Choice Hotels International's CEO Discusses Q1 2014 Results - Earnings Call Transcript

Apr.28.14 | About: Choice Hotels (CHH)

Choice Hotels International, Inc. (NYSE:CHH)

Q1 2014 Earnings Conference Call

April 28, 2014 10:00 am ET

Executives

Stephen P. Joyce - President and CEO

David White - CFO

Analysts

Steve Kent - Goldman Sachs

Shaun Kelly - Bank of America Merrill Lynch

Felicia Hendrix - Barclays Capital

Robin Farley - UBS

Alan Thomas - Morgan Stanley

Harry Curtis - Nomura Securities International

Nikhil Bhalla - FBR

Operator

Ladies and gentlemen, thank you for standing by. Good morning and welcome to the Choice Hotels International First Quarter 2014 Earnings Conference Call. At this time, all lines are in a listen-only mode. Later, there will be a question-and-answer session and further instructions will be given at that time. As a reminder, today's call is being recorded.

During the course of this conference call, certain predictive or forward-looking statements will be used to assist you in understanding the Company and its results, which constitute forward-looking statements under the Safe Harbor provision of the Securities Reform Act of 1995.

These forward-looking statements generally can be identified by phrases such as Choice's or its management's beliefs, expects, anticipates, foresees, forecasts, estimates or other words or phrases of similar import. Such statements are subject to risks and uncertainties that could cause actual results to differ materially from those expressed or implied by such statements.

Please consult the Company's Form 10-K for the year ended December 31, 2013, and other SEC filings for information about important risk factors affecting the Company that you should consider. Although we believe the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements. We caution you, do not place undue reliance on forward-looking statements. We undertake no obligation to publicly update our forward-looking statements to reflect subsequent events or circumstances.

You can find a reconciliation of our non-GAAP financial measures referred to in our remarks as a part of our first quarter 2014 earnings press release, which is posted on our Web-site at choicehotels.com under the Investor Information section.

With that being said, I would now introduce Steve Joyce, President and Chief Executive Officer of Choice Hotels International Incorporated. Please go ahead, sir.

Stephen P. Joyce

Thank you very much. Good morning. Welcome to the Choice Hotels earnings conference call, and with me as always is David White, our Chief Financial Officer. This morning we are going to update you on our performance for the first quarter of 2014 and then our outlook for the remainder of the year. To say the least, the results this quarter have exceeded our financial expectations. Several factors contributed to the continued growth of our lodging business this quarter.

Franchising revenues increased 6% driven by the growth of domestic royalty fees which increased 5% as a result of increases in both the size of the domestic franchise system as well as RevPAR. We also experienced strong growth in procurement services revenues driven by a combination of growth from our strategic alliance with Bluegreen and from better throughput from our endorsed vendor program. Finally, we continue to execute solid cost management discipline as demonstrated in a 6% decrease in our franchising selling, general and administrative expenses.

As a result of these factors, our earnings before interest, taxes, depreciation and amortization, from our core hotel franchising business increased 15% to $40 million for the first quarter of 2014 from $35 million in last year's first quarter. And our franchising margins increased from 55% to 60%.

Diluted earnings per share increased 23% compared to the same period of 2013. Diluted earnings per share from continuing operations, which excludes results from the gain on a sale of our Company-owned hotels which we had previously announced that sale, increased 12%.

Based on these results, we are really quite pleased with the direction our business is headed. Now let me give you some insight about an area that we are particularly excited about, that is our RevPAR performance.

Our domestic system-wide revenue per available room increased 5.6% in the first quarter of 2014, as occupancy and average daily rates increased 200 basis points and 1.1% respectively over the first quarter of 2013. Looking ahead, we expect to see greater demand for hotel rooms as the economy continues to improve and consumers gain more confidence. This is translating into improved RevPAR performance as more people travel.

Similar to what we've been seeing across the industry, Choice saw its highest RevPAR gains in the Pacific and Mountain regions in the first quarter. The key third quarter prognosticators are predicting an improved outlook for 2014, projecting industry RevPAR improve from 5.3% to 6.6% for the full year. Because of our strong RevPAR performance and the optimistic industry projections, we are increasing our RevPAR guidance 100 basis points at the midpoint to a range between 4.5% and 5.5%.

Moving on to development, we executed 59 new domestic hotel franchise contracts for the first quarter. It is particularly promising that many of these franchise contracts are new construction agreements. New construction activity is picking up as the financing environment continues to improve. We have nearly doubled our new construction franchise agreements this quarter achieving 19 new construction agreements compared to 10 new construction agreements in the first quarter last year. Based on the level of deal activity and signs that the economy is improving, we are expecting that our full year franchise contracts will exceed 2013 levels.

Turning to distribution, we continue to see our customers constantly changing the way they shop for and book travel and we are continuously evolving right along with them. The number of reservations made to our central reservation system has increased 42.6% in the first quarter, up 320 basis points over the same time last year.

Choicehotels.com, contribution to the system, revenue is up 7% for the first quarter assisted by improved conversion rates due to site enhancements to the Web-site and mobile booking platforms. Direct online reservations now represent nearly half of our revenue generated by our central reservation system. Bookings via our mobile apps continue to grow at a significant pace and yielded an increase of 44% for the quarter compared to the same time last year. We lost an online verification system for choicehotels.com.

These modifications to the Web-site will provide business travelers with an added layer of authenticity regarding reviews of Choice Hotels' properties. Unlike other review sites, guest posting reviews on choicehotels.com will be asked to provide their booking confirmation number to verify their stay at the hotels and thereby provide potential guest with the added confidence they need to make their booking decisions in the short term. Since these systems have been launched, we have noticed that the reviews are converting lookers into bookers at a much higher rate. We continue to leverage our competencies in distribution and technology and provide innovative tools for our franchisees, so that they can reach more customers.

Changing gears, let me give you a brief update on SkyTouch technology. SkyTouch is focused on developing, marketing and selling cutting-edge, cloud-based technology products for the hotel industry. SkyTouch pose a large widely distributed cloud based property management system. The leaders of that separate division continue to make progress on the sales front with SkyTouch. They continue during the quarter to add contracts with SkyTouch customers, mostly with independent hotel owners, and to bring them online.

Based on results so far, a strong interest received as well as the pipeline that the division's leaders are developing, we remain optimistic about the revenue outlook which is unchanged from the last quarter for that division. SkyTouch recently became an approved vendor for a hotel chain which has over 1,000 members and we expect to begin signing members next quarter. We are pleased with the progress of SkyTouch and are excited about its potential impact on Choice's future growth.

Overall, we're quite pleased with the results from this quarter. We saw increases in earnings per share, franchising revenues, domestic royalty fees and RevPAR, which helped deliver strong results for our franchisees. So let me turn it over to Dave White who's going to share more detail about our financial results. Dave?

David White

Thanks Steve. As you read in this morning's press release, we reported diluted earnings per share of $0.32, which exceeded our previously published outlook for the quarter by $0.03 per share and represented a 23% in the prior year. Excluding the sale of two of our three Company-owned MainStay Suites hotels during the quarter, our earnings per share increased 12% from the prior year.

Our earnings per share outperformance for the quarter is attributable to a combination of better-than-expected performance by our franchising business and lower than anticipated spending in our SkyTouch division. EBITDA from franchising activities for the quarter increased 15% from the same period in the prior year due to a 6% increase in franchising revenues and a more than 500 basis point increase in our franchising margins. The increase in our franchising revenues for the quarter was driven primarily by strong domestic RevPAR performance and a growth of our procurement services and other revenues.

In addition to exceeding our expectations at the franchising revenue line, our franchising SG&A expenses for the quarter were less than we had anticipated as a result of a delay in the timing of certain expenses that we now expect will occur later this year.

The domestic royalty revenues increased by approximately 5% to $46.5 million due to a combination of increases in RevPAR and our system size, partially offset by a 4 basis point decline in our effective royalty rates. Domestic RevPAR growth for the quarter was approximately 5.6%, which exceeded our guidance of approximately 4%. As a reminder, our RevPAR results for the first quarter reflect our franchisees' gross room revenue performance for the months of December, January and February.

Our RevPAR growth was driven by a combination of a 200 basis point increase in system-wide occupancy and a 1.1% increase in our average daily rates. We attribute the increase in occupancy rates and our overall RevPAR improvement to increased leisure travel which we believe reflects the improving U.S. economy as well as declining unemployment rates. As Steve mentioned, as a result of these trends and our first quarter RevPAR performance, we are increasing our full year RevPAR guidance at the midpoint by 100 basis points to a range of between 4.5% and 5.5%.

On the supply front, we were able to grow the number of hotels operating in our domestic franchise system by approximately 2.4% in the past 12 months. Our domestic unit growth over the past year has been driven primarily by our Ascend Hotel Collection and Quality Inn brands which have increased 64% and 6% respectively.

We continue to execute our strategy to strengthen and enhance the Comfort brand family by improving hotels through property improvement plans or terminating the hotels that underperform in their market or are not meeting high brand and guest satisfaction standards. We have raised the expectations for Comfort hotels and we expect that to translate into meaningful RevPAR improvement for the brand over the next several years.

As a result of this strategy, we terminated 97 Comfort hotels from our domestic system during the 12 months ended March 31, 2014. However, through our repositioning strategy, we were able to reposition 33 of these terminated Comfort hotels [indiscernible] refinance our portfolio, therefore preserving the related franchisees.

In addition to our strategy to terminate underperforming Comfort hotels, we have embarked on an aggressive new construction development program to replace terminated hotels in high performing markets with new construction of Comfort branded hotels. As Steve mentioned, the fundamentals that drive new hotel construction are improving as both the RevPAR and financing environments continue to get better.

In fact, our new construction franchise agreement execution have now increased year-over-year in 10 of the last 11 quarters. Consequently, we believe the timing is right to invest in our new construction development team to take advantage of the improvement in the new construction environment. We believe the industry is in the early stages of growth which we expect to accelerate over the next several years.

As a result of the strategy to terminate underperforming Comfort hotels, we have adjusted our unit growth guidance from approximately 2% to a range of 1% to 2% to reflect the possibility that existing Comfort owners will be unable or unwilling to meet our new more stringent requirements from a [indiscernible] on their hotel.

In addition, our new full year outlook reflects additional SG&A investments in our new construction development team which we believe will drive new construction hotel development, particularly for Comfort and Cambria brands, over the next several years.

Now let's turn to our initial and relicensing fee results. During the first quarter of 2014, we executed 59 new domestic franchise contracts compared to 83 in 2013. Keep in mind that during the first quarter of 2013, we executed a multiunit transaction related to the affiliation of 21 Bluegreen Vacation Club Resorts with our Ascend Hotel Collection. Excluding that transaction, domestic franchise agreements executed for first quarter of 2014 declined by three contracts from the prior year.

The decline in contracts is reflective of more robust sales activity than anticipated in the fourth quarter of 2013 that we do not view as indicative of a slowdown in new franchise agreement growth. In fact, as Steve mentioned, we continue to expect our 2014 franchise sales activity levels to exceed the prior year.

The relicensing and renewal activity continues to improve. After improving 22% for full year 2013, the number of relicensing and renewal contracts during the first quarter improved 20% over the same period of the prior year and is another positive indicator of improved hotel transaction and lending environment.

Turning to the cost side of the business, our franchising SG&A cost for the first quarter, which exclude our SkyTouch division, declined by approximately $1.5 million and were less than we had anticipated. As a result, the combination of the top line revenue growth we achieved during the first quarter and continued disciplined cost management resulted in our franchising margins expanding from 55.1% in the first quarter of 2013 to 60.2% in the current quarter. SG&A expenses attributable to our SkyTouch technology division totaled $3.3 million during the first quarter compared to $2.2 million in the prior year, and were slightly lower than our expectations.

During the first quarter, we completed the sale of two of our three Company-owned MainStay Suites hotels which generated approximately $8.7 million in net pre-tax proceeds to the Company and resulted in a $2.6 million or a $0.03 per share gain. We are pleased that the new owners of each hotel chose to maintain their affiliation with our MainStay Suites brand and sign new franchise agreements. We expect to sell our remaining Company-owned MainStay Suites hotel in the second quarter, which will result in net tax proceeds of approximately $3 million.

Now, turn to our outlook for the remainder of 2014. As always, our outlook assumes no share repurchases under the Company's share repurchase program and the effective tax rate put to new operations is expected to be 30.8% for second quarter and full year 2014. Our franchising activity guidance assumes that our RevPAR will increase approximately 5% for the second quarter and 4.5% to 5.5% for full year 2014. Our net domestic unit growth will increase between 1% and 2% and our effective royalty rate will decline by 3 basis points for the full year.

Based on these assumptions, we are maintaining our previous guidance for full year 2014 EBITDA from franchising activities of a range between $227 million and $232 million. We are maintaining our previous guidance despite increases in the midpoint of our RevPAR guidance by 100 basis points, as we anticipate slightly lower unit growth and increased SG&A cost related to our Comfort rejuvenation strategy which I previously mentioned.

In addition, we expect a portion of our SG&A expenses initially anticipated to be incurred in the first quarter to now be reflected later this year. Despite our increased investment in our Comfort and Cambria development resources, we expect our full year franchising SG&A expenses to increase in the low single-digit percentage range from 2013 levels.

With regard to SkyTouch, we are projecting reductions in EBITDA for full year 2014 of approximately $20 million compared to $11.5 million in 2013 and our previous guidance of $21.5 million. Our projections assume that our SkyTouch division executes third party contracts with annualized revenue ranging between $4 million and $6 million, resulting in realized revenues for 2014 totaling approximately $2 million.

SG&A expenses are forecasted to be approximately $22 million related to investment in business development, sales and marketing and continued software development expenditures related to the division's cloud based hotel operating system products and services.

Considering our franchising, SkyTouch and owned hotel operating assumptions, we expect our second quarter 2014 diluted earnings per share to be $0.48, our full year 2014 diluted earnings per share to range between $1.87 and $1.93, and our EBITDA for full year 2014 to range between $207 million and $212 million.

We are very pleased with our first quarter performance and believe we are well positioned to continue our strong momentum for the remainder of the year. In addition, we are excited by our opportunities to accelerate the improvement of the Comfort brand portfolio and fuel the growth of Cambria Suites.

I'll now return the call back over to Steve.

Stephen P. Joyce

Thanks Dave. So summarizing, we're off to a very strong start for 2014. We're optimistic as our results and because economic indicators continue to trend in the right direction, consumers are more upbeat about future job growth and the overall economy as reported by the Conference Board Consumer Confidence Index for March 2014. April results for University of Michigan's Consumer Sentiment Index also showed consumer sentiment rising to its highest level since July of last year. Overall, these reports show that consumers are expecting the economy to continue improving and rising expectations suggest the economy may pick up some more momentum over the next few months.

With our strong lodging results in the first quarter and an improving development cycle and some cooperation finally from the economy, we're very optimistic about the future for Choice and for our industry. So with that, let me open up the line to any questions you might have.

Question-and-Answer Session

Operator

(Operator Instructions) Our first question comes from Steve Kent with Goldman Sachs. Please proceed.

Steve Kent - Goldman Sachs

Two questions. First, just on the ability to get financing into build, could you just give us a little bit more color on that? And then separately, Steve, I appreciate your comment about the economy on your consumer, but as you've noted before, your consumer has a fairly short window when they decide to use your hotels and reserved them. So can you just give us some other indicators that you're looking at that gives you a little bit more confidence to go out six to nine months?

Stephen P. Joyce

So let me start with the last one first. So on the consumer part, there are several things that we look at. We are very sensitive to employment and so results we got – when employment sank earlier during the crisis, we could definitely see that impacting our business and a lot of those folks who are our customers. As we've seen employment improve, and I'm the first one to say it, it hasn't moved that much yet but it really starts to – it's starting to feel like it is, that's going to give us an exaggerated impact based on those folks coming back with jobs and then them beginning to travel. So we are optimistic of that.

And then the other is, part of the optimism is driven by the supply demand balance in the business which is still really good, and even with the announced construction starts, you're still talking about historically 50% levels of what we typically added. And they all tend to be up-scale. So as a result, we're pretty confident in our space that this business is going to be really strong, not just for this year but for the next several years. And as the economy begins to improve, housing is generally improving all others are dropping, mortgage [indiscernible] last month, we're still seeing and we have several contacts with the housing industry. They are still pretty confident about where things are moving. So we like that a lot.

On the development financing front, you're just seeing continuing improvement quarter by quarter, month on month. So you got now local and regional lenders beginning to call our franchisees saying, 'hey, we finally allocated dollars to the new development, are you ready to start a project?'. You got the CMBS market coming back, albeit slowly, but it is coming back and starting to have an impact on the market, and you're seeing leverage levels increased. Originally, we were looking at 50%. Now for the average developers, that's moving up 65% to 70%, and for the strong sponsored projects you're seeing even more in that. So that's actually very encouraging, which is in part why we're moving now to bring more resources to bear because we think the timing is right for the next couple of years and we believe that that's going to help us move both Comfort and Cambria in particular and we're also seeing good gear activity in Suites by the way.

So that financing is coming back, it is affecting our core franchisee who typically are using more of a local, maybe regional lender, but then our larger franchisees are seeing aggressive national lending programs available to them now, and so that's all coming back. The progress we were making is mostly urban, but you can quickly see spreading well beyond urban into secondary and tertiary markets.

So it's kind of exciting. It looks like it's finally coming around but you got to love where we are in terms of supply-demand and by the time you actually start adding any real inventory, you are talking now late into '15, '16, '17, so not only do we feel really good about '14, we're really excited about what we see the next several years. That's why you see us making the investments we're making, that's why you see us moving aggressively on Comfort the way we are.

Operator

Our next question comes from Shaun Kelly with Bank of America. Please proceed.

Shaun Kelly - Bank of America Merrill Lynch

Maybe just a follow-up on that last question. Can you just remind us as kind of the timeline to actually construct one of the – kind of one of your average hotels, just to get a sense of kind of how long if you guys here ramp up let's say middle of this year in construction activity, how long it would actually take for some of that supply to come online?

Stephen P. Joyce

Yes, well, timeline has been shrinking considerably because it used to be five years [indiscernible]. So it's actually great now. We're moving back in the traditional cycles. And what you're seeing is, it is about a two to two and a half year total cycle for our hotels. You got – construction period is typically nine months to a year for bigger project. For the Cambria, which can be highlighted, obviously you're looking at longer periods about 18 months, but in general our properties are going up in nine months to a year. There's usually a year or so planning development zoning. So that gets you to that two to two and a half.

It has been really elongated because of the issue about financing and concern about when is the right time to go, but I went to the [indiscernible] Conference and there were 1,200 attendees which was a record, and 68% of them said they were going to start a project this year.

So I don’t know about you but that's a pretty good sign to me that people are feeling optimistic and now is the time for all these projects that they've been sitting on and we've been talking to about for two to three years, we think they're starting to move and then the aggressive incentive plan we're putting out for Comfort we think is going to drive incremental deals for us and we'll begin replacing those products that we are taking out with better, higher revenue intensity type product.

And so, as we see it, that market is, the new construction market is really kind of coming around, which we see as good for us on several fronts. It's good for the new construction that we'll get and it's good because when the other brand companies begin to get new construction projects, there's going to be an opening, they begin to terminate properties from their system which drives conversions for us. So right now the way we're looking at it, it's all good.

Shaun Kelly - Bank of America Merrill Lynch

That's actually great color. And then I guess, my second question would just be on, will it only be on conversion activity because obviously if construction is up, and yet your total number of contracts was kind of flattish, and I think you did say overall for the year you still expect it to be up, what are you seeing on just kind of M&A and what that means for brand conversion to this point of cycle?

Stephen P. Joyce

We definitely think we're going to be up. And so, we might be not up as much as we thought, as we're going to be a little more aggressive on the terminations, but 1% to 2% is kind of where we are. Now on the conversion, I noticed there were some recent information put out by some of the experts about while a new construction comes up, conversions go down, that is not true for us. When we do record new construction, we do record conversion.

And as a matter of fact, the part of the market that we have not seen yet is the other brand companies beginning to push properties out. So that remains to be another opportunity for us to increase our conversion level activity. It is pretty robust. The conversion activity is getting back to sort of peak levels, and so – but we still see upside to that and we've got some other interesting plays that we didn't have before, Ascend being the most notable of it, because that is a wide-open territory for us, it is our fastest growing collection of hotels and also one of our highest performing, both from a guest standpoint and a revenue contribution from us.

So as we look at it, the great thing is, conversions are going to continue to build strong and maybe even improve and then new construction is swinging up. So we are pretty bullish about that environment for a while.

David White

Shaun, just to add one comment to Steve's thoughts, if you look at last year's first quarter pipeline, we actually have not yet opened, exhibit we had 163 conversion hits announced a year ago, this year we're reporting 158, but keep in mind the last year's figure had about 24 hotels for Ascend and it related to that multiunit transaction which was not the situation for this year's first quarter. So if you factor that out, then actually we've got a pretty nice uptick in the conversion pipeline year-over-year.

Shaun Kelly - Bank of America Merrill Lynch

Thanks to that, Dave. And then I guess just my last question would be on SkyTouch. So I think you mentioned in the prepared remarks that independent hotels were beginning to sign on board. What do you guys feel like you are right now in terms of traction with some of the branded hotels as where they may be in testing and what is it going to take to get one or two of those bigger maybe multiunit type contracts signed?

Stephen P. Joyce

As I said, we did sign one where we are providing to a large collection of hotels. The answer to the other is, the pipeline is very strong, it includes a significant number of Tier 1 and Tier 2 [indiscernible] companies, Tier 1 being obviously the largest ones. There are several conversations going on that we think are very helpful and we're working hard to try to bring those to close.

So we think we're going to have some pretty good news to share with you in the next couple of quarters and the reaction has been very good. The sales resources we put out to work on these projects have been significantly increased. That's all in the numbers now. And so, we're feeling pretty good about where that pipeline is, that types of folks that we're talking to, the ability of all of the folks on that team to not only bring them the contract but bring them onboard. And so we feel like that part is testing improvement as we move into these larger collections.

Some of them will require some customization which may take a little bit more time before they are actually up and online, but we're ready and prepared to do that. We think we've got a pretty hot product that lots of people are interested in and if you sort of follow this part of the industry, there's a lot of buzz about what we're doing and a lot of interest. So we feel good about that.

Operator

Our next question comes from Felicia Hendrix with Barclays. Please proceed.

Felicia Hendrix - Barclays Capital

You guys sound very optimistic about your business obviously. Just wondering then with your RevPAR growth guidance for the year, it just seems if you follow '13, to imply some deceleration in the rest of the year and I would think that given the easy comps in the second half of the year, we wouldn't have seen that. So I'm sure there's a reason for that. Can you just help us understand?

David White

Felicia, this is David. Yes, so you do see – obviously we're at 5.6 for the first quarter, and the first quarter is obviously our weakest quarter from a seasonality perspective. So in terms of how that quarter factors into the balance of the year, [it's by far the weakest] (ph) is the primary thing I think you're seeing there, is the seasonality of the business.

Felicia Hendrix - Barclays Capital

Right. So but to get to the full year growth of 4.5 to 5.5, we would see RevPAR decelerate through the rest of the year, that's what I was wondering?

David White

At the top end of the range, you're pretty close to that 5.6 from our perspective. At the top end of that guidance range, it's kind of even growth rate of 4.5.

Felicia Hendrix - Barclays Capital

Even, okay. That's fair. I was looking at midpoint. Okay, great, good, there's no specific reason for that, so that's great. And then, just Dave, while I have you, your cash balance definitely increasing nicely. Just wondering if you could tell us how you view your regular dividend in context of that increasing cash balance, and if there's any opportunity to increase that?

David White

Look, we're in a really good position, an improving position on the balance sheet side of things. I think you pointed out a great quarter on the cash side. One of the things to keep in mind related to that cash is that substantially all of it is held offshore. So that's considered [indiscernible] invested in our international structure [absent for that] (ph) repatriation. So I don't think that the international cash balance is necessarily something I would link directly to our dividend policy.

But we do think there's going to be some opportunities to use of that cash in the business. I mean obviously we could use it if we get the right opportunity internationally for some type of acquisition, we think there's also some potential to use it to help us drive development even in the U.S. market through our credit program we talked about with Cambria Suites before. So those are the types of things we're focused on.

I think big picture, we do take a lot of pride in our long-term capital allocation approach and being great stewards of that capital and over time returning excess capital to the shareholders either through share repurchases or dividends. So we're pretty regularly looking at all of those levers and balancing them against the opportunity to deploy capital into the business.

I think as Steve talked about, we feel really good about where things are headed over the next 18 months on the new construction side of things. You'll probably see us use some of that capital, as we've talked about in the past, to drive particularly the growth of Cambria and to a degree Comfort, although predominantly the capital we put on the development side being mostly related to the Cambria brand.

So I wouldn't link the cash directly to the dividend policy but I think it's safe to say that we continue to have the same basic philosophy around capital allocation which is over extended periods of time due to right thing with that and often times that's going to involve share repurchases and dividends, but balanced with putting the capital to work in the business when that makes sense.

Stephen P. Joyce

Yes, and I would just remind everybody on the call that returning capital to our shareholders, these are number one priority, has always been that way and it always will be.

Felicia Hendrix - Barclays Capital

Great. And Steve, last question, earlier you gave us really good color on why you were optimistic on your consumer. It seems like you were talking a lot about the business related consumer part of your portfolio. Wondering what you're seeing from the leisure consumer, I'm especially curious because there's other segments of our covered universe that are facing challenges from that consumer in particular, so just wondering what you're seeing there.

Stephen P. Joyce

The reason we focus on the business is because leisure has been really strong for us. So, that's our bread and butter, it continues to get better and better, we're very optimistic about the leisure side. So particularly with the employment picture improving, we just think that's going to put – when all folks go back to work, they start traveling again. And so, we are disproportionately affected by downturns in employment and we're disproportionately benefited by those upturns.

Operator

Our next question comes from Robin Farley with UBS. Please proceed.

Robin Farley - UBS

I wanted to get some clarification on the SkyTouch, you mentioned third-party contracts that you have a run rate of $4 million to $6 million, and that's I guess unchanged from Q4. So I'm just curious if it moved with the range or if it was closer to $4 million, last quarter now is closer to $6 million? And also if there's anything in there, you mentioned that you signed a 1,000 member hotel chain agreement and that you haven't started signing with the individual hotels yet, but is there anything from that in your $4 million to $6 million expected run rate?

David White

Robin, our overall view of the opportunity, the revenue opportunity for SkyTouch for the year, I would consider it unchanged from the outlook we provided back at the end of February with our fourth quarter release. So obviously, the outlook would contemplate, the existing outlook that we just published this morning would contemplate all the current facts and our current view of the pipeline including this change that Steve mentioned, and you hit the nail on the head, we've signed – we're now [indiscernible] probably an approved vendor for members within that chain. So we contemplate within our outlook a combination of customers including customers from that type of chain, but there's no change in our overall revenue outlook for the year for SkyTouch from what we published back at the end of February.

Robin Farley - UBS

So the agreement with the 1,000 member hotel chain, that was really sort of in your expectations back in February that that was going to happen, in other words that's why your run rate is unchanged?

David White

Yes, exactly.

Robin Farley - UBS

Okay, great, thanks. And then just a quick clarification, you were talking about kind of the seasonality of your business, the RevPAR in Q1 versus the full year, I assume also the Easter shift maybe makes Q1 look like a higher run rate than the full year, do you have any sort of rough quantification for what the holiday shift might have added to RevPAR in Q1?

David White

That's a great question. For us actually the Easter shift didn't impact our quarter and the reason for that is, our RevPAR results for the first quarter that we report include our franchisee performance for the months of December, January and February. So in '13 – so it's not in our first quarter numbers for either period, it will be in our second quarter results, Easter would be in both years.

Operator

Our next question comes from Thomas Alan with Morgan Stanley. Please proceed.

Alan Thomas - Morgan Stanley

Related to the Comfort rejuvenation, you talked a few times about being aggressive in kind of regarding the unit count there. Can you just elaborate a bit more? You mentioned hiring salespeople but can you also talk about what else you're doing? You answered in an earlier question, so that you're not going to be putting too much key money behind it or as much as you do with Cambria, what else are you doing basically?

Stephen P. Joyce

Actually it's a good question because it is a lot more than just drove incentives. It has a program that we began about three years ago with new design, new prototype, new standards, new bedding, new breakfast, we basically have reinvented that brand and have been working to execute ever since. We have raised the level of [indiscernible] from a quality performance standpoint, we are working with the franchisees on a series of pips that are required to maintain their status within the system, we are talking with those properties that we don't think will fit the system long-term and trying to do a reasonable departure that sort of helps both, and as you can see with the numbers of the folks that stay within the system and another brand, that's actually working pretty well.

And so, now what we're doing is because we are seeing the financing environment improve, we are adding additional folks and resources in that development area, we are getting more aggressive about the incentives, but it's not Cambria like, it's more a little bit more juice than what we've typically done on some of these. So we're not making big investments in either mezz loans or JVs, it's more typical development centers that we're providing.

And we are doing what we call our Comfort property improvement process which we announced last year at convention, which was a $40 million investment on our part that is designed to bring hotels up to speed more rapidly, because our goal is to get it from not in a decade, which is what normally happens with 2100 type unit change, our goal is to get this done really and so the consumer would notice in two or three years.

And so that seat grip is what we're calling the Comfort property improvement plan. Of that, 40 million is generating hundreds of millions of dollars in investment for those properties. With a 1,000 properties apply, we gave it 350 of them. And so they are rapidly doing it, because they – in order to get that money, they've got to be done this year. If they are not done this year, they don't get the incentive. So they are working rapidly against that and that has driven other folks to do the same type of investment. Our early returns, and they are early, are very positive both from the standpoint of the guest reaction to the hotel but also the rate you can charge. So our best experience has been the Suite where we saw $10 rate increase across the board drop to the bottom line, so very strong ROI for this investment.

We are hoping for and seeing similar signs early but similar signs from Comfort, and so that investment we think will help, and then we're going to do whatever we need to do at this point to bring that brand around rapidly because that will benefit us significantly, both from a standpoint of the growth trajectory of that brand from a revenue standpoint because we have lots of room to move up against this competitive set, its RevPAR index performance, its guest performance, and look, this is like [common] (ph) brand, it has 99% awareness. America loves Comfort, it needed – they told us, it needed a reimaging and they are getting that, they love what we've done, and as a result we think this brand is going to be something to be reckon with over the next several years.

Alan Thomas - Morgan Stanley

That's great color. And then I mean so far, have you seen or what kind of reaction have you seen from competitors?

Stephen P. Joyce

In fact some of the competitors move before us quite frankly. And so, as you've seen some of the folks that we think are most competitive, Fairfield and Holiday Inn Express and some of these other folks, they had hardly moved. So we are in a position where we believe this is going to allow us to gain on them. They obviously are aware of what we're doing and market by market there are individual situations where people are doing whatever they need to do to be competitive, but I think it's good overall.

The consumer benefits, we're going to benefit, this section of the market is really one of the largest in the hotel business, it's sort of moderate to upper-moderate tier. We're trying to move ourselves where we're crowding into that upper moderate part for the entire chain but particularly the Comfort Suites, pushing into lower quality, and so which means actually really nice RevPAR increases for us, for the chain, as well as a reinvigoration of what has been a classic success story in the hotel business.

Alan Thomas - Morgan Stanley

And then just finally, a follow-up question following up on this. It seems like to your prior point, everyone is trying to move up to this upper moderate or upper mid-scale segment of the industry, and if everyone's doing it, is there risk that there's oversupply in this segment before there is kind of across the industry in general?

Stephen P. Joyce

That is not the concern at this point, because if you look at where all the inventories getting at it, it's in that upscale segment. So in this segment, one, we like where we sit; two, we believe that it is a strong and growing segment; and three, there's not that much activity going on, particularly where we are at our price point and the product that we provide. So it will be nice if three or four years from now, we have that as a problem to talk about, but right now we kind of see this as a wide-open track for us.

Operator

Our next question comes from Harry Curtis with Nomura. Please proceed.

Harry Curtis - Nomura Securities International

Could we get just a little bit more detail on the CapEx, what is – I don't know if you mentioned this, and I apologize if I missed it, but what's your expected total CapEx for the year and how would you expect to split that between SkyTouch versus additional development?

David White

So if you think about our CapEx, in normal years for kind of the typical kind of PP&E type of stuff, computer technology and those types of things, it's normally going to be in that call it $15 million, which is probably good spot to think about it for '14. SkyTouch has a fairly limited capital on expenditure associated with it and the type of activity there generally is expense through the P&L in the year we incur it, and I think our internal outlook is for maybe a couple of million dollars for SkyTouch CapEx. So that's how we think about the overall CapEx.

And then in addition to that, the things we talked about related to like Comfort Inn for example, like in terms of essentially some modest key money, or on the Cambria side to the extent that we're looking to put capital to work in mezzanine loans or JV types of situation, that's really going to be dependent upon the deal activity, and as Steve said, we're feeling really good about what we're seeing and we're starting to see more opportunities than we were a year ago, two years ago to deploy capital into good sites with good sponsors, but really the amount of capital we deploy against it for 2014, we haven't published any type of outlook.

We've typically in past several years talked about $20 million to $40 million per year as a way to think about it, but it could differ from those ranges dependent upon what we are going to be able to see out there.

Stephen P. Joyce

And what we're seeing is a lot of opportunities for some terrific projects in urban markets which obviously take a little bit more capital. So as we go forward in the year, the nice thing is things started moving for us in '12 and '13. So we're going to open Washington DC Convention Center this week. So I think I'm actually staying there Thursday night. The two properties in New York City are well underway. The White Point Hotel, Cambria is going to open I think in the next two to three weeks. We've got stuff under construction in Texas, we're going to start in LA, we're going to start in Phoenix. And so you can really see it starting to move.

We think we've got a good shot at having 30 Cambrias under construction by the end of the year, and so if that happens, you could be on the heavier end of that CapEx side, and if some of the bigger projects and some of the major urban markets go, that could help drive that a little bit because those projects tend to be more capital intensive. We're still participating at relatively the same percentage levels but if we do a major project in Chicago for example, that's going to be a bigger capital expense than doing one in the suburban market, but it's also much more revenue, much more fees, and much more of a brand builder.

So you can feel, one, the momentum behind this brand, but then two, the overall move them out of the financing markets and economies and developers confidence all sort of coming together to make for what we think for the next several years is going to be a pretty good development environment. And I think the general sentiment is, if you get them done this year or next year, in the '16, you're probably going to have two or three years of a pretty good run to stabilize those properties before you start thinking about another cycle.

And so, you've got a pretty enthused development community, they are really starting to like what they are seeing with Cambria, with the performance, with the properties we're opening, and so the interest is up significantly. And so I think as a result, we'll start to see that capital, but it's deal by deal and the capital, even if you make a deal today, the capital might not go out till next year. And I think while we're going to guess for this year about $20 million to $40 million number that we've been kind of consistently talking about for last five or six years, I would say if you have any luck, it will be at the heavier end of that but we just got to wait and see those deals pop.

Harry Curtis - Nomura Securities International

And my follow-up question, going back to your comment about the key money, what percentage of a hotel or a hotel's development cost is key money?

David White

You have to look at that kind of by brand here, Harry. I would say when you think about the moderate tier for a Comfort Inn for example, it's going to be – or Sleep Inn, it's going to be less than 5% easily, the capital stack and probably even lower percentage. If you're talking about Cambria, which has been an emerging brand for us and we're trying to expand the distribution of rapidly, we are willing to go beyond that and then take bigger position either as a JV partner for example and White Point [indiscernible] 50-50 JV. So we own half of the project. But basically it's going to depend upon which brand you're talking about. In that moderate tier with Comfort and Sleep Inn, for example, it's a very modest piece of the capital stack.

Stephen P. Joyce

So the other thing I think is worth noting, Harry, is in the Cambria deal where we've got – where we're taking either – we either provide notes or some sort of debt enhancement or equity, where we're doing that, that's going to be recycled and we think relatively quickly, which is too bad because some of these deals are pretty good deals, but those partners want us to help get it done but then they're going to want us out. And so our expectation is on most of those projects and we've already seen it a couple of times this year, in a three year time, two to three year after opening, they're going to refi and take us out of it which is that's their plan, so that capital gets recycled and then it gets put back in the top again.

Harry Curtis - Nomura Securities International

And my last question is, on the key money is there typically an incentive fee on that or not?

David White

You mean by the incentive fee like a management contract?

Harry Curtis - Nomura Securities International

Correct.

David White

No, we don't have an incentive fee baked into these contracts typically.

Stephen P. Joyce

The way you ought to think about it is, where you're putting in key money, you're typically [indiscernible] how much you discount the fees upfront, so you may discount a little less if you're providing a little more key money. That's the way to think about in the franchise here.

David White

And the other thing, Harry, to that point is we typically, if we put in key money, we're going to extend the minimum term of the contract, so it's going to have a window after year five which is kind of our typical contract, and we would push that window out at least a couple of years if not further. So we'll buy [indiscernible] on the minimum term of the contract as well.

Operator

(Operator Instructions) Our next question comes from Nikhil Bhalla with FBR. Please proceed.

Nikhil Bhalla - FBR

Steve, a question for you on SkyTouch here. If you can just kind of give us some color on what typical property management system across most of similar sized hotels to yours kind of cost to put in place, and also just kind of run annually? I'm trying to just compare that versus what SkyTouch would provide. And just a follow-up on that would be, what would preclude the brand themselves to get into this business and take the initiative to launch this, I mean what's the barrier to entry?

Stephen P. Joyce

That's a great question. So let's talk about the barrier first. We fully expect someone to develop this technology and that's what we've done. Yet at this point we are the only massively distributed cloud based property management system in the industry across the planet. So somebody out there is going to figure it out but nobody has to date because a lot of people can do it for smaller number of hotels. It's scaling it over 6,000, 10,000, 15,000 hotels, that is the trick and we have no doubt that somebody else will figure it out but right now we have and nobody else has.

So that's a barrier, not a permanent barrier at all, and so that's why you see us moving so aggressively because we think now is the time to try and build some market share before other people do figure it out. So from that perspective, we're very happy where we are but we fully expect competition to be with us at some point, and lots of people are working on it by the way, but it's a massively distributed part.

The other is, it's not comparable because it's exponentially less, right. So the cost of a property system that is server based includes the purchase of the server, includes cabling it, includes cooling it, includes the technicians to work on it, it includes updates, we have to go to the property and do stuff to it. In a SaaS-based, cloud-based environment, you don't have any of that. We push one button, the entire system updates. You have better PCI compliance, you have better protection of confidential information, you've got a quicker response rate, you've got a much higher effective rate in terms of uptime.

So it's the discussion of moving from the traditional old server-based to a SaaS based environment, which means it's not incremental, it's exponential. And so that's why so many people were asking us to use it, that's in part why we've launched this opportunity and why we are pretty excited about this space long-term, we have no – we're operating under no delusions that the space will not be with competitors that have comparable product at some point, but at this point nobody else does.

Nikhil Bhalla - FBR

Got it. So basically it's an early-mover advantage you have right now, and so that should be definitely helpful. The other part of this is, I was trying to kind of figure out if there was a way to somehow get a concept in terms of how different the costs are, like I mean I think in the last conference call you talked about maybe $6,000 that a person would pay or a hotel would pay to you on an annual basis versus how much would they spend on the legacy system, that's kind of what I was trying to get there.

David White

So it's a pretty fragmented market out there. I mean as Steve talked about, it's a pretty fragmented market. So dependent upon what level of product quality you want to buy is going to probably have a pretty big impact as well as the type of system, whether it's cloud based versus server based. So there are lots of variables that kind of go into that equation on the pricing side of things.

The other thing, we think we have an opportunity that's pretty unique and pretty attractive because the quality of our product is quite high, as we demonstrated through more than 5,500 hotels that we have on in our existing system. So I think as the next couple of quarters unfold, we'll be able to I think provide more clarity around the actual economics of customers as we bring more of them online.

Stephen P. Joyce

One way of looking at it is, we've looked at some potential acquisitions and our ability to drive cost savings by moving that brand to our system, you should think of it as, when we look that out, we think that savings are a multiple of what the actual costs are. And that's total savings. That includes buying the machines, the care and feeding of them. When you don't have to do that anymore, your operating costs come down. I mean it's the difference between traditional server computing and SaaS based computing. So there are rules of thumb around those cost savings and you should assume we're sort of at those levels.

Nikhil Bhalla - FBR

Got it, okay. And just one last question on the SkyTouch here, should we assume that this is primarily [indiscernible] or should we also assume that there is a possibility to take the delivered more upstream towards maybe [indiscernible]?

Stephen P. Joyce

I think your assumption is right. We think this scales to maybe a 300 room property that doesn't have lots and lots of different outlets and that sort of the capacity of the system at this point, which by the way is a lot of hotels. However, having said that, in some of the discussion there has been a look at what would it take to do larger hotels than we're currently doing. It is, the system is capable of being upgraded to do that but it would have to be a significant opportunity obviously for us to do that. And so you should assume that most of the folks that we're talking to about this system are 300 rooms or less and they tend to be more select service type offers.

Operator

There are no additional questions. I would now turn the call back over to Mr. Steve Joyce for closing remarks. Please proceed.

Stephen P. Joyce

Okay, so that's it for us today. Pretty hard obviously not to get too excited about what we're seeing. So we'll be pleased to bring you hopefully more encouraging results over the next couple of quarters. As always, thanks for joining us and for your interest in Choice Hotels. Have a nice morning.

Operator

This concludes today's conference. You may now disconnect. Have a great day.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!