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Executives

Stephen Schafer – Vice President Investor Relations

Rick Smith – President & Chief Executive Officer

Andy Welch – Executive Vice President & Chief Financial Officer

Analysts

Patrick Scholes – Friedman, Billings, Ramsey & Co.

William Truelove – UBS

Will Marks – JMP Securities

Chris Woronka – Deutsche Bank North America

[Andrew Whitley]

Nap Overton – Morgan Keegan

FelCor Lodging Trust Inc. (FCH) Q1 2009 Earnings Call May 8, 2009 12:00 PM ET

Operator

Welcome to the FelCor's first quarter earnings conference call. (Operator Instructions) I will now turn the conference over to Mr. Steve Schafer.

Stephen Schafer

With me this morning are Rick Smith, President and CEO, and Andy Welch, Executive Vice President and Chief Financial Officer. Rick will address current operating environment in our areas of focus and Andy will then discuss the results for the quarter, important balance sheet items and our outlook followed by your questions.

Before I turn the call over to Rick, let me remind you that with the exception of historical information the matters discussed on this conference call may include forward-looking statements within the meaning of the Federal Securities Laws. These forward-looking statements are expressions of current expectations and are not guarantees of future performance.

Numerous risks and uncertainties and the occurrence of future events may cause actual results to differ materially from those currently expected. These risks and uncertainties are described in FelCor's filings with the Securities and Exchange Commission. Although we believe our current expectations to be based upon reasonable assumptions, we cannot assure you that our expectations will be attained or that actual results will not differ materially.

And with that, I will turn it over to Rick.

Rick Smith

There have certainly been some positive signs in the past month both from a capital markets perspective and from an operating perspective. The approach the administration and the treasury are taking, while still not comprehensive enough to completely solve the problem, is showing promise as evidenced by the recent activity in both the debt and equity markets.

Additionally, absolute occupancy in April was nearly three points or 4% higher than March, notwithstanding the fact that Easter fell in April versus March last year. While it is good to see this positive movement, this is still going to be a difficult year and our approach and focus will not change. On the last call I told you that our priorities were extending near-term maturities, other refinancing issues, preserving liquidity and hotel operations.

To that end, in March we closed the refinancing of our loan material 2009 maturity in a deal with Prudential to refinance seven hotels. Andy will give you some color on this later, but I just wanted to say that we really appreciate Prudential's work on this facility and the fact that they increased their exposure to the company by $40 million.

We continue to work closely with a group of relationship banks to finalize a nine-property secured deal. The result of which will extend our maturity profile somewhat and remove all financial covenants, except for the incurrence test with our bonds where we have plenty of cushion. As I mentioned last time, work has begun on addressing our 2010 and 2011 maturities. And once the bank deal is closed that work will increase in earnest, however, it is still premature to discuss these plans at this point.

We continue to carefully control all expenditures in our hotels and at the corporate office, including capital and redevelopment spending, and as we announced in March, the suspension of our preferred dividend. This decision was absolutely the right decision for the company at this time. The combination of the moves we have made this year will keep us cash flow positive during this difficult year.

Operationally, market share and flow through continue to be our mantra. In the first quarter we increased market share by 1% overall, and 2% on the 70 hotels where renovations were completed in '07 and '08. This, notwithstanding the fact that our Union Square property lost 25% market share during the quarter as we finished the primary portion of the redevelopment.

In April, market share increased 5% for the entire portfolio in part due to the new San Francisco Marriott Union Square gaining considerable market share versus the prior year. Since we flipped the switch on April 1, the ADR at the Marriott has increased from $117 in the first quarter to $157 in April and occupancy increased from 41% in the first quarter to 73% in April. This was truly a transformational redevelopment and has come out of the gate even better than expected.

Flow through was once again very strong. The prior year the negative flow through to hotel EBITDA was limited to 44%. We continue to work with the managers very closely to do everything we can to mitigate declining revenue. In the first quarter, even though RevPAR was down more than expected, FFO per share and EBITDA were at the high end of our expectations. And we feel good about the measures that we have put in place across the board, and that process will continue throughout the year.

From a market perspective, our best RevPAR performers were Austin, Boston, DC, Myrtle Beach and Ventura County. Our Midwest and Texas hotels also did relatively well. Government business drove Austin and DC, and while the Myrtle Beach market did reasonably well, our hotels there vastly outperformed the market by virtue of the new convention center that we opened in early '08 and the renovation of the Embassy.

The other markets were driven by a mixture of things which helped those markets to be more stable than some others. Our worst performing markets were Atlanta, San Diego, Phoenix, Philadelphia and San Francisco largely due to weakness in group. The entire Atlanta market was soft, but we additionally lost share in Atlanta at our two Sheraton properties. In San Diego, the new 1,200 room Hilton that opened last December has created decompression for the downtown market and has had a fairly significant impact on our hotel.

Phoenix was related to an overall market softness, although that seems to be stabilizing a bit, and some new supply. Philadelphia has performed okay generally, but our two hotels there are have lost share. We have plans in place and are attacking these markets as aggressively as we can. Philadelphia, for example, regained share in April.

From a brand perspective Embassy, Marriott and Holiday did the best with Embassy leading the way and increasing market share by 6% while Starwood and Doubletree lost share. The Doubletree issue was related to specific clients in two markets, in one general market. There are plans in place for all the market share offenders. And while Starwood has made some positive strides in flow through, we continue to need more attention on the market share side.

From a segment perspective, leader occupancy is holding up fairly well down only 3% to prior year, while overall group business and corporate travel were down the most. We obviously continue to open up other channels of business such as government, consortium and [smurf] and aggressively go after those segments to mitigate the drop in corporate and group business.

While demand trends looked better in April, May should be a very telling month as it represents the first month of decreasing demand in 2008, and the comps should get better. We'll continue to closely monitor trends and make the necessary moves to drive market share and flow through.

And with that, I will turn the call over to Andy.

Andy Welch

Let me start by discussing our liquidity and how we have positioned ourselves to withstand the downturn. We are taking steps to insure adequate liquidity and extend our debt maturities. On March 31, we refinanced our maturing line with Prudential, which was our only significant debt maturity in 2009. This new $120 million loan matures in five years, is secured by seven hotels, has a fixed rate of 9%. We had $128 million outstanding on our $250 million line of credit. We remain in compliance with all covenants and terms.

We continue to make progress towards a new $200 million term loan. We have agreed in principle on the material terms of JP Morgan, the lead lender. The shift in the timeline to close this facility was due to the long lead time to complete and finalize the appraisals. They are now final along with all third party reports. The lender group is finalizing due diligence and are pursuing approval. We expect the loan to close by the end of this month.

The material terms include a loan secured by mortgages on nine currently unencumbered hotels, matures in four years including extension options, no corporate financial covenants, and proceeds will be used for general corporate purposes and to repay the outstanding balance on our line of credit. As this facility is not yet fully committed, I'm not in a position to discuss further terms or details until after we close the facility.

We are also working on plans to address our 2010 and '11 maturities. This is a very fluid process. I am encouraged with the positive momentum in the capital market today. TALF now includes commercial real estate securities with a term of up to five years. A number of REITs have accessed the public equity market. The high yield market is starting to open and credit spreads have tightened meaningfully.

We have improved our liquidity position by reducing expenses at the hotel level and the corporate office. We have limited capital expenditures and suspended dividend. Those measures will result in positive cash flow in 2009. We suspended payment of our preferred dividend in March of this year.

We will review preferred dividends each quarter based on various factors including operating results, economic conditions and other operating trends, our financial condition, the capital requirement as well as the minimum REIT distribution requirements.

Both preferred series, the A and the C, dividends are cumulative meaning that we have to bring them current prior to reestablishing our common dividend. Based on our guidance, we will not have to pay another dividend during 2009 to maintain our REIT status.

First quarter RevPAR declined 19.6%, as Rick discussed, this decline was more than expected. However, we have been very proactive in reducing hotel level expenses, which resulted in higher than expected operating margins. Hotel EBITDA margins have climbed 395 basis points, which was better than expectations.

Factors contributing to the reduction expenses include decreases in labor costs, including permanent reductions related to a decrease in hotel departmental employees, decreases in non-critical room expenses such as guest transportation and in-room amenities, lower incentive management fees and greater efficiencies in food and beverage outlets. Hotel costs declined $32 million or 15% compared to prior year.

Property operating cost per occupied rooms, which include rooms and F&B expenses, declined 4% compared to last year to $57.50, due to continued productivity and cost containment measures. Overhead costs per available room, including maintenance and G&A, were reduced 12% to $26.69 largely due to lower headcount. Prior to property taxes, insurance and lease expense hotel margins declined only 294 basis points.

Property tax, insurance and lease expense decreased 7% compared to prior year and were consistent with our expectations. We have had success fighting tax increases in the face of increased assessment from renovations and budget shortfalls from municipalities. Over the last 90 days, we have sold two of our three Kansas JB hotels for proceeds of $5.5 million. These two hotels produced EBITDA of a little under $400,000 had negative NOI.

Proceeds were used to retire a portion of JB's mortgage loan. We continue to market for sale the remaining Kansas hotel, as well as five wholly-owned hotels. Given the current state of the capital markets, the transaction market continues to be slow. We are under no pressure to liquidate any assets and will hold these properties until adequate pricing is achieved. We do not expect to sell any additional hotels during 2009.

Based on our current trends and first quarter actual results, we are slightly reducing our RevPAR outlook. For the full year, we are expecting RevPAR to decline between 12% and 14% compared to 2008. However, we continue to expect market share growth of approximately 1% to prior year. We have assumed continued RevPAR weakness through the first half of the year and a deceleration of that weakness beginning in the second half, with low single-digit RevPAR decline in the fourth quarter.

This dynamic reflects easier comparisons from last year and does not assume an improvement in demand. Our guidance assumes a continued increase in unemployment, which was reported today at 8.9% and a modest improvement in the credit markets. As a result of continued cost controls, we expect Hotel EBITDA margins to be slightly better than originally anticipated; therefore, we are maintaining our EBITDA and FFO guidance.

Our FFO guidance takes into account the accrued preferred dividends. Our interest expense guidance also remains unchanged and includes the $120 million term loan closed in March at an interest rate of 9% and the proposed $200 million term loan. Half of our debt remains at floating rates and LIBOR's forecasted based on the current forward curve.

Based on the midpoint of our guidance and the closing of the proposed $200 million term loan, our operating cash flow for 2009 will be $20 million, which is after capital expenditures of $84 million and prior to any scheduled debt repayment. We will also end the year with a cash balance of approximately $120 million.

That concludes our formal remarks and we're now ready to address any questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from Patrick Scholes.

Patrick Scholes – Friedman, Billings, Ramsey & Co.

Just a couple of questions here, you mentioned in the remarks that occupancy was up 3% in April. Can you give some commentary on as far as pricing?

Rick Smith

Just pricing in general?

Patrick Scholes – Friedman, Billings, Ramsey & Co.

Well, yes, pricing in relation to I mean basically how much is price being cut or price a factor in occupancy increased slightly.

Rick Smith

Okay, well, what I would say is that we've got a split, you've got to look at both reasons that pricing is reducing that ADR is reducing. About 70% of that is really due to remixing the business, and that is being very aggressive when the corporate traveler and a group falls off, being very aggressive in going out and replacing that business.

Now, of course, you're replacing that with lower rated business so you are basically taking your ADR down by virtue of doing that. Only about 30% of it is related to absolute drops in rate where you've got a situation where somebody in the market is taking down their rates, trying to steal share and you're being forced into certain issues here and there.

However, the rate integrity has been maintained far better than it was in the last cycle. So when a corporate traveler and group traveler starts to come back, we'll be able to make strides on that much more quickly. Does that answer your question?

Patrick Scholes – Friedman, Billings, Ramsey & Co.

It does, thank you. One more question here and I think I asked about this on the February conference call or March conference call and you also touched on it today about some of the brands. Some are outperforming as far as market share, some are underperforming. Especially, specifically with your underperformers have you seen any progress at all and what would you say what areas would like to see progress as far as best practices. What are the better ones doing better than some of the underperformers?

Rick Smith

Well, I think it's just a nuts and bolts thing, Patrick. Some brands are definitely doing better than others. The brands that are not, there's a couple of things. Number one, we have had meetings with those brands at the more at the top level and are working down through that, and we are working on plans to put in play. As far as the good performers go, obviously, Embassy is a real value play for a lot of travelers in the current economic conditions.

But back to the poor performers, we have had those meetings. There are plans in place that we are pursuing. We showed a little bit of improvement in April on one brand in particular, but there's a lot more to go. Our overall market share for April for Starwood was only slightly down versus how it had been trending, but there still were seven of nine that negative, but overall it was only slightly down.

So we're continuing to work that process with them and they are working with us to get those plans in place, so that's kind of what we're doing. But base business, government is kind of in working on smaller groups and group business that is available are things that we are working on to try to drive that share and go out and get that business to replace some of the business that's not showing up.

Operator

Your next question comes from William Truelove.

William Truelove – UBS

Given that you're going to the potential debt deal that could probably have nine of the current unencumbered assets encumbered with this new debt, on a pro forma basis assuming nothing changes after that, how many unencumbered hotels would you have after that?

Rick Smith.

Twenty.

William Truelove – UBS

Okay, and then second, Rick, I would agree with you that the month of May is going to be very important. Can you give us any color as to what you're seeing near-term or what the brands may be telling you about May because there is really no shifts in the holiday for that month, right?

Rick Smith

No, there's no holiday issues in May. It's very early in May thus far and so we haven't really been told anything with regard to the brands, but we tend to early more on what we're seeing in our analysis than we do on what the brands are telling us anyway. But our asset managers are kind of watching that from a weekly daily perspective, and I think as we go through the month, also making any determinations based on early May is really difficult.

Each month so far this year has started out way worse than the month ended up, and so I kind of want to reserve talking about May until we get a little better picture, given that it's the 8th. Obviously, like I said, the positive signs that we saw in April were helpful, but May is going to be a big month. Today was better than yesterday, which is better than the day before, etc. in May, and so making any kind of statement on May right now is a little premature. Sorry about that.

Operator

Your next question comes from Will Marks.

Will Marks – JMP Securities

On the last question the 20 hotels that are going to be unencumbered. Can you give us any kind of trailing EBITDA on or approximate trailing EBITDA on those hotels?

Andy Welch

What we've always done is those are generally proportionate in both asset value and EBITDA to the general portfolio, so that's a good rule of thumb to use.

Will Marks – JMP Securities

Okay. And then on Embassy Suites in the last cycle, was this the same kind of value play? Did it tend to steal market share and it seems like that's what you're seeing this time around.

Rick Smith

Embassy's tend to pickup share in the downturn because of that value play, and also you've got the added, I guess, benefit for the Embassy brand this time of the optics of higher end hotels appearing on expense reports, which there's been some benefit from that. Even at the same rates, and you can, obviously, with regard to that value play, you can turn on government business, which hasn't dropped off quickly.

Will Marks – JMP Securities

Do you care to take a stab at your RevPAR guidance and how that plays out quarter-by-quarter?

Rick Smith

No, sorry.

Will Marks – JMP Securities

I gave you the chance. Last question, the summer, I assume, is typically much more of a leisure quarter than others. What percentage of summer would you call leisured versus business travel over the third quarter?

Rick Smith

That's a good question. We don't typically look at it in that specific way. Can we get back to you offline? Can Steve get back to you on that, Will?

Will Marks – JMP Securities

Sure. And then on what we've been seeing, the weekend numbers from slow travel have certainly been better than the weekday. I don 't know if it's by a couple points, three points, four points, but is that something that could cause the third quarter to be better than the first two quarters.

Rick Smith

Potentially, yes. As far as looking at the latest information we have available, April versus March every day was up but weekend was up a little more, as you're alluding to. So, I think that bodes well for leisure travel. I think consumer confidence has started to rebound a bit and I think that that's helping with that to some degree. I think maybe there's at least the perception of things heading in the right direction and a little more stabilization in the job market from an unemployment perspective.

Operator

Your next question comes from Chris Woronka.

Chris Woronka – Deutsche Bank North America

As you look out at the 2010 maturities and you have your discussions, is there any preference on fixed versus floating and how do think about that in the context of spreads up by LIBOR being where it is and where it may go a year or two from now.

Andy Welch

I'd answer two ways, Chris. First, we've tried to keep a good balance of fixed and floating from a corporate perspective so we'll take that into consideration. I'd also say in our dealings with lenders, some are only fixed rate and some are floating and we'll certainly evaluate that on term sheets and proceed and how that best fits. Having said that, if we get too much floating we can always go in and swap some back to fixed.

Rick Smith

Certainly, just to add to that, we would certainly look at where we think the economy is heading and what might happen from an inflationary standpoint once the economy starts to turn around and we'd certainly take that into consideration in making those decisions.

Chris Woronka – Deutsche Bank North America

Any thought on putting more assets into a sale program kind of to potentially reduce that burden or are you kind of going to stick with the five that are still for sale?

Rick Smith

Well, Chris, right now given what's going on in the market and the activity, or lack of activity, I think that what we are looking at is asset sales down the road will certainly be a part, even if it's a backend part, of the global solution that we would strive toward on 10s and 11s. But the question is going to be timing. When is the right time to do that and how does the global solution come together and allow you to optimize that timing? So, we're not ready to announce anything yet, but it will certainly be part of it.

Chris Woronka – Deutsche Bank North America

Right, and let's say hypothetically you get to the point you get all your plan refi's done, do you think equity at some point becomes a solution to kind of finish off the recap or is that kind of off the table?

Rick Smith

No, it certainly depend s on the circumstances at the time that comes near, and we don't dismiss anything out of hand. So, it's certainly a part of our internal analysis always and it's something that will depend on circumstances at the time.

Operator

Your next question comes from [Andrew Whitley].

[Andrew Whitley]

I was just wondering if you could provide a little bit of color on the booking pace for 2010 in terms of group bookings.

Rick Smith

The booking pace for 2010?

[Andrew Whitley]

Yes.

Rick Smith

Well, first of all let me start by saying that the good news is in April we saw cancellations subside significantly, so that was a god thing. We are currently running a bit behind pace on forward bookings and we're trying to be very aggressive with regard to going out and getting other types of group bookings, other than your typical types to make up for what has come back.

Second quarter 2010 on the books is equal to definite '09 for second quarter, but still visibility, the booking window is shorter and so we're not doing too poorly there, and given that our mix of business is a little less than some companies have with regard to the group transient mix, that's a bit of a benefit with what's going on in group.

[Andrew Whitley]

Can you give us any color on rate versus demand on the pace that you're seeing?

Rick Smith

What you can go out and try to book today being aggressively the rate is at a lower rate. People are requiring lower rates, they're getting bids for lower rates. And to pick up that business now to build your base business, you are going to have to, it's going to be at a lower rated piece of business.

Obviously, it's the same, I think there are revenue management tools that we have in place today are far more sophisticated than they were in the last cycle. But you've always got to make a judgment on how much of that base you want to get in so that once that base is on the books, then as things improve you can yield better in your hotels going forward, and so that's all part of the play.

[Andrew Whitley]

I guess the only other question I had was on supply, you mentioned San Diego that's clearly been a market that's been challenged by supply. Are there any other markets that you've kind of got circled that you're looking at competitive supply that could be a factor either this or next year?

Rick Smith

Nothing major for us. Over the past couple of years we had some new supply come in a couple of places. Our two suburban locations in Chicago and a handful of other things, bur we're not seeing a lot of new supply that is impacting us going into the rest of '09 and '10.

Operator, I think we can take one more question.

Operator

Your last question comes from Nap Overton – Morgan Keegan.

Nap Overton – Morgan Keegan

Most of what I wanted to ask has been addressed, but one thing is the 1% gain in your fair share index, is that a little bit less aggressive assumption than you had been using?

Rick Smith

No. It's about what we had expected. You have to keep in mind that we had said somewhere to start the year around 100 basis points, maybe a little more, but that was also being helped by virtue of the Union Square coming online in April. So, for a purely first quarter standpoint, I would actually say that it might be slightly above our expectations.

Nap Overton – Morgan Keegan

So, how much of that 1% is Union Square roughly?

Rick Smith

Zero. Union Square lost 25% market share in the first quarter, Nap.

Nap Overton – Morgan Keegan

Okay, and then it'll pickup a lot in the…

Rick Smith

Yes. If you look at the first quarter, we picked up 1% with Union Square losing dramatically that's why I say it was a little bit above expectations. And in April, the portfolio in total ran at 5% market share increase, which was well above expectations, and that's because the Union Square came out a lot better than expected.

Nap Overton – Morgan Keegan

And a majority of the market share gain from the overall portfolio renovation was achieved in 2008.

Rick Smith

Yes. We had tremendous market share gains in 2008, and so we got most of that and a lot of the properties that were completed and have run through the stabilization now. The trick is there is to maintain or continue to slightly gain share, but at least maintain share. And then on some benefit, not only from Union Square, but some other things that were done a little later in the year last year, or I mean in the first quarter last year to pickup that share.

Nap Overton – Morgan Keegan

Thanks, that's all I need.

Rick Smith

Thank you, everybody, for joining us and we will talk to you in August.

Operator

This concludes today's conference call. You may now disconnect.

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Source: FelCor Lodging Trust Inc. Q1 2009 Earnings Call Transcript
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