Strategic Hotels & Resorts, Inc. Q2 2010 Earnings Call Transcript

| About: Strategic Hotels (BEE)
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Strategic Hotels & Resorts, Inc. (NYSE:BEE) Q2 2010 Earnings Call Transcript August 5, 2010 10:00 AM ET

Executives

John Stander – VP, Corporate Finance

Laurence Geller – President and CEO

Diane Morefield – EVP and CFO

Analysts

Bill Crow – Raymond James

Ryan Meliker – Morgan Stanley

Will Marks – JMP Securities

Chris Woronka – Deutsche Bank

Smedes Rose – Keefe, Bruyette & Woods

Brian Shandelle [ph] – BAM

Operator

Good day ladies and gentlemen. And welcome to the second quarter 2010 Strategic Hotels and Resorts earnings conference call. My name is Natasha, and I will be your coordinator for today. At this time all participants are in a listen-only mode. We will be facilitating a question-and-answer session towards the end of this conference. (Operator Instructions)

I would now like to turn the calling over to Mr. John Stander, Vice President, Corporate Finance. Please proceed, sir.

John Stander

Thank you and good morning everyone. Welcome to Strategic Hotels and Resorts' second quarter 2010 earnings conference call. Our press release and supplemental financial were distributed yesterday. These are available on the company's website at strategichotels.com within the Investor Relations section.

We’re also hosting a live webcast of today's call which can be accessed in the same section of the site and a replay of today's call will be available for one month. Before we get underway, I'd like to say that this conference call will contain forward-looking statements under Federal Securities Laws.

These statements are based on current expectations, estimates and projections about the market and the industry in which the company operates, in addition to managements beliefs and assumptions. Forward-looking statements are not guarantees of performance and actual operating results may be affected by a wide variety of factors. For list of these factors please refer to the forward-looking statement notice included within our SEC filings. In the press release and supplemental financials the company has reconciled all non-GAAP financial measures to the directly comparable GAAP measures in accordance with REG G requirements.

I would now like to introduce the members of our management team here with me today. Laurence Geller, President and Chief Executive Officer and Diane Morefield, our Chief Financial Officer. Laurence?

Laurence Geller

Thank you, John. Good morning everybody. We are extremely pleased with our operating results this quarter and believe that the recovery we began experiencing towards the ends of the first quarter has continued and the outlook for our industry in general and our company in particular is increasingly positive with corporate transient and corporate group business and growth leading the demand recovery cycle.

We equally very well pleased with results from our sustainable cost reductions and the significant progress we’ve made during the quarter on strengthening our balance sheet, all leading to a return to a positive comparable FFO per share.

Yesterday, we reported comparable EBITDA of $35.1 million and comparable FFO per diluted share of $0.2 on RevPAR growth of 7.3% and total RevPAR growth of 5.9%; representing the first quarter of positive year-over-year top-line growth, since the second quarter of 2008.

Diane will cover the financial details of the quarter and I'll try and discuss the more macro trends for you. We highlighted the importance of the concept of convergence in the first quarter which is a period when occupancy, rate, RevPAR, total RevPAR, EBITDA and EBITDA margins are all positive year-over-year. As we anticipated, we achieved this very important inflexion point during the second quarter.

As demand started to improve we focused on aggressively growing rate as a corporate imperative. The strong growth in group and corporate transient demand during the quarter helped us significantly reduce rooms sold through highly discounted channels such as OPEC pricing websites, which for example include price line and Travelocity.

As a result, we sold 32,000 fewer discounted transient rooms this quarter than in the second quarter of 2009. And that contribute to driving our overall average daily rate up 3.3% with transient rate improving 11% during the quarter. We feel we've been a leader in pushing rates and will continue to do so.

Although, we reported a 50 basis point expansion of EBITDA margins during the quarter, it masks the real story. During last year's second quarter we recorded over three times the normal level of cancellation fees. So excluding those fees and to remind you, these were $6.6 million in 2009, as against $2.1 million in 2010, all for the second quarter. So excluding those, our EBITDA margins expanded 280 basis points on similar adjusted total revenue growth of 9.2%.

One of our methods of measuring efficiency is the multiple of operating EBITDA growth to revenue growth. The second quarter result of just under four times clearly demonstrates the profit flow through that our disciplined labor and cost management systems bring and our future earnings growth potential, as the recovery accelerates.

Labor productivity measured by total hours worked for occupied rooms improved by over 3% of our North American hotels. Importantly however, total hours worked only increased 4% despite of 2.7 percentage point increase in occupancy and an 11% increase in covers served. This equates to an overall year-over-year enhancement productivity of 8% on total occupied rooms and total recovers.

Clearly, the success of our intense effort on controlling costs is reflected in these portfolio results and these results which are outstanding demonstrate the effectiveness and sustainability of the reengineering and margin enhancement of programs we have aggressively implemented over the past two years.

We continue to see many positive indicators for consistent expansion of luxury hotel demand. On a macro level, second quarter luxury demand grew 12.1% from 2009 with supply growth falling to 1.8%, the lowest year-over-year supply growth statistic, since the fourth quarter of 2005. For our company all future competitive supply indicates approximately 1% growth, while less than half of that is actual underway.

And given development costs of approximately $600,000 per room plus, which is exclusive of land, it should be some years before the economics justify significant new competitive supply. Similar to last quarter, the airlines industry's is experiencing positive trends as United American, JetBlue and Delta airlines each reported double digit program prescient growth for the second quarter.

Domestic airfares are up approximately 20% for the first half of the year and Expedia recently reported a 9% increase in bookings for the second quarter. Both Federal Express and UPS raised their earnings targets for the year as domestic grounds shipping improved.

And sale of BMWs various branded vehicles have increased 12.5% for the quarter while Hyatt [ph] recently reported total U.S. car rental revenues were up 10% for the same period. All of these inter-related results clearly point towards improved trends in corporate and consumer confidence and reaffirm our own positive and very encouraging experience with corporate, transient and group demand.

Within our portfolio, group booking pace continues to be our best indicator of future performance, given our higher than average mix of group to transient business with approximately half of our room nights coming from group historically.

The forward metrics we track internally are all positive. For example, definite group room nights for 2010 are now 10% ahead of where they were last year at this time. And while rate is down for the full year, REITs on business being booked in the year, full year known as itty-bitty [ph] have consistently improved as the year progressed.

As has been the case at this stage in previous recoveries, the group booking cycle has shortened with a 600% plus increase of rooms booked within two months of arrival as compared to 2007. 2010 group RevPAR which accounts for the impact of both rate and occupancy is up a healthy 4% over 2009 and for the second consecutive quarter, Financial Services which had slipped to fourth place in terms of our group business provider, is now number two behind medical and health and ahead of technology.

Looking beyond 2010, contracted group business currently on the books for 2011 is at REITs 12% higher than in 2010. And group room nights are up approximately 5% for the first quarter of 2011.

We continue to focus on our asset sales in Europe as we transition to a North American centric organization. Our prompt property is our most immediate priority and we elected our other properties as and when we can maximize proceeds and return.

Our London properties business is improving rapidly with transient ADR up 18% in local currency, group pace up nearly 100%. So we are carefully monitoring the market for an appropriate and well-timed execution of a capital transaction.

Likewise, we are very conscious of our non-recourse debt maturity schedules on our individual properties and have active plans in place for each which are being executed in a thoughtful, disciplined and timely fashion and we'll provide updates as and when appropriate.

We believe that Corporate America is now shifting from the focus on reducing costs and labor to revenue building. As in previous recoveries, corporate travel consumption will be a key leading indicator of business confidence and will drive a lodging growth demands in the near future. As a result, we believe that high-end lodging will once again be the most immediate beneficiary of that growth.

The fundamentals of our business continue to show improvement quarter-over-quarter and we see very strong forward-looking indicators for the remainder of this year and beyond. We closely monitor internal forecasting trends, supply and demand dynamics, historical comparatives and both macro and luxury specific indicators and are seeing what we believe is the beginning of a very impressive growth cycle in lodging demand.

Surrounded by the incessant noise of 24 hour up to the minute news coverage with an endless stream of seemingly dramatic announcements, it may sound premature to emphasize such optimism. However, it's important to understand that the nascent stage of the recovery, we’re experiencing are only the beginning of what have we see as a long, robust, sustainable supply constrained growth period with reengineered operations giving us the opportunity to achieve profit levels not previously seen.

As with any economic recovery, we fully expect some bumps in the road along the way and are prepared to meet those challenges. However, we remain extremely bullish on the overall direction of the lodging market and the velocity of the improvement in the high-end sector.

Our properties are in terrific physical condition and very well-positioned within their competitive markets. We’re extremely confident that our company will benefit from a long and sustained recovery.

Our sustainable productivity measures are in place and are already delivering against expectations. We are working on extending maturities and further strengthening our balance sheet.

We still have aggressive goals ahead and a lot to do but we have solid and executable plans in place and are pleased with the operational and balance sheet progress we've made this year in general and this past quarter in particular. I'll now turn the call over to Diane.

Diane Morefield

Thanks Laurence and good morning everyone. Turning to our second quarter results, this was the second consecutive quarter of improving demand and as Laurence mentioned reported a 7.3% RevPAR increase. That is a RevPAR of 145.11 in the second quarter of 2009, growing to RevPAR of 155.71 for this quarter. And a 5.9% increase in total RevPAR driven by a 2.7 percentage point increase in occupancy and a 3.3% increase in ADR.

Group demand was particularly strong in the quarter with group room nights up 24.5% from the second quarter a year ago and driven importantly by a 41% increase in the high rated corporate group segment.

Group rates declined approximately 6% year over year, largely a dollar reflection of room nights booked for 2010 during the depths of the recession last year. Corporate transient room nights though were up 11% in the quarter with rates 5% higher.

This provides further evidence supporting a recovery in corporate travel and spending and as we believe a strong future indicator of improving corporate confidence. Compression room nights which we define as nights with 90% occupancy or higher increased 25% compared to last year with rates which were 26% higher.

Year-to-date market share penetration on our U.S. portfolio was 109.4% as compared to our competitive set and slightly above last year. We recorded $2.1 million in cancellation fees during the quarter compared to $6.6 million for the same period in 2009 when the industry was losing group business at historically high rates.

Excluding these fees, total RevPAR increased by a very strong and encouraging 9.2%. Food and beverage revenues were up 16% during the quarter, driven by a 27% increase in banqueting revenue.

Let me give you some market specific commentary. First of all, our resort properties had a particularly strong group quarter with room nights up 44% compared to last year. Highlights include a 29.5% RevPAR increase at the Ritz-Carlton Half Moon Bay an13.1% increase at the Fairmont Scottsdale, which were two of the hardest hit resorts during last year's crisis. Half Moon Bay is an especially compelling story given it was a poster child for the AIG effect that kept many high-end corporate groups away from luxury hotels last year.

Strong corporate group demand drove room night compression and might to a 5.2% ADR growth at the hotel. Our Four Seasons in Washington DC had another strong quarter with RevPAR up nearly 10% as the hotel continues to benefit from increased business related activity related to the government.

In Chicago, although it remains a unique and very attractive destination for both leisure and corporate group travel, it had a week start in the first quarter as the downtown market RevPAR declined approximately 12%. The second quarter however, was greatly improved as our Fairmont and InterContinental Hotels had RevPAR increases of 8.1% and 3.1% respectively. The Intercontinental’s growth rate is more muted as it actually maintained strong occupancy performance in the second quarter of 2009.

Average rate growth for both properties were 3.8% and 4.7% respectively. Going forward, we expect these improving trends to continue in Chicago as recent state laws related to McCormick place were passed, that should help promote convention business again and there have been positive organizational changes that have also occurred within the McPier organization. We are increasingly involved in the city activities to further protect our interests here.

In addition, we complete a $4.5 million capital upgrade at our Marriott in Lincolnshire in the north suburbs of Chicago, include a complete renovation of the lobby and meeting space as well as some minor room enhancements. Since the renovation, we have received very positive feedback from meeting planners and importantly we are seeing a pickup in group and social bookings, particularly from large pharmaceutical companies that are headquartered in that general area.

In Southern California, the extent of the Ritz-Carlton Laguna and Niguel’s improving results disappointed us a bit this quarter. While transient demand is improving, the recent addition of approximately 900 rooms to the overall competitive market definitely impacted occupancy, which in turn created downward pressure on the leisure rate. We determined not to engage in deep discounting and instead concentrated on growing group business while holding rates. As a result we increased our ADR by 11% over the competitive set and improved the overall flow through and result in profitability. We also partnered with Ritz-Carlton to implement a bold and creative email campaign and have already executed six several email blasts targeted at 150,000 qualified recipients and families.

Regarding Mexico, our Four Seasons in Punta Mita had an 18% increase in RevPAR during the quarter. However, that’s compared to when the hotel was suffering from the H1N1 virus outbreak last year in May and June when the hotel had sub-20% occupancy. Safety concerns surrounding the highly publicized drug violence in Mexico which has resulted in a travel advisory issued by the U. S. State Department and a warning message issued by the U. S. Counsel General for Guadalajara, are definitely having an impact on transient of business that our hotel as well as all resorts across Mexico.

The hotel has received a small number of cancellations as a result and leisure booking pace is clearly slower than normal. Therefore, we have shifted our focus to booking group business which is up over 3,000 room nights, or 50% this year and we are very pleased with this trend, particularly given the high conversion rate from sight bookings by experienced meeting planners and intermediaries. It should be noted that there are no security issues within Punta Mita or the General Port of IR [ph] to area.

On a positive note, transient business for the holiday season, which includes Thanksgiving, Christmas and spring break in 2011, remains strong with occupancy up 10-point and rate up 8% from a year ago. This business generally represents repeat customers who are familiar with the hotel and the local environment. Our residential joint venture in Punta Mita in which we own a 31% share has actually should shown surprising improvement during the first half of the year, selling 32 fractions and generating over $7.2 million in gross revenue. This compares to eight fractions sold last year, or $2.2 million in revenue, raised in the first half of last year.

Turning to Europe. Our European portfolio had a strong quarter with RevPAR increasing 8.5% in constant U. S. dollars on a 3.2% increase in average rate, resulting in an EBITDA improvement of 12% over last year and a 110 basis point expansion on EBITDA margins. As Laurence mentioned, the London market continues to rebounds strongly and our Marriott property on Grosvenor Square and Mayfair is thriving with an 8% increase in constant dollar RevPAR during the quarter, driven by a nearly 15% gain in rate. Both of our leasehold interest properties, the Marriott in Hamburg and on the Champs-Elysees in Paris had a very strong quarter with RevPAR increasing 19% and 11% in constant dollars respectively.

Prague continues to be a bit of a difficult market and our InterContinental recorded a 4% RevPAR decline during the quarter. We also did experience disruption from the Icelandic Volcanic Ash in April, which we estimate resulted in lost revenues between $800,000 and $900,000 and lost EBITDA of $350,000 to 400,000 in the quarter.

Turning to our earnings, our comparable EBITDA was $35.1 million and our comparable FFO per diluted share was $0.2. During the quarter we recorded a $2.5 million, or $0.2 cents per diluted share and non-cash charge to G&A expense, related to the company's long-term incentive compensation program called the Value Creation Plan or VCP, which is linked to the company's share price and closely Alliance Management with our shareholders.

The ultimate value of the program will not be determined until 2012 which is its maturity. But the plan is valued quarterly by an independence firm and expensed over the term leading up to 2012. Given the recent history of our stock price and overall volatility level of the stock, the quarterly non-cash expense is likely to fluctuate and add noise to our G&A expense.

Excluding the VCP expense and one time severance charges, our current run rate G&A expense is approximately $20 million which is a reduction of 33% from peak G&A in 2007 of approximately $30 million. During the quarter, we terminated $300 million of notional value of fixed interest rate swaps as a result of being over hedged, following the conversion of the MetLife loans from floating to fixed rate debt and the pay down on our line of credit with excess proceeds from the May equity offering. At a cash termination cost of the swaps of 7.2 million. We recorded a onetime $18.3 million overall charge related to this termination which also included the termination costs and the full write-off of amounts previously recorded in OCI, related to the terminated swaps.

We also recorded $4.1 million of non-cash charges related to the mark-to-market of certain interest rate swaps that are no longer deemed effective hedges from an accounting perspective. Let me elaborate on our interest expense for the year. As you'll recall, we said during our year end 2009 report that we forecasted interest for 2010 to be approximately $100 million. Pro forma for the recent activity, we now expect interest expense to be between $90 and $95 million for the year, including approximately $40 to $45 million in non-cash expense primarily for swap financing, amortization costs that were paid in earlier periods.

For the quarter, we reported $27 million of interest expense of which only $12.1 million was current cash expense. We excluded from comparable FFO, the $4.1 million charge I just mentioned for the mark-to-market of certain interest rate swaps that was included in our GAAP interest expense figure. Our interest expense guidance excludes any future change in the mark-to-market of the ineffective interest rate swaps, given they are inherently unpredictable.

Finally, we recorded a onetime non-cash $886,000 loss on the early extinguishment of debt related to the tender of the exchangeable note. The charges related to the swaps and the early extinguishment of the exchangeable notes have been exclude from both comparable EBITDA and FFO results.

Regarding our balance sheet, we have made substantial strides in addressing some of the risks inherent within the balance sheet so far this year, as well as both improving and strengthening it. We've already spoken to you about the three loan modifications we completed earlier in the year, which extended maturities on over 440 million in mortgage debt to 2015 and beyond.

And you’ll know in May we successfully raised 349 million of gross proceeds in an over described common equity offering and used the proceeds to tender for 100% of our $180 million fully recourse exchangeable notes, in addition to paying down our line of credit to roughly 55 million at quarter end. This was an extremely well-received offering which is dramatically shifted the composition of our shareholder base, while simultaneously strengthening and de-risking the balance sheet.

Our balance sheet today is in much better shape and we've reduced our overall amount of indebtedness buy over 350 million and increased our weighted average debt maturity from 2.2 to 3.3 years.

Regarding liquidity, we currently have roughly $40 million outstanding on our line against approximately $245 million of capacity. So we feel very comfortable with our current liquidity position. In addition capacity under the line should increase given the projected NOI recovery of the four borrowing based assets.

Liquidity provided by the line of credit is expected to adequately cover the company's financing needs related to property, level debt maturities which mature in 2011 and 2012. In June, we elect to do defer our second quarter preferred dividend which was the sixth consecutive quarter in which we deferred payment.

The company is working towards reinstated and paying the preferred dividends out of operating cash flow and addressing the accrued deferred payments as soon as practical.

Regarding guidance, we believe it's appropriate for to us to continue our policy of not giving full year guidance at this time. However, as we did on our previous call, I'd like to share our thoughts pertaining to the forecasts for the third quarter. We anticipate RevPAR growth between 5% and 7% for the quarter and margin improvement in the range of 150 to 250 basis points.

With that, we'd now like to open up for any other questions we may not have covered in the call.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from the line of Bill Crow with Raymond James. Please proceed.

Bill Crow – Raymond James

Hi, good morning, guys. Thanks for the commentary. It was helpful. Laurence, let's start with assets sales prospects and where do you stands from that perspective?

Laurence Geller

Good morning, Bill. As I mentioned during the call our priority is on Prague, because we – the market and the whole market remains challenging there and we have the highest overhead G&A associated with it. So we’re working actively and aggressively on that as our priority and we’ll keep you informed on that. London, where a lot of our equity is involved, we’re seeing such a pace of improvement in demand rate and profitability that we are trying to figure out when to sell it. There has been certain other sales going on there and some our sales activities that we mentioned last time which are relevant. I think there has been a little bit of pause in the credit markets in Europe given the uncertainties in the overall various economies there. So we will see what happens there in September. And I think, we’ll wait and see before coming to any conclusion on the timing until we see our 2011 forecast which will be later in this year. Other than that, Bill we have no current asset sales outside of Europe that we are working on.

Bill Crow – Raymond James

Great. And, Diane if I can go back to your '11 and '12 debt maturities, you've already had some preliminary discussion, what is the LTV discussion you’re having and any ballparks sort of, rates or should we use the MetLife term as an example, what you think you can get?

Diane Morefield

Yeah. I think it's premature to give you guidance on interest rates on those. As you know, the big once for 2011 are the Dell and the Fairmont Scottsdale. The plan is to work with the current CMBS lenders and mess lenders in those cases. So as you know, it just depends where the negotiations go. It would be unlikely that we would refinance those with new lenders, so the rates could be some type of blend when we get to the point, where there are final deals. But again it’s – so particularly the Dell it's a complicated deal, a lot of parties involved including a partnership for us. And it's just too early to give you any guidance on where that ends up.

Bill Crow – Raymond James

Did you disclose what the LTV was on the MetLife re-fi?

Diane Morefield

No.

Laurence Geller

No, we didn't. I think we were asked the question on the last call Bill. And our LTV valuation, it can and probably would be different from a lenders LTV valuation. I think it's part of a blended deal.

Diane Morefield

Right.

Laurence Geller

So especially, when it comes into existing part to extending or amending existing debt as against new CMBS or other insurance company debt.

Bill Crow – Raymond James

Sure. Okay. And then finally, just a housekeeping and I may have missed it, you may have given it up but CapEx budget for this year?

Diane Morefield

Overall the CapEx budget is $40 million.

John Stanner

(Inaudible).

Bill Crow – Raymond James

Okay. I'm sorry, John, I couldn’t hear.

Diane Morefield

Yes. Its $35 million is in the FFE budgets at the hotels and about $5 million owner funded.

Bill Crow – Raymond James

Got you. Okay. That's it for me right now. Thank you.

Diane Morefield

Thanks.

John Stanner

Thanks, Bill.

Operator

Your next question comes from the line of Ryan Meliker with Morgan Stanley.

Ryan Meliker – Morgan Stanley

Good morning, guys. Just a couple quick questions here. Looking at your Q3 RevPAR guidance of 5% to 7%, can you breakout how much of that you think is going to come from rate and how much from occupancy? And can you also give us any additional detail on group pace? I think what I'm particularly looking for is to see how; you talked really well about that increase in that short term booking from the group segment. I'm wondering how those – how rates for those short term bookings are changing, so from Q1 to Q2 are we seeing an incremental, sequential move up in rate from those short term booking with less than a two months window. That would be helpful. Thanks.

Diane Morefield

Okay. You're breaking up a little bit but I think, let me – the first question about RevPAR growth and the next, we project that roughly about 70% of RevPAR growth is going to come from rate and about 30% from occupancy. Let me, Laurence will address group pace.

Laurence Geller

You broke up a wee bit on the group pace. Can you – do you think I could ask you to frame your question again on group pace? We were losing sort of every third word.

Ryan Meliker – Morgan Stanley

Sure, is that better?

Diane Morefield

Much better.

Laurence Geller

Yes. Thank you.

Ryan Meliker – Morgan Stanley

Okay. Great. The question basically, you talked a great deal about how the booking window has compressed so much for the group segment, up 600% versus 2007 in the second quarter. I'm just wondering, if you can give us a little color on whether group rates have moved in positive territory on a sequential basis given that booking window, so we might see those group rates actually turn positive much faster during this up cycle than we've seen in the past. That would be helpful.

Laurence Geller

Absolutely. We've been seeing, our production numbers are being in group pace and perhaps I’ll answer a slightly broader question. Our production numbers have improved quarter-by-quarter, month-by-month. So we’re seeing much faster velocity in group pace demand than we had anticipated even three months ago. Rates have strengthened for the third quarter but given the significantly as compared to the first and second quarter's, given the short term booking window cycle, it's hard for us to comment on the fourth quarter because we expect a lot of pick up after the summer is over.

For the bookings that we've had for next year, which are for larger groups, et cetera, where our rate is up about 12% and our demand for the first Q is up about 4%. So what we are doing for the bigger groups which are the longer lead time groups, we are taking a very firm position on rates and the result I think is very clear that the 12 – we've got 12% for those. Now, the shorter time bookings would be more negotiable, it would depend on demand and compression at the time, but it's very, very, it's the health statistic we've seen is the group, the velocity of group room night production on a monthly basis and the trend into 2011 for double digit rate growth. The short term nature makes predicting rates a little bit volatile but it is very, very healthy. And when we do the interviews and conversation with our meeting planners and meeting intermediary, they are expecting room rate increases for group bookings for next year, as they are increases in non-rooms revenue.

Ryan Meliker – Morgan Stanley

Great. That's helpful. Thanks a lot, guys.

Operator

Your next question comes from the line of Will Marks with JMP Securities. Please proceed.

Will Marks – JMP Securities

Hi, thank you. Good morning everyone. A question on the guidance. You – third quarter 5% to 7%. First, that's North America, correct?

Laurence Geller

Yes.

Diane Morefield

Correct, yes.

Will Marks – JMP Securities

Okay. And then looking at that in light of second quarter up 7.3%, there are signs of any kind of slowing in July?

Laurence Geller

No. It relates to the mixture of business. For the second quarter we were group, corporate group and corporate transient led. During this quarter, we are leisure led to a large degree. Let me, however, comment on the market. We had all hoped but not anticipated but we had hoped we would see a propensity to pay higher rates for leisure business during the vacation period. Certain amount of our leisure business is experiencing that whereas the fill in business we have had to go – we have had to like everybody else had to discount for some of the fill in business. So that rate, it's really the mix of business that's driving the slightly less than – less RevPAR than we experienced during this quarter. And it's short term in nature so it's somewhat unpredictable.

Diane Morefield

Yeah. Will, it really is the seasonality of the summer. So it's second quarter, our transient was only about 53% of our mix and we’re projecting for the third quarter it's more like 60%. So that really is what explains the difference in the RevPAR growth between the two.

Will Marks – JMP Securities

So then can I put words in your mouth and say that fourth quarter should trend back towards second quarter levels?

Laurence Geller

Well, the fourth quarter should certainly go much more towards corporate and growth both transient and group. So, you live and hope that we'll do terrifically well.

Will Marks – JMP Securities

Do you face what you would call a tougher comp in the fourth quarter or kind of status comp?

Laurence Geller

No, I don't think we face a tougher comp in the fourth quarter at all.

Will Marks – JMP Securities

Okay. And one final question. You mentioned in the in Chicago the difference that we saw in the numbers from the Fairmont and the InterContinental. And I think Diane, you may have said InterContinental growth was muted and you gave a reason. Can you expand on that a little bit? It just seemed like a wide disparity?

Diane Morefield

Well, the point was that, I mean the good news last year for the InterContinental in Chicago was that it really maintained occupancy in a particularly weaker market. So my point is year-over-year you’re not seeing the big jump that we saw at the Fairmont. It's just was able to maintain its occupancy a lot higher than what the market was doing last year.

Laurence Geller

We outperformed what we had a quarter where we outperformed our competition by somewhere in the 8% to 10% range, as far as growth was concerned. So, when you – and that could have been, I don't recall specifics but it could have been by specific groups in the house at that time. So you will have that sort of anomaly when you take it down to the micro level. It moves on a macro level but you get it on a macro level.

Will Marks – JMP Securities

Okay. Perfect. That's all for me. Thank you.

Diane Morefield

Thanks.

Operator

Your next question comes from the line of Chris Woronka with Deutsche Bank. Please proceed.

Chris Woronka – Deutsche Bank

Hi, good morning.

Laurence Geller

Good morning, Chris.

Chris Woronka – Deutsche Bank

Can we just get a little bit of color on the house of those trends trended through the second quarter and I'm kind of focused on occupancy and rate and then also on the cost side and what point in the quarter did you reach or did you reach a point where you kind of had to bring back more staffing than you did at the lower occupancy point during the quarter?

Laurence Geller

Well, can you just – could you repeat the first part of the question? The second one I can remember, the first part again, it must be the line broke up a shade. What was your first part, Chris?

Chris Woronka – Deutsche Bank

Sure. Just about, how the RevPAR occupancy ADR trended throughout the second quarter?

Laurence Geller

Yeah. It was – it continued the trend from the first quarter, monthly strengthening. So it was – there was no particular anomalies.

Chris Woronka – Deutsche Bank

Okay.

Laurence Geller

Just if you recall we talked about last quarter. We expected occupancy in the April to be stronger and we hoped it would turn the other way by the end of the Q, which it did. So rate became stronger in June and pushed it towards a sort of a 60:40 rate to occupancy mix in the RevPAR count.

Chris Woronka – Deutsche Bank

Okay.

Laurence Geller

Does that answer your question?

Chris Woronka – Deutsche Bank

Yeah. And just on the cost side, how that's ramped up and if there are any changes, you are now at a higher seasonal period of occupancy, has your FTE count increased sequentially or are you kind of at a point where you can sustain the same level with higher occupancies and higher rates obviously?

Laurence Geller

Okay. Divided into two, if you deal with the fixed costs, it's absolutely static in type, which we had some diminution in the third quarter. We haven't given up, continued work on that as we reengineered the actual organization of the hotel. What – we have a 0.4% increase in hours worked per occupied room and that was really coming from the variable labor.

And so we are very disciplined, very comfortable that we can maintain – maintain the levels of sopping [ph] and at the fixed cost level. And we have very, very, very finite standards for bringing in variable labor on an hourly basis, based on projected occupancies.

So I am – I do believe that there has been a systemic change in the staffing of hotels across the country at full service level. And I think we are at the leading edge of that and I expect those are fully maintained on an ongoing basis. And that's why I do believe that I commented that we’ll see outsize profits as compared to previous cycles because of this systemic change in the operations of our hotel.

Diane Morefield

Yeah. And another data point in the second quarter of 2010 are total hours worked per occupied room were down 8% compared to the peak in '07. So we definitely have taken costs out of the system.

Chris Woronka – Deutsche Bank

Okay. Thanks. Very good.

Operator

(Operator Instructions). Your next question comes from the line of Smedes Rose with Keefe, Bruyette & Woods. Please proceed.

Smedes Rose – Keefe, Bruyette & Woods

Hi. Thanks. Laurence, in the past I think you've talked some about trends in incentive travel as being kind of assigned of an overall come back in corporate group trends. And I'm wondering if you can give an update on what you are seeing on that front?

Laurence Geller

Mixed, mixed results. Punta Mita, for example, we are seeing very strong interest in incentive travel and a perspective interest in it. In some of the others, it is mixed. It really is very hotel-by-hotel specific for us. The good news is that we are getting it and we are – we are – that business when it comes in is rate insensitive.

So it is really starting to happen more in the resorts than the urban properties as you can see whereas we thought it would be completely a dry market this year, it hasn't been. And I think we are anticipating converting some of the tentatives at the properties into definites for the first quarter and second quarter of next year.

Smedes Rose – Keefe, Bruyette & Woods

Okay. And then just on the cancellation fees, does that – were there any recorded in the third and fourth quarters last year that might make for more difficult comps this year?

Laurence Geller

It starts being back to more historical norm as far as the last two quarters last year and what we would anticipate for this year. So, I mean, we will report on it again in the third quarter but we think it's getting back to more normalized range.

Smedes Rose – Keefe, Bruyette & Woods

Okay. And then I think you mentioned but I just want to make sure, when we back those out it looks like the flow through of revenues to EBITDA was more like three times. Does that – are we sort of doing the math right? We are backing out the fees on both the revenues and the EBITDA?

Laurence Geller

It's sort of – it's just under four. I think it's just over 3.8 times.

Smedes Rose – Keefe, Bruyette & Woods

Okay.

Laurence Geller

Which I think, it might look, you know, from my point of view having seen these cycles, that is exceptional when you – that's the sort of thing you would have normally experienced had you had sort of 8%, 9% rate growth in the previous cycle. To have that where you have a 7.3% RevPAR of which 60% of it is REIT is really, again, the health yesterday sign I can tell you and I think it's really very good news for our industry. You start seeing flow throughs like that with only a 3.3% rate increase, I think that's tremendous.

Smedes Rose – Keefe, Bruyette & Woods

Yeah. And then, I mean, I assume, I guess you sort of talked about this, I mean, the RevPAR growth in the seconds half is going to be much more rate driven presumably that number just gets better.

Laurence Geller

It is for us. I can't say it's going to be rate driven for everybody. We have sacrificed. As Diane mentioned, we have sacrificed occupancy for rate. So we are willing to build flow through and let compression as you can see the compression nights are coming, it certainly is for us. I think we are at the leading edge therefore I believe the industry will follow but you can certainly look for to us stick to our rate policy for the immediate future.

Smedes Rose – Keefe, Bruyette & Woods

Okay. Thank you.

Operator

Your next question comes from the line of Brian Shandelle [ph] with BAM. Please proceed.

Brian Shandelle – BAM

Hey, guys. A couple of different questions for you. First of all, I wonder if you can give a more definitive time line on when you would expect to get closer to a resolution on the issues with the del Coronado?

Laurence Geller

Well, I don't think you can – we can give you a specific time line. The del's debt maturity is January of 2011. We are – we have hired an outside advisor, the partnership team as a whole. We have engaged this advisor and we are in active decisions with the various layers of lenders but hard to tell if it will be finalized before the maturity date or if we will need some short term extension to put the final deal in place.

Brian Shandelle – BAM

Okay. That's helpful, I think. Also, could you talk a little bit about the preferred stock and how you view the preferred stock and what would need – what pieces of the puzzle might need to come together over what kind of time line in order to bring the preferred stock back to a current status?

Laurence Geller

Sure. And again, I don't know that we can give you a specific time line.

Brian Shandelle – BAM

No. I'm just talking about more of – more of a conceptual view of what needs to happen in order for that to occur.

Diane Morefield

Right, well, philosophically, we certainly feel that we should pay the dividends out of operating cash flow. And not finance them. So, you know, the quarterly dividend on the preferred is around $7.5 million or $30 million a year. So when our operating cash flow supports a 7.5, we foresee we would get back to paying it currently. Then regarding the catch up, it probably will be more tied to some type of liquidity event to pay that current as well. And you are not required to pay them in a certain order to pay them both at the same time. It may be that we start paying the quarterly dividend before the catch up has been fully paid.

Brian Shandelle – BAM

Right. And it's safe to say that based on your current expectations that would not be happening any time soon, that could be – mark a 2012 event?

Laurence Geller

I can't give you a specific date.

Brian Shandelle – BAM

No, I realize that, but given the current state of play, you are still – you would still need to make significant operating improvements prior to getting to that point where you could carry the $30 million a year from free cash flow if I understand your thought on the way you would want that to lineup.

Laurence Geller

Look, I think the question is really very, very valid and it's the right question. As far as we look at it, it's sort of multidimensional if I could suggest it. It's not just cash flow as the debt maturities are today because we are carrying on simultaneous work in amending and extending debt maturities during the next year.

So it really depends on the interest rates and the way you look at the debt maturities in the extension to figure out your variable rate to work after your cash flow. So it is a somewhat of a three-dimensional rather than a two-dimensional equation. The way – if we could get – if GDP increases quickly, so will demand. If demand increases, so will rates, if rates increase, so will glow through. Again, so it's all the variables here.

Brian Shandelle – BAM

Right, got it. And if I understood your comments on Europe, it's – it's somewhat, although you are still looking to exit that portfolio from a timing perspective, given some of the things that need to come together and some of the things that you've been waiting on, it's probably more likely that that's a 2011 event than we see anything monetized in 2010. Is that fair?

Laurence Geller

It's our priority to execute on Prague as soon as possible. I don't think Prague will have a dramatic liquidity amount associated to it because of the high levels of debt.

Brian Shandelle – BAM

Right.

Laurence Geller

If we started on London, a sale in September, it would be unlikely. Even if we did start to work on a sale, it would be unlikely given the way the complexities of the various systems work in London that we would get that done this year. So I think your assumption is a safe one.

Brian Shandelle – BAM

Okay. Thank you very much, guys.

Operator

This concludes the question-and-answer session. I would now like to turn the call over to Laurence Gellar for closing remarks.

Laurence Geller

Thank you very much and thank you for the questions. They were good and they were helpful. After a very long and difficult period, we had a very satisfying quarter and are consistently seeing indicators of a sustained recovery. We have well-founded reasons for our optimism in general terms and for our company in particular terms.

Our assets are in great physical and competitive condition in irreplaceable locations. We've implemented systemic and sustainable changes to the operations that are clearly demonstrating upside, both the profitability and to valuations and we have unusually benign supply dynamics in our markets.

We've improved our balance sheet and we will continue to so. We are increasingly confident of our ability to meet the challenges ahead and achieve the goals we've set. We've achieved them thus far in 2009 and so far in 2010. We fully intend to continue to execute our plans in a thoughtful and disciplined manner. So thank you for your time today and I thank you all for your support during this last quarter.

We look forward to speaking to you next quarter when I hope that the trends we’re seeing today will be mirrored in continuing improving results for our economy, our industry and for our company. So thank you all.

Operator

This concludes the presentation. You may all now disconnect. Good day.

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