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Strategic Hotels and Resorts Inc. (NYSE:BEE)

Q3 2008 Earnings Call

November 6, 2008 10:00 am ET

Executives

Ryan Bowie - Vice President, Treasurer

Laurence S. Geller – President, Chief Executive Officer

James E. Mead – Executive Vice President, Chief Financial Officer

Analysts

Jeff Donnelly - Wachovia Securities

Bill Crow - Raymond James

Smedes Rose – Keefe, Bruyette & Woods

Mike Salinsky - RBC Capital Markets

Juan Kemp - JMP Securities

Chris Woronka - Deutsche Bank Securities

Andrew Wittman – Robert W. Baird & Co.

Operator

Good day, ladies and gentlemen and welcome to the third quarter 2008 Strategic Hotels and Resorts earnings conference call. My name is Nikita and I will be your operator for today. (Operator Instructions) I will now turn the call over to Mr. Ryan Bowie, Vice President and Treasurer. You may begin.

Ryan Bowie

Thank you. Good morning, everyone. Welcome to Strategic Hotels and Resorts third quarter 2008 earnings conference call. Our press release and supplemental financials were distributed yesterday and are also available at the company’s website, strategichotels.com within the Investor Relations section. We are also hosting a live webcast of today’s call which can be accessed from the same section of the site with the replay of today’s call also available for one month.

Before we get under way, I’d like to say this conference call will contain forward-looking statements under federal securities laws. These statements are based on current expectations, estimates and projections about the market and the industry in which the company operates, in addition to management’s own beliefs and assumptions. Forward-looking statements are not a guarantee of the performance and actual operating results may be affected by a wide variety of factors. For a list of these factors, please refer to the forward-looking statements notice included with our SEC filings.

In our press release and supplemental financials, the company has reconciled all non-GAAP financial measures to those directly comparable GAAP measures in accordance with Reg-G requirements.

I would now like to introduce the members of the management team with me here today. Laurence Geller, President and Chief Executive Officer and Jim Mead, Executive Vice President and Chief Financial Officer who will lead today’s discussion.

James E. Mead

Thanks, Ryan. Good morning and welcome everyone to our third quarter conference call.

Yesterday evening, we reported third quarter FFO per share of $0.31 and EBITDA of $55.8 million, both within our guidance range and above consensus estimates. Excluded from these results is approximately $97 million in one-time impairment and other charges taken in the quarter primarily related to our decision to cancel the plans for the Aqua Building expansion of the Fairmont Chicago and impairment of goodwill as a result of the declining operating environment. Comparable FFO and EBITDA also excludes a $37 million gain on sale from the Hyatt Regency Phoenix that closed at the beginning of the quarter.

Our financial results reflected an acceleration of the lengthening trends in demand that are consistent with what Smith Travel has been reporting. Our North American RevPAR was down 3.3% for the quarter driven by a 4.8 percentage point drop in occupancy offset some by a 2.8% increase in average rates. This demand weakened during the quarter, however, more concerning is that the decline in forward indicators of business demand accelerated with a sharp drop-off beginning in early August and continuing through today. Although visibility is limited, it would appear that our industry rapidly transitioned during the quarter from a more predictable downturn or a recessionary track until a path toward a substantial contraction in demand at least through the remainder of the year and into the first part of next.

During the third quarter, our group business fell short of our targets and our operations were mildly impacted by group cancelations. This led to a 9% decline in room nights. Within the group mix, we shift some business from the more profitable corporate segment into other lower-rated categories including associations. Our group rate while up 6% was marginally lower than the contracted group rate increases for business that was on the books going into the quarter. As the quarter progressed, our management companies reported a trend in group cancelations, in particular, in certain categories of the luxury hotel segment which increased after the press reports of an extravagant AIG meeting in southern California.

We experienced similar trends in the transient side of our business and transient room nights declined 3% during the quarter. The highest rated premium segment which is about a fifth of our transient room nights declined 21% as corporations significantly realigned their travel budgets and consumers curtailed or deferred spending. Declines in airline capacity and higher ticket prices compounded the negative factors integral to short-term travel decision making.

Working with our asset management team, our property management companies opened up selected discount channels in an effort to fill these lost room nights. The integrity of the pricing in each booking category has largely been maintained in our average transient rate increase of 0.8% in the quarter. Based on previous downturns, we expect increasing discounting over rates going forward and are today seeing a variety of innovative discounting measures such as complimentary upgrades, extra night free, free Internet, and free breakfast. Having said this, it is important to keep in mind that our managers are the most highly regarded brands and have more control and sophisticated yield management systems than in prior periods of market weakness.

Non-rooms related business declined 5% during the quarter primarily due to a 5 point drop in occupancy. Group contributions to food and beverage revenues increased 5% per occupied room which confirms that groups are still spending once they are in house. Consistent with accelerating declines and concerns on spending trends, we note that our peers for social bookings during the upcoming holiday season appears to be slower than in previous years. Our group room night expectation for the fourth quarter are currently 7.5% down from last year with the impact largely occurring in November. Our definite group pays for 2009 remains about flat to the same timeline last year but however, should the slowing trend in group bookings velocity be maintained accurately predicting future pace will remain difficult. Cost containment programs are made a top priority for our management team and we managed to a 220 basis point margin contraction at a gross operating profit level and 240 basis points at EBITDA against a 4% decline in total revenues.

COD sales continued to be the most severely impacted market in our portfolio today. Margins on our Fairmont property were negative for the third quarter with a combination of the summer slowdown, rooms displaced during completion of a rooms renovation, and reduced group demand. Though excluding this hotel, margins contracted only 160 basis points.

Our labor management systems enable our properties to eliminate 95,000 hours worked, a decline of approximately 3%. Salaries and wages across our North American properties were down 3.5%. Looking at it a different way, since the beginning of August, we’ve eliminated 318 FTEs at our hotels. Although our food margins declined against 3.6% lower sales, our food specification and purchasing programs managed the increase in our food costs to 2% against an increase of wholesale food cost of 6%.

Our other operating expenses were down 6% even with a 7% increase in the cost of utilities. This was as a result of reductions in everything from linen costs and laundry to stationary and uniform costs.

Consistent with the increasing severity of the economic situation and the resulting decline in demand, we are increasing the intensity of our planned cost programs to include sharing of Six staffing between hotels, elimination of additional staff positions, closing of restaurants for lunch and dinner, getting back or eliminating room service hours, re-engineering menus, working with our operators’ amenities and standards reductions and one practical, actually losing guest room wings or floors as possible given internal booking patterns.

Turning to our European properties, we reported a 5% increase in RevPAR and 7.8% increase in total RevPAR. Results measured in constant U.S. dollars were similarly drawn. We had a strong quarter in London although we anticipate that the overall market and our hotel will follow the general U.S. trend.

The Marriott Grosvenor Square has benefitted from the first phase of a rooms renovation and the repositioning of certain food and beverage elements that resulted in a 10% increase in Total RevPAR and constant dollars. We believe the excellent location of this hotel will to a degree help inflate its relative performance in a downturn. The trust market overall was flat although our renaissance with Le Parc in Paris had an 18% increase on RevPAR reflecting the successful repositioning and rebranding that was completed earlier this year.

Our expectations are that Paris will be affected by the global slowdown. However, again, we believe that the locations of our properties offer relative insulation.

The Intercontinental in Prague continues to struggle along with the market as RevPAR declined 23% on a constant dollar basis. Anticipating this trend will continue through the end of the year. We’re implementing significant cost-cutting and operational remediation measures to bolster our position. I will note that next year’s booking trends are favorable for this hotel with pace up over 100% from last year.

Foreign exchange rates moved significantly during the third quarter and will likely have a negative effect on reporting profits beginning in the fourth quarter of this year.

Let me spend a few moments describing the $97 million in charges during the quarter. The velocity of economic and market changes and our assumptions based on current economic forecasts that these conditions will continue mandated a re-examination of certain of our investment plans and the current value of our hotels. We also announced on October 3, that we would cancel our commitment to purchase the expansion space for the Fairmont Chicago Hotel and write-off the $35 million security deposit and planning costs to date. In 2006, we had contracted the purchase upon completion of 15 floors of hotel rooms and a ballroom in the Aqua Building adjacent to the Fairmont and build out the finishes with a scheduled delivery into service in 2009. As the acquisition date approached, we concluded that increased costs combined with market conditions would have substantially delayed the ramp-up of this new facility, reduce the value of the investment, and we determined that the risk adjusted return was no longer justified against the value of preserving corporate liquidity during these uncertain times.

Given the deterioration in market conditions and current market expectations for a slow economic recovery, we plan that the potential for impairment of the carrying value of our hotels and felt that it was appropriate to write-off goodwill and other intangible assets carried at two of our properties, the Fairmont Scottsdale and Ritz-Carlton Laguna-Niguel which added another $58 million to our total one-time charges.

At the same time, we reviewed our hotel-level countward programs and determined that certain planning costs related to projects that were not immediately feasible or may require redesign given the current market changes. As such, we felt it prudent to write-down $3.6 million in property planning costs associated with these projects.

Despite these write-offs, we continue to have valuable inventory of capital programs that will contribute to our growth as markets improve and we determine it appropriate to commence project implementation.

We are just now completing a renovation including the addition of 11 new rooms at our Four Seasons Washington, DC which with the inclusion of a super-suite gives the hotel a unique ability in the market to securely host heads of state and similar delegations. The new lobby, bar and restaurant will all be completed by year-end and we expect the hotel to perform well next year given that this upgrade was timed to be introduced with the change of administration that brings with it the historical pattern of high-rated incremental demand. The hotel incurred approximately $1 million in displacement in the last quarter during the completion of its rooms and suites.

Our capital programs have been reduced substantially and we expect to spend approximately $25 million in the fourth quarter to conclude in-progress programs and very little count-backs in place for 2009 over the spending from our FS&E reserves.

In concert with our operators, we maintain the discipline and cooperative approach from the expenditures that we first successfully implemented during the downturn in the early 2000’s. As such, we are carefully evaluating each expenditure with a view to husband and capital in this uncertain environment.

The velocity of events in these past turbulent weeks have demonstrated the difficulty of accurately forecasting and giving guidance in this unusual environment. The trends are clearly negative for the fourth quarter and prudence dictates that we plan for this quarter’s performance to carry over into the beginning of next year.

Our RevPAR performance has for the most part, consistently been above the levels that Smith Travel reports for the U.S. luxury segment. To give you a sense of the velocity of change in the markets, since the end of August, the four-week moving average of our 28-day RevPAR growth has dropped from a positive 1.3% to negative 11% in the latest report. This compares to the broader U.S. luxury segment which is currently down 14%. Given how quickly these numbers have deteriorated and the current caution and concerns expressed by both businesses and individual consumers, we see little rationale in planning for an immediate change in these demand dynamics. Neither we nor our branded operators are immune from the general inability to actually forecast in this environment.

We are providing guidance for planning purposes and are assuming fourth quarter RevPAR growth of between negative 12% and 14% and negative 13%-15% in total RevPAR. This will provide comparable FFO per share between $0.11 and $0.19 for the fourth quarter. Based on these planning assumptions, full-year 2008 guidance was lowered to comparable FFO per share between $1.22 and $1.30 which represents a 15.5% decrease from previous guidance as the mid-point. Full-year RevPAR and total RevPAR is assumed to decline between 3.5% and 5.5%

Given the uncertainty in market conditions and decreased expectations, we felt it prudent to initiate discussions with our bank lending group to create additional cushion in the financial covenants of our line of credit agreement. We are fortunate to have some of the best assets in the industry unencumbered by debt and backing this credit at low leverage and high coverage. We also note that we have no debt maturities until August of 2011.

Now, let me turn the call over to Laurence.

Laurence S. Geller

Thank you, Jim. Good morning.

As a management team, we cannot ignore all of the indicators pointing towards an unusually challenging operating environment over at least the next several quarters in line with this nation’s overall economic anticipated performance. Our fourth quarter forecast reflects the rapid deterioration which commenced in August, accelerated almost daily throughout September and October and was exacerbated by the series of highly publicized financial crises that began in the U.S. and quickly spread globally. These events logically had and appear to continue to have a significant impact on spending habits as consumer confidence plummeted from 61.4% in September down to an all-time low of 38% in October. Market volatility is at an all-time high and the Victor index spiked up to 80 in October up from 22 on September 1 before settling down around 60, which is three times its 10-year average.

While we are indeed hopeful that the seemingly compounding back-to-back events of September and October will not be represented over future months, we are well aware that lodging demand is highly correlated with GDP. With most economies calling for 3 to 5 consecutive quarters of contraction and unemployment to be in excess of 8%, we must plan accordingly. We are not immune to economic turbulence and our extensive experiences in successfully managing through each of the economic downturns since the early ‘70s mandate that we plan for a continuing pattern of erosion and demand as consumers pull back on discretionary spending and businesses retrench both domestically and internationally.

This is especially relevant now as we are in the midst of the annual planning and budget process with each of our hotels. The reality is that neither we nor our widely experienced operators know how the economy will perform and we have no choice but to make our operation and financial plans based on current macroeconomic forecasts while remaining nimble and flexible enough to quickly react to changes for better or for worse.

As we said to you before, our primary operational focus has been, is and will remain on costs, and specifically on the all-important reduction on labor costs. Our pride and proven labor management systems have been and are a crucial tool in our planning processes and disciplined problematic execution. These critically important and sustained reductions in labor costs were the basis of those contingency plans which we initially implemented in August of last year. They continue rigorous and a disciplined implementation to early execution and are essential to minimizing margin erosion in diminishing revenue periods. Our extensive experience of successfully managing through multiple cycles has taught us that these efforts provide the foundation for strong performance as the downward trends cease and the inevitable recovery begins, thus giving our properties greater margin improvement potential and increased profits for dollars of incremental revenue.

Without losing any of our clear and disciplined focus on the cost side, we also aggressively manage our properties to gain market share at the expense of our competitors during these weaker periods. We measure our success in part on how our properties perform relative to their competition and are continually working with our operators to develop and execute bold, inoperative, and creative tracks and programs to capture market share and add yield management and revenue enhancement programs at every level of our operations.

I should point out, as we look at our upcoming business from a planning perspective, we have to scrutinize our future bookings to identify pieces of business that have the highest risks of attrition or cancellation such as the financial service businesses. We are taking what is a realistic view of future business so that each hotel bases their plans on downside scenarios while remaining agile enough to quickly respond to challenges, changes, improvements and opportunities.

Given the lack of visibility into the future and the downturn over the past weeks combined with current TVP forecasts, we have no choice but to mirror our approach with cost-cutting and cash preservation at the property level and with the same calculated approach which we use for our own balance sheet. Therefore, in the same manner as we have cut back on capital expenditures either as a work in progress or activities essential to ensure our properties remain competitive in these difficult times.

Prudence equally demands that this time we do not reach into our lines of credit to pay dividends. We are well aware of the importance of the dividend to our shareholders, however, given the uncertainty of operating cash flows and the conditions of the credit markets, our Board determined that it was in the best interests of our shareholders to suspend dividends on our common stock and preserve capital to improve our balance sheet.

Our forecasts indicate that absolute gains from asset sales which we may successfully execute. We will not have a distribution requirement for tax purposes in 2009 and based on the previous pay-off amounts, we will save approximately $90 million through the end of 2009 should our Board elect to continue the suspension of the dividend through that period. Naturally, our Board will consistently evaluate our dividend policy on a regular basis.

While our intense daily focus is on navigating through these turbulent and unusual times, our underlying fundamentals remain solid. Our properties are in great physical condition. Conditions are managed by experienced and well-regarded operators under highly desirable consumer brands and can better compete during down-turns. Our properties are in markets with extraordinary high barriers to entry. We have less than 1% supply coming into our markets this year and next, less than that in 2010 and none thereafter. It is unlikely we will see new supply in our markets thereafter as given a three to four year planning and execution lead time, unless a property is financed, entitled, fully planned and ready to go now, it’s unlikely to be a competitor in the foreseeable future.

Our current estimates have replaced costs within North America of approximately $700,000 per room serves as a proxy as the economics for when a new competitor can come into the market as well as potentially a proxy for future value. We have a shelf inventory of higher-return internal projects that we can execute as and when the markets are appropriate, to profitably absorb them and when we feel the timing is right, commit the capital we are now prudently conserving.

The velocity of market and operational changes is unprecedented and our act is to determine to take all measures to protect and enhance our shareholders’ values by constantly reviewing all of those actions necessary to achieve that end should market conditions and prudence dictate their implementation.

These are very trying times for everyone. However, we do believe that this is a cyclical circumstance and economic recovery will inevitably come bringing with it new growth dynamics and opportunities. We believe that the segments that we operate are the right ones to be in the long-term. We have great products in great markets. Our properties are managed by the most highly-regarded branded operators in our industry. Our hands-on tried and tested managers have at their disposal leading-edge, prudent flexible systems and processes to maximize flow-through from every dollar of revenue and to gain market share. We have decades of experience and track record to successfully manage volatile periods such as this. As the economy turns around, an examination of historic patterns of recovery in our high-end markets clearly demonstrates that our businesses will thrive and prosper.

I now open the call up to any questions.

Question-and-Answer Session

Operator

(Operator Instructions) Our first question comes from the line of Jeff Donnelly with Wachovia Securities. You may proceed.

Jeff Donnelly - Wachovia Securities

A couple of questions. First off, Jim this is more of a conceptual question, everybody’s equity prices these days it seems within lodging are off, 60-80% in the past year. On the revenue side clearly, based on your remarks were not the bottom and the credit market remains challenging. It occurred to me that just as dividend cuts have become sort of invoked, inevitably companies are going to explore raising more permanent capital as they try to adjust their capital structure to some version of common and preferred equity or increase the size of it at least. I know you have not given 2009 guidance but is this something that you think is on your radar screen at this point or even among your peers or do you think that you will just move ahead of the capital structure right now?

James E. Mead

Let me ask Laurence to, I think there are some strategic elements here as well as industry.

Laurence S. Geller

Jeff, as we said in the past, this is a management team and a Board that will leave no stone unturned in its efforts to protect the shareholders’ values. As you know, as Jim has mentioned, we are looking at modifying certain covenants in our line of credit and we have adequate lines of credit. We also, as you all equally know, are still pursuing asset sales or be it, in the somewhat difficult and volatile environment given debt markets. While we have no current plans for restructuring of the balance sheet, as these markets evolve, we don’t conclude the possibility of any action although based on our current forecasts, we have nothing immediately in process.

James E. Mead

I think, also, just talking industry-wide for next year, your question is very conceptual but common equity markets seem to be very value-oriented against your forward numbers. You know as cash flows decline that the terminal value becomes a much heavier component of value from a real estate standpoint. If we can get to the point where we start to see some positive signs of growth coming, you know that the stock prices could move fairly quickly and recapitalize the industry by themselves. The question will be who can make it through the next six quarters from a cash flow basis. We’re taking things very pragmatically here. As we said, we have six undercover assets, debt, assets that are covered in debt are very flexibly used.

Jeff Donnelly - Wachovia Securities

How amenable have lenders been to adjusting covenants at this time? Have they been fairly receptive?

James E. Mead

I think it’s happening, whether people are saying it or not, it is happening across the real estate industry right now. It is a reality of the business that the lenders are in. Lenders do not want problems today, they want solutions. I think we are at an unusual position versus some of the others I’ve seen. If you think of our undercover assets, there are three Four Seasons, a Ritz-Carlton, Marriot in Paris. I think when they look at our portfolio in particular, there’s a willingness to work with us. But lenders are looking for solutions today, they are not looking to create problems through artificial covenant restrictions.

Jeff Donnelly - Wachovia Securities

You mentioned that you are continuing asset sales, do you think that in this market you will have to increasingly provide financing to make those deals happen?

Laurence S. Geller

At this stage, Jeff, there hasn’t been a request or mention at this time.

Jeff Donnelly - Wachovia Securities

Maybe this is related to how you allocate your cash, but would you guys consider repurchasing that at a discount this time or are you more focused on concerning the cash that you have?

James E. Mead

A lot of our securities are on the table right now at discounts to repurchase, I think from our perspective we need to take a step at a time and make sure that we’re comfortable about the operating environment before we make any dedication of our available liquidity. The thought on getting clarity in the operating environment is first and foremost what we have to do.

Jeff Donnelly - Wachovia Securities

Just one last question. Is it possible for you to break out your current group bookings for the next few quarters by industry and how that compares to what it has been in the past? I’m curious if there has been any major shifts. For example, finance industry, pharmaceuticals, etc.

Laurence S. Geller

Jeff, there have been no major shifts to date. What we have done in collaboration with our operators is scrub through the pace of the future bookings reports on each hotel and have taken, if you will, reserves or protective measures or alternative contingency plans against those coming from financial services markets. To date, there hasn’t been a noticeable shift in where the bookings are coming from.

James, we should increase the focus on association business which is something we have tended to weigh against in reference to corporate business as a protected measure. By looking at our yield management, the booking processes are trying to give us as much confidence as we can. So, no, there hasn’t been a noticeable shift. There has been a decline in tentative bookings but not indefinite bookings.

Operator

Our next question comes from the line of Bill Crow of Raymond James. You may proceed.

Bill Crow - Raymond James

A couple of questions. Jim, have you calculated the cost next year to FFO per share from the exchangeable note accounting change?

James E. Mead

Yes, we have. I’m afraid I don’t have it at the tip of my tongue, Bill. We can get back to you. I think that more important is to understand what the convention will be, in terms of how we all as an industry will approach that from a comparable FFO standpoint.

Bill Crow - Raymond James

More and more companies, those that are operating on non-guidance seem to be offering it with that charge incorporated. Obviously, it’s non-cash. If you can get back to me with that. Laurence, do you see an opportunity to sell your European assets as opposed to domestic assets? Is the market a little better over there for good properties?

Laurence S. Geller

As you are well aware, Bill, we have two properties that we are looking at this moment, Prague and the Paris Le Parc. I will say that the market has more unique buyers in Europe than we appear to see on the modularized U.S. market. So I can’t give you a general basis. As I mentioned during our last call, it is very much rifle shot marketing terms to very specific buyers who may have an interest. It isn’t a general auction process. If you have a property in Paris, I can say yes, you will probably find a unique audience to consider it. If you had a property in Detroit, I say you don’t have a unique market.

Bill Crow - Raymond James

You talked about saving $90 million a year from the dividend or $90 million through next year from the dividend cut. Have you looked at the preferred dividends as maybe an opportunity to cut those a little bit?

Laurence S. Geller

Bill, as I mentioned in my first answer to Jeff, we look at everything and leave no stone unturned. At this moment, the Board has decided that it’s appropriate to cut the common dividend and there is no immediate stress on us in the other measures.

Bill Crow - Raymond James

Have you collected any fees from attrition given the group weakness or have you billed for fees that you haven’t received yet?

Laurence S. Geller

That’s a good question, Bill. Let me explain, as soon as the crisis started to unfold, when we saw erosion in pace, history will teach us there was an erosion in the forward bookings and you are faced with a look at attrition. During the last cycle in the early 2000’s, attrition fees, guarantees, cancelation fees were only partially collected. In collaboration with our operators, we have put in some very rigorous policies as far as attrition is concerned. We have to date collected those attrition fees we had. We haven’t had a lot of them. We only had normal cancelations. My own experience would tend to say that the deeper into the cycle and the more cancelations occur, the more whining we will get about attrition fees and negotiations. Of course, as you well know, the paradigm then is do you force a payment or do you allow somebody to rebook or is it such a good customer that you don’t want to lose that customer for years to come by forcing them over an individual payment. We have decided to take a much harder stance thus far and at this moment, we see no reason to change the stance against being forceful in collecting attrition fees. I expect that will become more of the case in 2009 than it is in 2008.

Bill Crow - Raymond James

Jim, as you think about G&A, corporate G&A next year, is that a number that’s got some room for cuts in it? If so, can you give us an idea of how much?

James E. Mead

Well, I won’t give you an idea how much but I will tell you that everything is always on the table. We are looking easy to save the properties and our home office on a continual basis. I think our run-rate for the year is the same as we stated earlier, I think we said between $25-26 million, somewhere in there, which is substantially lower than that year. Bill, there is always room to cut and the balance is, of course, what it is we want to maintain in terms of capabilities when the market turns. So again, the cutting of overhead and lack of visibility sort of go hand in hand. We need to get more visibility before we do anything serious in our home office.

Operator

Our next question comes from the line of Smedes Rose of KBW. You may proceed.

Smedes Rose – Keefe, Bruyette & Woods

Jim, I was wondering if you could talk a little bit more about the goodwill write-down on those two properties. Do you expect to test against goodwill impairment against other properties and would you expect to have to write down additional goodwill? How is the amount of goodwill determined? Is it based on your original purchase price, or the initial underwriting costs, or just the way you are now? How does that work exactly?

James E. Mead

When we purchase the property, we hire a third party to help us allocate the purchase price among FF&E, land, other fixed assets and goodwill. I think it is typical, the quicker the rise in the cycle, the more goodwill tends to get booked on the books. As a result of the timing of our purchases, we have some goodwill on the most recent acquisitions. When the stock price fell below our book value, it put pressure on us to demonstrate from an accounting perspective, that we should continue to hold that goodwill. Goodwill has a different standard than fixed assets do. This quarter we did what I call a snapshot valuation and made some estimates and wrote off goodwill on two of our properties. We will have to continue to do that on a regular, quarterly basis and we will just see where it goes. The issue on clarity of what 2009 brings places more uncertainty around these valuation exercises. We will have to get a recorder and just see how it goes.

Operator

Our next question comes from the line of Mike Salinsky with RBC Capital Markets. You may proceed.

Mike Salinsky - RBC Capital Markets

You touched on your capital spending plans. Can you elaborate a little more in regards to where you stand with developments? In particular, can you give us a little more detail with regards to Las Alanna Hotel and the Four Seasons at Santa Fe?

Laurence S. Geller

Yes, the Las Alanna project as we mentioned on the last call, we are taking steps to find an appropriate housing partner, I use that term in the generic form and not in the specific legal term, so that we can determine when we don’t choose to go forward with that project, determine how we can offset the value of the housing land against the cost of the hotels. Planning is continuing to a degree, so are our extensive discussions with potential partners on this.

Mike Salinsky - RBC Capital Markets

Do you actually have any commitments and you just can back out from any particular plans that you have?

Laurence S. Geller

Given that we control all aspects of that development, we have no further commitments to do any particular course of action at any time on that land.

Mike Salinsky - RBC Capital Markets

What about the potential hotel in Santa Fe?

Laurence S. Geller

In Santa Fe, we are constantly reexamining the situation there because we are really somewhat at the hands of the developer, Hixson, as it fits in with their plans. Not for just this particular project.

James E. Mead

I just want to clarify one thing. Right now we have an option effectively on that hotel in Santa Fe and being an option, it is very valuable to us. We have yet to make the final decision on whether we will go forward or not.

Mike Salinsky - RBC Capital Markets

Then you took out of your potential asset sales, you took out the Intercontinental Prague, can you share some light in regards to the Marriott Lincolnshire and the Ritz-Carlton Half Moon Bay which you have identified as a potential target?

Laurence S. Geller

Marriott Lincolnshire is an asset that we are currently working with our land owner, as you know it’s a land lease. We are restructuring that land lease. Once that is done and the market conditions allow it, we would give consideration to putting that back into the market immediately. There is so much money to be made as well as product desirability by restructuring the lease as we have reported previously, that’s our first priority.

As far as Half Moon Bay, I can tell you that the market for potential buyers has been slow thus far.

Operator

Our next question comes from the line of Juan Kemp of JMP Securities. You may proceed.

Juan Kemp - JMP Securities

Most of my questions have been answered but looking ahead, just in general, given the currency fluctuations in Europe, what is the magnitude of the difference do you think going forward, the difference between the weakness in the U.S. and Europe? For example any given RevPAR decline in the U.S., do you see that higher or lower in Europe?

James E. Mead

I don’t have something magical to tell me where exchange rates are going but I think in a way if you were going to look at the impact, you could look at the average exchange rate changes year over year and apply that to the numbers in local currencies to sort of figure out the impact. I think that a year ago today, and I don’t know the exact difference but I may be around 15%. I think it was a 15% difference a year ago. We look at that 15% being applied to the rates in Europe being offset. We could be reporting negative RevPAR next year but we would have 15% in RevPAR in local currency. We will just have to look at where exchange rates are going for the quarter.

Operator

Our next question comes from the line of Chris Woronka of Deutsche Bank. You may proceed.

Chris Woronka - Deutsche Bank Securities

Can you talk a little bit about how in terms of your operators, are you seeing any conflicts there in terms of them getting revenue into the hotel, maybe cutting rates and you guys maybe preferring not to open up so much of that discounted business? I would expect as you look out to 2009, it’s got fairly important margin implications. Just your thoughts there. Being at the high end is probably tough with pricing but how are you working with the operators to try and avoid the conflicts that we’ve seen in the past?

Laurence S. Geller

Chris, thanks, as you know, we’re no shrinking violets in our relationship with operators. I would be the first to be reputed to criticize operators vocally. Having said all of that, the difference between the cycle of the 2002-2003-2004 period and now, the collaboration between ourselves and our operators almost breaks from cost-cutting and standards modifications, to manage these changes, to rate-setting management and pricing, is unprecedented and all goes very well when we come out of this cycle. I will say, no operator is better or worse than another in this context but it is a very collaborative effort. I think it comes from a decade-long relationship with the operators where they’ve seen that we can work and become complementary to them and them to us. These decisions are made almost without exception, collaboratively and evenly, and operators have shown a great willingness to be bold, to take bold steps, and therefore, I don’t see the conflicts that we had in the earlier period where they were trying to push revenue or occupancy and anything more was for other purposes. This is a very collaborative partnership throughout and I do think that our motives and objectives are completely aligned. It is a pleasure for me to be able to say that. The speed of decision-making in the corporate headquarters when standards need to be changed is, for me, remarkable and for us all around the table here, very pleasant.

Operator

Our next question comes from the line of Andrew Wittman with RW Baird. You may proceed.

Andrew Wittman – Robert W. Baird & Co.

Jim, question for you. Since you looked at the covenants with the banks and spent some time dealing with it, can you just give us an idea of which covenant you find to be the more restrictive? As we looked at it, we saw there was six-charge coverage. There is also the total leverage coverage. Can you talk about which one of those would be more at risk and maybe what the environment would have to be like, look like to get into it at the current levels, and what it might look like at the levels you are trying to renegotiate the covenants too?

James E. Mead

Those are the two covenants that you brought out, the two operative ones. If you think about the overall market which is where you have to start, it is not just a decline in any period; it is the steepness of the decline and the length of the decline. In order to answer your question, we would have to have a better view on both of those things and we don’t really have a great view. We would have to be on the order of twice the decline we had this year with what we think we’ll have this year in order to get to a point where we’re at risk in either of those covenants. I can’t tell you which one of those covenants is going to be more risk because I think that, like I said, they’re both operative. What the objective is to make sure that we don’t have to have that discussion. The objective is that we go back to the lenders and we have a discussion around the extraordinary collateral base that we have and try to favor a solution so that we don’t have to worry about these covenants. We are working on it today. I don’t think it’s particularly critical and time-sensitive from our perspective so we have time to work this out and we have great collateral. I think that it will become something that does not ever get to an urgent nature for us.

Laurence S. Geller

I was wondering if I could add something here, Andrew. Over the past decade, we have established proven, tried and very strong relationships with our lead bankers. We have successfully concluded many businesses, business arrangements with them and have gone through good times and bad times with them. Those relationships, it’s like this, the reliability, trust and confidence that the companies have in each other is such that it makes working with the banks about restructuring this time of credit while never easy, a lot more compelling to reporters than had you not had a decade-long relationship with them. That is a very positive asset for this company. I think it is a positive asset for our bankers as well.

Andrew Wittman – Robert W. Baird & Co.

That is actually very good color. I appreciate that. On the relationship ends, can you just talk about who the lion-share of the banks is that make up the line? I know there is something on the order of 15-20 banks behind this, but the people that are very important in negotiation again are?

James E. Mead

The lead banks are Deutsche Bank, Citigroup, and J.P. Morgan. Bank of America after its acquisition with Placell has a large piece of the line also.

Andrew Wittman – Robert W. Baird & Co.

Does that get you to pretty much majority stake in terms of --?

James E. Mead

There are a couple of others but we have great relationships with MetLife and Wachovia and there are other lenders in there with terrific relationships.

Laurence S. Geller

Andrew, we invited most of these lenders into our line. It was a highly sought-after line. We invited them in based on our lengthy history with these people. They are beneficial relationships and I am very pleased with them.

Operator

I will now turn the call over to management for closing remarks.

Laurence S. Geller

Thanks very much.

I just would like to make a couple of quick comments. Having been though many of these cycles over the last several decades and having come through them, we find that when you manage through these with focus, prudence, and flexibility, you can inevitably come out much stronger than you did going into the cycle. I see no reason for this to be different this time. We work very hard on our margins. We’re working hard to continue to outperform anybody else in margin protection. We will continue to do that as well as working with our cost structure in our corporate office. These are difficult times but we do, as I said in my comments, we do believe this is a cyclical event and we will come out stronger for it. I look forward to better times for this country and for all of us and to reporting to you again next quarter.

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Source: Strategic Hotels and Resorts Inc. Q3 2008 (Qtr End 09/30/08) Earnings Call Transcript
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