Hotel Management Agreements and Leases

6 Months Ended

Jun. 30, 2011

Hotel Management Agreements and Leases

Hotel Management Agreements and Leases

Note 12. Hotel Management Agreements and Leases

Marriott agreement.  On June 14, 2011 we entered an agreement to re-align three of our contracts with Marriott International Inc., or Marriott.  The three affected contracts (which we have historically referred to as our Marriott Contracts Nos. 2, 3 and 4) concern 71 hotels and provide for payments of minimum returns and rents to us totaling $98,404 per year.  Among other terms the new agreement provides as follows:

· All 71 hotels have been combined so that any excess cash flows from any of the hotels are available to pay our minimum returns for all 71 hotels.

· The combined annual minimum returns due to us are $98,404 per year; which is equal to the previous annual amounts of minimum returns and rents due to us under the historical contracts.  In addition, we will participate in the net cash flows from hotel operations after payment of management fees to Marriott, which fees continue to be subordinated to our minimum returns.

· The historical contracts were scheduled to expire in 2015 through 2020.  The new agreement extends through 2025. In addition, Marriott has the option to renew the agreement for two consecutive ten year terms on an all or none basis.

· The cash security deposits which secured the minimum returns and rents to us under two of the three historical contracts have been combined and continues to secure the minimum return payments under the new agreement for all 71 hotels. These security deposits originally totaled $64,700.  As of June 30, 2011, the amounts of these deposits totaled $3,031, as the deposits have been reduced to fund shortfalls in the operating results from 2009 through June 30, 2011.  The new agreement provides that the combined security deposit may be replenished up to the original amount of $64,700 from 70% of the cash flows realized from operations of the 71 hotels after payment of our minimum returns and working capital advances, if any, by us or Marriott, while 30% is paid to Marriott toward agreed amounts for management fees.

· In addition to this security deposit, Marriott has provided a limited guaranty for 90% of the minimum returns due to us. The Marriott guaranty is limited to total payments by Marriott to us of $40,000 and it expires on December 31, 2017.

· The new agreement continues to require that 5 to 6% of gross revenues from hotel operations be escrowed as FF&E reserves.

· In addition to amounts available in the FF&E reserve, we will fund approximately $102,000 for a general refurbishment of the hotels during the next two years. As we advance such fundings, the amount of the minimum return payments due to us shall increase by 9% per annum of the amounts funded.

· We and Marriott have identified 21 hotels of the 71 hotels in the new agreement which have been offered for sale.  We currently expect these sales to be completed by December 31, 2011, however, we can provide no assurance that we will sell any of the hotels.  If and as these hotels are sold, we will retain the sales proceeds and the amounts of the minimum returns due to us will decrease by 9% per annum of the sales proceeds.  We currently expect that the proceeds we may receive from the sale of these hotels may be at least equal to the capital investment we will make during the next two years as described above; however, the timing of hotel sales and capital investments will likely differ.  See Note 13 for further information relating to these hotels.

· One of the contracts which was re-aligned by the new agreement (our historical Marriott Contract No. 4) concerns our hotels which were leased to Barceló Crestline Corporation, or Barceló Crestline, and are managed by Marriott.  Simultaneously with the agreement between us and Marriott, Marriott arranged with Barceló Crestline to terminate that lease. Accordingly, all 71 affected hotels are owned by us, leased to one of our TRSs and managed by Marriott.  The new agreement is effective retroactively to January 1, 2011.

After giving effect to the January 1, 2011 effective date of the agreement, the net cash flows of the 71 hotels were $15,361 less than the minimum return payments due to us during the six months ended June 30, 2011.  Also, during the period from June 30, 2011 to August 8, 2011, the minimum return payments we received for these hotels were $628 less than the contractual amounts due to us.  We applied the available security deposit to cover these shortfalls.  The retroactive effective date of the agreement had the net effect of increasing the amount of payment shortfalls during the six months ended that were covered by the security deposit by $4,081 because we were able to apply payment shortfalls under our former Marriott No. 2 Contract to the security deposit.  As of August 8, 2011, the remaining balance of the security deposit was $2,403.  Under the terms of the new agreement, we will continue to utilize the security deposit to cover any shortfalls in the payment of the minimum returns for these 71 hotels until such time the deposit becomes fully exhausted.  If the security deposit becomes exhausted, Marriott has provided a limited guaranty of 90% of our minimum returns.

InterContinental agreement.  On July 25, 2011 we entered an agreement to re-align all four of our hotel contracts with InterContinental Hotels Group, plc, or InterContinental.  The four affected contracts (which we have historically referred to as our InterContinental Contracts Nos. 1, 2, 3 and 4) concern 130 hotels and provide for payments of minimum returns and rents to us totaling $153,129 per year.  Among other terms the new agreement provides as follows:

· All 130 hotels have been combined so that any excess cash flows from any of the hotels are available to pay our minimum returns and rents for all 130 hotels.

· The combined minimum returns and rents due to us from the 130 hotels are $153,129 per year; which is the same amount that was due us under the historical contracts.

· The historical contracts were scheduled to expire beginning in 2028 through 2031.  The new agreement extends to 2036.  In addition, InterContinental has options to renew the agreement for two consecutive 15 year terms on an all or none basis.

· The security deposit we hold for the historical InterContinental contracts ($27,557 as of June 30, 2011) continues to secure payment of our minimum returns and rents under the new agreement.  In addition, InterContinental has delivered to us $37,000 to supplement this security deposit.  The security deposit available on June 30, 2011 plus this supplement totaled $64,557.

· The security deposit may be further increased up to $100,000 from 50% of the cash flows realized from operations of the 130 hotels after payment of our minimum returns and rents.  We hold all security deposits without interest or escrow.

· The cash flows in excess of amounts used to pay our minimum returns and rents and to fund the security deposit up to $100,000 are available to pay InterContinental’s management fees to agreed amounts, which continue to be subordinated to our minimum returns and rents.

· Available cash flows after our minimum returns and rents, funding for the security deposit and the agreed management fees are available to pay us additional returns and for incentive fees to InterContinental.

· We and InterContinental have identified 42 hotels of the 130 hotels in the new agreement which we may remove from the contract and rebrand or offer for sale.  If the hotels are removed from the agreement and rebranded, our minimum returns and rents will be reduced by amounts which we have agreed to with InterContinental; if these hotels are sold, our minimum returns and rents will be reduced by 8% per annum times the net sales proceeds we receive.  In addition to these 42 hotels, one hotel previously managed by InterContinental was sold on July 19, 2011.  We received net sales proceeds of approximately $6,905 and our minimum returns and rents were reduced by 8% per annum of the sales proceeds to the current amount of $153,129 per year.  See Note 13 for additional information relating to three of the 42 hotels which were being marketed for sale at June 30, 2011.

· We and InterContinental have committed to a renovation program for all of the hotels included in the agreement pursuant to which we expect to invest approximately $300,000.  The final amounts invested will depend upon the number of hotels which we determine to rebrand or sell and remove from the agreement.  As we fund these renovations, the amounts of our minimum returns and rents will increase by 8% per annum times the amount we invest.  Some of the capital required for these renovations may be provided by hotel sales, but the timing of our renovation fundings and receipts of sales proceeds will likely differ.

· The new agreement will require that up to 5% of gross revenues from all the hotels be escrowed for FF&E reserves after the planned renovations being separately funded by HPT are completed.  These escrows will be required beginning in 2014 and increase to 5% of gross revenues in 2016. These escrowed funds will be available on a pooled basis to fund renovations for any of our owned hotels managed by InterContinental.

· The new agreement is effective as of July 1, 2011.

During the six months ended June 30, 2011, the payments we received under our four historical agreements with InterContinental for 131 hotels were $9,315 less than the minimum amounts contractually required. Also, during the period between June 30, 2011 and August 8, 2011, the amounts we received for these hotels under the new agreement were $293 more than the minimum amounts due.  We increased the available security deposit by the additional amounts received.  As of August 8, 2011, the remaining balance of the security deposit which we hold for our InterContinental contract was $64,850.

When we reduce the amounts of the security deposits we hold for these agreements or any other operating agreements for payment deficiencies, we record income equal to the amounts by which these deposits are reduced up to the minimum return or minimum rent due to us. However, reducing the security deposits does not result in cash flow to us of the deficiency amounts, but reducing amounts of security deposits may reduce the refunds due to the respective lessees or managers who have provided us with these deposits.  These deposits are not escrowed.  Under all of our hotel contracts that include a security deposit, any amount of the security deposits which are applied to payment deficits may be replenished from future cash flows under the respective contracts.

As of August 8, 2011, all other payments due to us from our hotel managers and hotel tenants under our operating agreements were current.

Minimum return and minimum rent payments due to us under some of our hotel management agreements and leases are supported by guarantees. The guarantee provided by Hyatt Hotels Corporation, or Hyatt, with respect to the 22 hotels managed by Hyatt is limited to $50,000 ($24,062 remaining at June 30, 2011). The guarantee provided by Carlson Hotels Worldwide, or Carlson, with respect to the 11 hotels managed by Carlson is limited to $40,000 ($28,110 remaining at June 30, 2011).  The guarantee provided by Marriott with respect to the one hotel leased by Marriott (our Marriott No. 5 Contract) is unlimited and does not expire.

Certain of our managed hotel portfolios had net operating results that were, in the aggregate, $6,165 and $31,222, less than the minimum returns due to us in the three and six months ended June 30, 2011, respectively, and $12,159 and $40,749, less than the minimum returns due to us in the three and six months ended June 30, 2010, respectively. We reflect these amounts in our condensed consolidated statements of income as a reduction to hotel operating expense when the minimum returns were funded by the manager of these hotels under the terms of our operating agreements, or from the security deposit we hold.

In November 2010, Host Hotels & Resorts, Inc., or Host, notified us that it will not exercise its renewal option at the end of the current lease term for 53 hotels which we have historically referred to as our Marriott No. 1 Contract.  In the absence of any default by Host, upon expiration of the agreement on December 31, 2012, we expect to return the $50,540 security deposit to Host, to lease these hotels to one of our TRSs and to continue the existing hotel brand and management agreements with Marriott which expire in 2012.  In June 2011, Marriott provided notice to us that it intends to exercise its option to renew these management agreements for an additional 12 years to 2024.