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Starwood Hotels & Resorts Worldwide (NYSE:HOT)

Q4 2011 Earnings Call

February 02, 2012 10:30 am ET

Executives

Jason Koval - Vice President of Investor Relations

Frits van Paasschen - Chief Executive Officer, President and Director

Vasant M. Prabhu - Vice Chairman, Chief Financial Officer, Executive Vice President, Chief Financial Officer of Starwood Hotels & Resorts and Vice President of Starwood Hotels & Resorts

Analysts

William A. Crow - Raymond James & Associates, Inc., Research Division

Joseph Greff - JP Morgan Chase & Co, Research Division

Charles Patrick Scholes - FBR Capital Markets & Co., Research Division

Steven E. Kent - Goldman Sachs Group Inc., Research Division

Alistair Scobie - Atlantic Equities LLP

Shaun C. Kelley - BofA Merrill Lynch, Research Division

Robin M. Farley - UBS Investment Bank, Research Division

Harry Curtis - Nomura Securities Co. Ltd., Research Division

Smedes Rose - Keefe, Bruyette, & Woods, Inc., Research Division

William C. Marks - JMP Securities LLC, Research Division

David Loeb - Robert W. Baird & Co. Incorporated, Research Division

Operator

Good morning, and welcome to Starwood Hotels & Resorts Fourth Quarter and Full Year 2011 Earnings Conference Call. [Operator Instructions] I will now turn the call over to Mr. Jason Koval, Vice President of Investor Relations. Sir, you may begin.

Jason Koval

Thank you, Sylvia, and thanks to all of you for dialing in today for Starwood's Fourth Quarter 2011 Earnings Call. Joining me today are Frits van Paasschen, our CEO; and Vasant Prabhu, our Vice Chairman and CFO.

We will be making statements on this call related to company plans, prospects and expectations that 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 Starwood boards management believes, expects, anticipates, foresees, forecasts, estimates or other words or phrases of similar import. All such statements are based on our expectations as of today and should not be relied upon as representing our expectations as of any subsequent date. Actual results might differ from our discussion today. I point you to our 10-K and other SEC filings available from the SEC or through our offices here and on our website at starwoodhotels.com for some of the factors that could cause results to differ.

With that, I'm pleased to turn the call over to Frits for his comments. Frits?

Frits van Paasschen

Thanks, Jay, and thank you all for joining us. For the call today, I'll follow with similar format and cover 3 main topics: first, a recap of our results and our outlook for 2012; second, a look at the landmark changes we announced for SPG and how we'll make our brands even more appealing and relevant to global travelers; and third, an update on Westin and its journey from North American category killers to global hospitality brands, providing havens of wellness and renewal to travelers everywhere.

So let me begin with a high-level look back at the business travel marketplace. We've been seeing and saying more or less the same thing for the last couple of years. In February of 2010, we said our Luxury brands, owned hotels and global footprint would soon be tailwinds. We were cautiously confident near term and bullish long term.

Today, you can still see our caution in our cost control and in our lower debts. The prize events like the Arab Spring and the disaster in Japan, not to mention the chronic challenges in Europe made our caution seem warranted. In fact, the combined impact of those headwinds cost us on the order of $30 million in EBITDA for 2011. We nonetheless came in above the baseline scenarios that we provided at the start of the year.

We remain fiscally cautious but in the marketplace, we're far from timid. We continue to go on offense. In the last 2 years, we gained 240 basis points in REVPAR index and grew our room count by 10%, and we're still bullish about the coming years. Despite the uncertainty and slow recovery, all indications are that we're still early in the up cycle, and the secular trends that fueled our growth so far are only likely to accelerate over the longer term. The number of mega travelers is said to increase even faster in the next 20 years then in the last 2 decades.

That's it for the context for our results in 2011 and our outlook for 2012. We posted another strong quarter, beating expectations for EBITDA and EPS. We finished the year with EBITDA of $1.32 billion. That includes the St. Regis Bal Harbour residential project, and I have to digress for a minute to mention that the St. Regis Bal Harbour was described by Forbes as the most anticipated luxury hotel opening in the world for 2012.

The residential sales and interest in this property speak to the great appeal of the St. Regis brand, the strength of our system and the spending power of very high-end consumers. Vasant will share more details on our progress but the key takeaways are that we came in under budget and on time for construction, and at the fourth quarter closing have us on track to deliver over $3 a share in cash through sell out.

Now back to our core lodging business. Worldwide REVPAR grew 6%, and hotel GOP margins increased 110 basis points in the quarter. In North America, REVPAR increased 8%, which is in line with the third quarter. Standout markets are Miami, up 23%; and San Francisco, up 14%. New York held steady at 7%. REVPAR was flat in Europe, which is no surprise as the recession was already taking hold in Q3. Softness looks likely to continue, even if decisive action is taken in resolving the Eurozone troubles. But to put it in perspective, Europe accounts for 12% of our rooms, 14% of our fees and 20% of our own EBITDA.

For the full year across developed markets, REVPAR was up 8%, a strong result in the face of the malaise in Europe I just mentioned, as well as tepid U.S. GDP growth and a gradual recovery in Japan. These regions are all benefiting from high occupancy, virtually nonexistent new supply and steadily growing demand. And for our part, we also continue to outgrow the market.

Across the more rapidly growing emerging markets, we saw strong momentum build in both our footprint and demand. In aggregate, those markets were up 7% in 2011 but that doesn't tell the full story. Our fastest growing region in 2011 was Latin America, up 16% in net rooms and 15% in REVPAR. The region has potential for even more growth. Here's one example. Even though we're the largest global planner in Latin America, Brazil remains a huge and relatively untapped internal market. At the same time, our large volume of Brazilian outbound guests, especially to North America, prompted us to launch our new Portuguese language website this year.

Asia-Pacific REVPAR grew 5% in the fourth year, but that again understates our momentum. China's REVPAR x Shanghai increased 14%. In Japan, occupancy has largely recovered but rates are still lagging so REVPAR grew only 2%. The flooding in Thailand drove REVPAR down 11% at our 19 hotels. Taking out those affected markets, Asia-Pacific's REVPAR was up 9%.

Africa and the Middle East fourth quarter REVPAR was flat, but that's an improvement on the negative results through the third quarter. Results were mixed within the region, with Dubai where we had 15 hotels, seeing REVPAR growth at 12%. This strength was offset by markets like Egypt where political turmoil persists.

Worldwide, the top line results at our owned hotel portfolio lagged the rest of our system, with REVPAR up 5% in the fourth quarter. As you might expect, this was driven by softness in Europe. Canada was also slower as their rising dollar slowed U.S. inbound and group demand. For the full year, we were able to increase worldwide margins by almost 200 basis points on REVPAR growth of 8%, thanks to our lean operations efforts.

You should note that our guest satisfaction measures reached another high in 2011, showing that our cost savings have not compromised the guest experience.

I also want to point out that SG&A was up only 2.3% in 2011. You may recall that in 2009, we cut $100 million in overhead. We have no intention of having expenses creep back. Our approach continues to be to invest selectively in rising markets and on initiatives to accelerate growth. These initiatives, along with new hotel openings, drove a 14% increase in fees in 2011.

And speaking of growth, we were pleased to announce that in 2011, we set a company record for new rooms added to our system, a record we aim to beat again in 2012. This is a remarkable milestone. Bear in mind that 3 years ago, we were in the midst of the crisis, and the volume of new hotel deals ground to a halt. Factoring in the typical 3-year gestation period for building a new hotel, you might have expected a drop in new hotel openings today. But conversions of existing hotels to our brands in North America and new hotels in emerging markets more than filled the gap. Emerging markets were 61% of our new rooms this year, up from 50% in 2010 and 31% in 2009.

More importantly, the rise of these markets is far from over. We're firmly convinced that this remains the single biggest growth engine in our lifetime. Of the 112 hotel deals we signed in 2011, 2/3 are new build projects in emerging markets. This means we're positioned to strengthen and lengthen our lead. To that point, according to Smith Travel Research, in 2011, we opened more hotels in Asia-Pacific than the combined total of Marriott, Hilton and Hyatt. We did the same in 2010.

Globally, our goal was to deliver on our pipeline of new hotels consistently over time. In the past 5 years, we've added 389 hotels, which works out to about 8% growth unit additions per year, and it means that over 1/3 of our 1,100 hotels today are newly opened. These new hotels strengthen our brands and provide loyal SPG members with another great reason to stay.

Take the Luxury segment. The new St. Regis Bal Harbour brings our total Luxury count between St. Regis, Luxury Collection and W to about 150 hotels over 32,000 rooms. That's a 108% increase in 5 years. Put another way, we added almost as many Luxury hotel rooms as Four Seasons has today in its entire portfolio.

Before I turn to our outlook for 2012, I want to share some highlights from our Vacation Ownership business. Like our hotels, SVO had a strong year. Contract sales in the fourth quarter were up 6%, with pricing up 1%. Delinquencies and defaults are now back to pre-crisis levels. For the full year, revenues grew 8%. SVO generated $200 million in cash, which brings the 3-year total to about $700 million. By comparison, that's roughly equal to the market cap of the newly spun-off Marriott Vacations business. Looking ahead, we have several years of inventory left to monetize, and our team is looking at capital friendly and high return ways to maintain our sales pace.

Let's turn now to our outlook for 2012. Our baseline scenario for 2012 targets REVPAR growth of 5% to 7%, which would translate into full year EBITDA of $1.06 billion to $1.09 billion, and that excludes $80 million from Bal Harbour. REVPAR will be -- will continue to be driven by growing demand. Quite frankly, I have yet to see a big customer who says they'll travel less this year than last year. Just like in 2011, our core customers: professional firms, tech, healthcare and financial services are profitable, have record cash on hand and are scouring the world in search of growth. So corporate rates will be up mid to high single-digits, and our Group business will also benefit from higher rates, with pace holding steady in the mid-single levels.

So if our corporate clients are at least mildly optimistic, the financial markets showed a lot more skepticism. Worries of a Euro collapse, a hard landing in China or more unrest in the Middle East are reflected in $1,700 gold, $100 oil, 22% 10-year U.S. and German government bonds, minimal bank lending and stocks at relatively low PE multiple.

On the other hand, our customer's plans for 2012 would suggest, they think a major crisis is unlikely. And if they're right, then 2012 just might end up surprising all of us to the upside.

As for Starwood, we're sticking to conservative balance sheet and cost base, though we remain as bullish as ever about the long-term growth for high-end travel and for our brand. In 2012, we'll stay on offense, targeting REVPAR index gains, opening more rooms than ever, signing the most hotel deals since the crisis and deepening our ties to elite guests.

Getting closer to our guests is what transforming SPG is all about, and that brings me to my second topic for today. Over the past few years, we've been moving from owning hotels to owning guest relationships or as we like to say Owning Global Guests. Compelling brands, great service and best-in-class properties are 3 key ingredients to these relationships. SPG, the fourth ingredient, is what binds our brands and properties together, and the changes we're making to SPG are another big step in owning the next generation of global mega traveler.

Let me walk you through how these changes came to life, what it does for our guests and how it creates value for our hotel owners. To begin with, my experience in branded businesses taught me that the best marketing investments were geared to recruiting and retaining brand loyal customers and getting even more business from existing ones. The more targeted and the more focused you can be on their needs, the better. I came to Starwood having spent years as a global traveler, and it struck me that the hotel industry had not taken full advantage of learning more about their guests. Any other branded business would kill for the opportunity, not just to identify, but to get to know better its most valuable customers. To about 3 years ago, we set out to do just that.

The effort enabled us to marry some old truths about hospitality with the new realities of globalization. People have always loved to be recognized and to have a host meet their individual needs. Even in a digital world, there's still nothing quite like the human touch. And no matter how much they have to spend, people love a good deal. But more than that, they want to be treated in a special way. These truths have held over time, they cut across income levels, geographies and cultures.

Reality is that thanks to globalization, there are more mega travelers than ever before. And each year, they go to more places around the world with more to spend. Over the last 5 years, we've doubled our number of elite members and spending per elite member is up 60%. Today, the top 2% of our guests account for 30% of hotel profits. Our Platinum SPG members give us nearly 50x the business of our average guest.

The new ranks of mega travelers match the rising wealth around the world. 40% of our elite members live outside the United States. Today's mega travelers are more diverse, more informed and more sophisticated. They know what they want. They expect authenticity, and they won't settle for generic amenity. Vegans don't want cheese plates, sports fans want to hear about their home teams and some people just want to be left alone.

So our goal is to get out of the loyalty arms race where we had the benefit and our competitors follow suit. We're confident that no one can follow us this time. Where does that confidence come from? Well, I'll give you 3 reasons: One, the services and benefits we just announced took years to develop; two, we have long-standing relationships with more lead guests than anybody else; and three, no one can replicate the world's largest footprint of high-end hotels spread across 100 countries.

We started by discreetly reaching out to our most valuable guests and giving them a one-to-one personal contact. We asked them how they wanted to stay in touch with us and how they wanted to be treated. Their comments helped us recast SPG. They told us that not all trips are equal and not all benefits matter. They asked for more milestones and more reasons to stay after they reach a certain level. And they wanted more choice.

They also wanted to know whether their loyalty with us over time counted for something. And some of their ideas were very specific. One example stood out because it recalled my own experience. During my years in Europe working for Nike, I noted that I had to pay for 2 nights when I arrived early in the morning off a redeye flight. Our guests said they wanted a more flexible definition of their stay, so we tested our ability to meet that need, and today, we're offering 24 hour check-in for our elite guests.

We believe that the changes to SPG will not only set the program apart but they make -- take loyalty to a whole new place. This will be a great benefit for guests and drive more business to our hotels. For every dollar, euro or yuan you spend on this transformation, our experience tells us we'll see at least 4x that amount in top line growth. In other words, happy guests mean better returns for our owners and stronger brands.

Before I wrap up, I also wanted to give an update on Westin. Westin has been the brand to beat in the developed world for the better part of the decade, with brand awareness well ahead of its comp set despite its smaller footprint. With 2011 REVPAR growth of above 8%, it gained 20 basis points in global REVPAR index and guest satisfaction scores have risen to new heights despite higher occupancies and rate.

Westin earned its stripes as an innovation leader, including the rollout of the Heavenly Bed, Westin Workout, Heavenly Spa and most recently, the gear lending program with New Balance that allows guests to pack lighter while maintaining their fitness routines on the road. And we aren't standing still. Next generation efforts are coming from public spaces, guest rooms and service deliveries, all focused on bringing well-being to our guests.

Westin is in a perfect place to capitalize on a global trend. Wellness has exploded to a $2 trillion global business, and Westin's design language, services, programming and resorts makes it next to impossible for others to replicate. The brand enjoys intent to return ratings second only to St. Regis. And guest loyalty and rate premiums fuel interest from developers. Our North American pipeline includes some exciting new hotels in Bethesda, Denver Airport and Birmingham, among others, as well as some great conversions. In New York, the former Helmsley will open as a Westin after a $65 million renovation, followed by a $60 million repositioning in Cleveland and a ski hotel in Snowmass.

In emerging markets, the brand is a growth accelerator for us. We have some terrific new properties that blur the line between Upper Upscale and Luxury. In 2011, rates outside of the U.S. were roughly $215. So it's no surprise that today 70% of Westin's pipeline is outside the U.S. In 2012, we expect to close in on the 200-hotel milestone, including our 20th Westin in China.

And success begets more growth. Westins in Tianjin, Guangzhou, Hefei [ph] and Fuzhou [ph] reached #1 or 2 in their comp sets by their second year of operations. And with 5 openings in India, Westin is on the map and in the minds of travelers in the subcontinent. In 2011, the Westin Gurgaon was voted the Best New Business Hotel, and the Westin Mumbai won Best New Luxury Hotel.

In the Middle East, the Westin Mina Seyahi in Dubai grew at double of the marketplace in REVPAR 2011. The Westin Coast in Navarino marks one of the very new build convention hotels in Europe and Westin's footprint has doubled in Latin America in just the last 18 months. The Westin Santa Fe in Mexico City leads the market in only its second year.

So let me close by saying that we find ourselves entering 2012 in great shape. Whatever the global economy may throw at us, we're set to keep our momentum in both REVPAR index and footprint growth. We're confident for the same 4 reasons we've been talking about for some time: First, our globally diversified portfolio of high-end brands; second, our first mover advantage in rapidly growing markets; third, our culture of teamwork, innovation and global learning [ph]. Our surveys tell us that our associates have never been more engaged, aware of our strategy and energized. And fourth, we're building loyalty beyond reason with the growing ranks of global mega travelers.

Then now, I'd like to turn the call over to Vasant who will share his insights on both our results and our expectations. Vasant?

Vasant M. Prabhu

Thank you, Frits, and good morning, everyone. As you heard from Frits, 2011 was a good year for Starwood. Despite shocks from the Japanese earthquake, the Arab Spring and the persistent Euro anxiety, we delivered on all the commitments we made to you at this time last year. Global company-operated REVPAR grew 7.4% in local currencies. Owned branded REVPAR grew 8.7% with owned margins up 190 basis points. Management and franchise fees grew 14.3%. We opened a record 81 hotels and signed 112 new contracts.

We held the line on costs. SG&A was up only 2.3% despite heavy investments in continuing to build our emerging market infrastructure. Our Vacation Ownership business generated another $200 million in cash. Bal Harbour residential closing started on schedule, with 36 closings completed in 2011 for $75 million in net cash. Our EBITDA crossed the $1 billion mark despite a $50 million hit from external shocks and asset sales.

Our net debt declined from $2.1 billion at the end of 2010 to $1.5 billion, even after healthy investment in our owned hotel base, our IT platforms, our pipeline and the 67% increase in our dividend. We delivered on our financial goals while increasing guest, employee and owner satisfaction scores and gaining market share around the world. All in all, a great end to an eventful year.

So what does 2012 look like? Like 2011, the macro environment remains volatile and uncertain. We continue to look at the world through the lens of multiple alternate outcomes and how we might prepare, react and adapt. As we did last year, we settled on a baseline scenario to build our plans around. For 2012, our baseline scenario assumes that the global economy muddles through without anything blowing up. There are, of course, things that can blow up, an unruly unraveling of the euro, a hard landing in China, a major geopolitical crisis in the Middle East, the Korean Peninsula or Pakistan. As we've said before, our balance sheet is prepared for the worst with ample access to liquidity, low leverage and no maturing debt this year. But our operating plans assume that if global recovery continues in 2012, though not one as robust as we might have expected 6 months ago.

Here's our rationale. At the World Economic Forum in Davos, which I attended last week, the fate of the euro and the Eurozone dominated most conversations. As Germany plays a game of chicken with the euro periphery seeking austerity programs, and with the Greek bondholders seeking deep haircuts in return for a financial backstop, there is a risk of a catastrophic accident. As the rest of the world plays the game of chicken with Europe over the creation of a credible IMF-led firewall, seeking sufficient funding from Eurozone -- from rich Eurozone countries before full emerging markets contribute, there is the risk of contagion spreading to countries that are too big to save. An unruly unraveling of the euro was viewed as the clear and present danger.

We have and will continue to look at what we can do to prepare, react and adapt should this scenario play out. We have limited our cash exposure to the euro and Eurozone banks to the extent we can. As we have for the past several years, we have hedged approximately half our euro earnings exposure at 144 this year. We are holding the line on our hotel and above hotels costs and preparing contingency plans. Since most of our European regional overhead is also euro-denominated, our net earnings exposure to the euro is only 9%.

That said, it is our view that the Europeans and the rest of the world will continue to do just enough to hold things together through 2012. We expect that there will be periodic bouts of intense anxiety. We expect that even with the resolution of the Greek debt negotiations and an IMF firewall, the macroeconomic environment will be tough in the first half in Europe, with the hope of some improvement as the year progresses.

This is what our baseline scenario assumes. There is a long and difficult road ahead for Europe. Actions currently in the works will buy time, but a permanent solution requires some sort of fiscal consolidation, structural reforms to regain competitiveness and policies that allow the resumption of economic growth. This situation will remain volatile and needs close monitoring.

Moving on to Asia, the focus remains on China, the engine of growth in Asia and parts beyond. Fourth quarter momentum in China and the rest of Asia remained robust. As we move past the lapping effect of the Shanghai World Expo and the impact of high floods, double-digit REVPAR growth has resumed in Asia. All through 2011, there was no evident change in the pace of hotel construction and the pace of new hotel signings in China. In early 2012, we will open our 100th China hotel with another 100 under construction.

We also see some good trends in Southeast Asia, especially Indonesia, a recovery in Japan and continued strength in Australia. On the big question of a hard landing in China, the Davos consensus was that a hard landing was very unlikely anytime soon. This consensus was surprisingly unanimous. The widely-held belief is based on 4 pillars: First, the Chinese government has massive capacity to prime the pump if they need to; second, with strict control of the economy and the currency, the government has control of levers it might need to pull; third, there is tremendous room to grow consumption in the East while continuing to build infrastructure in the West; and fourth, the 50-year cycle of urbanization, driving productivity and growth will not end anytime soon. Our baseline scenario assumes that China and Asia will remain the engines of our own growth in 2012. The trends we're currently seeing will be sustained through the year.

A strong China helps commodity producers in Latin America which was our fastest growing region in the fourth quarter. These trends are continuing. We are optimistic that U.S. travel will return to Mexican resorts in 2012. We're seeing significant renewed interest in Mexico from U.S. groups. We have also looked at the possibility of a devaluation in Argentina and a what our response would be. Our baseline scenario assumes another year of robust growth in Latin America.

Which brings us to our largest region, North America. As you have seen, Q4 REVPAR was up a healthy 7.7%. As Frits described, we had strong growth in many key U.S. cities. Canada is a drag as the strong loonie hurt group business, particularly at our large owned hotels in Toronto and Montréal. We expect that 2012 will be a year of steady but unspectacular growth in the U.S. There are plenty of macroeconomic indicators that support this view. The Fed remains competitive. We expect and hope the geopolitical front will remain under control.

As long as the Eurozone is not a spoiler, the lodging recovery will continue in North America, helped by a very favorable supply situation. The pace of recovery, however, will not be as robust as we had in 2011. We expect a sequential slow down from last year's 9% REVPAR growth rate.

With around 80% of bids accepted, covered negotiated rates are up in the mid to high single-digits. Lead volumes are up as is average lead size. December was one of the best group production months ever. Booking windows continue to lengthen, group rates are rising. Group pace for 2012 is in the mid-single digits. Transient momentum remains steady and strong. With occupancies approaching peak levels across the system, rates will remain the key variable to drive REVPAR in 2012.

This is the underlying rationale for our baseline scenario of company-operated global REVPAR growth of 5% to 7% in local currencies. We expect Asia and Latin America to be at or above the high end of the range, North America to be in the middle of the range and Europe, Africa and the Middle East to be below the low end of the range. We expect another year of record hotel openings with at least 80 hotels entering the system. The dollar will be a headwind based on current exchange rates, pulling dollar REVPAR down by 200 basis points. This drives our fee growth expectations of 5% to 8%.

Part of our 2012 REVPAR growth outlook compare to recent trends. In the fourth quarter, global local currency REVPAR grew 5.8%. If you adjust for the lapping effect of the Shanghai World Expo and the impact of the floods in Thailand, our Q4 run rate was actually at 7%. The Shanghai effect is behind us and Thailand has recovered. The current business momentum is in line with the high end of our outlook range.

Also, post-March, we will benefit from comparisons in North Africa and Japan. And in the latter part of the year, comparisons get easier in Europe. As such, the low end of our 2012 outlook range allows for a further slowdown in Europe and knock-on effects elsewhere.

On the owned hotel front, local currency REVPAR will be lower by 4% to 6% and a further 200 basis points lower as reported in dollars. This reflects our owned hotel footprint. 28% of our owned rooms are in Canada and Europe versus only 18% of total system [ph] rooms. 34% of our owned EBITDA was derived from Canada and Europe in 2011. These markets will be a drag on same-store owned margin improvement and EBITDA growth. Also, we have some significant renovations underway in 2012, including the shutdown of the Gritti Palace, the Maria Christina and the Clarion at San Francisco airport. Also under renovation in 2012 will be the Westin Peachtree, the Sheraton Rio and the Westin Maui, among others. Our total owned EBITDA will be impacted approximately $10 million by 2012 renovations and the hotels we sold in 2011.

Also, across our hotel business, exchange rate shifts negatively impact 2012 EBITDA by approximately $7 million, net of benefits from our euro hedge. We continue to hold the line on SG&A costs, which will increase only 3% to 5%. More than 70% of the year-over-year increase comes from Asia and Latin America where we continue to build infrastructure to support the realization of our large pipeline.

In the developed world, our goal remains to hold costs as close to flat as possible. In our Vacation Ownership business, trends remain stable. We will continue to focus on generating cash. We are targeting another $125 million in cash flow from this business in 2012, which includes a securitization late in the year. EBITDA will be roughly flat.

To sustain the business, we are making selective investments in new inventory in tried and tested locations, generally where problem sales momentum warrants adding more inventory. Our baseline scenario is expected to deliver 2012 EBITDA of $1.06 billion to $1.09 billion, not inclusive of income from Bal Harbour residential sales. Each point of REVPAR impacts EBITDA by approximately $15 million.

As Frits indicated, the spectacular St. Regis Bal Harbour Hotel is now open for business, and condo closings are also in full swing. 36 closings were completed in 2011, and we are targeting at least another 120 in 2012. Closings will be front loaded as we work through the contracts that have already been signed. Our sales team feels very good about current sales momentum. The buyer base remains largely non-U.S. particularly Latin American. Sales to date have averaged over $1,300 per square foot. We have been able to steadily raise prices after sales were relaunched. The project is coming in on time and under budget. Our baseline scenario assumes at least $80 million in EBITDA from Bal Harbour condo closings and at least $250 million in net cash.

As we've said before, we do not plan to undertake a project of this type in the future, but we are delighted that we kept this going through the crisis. We now have the most exceptional residential product available for sale in South Florida and a major source of cash for Starwood as we work toward sellout over the next 3 years.

Each quarter, we will provide you revenue and EBITDA derived from Bal Harbour so that you can separately track the contribution from this project. Inclusive of Bal Harbour condo sales, baseline EBITDA ranges from $1.14 billion to $1.17 billion. It is difficult to break out the EPS impact of Bal Harbour without making some interest rate and tax allocations. As such, we will not give you a separate EPS estimate for Bal Harbour. Our reported EPS numbers will always be inclusive of Bal Harbour condo sales.

Baseline EPS for 2012 ranges from $2.22 to $2.33. Interest expense is expected to be $212 million. Reduction in interest expense from the paydown of debt is offset by interest that is no longer capitalized for the Bal Harbour project. This is why our reported interest expense does not decline as much as you might have expected. Our cash interest expense will, in fact, be almost $50 million lower.

Our estimated tax rate for 2012 is approximately 30%. This is higher than our normalized rate of 26% last year. The increase is largely attributable to the 38.6% GAAP tax rate on Bal Harbour income. It is important to note that there will be no cash taxes paid on Bal Harbour income since we have tax credits we are utilizing. Cash taxes in 2012 will be approximately $100 million.

We are stepping up capital spending in the hotel business on several major renovations as described previously. We are continuing investments to build our technology capabilities and drive our pipeline. Capital expenditure will be up $125 million to $575 million in 2012, $200 million in maintenance and IT capital and $375 million on ROI projects. Despite the step up in capital spending, we expect to generate at least $300 million in operating cash flow. As always, we are not including any asset sales in our outlook. We remain a seller of hotels where we can realize the values we want.

Finally, a quick word on our Q1 outlook. The impact of renovations and asset sales is most significant in Q1, a drag of almost $5 million. Also, business conditions in Canada and Europe are sluggish right now. Our outlook assumes some improvement as the year progresses. As such, owned EBITDA is depressed in the first quarter. SG&A growth in Q1 will also be higher by $5 million than the full year run rate of 3% to 5% would suggest. This is due to some items in 2011 SG&A which were non-occurring.

In summary, we expect 2012 to be another eventful year. We're prepared for scenarios other than our baseline scenario should they play out. As in 2011, it is our intent to remain flexible and nimble and pull the levers we need to, to deliver on our commitments.

With that, I'll turn it back to Jay.

Jason Koval

Thanks, Vasant. We'd now like to open up the call to your questions. [Operator Instructions] Sylvia, we're ready for the first question please.

Question-and-Answer Session

Operator

Your first question comes from Bill Crow from Raymond James & Associates.

William A. Crow - Raymond James & Associates, Inc., Research Division

Let me just start with Bal Harbour, if I can. You talked about 3-year sellout, yet your pace after the first quarter seems to drop more to $7 million of EBITDA per quarter. Can you kind of reconcile what your total EBITDA expectations are over those 3 years and how you see that pace changing?

Vasant M. Prabhu

Yes, I mean, we gave you some sense of that on the Investor Day, and a couple of years ago, was it last year? At the end of 2010. I don't think our expectations have changed very much. It's still a 3-year sellout. We will expect really, this is the first year, and it will sell out over the next couple of years, 2013 and '14. Certainly front end loaded because we are working through the contracts that were signed. There were some contracts signed in '06 and '07, so we need to work through how those play out. Certainly, we're seeing some good -- we're seeing everything that we've sold after the crisis closing with no issues. So that's why you see the bulk of it in the first quarter. It then slows down each quarter based on what the sales are likely to be in the quarter for the quarter. And frankly, we will tell you more as the year progresses so which is why we've defined this as a minimum of $80 million and a minimum of around 120 closings.

Operator

Your next question comes from Joseph Greff from JPMorgan.

Joseph Greff - JP Morgan Chase & Co, Research Division

I know we tend to look at the lodging business in sort of geographic buckets. But if you were to look at your portfolio, your customers, on a segmented basis, particularly in the financial services sector, how would you say the financial services sector is faring or where your expectations? What are you seeing there? And then how big is the financial services sector in terms of room revenues or profitability? If you can help us understand that, that would be great.

Frits van Paasschen

Hey Joe, this is Frits. It's a very good question. We do look at our customers by segmentation both by industry, as well as importantly by the level of their participation. And as I mentioned on the call, our elite travelers overall around the world spend 60% more per travel than they did 5 years ago and there's twice as many of them, which means their spending overall in our system is up three-fold and that trend continues to build. A big piece of that is financial services, but an even bigger part of that are consultants. And if the financial services business is and hasn't been terribly healthy for a number of years, I would say broadly speaking, the professional services side continues to grow robustly, particularly as businesses look at outsourcing opportunities, they look at trying to grow and expand in markets where they haven't been before and fundamentally also because many global corporations are based in Europe and the U.S. but they're seeing growth in emerging markets around the world. So financial services, an important segment not growing as quickly, but between pharma, consulting and some of the other knowledge-based businesses, we're still seeing very solid growth among our most intense traveler.

Jason Koval

And Joe, just when you look at the 4 sectors that Frits mentioned in his script, each of them contributes roughly low to mid-teens percent of our business.

Operator

Your next question comes from Patrick Scholes from FBR Capital.

Charles Patrick Scholes - FBR Capital Markets & Co., Research Division

I'd be interested in hearing your opinion on why group ADRs are so weak? And I'm not just talking about the ones that were booked 2 years ago but for new business really across the industry. What do you see as a dynamic sort of pushing against ADR growth for groups?

Vasant M. Prabhu

Well, yes, Patrick, I don't think we would agree that group ADRs are weak. In fact, for new business booked, ADRs are up nicely not only in '12 and they're up even more in '13 and '14. So actually, the group rate aspects are looking good as we look ahead.

Jason Koval

So Patrick, for example, on the business that we booked in 2011 for the following year, we're seeing rates up mid single-digits, and when we look out 2 years, we're seeing rates that are close to double-digit increases.

Operator

Your next question comes from Steve Kent from Goldman Sachs.

Steven E. Kent - Goldman Sachs Group Inc., Research Division

I think we calculated this right, but I just wanted to see why incentive fees were down year-over-year. Was there some type of true up that occurred in the quarter? And maybe you could just give us a sense as to how incentive fees will lay out over the next few years when they start to kick in?

Vasant M. Prabhu

Sure. I'm glad you asked the question because it did, it is a little confusing when you look at it. So there's a couple of relatively straightforward explanations. As you look at last year, it was a year in which things sort of improved through the year. And given how these incentive fees are sometimes calculated, you don't know if you're going to make thresholds. So what happens is that last year, a lot of our incentive fees were allotted into the fourth quarter because it became clearer as the year progressed that we were going to exceed thresholds. We did exceed thresholds in the fourth quarter, and the incentive fees tended to be booked in the fourth quarter. So the fourth quarter last year had perhaps more incentive fees both in the quarter than being spread out through the year just because of how the year played out. Then you look at this year, the biggest reason why incentive fees have been hit this year, as we told you earlier in the year, was because we essentially earned no incentive fees in Africa and the Middle East and Japan. In both cases, there were some significant fees that were lost as a result of what happened. So then you look at fourth quarter of this year versus last year. With those 2 things thrown in, as well as the fact that last year had a robust fourth quarter in fees and the comparisons don't look that good. So Jay, and if you actually look on a 2-year basis, incentive fees were up almost 30%.

Jason Koval

That's right. So full year 2011 incentive fees were up 5%, but when you adjust for the affected countries in Africa, Middle East and Japan, it was up to closer to 14%, and that's on top of 2010's incentive fee growth of 21%.

Vasant M. Prabhu

I should use this opportunity to do something that Jay told me. Apparently in my comments, I inadvertently said our fee growth next year would be 6% to 8%. This year, it would be 6% to 8%. It is 8% to 10% as in the press release, so that was just a mistake on my part.

Operator

Your next question comes from Alistair Scobie from Atlantic Equities.

Alistair Scobie - Atlantic Equities LLP

A question from my part of the world over in Europe. Just looking at some -- what was it -- what was a relatively REVPAR number for the fourth quarter? I mean, typically we've seen when the dollar's been strong but that's incentivized U.S. travelers into some of your southern European resorts in Europe. Has that happened to a lesser extent in other particular locations within Europe, I know you've called out Rome and London at the Q3 call, which are under particular pressure? I mean, if you could just generally talk about some of the demand dynamics over in Europe?

Frits van Paasschen

Yes, I mean, our sense is that the euro hasn't moved enough to make it -- make the perception that it's a great deal for North American travelers. The other thing is that while that change fluctuated through the year so I don't think that there was a perception that as people were planning, that they were going to get a great rate there. What we continue to see is in some of the gateway markets, more global travel into Europe, be it from the Middle East, Asia or North America, and that demand continues to be strong. And some of the resorts locations were a bit softer, and I think that overall, internal demand in Europe did something of a pause as we got into the fourth quarter based on what's happening there. But it certainly hasn't dropped off in a more significant way.

Vasant M. Prabhu

And the other thing I would add is the fourth quarter and the first quarter don't tell you much about Europe, they're very -- especially, at the first quarter, it's very much a low season. So when you're thinking about leisure travel, there's very little of it, so we'll really get a sense of the real trend in Europe in -- on the leisure side as we get more into the second and third quarters. And as Frits said, the good news is, as we look at January, the trend hasn't gotten worse, it's the same as what it was.

Operator

Your next question comes from Shaun Kelley from Bank of America.

Shaun C. Kelley - BofA Merrill Lynch, Research Division

Just wanted to ask about, I guess, following on the Europe discussion, just your thoughts on New York City. You guys have obviously expanded to a number of hotels here and just kind of wondering your thoughts about inbound European travel? Any trends that you've seen and just overall kind of health of the market for 2012?

Frits van Paasschen

Yes, so I think we acknowledged a few things as we looked at the New York market. The first is New York came back first, so the comparisons got harder, sooner for New York than elsewhere in the U.S. The second is to the extent that the financial services business has been after that has had some influence. But then finally, there's been a significant increase in supply that you alluded to as well, and in our case, what's been interesting about that incremental supply is, it's been more distributed throughout not just Manhattan but also into Brooklyn. And so that has, from our perspective, given a broader base of growth. And if you look at total tourist volume and total number of visitors into New York City, it's still relatively strong. And so we feel good about the New York market. We don't know that it will necessarily lead REVPAR and rate growth in North America but we don't think it's going to be soft either.

Operator

Your next question comes from Robin Farley from UBS.

Robin M. Farley - UBS Investment Bank, Research Division

I wondered if you could update us on your current thinking about share repurchase. You had talked before about that maybe being likely when you got close to investment grade, but then your comments today you talked about maybe increasing cautiousness about your balance sheet.

Vasant M. Prabhu

Well, we certainly, as we've said before, like having a strong balance sheet. We like the flexibility it provides us both to absorb any surprises on the downside that the economy might throw at us, also to seize any opportunities that may come our way. We have told you before that our priorities for the deployment of cash are reinvestment in our business which, as you see we're doing. Second it's to look for opportunities to grow our business, and we remain quite active in looking at things that could be ways to build our business as soon as we can do them in a way that is cost-effective and gives us a good return. Certainly return on cash to shareholders is very much something we have done before. We have raised our dividend by 57% last year, and we have a share authorization. But you should expect that we will be opportunistic as has been -- what we've done in the past. It won't be a programmatic buyback program, but you can rest assured that to the extent that there's cash available for which there isn't an alternate use in terms of reinvestment or growth, it will be returned to shareholders.

Frits van Paasschen

Yes. And just to amplify the point on the strength of the balance sheet, our sense is that the new normal will carry with it a great degree of volatility, and we certainly want to be prepared for that on the downside. We also believe that having funds available to be opportunistic is equally important. So we'll be making judgment calls about that as we go through time. But as Vasant said, we're focused still on making sure that the balance sheet gets to be strong, and we pass investment grade, which is where -- what we are in the process of doing.

Vasant M. Prabhu

Yes, and in case you haven't noticed this morning, Fitch was the first of the rating agencies to move us up to investment grade. So they moved us up to BBB- and maintained a positive outlook, which means that they expect that they will move us to BBB perhaps this year, which was our target and we assume that the other rating agencies will be doing that at some point soon.

Operator

Your next question comes from Harry Curtis from Nomura.

Harry Curtis - Nomura Securities Co. Ltd., Research Division

In the margin assumption for 2012, what estimates are you baking in for costs? And which ones probably rise the most?

Vasant M. Prabhu

Yes, as you can see, the owned REVPAR increases in dollar terms are in the -- it's 4 to 6 in dollar terms, it would be more like 2 to 4 which of course, puts some pressure on costs. We're holding the line on cost with our lean operations initiative and a variety of other programs so you should assume that the cost growth is curtailed. There's no particular item that sticks out. We certainly have wage rate increases based on agreements we might have had. Hopefully, there are no major spikes on the energy front. We are seeing some pressure on property tax and those kinds of things, but there's nothing in particular that sticks out. We will hold the line on food and beverage. Frits, do you want to add something?

Frits van Paasschen

Yes, I think, Harry, a couple of things. First, that as energy costs do start to cycle upwards, we continue to look at ways through our sustainability initiatives to get high IRR, carbon footprint removing activities underway, and we're finding that those can be effective, as I said, both for economics as well as social reasons. And that's been a great benefit to some of our properties, and we continue to get better at sharing best practices and looking at ways, recognizing that each building, each property, each location, each energy cost story is a little bit different. And then on the food and beverage side, because of rising commodities prices and increasingly, commodities prices are correlated from energy to food as well, we are working with our food and beverage team globally again to share best practices, and get better at grouping, purchasing and procurement across different markets. That's something we've been doing for a while but we continue to improve in the capability to do that. So in the 2 most likely highest inflation areas, energy and food, we do have some ways to continue to fight the inflationary cost pressure.

Operator

Your next question comes from Smedes Rose from KBW.

Smedes Rose - Keefe, Bruyette, & Woods, Inc., Research Division

I just wanted to ask you something about your EPS guidance for the year. When you reported in the third quarter, you were at $1.96 to $2.25, and I know your revised guidance includes Bal Harbour and it's maybe difficult to get the exact EPS component there. But it does seem like, nevertheless, at the high end, backing out Bal Harbour, there's a pretty significant decline in your guidance. And I'm just wondering if you -- is it just because you're just a little more cautious now, or do you think it more has to do with the tax rate and higher interest expense relative to what you were anticipating? Or can you just had a little color around that?

Vasant M. Prabhu

Yes. There is no decline in our EPS. If you just work through the math, it's strictly what the interest expense is and what the tax rates are. So the tax rates, we had told you in the fourth quarter that there was all this going on, that interest expense where the capitalized interest from Bal Harbour would flow through the P&L, and so you wouldn't see the same interest rate decline -- interest expense declines that you might expect from a debt paydown. It is a non-cash thing, of course, so our cash interest expense does decline when the debt goes down. But what's reported for accounting GAAP purposes, the -- as Bal Harbour now becomes a project in sales the -- and the hotel is open, the capitalized interest is now expensed. So it's purely how the interest expense works and interest expense doesn't decline year-over-year that much. I think it came down on the $10 million or so versus maybe almost $15 million that would've come down based on the debt paydown. And the second is the marginal tax rate applying to Bal Harbour, again for GAAP purposes, is the highest bracket of 38.6%. So the tax rate is 30% on a weighted average basis between the 2. So this is something you'll just -- we'll just have to explain to you as we go along. We will only report 1 EPS number. It is just not worthwhile to try and allocate interest expense and taxes between the 2 and create more complexity. We will break out -- break it out on the EBITDA side. But the simple answer to your question is no, nothing's declined. It's just how the interest expense and tax rates work.

Operator

Your next question comes from Will Marks from JMP Securities.

William C. Marks - JMP Securities LLC, Research Division

I'm hoping you can provide some color on timeshare fractional business, not necessarily your own business but just trends in key markets such as Florida, Hawaii, Southern California.

Jason Koval

Yes, I couldn't comment on trends for other businesses than our own. But we continue to see steadily rising demand and interest. Tourist flows, conversion rates, pricing all moving in the right direction. Delinquencies likewise, going down and so there's a return to a much more stable pattern. California appears to be a little bit better as a source of demand for the West. So we're -- we feel like we're at a steady-state growth for the inventory that we have and the demand base and the amount of money that we're spending to market and sell. And essentially in 2012, we're predicting a continuation of that into the year. So we feel good about the steady improvement in the business, and see that pretty well spread.

Operator

Your final question comes from the line of David Loeb from Baird.

David Loeb - Robert W. Baird & Co. Incorporated, Research Division

-- under the wire, and it's kind of a 2-parter. Can you give any context on your thought on the precedent that might be set by the legal decision that you took the $70 million reserve for? And also, just trying to understand the fee growth, particularly when the management of franchise fees were up 5.9%, and the total fees were up 12%. Can you just give us a little insight into what's in that $13 million increase absent the increase in the non-cash amortization in the fee line?

Vasant M. Prabhu

Sure. Go ahead.

Jason Koval

So David, thanks for your question. Unfortunately, related to any legal matter, there isn't much we can say other than the court's decision isn't final and the company intends to appeal.

Vasant M. Prabhu

On the fees, if you're referring to the other income line, there were some items there that we were anticipating payments due to us from owners that was in that line. We have things that come through from time to time, none of this was unanticipated. They are payments made to us by owners for various reasons. So other than that, I'm not sure there's much else to talk about on that front.

Jason Koval

Perfect. Thank you, Vasant. Well, that wraps up our fourth quarter earnings call. Please feel free to contact us if you have any additional questions, and we appreciate your interest in Starwood Hotels & Resorts. Goodbye.

Operator

Ladies and gentlemen, this concludes today's Starwood Hotels & Resorts Fourth Quarter 2011 Earnings Conference Call. You may now disconnect.

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