthington, we did a big project and created a Celebrity Chef restaurant there. We built out one at Charleston. Just across the portfolio, we had a number of things that got completed. Right now, the big focus is Barbary Beach House, which we think is a big opportunity that we're completing. Vail will be the #1 big project, if you will, from an ROI perspective in 2021. And there's a variety of smaller projects. But big spend projects like this -- like the additional keys in Boston Hilton or the 17 additional keys at the Landing will probably get pushed into 2022.

Our next question comes from Chris Woronka with Deutsche Bank.

I wanted to drill down a little bit into the resort performance, which obviously was really strong, especially on the rate side. When you think about slightly more normalized times, and it will be great for you and for the entire industry, but I guess is there going to be a little bit of an offset? I mean I don't know if you've been able to drill down into your database to see if these customers who are staying maybe on a Thursday at a resort for $700 are going to go back to paying $200 on their corporate rate on a Wednesday. So not to nitpick, I'm just curious if you've been able to drill down and see if some of these customers have swapped business for leisure?

Yes. I mean it's a good question. I think overall in the resort portfolio and when you think about we have some, what I'll call, medium-sized resorts that usually have some group components, that will probably offset as demand comes. But inevitably, we're probably capturing people at luxury resorts, like L'Auberge, that otherwise would be flying to Paris or going to Lake Como or something on a Saturday night. In Sedona, it's $1,400 a night. That's a traveler who can go a lot of places. I think we're optimistic that we are getting a lot of new customers that have never been to these resorts, and we think that they're terrific experiences. So I think the offset to when the kind of pandemic has passed and people can go to more locations is that more people have been introduced to our resorts than ever before, and I think they're having great experiences. So not only will they come back, but they'll tell other people, and there's kind of a multiplier effect on that. So we're relatively optimistic that a lot of this business and this rate sticks even over the next couple of years.

Okay. That's helpful. And then on New York, now that you have the option to be out of the branding contract on the Lexington, does that potentially accelerate any plans to market? I don't know where you guys see the market for New York right now. And also, just your opinion on where the city is shaking out in terms of hotels closing and that potentially making assets like yours more attractive to longer-term buyers?

Yes. New York is an interesting market. I mean I think New York stays bad, it's going to be really bad for a little while and then, at some point, it's going to turn and be really good. Our concentration of real estate in Manhattan is mostly in Midtown East. There is negative supply in that market. We've had 2 of our largest competitors either closed -- I guess 2 have closed permanently and a third may close. I think we're looking at negative 9% supply, competitive supply, for the Lexington at the moment. So I think that's very encouraging. The other really encouraging sign for us is the Autograph now will be just about the only full-service Marriott option in Midtown East, now that the flag has come off the Marriott East Side. So as you can imagine, the -- if we have a huge funnel of Marriott customers that will then have less options in Midtown East and, hopefully, that will drive outperformance of that hotel once New York City opens up again. But listen, between the next couple of quarters are going to be -- they're going to be very difficult in New York like they are in San Francisco and some of these other markets. And yes, that's the world we're living in today. But I think we're -- if you had a 5-year hold, we're tremendously positive on New York over that period because I think on the other side, supply does get constrained. But the next couple of quarters are going to be very difficult in New York.

Our next question comes from Lukas Hartwich with Green Street.

I just have one. As time goes on and operators get a better handle on operating expenses, can you talk about the confidence level of being able to operate more efficiently in a normal environment and maybe just touch on where those savings will come from?

Sure. I mean never waste a good crisis as they say. We are doing things that we've never done before. We've combined jobs we've never combined before. We're running at efficiency levels on low occupancy we've never done before. I think the brands are testing new models for distribution of allocated cost. Do we need all these cluster people? Can technology replace what we had before? It's a once in a generation opportunity to reinvent a lot of their programs, right, because if you've furloughed or laid off people, you can really then restaff and rethink the whole model, which I know they are doing on a number of fronts. So I think -- and they're incentivized to get their costs as low as possible. Remember, their whole business model is making sure that they're delivering value so that people continue to sign up for their brands. And in this environment, if they want their pipeline to stay, they're going to have to continue to work on making that model as profitable as possible for real estate owners. So I think a lot of that sticks. There's a number of things that we're doing today that won't stick. I mean we can't close down the restaurants and not have any F&B at a full-service hotel forever. We can do things -- can we run all the F&B out of the -- what was the breakfast and close the -- convert the fine dining restaurant. I mean there will be some of those changes. But we are certainly doing things at this environment that are not sustainable. But I'm very encouraged that on the allocated costs, which is millions of dollars to us a year, that those will be reduced on the other side of this even when we're back to normalized cash flows.

Our next question is from Stephen Grambling with Goldman Sachs.

So as you think about the small resort property strategy that you've been executing on ahead of this and seeing it really play out well, you mentioned this comment about going on offense at some point. It seems like valuations on that side of the hotel space have been a little bit more resilient. So as you're thinking about continuing to execute on that strategy, how do you position yourself as an advantaged buyer? And/or do you feel like the resilience of the business is making you rethink what the appropriate valuation is within any process?

Good question. So a couple of thoughts. One is, certainly, this downturn has validated what we've been doing over the last number of years in buying small resorts, right, 7 of our last 8 acquisitions. And frankly, I wish our entire, 100%, of our portfolio was small resorts at the moment. No, we're still bullish on resorts. We're still bullish that they're going to outperform. There is less distress, certainly, in that market. But I do think we have an enormous head start. We've kept our entire acquisition team in place. They, over the last 4 or 5 years, have built a pretty impressive database and relationships in a lot of these resorts, in resorts what I'll call micro markets like Sedona and Sonoma. And Lake Tahoe is where I think we have a head start, again, because we've been there and we've been building these relationships, monitoring these potential deals. We're not going to get the same kind of discount pre-COVID. But frankly, that's because the values are still there. I mean their cash flow hasn't gone down as much and the upside still remains. So we still think that, that will be the bulk of our external growth over the next several years.

Fair enough. And one quick follow-up just related to that, and maybe I missed this in the opening remarks, but select larger properties reopened a little bit later in the quarter. And if I look at the dispersion of cash burn, can you just elaborate a little bit more about how cash burn is different -- has been different across the portfolio and also how that might evolve moving into the fourth quarter?

Sure. And I'll let Jeff jump in here, too. I mean it's as you would imagine. Our small resorts have been the best. And then as you get to the larger resorts that rely on some group, it kind of fades a little bit. And then the worst-performing assets are the big-box hotels. So the bigger hotels, there's no large group meetings happening in the United States. And there is relatively big property taxes and other fixed costs with those boxes even if they're closed. So those have the toughest burn rates. Jeff, do you want to jump in?

Yes, sure. Stephen, yes, the thing I would add and maybe just to reiterate from Mark's remarks earlier in the call is a lot of our burn rate is really concentrated in our larger hotels, as Mark said. I think during the month of September, for example, I think the 3 closed hotels plus the Westin Boston and Chicago Marriott that just reopened in the quarter, collectively, those were the vast majority of our hotel level burn. I think, in rough numbers, if it was sort of $8 million of burn, probably 90% of that, or if not more, was really concentrated in those larger, chunkier hotels. I think the 25 other operating hotels, which are pretty heavy in the resort area collectively almost broke even. So I think that's kind of interesting indication for how things are progressing. It's hard to say we'll hold that way each and every week or month as we move forward in the remainder of the year. But I think it shows the disparity there.

Our next question comes from Anthony Powell with Barclays.

I wanted to focus a bit more on your, I guess, your urban lifestyle or luxury properties, like, say the Palomar Phoenix, and maybe The Gwen fits in there. You were acquiring or developing some of these a few years ago. We haven't heard you talk more about them recently. Is that still part of your strategy going forward? Some of these hotels have done relatively better than the larger big-box hotels in the urban markets.

Yes, it's a great question. So they are part of our strategy. I would say that as we think about our external growth strategy, the focus still remains trying to get to 50% resorts in total. So when we sit down and we look at our pipeline, that's still magnetic north on priorities. But hotels like the Emblem in San Francisco or The Gwen, we still believe in, what I'll call, small or medium-sized lifestyle hotels in those markets. But as you think about our portfolio and portfolio rotation, we're more likely to sell urban hotels and buy more resorts as we continue to reposition the portfolio. I think that will drive outperformance over the next 5 to 7 years. So still part of our strategy. The big boxes are probably the least part of our strategy going forward. We will not buy another big-box hotel. I just don't think that's where the outperformance is going to be going forward. So you'll see us much more committed to continue to focus on small resorts first and then urban lifestyle, what I'll call, medium and small lifestyle hotels in urban markets second.

Okay. And on that topic, big-box hotels are, I guess, out of favor. But I mean there are some companies, including REITs, who are still investing in these properties. So could you maybe think of -- see yourself selling some of these larger big-box properties in the future, even to peers as they kind of go to that strategy?

Yes. That's the short answer, is we'll continue. And clearly, that would be the fastest route to getting to some of our, what we think is the kind of model portfolio allocation for DiamondRock through subtraction as well as addition. But yes, we're open to that. I'm not sure now is the best time to sell a big-box hotel. But as we kind of think about where do we want to be 5 years from now, I'm not sure -- they'll probably shrink as a percentage of the company as we grow in any event because we're not going to buy any more big boxes, and we only really have the 2, and we like them. But at the right price, we would certainly be sellers.

Thank you. And ladies and gentlemen, this concludes today's Q&A and program. Thank you for participating. Have a great day, everyone.