Strategic Hotels and Resorts Inc. Q4 2008 Earnings Call Transcript

| About: Strategic Hotels (BEE)

Strategic Hotels and Resorts Inc. (NYSE:BEE)

Q4 2008 Earnings Call

February 27, 2009 11:00 am ET


Ryan Bowie – Vice President, Treasurer

Laurence S. Geller – President, Chief Executive Officer

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


Bill Crow – Raymond James

Chris Woronka – Deutsche Bank Securities

William Marks – JMP Securities

David Loeb – Robert W. Baird & Co., Inc

Smedes Rose – Keefe, Bruyette & Woods

William Truelove – UBS

Mike Salinsky – RBC Capital Markets


Welcome to the fourth quarter 2008 Strategic Hotels and Resorts earnings conference call. (Operator Instructions) I would now like to turn the presentation over to your host for today’s call, Vice President and Treasurer Ryan Bowie. You may proceed, sir.

Ryan Bowie

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

Today’s 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 beliefs and assumptions.

Forward-looking statements are not guarantees of 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 us here today, Laurence Geller President and Chief Executive Officer, and Jim Mead Executive Vice President and Chief Financial Officer.

Laurence S. Geller

I’ll start with some overview remarks and then Jim will close our comments with specific observations about the quarter. Clearly, our economy is suffering from a fundamental dislocation, which makes it almost impossible to predict the extent of the downturn or how and when the recovery will occur.

Stock markets are near 11 year lows. Consumer confidence this week sank to its lowest level since the measure was first taken in 1967 with the latest numbers reporting a 50% drop from the already low December numbers. This pervasive fog of uncertainty leaves no business immune.

As we discussed during our last quarter’s call and with this uncertainty in mind, late last year we instructed our team to start the process of amending the line of credit. We had one overriding objective. That was to give our company an agreement resilient and durable enough to get us through the trough of recession during the next two years.

Jim will discuss this in more detail during his remarks. However, yesterday we announced the finalization of a successful amendment and are pleased to have over $200 million of liquidity during this highly uncertain time.

With those significant changes to the line of credit and continuing our aggressive expense cutting of both the properties and in the corporate G&A, we have significantly reduced the uncertainty for the 2009 and 2010 periods.

Having severely stress tested various economic scenarios, we have a high level of confidence that our company is well positioned to maneuver through the vagaries of this difficult period that appears to lie ahead for everyone.

We are conducting an aggressive methodical and fully comprehensive asset sales process. However, the market for transaction remains at the best very thin. Regardless of whether we are successful in our disposition efforts, we have adequate liquidity and will increasingly manage operations, corporate overhead and capital expenditures prudently and conservatively until the economy inevitably improves.

Now, our prime focus is on our maturities that begin in 2011 and run through 2012. The amended line of credit and our effective cost containment programs enable us to devote resources to ensuring our company is in a position to refinance or extend those maturities at the relevant time. This must be and is our corporate priority.

You will recall that by the middle of 2007 we were troubled by widening of lending spreads and in August of that year we put the hotel management teams on notice to commence implementation of our hotel level contingency plans, which involved initial labor reductions and other cost cutting measures.

During the 2007 third quarter earnings call, we discussed these actions with you in conjunction with our initial thoughts on the upcoming drop in demand and general economic weakness that it seemed to us would inevitably develop, although we could not have predicted the depth, extent and uncertainty of the economic issues facing us all today.

As the economic situation worsened, we accelerated the implementation of our multilevel contingency plans and, during the first quarter of 2008 conference call, we described to you our six point recessionary plan. Now, one year later, I’d like to give you an update on our progress against that plan.

The first two points dealt with revenues. First, capturing a greater market share and second, using a more expansive revenue strategy to access additional booking channels. Our innovative marketing, revenue enhancing and managing programs have worked well and we are constantly adding new and creative programs, promotions and campaigns to add new business, while countering the negative impact of short-term public opinion and political hyperbole.

Clearly, our approach is working well and our top line performance measurably and increasingly outperforms the national competitive set. Over the past 12 months, our trending RevPAR growth out performance to the Smith Travel Research luxury segment has substantially expanded from [inaudible] to 7.5%. Importantly, that Delta continues to expand.

Our third point related to property level cost containment through the implementation of our detailed contingency plans at each hotel. During 2007, we painstakingly implemented our labor and food and beverage management systems. In addition, during the middle of last year we began to implement our OS&E purchasing program, which will build additional savings into this year’s margins.

These fundamental systems are a key competitive advantage for us and have enabled us to move more quickly and deeply into cost cutting. Since the beginning of 2008, for example, we have eliminated more than 1,200 employees and over 2.5 million labor hours, a reduction thus far of over 15% in each of the salaried and hourly positions.

The 2000 savings are in excess of a $58 million annual run rate. This, combined with our other aggressive and ongoing asset management programs, has resulted in a GOP margin of approximately 37% for 2008, which is in line with our peers, and let me say that’s a significant achievement. Given that with rooms revenue representing just over half of our total revenues, we have 16% less far higher margin rooms revenue than our peers. That’s why the GOP margins for us are such an achievement.

We will not be satisfied, however, until we’ve taken out all possible costs at the hotels in line with downside planning assumptions we are working with. Now, with increasing intensity, we discuss and collaborate with our operators on bold necessary and increasingly painful incremental cost cutting, productivity enhancement and efficiency steps and measures.

The fourth point in our plan was to cut out corporate overhead. As the signs of a potentially sustained weak market became apparent in late 2007, we recognized the need to realign our company’s internal organization with the reality that certain corporate objectives would become less important for what could be an extended period of time.

By the first quarter of last year we had initiated a first round of layoffs in cost reductions. We followed that later in the year with another round of layoffs. Despite having reduced our corporate headcount by almost one-third, we remain a talented and very experienced team of professionals able to navigate our company through these most challenging and unprecedented economic circumstances.

Our general administrative expense was reduced last year to $27 million, which reflected $1.8 million in severance costs and no bonuses paid companywide. Adjusting for severance charges, our G&A was reduced by 19% on a run rate basis from 2007.

This year we seek to even further reduce our G&A and importantly to reach an annual run rate of approximately 20% below the 2008 number, while we seek ways to cut the run rate even further than that. Naturally, this will entail re-engineering many of the methods with which we’ve been doing business.

This will be an ongoing process as we continue to attack our corporate costs with the same levels of intensity, rigorous scrutiny and aggressiveness that we insist on at our properties. And let me stress, we will not be satisfied until we have pared G&A to its barest minimum.

Our fifth point was on preserving liquidity, and in 2008 we radically pared our capital deployment programs. During the year, we concluded previously started capital programs but substantially all other capital project were cut. We made the difficult but appropriately conservative decision to cancel our Aqua Building expansion of the Fairmont in Chicago, and we positioned ourselves to have minimal spend in 2009 and 2010.

We are very pleased with the current physical condition of our portfolio, as it clearly gives us a competitive edge, and will do so as we continue to strive to increase our already growing market share in this highly competitive marketplace today, while it will simultaneously enable us to minimize additional spend during this recessionary period.

Prudence mandated that we discontinue payment of both our preferred and our common dividends, which will preserve over a $120 million in liquidity through the end of this year. Raising additional capital has and continues to be a top priority for us.

Last year we sold the Hyatt Regency Phoenix to raise almost $100 million. I personally believe the buy sell market has become far more difficult since July of last year when we sold the property, and I doubt that we could have achieved that result today.

Having said that, we clearly recognize the need to sell assets to give us further protection in these uncertain times, and importantly to provide us with adequate reserves that may be needed in order to assist in achieving our priority objective of refinancing or extending our 2011 and ’12 maturities.

We are very focused on creating those reserves despite the obvious difficulties and headwinds that lie ahead. The cheapest equity for this company to raise is from asset sales. It is our policy and our intent to leave no stone unturned and no asset sacred in our methodical attempts to raise capital from asset sales.

Fortunately, we have an enviable group of assets in great competitive condition and are firm in our belief that our unique properties in their desirable markets with very limited new supply and extraordinary strong barriers to entry will sooner or later attract a wider range of qualified and financially capable buyers than the more commoditized portfolio and properties.

Recognizing the unpredictability of asset sales, we worked hard with the lenders in our line of credit to take into account, not only the very difficult environment we all face today, but the harsh planning assumptions that we truly hope won’t come to pass. The resulting amendment, not only met our objectives, but is a testament to the long mutually successful collaborative and close relationships we have with so many in our lending group.

You all know there are a few reasons for short-term optimism in the current environment and we’ve had no choice but to plan for historically weak period of lodging, lodging demand, although visibility and predictability are unusually difficult in these economic circumstances. For that reason we cannot give meaningful performance guidance for this year.

From our perspective, success this year will be measured by the continued execution of our six point plan with a great deal of emphasis on cutting additional property level and corporate cost, minimizing deterioration in margins, and when possible supplementing our equity cushion through asset sales.

I do think it’s important at a time like this to take a step back and look at the value of investing in our company today. First, let’s look at an absolute valuation metric. Despite the excellent physical condition of our great assets in markets that have insignificant supply, today our portfolio is valued by the public markets at less than 275,000 per key or approximately 40% of replacement cost.

Keep in mind that our cash flow per key is approximately 60% higher than our publicly traded REIT peers. As we all suffer through this economic malaise, luxury hotels, which previously operated at supper RevPAR growth rates, are clearly dropping faster than other segments.

Although we can’t predict when the inevitable recovery will begin, history would suggest our portfolio is well position to meaningfully outperform the market as luxury hotels improve more quickly and with greater velocity during periods of recovery.

Let me give you an example. With the five-year period coming out of the 1991 recession, luxury hotels had an average RevPAR growth of 8.2% versus 4.6% growth in all segments. Similarly in the four years following the 2001 to 2003 slowdown, luxury RevPAR growth averaged 10.1% versus 7.4% for the broader set, and supply growth, let me add, was certainly much higher in those periods than we’ve recently had and are expecting to have over the next several years.

So our concentration of select luxury hotels, the relative undervaluation today in comparison with stock market trading, the lack of future supply and the historically observed out performance of the luxury set in recoveries combined to give us a reason for optimism in the further valuation of our portfolio and company.

We’ve never sugarcoated our observations to you on the market and our challenges ahead and we won’t start now. Like the rest of the real estate industry, we expect to be facing many unforeseen and many foreseen issues both operating and capital markets generated.

So at this stage I can say with confidence that our management team is planning for a volatile, challenging and unpredictable environment, while efficiently executing the programs and tactics that are under our control.

At the same time, we are nimble and creative enough to notice and take advantage of whatever changes patterns and niches in high end lodging demand that will come about as the economy moves forward, and having a durable credit facility that provides both liquidity and term, allows us to focus on our priorities and to thoughtfully address other issues as they inevitably emerge on the apparently winding road ahead to economic recovery.

I’d now like to turn the call over to Jim for his remarks.

James E. Mead

Yesterday evening we reported fourth quarter FFO per share of $0.17, and EBITDA $48.7 million. For full year we reported FFO of a $1.27 per share and EBITDA of $234.2 million. Our RevPAR results, reservation center calls and booking activity pace and just about every measure we focus on declined in the months following the Leman Brothers failure.

During the quarter, North American RevPAR was down 13.3% driven by a 7.6 percentage point drop in occupancy and 3.2% decline in average rate. Our management companies where and continues to maintain rates within pricing segments, although a change in the mix of business has dropped the average rate.

On the group side, room nights were down nearly 10% and our performance reflected replacing historically high rated corporate groups with lower rated association business. We’ve also seen a decrease in the group related room spending, as an example we’ve seen a drop in the demand for suites associated with group business as companies pare the cost to their meeting activities.

Cancellations and attrition increased during the quarter and our group sales, which maintained its year over year pace until September, fell off in the fourth quarter and were down about 20% in definite group revenues by year end.

The luxury segment continues to fight the perception of extravagance associated with the high end branding our hotels as what’s been caused the AIG affect continues to impair our ability to attract group business, particularly, with our two Ritz Carlton hotels.

On the transient side, rate was down about 8% on lower demand from leisure and corporate business. An increasing number of rooms are being booked through discounted channels, incentives are more prevalent and rooms booked at premium rates were down 36% in the fourth quarter.

Non-rooms revenue was down 12.3% in the quarter mostly as a result of lower occupancy, combined with a sharp decline in holiday parties from the prior year. Food and beverage spending per occupied group room was only off moderately with a 2.2% decline.

During this challenging environment, our operating capabilities and systems are our critical skill set. We continuously tailor property activities to be proactive to market variability. We’ve been implementing our cost contingency programs for a year and a half now and our operating margins are benefiting today. And more importantly, we are well prepared for continuing weakness in demand this year.

In addition to the labor cuts we’ve already discussed, we continue to target incremental reductions for example, in brand and service standards and outlet in concierge lounge hours through renegotiating service contracts, and the implementation of the buy efficient purchasing platform across our properties to drive our OS&E costs down, generating significant added savings.

Our food procurement programs limited increases in purchased food costs to 10 basis points despite a 6% increase in the wholesale cost of food. The last half of 2008 was a period when many of these cost reductions were taking place. During the quarter for example, we had $520,000 of property level severance that cost about 25 basis points in margin.

Despite these costs, we managed to a fourth quarter 440 basis point contraction in operating margins on a 13% decline in total revenue. And for the year, a decline of 150 basis points on a 3.5% decline in total revenues.

Returning to our European portfolio, we reported an 8.9% decline in RevPAR and 10.7% decline in total RevPAR measured in constant dollars. The implementation of new labor systems enabled us to maintain our margins during the quarter. By the way, the Renaissance Park reported a 12.6% increase in RevPAR showing the benefit of its recent re-branding and repositioning.

Excluded from our comparable results, are impairment and other charges totaling $361.8 million for the full year of 2008. This was largely comprised of a $318.1 million impairment of goodwill, a $35.7 million charge taken in the third quarter related to our decision to cancel the Aqua Building expansion of the Fairmont Chicago Hotel, and $8 million in project write-offs for projects that no longer pencil in the current environment.

I’d like to focus on the impairments to goodwill specifically. The standards for carrying goodwill on assets have tightened over the past year as companies have lost market capitalization to the point where we and others are treading below book value. The tests for impairment are subjective as they depend upon a discounted cash flow valuation, an allocation of value between the components of the property.

Because of the eroding operating environment and the uncertainties in our future performance, we took a very conservative approach in our valuations and allocations, which resulted in the write-off. We’ve taken one more step to conserve liquidity in this current credit constraint environment by eliminating preferred dividends. This will improve cash flow by $7.7 million per quarter.

While we recognize this is a dramatic step and that we fully plan to make our preferred shareholders whole in the future, we simply cannot underestimate the possibility of further weakening in the markets. So we’re going to hold onto this capital for the time being, at least until we can see the other side.

On a technical note, our income statement will continue to show preferred dividends as a deduction from net income to get to income available to common shareholders. We don’t feel like we’re in a position to deliver a reliable forecast for the year.

Our typical indicators of performance have proven to be unreliable and uncertain and uncertainty has led us to be more conservative in all of our decisions during the past 18 months, including our cost cutting, suspension of our dividends, cancellation of our capital projects, and amending our line of credit.

Our trend for the first quarter indicates that we’ll be down in RevPAR between 20% and 25%. We closed the amendment to our line of credit last Wednesday. It was designed to survive a severe operating scenario where we lose 50% to 60% in EBITDA this year and have no improvement until 2011.

The major changes are that we reduced the line of credit to $400 million, gave up security in five previously unencumbered hotel assets, and increased the pricing. In exchange, the banks reduced the minimum fixed charge ratio to 0.9 times and increased our maximum leverage test to 80%.

It’s also important that we kept an ability to release hotels out of the borrowing base for a separate financing or sale. So now we have $200 million in available liquidity in a facility that we believe is durable enough to give us confidence in these uncertain times and no maturities until 2011.

That concludes our call, thank you. Operator, let’s open it up for questions.

Question-and-Answer Session


(Operator instructions) Our first question comes from Bill Crow – Raymond James.

Bill Crow – Raymond James

Just a couple questions, on the asset sales program that sounds like you’re attempting to undertake, would this be more focused on assets outside the U.S., inside the U.S., are there any assets that are off limits because of debt issues or conversely are there any assets that are more appealing because they have assumable debt that a buyer might be able to take on?

Laurence S. Geller

Bill, let’s start, I said during the remarks that no asset is sacred, so there is no asset that is not discussable at this moment. Obviously some assets do more for us than others. Those that we can withdraw that have limited debt or no debt encumbrance we can draw from the line of credit properties, those that have substantial coverage over current debt, etc.

I don’t think it’s appropriate to go into the specifics of what debt is assumable or not assumable, but everything is on the table and the experience within this company at selling and structuring deals around debt issues is such I have no doubt that if the buyers emerge, we’ll find a way.

James E. Mead

Bill, I’d like to add the line of credit amendment gives us the breathing room to take us until our maturities start beginning in August of 2011. So, asset sales are something that we can be aggressive in considering, but we do have now some breathing room and focus on the objective, which is the next step in this cycle, which are recent assets.

Bill Crow – Raymond James

Have you started marketing any assets recently and can you give us any feedback for what the interest level is?

Laurence S. Geller

The answer is we haven’t stopped marketing assets and we’ve been increasingly aggressive as 2008 went on and we have gone down many paths and as the economic crisis continued and the credit markets tightened even further, we have had disappointments but having had those disappointments hasn’t deterred us from keep going on.

Bill Crow – Raymond James

Does the credit facility restrict your use of proceeds from any asset sales? In other words, could you use it to pay down the exchangeable note balance at big discounts, or would you have to pay down the credit facility first?

James E. Mead

Well, we certainly have to maintain some certain pro forma coverage and leverage when we sell an asset that’s encumbered under the credit facility. I don’t think it’s particularly punitive so we would have available liquidity, but let’s be clear. The first goal, Bill, in this market at this time would be to improve our liquidity position. I think our second goal would then be an allocation of that liquidity, and right now the first thing is to have that cushion, I think.

Laurence S. Geller

Bill, if I can sum up this question on asset sales. We are very comfortable that the lending group worked with us, knowing our overwriting objective is to provide this liquidity cushion for various usages including, as I mentioned, having reserves available if we have to use some of this cash as one of the methods of extending or refinancing.

So the line of credit amendment has been tailored around this objective, so we are satisfied that it gives us the flexibility to sell assets and to improve our liquidity cushion, if and when we can find the buyers.

Bill Crow – Raymond James

Yes. Is it just impossible to find buyers both in the U.S. and outside the U.S.? Or is there more hope that, for example, in Europe there might be more buyers than there would be here in the states?

Laurence S. Geller

I would say the pervasive uncertainty is there and when you have the buyers, they're not sure whether this is the time to come in or not. Having said that let me make sure you do understand. We have a unique group of assets. The challenge we have through a very methodical process is to isolate buyers who have certain interests in assets. We will then try and tailor their needs to one of our assets and their structures to work around it.

So it's a very rifle short tailor made approach, very unusual. This isn't a matter of printing a book with lots of pretty pictures and disseminating it through thousands of distribution arms. This is isolation of individual buyers who have the financial capability because obviously liquidity is a major issue in this market.


Our next question comes from of Chris Woronka – Deutsche Bank Securities.

Chris Woronka – Deutsche Bank Securities

Just to kind of follow up on the liquidity front, how do you start thinking about the del Coronado situation? You've got almost two years, but just maybe your thoughts on what the potential options there are on the debt and then noticed that the performance of that property in the fourth quarter was quite good on relative basis. Is there something there? Do you see any changes there as the year starts?

James E. Mead

It's going to be entirely based on two things. One is the operating performance, which if it holds up the way it has in other recessions, it would be better relative to other properties. And the second is just the fundamental ability to move a $600 million mortgage through the marketplace when we get to January of 2011.

I don't have a magic ball and I don't think we have a great forecast on what that means at this point, but it's certainly something that we're going to have to focus on over the next 18 months.

Chris Woronka – Deutsche Bank Securities

I think we saw a pretty big change in the industry starting in probably late October, November. Has anything changed for the better or for the worst in terms of behavior of bookings or timing of either cancellations or short-term pickup bookings?

Laurence S. Geller

Chris, I've been reading your comments over the last months and I think you've pegged it very well. But fundamentally we don't believe as a company that we have seen any more surprises since the middle of November. Now, having said that, sadly our predictions are coming true but we are not being surprised. So, so far we are bouncing along with no surprises.

Having said that, the meeting's business is a challenge for two reasons, obviously fear of the economy and fear of negative publicity is going on and its craziness. We hope this is a short-term overreaction and we're taking steps politically and practically to mitigate that.

Having seen that there is no major changes in booking patterns, demand pace, demographic usage patterns, propensity to consume measures, anything we look at over two years ago. It's just the amount of use on that. The only issue that we believe and hope is short-term is the use of meetings business.

Having said all of that, we know full well, as does the rest of the lodging industry, that we cannot rely on the financial services markets going forward, which represented approximately 5% of our business. So we are taking steps aggressively through different niche marketing, different methods to supplement that permanently assuming a systemic change in that market. But that is the only market I think we see systemically changing.

Chris Woronka – Deutsche Bank Securities

Just one small question here, looking at Half Moon Bay against Laguna, pretty different margin performance there, anything specific to one of those that would cause Half Moon to be worse or Laguna to be relatively better?

Laurence S. Geller

Well, size and scale obviously make a big difference to margin and that's probably the key issue. The second issue is obviously Half Moon Bay, the old story any publicity is good publicity is not in the case of Half Moon Bay where it got tarred with the AIG brush and then publicly singled out in a Wall Street Journal article on southern hotels in the last couple of weeks.

So it's really booking paces down more than Laguna in many ways because of that and it's the size that impacts the margin issue there. But I think we now recognize that this is what we have to view as the status quo for the next 18 months or two years, and the team are doing the best they can now going forward to reengineer the operation accordingly.


Our next question comes from the line of Will Marks.

William Marks – JMP Securities

I have a question on the credit facility amendment. On the fixed charge coverage ratio to 0.9 times, just wondering how banks, and you think about that essentially implies that I guess you're not able to cover your payments for some period of time. And I know this is hopefully painting a worse case scenario, but is that something that is particularly difficult to get the banks to accept?

James E. Mead

Yes. Look we're very, very fortunate. I've done workouts before with other big real estate companies and in situations, which were far worse for the company than we have here. We have a good portfolio. We have five outstanding unencumbered assets. We structured the balance sheet to have this contingency for this type of period in time not knowing, obviously, that this would happen.

But I've got to tell you the banks were extraordinarily constructive with us. This was not a fighting match. This was a sit down here's what the next couple years to me look like. Let's design something that works. And I have to say they were extraordinarily constructive.

I don't think the terms of our deal at all reflect market conditions today in the capital markets. So we were very please. And I have to say it's a little out of the relationship that we've developed with these banks over the years.

Laurence Geller

Will, just as an aside, again, going on the banks, given that we started this process in November, as you know as we discussed with you, and there was a continually deteriorating planning environment ahead and the banks really worked well with our team to try and compensate and modulate as new information came in, as conditions seemed to get basically pessimistic. So this was I won't say a poster child but having been around all these years, this was an exemplary way of doing business.

William Marks – JMP Securities

And on the amendment, are there some additional items that may be pertinent for us to know about, for example, limitations on CapEx and share repurchase? You may have mentioned some of this. I missed it.

James E. Mead

Yes, there are. Obviously this stuff has been filed and you can look at it. I'd be happy to talk to you offline about any of the details as you go through it. But in the cases where you're not covering interest or you're below one-to-one, there are certain constraints that we face in terms of being able to pay dividends, etc.

I’ll comment right now, our coverage ratio is over 1.4 times, so we have quite a ways to go before we actually get there. But I'd be happy to talk to you offline on the various differences in the bank facility.


Our next question comes from David Loeb – Baird.

David Loeb – Robert W. Baird & Co., Inc

I'd like to start with a big picture question, Laurence, following up on your discussion response to Chris's question. There's really nobody I'd rather hear from than you about long-term changes in the industry. And I hear you about what could be a permanent change in financial services.

But do you think that there's an impact on luxury generally as you look out long-term or at least for the next several years? Do you think that the premium between luxury and upper up scale, chain scale pricing is likely to contract even as ADR starts to move up broadly just given the way luxury is perceived today both by leisure travelers and by corporate travelers?

Laurence S. Geller

It's a very, very good question. Please understand the first cycle I had to manage through in a leadership role was the 1974, '75 situation. The same question about whether high end lodging has had a systemic change is appropriately and naturally asked during each cycle and no, and I have generally found that the answer is no.

There will be certain changes in patterns. The financial services industry may go away but there will be other industries that come up and high end hotels, as people are selling marketing and have disposable income, inevitably will maintain the same role in society they have done all measured history, which is essentially personable for all measured lodging history.

So no I don’t think so. What I do think is there maybe some short-term pattern changes, which is what our team has to be nimble about but long-term, let’s assume that the financial services industry goes, another one will replace it. Other issues I could speculate, perhaps its different energy source industry, who knows what will be the industry de jour.

We were asked the question as you will remember, David, you and I had a conversation about when the tech business went down, would anything ever replace that as far as the high end. I’m confident but let me make sure, confident is not complacent. We are covering our basis with our marketing plans for this year and next year and our guerilla marketing tactics to make sure that we pick off the niche players that will use our hotels and the groups that will be attracted to our type of facilities.

So to answer it, no I don’t think it’s a change but it isn’t easy. On the other hand, the mitigation is there are so little supply and I see the same spiking up for upscale high end lodging as we do spiking down at the moment.

David Loeb – Robert W. Baird & Co., Inc

To become a little more granular, just looking at the two Ritz’s and the Four Seasons in D.C., it’s pretty clear that different managers have very different approaches to maintaining rate versus giving up occupancy and the margin impact that has.

Clearly, your cost control efforts were clearly visible in the fourth quarter, but can you just talk a little bit about how some of these highest end brands are dealing with cost control and how much leverage you have with them? It looks like the two Four Seasons in Mexico actually were a bit tighter on their cost control than D.C. Does that reflect your role with Four Seasons or is that just the nature of those markets?

Laurence S. Geller

First of all, all the properties are different. D.C. is really very much an [inaudible] house than more of a group house, whereas the Ritz Carlton’s are largely group houses. Mexico, you have a different market in Mexico City and Punta Mita is still an incredibly desired resort, taking a small turndown, obviously a lot of reasons, but not a dramatic one. Still the propensity to pursue high end guests is astonishing.

No, let me go to your question. I would say all of the chains were shocked with our leadership in the 2007 period, have accepted it, have worked very collaboratively to implement increasingly aggressive systems, changing standards, changing issues but we are very cautious. We will modulate standards, amenities and staffing only in line with consumerism that mandates how low you can go. There’s no point in killing the goose. So, no I can only say good things about the chains.

I will single out, however, Ritz Carlton who have used the Ritz Carlton Laguna Niguel as a test kitchen, if you will, for putting in new efficiency and productivity measures, and I think the results there were way, because of using it as a prototype environment, were way ahead of others.

David Loeb – Robert W. Baird & Co., Inc

And one final one, you said you were going to cut G&A to the bare minimum, you’ve clearly cut a lot of headcount at the corporate level, but your cost structure is also pretty clearly tilted toward the top end of your headcount. What does that mean? I mean we all enjoy working with the people that we work with but there’s a lot of people in fairly senior positions, maybe this is a question for Jim.

Jim, how do you manage your G&A load and your corporate staffing in terms of senior level positions as you work towards bare minimum G&A?

Laurence S. Geller

First of all as was mentioned, there’s a just under $5 million non-cash component in the G&A. There are certain costs endemic in running a public company. We took no bonuses this year. We have chances of looking at number of our schemes from the method of incenting people onwards and upwards.

With respect, I think it’s a question that’s somewhat sensitive. We are in the process of doing it, as we were we announced our goals last year and carried on doing it. I think it’s probably best to understand what we’ve done by hindsight rather than discuss it before we do it.


Our next question comes from the line of William Truelove – UBS.

William Truelove – UBS

Just a couple of technical questions, on the fixed charge coverage ratio test for the credit facility, even though you’re not paying the preferred, does that preferred accrual get calculated for that fixed charge test for covenant relation?

James E. Mead

No. It is cash payments.

William Truelove – UBS

Cash payment, not the accrual.

James E. Mead

If it goes away, it gets taken out.

William Truelove – UBS

Second technical question then about that is, so I assume that the distributions payable liability will increase on the balance sheet, what’s the offset?

James E. Mead

There isn’t a balance sheet entry. It’s a deduction after net income to get the distributions to the common shareholders but there is no entry on the balance sheet.

William Truelove – UBS

So I won’t see distributions payable increase even though it’s accumulative? That’s accumulative preferred right?

James E. Mead

It is accumulative preferred but you will not see dividends payable increase. The only time you see dividend payable increases are when the dividend is actually declared, not when it’s scheduled.

William Truelove – UBS

I guess for Laurence, in the past when you’ve gone through a call on the hiccups of the company, either getting the spin-off to go public or now this, you one time mentioned to me that to try to get some of the projects rolling it was like pushing a stalled car, first it’s very difficult and very slow and then once everything gets rolling, it’s quite easy.

When you’ve pulled back the number of projects and CapEx spending now, and I don’t blame you, does that mean that when things do eventually improve, do you feel like you’re going to have to go through that same process again where it may take a longer time to get some of the projects, that you all are known for, to get going or do you think you could do it rather rapidly?

Laurence S. Geller

It is a momentum building exercise, however, as I have mentioned in previous calls, we are in the position of having many of these projects in advanced stages of entitlement if not entitlement ready and in advanced stages of planning. So now they go on the shelf.

See the projects are, there’s entitlements or with finished completing entitlement works, there are plans what we have to do when the time comes and hopefully this will come sooner rather than later, although it’s hard to look at it now as we’re so narrowly focused on cost cutting and maturities extensions or refinancing.

We will bring those projects off the shelf, re-look at the consumer research applicable to them, see if they’re still viable or need re-engineering and go forward. I think it’s actually a very quick process relative to what we’ve been through and it’s an investment in an asset.

We view it as an asset of this company, these projects and entitlements. The longer the process goes on, the more consumer patterns might change, maybe we’ll be dealing with square bathtubs, I don’t know but something may change.

But in general, I view in our management in broad view that we have a very enviable inventory on the shelf to kick start growth. As we’ve always said from the non-cyclical rooms, renovations, etc., very high, taking those out because they’re just part of the general costs.

Very high ROI projects, so we’re very pleased with our ROI on what we’ve done before and frankly, the projects we’ve done in the past, have given us this enviable competitive position that’s partially reflected in our growing market share.


Our next question comes from Michael Salinsky – RBC Capital Markets.

Mike Salinsky – RBC Capital Markets

Real quickly in terms of your debt right now, are there any of the mortgages that have any kind of corporate covenants or anything they could draw back so just in a complete draconian scenario, if you had to give the property back to the bank, they could come at you with that?

James E. Mead

No. All of our property level debt is non-recourse to the company. The only recourse debt we have is our line of credit and the convertible debt.

Mike Salinsky – RBC Capital Markets

Second, you pledged to get essentially five assets to a new line of credit. Which assets currently are completely unencumbered?

James E. Mead

We have one asset right now that’s unencumbered, which is our hotel Le Parc in Paris.

Mike Salinsky – RBC Capital Markets

And you can transfer within that pool that you have the ability to transfer in that asset if you were to sell another one that’s currently encumbered?

James E. Mead

Well, we can it’s not as easy as it was before because there is some bank approval involved. I think most important is not the ability to transfer assets in because we only have one other that unencumbered it’s the ability to release an asset for sale or refinancing outside of the facility.

Mike Salinsky – RBC Capital Markets

Finally, in terms of your CapEx for 2009, what is the FS&E requirement that you guys have to spend in 2009?

James E. Mead

We’ll have to spend, there’s very little requirement, but the reserve itself is between $40 and $45 million. Our internal policy during these times is to obviously conserve as much as possible and focus mainly on very necessary improvements or life safety issues.

Mike Salinsky – RBC Capital Markets

So the total amount of CapEx as your running through sources and uses for 2009, what is the total amount that you expect to spend?

James E. Mead

Well, it’ll be less than the $45 million. Our internal numbers that we run, I don’t think we’ve got the exact number, I think our goal would be substantially less than the $40 go $45, and then we’re also holding a reserve of $10 or $15 million for non-FS&E spend. But these are just planning numbers they’re not the reality. The reality is that we’re as we go paring as much as possible throughout the portfolio, so I don’t have a better guidance number for you on that.

Mike Salinsky – RBC Capital Markets

Are there any other spending commitments you have for 2009 outside of recurring CapEx? I know the Santa Fe Four Seasons you talked about on prior calls there are some outlays for that and various things. Is there anything else that we’re missing form an outlay standpoint?

James E. Mead

There’s nothing that’s absolutely got to do committed capital.


Our next question comes from Smedes Rose – Keefe, Bruyette & Woods.

Smedes Rose – Keefe, Bruyette & Woods

I just wanted to ask you, on the preferred are we right in thinking if it’s not paid within six quarters the owners can then put directors on the board, is that correct?

James E. Mead

That is correct. If we go six quarters without any payments of the standard dividend level, the preferred shareholders can call an election to elect among the preferreds voting two directors to the board of directors.

Smedes Rose – Keefe, Bruyette & Woods

Is there any guidance you can give us for the taxes in 2009? They ran about $9 million in ’07 and $10 million on ’08. Would you expect that to be I assume significantly reduced this year, but it’s a hard number to model?

James E. Mead

I understand it’s a difficult number to model and I’ll give you the short answer. We get taxes largely from Mexico and from London. The way I think about it is, and I’ll just give you sort of a general rule of thumb instead of the technical answer.

If our EBITDA this year in 2009 is 20% lower than last year 2008, then we’d have a tax expense of somewhere between $7 and $8 million. If that number, for example, went to 40% down year-over-year, I think our number would be somewhere around $2 or $3 million. Those are rough but I think that they’re good enough for you to sort of get a sense.


At this time we are showing no further questions available. I would like to turn the call back to management.

Laurence S. Geller

Thank you very much for the questions. We look forward to speaking to you at the end of the next quarter. On a personal note, I hope when we do speak to you that our economy is beginning to show signs of improved trends, the credit has begun to loosen, consumer confidence on the rise and we can perhaps see into the future with more clarity. We are optimists but we are pragmatists and thank you for your time.


Thank you for your participation in today’s conference. This concludes the presentation. You may now disconnect. Have a great day.

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