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Ashford Hospitality Trust, Inc.

Q2 2008 Earnings Call Transcript

August 07, 2008 11:00 am ET

Executives

Tripp Sullivan - SVP of Corporate Communications

Monty Bennett - President and CEO

David Kimichik - CFO

Douglas Kessler - COO

Analysts

David Loeb - Robert W. Baird

Steve Redona - BB&T Capital Markets

Jeff Donnelly - Wachovia Securities

William Truelove - UBS

Will Marks - JMP Securities

Jeff Dancey - Cutler Capital

Nap Overton - Morgan Keegan

Celeste Brown - Morgan Stanley

Michael Salinsky - RBC Capital Markets

Operator

Good day, everyone, and welcome to the Ashford Hospitality Trust conference call. Today's call is being recorded. At this time for opening remarks and introductions, I would like to turn the conference over to Mr. Tripp Sullivan. Please go ahead, sir.

Tripp Sullivan

Thank you, Andrew, welcome to this Ashford Hospitality Trust conference call to review the Company's results for the second quarter of 2008. On the call today, will be Monty Bennett, President and Chief Executive Officer, Doug Kessler, Chief Operating Officer and Head of Acquisitions, and David Kimichik, Chief Financial Officer.

The results as well as notice to the accessibility of this conference on a listen-only basis over the internet were released yesterday afternoon, and the press release that has been covered by the financial media. As we start, let me remind you that certain statements and assumptions in this conference call contain or are based upon forward-looking information that are being made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995.

Thus, forward-looking statements are subject to numerous assumptions, uncertainties, and known or unknown risk, which could cause actual results to differ materially from those anticipated. These risk factors are more fully discussed in the section entitled, Risk Factors, Ashford registration statement on Form S3 and other filings with the Securities and Exchange Commission.

The forward-looking statements included in this conference call are only made as of the date of this call, and the company is not obligated to publicly update or revise them. In addition, certain terms used in this call are non-GAAP financial measures. Reconciliations of which are provided in the company’s earnings release and accompanying tables or schedules, which has been filed on Form 8K with the SEC on August 06, 2008, and may also be accessed through the Company's website at www.ahtreit.com.

Each listener is encouraged to review those reconciliations provided in the earnings release together with all other information provided in the release.

I will now turn the call over to Monty Bennett. Please go ahead.

Monty Bennett

Good morning and thank you for joining us. As we have all seen now from published industry reports, major brands and several of our peers, the lodging industry is experiencing its challenges. There has been quite a bit of commentary on the outlook for the balance for the year. We're in general agreement with the general directions of these collective forecasts, but we believe there are several mitigating factors in our favor that will come into play.

For this call, we'll discuss how our portfolio performed in the second quarter, our liquidity, our dividends and what steps we are taking to respond to this environment.

For our portfolio, we reported a pro forma RevPAR increase of 2.0% for hotels not under renovation and a 95 basis point improvement in operating margin. Our RevPAR yield index for the quarter increased from 116.0% to 119.6% for hotels not under renovation and from 115.6% to 117.6% for all hotels.

Overall, ADR improved 2.6% and occupancy declined 134 basis points. The combined cash flow benefit of our select service portfolio, which accounts for approximately one-third of our annual EBITDA and mezzanine loan portfolio have contributed to a smoothing effect on our operating performance.

FFO per diluted share for the quarter was $0.41. CAD per diluted share was $0.33, which resulted in a dividend coverage ratio of 156% and an AFFO dividend coverage ratio of 194% for the quarter. Through the first half of the year our CAD dividend coverage was 130%.

We look at liquidity from two different vantage points, from an ongoing operating perspective and from the balance sheet our capital perspective. On the operating side, our source of cash includes hotel operations and lending income while the uses of cash include overhead, debt service and our dividend payout.

For the past four quarters our operating cash flow, or CAD, exceeded dividend payout by approximately $17 million. We did not have much of an inclination to pay a dividend that exceeds our operating cash flow. Unless there is a dramatic down turn in hotel industry fundamentals, we plan on following our guidance of paying a dividend of $0.21 per share per quarter.

In December of this year we expect to once again provide dividend guidance for the upcoming year. Regarding balance sheet liquidity, our major uses of cash include investments in new opportunities, share buybacks, CapEx expenditure above reserves and debt paydowns upon maturity. We have no debt maturity coming due in 2008, only $30 million due in 2009 and only $75 million due in 2010.

We have dialed back our ROI projects and seek to sell those properties with high CapEx needs. We will is deploy capital in new investments and buy back shares only when we believe our other potential cash needs are safely covered.

Sources of balance sheet liquidity include additional debt and asset sales. We seek to lower our 2007 year ending net debt to gross asset ratio of 61.5% to 60% or lower by the end of this year. As such, additional debt is used to pay-off or pay-down other existing debt. We continue to market approximately $2 billion of assets with the goal of selling $600 million to $1 billion of assets this year. So far, we sold over $300 million worth.

The hotel transaction market is quite thin and very choppy. We still believe, however, that there is a better than average chance that we will meet the $600 million to $1 billion goal by year end. But differently, we remain focused on two prong strategy.

The first objective is to assess access capital mainly through asset sales and then redeploy those proceeds into one of three major opportunities, Mezz lending, share buybacks, and debt reduction. We continue to find buyers for certain assets in our portfolio that are not longer strategic to us due to market concentrations or capital expenditure requirements.

In addition, select buyers continue to find our assets attractive due to the low coupon and long-term maturity debt in place that may be assumed subject to lender approval. As market conditions changed, we are flexible with redeployment opportunities to maximize shareholder value. For example, Mezz lending and share repurchase currently offer the greatest opportunities for shareholder accretion.

The second strategy is enhancing our cash flow through aggressive management of all cost and revenues streams with the ultimate goal of improving our dividend coverage. Our cost containment plans are in full effect to the portfolio and we continue to lock up long-term lower cost contracts wherever possible to reduce fixed operating costs.

Our asset managers are aggressively working the hotel operators to maximize the impact of our contingency plans. We continue to seek ways to grow top line performance in a more competitive market environment. The net impact of these cash flow strategies in conjunction with our financial engineering to reduced interest experience has resulted in a solid CAD dividend coverage through the first half of the year.

I noted earlier that we're in general agreement with the softening trends presented in published forecast on the lodging industry. However, we do not see the order of magnitude drop in RevPAR forecast that some have predicted. With economic headwinds and increased travel costs we acknowledged the impact, but just not to the same degree. A key reason is the lack of new hotel rooms supply overhand that existed in prior economic down turns.

The supply had been coming in at an elevated pace, but already we are seeing month-over-month numbers starting to reflect decelerating pace due to high construction costs and low availability for construction loans. It's worth pointing out that one industry analyst thorough review of the new supply pipeline identified that Ashford would be the least impacted among the lodging peers from new hotel room supply competition.

We executing our strategy exactly as we said we would from the beginning. Namely, we are responding appropriately to market conditions to enhance the safety and security of our dividends in a challenging environment while remaining aggressive with the select opportunities, the market is providing to redeploy capital that offers significant rewards with manageable risks.

To speak in greater detail about our second quarter results, I would now like to turn the call over to David Kimichik to take you through the numbers.

David Kimichik

Good morning. For the second quarter we reported a net loss to common shareholders of $33,522,000 adjusted EBITDA of $101,173,000 and AFFO of $57,198,000 or $0.41 per diluted share.

At quarter end, Ashford had total assets of $4.2 billion including $163 million of cash. We had $2.5 billion of mortgage debt with a blended average interest rate of 4.99%, leaving net debt to total gross assets at 58.7%. Including the $1.8 billion interest rate swap, 91% of our debt is now floating.

For the quarter, the swap allowed us save $2.6 million in interest costs. Since the length of swap does not match the term of the swap fixed-rate debt, for GAAP purposes the swap is not considered an effective hedge. The result of this is that the changes in market value of these instruments must be run through our P&L each quarter. These are non cash entries that will affect our net income, but will be added back for purposes of calculating our AFFO and our CAD.

At quarter end our portfolio consisted of 105 hotels in continuing operations containing 23,758 rooms, plus two hotels listed as held for sale. These two hotels are subsequently been sold. At quarter-end we owned a position in eleven mezzanine loans with principal outstanding of $136 million with an average annual unleveraged yield of 12.7%. Two of the Mezz investments are held in a joint venture with Prudential and are recorded in the unconsolidated joint venture line on our financials.

For the quarter pro forma RevPAR for all hotels was up 0.9% as compared to the second quarter '07. For the hotels not under renovation, which is all but eight hotels, the pro forma RevPAR was up 2% driven by a 2.3% increase in ADR and an 18 basis point decrease in occupancy.

Pro forma hotel operating profit for the entire portfolio was up by $1.6 million or 1.6% for the quarter. For the 97 hotels not under renovation, pro forma hotel operating profit increased 4.8%.

Our pro forma hotel operating profit margin improved 95 basis point for the hotels not under renovation and 33 basis points for all hotels. We ended the quarter with 119.7 million common shares outstanding, 7.4 million Series B convertible preferred shares outstanding, and 14.4 million OP units issued for a total share count of 141.6 million.

We have completed a total of $23 million in share buybacks since the inception of our program and have approximately $27 million left under the current authorization. For the second quarter we reported CAD of $46,162,000 or $0.33 per diluted share and announced and paid a dividend of $0.21 per share.

I would now like turn it over to Douglas to discuss our capital allocation strategy.

Douglas Kessler

Thanks, David. The execution of our capital allocation strategy was right on track in the second quarter. We recycled capital through asset sales, generated internal growth, reinvested in mezzanine loans and eliminated our remaining debt maturity in 2008.

Subsequent to the end of the quarter, we refinanced $95 million of our debt maturities due in 2009, leaving only $30 million remaining. As the more bearish market perceptions on lodging stock started to gain momentum over the past quarter, we implemented a more of a wait and see approach to our share repurchase strategy. While we strongly believe there is a price to NAV discount in this sector, we still want to be opportunistic with respect to share repurchase to maximize shareholder value.

We sold three hotels in the quarter. The Hyatt Dulles Airport, the Hyatt Montreal, and the Hilton Dallas Lincoln Center, bringing our total sold year-to-date through June to $289 million. These three asset sales sold for $208 million, a combined price of $146,000 per key, a trailing 12 month NOI cap rate of 6.8% and 11.7 times trailing 12 month EBITDA multiple.

Subsequent to the quarter end we completed the sale of Radisson Hotel in Rockland, Massachusetts, and Sheraton Milford in Milford, Massachusetts. These two hotel sales traded for combined $20.9 million or $70,000 per key, a 5.1% trailing 12 month cap rate and a 17.5 times trailing 12 month EBITDA multiple.

Despite market commentary about the inability to execute trades, the lack of buyers and absence of debt funding, we're making significant progress. Midway through the year we're more than halfway to our targeted level of at least $600 million in asset sales.

As we have mentioned before, our strategy is to recycle the capital from these sales into share repurchase, mezz lending, debt paydown or CapEx with no particular priority given to one over the other except that we will look at each investment opportunity for the maximum return available at that time.

The current time with mezz yields expanding and our share price at historical lows offering current dividend yields in excess of 20%, we remain optimistic that we can opportunistically redeploy our capital.

Regarding our balance sheet, we continue to make progress on eliminating any near-term debt maturities. During the quarter, we refinanced our only remaining debt maturity for 2008, a $73.1 million loan with MetLife that was secured by the Hilton Tucson El Conquistador in the Hilton Dallas Lincoln Centre.

The loan was paid down by $20 million to $53 million and maturity was extended to 2011. With the sale of the Lincoln Centre asset later in the quarter, the loan was further paid down by $33.7 million. Subsequent to the end of the second quarter, we refinanced our major debt maturity in 2009.

We closed the loan with [REL] Bank on the Capital Hilton in Hilton Torrey Pines, few assets held in a joint venture with Hilton. The loan amounted to $160 million at 275 basis points over LIBOR and provided three year term with two one year extensions. The proceeds were used to repay the existing $127.2 million loan, including our allocated portion of $95 million with the excess funds to be applied to future renovations at both properties.

We hope to eliminate all 2009 maturities by the end of 2008. In July, we invested $98 million to acquire a mezzanine loan that had a face value of $164 million. The loan was part of a $400 million mezzanine traunch and the $7.4 billion of financing secured by the 681 hotel extended stay portfolio.

Our loan is positioned in the capital stack at 75% to 80% of loan to cost with debt service coverage of 1.6 times. Yield to maturity we quoted was 23.9% based on the maturity of next June and three one year extension options.

Very attractive yield will increase further should it be paid off before maturity. We noted last quarter that most of the current opportunities in the mezzanine market were acquisitions of existing paper on the books of lenders looking to sell at a discount. This loan purchase was a great example of the opportunities available today on quality assets with good coverage. We expect to continue allocate in capital to mezzanine lending in the second half of the year.

Regarding capital expenditures, during the first half of the year we invested $77 million, a substantial portion of which was related to the complete renovation and five-star repositioning of our one ocean property in Florida, the former Sea Turtle Inn. The expenditures we're committed to, are either required by the brands or projects we deemed to be absolutely necessary.

In closing, I would add that we continue to see the benefits from our diversified strategy. As Monty mentioned earlier, this diversification has kept us from being overloaded in one segment or region as well as given us flexibility to consider multiple investment options. With a solid base of asset sales expected as a source of proceeds, we're optimistic the second half of the year will offer considerable opportunities to deploy capital on multiple fronts.

That concludes our prepared remarks and now we'll open up to any questions, you may have.

Question-and-Answer Session

Operator

Thank you, sir. (Operator Instructions) Our first question will come from the line of David Loeb with Robert W. Baird. Please go ahead.

David Loeb - Robert W. Baird

Hi, I have got a couple. First, your margin performance was really very good this quarter. It looks like you did a lot of work taking out both fixed and variable costs. Can you just give us an idea about where you think margins would go under a scenario where RevPAR is negative by, let's say, a point or two? Not looking for guidance here, really just looking for kind of order of magnitude and how the relationships go.

David Kimichik

I think we have talked in the past that we would expect in the range of plus or minus 75 basis point reduction in margin in that scenario. Give you a range may be 60 to 90 basis points.

David Loeb - Robert W. Baird

Okay. And that is down like minus one to down minus two?

David Kimichik

Our goal is to try to flow 50% of any revenue loss to the EBITDA line.

Monty Bennett

That's the only flow so far. Revenues are down 100,000 and our bottom-line is down only 50,000. That's what we endeavor to do.

David Loeb - Robert W. Baird

Okay. Anything in particular, any color you can give us on how you achieved the margin results this quarter?

Monty Bennett

It's kind of a combination of a few areas. A table in the back of our release shows a rooms area and food and beverage being the biggest gainers, but it's really more of a property by property analysis of what we're able to accomplish where, and where we're able to work and push our managers and where we weren't. The only broad brush area where we were able to save is in the insurance line where a couple of months ago we locked in insurance actually for two years which is providing some nice savings for the portfolio.

David Loeb - Robert W. Baird

I see. Great. Kimo, can you talk a little bit about the accounting for the [DESA] note? What is the cash yield and what are you going to book and how does that all work?

David Kimichik

Sure. As we announced, we expect almost 24% IRR from this investment that is factoring

in the fact that the borrower would excuse a three one-year extension options and we would get paid at maturity of that, which is approximately four years out. We'll be taking in as income the cash portion of our payment as well as the amortized loan discount over those four years.

And so, approximately two-thirds of our income is going to be the loan discount amortization and about one-third is going to be the cash component of that. And for GAAP purposes that is income, I think, in terms of our FFO and adjusted FFO and CAD, we intend those to be GAAP-type numbers, so we will be including those in our calculations going forward in both AFFO and CAD.

David Loeb - Robert W. Baird

Since, I guess probably for Doug, as it relates for loans of this type that you can potentially buy at a discount, how big is that market? And as you look at opportunities to reinvest another $300 million or more of asset sales, what are the prospects for finding mezz pieces with these kinds of returns?

Monty Bennett

David, this is Monty. I'm going to jump in and if Doug wants to answer as well. The dam seems to really have broken on the availability of products, maybe about a month or two ago. And so, we're seeing a lot more product hitting the markets. We have got an internal list that shows about $20 billion worth of hotel paper that is for sale out in the marketplace today, 21 billion to be exact.

A lot of that doesn't meet our criteria, but some of it does. And pricing is finally starting to get to a point where we think it's attractive. An example being the ESH trade and there are some other pieces out there right now that we think looks decently attractive. I think pricing is only going to get better as the banks become more and more willing to unload these debt pieces. So, it seems like at least the market is going to be pretty healthy for these types of investments, but you just never know. It seems like it is getting better and just crossing the threshold where it's attractive to us.

Douglas Kessler

The only thing I would add, David, is obviously we're being very disciplined in what we pursue. I will give you a data point. Apparently the ESA traunch that we bought we were told that another group bought a similar spot in the cap structure …

Monty Bennett

The exact spot.

Douglas Kessler

The exact spot, but at not as good at a discount to par. They bought it at a number that was closer to par than what we paid and closed on it after we did. So, I think what we're trying to do is not only look at paper but look at the institutions that hold the paper and be mindful that the paper that we're looking at, we believe it's fundamentally sound but the institutions that hold it may not be. And so there could be stress points for us to take advantage of in terms of pricing and structure.

David Loeb - Robert W. Baird

Well, $21 billion is a pretty large menu to choose from. There must be stuff in there that is pretty high yield, but pretty high risk. How do you decide where to go in terms of how much risk to take for the amount of potential return you get for that?

Douglas Kessler

Well, I think it's simple. It is consistent with what we have always done. We underwrite to the real estate value and stress-test the real estate operations and only if we are comfortable with the performance of the asset at our last dollar debt in the cap stack and compare that to what we believe the borrower's capabilities are as well, we make the decision to move forward. You are absolutely correct. There are components of the cap stack that we would absolutely steer clear of.

Monty Bennett

For example, the America portfolio, there are mezz pieces that were available and are still available in the more risky positions than ours that actually substantially lower discounts. But in our most conservative stress test, those other segments started to get hit a little bit. So, we wanted to get back from there, so the piece that we choose was the piece that stayed strong, even in almost conservative circumstances. That is how we choose and right there is where we draw the line and that is it.

David Loeb - Robert W. Baird

And one more, Monty, as you look at those opportunities in mezz versus stock repurchase, how do you weigh that decision?

Monty Bennett

We look at it economically. We just run the numbers, which is more attractive. The difficulty is that all opportunities aren't available at all the time based upon the volume of shares that we can buy at any time, blackout periods, also some of the mezz that is available at the time and when we can get it.

There are a couple of other current subjective factors that are available or that come into the analysis. If you do a mezz piece, the advantage is that you still have at capital at some point later to recycle it. That is also a disadvantage because if you are getting 20% yield, you have to redeploy it to get another 20% yield so it is not dilutive later on. While if you do a stock sale, if you burn the capital then you are making the size of your company smaller, but then the accretion last forever. So, we take those all into account. But right now both of those opportunities in general seem to be pretty attractive to us.

David Loeb - Robert W. Baird

Okay, and your blackout period ends Monday, right?

Monty Bennett

That's right.

David Loeb - Robert W. Baird

Okay. Thank you.

Operator

Thank you. Our next question will come from the line of Craig Kucera with BB&T Capital Markets. Please go ahead.

Steve Redona - BB&T Capital Markets

Yeah, hi, this is actually [Steve Redona] for Craig. I was hoping you could give us kind of breakout you did last quarter in light of your asset sales and where you think the capital investment plan stands for the rest of the year from that original, say $190 million?

David Kimichik

Sure. Let me kind of give you some broad statements about that. We had $50 million of ROI that we wanted to spend this year. However, when you look at the returns, and there is ROI investments compared to the returns we can get in mezz or in buying our own stock back, that becomes a lot less attractive. We can still get the same returns, but they are just a lot lower than what we can get elsewhere.

So, initially we were targeting $50 million of ROIs and now we have dialed that back to, may be something closer to $20 million. We spent $77 million or so, so far this year and for the rest of the year we think that number is going to be 40, maybe 60. Realize that our [FF&A] reserve for the whole year is something like 55 million. So, a good portion of that is covered by reserve and the balance will come out of cash flow or other sources of capital.

Steve Redona - BB&T Capital Markets

Okay. Great.

Monty Bennett

We're also in the market to some projects to somewhat delay in the hopes of, may be selling the assets because, again, we can just make more money by using the capital in mezz or buy backs than we can in CapEx.

Steve Redona - BB&T Capital Markets

How much did you save on the asset sales to date? I know there is probably a [PIP] at the Dallas Lincoln Center and maybe some others?

Monty Bennett

It is kind of hard to say, because a lot of those PIPs, well some of the PIPs are finalized but the pricings weren't finalized. We're still going back and forth with Hilton. Kimo here has an idea. What do you think it is Kimo closer to --?

David Kimichik

It was $20 million, was our renovation plan on the Lincoln Center asset that we saved. The Montreal asset was planned for next year so that wasn't in this year's plan. The Dulles asset has just gone through a renovation.

Steve Redona - BB&T Capital Markets

And just one other question, can you give us an idea of how demand trended through the last four months? I know most of your peers have said April and May were pretty good. June was pretty bad and July wasn't much better. Can you give us some comments on that?

David Kimichik

Sure, we'll refrain from commenting on July, but the other three months our occupancy was down 134 basis points. It's kind of hard to get a handle because April, we have some favorable comparables from the prior year where Easter was and for us, May was a little worse and June was a little better than May. So, our trending was a little bit different than our peers. As far as where we're seeing softness, geographically we're seeing it primarily in southern California, Las Vegas, Phoenix are probably the main areas, little bit stronger in Texas, New England areas, mid-Atlantic is kind of a wash. The way Smith Travel does it is they include a big area, so that's kind of mix, but that is about where we're seeing the strengths and weaknesses.

Operator

Thank you. Your next question from Jeff Donnelly with Wachovia Securities. Please go ahead.

Jeff Donnelly - Wachovia Securities

Good morning guys, I guess, this question is for Doug. Going back to David's question on ESA and the note, I guess it strikes me that your return there is entirely back-ended. I clearly don't have access to the information that guys do on extended stay, but I guess I'm having a hard time seeing how there is much residual value to the traunch you purchased. If you assume the move we have see in hotel REIT pricing is reflective of the declines we will inevitably face on hotel values, I know in your comments you think you are looking at a loan to cost of 75% to 80%, but in today's dollars where asset prices will likely move it, probably closer to a 100% loan to value, I would think those assets are mark-to-market. So, while they are cash flow positive today, I think in paying their debt a lot of it has been helped by the decline in interest rates in ESA senior debt. I guess I am sorry, I know it's not really a question, but I guess I'm trying to figure out how do you feel your principal is secure and only more of a bet on recovering asset values in the mezzanine market in the next few years or is that something that I am missing there?

Monty Bennett

This is Monty. Let me take one comment and pass it over to you, Doug and that is, Jeff, it seemed like your statement, if I heard it right, was that the prices of the REITs now is a portends the pricing in the private markets of real estate. If that is what you said, we don't agree with that. We think there is a huge disconnect in the public and private markets. And so that's why we think ourselves, not our peers, don't reflect the value of underlining assets and what they could be sold for. So, that is one difference. Doug?

Douglas Kessler

I think when you look at the values that we have actually been selling our assets for. That's probably a fairly interesting metric when you take the combined cap rate of all the assets that we have sold over the past six months, Jeff, there are sub eight on a combined basis. And yet I don't think, if you look at values of some of the REITs, that that is really good private market metric. But more specifically to your question, we take comfort in several aspects of the deal. Number one, the per key last dollar for us is at 82,000 and we all recognize that that is below replacement and below where we comfortably feel these assets would trade.

In addition, we take comfort in seeing the participants and the amount of capital that is behind us as well in the capital stack. So, we feel very comfortable about where we are. We look at numerous traunches of this debt. We looked at where we could find the largest discount and we believe that this is one of our best mezzanine investments.

Jeff Donnelly - Wachovia Securities

I don't disagree with you, I guess, on the cap rates that have been pretty good, whether it's from you guys or other people, but a lot of those have come with debt, I guess, it's been put in place in early 2007 and as assumable that you could kind of argue was almost early or mid 2007 pricing. And I know you said you are at the $80,000 threshold but a lot of assets that are getting financed today are usually only getting 50% 60% LTVs and it strikes me, again, I don't expect the conditions to hold forever, but in three to four years I guess doesn't this come down to the question of whether or not we get back to an environment or you can refinance out of the mezz and you need 70% to 80% LTV at that time?

Douglas Kessler

But it's not to refinance. It can be sold and then value can be realized.

Jeff Donnelly - Wachovia Securities

Okay.

Monty Bennett

Sold. Recapped with new equity coming in. Remember this is a very unique platform in its own right as being the dominant extended stay platform in the US.

Douglas Kessler

I mean, someone can buy it for $84,000 a key and then put $60,000 key debt on it and we're still paid off. So, it's not like the financing markets have to come back to a certain level in order for us to realize that value.

Jeff Donnelly - Wachovia Securities

And then, just moving on, Monty, you mentioned earlier that you pay the dividend provided it is covered by operating cash flow. Just to be clear, when you guys think about, and I assume you mean funds available for distribution. Regardless of whether or not you are spending money on CapEx, do you still, I guess, ding that number for some sort of reserve, 4% to 6% of revenues?

Monty Bennett

Yes, we do. It's about 4.5% is what we hold back as reserve.

Jeff Donnelly - Wachovia Securities

And I assume that means you guys believe you will cover it in 2008 just from your opening remarks, but I guess I'm curious and as you look forward to 2009 have you guesstimated what sort of decline in RevPAR or EBITDA or whatever metric you may use before you, or call it your run rate on '08 FAD doesn't cover your current dividend?

Monty Bennett

I don't understand the question, would you mind repeating it?

Jeff Donnelly - Wachovia Securities

Yeah, I guess, I am just curious. If you think you are going to cover your dividend in 2008 from your funds available for distribution, have you looked forward? I'm not asking for guidance. Have you looked forward and said well, what kind of decline in RevPAR or EBITDA do I need in '09 such that my FAD now doesn't cover my dividend?

Monty Bennett

Yes. We have done some of analysis and, as you know, Jeff, our business is seasonal. So, one quarter may not technically cover the dividend, but on an annualized basis is how we look at it. And so, as I mentioned in my script, we're not inclined to come out-of-pocket in order to cover it, but so far, so good. And in December, we'll give more guidance about 2009.

We have stressed some of our numbers and depends upon what LIBOR does and how good our managers are at controlling costs and also platform changes with selling off some assets and doing mezz loans. But if that doesn't change, our asset base doesn't change and LIBOR either stays flat or follows the curve is kind of the range that we have modeled in, we can experience about, and this depends upon a number of factors so please use this broadly, about a 2% RevPAR decline in next year in '09 over '08 that wouldn't create a cash flow situation that's below our dividend. And so, based upon the guidance we have given thus far, unless it changes in December, then we would still be paying the dividend. And maybe as much as 4% and it depends on how the rest of this year turns out and how much of a discount that is off the rest of the year, but at least that gives you somewhat of an idea of what we think we can sustain.

Jeff Donnelly

And that's great. Thank you very much. Thanks, guys. That is it for me.

Operator

Thank you. We'll move to our next question from the line of William Truelove with UBS. Please go ahead.

William Truelove - UBS

Yes, just a couple questions. First of all, how liquid do you think that mezzanine paper is? Compare that to how long we can think it would take you to resell it versus reselling assets at hotel level?

David Kimichik

I don't think the paper is very liquid in this market. As a mentioned there is $21 billion worth of other hotel debt, out there, trying to be sold. And in this market, we haven't tried to market it. So, it would be hard for us to comment, but I would think it would be more difficult, considering how much competition there is no sell paper.

Monty Bennett

But again, Bear in mind my earlier comment that the same spot in the cap stock, the same traunch of debt was sold by another financial institution at approximately 10 to 12 points less of a discount than we were able to get two weeks after we bought our paper. So, again, I think it points to the fact that the trade we made on this was relatively attractive even considering comments on pricing and where mezz is headed. Clearly, it would appear that we bought it at more of a discount than others recently did.

David Kimichik

The difficulty for a lot of buyers mezz is trying to get financing on it. So, if we were provide seller financing on that paper, then it would be a lot easier for us to sell.

William Truelove - UBS

Let me ask it a different way then. How long was that paper that you bought on the market for them?

Monty Bennett

The ESA deal was closed in about April of last year, and that is a couple of months after that. The syndicate started marketing it and it is bring it marketed for a while and then pull it back and bring it to market for a while and pull it back, continuing to expand the pricing on it and making more attractive. So, they have been marketing it for some time. It was very shortly after they reached this price point though that we jumped on it.

David Kimichik

Remember, there are certain points in these deals with the syndicate follows suit and then after a time a lapse there is the opportunity for the syndicate banks to sort of break rank and sell at different price points and that is what we're beginning to see in some of these larger deals that took place in 2007.

William Truelove - UBS

And so…–

David Kimichik

I think the Hilton deal would be a good example of where syndicate recently broke and so pricing is sort of a free-for-all right now in terms of where institution would like to price certain spots in the cap stack.

Monty Bennett

So, you have those lenders that are more eager to unload the paper, discounting it faster.

David Kimichik

I think the syndicate for the ESH deal broke up in April or so, May. It was about a year, I think.

William Truelove - UBS

Lessen than, basically about 21 billion market into sort of perspective. Of that amount, how much would you just guesstimate is where the syndicates have started to break? Is it 10% of that 21 billion, is it 50%? What do you guys think?

David Kimichik

You know what, we haven't looked at it. It would be hard to say. We haven't divided it up that way. Doug, you may want to hazard a guess.

Douglas Kessler

I think we're more focused on trying to find spots in the cap stack that meet our criteria as opposed to trying to determine exactly where the syndicate has broke. So, we haven't really calibrated it to kind of look at it quite that way.

William Truelove - UBS

No, no problem. And then, my only other question is about 2009 CapEx. What is the minimum CapEx that you guys think you could spend in 2009 given the brand requirements and what not?

Monty Bennett

It's just hard to say. We met here internally to talk about that because we thought it might come up on this call, but it just depends upon what assets we sell. Some assets have got enormous CapEx requirements, and pips and some don't have much at all. If you look at the right Hilton, for example, is an asset that we're talking to folks about maybe selling. Requirement of that asset may be $20 million, $30 million. The Capital Hilton and Torrey Pines together have got a pretty good CapEx requirement on them. So, it's so influenced by that, it's just hard to say what that number is.

William Truelove - UBS

Okay. Great. Thank you so much, guys.

Monty Bennett

Okay.

Operator

Thank you. Our next question will come from the line of Will Marks with JMP Securities. Please, go ahead.

Will Marks - JMP Securities

Thank you. Good morning. I had a question on the 600 million of sales; do you expect all to be fourth quarter, any to be third?

Monty Bennett

As far as the timing of it let me think about that question about what may be third and what may be fourth. I think some of it may hit third. It kind of depends. We have already had a couple hit third quarter, the Milford, Rockland assets. As far as any of these other deals, I am trying to think about the negotiations and the due diligence period, and I think they are all falling into the first part of the fourth quarter. So, I don't think we'll see a lot in the third quarter.

Will Marks - JMP Securities

Okay.

Monty Bennett

And maybe some. It just depends, buyers are so tough these days, because you think you got a deal and then it doesn't happen, but there absolutely could be some in the third quarter, but I would say the most in the fourth quarter.

Will Marks - JMP Securities

Did you say, you have listed for sale about $2 billion or is that an old number?

David Kimichik

That is an old number that we have been marketing for sale on and off since the first of the year.

Will Marks - JMP Securities

And where is that figure now?

David Kimichik

That's about right still. Some like we ever formally take it off the market. We're still seeing if we can garner interest in some assets at the prices that we like.

Will Marks - JMP Securities

Okay. Does this process continue into 2009? Do you keep the other $1.5 billion for sale that you don't sell? I'm just wondering, it seems like the discussion today has been mostly about outflows of capital, and I would love to hear more about influence of capital. I think that's what the market wants to learn about.

Monty Bennett

It's just an arbitrage. If we find that we can sell assets at prices where we can take those proceeds and then turnaround and buy back shares, replace it in the Mezz at substantially better returns, we're going to keep doing it. That is our platform. And if the market continues to price our shares low, like our peers, then it's a great arbitrage. So, we'll just keep on trucking. But where we're limited is the thin and choppy active sales market. It's tough to get some things done. So that is our plan at least for right now.

Will Marks - JMP Securities

Great. Thank you, Monty.

Operator

Thank you. We'll move to the next question from the line of Melvin Cutler with Cutler Capital Management. Please go ahead.

Jeff Dancey - Cutler Capital

Hi. This is actually Jeff Dancey from Cutler Capital for Mel. Monty, I had a question for you. In the prepared remarks you mentioned still on the asset sales, you said that you were looking for a goal of $600 million to $1 billion for the year. And I thought I had remembered you talking about $600 million for a while now. Is there a chance that more gets done than what you previously expected or is that an expansion of what you want to do?

Monty Bennett

No. We always thought it would be $600 million to $1 billion. The hard thing is that we got some portfolios some assets that are pretty big, and so it's just hard to know whether that portfolio will trade or not. We have got one portfolio that actually several portfolios together that some groups have looked at that's in the $400 million plus range. Well, if that trades, that moves, that is going to move the figure big one way or the other. It's hard to handicap whether that is going to happen until it actually closes. So that's why guidance has been tough. But I think in the beginning I said $600 million to $1 billion, in the last call I said $600 million plus, so regarding certain transfer change again it's a moving target.

Jeff Dancey - Cutler Capital

Okay. Thanks. Also, you had talked about you are not inclined to come out-of-pocket to pay the dividend, but also you said where the seasonality one quarter you may not be covering the dividend. Do you have an estimate of what kind of timeframe you would be willing to come out-of-pocket for before you had to make a change in dividend policy?

Monty Bennett

No, Not really, and again, if we look at it one quarter and we come out-of-pocket, but if we're coming out-of-pocket just for seasonality reasons, we don't see that as coming out-of-pocket. Second quarter is our strongest quarter. You saw how much additional coverage we got there. So, what we'll do is look at the quarter and say alright. Maybe the cash flow came in below our dividend this quarter, but on a seasonally adjusted basis, how did we come in? And as long as we're above that $0.21, we're inclined to pay it. While if we start to get below that then we're not inclined to pay it. Will we cut it right at that level, hard to say, but like I said we're not inclined to pay much out of dollars out more than we're making.

Jeff Dancey - Cutler Capital

Okay. And my last question was you give a little detail about the kind of RevPAR decline you thought you would be able to see in 2009 over what you are expecting in 2008, said about 2% decline and maybe as much as 4%. Obviously, you guys did well with your margins this quarter. I was wondering, it's early, I guess, but what kind of success have you seen from the hotel level in terms of cutting costs actually decline in revenue?

Monty Bennett

Well, the second quarter, as you mentioned, was our team did a good job of working with the managers to control those costs, if that is what you mean. And the detail in our schedule shows where we were able to make those gains and so far, so good. Our team continues to work and we think the managers believe that this needs to happen and are responding. What other detail are you looking for?

Jeff Dancey - Cutler Capital

Well, I am just curious if that sort of met your expectations or exceeded them or fall short? And if, as you have gone four months into the program of trying to cut some costs, if your expectations have evolved a little bit?

Monty Bennett

No, our expectations haven't really evolved. We looked at this 50% flow number that David Kimichik mentioned. It's a flow number compared to our budgets and you guys all know what our budgets are. They have met our expectations, so we're happy with that and we hope they continue to do. In aggregate, there are some managers some properties that have not but made up by others.

Jeff Dancey - Cutler Capital

Okay, thanks a lot.

Monty Bennett

Sure.

Operator

Thank you. Our next question will come from the line of Nap Overton with Morgan Keegan. Please go ahead.

Nap Overton - Morgan Keegan

Good morning. Have you changed your in the choppy market for selling assets. Have you changed your pricing expectations or would you have any color on cap rate trends in the last 30-60 days kind of range?

Monty Bennett

We have changed maybe just a tiny bit, not much. The retrade come harder and faster, and so we walked from a number of deals because of that. So, maybe a little bit, but not so much. On the assets that we have sold, it has been on a 6.8% trailing 12 month NOI cap rate, but there are certain peculiarities about those assets. By in large, market is not very thick but we still do not see much movement in cap rates. As you know, Nap, from covering this industry for so long, it is such a broad statement and so asset specific. In some cases we are delivering attractive financing with it, so that makes a difference along with whether it is encumbered or unencumbered and on and on. But certainly, if we try to dump all of our assets, could be cap rate, affects on cap rates, but with our controlled planned sell, we are just not seeing very much.

Nap Overton - Morgan Keegan

Okay. Alright. And with the satisfaction of a majority of your upcoming debt maturities, would it be correct to characterize your position on those asset sales is not feeling pushed to do them, rather relaxed about them?

Monty Bennett

That is right. We don't need to sell them. We would like to sell them because we can make more money through Mezz loans or share repurchases, but we don't need to, like you implied.

Nap Overton - Morgan Keegan

Okay. And then, what would cause you to reconsider the mix of variable and fixed-rate debt in your capital structure?

David Kimichik

I think that if we started to see or believe that there would be a strong discorrelation or movement against the historical correlation of RevPAR to floating rate debt. We do it not to try to make money. We do it as an insurance policy and that at least if RevPAR is low then interest rates will be low and we'll save there, and the reverse would be true. But if we felt for some reason that, that would change and that those two trends would or that trend would diverge, then we would look seriously at locking those interest rates down.

Nap Overton - Morgan Keegan

So, we would expect you to maintain large portion variable rate debt for the foreseeable future?

David Kimichik

Yes.

Nap Overton - Morgan Keegan

Okay. Thanks.

Operator

Thank you. And our next question will come from the line of Celeste Brown with Morgan Stanley. Please go ahead.

Celeste Brown - Morgan Stanley

Hi guys, just a quick clarification. In your pro forma EBITDA, is that excluding hotels that are under renovation this year and under renovation last year in the prior period?

Monty Bennett

No. Just hotels under renovation in the current quarter.

Celeste Brown - Morgan Stanley

So, could you give us the EBITDA growth of hotels that weren't on renovation in either period? And would that match up to your pro forma RevPAR growth as well?

David Kimichik

I can't give you that information, I don't have it in front of me, but it would be consistent with the overall portfolio. But I can certainly provide you that information.

Celeste Brown - Morgan Stanley

Okay. But the pro forma RevPAR is, is RevPAR not under renovation in either period or just the current period?

David Kimichik

Just the current period.

Celeste Brown - Morgan Stanley

Okay. Thank you.

Operator

Thank you. Our next question will come from line of Michael Salinsky with RBC Capital Markets. Please, go ahead.

Michael Salinsky - RBC Capital Markets

Good morning. Monty, could you comment on the composition of the remaining assets you are out there selling? In the past you said it mirrored your portfolio yet year-to-date we have only seen really upper upscale assets being sold? Do we expect to see more of the limited service segment sold in the second half of the year?

Monty Bennett

It's hard to predict because of what I said earlier of the choppiness of the market. That big portfolio that I mentioned is primarily limited service. So, if that trades, actually it is all limited service and that would be a big chunk of limited service assets being sold. We're still selling or looking to sell some larger boxes, full-service type assets on a one-off basis. So, it just depends on whether the buyers come through on that larger limited service portfolio or not, to answer your question. It's just hard to handicap.

Michael Salinsky - RBC Capital Markets

It is safe to say then that it has not been because of the pricing and limited service, it is just because of the bids you have received at this point you haven't seen a significant drop off in pricing of limited service versus full service?

Monty Bennett

I wouldn't say that we have seen that, no.

Michael Salinsky - RBC Capital Markets

Okay. Secondly, you talked a lot about the mezzanine market right now from the sellers' perspective, now what does the buyers side look like? Who are you competing against? What is the appetite out there to buy such mezzanine pieces?

Monty Bennett

It's interesting, because everybody talks, or at least I have heard a lot of talk about all these mezz funds that are raising money and all these mezz funds that are out there buying and all these mezz funds and on and on and on, yet the product is still sitting in the bank's books. And a lot of it, I think, would be pretty attractive to these mezz funds. So, I don't know if that means that all of this is talk and all of this mezz money really isn't out there, or if the mezz players are probably rightfully staying away from hospitality products because we have seen a lot of mistakes where lenders and mezz lenders dabble in hospitality that really don't understand the business and get really, really burned, so therefore, are investing in other property types. But we're just not seeing a lot of that. Now the banks are moving the paper, but from our discussions with them it's just all over the Board as far as who is buying the paper. You will have a family office buy this piece, you might have a hedge fund buy that piece, you might have a small mezz fund buy a piece, it seems to be all over the Board. Doug, you may want to comment on that.

Douglas Kessler

I think one of the other things that is driving the sort of the whole and see for a lot of these groups, as Monty pointed out, you don't have that many sophisticated lodging operators that are also in the mezz business and for people just reading the headlines, it gives a perception of the market that I think is darker than reality. And so, it's putting people on the sidelines.

In addition to that, a lot of these groups rely on financing to get the required returns that they promised their investors in these mezz funds. And some of these institutions are only willing to do cash trades, some are willing to consider some form of repo line, but the repo line market, as everyone know, has kind of taken its own course in terms of market-to-market provisions that may not be very digestible today to a lot of funds that might be looking at this paper. So, without the financing and with market perceptions as they are, you have people, I think, sitting on the sidelines.

Monty Bennett

One other point that I just heard yesterday on that is some of these investors, potential investors are market-to-market investors, hedge funds and the like. And they have seen spreads gap out on the paper and they are concerned that they are going to catch a falling knife, and here they go out and make a nice investment with nice yield and very happy with it, but within the next quarter spread gaps out even more and the first mezz investment they got to show as a loss to their investors is not going to make anybody very happy. So, people are just very cautious about that and don't want to look foolish by buying too early.

Michael Salinsky - RBC Capital Markets

Okay, final question. Subsequent to quarter end you sold two Boston area properties. I know one of them you converted over and put a lot of money into. Just kind of wondering what the thought process in that was because Boston seems like a market that has kind of got some upset over the next several years here. It is particularly hard hit during the downturn.

Monty Bennett

Sure. We agree with you. We think Boston has got some upside, but for the challenge that those assets we believe were in secondary locations. One was in Rockland and there is just not much in that area down near Rockland which is south of Boston. And Milford is kind of south-southwest of town and it's also a market that is open to new supply coming in, and we had a chance to make a nice profit on them, which we did. So that kind of drove the decision, the kind of assets and their locations more so than the overall Boston market.

Michael Salinsky - RBC Capital Markets

Okay. Thank you, that is very helpful.

Operator

Thank you. Our next question is a follow-up question from Jeff Donnelly with Wachovia Securities. Please go ahead.

Jeff Donnelly - Wachovia Securities

Hi, guys. Be careful, Rockland is like three miles from my house. I guess building on Mike's question about other distrust deals, I guess there is likely a lot of paper out there beyond extended stay America, probably Hilton and a flue of the hotel REITs and maybe even gaming companies. Have you guys looked at the post LDO data of some of those former hotel REITs like Eagle or Inn Keepers and would you consider investments even in the paper of some of the gaming companies like a station or (inaudible) just draw the line at that?

Monty Bennett

Regarding some of the other REITs, we looked at paper and some of them look pretty interesting to us, so yes, we would invest that. As far as gaming, we can't invest in gaming. It poisons our REIT status.

Jeff Donnelly - Wachovia Securities

Even if it's debt that's maybe secured by real estate assets of those companies?

Monty Bennett

Well, if you ever have to take title to the asset or deal with it, it just can be a problem. So, we just stay away from gaming.

Jeff Donnelly - Wachovia Securities

Okay. And then, I guess, this is my last question and I think Monty earlier when I asked about the ESA note you said you felt a decline in hotel REIT prices was not reflective of the pricing we would see in actual hotel assets. But I guess if that were the case, instead of buying the mezz debt in ESA at a 20%, 23% IRR, why not instead repurchase your own shares, which I think at the time you bought the ESA paper is providing a current cash dividend yield in the 20% to 25% range?

Monty Bennett

We were in a blackout. And so, when we're in blackout, we can't buy those shares and it's hard to know what the shares are going to look like when you are not in a blackout. We thought that was a great opportunity. We think the shares at the current price is a great opportunity, but it's just tough at any point in time to have a clear decision of doing one versus the other. The volume of shares you can buy, the pricing, whether in a blackout or not, and if you are also working on a mezz deal and your down the path with someone, if it's an attractive investment, you don't want to pull the rug out from the seller at the last minute either. So that drove part of the decision but it's still a very, very attractive deal and, believe me, if we thought a substantial difference in returns, then we would have walked from that deal, but thought it was a very attractive opportunity.

Jeff Donnelly - Wachovia Securities

Great. Thank you.

Operator

Thank you. Our next question is a follow-up question from David Loeb with Robert W. Baird. Please, go ahead.

David Loeb - Robert W. Baird

Just to be clear on Jeff's point about other REITs, you did buy some [Hyland] paper already, right?

Monty Bennett

That right.

David Loeb - Robert W. Baird

On the dividend, two-part follow-up. I guess from my perspective you have a lot of cash coming in from a lot of sources, so going out-of-pocket is kind of a funny way to look at it. In addition, to that, you are giving cash back to shareholders in two ways these days with the share buy back and with the dividend. I guess what I'm wondering is, would the board cut the dividend if you were in a scenario where you saw minus 2% or minus 4% RevPAR growth and you got to a point you were not fully covering the dividend? Is there a threshold where there is a certain amount going out that it would no longer be comfortable to do that?

Monty Bennett

David, the only guidance I can only provide is that generally the discussions have been what I said a moment earlier which is the Board and myself are not inclined to pay out above our ongoing cash flow and that we could sustain 3% drop in RevPAR to maybe 4% drop in RevPAR and still be making enough cash flow to be paying a dividend. Would we be so close to the Board would want to cut it? It's hard to say. I don't know like I said my inclination and most of the Board member's inclination is to keep it if you are covering it. That does involve a little bit of forecasting, which is tough to do in this environment. Other than that, I don't know if I can provide any clarity on what we might do regarding the dividend.

David Loeb - Robert W. Baird

And the other part of the question is do you have taxable income constraints on your dividend payout and particularly as you look at another $300 to $700 of asset sales might you find that there are gains beyond the $0.11 to $0.12 you earned already?

David Kimichik

It's possible, but if we foresaw that, we wouldn't keep the guidance where we kept at, it was just $0.21 per quarter. A number of the assets that we are selling are assets that we bought last year. The good news and bad news about it is that we're still selling the prices above what we paid and what some say was the height of the market, which was the spring of 2007. But that means that there is not that big of a gain in order to have to be worried about regarding taxable income and making special dividends.

David Loeb - Robert W. Baird

Okay, and just from your ordinary income, you have got a bit of a cushion there?

David Kimichik

There is always a cushion. It just depends upon how much in gains that we experience through which assets we sell. The assets that we have owned since 2004, we're going to have a lot bigger gains than the assets that we sell from 2007 and it gets back to that question, which asset will actually trade? And at this point, you guys know as much as we do as far as which one is going to trade. It's just a choppy market and hard to know on what assets did the buyers come through?

David Loeb - Robert W. Baird

Okay, thank you for clarifying.

Operator

Thank you. Our next question will come from the line of Melvin Cutler with Cutler Capital Management, please go ahead.

Jeff Dancey - Cutler Capital

This is Jeff again, but actually my question was just answered. Thanks.

Operator

Thank you. And Management, at this time we have no additional questions in the queue, and I would like to turn the conference over to Mr. Bennett at this time for any closing remarks.

Monty Bennett

Thank you, Andrew, and thank you all for participation on today's call. We look forward to speaking with you guys again on our next call. Thank you.

Operator

Thank you, Management. Ladies and gentlemen, at this time we will conclude today's teleconference presentation. We thank you for your participation on the conference call. If you would like to listen to a replay of today's presentation, you may do so by dialing 1-800-405-2236 or 303-590-3000 with an access code of 11111806 followed by the pound sign. Once again if you would like to listen to a replay of today’s conference call, you can do so by dialing 1-800-405-2236 or 303-590-3000 with an access code of 11111806 followed by the pound sign. We thank you for your participation on today's conference call. At this time you may now disconnect and please have a pleasant day.

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