Marriott International, Inc Q3 2009 Earnings Call Transcript

| About: Marriott International, (MAR)

Marriott International, Inc. (NYSE:MAR)

Q3 2009 Earnings Call

October 8, 2009 10:00 am ET


Arne M. Sorenson - President & Chief Operating Officer

Carl T. Berquist - Chief Financial Officer


Jeffrey Donnelly - Wells Fargo

David Loeb - Robert W. Baird & Co.

Bryan Maher - Collins Stewart LLC

Steven Kent – Goldman Sachs

Joseph Greff - J. P. Morgan

Smedes Rose - Keefe, Bruyette & Wood

Janet Brashear - Sanford Bernstein

Patrick Scholes - Friedman, Billings, Ramsey


Welcome to this Marriott International third quarter 2009 earnings conference call. Today's call is being recorded. At this time, I would like to turn the call over to President and Chief Operating Officer, Mr. Arne Sorenson.

Arne M. Sorenson

Good morning everyone. Welcome to our third quarter 2009 earnings conference call. Joining me again today to discuss the quarter are: Carl Berquist, our Executive Vice President and Chief Financial Officer; Laura Paugh, Senior Vice President Investor Relations; and Betsy Daum, Senior Direct of Investor Relations.

As always, before we get into the discussion of our results, let me first remind everyone that many of our comments today are not historical facts and are considered forward-looking statements under federal securities laws. These statements are subject to numerous risks and uncertainties, as described in our SEC filings, which could cause future results to differ materially from those expressed in or implied by our comments. Forward-looking statements in the press release that we issued earlier this morning, along with our comments today, are effective only today, October 8, 2009 and will not be updated as actual events unfold.

You can find a reconciliation of non-GAAP financial measures referred to in our remarks on our website at

As you know, our third quarter results exceeded expectations, both yours and ours. Carl and I will dive into the details of the quarter in a moment, but I want to start with our outlook for 2010.

We are encouraged by signs of economic recovery in our business. You may recall that in the second quarter earnings call we noted that occupancy had stabilized in the second quarter. In the third quarter we were pleased to see occupancy improve from the second quarter levels, albeit still down year-over-year.

Clearly, economists are forecasting positive GDP in the second half of 2009, with somewhat greater gains in 2010. Despite this good news, we nevertheless expect REVPAR to continue to decline in 2010, albeit modestly, while occupancy levels will likely increase, negotiated room rates for special corporate and group business, not to mention per diem rates for government business, will likely constrain price improvement.

Further, despite improvement, occupancy rates will remain at relatively low absolute levels and pricing will continue to be pressured by a significant amount of price-sensitive, leisure, transient business.

And while supply additions are slowing dramatically, the increase in new hotel supply expected in 2010 will still provide headwinds to near-term improvement in business fundamentals, especially in the upscale segment.

All in all, REVPAR may turn positive sometime during 2010, but probably not early enough or strong enough to report higher REVPAR numbers for the full year.

We expect to open 25,000 to 30,000 new rooms in 2010. With every new hotel opening, our remaining hotel pipeline is becoming more concentrated with valuable full-service hotels in international locations.

Private developers of new U.S. full-service hotels are having trouble financing even some of the strongest deals, and as for limited-service hotels, applications from our existing franchisees have slowed as financing difficulties are reining in development. Those that are approved tend to be smaller hotels in less expensive tertiary markets.

Outside the U.S. full-service development is generally easier, with new construction proceeding in many growth markets in Asia. In fact, as of the end of the third quarter, Asia represented nearly 40% of our full-service hotel pipeline and virtually the entire Asian pipeline in already under construction.

For existing hotels, we continue to work with those owners most impacted by the economy, deferring FF&E reserves, relaxing brand standards, and delaying brand initiatives. Our hotels are paying fees and expenses on time and we are not cutting our fees.

In the past, we have seen in difficult economic times that there is a flight to quality as owners and lenders tend to focus more on the competitive value of Marriott's brands and services. We haven't yet seen a significant increase in conversions to our brands, as the difficult financial environment has restricted the capital needed for renovations and repositionings, but our developers are working on many opportunities. We expect conversions to accelerate in 2010 as lending opens up a bit more and lenders begin to recognize and deal with problem loans. Many equity investors are already in position to buy hotels from troubled owners or lenders.

So what does this mean for Marriott in 2010? While we aren't giving formal guidance for 2010, our fee outlook assumes 2010 worldwide, system-wide REVPAR will be flat to down 5% compared to 2009 levels. Even assuming the bottom of our REVPAR range, our 2010 base and franchise fees should at least stabilize as unit growth offsets the REVPAR decline.

The addition of new managed hotels in Asia and the Middle East should help incentive fees in 2010. Incidentally, we assume that international REVPAR will be a bit stronger than REVPAR in the North America.

For those of you with different REVPAR assumptions in 2010, we believe that one point of worldwide REVPAR is worth approximately $10.0 million to $15.0 million in total fee revenue.

Our timeshare business looks forward to a stronger economy but like lodging, the timing is the big question. We have adjusted our pricing strategies for our luxury residential and fractional products to accelerate cash flow, rolled out a portfolio sales program for our Ritz Carlton Destination Club product, and announced discounts and incentives for our core one-week timeshare product. We are working under the assumption that contract sales in 2010 will be at roughly 2009 levels, which would imply roughly flat timeshare development profits.

We have cut overhead dramatically to right-size the business while delivering a very attractive value proposition to our customers and we continue to look for efficiency improvements.

On the timeshare financing side today, over half of our customers pay cash for their one-week interval so we are securitizing fewer loans. At the same time, securitization market terms have improved significantly. We expect to close another note sales transaction in this year's fourth quarter with proceeds totaling $115.0 million to $125.0 million and we expect to continue to sell notes in 2010.

We expect to implement FAS 166 and 167 at the beginning of 2010, which will impact the way we account for securitized loans. Carl will talk about the details, but the end result of the accounting change will be more assets and debt on our balance sheet and $0.05 to $0.08 per share higher earnings in 2010 as a result of this accounting change. But the cash flow and economics of the outstanding securitizations will not change.

With all that going on, it has never been more challenging to forecast timeshare's P&L so we are waiting until our budget is complete to outline our 2010 timeshare segment profit outlook for you. We do expect to target our timeshare business drive at least $75.0 million in net cash flow in 2009 and that lease double-backed in 2010.

We anticipate that Marriott's general and administrative expenses will decline about 20% in 2009 on an adjusted basis but will likely rise a bit in 2010 as we resume investing in our business and our people for the future.

Having said that, we believe that a large portion of the savings we've booked in G&A in the past two years are permanent and should position us very well during the upturn.

We don't have an investment-spending forecast for you today, as we're still working on that budget. Regardless, we expect to see meaningful reductions in debt levels in 2010. There are clearly risks in 2010. The upturn may take longer than we like and hotel bankruptcies and foreclosures could disrupt business and profits at a handful of hotels.

The first quarter of 2010 is likely to continue to show meaningful REVPAR declines as any gains in occupancy continue to be more than offset by softness in rates. But our longer-term view is very positive.

While painful in many ways, the actions we've taken will benefit us meaningfully going forward. I think the green shoots that emerge in 2010 will be stronger because of our efforts in 2009. I am very proud to work with the people at Marriott.

Now I would like to turn it over to Carl to talk about our results for the quarter and our outlook for the fourth quarter.

Carl T. Berquist

As you saw this morning, we reported adjusted diluted earnings per share from continuing operations for the quarter of $0.15 compared to our outlook of $0.09 to $0.14. Our profits were about $0.04 than the midpoint of our outlook, largely due to better than expected REVPAR, solid cost controls that drove house profit margins, base fees, franchise fees and incentive fees, and some delayed G&A spending. Domestic system-wide REVPAR declined 19% compared to our 20% to 23% expectation.

For the Marriott brand, company operated domestic hotel REVPAR declined 20%. Corporate demand at Marriott Hotels and Resorts has been profoundly impacted by the economy. Our corporate business includes rooms sold at premium rates, corporate rates, and negotiated special corporate rates. In the third quarter corporate room nights, year-over-year, were down 11%. While down, this was an improvement compared to the second quarter 2009 where room nights declined 18% from 2008 levels. Of course, some of this quarter-to-quarter improvement is just easier comps.

But we're also seeing a better trend in the two-year room night comparison. In the third quarter corporate room nights declined 19% from 2007 levels, while in the second quarter the two-year decline was 23%.

The trend on room rates is less encouraging. Travel departments are quite aggressive and today everyone wants a deal. We have renegotiated from special corporate rates during 2009, lowered other corporate rates, we are selling fewer premium rooms. In the third quarter corporate room rates declined 19% from 2008 levels. We expect corporate rates will continue to be weak until we see meaningful occupancy improvement.

While we typically see less business travel in the summer months than in other times in the year, corporate business still represented a quarter of Marriott's brand room nights in the third quarter.

Group business represented about 35% of room nights in the Marriott brand in the third quarter. Group REVPAR declined 23%, with room rates down 8%. Cancellations and attritions were less of a problem than in the first half of 2009. The last minute in the quarter/for the quarter bookings were relatively few.

New product launches in the pharmaceutical industry figured most prominently in our group business in the third quarter, and while we haven't seen a significant uptick in training business for bookings from the financial industry, there are signs that the financial firms are tiptoeing in with small gatherings. Occupancies have moved up in our hotels in New York City, a sign that financial firms and others may be testing the water.

As the economy gains traction, our new sales strategy, Sales Force One, should help us gain more than our fair share of group revenue. In markets where we've already rolled this out, we are contacting eight to ten times more potential customers with no additional staff. By the end of 2009, Sales Force One will be rolled out to half of the significant markets in the U.S., including New York City. We look forward to strong results as the economy continues to recover.

Leisure business was the positive surprise in the third quarter. Last winter's fears seemed to abate as the warm summer months enticed travelers to our hotels. For non-corporate transient business, room nights increased 7%. Of course, discounts were deep with average room rates for non-corporate transient business down 13%. We are aggressively pursuing this business which, while always an important part of the summer months, accounted for 40% of room nights in the third quarter compared to 35% a year ago.

Further evidence of leisure strength emerges from the weekend occupancy statistics. During the third quarter Marriott brand weekend occupancy totaled 74%, almost 6 points higher than the weekday occupancy rate.

Outside North America REVPAR continued to be challenging. In the Middle East the third quarter was constrained by this year's earlier Ramadan holiday and Asia's suffered from a tough comparable for last year's summer Olympics.

Group business in Latin America and Asia was hurt by the H1N1 virus while Western Europe showed better REVPAR trend. You may recall that European REVPAR began declining in the fourth quarter of 2008, shortly after our North America operation. In the third quarter of 2009 while company-operated REVPAR in continental Europe declined 18%, occupancy rates in continental Europe exceeded 70% while occupancy rates in the U.K. exceeded 77%.

With weak REVPAR house profit margins at our company-operated hotels declined 5.2% in North America and 4.3% internationally. We are pleased with our margin performance in recent years and our owners tell us that they are as well. In fact, in the third quarter of our Marriott Hotels and Resorts brand, comparable domestic REVPAR is nominally at roughly 2004 levels, yet despite five years of inflation and product improvement, our third quarter house profit margins were 30 basis points ahead of those 2004 levels.

While some of our hotel operating costs will increase with stronger occupancies. We expect much of our efficiency improvement will be sustainable.

Turning to timeshare, adjusted contract sales totaled $176.0 million during the quarter, as the business continued to offer special customer incentives, albeit a bit less rich than in the second quarter. Adjusted timeshare sales and services, net of cost, totaled $13.0 million and adjusted timeshare segment profits totaled $9.0 million.

For the quarter, timeshare business, as in lodging, we are beginning to see stabilization as contract sales for one-week intervals modestly exceeded expected levels in the third quarter.

In other good news, we saw encouraging trends in timeshare note delinquencies in default. U.S. delinquency rates increased to 10.8% in September but excluding delinquencies already in the foreclosure process, delinquency rates were flat at 5.5% in both June and September. Default rates have improved from 0.65% in June to 0.57% in September.

You may recall that seven timeshare loan pools had hit default triggers as of the second quarter. Of those, defaults in three loan pools sufficiently improved during the third quarter to cure their default triggers, allowing us to receive our excess spread cash flow. And in fact, subsequent to the quarter close, another loan pool cured as well.

As Arne mentioned earlier, recently released financial accounting standards [FAS]166 and 167 will impact the way we account for securitized loans beginning in 2010. Under these new rules it is likely that we will have to consolidate previously sold loans. As we have outlined in the press release, based on the current portfolio of sold loans, our debt balances in 2010 will rise, asset balances will increase, and with the elimination of our residual interest for accounting purposes, our equity will decline. On the P&L we expect the accounting change will increase pre-tax income by $30.0 million to $50.0 million in 2010.

Of course, the underlying economics and cash flows from the deals will not change and the timeshare loan pools will remain non-recourse dark. Our revolver covenant calculation does not include non-recourse debt, so it remains as is. Further, based on our discussions with rating agencies, we do not expect any changes to how they look at our credit profile as a result of this accounting change.

At the end of the third quarter we had $1.4 billion on the balance sheets in timeshare inventory, with approximately $650.0 million of that in finished goods, $280.0 million in work in process, and the balance in land and infrastructure. We look forward to monetizing this inventory at attractive prices as the economy strengthens.

For Marriott overall, our adjusted G&A totaled $143.0 million in the quarter, down 14% from the prior year and we intend to keep these costs in check. The quarter included $5.0 million of litigation charges and an unfavorable swing of approximately $15.0 million associated with our deferred compensation program from last year. This is offset in the tax line. With changes we've made to the deferred comp program, we expect to reduce this volatility in the G&A line in 2010 and going forward as a result of this program. Excluding the impact of these items, G&A declined 25% in the third quarter.

We continue to aggressively manage our balance sheet and we are committed to our investment-grade credit rating. As of September 11, net debt is down nearly $450.0 million from year end 2008 and we continue to expect it to decline by a total of $600.0 million to $650.0 million for the full year 2009.

Excluding the impact of FAS 166 and 167, we expect to be able to continue to reduce debt in 2010, improving our leverage ratios further. We have no meaningful debt maturities until 2012 where roughly $350.0 million bonds and our bank revolver matures. We do expect our revolver balance to be minimal at that time.

On the development front, we opened 10,000 rooms during the quarter and closed 500 rooms. On a net basis the 6.7% net year-over-year growth in our lodging system in much to cheer about. We added 8,000 rooms to the pipeline, cancelled 5,000 rooms, and today the pipeline totals nearly 105,000 rooms. Roughly half of the rooms in our pipeline are under construction and another 7% are awaiting conversion.

Room openings are running ahead of expectations. We expect to open more than 33,000 rooms in 2009 and another 25,000 to 30,000 rooms in 2010. We just opened our spectacular, newly repositioned Renaissance Hotel 57 in New York and the Renaissance Arc de Triomphe in Paris and we're growing our International Courtyard brand in Eastern Europe and Asia.

Coming up in 2010 we will open the 1,000 room JW Marriott, San Antonio Hill Country Resort and Spa in January, and in February we'll add a new Ritz Carlton and a JW Marriott Hotel totaling 1,000 rooms at the bold, new L.A. Live Complex in downtown L.A.

Let's talk about the fourth quarter. In the earnings release, we have shared with you a range of top-line assumptions for the fourth quarter that we are using internally to manage our business. It's never been more difficult to forecast our business so we would not characterize this outlook as guidance.

For hotels outside North America we assume fourth quarter REVPAR declines 16% to 18%. International lodging markets have significantly weakened as the economies of many countries have been impacted by the global downturn and the H1N1 virus.

For hotels in North America, we assume system-wide REVPAR will decline 13% to 16%. In the fourth quarter of 2009, much of the REVPAR decline will likely come from lower room rates due to weaker group business, discounting to keep pace with competitors, and the mix shift to lower-rated business.

Last year's fourth quarter began on September 6 and so included much of the relatively strong month of September. Our fourth quarter system-wide North America REVPAR assumption implies a two-year run rate of down 19% to 22%, consistent with the 20% two-year REVPAR decline seen in the third quarter.

Given these assumptions, we would anticipate total fee revenue of $310.0 million to $320.0 million in the fourth quarter. While unit expansion should help our fees in the fourth quarter, tougher margins comparables will also impact our results since significant cost cutting for North American hotels ramped up in the second quarter of 2008.

Fourth quarter house profit margin declines are likely to be similar to those seen in the third quarter.

We assume loaned, leased, corporate housing and other revenue, not our direct expenses, to total approximately $15.0 million to $20.0 million in the fourth quarter. While we own at least 43 hotels, seasonally softer performance combined with weak economy, particularly in the international markets, will continue to constrain profits.

For the timeshare business we expect timeshare contract sales to total about $185.0 million to $195.0 million in the fourth quarter and anticipate timeshare sales and services, net of direct cost, of roughly $15.0 million in the quarter. We expect to complete a timeshare note sale in the fourth quarter. With a strong securitization market, we are assuming we will book a $10.0 million to $15.0 million gain in the fourth quarter in timeshare sales and services.

The G&A line reflects savings we've taken at our corporate headquarters throughout our lodging organization, as well as in our timeshare business. We estimate G&A will decline to $185.0 million to $190.0 million in the fourth quarter of 2009, a decline of roughly 20% from the prior year adjusted G&A. Quarter-over-quarter comparisons will become increasingly difficult.

Including the benefits from lower interest rates, we estimated adjusted fourth quarter EPS at about $0.20 to $0.23 per share.

We are optimistic about the future. Supply growth in North America is declining and will likely remain modest for some time, yet new international development and domestic conversion offer opportunities for unit expansion.

Worldwide, our hotels are in excellent shape, many of them having had significant renovations over the last five years. Guest satisfaction is high with excellent scores for service and value. Across our system the power of our brands is evident, with strong REVPAR premiums in every brand.

Needless to say, the economy has provided considerable headwinds over the last two years. Through it all, Marriott associates have shown their commitment to customers, shareholders, and each other. We look forward to the upturn that we believe is ever closer.

We will take questions now.

Question-and-Answer Session


(Operator Instructions) Your first question comes from Jeffrey Donnelly - Wells Fargo.

Jeffrey Donnelly - Wells Fargo

In your release you mentioned something about expenses rising next year on the G&A front. If I could drill a little deeper, I think you had mentioned when you were in Boston earlier that you saw operating expenses at the hotel level, as well, rising next year, I think around 3% to 4%. Is that a figure you still is reasonable, and can you give us some detail like where specifically you see costs rising for the hotels next year?

Arne M. Sorenson

It's hard to give you much detail yet since we haven't done our budgets for next year. So this will be the first time of probably many that we warn you all that we're talking a little bit about trends and assumptions and not necessarily giving you a detailed set of forecasts for either the company or for hotel P&Ls.

Having said that, I think obviously the major expense lines at hotel level and for the company are around wages and benefits. We have generally provided slim to no wage increases in 2009. It obviously depends a bit on the level of the associate across the company and across the hotels, but there have been by and large no wage growth, and for bonus-eligible managers, both in hotels and above, it will be a—not surprising to any of you—and very modest year, if there is any payout at all. And for many either structurally the payouts have been waived or based on the formulas that they simply will not be earned.

We think as we go into 2010 we need to set up compensation tools that motivate our associates and give them some upside. So that will put some pressure both on year-over-year reported numbers for bonuses for manager-level folks and some wage growth as well.

You get beyond that and it's things like energy and health care costs and we'll have to see where those go but we would expect that certainly in the health care area there could well be increases going into next year.

And so we guess both for the company's G&A that those are the trends that are going to drive us a bit higher and we use very modest language here. We don't think it's going to be a significant growth in G&A and much of what we baked in and have done in the past we think can stick.

And similarly at the hotel level, there will be a few points of expense growth, which I think you can all translate into we would need REVPAR to be positive modestly before we could keep margins in percentage terms, flat.

Jeffrey Donnelly - Wells Fargo

As you think down the road, not necessarily just for 2010, but what implication does the prospect of a deleveraging consumer balance if you will, have on how you position your brands or think about your brands in the future. Could you see, for example, removal of amenities in coming years or continue to build a way you would opt to cut costs, or it might even provide some insight on where you look for unit of brand growth down the road.

Arne M. Sorenson

If you're talking about deleveraging of the consumer, the consumer is personally carrying less and less debt, is what I assume is what you're talking about.

Jeffrey Donnelly - Wells Fargo

Correct. Or at least spending less money.

Arne M. Sorenson

I don't think that is a huge dynamic for us. Obviously it depends by hotel, by brand and by location of hotel. The leisure business is very important to us, but overwhelmingly it's going to be a question of corporate business, group business, which is often corporate business or has dynamics which are quite different than the consumer dynamics. And so it's going to be GDP growth, and you've looked at a number of different correlations here, you can look at corporate profits, you can look at capacity utilization, but it all comes down to economic activity.

The consumer, what I think is most encouraging I suppose, is what we saw in the third quarter. So even in the midst of an enormously difficult time, leisure business came back and it came back because there was great value in the hotels, and if they come back in the summer of 2009, as they are deleveraging, probably as dramatically as has been the case for decades, that bodes very well I think for as we go forward.

Jeffrey Donnelly - Wells Fargo

A lot of that, I think, in the summer months certainly was as a result of a lot of promotional activity. What thought have you given that maybe in 2010 increasing that promotional behavior to maybe sort of boost your occupancy and regain pricing power, or at least get as close to that point in time? How do you balance that occupancy versus rate decision at this point?

Arne M. Sorenson

Obviously we're not making decisions about what we're going to do in the summer of 2010 yet, around promotional activity. I think the optimistic side here is that we will cross over the zero line on occupancy sometime in, hopefully, the first half of 2010, though who knows. And once we've crossed over that line, we will start to have inevitably a little less threat around pricing. And in fact, we will find ourselves sometime in 2010 offering less promotional arrangements, or at least less powerful promotional arrangements than what we've had to do in 2009.


Your next question comes from David Loeb - Robert W. Baird & Co.

David Loeb - Robert W. Baird & Co.

Just to go a little deeper into margins, what are you telling your owners that are gathered today in D.C. about the kind of cost cuts you can do at the operating level? It seems like that must be getting harder for you with the mix shifting towards more rate decline and less occupancy decline. What more can you do at the property level?

Arne M. Sorenson

Well, you never say you're done and I think we just keep focusing on driving as many efficiencies as we can. We're looking at every aspect of the P&L we possibly can. And I think procurement continues to be a bright spot for us. We've managed to improve F&B margins, not withstanding decline in revenue and that's really been around a lot of procurement initiatives.

Carl T. Berquist

Labor productivity continues to improve, despite every month you're saying, gee, can you continue to do this. But hotels continue to find ways through labor productivity to help offset any labor costs in the hourly wage.


Your next question comes from Bryan Maher - Collins Stewart.

Bryan Maher - Collins Stewart

Can you shed a little more color on the timeshare charge you announced a week to ten days ago? The number was a little bigger than we thought might be the case. We weren't surprised there was a charge but can you get behind that $700.0 million a little more?

Carl T. Berquist

Sure. What we did, as we indicated in the release, we made a strategic decision concerning pricing, especially as it related to the luxury end of the business. And once you do that, when you sit back and you look at each project and say based on these new assumptions and this new strategy about how you're going to price this product, you have to look out and say what would the cash flows be generated as a result of that until we recover the costs that you have on the books related to that.

And as we did that, especially at the luxury residential and fractional side, which shouldn't be a surprise to many here, we made the decision to adjust the prices to today's market pricing. Because we're managing the business for cash flow the discounted cash flows related to those particular assets was less than the product costs requiring the adjustment. So as you go through the adjustment and you look at the $750.0 million, a large portion of it relates to that luxury end of the fractional as well as the whole ownership.

The results are partly related to Europe and that was our decision there to accelerate sales in Europe and sell out the product that we have because we have decided not to do any further development in that area of the timeshare.

And then finally we had, I think, one product in our typical timeshare North America one-week interval product growth. We had just bought it at the top of the market and we looked at the cash flows relative to that and it required an impairment.

Bryan Maher - Collins Stewart

Is it safe to say that kind of in '07 and '08 you went into those years with a little more development momentum than you might historically have had over the last decade?

Carl T. Berquist

Sure. We added to some very big projects during those time periods. We went in in joint ventures and some and ultimately we bought out our joint venture partners. And we got a lot of land; beautiful locations and beautiful resorts, but we did get ahead of ourselves relative to inventory. So now we are sitting with enough inventory, we don't have to do any future development. And the whole strategy here is to accelerate the sell-off of that inventory, given today's market parameters to generate cash relative to the business.

Arne M. Sorenson

Just to add to this, I think the number obviously was big and it's a painful memory at this point for us in many respects. I think that most of the dollars, as Carl has mentioned, were in the luxury space. And the projects which drove those reserves and impairments that we took this quarter were really projects that we probably started in 2003, 2004, and 2005, not 2006 or 2007.

And so it wasn't necessarily the case that we bought them at exactly the peak, but nevertheless, we were making investments in a space that by and large we had not been focused on before, and that was luxury fractional by and large. Some of them had a luxury residential piece to them as well. And I think the lesson we learned is that is quite a different business than the core one-week timeshare business that we've been in for a long time that has been obviously significantly impacted by this economic environment. But quite interestingly and reassuringly has, with the exception of one project, really not produced an impairments in the charges that we took in the third quarter.

Bryan Maher - Collins Stewart

And just one follow-up. For those of us who've been traveling, particularly in just the last really week or two or three at the outside, we are seeing a lot fuller planes and we're seeing markets like Boston, you know this week, Tuesday, Wednesday, $300 to $400 room nights in downtown Boston. New York rates are moving back up. Is it possible that the kind of economic growth or activity might be a little faster than what you are projecting and you could end up being on the low side in your REVPAR numbers.

Arne M. Sorenson

It's tempting to ask you to repeat that because we love hearing those statistics.

Bryan Maher - Collins Stewart

We were shocked when we priced rooms Tuesday night in Boston.

Arne M. Sorenson

Exactly. The answer is of course. We have said repeatedly in the past, and I don't mean to beat up on ourselves too much, but we are—we don't have leading indicators in our business so there's not much we can look at and say we've got a particular insight into the direction of the economy. And it is the direction of the economy that ultimately is going to drive results significantly. Obviously we're going to do the best we can to perform better than our competition. We think we're doing that in fact, but we are heavily dependent on economic activity.

And so the assumptions we've laid out today, for both the fourth quarter and for 2010, are a way of helping you understand if results are in this range of REVPAR, then here's what happens with our fees and some other aspects of our financial performance.

If the economy comes back stronger, if business travelers get back on the road, if we start to see some not just improving trends in cancellation and attrition around group, which we've already seen, but trends in actually new bookings and group, this is a business that particularly with the unit growth we've had and with the cross management that we've instilled in the last year, year and a half, will have tremendous upside.

And so we sit here this morning very optimistic about the future and about the recovery and the impact that that recovery will have in our business, but cautious about our ability to tell you when that recovery is going to really start to drive those exciting results. And hopefully what you're seeing out there this week is a sign that it will sooner rather than later but we've got to watch it. And one week obviously, or a few strong days mid-week in a great destination like Boston, while we would love to be able to say that's proof that it's here, I think we're going to need more evidence of that before we can be real constant.


Your next question comes from Steven Kent – Goldman Sachs.

Steven Kent – Goldman Sachs

A couple of things. One, as you're talking to your sales managers, going out to 2010 and 2011, are you starting to say, especially for meetings, are you starting to tell them to back off on the discounts and say let's hold off for a little bit before we sell at depressed levels?

And the second thing, and I understand why you need to pay your very, very best people at Marriott, given the great performance that they've put in over these past two years, but why would you want to way to the organization that SG&A can go up a few percentage points? Wouldn't you want to say to the organization, we need to keep an eye on expenses and keep reducing them and focus on consolidating things where we can. I just want to make sure that those two messages are not against each other.

Arne M. Sorenson

Take the second point first, and maybe I'll quote you in some of our internal conversations around managing G&A expenses over the next few months. We are putting enormous pressure on managing these costs, and please don't mistake anything we're telling you about what should be assumed for next year as an indication otherwise.

At the same time, realistically, we have, you know in the third quarter our true run rate, we're down 25% in our G&A. It's an enormous decline year-over-year. We are asking a great deal of our associates across the company at every level, and they're performing extremely well. Really proud of what they're accomplishing. We can't maintain that forever. And we can't maintain that forever without making sure that they're being compensated fairly. And so I think there are some pretty significant forces that we will be confronting next year, which could well cause G&A to be up a bit.

But we're not giving up on that. And obviously it's going to vary a little bit market to market and hotel to hotel. We'll see how that goes.

On the discounting of group business, I think your question reveals the way we're pricing it, actually. As you look at the conversations we're having—and again, each hotel is different and they're involved with their revenue management teams and looking at the city-wides in their markets and looking at other patterns in booking, but by and large the pricing will be less and less discounted, if you will, relative to prior pricing, the farther we go out. Because we anticipate that both we'll have transient demand coming along and we'll be able to book group business as transient demand strengthens, later for those same periods at higher rates.

Nevertheless, inevitably, as we're hopefully nearing an inflection point, it's a pretty great time to book business. Because inevitably there will be better rates today available for 2010 and maybe even in 2011, than hopefully the rates we're going to be offering a year from now.


Your next question comes from Joseph Greff - J. P. Morgan.

Joseph Greff - J. P. Morgan

Just looking at your 2010 scenario and your commentary, or expectation, that REVPAR international markets will outperform North American markets. Is that just a function of an easier comparison related to the spread of the H1N1 this year or is there something from a bookings trend or mix perspective that gives you that expectation?

Arne M. Sorenson

I think part of its comparisons. Obviously you've got—Carl referred to a few of them in his remarks—we've got things like the Olympics in Beijing, which is a significant market. You've got political instability in Thailand, which has been significant.

I think more than that, the one difference is around group. So group will be—obviously has been hit hard this year. We have not put as much group business on the books for 2010 as we would have hoped a couple of years ago. And as a consequence will be digging out from that a little bit in the U.S. The international world, by and large, has got a much smaller percentage of group business, and so by and large it's going to be a quicker reflection of building in transient demand, if and as we see it.

Joseph Greff - J. P. Morgan

On the topic of worldwide or U.S. group pace, and you sort of addressed it, if you look at group bookings or group revenues now versus a quarter ago, is that sequential change, assuming it's positive, is that much different than that sequential change you would have seen in a more normalized environment?

Carl T. Berquist

I think one of the things we're seeing in groups is the cancellations and attrition is less of a problem than it was in the first half of the year. The booking windows are still pretty short, though. The fourth quarter booking pace is down 19% and 2010 is down 12%. So that will give you a feel for some of the trends.

I think to answer your question specifically, the one item that is different is the cancellations and attritions.


Your next question comes from Smedes Rose - Keefe, Bruyette & Wood.

Smedes Rose - Keefe, Bruyette & Wood

I wanted to follow-up on your timeshare commentary. It sounds like you're saying you think timeshare margin will be flat next year. And I was just curious, if pricing is going down is the flat margin a function of also just writing down the cost of goods sold in order to keep the margin flat?

Carl T. Berquist

I think the comment was that if we have approximately the same level of contract sales, we should have approximately the same development profit. And that's a broad assumption in the sense that we did write down the inventory but you do have the pricing changes that will reflect that, but what also affects it is pace and also the products that are sold. There are a lot of complications in there.

But by and large, on a very broad level, you would expect that all to kind of wash through with about the same level of development profit.

And you also have services profit and financing profit to go into that timeshare sales and service. And the new accounting change. So it will be complicated next year.

Smedes Rose - Keefe, Bruyette & Wood

On your economic outlook, zero to down five, are you assuming kind of one economic scenario or are they markedly different scenarios to get to zero versus down five?

Arne M. Sorenson

You're giving us too much credit. [Slight laugh.] We don't have a finely articulated GDP sense that goes with zero and minus five. Instead, what we've done is really kind of look at our trend lines and kind of look at what seems logical and try to pick numbers which we obviously think are relevant. They're not guidance, we're not sitting here today saying we have tremendous confidence that the results will end up between zero and five.

On the other hand, we have picked numbers that we think are germane to a question of how the company might perform next year. And so that felt like about the right range. And obviously if we end up at zero rather than minus five, I suspect that also means that the U.S. economy and global economy is performing better than it would at a the minus five.

At the same time, I think this is really more about timing, quarter by quarter, than it is necessarily about full-year numbers. And one of the hazards of even talking about the assumptions and how the business might perform on full-year numbers is that it sort of takes us away from the question about when does it happen and what's the inflection point in 2010 and how powerful does that change take? And you can hear in our prepared remarks and in some of the earlier Q&A, the year is going to start with probably a pretty still rough environment and it's probably going to end with a meaningfully better environment.

And it's just a question of how we transition from the first point to the end point, which is going to tell us what those full-year numbers look like.

Smedes Rose - Keefe, Bruyette & Wood

It sounds like you were making some efforts to maybe consolidate some of the overhead associated with Ritz Carlton into your main headquarters. Is that something that's underway and is it a meaningful source of cost saving?

Arne M. Sorenson

We have some organizational efforts underway and generally what we're talking about is building up in-market, continental management teams with our presidents in the Americas and in through regions outside the United States that would—obviously with significant governance from the U.S. and significant sort of centers of expertise in the U.S.—would have a bit more power and therefore a bit more speed to market and the ability to make decisions and pursue growth and do the other things that need to get done on a day-to-day basis in this business.

And as we do that I suspect we'll see that the Ritz Carlton hotels, in a back-of-the-house sense, I'm using back-of-the-house as an analogy here, really because what we're talking about is Marriott's efforts to oversee this, but so to the extent that we're talking about finance support of HR support or other things, to increasingly allow the Ritz Carlton team to draw on those continental resources in order to get that support. And not to have either that group or any other group in our company have to build that back-of-the-house support on an independent basis.

Hopefully we'll see some efficiencies in that but this is as much about being global and about speed to market and about setting us up in a way that we can hold our teams accountable as it is about cost savings.


Your next question comes from Janet Brashear - Sanford Bernstein.

Janet Brashear - Sanford Bernstein

I wanted to ask a little bit about growth. This year you've had 26,000 rooms, year-to-date, 80% of them in the U.S. and 80% of them select service. Now, I know that's not your long-term ambition but you said also that new supply is a headwind, especially in the full-service segment. I'm wondering if you're not building the full-service segment, who is building there?

Carl T. Berquist

It's in the quality tier.

Arne M. Sorenson

Just to step back a little bit, as you look at our pipeline, 50% of our pipeline is under construction right now. And another 7% is conversion. When you look at our full-service portion of that pipeline a large portion of that is outside the United States. It's more in Asia and other areas and that and not in the U.S.

In fact, when you look at full-service development right now, inside the United States, it's very difficult to have full-service round out development in the United States unless you do it with municipality where you're doing it in some type of mixed use facility. And a big driver there is the financing. No one can get the financing to do it, even if they can get a project to work. I don't know if that answered your question.

Janet Brashear - Sanford Bernstein

Well, I guess I'm wondering the difference between sort of what's going on now and what you anticipate going on. Obviously you anticipate a lot more full-service development in the future based on your pipeline and based on a greater percent of non-U.S. development, but right now it seems like you're mostly building select service because of the difficult financing environment and you are more U.S.-focused.

So I guess I'm wondering what's the transition time there and when you say new supply in the full-service segment is a headwind are you talking about out in the future or are you talking sort of closer in and are you talking U.S. or are you talking international.

Arne M. Sorenson

Just to be clear, the headwind we talked about in 2010 is upscale, not upper upscale, so think Courtyard, Residence Inn, not full-service.

And basically what's happening here is we are—this is obviously much more the case for the U.S. and to some extent Europe is more like the U.S. than other parts of the world, Asia and the Middle East have a different dynamic, but generally the trends we're seeing is we're moving away new build, particularly new build full-service, towards conversions.

It takes longer for the upper upscale and luxury hotels to get completed. Those that were started before and so it will take longer for our pipeline and our openings to work its way through that. And as we do, inevitably—it depends a bit on the transactions market which depends on the banks probably more than anything else today—we will hopefully see conversion activity step up.

Janet Brashear - Sanford Bernstein

Now, you mention that transaction environment, that's obviously changing over the next year and probably getting a lot more active. How do you envision Marriott participating in that?

Arne M. Sorenson

As actively as we can. The question that I think we all have is when and how the transaction volume will start to step up. It has not been significant to date. There are obviously a significant number of hotels out there of all varieties that have debt loads which put some pressure on their structure. In the world we're in and in which banks are still wrestling with their balance sheet and also thinking about whether or not this is the right time to try and sell an asset, right now they're probably generally kicking the can down the street and not forcing transactions to happen.

I think as we get closer to maturity of debt or we get closer to maturity of debt or we get closer towards an environment in which there buyers out there with pricing that seems to make sense, we could well see transaction volume step up.

There is a lot of equity out there ready to do these deals, a lot of our good partners are out there ready to do these deals. Our druthers, of course, would be to do the deals with our partners and take management or franchise contracts along the lines of our model, but still participate actively in converting hotels to our system.

And we could also look at doing some of those deals on our own. If we did, it would be based on valuations and I have a strong confidence that we would be able to turn around and sell those assets in the relatively near term and retain the management contracts going forward.

Janet Brashear - Sanford Bernstein

On the topic of growth, when talking about timeshare you said in your earlier release that you're not focused on the residence side of the business anymore. You said you weren't focused on Europe. And I wondered if you could tell us a little bit about why Europe wasn't working.

And finally, it was a little dubious in my mind on luxury, whether you were saying, you know, in the Ritz Carlton segment of the business, if you were just dialing that down or if you truly wanted to exit that portion of the business.

And maybe you could also just mention what you think the outlook for Horizons is in this environment, as well.

Carl T. Berquist

Let me take a shot at that. I think as you look at Europe, what we completed there was that we have enough inventory, we're going to sell out over x number of years, and sell those projects out. We just don't think future development, given the development costs and the returns in Europe, make sense relative to the one-week prepaid vacation, for that market.

As it relates to the luxury side of it, your question was are we tooling that back. I think clearly on the residential side, luxury residential, we are tooling that back. We probably won't do any more of that after we sell out what we have.

The fractional side of luxury, however, we have inventory so we won't have to do new development into the future in the next couple of years as we sell out the inventory and build out the inventory we have.

Horizons, we have a couple of projects in Horizons and we have inventory there, we'll sell that out and then we'll re-look at that. That's a lower price point and we will decide whether or not we have an adequate market there to sell into that, but we have enough inventory in Horizon for the next year or two with those projects.

And just to clarify one thing, when I talk about residential, luxury residential, I'm talking about the luxury residential we developed and not necessarily the residential that we may license for others under the Ritz Carlton brand.


Your final question comes from Patrick Scholes - Friedman, Billings, Ramsey.

Patrick Scholes - Friedman, Billings, Ramsey

You have guided international REVPAR down 16% to 18% on constant dollar for the fourth quarter. With foreign exchange like being a tailwind in the fourth quarter what do you think, with foreign exchange, those numbers could be?

Carl T. Berquist

It's hard to tell. Our foreign exchange in the third quarter, the effect on our third quarter numbers after our hedges, was about $3.5 million of expense. So it's hard for us to kind of predict the currency rates going into the fourth quarter and how that's going to affect those.

Arne M. Sorenson

It's implicit in Carl's answer. We have with, at least the Euro and the pound, some hedges that will remain in place through the end of the year and they insulate us. Ultimately, we'll still look forward to FX adjusted REVPAR but the fees in effect are coming in on a constant dollar basis through our P&L. At least with respect to those currencies. Now, that's not the case when you get to currencies that are harder to hedge. They tend also to be more often heavily influenced by government conversion settings so we will have to see how that ultimately comes through. Not a big dollar impact to us in the fourth quarter.

Arne M. Sorenson

I think we've come to our allotted time. Thank you all very much for participating in our third quarter earnings call this morning and we thank you all for traveling and for staying at our hotels. We're happy to welcome you there and encourage you to get on the road.


This concludes today’s conference call.

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