UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
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| ☒ | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
Or
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| ☐ | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
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| | | |
| Commission File Number: | 001-36190 | Commission File Number: | 001-36191 |
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| Extended Stay America, Inc. | ESH Hospitality, Inc. |
| (Exact name of registrant as specified in its charter) | (Exact name of registrant as specified in its charter) |
|
| |
| Delaware | Delaware |
(State or other jurisdiction of incorporation or organization) | (State or other jurisdiction of incorporation or organization) |
| 46-3140312 | 27-3559821 |
(I.R.S. Employer Identification No.) | (I.R.S. Employer Identification No.) |
| 11525 N. Community House Road, Suite 100 | 11525 N. Community House Road, Suite 100 |
| Charlotte | Charlotte |
| North Carolina | North Carolina |
| 28277 | 28277 |
| (Address of principal executive offices, zip code) | (Address of principal executive offices, zip code) |
|
| | | |
| (980) | 345-1600 | (980) | 345-1600 |
| (Registrant’s telephone number, including area code) | (Registrant’s telephone number, including area code) |
Securities registered pursuant to Section 12(b) of the Act:
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| | | | |
| Title of each class | | Trading Symbol(s) | | Name of each exchange on which registered |
| Common Stock, par value $0.01 per share, of Extended Stay America, Inc. | | STAY | | Nasdaq Global Select Market |
| and Class B Common Stock, par value $0.01 per share, of ESH Hospitality, Inc., which are attached and trade together as Paired Shares | | |
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
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| | | | |
| Extended Stay America, Inc. | Yes | ☒ | No | ☐ |
| ESH Hospitality, Inc. | Yes | ☒ | No | ☐ |
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).
|
| | | | |
| Extended Stay America, Inc. | Yes | ☒ | No | ☐ |
| ESH Hospitality, Inc. | Yes | ☒ | No | ☐ |
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
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| | | | |
| Extended Stay America, Inc. | Large Accelerated Filer | ☒ | Accelerated filer | ☐ |
| | Non-accelerated filer | ☐ | Smaller reporting company | ☐ |
| | Emerging growth company | ☐ | | |
| ESH Hospitality, Inc. | Large Accelerated Filer | ☒ | Accelerated filer | ☐ |
| | Non-accelerated filer | ☐ | Smaller reporting company | ☐ |
| | Emerging growth company | ☐ | | |
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ¨
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
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| | | | |
| Extended Stay America, Inc. | Yes | ☐ | No | ☒ |
| ESH Hospitality, Inc. | Yes | ☐ | No | ☒ |
182,818,617 shares of common stock, par value $0.01 per share, of Extended Stay America, Inc., which are attached to and traded together with 182,818,617 shares of Class B common stock, par value $0.01 per share, of ESH Hospitality, Inc., and 250,493,583 shares of Class A common stock, par value $0.01 per share, of ESH Hospitality, Inc., were all outstanding as of October 31, 2019.
EXTENDED STAY AMERICA, INC.
ESH HOSPITALITY, INC.
QUARTERLY REPORT ON FORM 10-Q
INDEX
ABOUT THIS COMBINED QUARTERLY REPORT
This combined quarterly report on Form 10-Q is filed by Extended Stay America, Inc., a Delaware corporation (the “Corporation”), and its controlled subsidiary, ESH Hospitality, Inc., a Delaware corporation (“ESH REIT”). Both the Corporation and ESH REIT have securities that have been registered under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), which are publicly traded and listed on The Nasdaq Global Select Market (“Nasdaq”) as Paired Shares, as defined herein. As further discussed herein, unless otherwise indicated or the context requires, the terms “Company,” “Extended Stay,” “Extended Stay America,” “we,” “our” and “us” refer to the Corporation, ESH REIT and their subsidiaries considered as a single enterprise.
As required by Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 810, Consolidation, due to the Corporation’s controlling financial interest in ESH REIT, the Corporation consolidates ESH REIT’s financial position, results of operations, comprehensive income and cash flows with those of the Corporation. The Corporation’s stand-alone financial condition and related information is discussed herein where applicable. In addition, with respect to other financial and non-financial disclosure items required by Form 10-Q, any material differences between the Corporation and ESH REIT are discussed herein.
This combined quarterly report on Form 10-Q presents the following sections or portions of sections separately for each of the Company, on a consolidated basis, and ESH REIT, where applicable:
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| • | Part I Item 1 – Unaudited Financial Statements |
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| • | Part I Item 2 – Management’s Discussion and Analysis of Financial Condition and Results of Operations |
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| • | Part I Item 3 – Quantitative and Qualitative Disclosures About Market Risk |
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| • | Part I Item 4 – Controls and Procedures |
This combined quarterly report also includes separate Exhibit 31 and 32 certifications for each of Extended Stay America, Inc. and ESH Hospitality, Inc. in order to establish that the Chief Executive Officer and the Chief Financial Officer of each registrant has made the requisite certifications and that Extended Stay America, Inc. and ESH Hospitality, Inc. are compliant with Rule 13a-15 or Rule 15d-15 of the Exchange Act and 18 U.S.C. §1350.
We believe combining the quarterly reports on Form 10-Q of the Corporation and ESH REIT into this single report results in the following benefits:
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| • | Enhances investors’ understanding of the Corporation and ESH REIT by enabling investors, whose ownership of Paired Shares, as defined herein, gives them an ownership interest in our hotel properties through ESH REIT and in the operation, management, development and franchising of hotels and other aspects of our business through the Corporation, to view the business as a whole; |
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| • | Eliminates duplicative and potentially confusing disclosure and provides a more streamlined presentation, since many disclosures apply to both registrants; and |
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| • | Creates time and cost efficiencies through the preparation of one combined report instead of two separate reports. |
CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS
This combined quarterly report on Form 10-Q contains “forward-looking statements” within the meaning of the federal securities laws. All statements other than statements of historical facts included in this combined quarterly report on Form 10-Q may be forward-looking, including statements regarding, among other things, our ability to meet our debt service obligations, future capital expenditures (including future acquisitions and hotel renovation programs), our distribution policies, our development, growth and franchise opportunities, anticipated benefits or use of proceeds from dispositions, our plans, objectives, goals, beliefs, business strategies, business conditions, results of operations, financial position and business outlook, business trends and future events.
When used in this combined quarterly report on Form 10-Q, the words “believe,” “expect,” “anticipate,” “intend,” “estimate,” “will,” “look forward to” and variations of such words or similar expressions are intended to identify forward-looking statements. The forward-looking statements are not historical facts, and are based upon our current expectations, beliefs, estimates and projections, and various assumptions, many of which, by their nature, are inherently uncertain and beyond our control. Our expectations, beliefs, estimates and projections are expressed in good faith and we believe there is a reasonable basis for them. However, there can be no assurance that management’s expectations, beliefs, estimates and projections will be achieved and actual results may differ materially from what is expressed in or indicated by the forward-looking statements.
As disclosed in our combined annual report on Form 10-K filed with the U.S. Securities and Exchange Commission (“SEC”) on February 27, 2019 (the “2018 Form 10-K”) and in other filings with the SEC, there are a number of risks, uncertainties and other important factors, many of which are beyond our control, that could cause our actual results to differ materially from the forward-looking statements contained in this combined quarterly report on Form 10-Q. You should evaluate all forward-looking statements made in this combined quarterly report on Form 10-Q in the context of these risks and uncertainties.
We caution you that the risks, uncertainties and other factors referenced above and throughout this combined quarterly report on Form 10-Q may not contain all of the risks, uncertainties and other factors that may be important to you. In addition, we cannot assure you that we will realize the results, benefits or developments that we expect or anticipate or, even if substantially realized, that they will have the results or effect on us, our business or operations in the way expected. In particular, no assurance can be given that any of our ongoing, planned or expected strategic initiatives or objectives discussed herein or in other filings with the SEC will be initiated or completed on our expected timing or at all. Estimates and forward-looking statements speak only as of the date they were made and we undertake no obligation to publicly update or revise any forward-looking statements to reflect subsequent events or circumstances, except as required by law.
PART I — FINANCIAL INFORMATION
Item 1. Unaudited Financial Statements
EXTENDED STAY AMERICA, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
AS OF SEPTEMBER 30, 2019 AND DECEMBER 31, 2018
(In thousands, except share and per share data)
(Unaudited)
|
| | | | | | | |
| | September 30,
2019 | | December 31,
2018 |
| ASSETS | | | |
| PROPERTY AND EQUIPMENT - Net of accumulated depreciation of $1,333,588 and $1,218,105 | $ | 3,467,627 |
| | $ | 3,453,632 |
|
| RESTRICTED CASH | 13,572 |
| | 15,878 |
|
| CASH AND CASH EQUIVALENTS | 489,767 |
| | 287,458 |
|
| INTANGIBLE ASSETS - Net of accumulated amortization of $12,495 and $11,065 | 33,035 |
| | 28,714 |
|
| GOODWILL | 45,192 |
| | 45,192 |
|
| ACCOUNTS RECEIVABLE - Net of allowance for doubtful accounts of $2,844 and $2,075 | 21,929 |
| | 19,769 |
|
| DEFERRED TAX ASSETS | 12,346 |
| | 7,309 |
|
| OTHER ASSETS | 71,909 |
| | 66,258 |
|
| TOTAL ASSETS | $ | 4,155,377 |
| | $ | 3,924,210 |
|
| LIABILITIES AND EQUITY | | | |
| LIABILITIES: | | | |
Term loan facility payable - Net of unamortized deferred financing costs and debt discount
of $11,386 and $14,879 | $ | 619,523 |
| | $ | 1,121,713 |
|
Senior notes payable - Net of unamortized deferred financing costs and debt discount
of $37,156 and $26,206 | 2,012,844 |
| | 1,273,794 |
|
Mandatorily redeemable preferred stock - $0.01 par value, $1,000 redemption value,
8.0%, 350,000,000 shares authorized, 7,130 shares issued and outstanding | 7,130 |
| | 7,130 |
|
| Finance lease liabilities | 3,410 |
| | 3,360 |
|
| Accounts payable and accrued liabilities | 245,999 |
| | 207,574 |
|
| Total liabilities | 2,888,906 |
| | 2,613,571 |
|
| COMMITMENTS AND CONTINGENCIES (Note 12) |
| |
|
| EQUITY: | | | |
Common stock - $0.01 par value, 3,500,000,000 shares authorized, 184,501,128 and
188,219,605 shares issued and outstanding | 1,845 |
| | 1,882 |
|
| Additional paid in capital | 746,146 |
| | 749,219 |
|
| Retained earnings | 66,958 |
| | 32,432 |
|
| Accumulated other comprehensive income | 444 |
| | 2,488 |
|
| Total Extended Stay America, Inc. shareholders’ equity | 815,393 |
| | 786,021 |
|
| Noncontrolling interests | 451,078 |
| | 524,618 |
|
| Total equity | 1,266,471 |
| | 1,310,639 |
|
| TOTAL LIABILITIES AND EQUITY | $ | 4,155,377 |
| | $ | 3,924,210 |
|
See accompanying notes to condensed consolidated financial statements.
EXTENDED STAY AMERICA, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2019 AND 2018
(In thousands, except per share data)
(Unaudited)
|
| | | | | | | | | | | | | | | |
| | Three Months Ended
September 30, | | Nine Months Ended
September 30, |
| | 2019 | | 2018 | | 2019 | | 2018 |
| REVENUES: |
| |
| | | | |
| Room revenues | $ | 320,669 |
| | $ | 340,917 |
| | $ | 899,329 |
| | $ | 958,075 |
|
| Other hotel revenues | 6,475 |
| | 5,943 |
| | 17,848 |
| | 16,710 |
|
| Franchise and management fees | 1,351 |
| | 864 |
| | 4,023 |
| | 2,140 |
|
| | 328,495 |
| | 347,724 |
| | 921,200 |
| | 976,925 |
|
| Other revenues from franchised and managed properties | 4,200 |
| | 3,352 |
| | 12,821 |
| | 8,419 |
|
| Total revenues | 332,695 |
| | 351,076 |
| | 934,021 |
| | 985,344 |
|
| OPERATING EXPENSES: |
| |
| | | | |
| Hotel operating expenses | 152,913 |
| | 156,341 |
| | 437,111 |
| | 443,025 |
|
| General and administrative expenses | 22,292 |
| | 21,242 |
| | 67,606 |
| | 69,710 |
|
| Depreciation and amortization | 49,748 |
| | 52,138 |
| | 147,543 |
| | 159,652 |
|
| Impairment of long-lived assets | 2,679 |
| | — |
| | 2,679 |
| | 43,600 |
|
| | 227,632 |
| | 229,721 |
| | 654,939 |
| | 715,987 |
|
| Other expenses from franchised and managed properties | 4,699 |
| | 3,449 |
| | 14,342 |
| | 8,762 |
|
| Total operating expenses | 232,331 |
| | 233,170 |
| | 669,281 |
| | 724,749 |
|
| GAIN ON SALE OF HOTEL PROPERTIES (Note 4) | — |
| | 3,517 |
| | — |
| | 41,599 |
|
| OTHER INCOME | 3 |
| | 39 |
| | 31 |
| | 501 |
|
| INCOME FROM OPERATIONS | 100,367 |
| | 121,462 |
| | 264,771 |
| | 302,695 |
|
| OTHER NON-OPERATING EXPENSE (INCOME) | 101 |
| | (251 | ) | | (248 | ) | | 48 |
|
| INTEREST EXPENSE, NET | 36,535 |
| | 31,007 |
| | 95,905 |
| | 95,072 |
|
| INCOME BEFORE INCOME TAX EXPENSE | 63,731 |
| | 90,706 |
| | 169,114 |
| | 207,575 |
|
| INCOME TAX EXPENSE | 10,501 |
| | 15,014 |
| | 27,822 |
| | 35,218 |
|
| NET INCOME | 53,230 |
| | 75,692 |
| | 141,292 |
| | 172,357 |
|
| NET INCOME ATTRIBUTABLE TO NONCONTROLLING INTERESTS | (12,159 | ) | | (3,790 | ) | | (24,790 | ) | | (20,547 | ) |
| NET INCOME ATTRIBUTABLE TO EXTENDED STAY AMERICA, INC. COMMON SHAREHOLDERS | $ | 41,071 |
| | $ | 71,902 |
| | $ | 116,502 |
| | $ | 151,810 |
|
| NET INCOME PER EXTENDED STAY AMERICA, INC. COMMON SHARE: |
| |
| | | | |
| Basic | $ | 0.22 |
| | $ | 0.38 |
| | $ | 0.62 |
| | $ | 0.80 |
|
| Diluted | $ | 0.22 |
| | $ | 0.38 |
| | $ | 0.62 |
| | $ | 0.80 |
|
| WEIGHTED-AVERAGE EXTENDED STAY AMERICA, INC. COMMON SHARES OUTSTANDING: | | | | | | | |
| Basic | 186,844 |
| | 188,822 |
| | 188,063 |
| | 189,681 |
|
| Diluted | 187,015 |
| | 189,253 |
| | 188,317 |
| | 190,111 |
|
See accompanying notes to condensed consolidated financial statements.
EXTENDED STAY AMERICA, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2019 AND 2018
(In thousands)
(Unaudited)
|
| | | | | | | | | | | | | | | |
| | Three Months Ended
September 30, | | Nine Months Ended
September 30, |
| | 2019 | | 2018 | | 2019 | | 2018 |
| NET INCOME | $ | 53,230 |
| | $ | 75,692 |
| | $ | 141,292 |
| | $ | 172,357 |
|
| OTHER COMPREHENSIVE INCOME, NET OF TAX: | | | | | | | |
| FOREIGN CURRENCY TRANSLATION ADJUSTMENT: | | | | | | | |
| FOREIGN CURRENCY TRANSLATION LOSS | — |
| | — |
| | — |
| | (52 | ) |
| | | | | | | | |
| DERIVATIVE ADJUSTMENT: | | | | | | | |
INTEREST RATE CASH FLOW HEDGE (LOSS) GAIN, NET OF TAX
OF $(118), $(25), $(709) and $190 | (687 | ) | | (157 | ) | | (4,109 | ) | | 1,752 |
|
| | | | | | | | |
| COMPREHENSIVE INCOME | 52,543 |
| | 75,535 |
| | 137,183 |
| | 174,057 |
|
| COMPREHENSIVE INCOME ATTRIBUTABLE TO NONCONTROLLING INTERESTS | (11,817 | ) | | (3,713 | ) | | (22,725 | ) | | (21,392 | ) |
| COMPREHENSIVE INCOME ATTRIBUTABLE TO EXTENDED STAY AMERICA, INC. COMMON SHAREHOLDERS | $ | 40,726 |
| | $ | 71,822 |
| | $ | 114,458 |
| | $ | 152,665 |
|
See accompanying notes to condensed consolidated financial statements.
EXTENDED STAY AMERICA, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN EQUITY
FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2019 AND 2018
(In thousands, except per share data)
(Unaudited)
|
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Common Stock | | Additional
Paid in Capital | | Retained Earnings | | Accumulated Other Comprehensive Income | | Total Shareholders' Equity | | Noncontrolling Interests | | Total
Equity |
| | Shares | | Amount | | | | | | |
| BALANCE - July 1, 2018 | 188,994 |
| | $ | 1,890 |
| | $ | 748,706 |
| | $ | 33,253 |
| | $ | 3,624 |
| | $ | 787,473 |
| | $ | 507,128 |
| | $ | 1,294,601 |
|
| Net income | — |
| | — |
| | — |
| | 71,902 |
| | — |
| | 71,902 |
| | 3,790 |
| | 75,692 |
|
| Interest rate cash flow hedge loss, net of tax | — |
| | — |
| | — |
| | — |
| | (80 | ) | | (80 | ) | | (77 | ) | | (157 | ) |
| Repurchase of Corporation common stock and ESH REIT Class B common stock (Paired Shares) | (559 | ) | | (6 | ) | | — |
| | (7,426 | ) | | — |
| | (7,432 | ) | | (4,242 | ) | | (11,674 | ) |
| Corporation common distributions - $0.04 per common share | — |
| | — |
| | — |
| | (7,594 | ) | | — |
| | (7,594 | ) | | — |
| | (7,594 | ) |
| ESH REIT common distributions - $0.18 per Class B common share | — |
| | — |
| | — |
| | — |
| | — |
| | — |
| | (34,171 | ) | | (34,171 | ) |
| ESH REIT preferred distributions | — |
| | — |
| | — |
| | — |
| | — |
| | — |
| | (4 | ) | | (4 | ) |
| Adjustment to noncontrolling interest for change in ownership of ESH REIT | — |
| | — |
| | (477 | ) | | — |
| | — |
| | (477 | ) | | 477 |
| | — |
|
| Equity-based compensation | 82 |
| | 1 |
| | 1,152 |
| | — |
| | — |
| | 1,153 |
| | 653 |
| | 1,806 |
|
| BALANCE - September 30, 2018 | 188,517 |
| | $ | 1,885 |
| | $ | 749,381 |
| | $ | 90,135 |
| | $ | 3,544 |
| | $ | 844,945 |
| | $ | 473,554 |
| | $ | 1,318,499 |
|
|
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Common Stock | | Additional
Paid in Capital | | Retained Earnings | | Accumulated Other Comprehensive Income | | Total Shareholders' Equity | | Noncontrolling Interests | | Total
Equity |
| | Shares | | Amount | | | | | | |
| BALANCE - July 1, 2019 | 188,412 |
| | $ | 1,884 |
| | $ | 751,467 |
| | $ | 77,551 |
| | $ | 789 |
| | $ | 831,691 |
| | $ | 481,332 |
| | $ | 1,313,023 |
|
| Net income | — |
| | — |
| | — |
| | 41,071 |
| | — |
| | 41,071 |
| | 12,159 |
| | 53,230 |
|
| Interest rate cash flow hedge loss, net of tax | — |
| | — |
| | — |
| | — |
| | (345 | ) | | (345 | ) | | (342 | ) | | (687 | ) |
| Repurchase of Corporation common stock and ESH REIT Class B common stock (Paired Shares) | (3,993 | ) | | (40 | ) | | — |
| | (36,544 | ) | | — |
| | (36,584 | ) | | (20,887 | ) | | (57,471 | ) |
| Corporation common distributions - $0.08 per common share | — |
| | — |
| | — |
| | (15,120 | ) | | — |
| | (15,120 | ) | | — |
| | (15,120 | ) |
| ESH REIT common distributions - $0.15 per Class B common share | — |
| | — |
| | — |
| | — |
| | — |
| | — |
| | (28,347 | ) | | (28,347 | ) |
| ESH REIT preferred distributions | — |
| | — |
| | — |
| | — |
| | — |
| | — |
| | (4 | ) | | (4 | ) |
| Adjustment to noncontrolling interest for change in ownership of ESH REIT | — |
| | — |
| | (6,563 | ) | | — |
| | — |
| | (6,563 | ) | | 6,563 |
| | — |
|
| Equity-based compensation | 82 |
| | 1 |
| | 1,242 |
| | — |
| | — |
| | 1,243 |
| | 604 |
| | 1,847 |
|
| BALANCE - September 30, 2019 | 184,501 |
| | $ | 1,845 |
| | $ | 746,146 |
| | $ | 66,958 |
| | $ | 444 |
| | $ | 815,393 |
| | $ | 451,078 |
| | $ | 1,266,471 |
|
|
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Common Stock | | Additional Paid in Capital | | Retained Earnings | | Accumulated Other Comprehensive Income | | Total Extended Stay America, Inc. Shareholders’ Equity | | Noncontrolling Interests | | Total Equity |
| | Shares | | Amount | | | | | | |
| BALANCE - January 1, 2018 | 192,100 |
| | $ | 1,921 |
| | $ | 768,679 |
| | $ | 6,917 |
| | $ | 3,066 |
| | $ | 780,583 |
| | $ | 565,264 |
| | $ | 1,345,847 |
|
| Net income | — |
| | — |
| | — |
| | 151,810 |
| | — |
| | 151,810 |
| | 20,547 |
| | 172,357 |
|
| Foreign currency translation loss, net of tax | — |
| | — |
| | — |
| | — |
| | (52 | ) | | (52 | ) | | — |
| | (52 | ) |
| Cumulative effect adjustment of ASU 2017-12 | — |
| | — |
| | — |
| | 377 |
| | (377 | ) | | — |
| | — |
| | — |
|
| Interest rate cash flow hedge gain, net of tax | — |
| | — |
| | — |
| | — |
| | 907 |
| | 907 |
| | 845 |
| | 1,752 |
|
| Repurchase of Corporation common stock and ESH REIT Class B common stock (Paired Shares) | (3,987 | ) | | (40 | ) | | — |
| | (50,664 | ) | | — |
| | (50,704 | ) | | (28,972 | ) | | (79,676 | ) |
| Corporation common distributions - $0.16 per common share | — |
| | — |
| | (12,196 | ) | | (18,305 | ) | | — |
| | (30,501 | ) | | — |
| | (30,501 | ) |
| ESH REIT common distributions - $0.49 per Class B common share | — |
| | — |
| | — |
| | — |
| | — |
| | — |
| | (93,371 | ) | | (93,371 | ) |
| ESH REIT preferred distributions | — |
| | — |
| | — |
| | — |
| | — |
| | — |
| | (12 | ) | | (12 | ) |
| Adjustment to noncontrolling interest for change in ownership of ESH REIT | — |
| | — |
| | (7,019 | ) | | — |
| | — |
| | (7,019 | ) | | 7,019 |
| | — |
|
| Equity-based compensation | 404 |
| | 4 |
| | (83 | ) | | — |
| | — |
| | (79 | ) | | 2,234 |
| | 2,155 |
|
| BALANCE - September 30, 2018 | 188,517 |
| | $ | 1,885 |
| | $ | 749,381 |
| | $ | 90,135 |
| | $ | 3,544 |
| | $ | 844,945 |
| | $ | 473,554 |
| | $ | 1,318,499 |
|
|
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Common Stock | | Additional Paid in Capital | | Retained Earnings | | Accumulated Other Comprehensive Income | | Total Extended Stay America, Inc. Shareholders’ Equity | | Noncontrolling Interests | | Total Equity |
| | Shares | | Amount | | | | | | |
| BALANCE - January 1, 2019 | 188,219 |
| | $ | 1,882 |
| | $ | 749,219 |
| | $ | 32,432 |
| | $ | 2,488 |
| | $ | 786,021 |
| | $ | 524,618 |
| | $ | 1,310,639 |
|
| Net income | — |
| | — |
| | — |
| | 116,502 |
| | — |
| | 116,502 |
| | 24,790 |
| | 141,292 |
|
| Interest rate cash flow hedge loss, net of tax | — |
| | — |
| | — |
| | — |
| | (2,044 | ) | | (2,044 | ) | | (2,065 | ) | | (4,109 | ) |
| Repurchase of Corporation common stock and ESH REIT Class B common stock (Paired Shares) | (3,993 | ) | | (40 | ) | | — |
| | (36,544 | ) | | — |
| | (36,584 | ) | | (20,887 | ) | | (57,471 | ) |
| Corporation common distributions - $0.24 per common share | — |
| | — |
| | — |
| | (45,432 | ) | | — |
| | (45,432 | ) | | — |
| | (45,432 | ) |
| ESH REIT common distributions - $0.44 per Class B common share | — |
| | — |
| | — |
| | — |
| | — |
| | — |
| | (83,287 | ) | | (83,287 | ) |
| ESH REIT preferred distributions | — |
| | — |
| | — |
| | — |
| | — |
| | — |
| | (12 | ) | | (12 | ) |
| Adjustment to noncontrolling interest for change in ownership of ESH REIT | — |
| | — |
| | (6,163 | ) | | — |
| | — |
| | (6,163 | ) | | 6,163 |
| | — |
|
| Equity-based compensation | 275 |
| | 3 |
| | 3,090 |
| | — |
| | — |
| | 3,093 |
| | 1,758 |
| | 4,851 |
|
| BALANCE - September 30, 2019 | 184,501 |
| | $ | 1,845 |
| | $ | 746,146 |
| | $ | 66,958 |
| | $ | 444 |
| | $ | 815,393 |
| | $ | 451,078 |
| | $ | 1,266,471 |
|
See accompanying notes to condensed consolidated financial statements.
EXTENDED STAY AMERICA, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2019 AND 2018
(In thousands)
(Unaudited)
|
| | | | | | | |
| | Nine Months Ended
September 30, |
| | 2019 | | 2018 |
| OPERATING ACTIVITIES: | | | |
| Net income | $ | 141,292 |
| | $ | 172,357 |
|
| Adjustments to reconcile net income to net cash provided by operating activities: | | | |
| Depreciation and amortization | 147,543 |
| | 159,652 |
|
| Foreign currency transaction (gain) loss | (248 | ) | | 48 |
|
| Amortization and write-off of deferred financing costs and debt discount | 11,635 |
| | 6,618 |
|
| Amortization and write-off of above-market ground leases | — |
| | (240 | ) |
| Debt modification and extinguishment costs | 82 |
| | 1,183 |
|
| Loss on disposal of property and equipment | 5,037 |
| | 2,617 |
|
| Gain on sale of hotel properties | — |
| | (41,599 | ) |
| Impairment of long-lived assets | 2,679 |
| | 43,600 |
|
| Equity-based compensation | 6,131 |
| | 5,999 |
|
| Deferred income tax benefit | (4,327 | ) | | (5,724 | ) |
| Changes in assets and liabilities: | | | |
| Accounts receivable, net | (2,160 | ) | | (2,273 | ) |
| Other assets | (5,310 | ) | | (837 | ) |
| Accounts payable and accrued liabilities | 36,432 |
| | 41,649 |
|
| Net cash provided by operating activities | 338,786 |
| | 383,050 |
|
| INVESTING ACTIVITIES: | | | |
| Purchases of property and equipment | (129,816 | ) | | (106,394 | ) |
| Acquisition of hotel property | — |
| | (12,729 | ) |
| Development in process payments | (42,116 | ) | | (28,414 | ) |
| Payment for intangible assets | (6,081 | ) | | — |
|
| Proceeds from sale of hotel properties | — |
| | 274,100 |
|
| Proceeds from insurance and related recoveries | 914 |
| | 4,533 |
|
| Net cash (used in) provided by investing activities | (177,099 | ) | | 131,096 |
|
| FINANCING ACTIVITIES: | | | |
| Principal payments on term loan facility | (505,683 | ) | | (69,163 | ) |
| Proceeds from issuance of senior notes | 750,000 |
| | — |
|
| Payment of deferred financing costs | (18,237 | ) | | — |
|
| Principal payments on finance leases | (86 | ) | | — |
|
| Debt modification and extinguishment costs | (82 | ) | | (1,183 | ) |
| Tax withholdings related to restricted stock unit settlements | (1,598 | ) | | (3,989 | ) |
| Repurchase of Corporation common stock and ESH REIT Class B common stock (Paired Shares) | (57,471 | ) | | (79,676 | ) |
| Corporation common distributions | (45,362 | ) | | (30,737 | ) |
| ESH REIT common distributions | (83,200 | ) | | (93,652 | ) |
| ESH REIT preferred distributions | (8 | ) | | (12 | ) |
| Net cash provided by (used in) financing activities | 38,273 |
| | (278,412 | ) |
| CHANGES IN CASH, CASH EQUIVALENTS AND RESTRICTED CASH DUE TO CHANGES IN FOREIGN CURRENCY EXCHANGE RATES | 43 |
| | (67 | ) |
| NET INCREASE IN CASH, CASH EQUIVALENTS AND RESTRICTED CASH | 200,003 |
| | 235,667 |
|
| CASH, CASH EQUIVALENTS AND RESTRICTED CASH - Beginning of period | 303,336 |
| | 150,974 |
|
| CASH, CASH EQUIVALENTS AND RESTRICTED CASH - End of period | $ | 503,339 |
| | $ | 386,641 |
|
| SUPPLEMENTAL CASH FLOW INFORMATION: | | | |
| Cash payments for interest, excluding prepayment and other penalties, net of capitalized interest of $1,373 and $243 | $ | 68,953 |
| | $ | 71,130 |
|
| Cash payments for income taxes, net of refunds of $0 and $96 | $ | 30,853 |
| | $ | 28,303 |
|
| Operating cash payments for finance leases | $ | 183 |
| | $ | — |
|
| Operating cash payments for operating leases | $ | 2,074 |
| | $ | — |
|
| NONCASH INVESTING AND FINANCING ACTIVITIES: | | | |
| Capital expenditures included in accounts payable and accrued liabilities | $ | 28,124 |
| | $ | 20,829 |
|
| Additions to finance lease right-of-use assets and liabilities | $ | 109 |
| | $ | — |
|
| Deferred financing costs included in accounts payable and accrued liabilities | $ | 2,353 |
| | $ | — |
|
| Debt modification and extinguishment costs included in accounts payable and accrued liabilities | $ | 1,006 |
| | $ | — |
|
| Corporation common distributions included in accounts payable and accrued liabilities | $ | 428 |
| | $ | 298 |
|
| ESH REIT common distributions included in accounts payable and accrued liabilities | $ | 879 |
| | $ | 697 |
|
See accompanying notes to condensed consolidated financial statements.
EXTENDED STAY AMERICA, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
AS OF SEPTEMBER 30, 2019 AND DECEMBER 31, 2018 AND FOR THE THREE AND NINE MONTHS ENDED
SEPTEMBER 30, 2019 AND 2018
(Unaudited)
| |
| 1. | BUSINESS, ORGANIZATION AND BASIS OF CONSOLIDATION |
Extended Stay America, Inc. (the “Corporation”) was incorporated in the state of Delaware on July 8, 2013. ESH Hospitality, Inc. (“ESH REIT”) was formed as a limited liability company in the state of Delaware on September 16, 2010 and was converted to a corporation on November 5, 2013. The Corporation owns, and is expected to continue to own, all of the issued and outstanding Class A common stock of ESH REIT, which, as of September 30, 2019, represents 58% of the outstanding common stock of ESH REIT. Due to its controlling interest in ESH REIT, the Corporation consolidates the financial position, results of operations, comprehensive income and cash flows of ESH REIT. The term, “the Company,” as used herein refers to the Corporation and its consolidated subsidiaries, including ESH REIT.
A “Paired Share” consists of 1 share of common stock, par value $0.01 per share, of the Corporation, that is attached to and trades as a single unit with 1 share of Class B common stock, par value $0.01 per share, of ESH REIT. Each outstanding share of Corporation common stock is attached to and trades with 1 share of ESH REIT Class B common stock.
The Company is an integrated owner/operator of Extended Stay America-branded hotels and is also engaged in franchising and managing extended stay hotels for third parties in the U.S. As of September 30, 2019 and December 31, 2018, the Company owned and operated 554 hotel properties in 40 U.S. states, consisting of approximately 61,500 rooms. As of September 30, 2019 and December 31, 2018, the Company franchised and/or managed 72 and 73 hotel properties for third parties, consisting of approximately 7,400 and 7,500 rooms, respectively. As of September 30, 2019, all 626 system-wide hotels were operated under the Extended Stay America brand.
Owned hotel properties are owned by subsidiaries of ESH REIT and are operated by subsidiaries of the Corporation (the “Operating Lessees”) pursuant to leases between subsidiaries of ESH REIT and the Operating Lessees. The hotels are managed by ESA Management LLC (“ESA Management”), a subsidiary of the Corporation, which also manages hotels on behalf of third parties. The Extended Stay America brand is owned by ESH Hospitality Strategies LLC (“ESH Strategies”), also a subsidiary of the Corporation. ESH Strategies licenses the brand and intellectual property to its subsidiaries, ESH Strategies Branding LLC and ESH Strategies Franchise LLC, which license them to the Operating Lessees and third parties, respectively.
As of September 30, 2019 and December 31, 2018, the Corporation had 184.5 million shares and 188.2 million shares of common stock outstanding, respectively. As of September 30, 2019 and December 31, 2018, ESH REIT’s common equity consisted of the following: (i) 250.5 million shares of Class A common stock outstanding (58% and 57%, respectively, of its common equity), all of which were owned by the Corporation, and (ii) 184.5 million shares and 188.2 million shares of Class B common stock outstanding, respectively (42% and 43%, respectively, of its common equity).
Paired Share Repurchase Program—In December 2015, the Boards of Directors of the Corporation and ESH REIT authorized a combined Paired Share repurchase program. As a result of several increases in authorized amounts and program extensions, including a $150 million increase to the authorized amount and a program extension in August 2019, as of September 30, 2019, the combined Paired Share repurchase program authorized the Corporation and ESH REIT to purchase up to $550 million in Paired Shares through December 31, 2020. Repurchases may be made at management’s discretion from time to time in the open market, in privately negotiated transactions or by other means (including through Rule 10b5-1 trading plans). As of September 30, 2019, the Corporation and ESH REIT had repurchased and retired 21.3 million Paired Shares for $216.7 million and $128.4 million, including transaction fees, respectively, and $205.3 million remained available under the combined Paired Share repurchase program.
Basis of Consolidation
The accompanying condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the U.S. (“U.S. GAAP”) and include the financial position, results of operations, comprehensive income, changes in equity and cash flows of the Corporation and its consolidated subsidiaries, including ESH REIT. Third-party equity interests in consolidated subsidiaries are presented as noncontrolling interests. Despite the fact that
each share of Corporation common stock is paired on a 1-for-one basis with each share of ESH REIT Class B common stock, the Corporation does not own ESH REIT Class B common stock; therefore, ESH REIT Class B common stock represents a third-party equity interest. As such, the rights associated with ESH REIT Class B common stock, along with other third-party equity interests in ESH REIT, are presented as noncontrolling interests in the accompanying condensed consolidated financial statements. Changes in ownership interests in a consolidated subsidiary that do not result in a loss of control are accounted for as equity transactions. All intercompany accounts and transactions have been eliminated.
With respect to the condensed consolidated balance sheets, statements of operations and statements of cash flows and the segments disclosure (see Note 10), certain prior period amounts have been reclassified for comparability to current period presentation. In the condensed consolidated statements of operations, other revenues from franchised and managed properties for the three and nine months ended September 30, 2018, include $0.6 million and $1.4 million, respectively, that was included in franchise and management fees as originally presented. Other expenses from franchised and managed properties for the three and nine months ended September 30, 2018, include $0.7 million and $1.7 million, respectively, that was included in general and administrative expenses as originally presented.
| |
| 2. | SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES |
Interim Presentation—Certain information and footnote disclosures normally included in financial statements presented in accordance with U.S. GAAP have been condensed or omitted in the accompanying condensed consolidated financial statements. The Company believes the disclosures made are adequate to prevent the information presented from being misleading. However, the condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements as of and for the year ended December 31, 2018, included in the combined annual report on Form 10-K filed with the U.S. Securities and Exchange Commission (“SEC”) on February 27, 2019.
The accompanying condensed consolidated financial statements reflect all adjustments (consisting only of normal and recurring items) necessary to present fairly the Company’s financial position as of September 30, 2019, the results of the Company’s operations, comprehensive income and changes in equity for the three and nine months ended September 30, 2019 and 2018 and cash flows for the nine months ended September 30, 2019 and 2018. Interim results are not necessarily indicative of full year performance because of the impact of seasonal and short-term variations, as well as the impact of acquisitions, dispositions, hotel renovations and financing or other capital transactions.
Use of Estimates—The preparation of the accompanying condensed consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the amounts of assets and liabilities, disclosures of contingent assets and liabilities at the date of the financial statements, and amounts of revenues and expenses during the reporting period. Management used significant estimates to determine the estimated useful lives of tangible assets as well as in the assessment of tangible and intangible assets for impairment, estimated liabilities for insurance reserves and income taxes and the grant-date fair value of certain equity-based awards. Actual results could differ from those estimates.
Property and Equipment—Property and equipment additions are recorded at cost. Major improvements that extend the life or utility of property or equipment are capitalized and depreciated over a period equal to the shorter of the estimated useful life of the improvement or the remaining estimated useful life of the asset. Ordinary repairs and maintenance are charged to expense as incurred. Depreciation and amortization are recorded on a straight-line basis over estimated useful lives which range from two to 49 years.
Management assesses the performance of long-lived assets for potential impairment quarterly, as well as when events or changes in circumstances indicate the carrying amount of an asset, or group of assets, may not be recoverable. Recoverability of property and equipment is measured by a comparison of the carrying amount of a hotel property (or group of hotel properties) to the estimated future undiscounted cash flows expected to be generated by the hotel property (or group of hotel properties). Impairment is recognized when estimated future undiscounted cash flows, including expected proceeds from disposition, are less than the carrying value of the hotel property (or group of hotel properties). To the extent that a hotel property (or group of hotel properties) is impaired, the excess carrying amount over its estimated fair value is recognized as an impairment charge and reduces income from operations. Fair value is determined based upon the discounted cash flows of the hotel property (or group of hotel properties), bids, quoted market prices or independent appraisals, as considered necessary. The estimation of future undiscounted cash flows is inherently uncertain and relies upon assumptions regarding current and future economic and market conditions. If such conditions change, impairment charges may occur in future periods (see Note 5).
Revenue Generated from Owned and Operated Hotels—Revenue generated from owned and operated hotels consists of room and other hotel revenues recognized when services are provided. When a reservation is made, the Company deems that the parties have approved a contract in accordance with customary business practices and are committed to perform their
respective obligations. At such time, each party’s rights regarding the services to be transferred are identified, payment terms are specified, the contract has commercial substance and, in most instances, it is probable the Company will collect substantially all consideration to which it will be entitled in exchange for services.
Each room night consumed by a guest with a cancellable reservation represents a contract whereby the Company has a performance obligation to provide the room night at an agreed upon price. For cancellable reservations, the Company recognizes revenue as each performance obligation (i.e., each room night) is met. Such contract is renewed if the guest continues their stay. For room nights consumed by a guest with a non-cancellable reservation, the entire reservation period represents the contract term whereby the Company has a performance obligation to provide the room night or nights at an agreed upon price. For non-cancellable reservations, the Company recognizes revenue over the term of the performance period (i.e., the reservation period) as room nights are consumed. For these reservations, the room rate is typically fixed over the reservation period. The Company uses an output method based on performance completed to date (i.e., room nights consumed) to determine the amount of revenue it recognizes on a daily basis if the length of a non-cancellable reservation exceeds one night since consumption of room nights indicates when services are transferred to the guest. In certain instances, variable consideration may exist with respect to the transaction price, such as discounts, coupons and price concessions made upon guest checkout.
In evaluating its performance obligation, the Company bundles the obligation to provide the guest the room itself with other obligations (such as free WiFi, grab and go breakfast, access to on-site laundry facilities and parking), as the other obligations are not distinct and separable because the guest cannot benefit from the additional amenities without the consumed room night. The Company’s obligation to provide the additional items or services is not separately identifiable from the fundamental contractual obligation (i.e., providing the room and its contents). The Company has no performance obligations once a guest’s stay is complete.
Certain revenues are generated through third-party intermediaries or distribution channels (i.e., online travel agents). Regardless of the basis on which the Company is compensated (i.e., gross or net), the Company is responsible for fulfilling the promise to provide the hotel room and related services to the guest and retains inventory risk. Since the Company controls the inventory and services provided and because third-party intermediaries are typically not contractually required to guarantee room night consumption, the Company is the principal in these transactions. As such, the Company is required to record revenue at an amount equal to the price charged to the guest (i.e., on a gross basis). Third-party intermediaries that pay the Company directly (i.e., on a net basis) typically charge the guest additional fees, blend the room offering with other offerings at amounts which are not allocable and may adjust the price without the Company’s approval. As such, the Company is unable to calculate the room rate charged to the guest. Since any estimate the Company would make has significant uncertainty that ultimately would not be resolved, despite its role as principal, in these instances the Company records revenue equal to the amount paid by the third-party intermediaries (i.e., the net amount).
Revenue Generated from Franchise and Management Fees—Revenue generated from franchise and management contracts consists of the following:
| |
| • | Franchise fees, which consist of an initial fee and an ongoing royalty fee based on a percentage of a hotel’s monthly revenue in exchange for the access to and use of the Company’s brand name and other intellectual property. Initial fees are deferred and recognized over the expected contract or customer life. Royalty fees are recognized over time as franchisees derive value from the license to use the intellectual property. |
| |
| • | Management fees, which consist of an ongoing base fee calculated as a percentage of a hotel’s monthly revenue in exchange for on-site hotel management services. Management fees are recognized over time as third-party hotel owners derive value from on-site personnel and related services. |
| |
| • | Other revenues from franchised and managed properties, which include the reimbursement of costs incurred on behalf of third-party owners on a direct and an indirect basis, as follows: |
| |
| ◦ | Direct costs incurred with respect to management and franchise agreements include on-site hotel personnel and incremental reservation and distribution costs, respectively, for which the Company is reimbursed on a dollar-for-dollar basis. Since the Company employs the hotel personnel and has discretion over reservation and distribution costs, it is the principal with respect to these services and revenue is recognized on a gross basis. |
| |
| ◦ | Indirect costs incurred with respect to franchise agreements include costs associated with certain shared system-wide platforms (i.e., system services), such as marketing, technology infrastructure, central reservations, national sales and revenue management systems. The Company is reimbursed for indirect costs through a system service, or program, fee based on a percentage of a hotel’s monthly revenue. System service fees are recognized over time as franchisees derive value from the license to use these processes and systems. The Company has discretion over |
how it spends system service fees and is the principal with respect to these services. Revenue is recognized on a gross basis; expense is recognized as incurred. Over time, the Company manages system services to break-even, but the timing of revenue will typically not align with the expense to operate the programs.
The promise to provide access to the Company’s intellectual property is combined with the promise to provide system services to form a single performance obligation since the promises generally accompany one another. Hotel management services form a single performance obligation. As noted above, each identified performance obligation is considered to be a series of services transferred over time. Revenue is recognized on an output method based on performance completed to date. The Company recognizes revenue in the amount to which it has a right to bill third parties under their respective franchise and/or management agreements, as it has a right to consideration in an amount that corresponds directly with the third parties’ hotel revenues. Franchise, management and system service fees are characterized as variable consideration and vary from period to period. In the event that fees include variables that extend beyond the current period, the Company uses the most likely amount method to determine the amount of revenue to record based on a reasonable revenue forecast for the applicable hotel. In most instances, the Company does not have constraining estimates, as hotel revenues are typically available and obtained monthly.
Segments—The Company has 2 reportable operating segments based on the manner in which we evaluate our business: (i) owned hotels and (ii) franchise and management. The Company assesses the performance of these segments on an individual basis (see Note 10).
Recently Issued Accounting Standards
Fair Value Measurement—In August 2018, the Financial Accounting Standards Board (“FASB”) issued an accounting standards update which modifies the disclosure requirements for fair value measurements in Topic 820, Fair Value Measurement. This update will be effective for fiscal years and interim periods within those fiscal years beginning after December 15, 2019, and may be early adopted. The Company does not expect the adoption of this update to have a material effect on its condensed consolidated financial statements.
Intangibles-Goodwill and Other—Internal-Use Software—In August 2018, the FASB issued an accounting standards update which aligns the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software and hosting arrangements that include an internal-use software license. This update will be effective for fiscal years and interim periods within those fiscal years beginning after December 15, 2019, and may be early adopted. The Company expects to apply this update prospectively and does not expect adoption to have a material effect on its condensed consolidated financial statements.
Compensation—Stock Compensation—In June 2018, the FASB issued an accounting standards update which expands the scope of Topic 718, Stock Compensation, to include share-based payments granted to non-employees in exchange for goods or services. The new guidance simplifies the accounting for share-based payments granted to non-employees for goods or services by aligning it with the accounting for share-based payments granted to employees, with certain exceptions. Under the new guidance, non-employee share-based payment awards included within the scope of Topic 718 will be measured at the grant-date fair value of the equity instruments. In addition, classification of non-employee share-based payment awards will be subject to the requirements of Topic 718 unless modified after the good has been delivered and/or the service has been rendered and any other conditions necessary to earn the right to benefit from the instruments have been satisfied. This approach will eliminate the requirement to reassess classification of such awards upon vesting. The Company adopted this update on January 1, 2019, using a retrospective method. The adoption of this update did not have a material effect on the Company’s condensed consolidated financial statements.
Comprehensive Income—In February 2018, the FASB issued an accounting standards update that allows a reclassification from accumulated other comprehensive income to retained earnings for stranded tax effects resulting from the Tax Cuts and Jobs Act (“TCJA”). The Company adopted this update on January 1, 2019, using a retrospective method. The adoption of this update did not have a material effect on the Company’s condensed consolidated financial statements.
Goodwill—In January 2017, the FASB issued an accounting standards update in which the guidance on testing for goodwill was updated to eliminate Step 2 in the determination on whether goodwill should be considered impaired. Annual and/or interim assessments are still required. This update will be effective for fiscal years and interim periods within fiscal years beginning after December 15, 2019, and may be adopted early. The Company expects to apply this update prospectively and does not expect adoption to have a material effect on its condensed consolidated financial statements.
Financial Instruments—Credit Losses—In June 2016, the FASB issued an accounting standards update which requires the measurement of an impairment allowance for certain financial assets based on a company’s current estimate of all contractual cash flows it does not expect to collect. This update will be effective for fiscal years and interim periods within those fiscal years beginning after December 15, 2019, and may be adopted early. The Company expects to apply this update using a modified retrospective method and does not expect adoption to have a material effect on its condensed consolidated financial statements.
Leases—ASC 842, Leases, introduced a lessee model that requires a right-of-use asset and lease obligation to be presented on the balance sheet for all leases, whether operating or financing. The Company adopted ASC 842 on January 1, 2019, using the modified retrospective approach with the Comparatives Under 840 Option, whereby the Company applied the standard at the beginning of the period of adoption and has presented financial information for periods prior to January 1, 2019 in accordance with prior guidance. Upon adoption, the Company elected practical expedients related to (i) the identification and classification of leases that commenced before the effective date, (ii) initial direct costs for leases that commenced before the effective date, (iii) the ability to use hindsight in evaluating lessee options to extend or terminate a lease or to purchase the underlying asset, (iv) land easements and (v) the evaluation of lease and non-lease components of a contract.
Implementation had no cumulative effect on retained earnings. Adoption resulted in the recognition of operating lease right-of-use assets of $7.1 million as of January 1, 2019, which included adjustments for accrued lease payments, above market lease liabilities and lease incentives, and liabilities of $14.5 million. Finance lease right-of-use assets and liabilities recognized as of January 1, 2019, included preexisting assets and liabilities of $3.8 million and $3.4 million, respectively, related to capital leases accounted for under prior guidance.
Judgement was exercised in the application of ASC 842 with respect to the determination of whether a contract contains a lease. While the ability to control and direct the use of an identified asset indicates that the contract, or portion of a contract, is a lease, a counterparty’s substantive substitution rights typically provide evidence that a lessee does not control the asset. Judgement was also exercised with respect to the determination of the discount rate used to determine the present value of lease payments. In instances in which interest rates implicit in leases are not readily determinable, the Company uses its incremental borrowing rate. The substantial majority of widely available market maturities and asset-specific risk spreads may not match the underlying contract and, as such, borrowing rates and risk spreads are estimated based on the contract’s term, the counterparty’s security and other characteristics of the identified asset.
Basic net income per share is computed by dividing net income available to common shareholders by the weighted-average number of shares of the Corporation’s unrestricted common stock outstanding. Diluted net income per share is computed by dividing net income available to common shareholders, as adjusted for potentially dilutive securities, by the weighted-average number of shares of unrestricted common stock outstanding plus other potentially dilutive securities. Dilutive securities include certain equity-based awards (see Note 13) and are included in the calculation provided that the inclusion of such securities is not anti-dilutive.
The calculations of basic and diluted net income per share, including a reconciliation of the numerators and denominators, are as follows (in thousands, except per share data):
|
| | | | | | | | | | | | | | | |
| | Three Months Ended
September 30, | | Nine Months Ended
September 30, |
| | 2019 | | 2018 | | 2019 | | 2018 |
| Numerator: | | | | | | | |
| Net income available to Extended Stay America, Inc. common shareholders - basic | $ | 41,071 |
| | $ | 71,902 |
| | $ | 116,502 |
| | $ | 151,810 |
|
| Income attributable to noncontrolling interests assuming conversion | (6 | ) | | (5 | ) | | (19 | ) | | (26 | ) |
| Net income available to Extended Stay America, Inc. common shareholders - diluted | $ | 41,065 |
| | $ | 71,897 |
| | $ | 116,483 |
| | $ | 151,784 |
|
| Denominator: | | | | | | | |
| Weighted-average number of Extended Stay America, Inc. common shares outstanding - basic | 186,844 |
| | 188,822 |
| | 188,063 |
| | 189,681 |
|
| Dilutive securities | 171 |
| | 431 |
| | 254 |
| | 430 |
|
| Weighted-average number of Extended Stay America, Inc. common shares outstanding - diluted | 187,015 |
| | 189,253 |
| | 188,317 |
| | 190,111 |
|
| Net income per Extended Stay America, Inc. common share - basic | $ | 0.22 |
| | $ | 0.38 |
| | $ | 0.62 |
| | $ | 0.80 |
|
| Net income per Extended Stay America, Inc. common share - diluted | $ | 0.22 |
| | $ | 0.38 |
| | $ | 0.62 |
| | $ | 0.80 |
|
NaN hotels were sold during the three or nine months ended September 30, 2019. The table below summarizes hotel dispositions during the year ended December 31, 2018 (in thousands, except number of hotels and number of rooms). None of the 2018 dispositions were reported as discontinued operations. |
| | | | | | | | | | | | | | |
| Year | Brand | Location | Month Sold | Number of
Hotels | Number of
Rooms | Net Proceeds | Gain (Loss)
on Sale | | Franchised/Managed (1) | |
| 2018 | Extended Stay America | Various | November | 14 | 1,369 | $ | 34,855 |
| $ | 1,331 |
| (2) | Yes | |
| 2018 | Extended Stay America | Various | September | 16 | 1,680 | 60,710 |
| 6,293 |
| (2) | Yes | |
| 2018 | Extended Stay America | Various | September | 16 | 1,776 | 58,144 |
| (3,014 | ) | (2) | Yes | |
| 2018 | Extended Stay America | Various | February | 25 | 2,430 | 111,156 |
| 6,810 |
| (2) | Yes | |
| 2018 | Extended Stay America | Texas | March | 1 | 101 | 44,090 |
| 31,058 |
| | No | (3) |
________________________________
| |
| (1) | As of September 30, 2019. |
| |
| (2) | Net of impairment charges of $16.8 million, $24.3 million, $6.3 million and $2.1 million, respectively, recognized prior to sale. |
| |
| (3) | Management agreement terminated in August 2019. |
During the three and nine months ended September 30, 2018, disposed hotel properties contributed total room and other hotel revenues, total operating expenses and gain (loss) before income tax expense as follows (in thousands):
|
| | | | | | | |
| | Three Months Ended
September 30, 2018 | | Nine Months Ended
September 30, 2018 |
| Total room and other hotel revenues | $ | 16,363 |
| | $ | 51,170 |
|
Total operating expenses (1) | 12,295 |
| | 78,390 |
|
Gain (loss) before income tax expense (1) | 4,068 |
| | (27,220 | ) |
________________________________
| |
| (1) | Includes impairment charges of $0 and $37.4 million for the three and nine months ended September 30, 2018, respectively. |
Net investment in property and equipment as of September 30, 2019 and December 31, 2018, consists of the following (in thousands):
|
| | | | | | | |
| | September 30,
2019 | | December 31, 2018 |
| Hotel properties: | | | |
Land and site improvements (1) | $ | 1,218,581 |
| | $ | 1,215,710 |
|
| Building and improvements | 2,754,786 |
| | 2,729,661 |
|
| Furniture, fixtures and equipment | 726,980 |
| | 674,545 |
|
| Total hotel properties | 4,700,347 |
| | 4,619,916 |
|
Development in process (2) | 74,125 |
| | 27,174 |
|
| Corporate furniture, fixtures, equipment and other | 25,068 |
| | 22,972 |
|
| Undeveloped land parcel | 1,675 |
| | 1,675 |
|
| Total cost | 4,801,215 |
| | 4,671,737 |
|
| Less accumulated depreciation: | | | |
| Hotel properties | (1,314,367 | ) | | (1,201,260 | ) |
| Corporate furniture, fixtures, equipment and other | (19,221 | ) | | (16,845 | ) |
| Total accumulated depreciation | (1,333,588 | ) | | (1,218,105 | ) |
| Property and equipment - net | $ | 3,467,627 |
| | $ | 3,453,632 |
|
_________________________________
| |
| (1) | Includes finance lease asset of $3.2 million as of September 30, 2019 and December 31, 2018. |
| |
| (2) | Includes finance lease asset of $0.8 million and $0.6 million as of September 30, 2019 and December 31, 2018, respectively. |
As of September 30, 2019 and December 31, 2018, development in process consisted of 15 and 11 land parcels, respectively, which are in various phases of construction and/or development.
The Company recognized an impairment charge of $2.7 million for 1 hotel located in New York during the three and nine months ended September 30, 2019. The impairment charge was incurred as a result of a decline in the hotel’s estimated future operating cash flows. NaN impairment charges were recognized during the three months ended September 30, 2018. During the nine months ended September 30, 2018, the Company recognized $43.6 million of impairment charges for 21 hotels generally located in the Midwestern U.S., the majority of which were incurred in connection with evaluating the potential sale of certain non-core assets.
The Company used Level 3 unobservable inputs and, in certain instances Level 2 observable inputs, to determine the impairment on its property and equipment. Quantitative information with respect to observable inputs consists of non-binding bids or, in certain instances, binding agreements to sell a hotel or portfolio of hotels to one or more third parties. Quantitative information with respect to unobservable inputs consists of internally developed cash flow models that include the following assumptions, among others: projections of revenues, expenses and hotel-related cash flows based on assumed long-term growth rates, demand trends, expected future capital expenditures and estimated discount rates that range from 6% to 10% and terminal capitalization rates that range from 7% to 11%. These assumptions are based on the Company’s historical data and experience, the Company’s budgets, industry projections and overall micro and macro-economic projections.
The estimation and evaluation of future cash flows, in particular the holding period for real estate assets and asset composition and/or concentration within real estate portfolios, relies on judgments and assumptions regarding holding period, current and future operating and economic performance, and current and future market conditions. It is possible that such judgments and/or estimates will change; if this occurs, the Company may recognize additional impairment charges or losses on sale in future periods reflecting either changes in estimate, circumstance or the estimated market value of its assets.
| |
| 6. | INTANGIBLE ASSETS AND GOODWILL |
The Company’s intangible assets and goodwill as of September 30, 2019 and December 31, 2018, consist of the following (dollars in thousands):
|
| | | | | | | | | | | |
| | September 30, 2019 |
| | Gross
Carrying
Amount | | Accumulated
Amortization | | Net Book
Value |
| Definite-lived intangible assets—customer relationships | $ | 26,800 |
| | $ | (12,035 | ) | | $ | 14,765 |
|
| Definite-lived intangible assets—software licenses | 8,508 |
| | (460 | ) | | 8,048 |
|
| Definite-lived intangible assets—software licenses in process | 58 |
| | — |
| | 58 |
|
| Indefinite-lived intangible assets—trademarks | 10,164 |
| | — |
| | 10,164 |
|
| Total intangible assets | 45,530 |
| | (12,495 | ) | | 33,035 |
|
| Goodwill | 45,192 |
| | — |
| | 45,192 |
|
| Total intangible assets and goodwill | $ | 90,722 |
| | $ | (12,495 | ) | | $ | 78,227 |
|
|
| | | | | | | | | | | |
| | December 31, 2018 |
| | Gross
Carrying
Amount | | Accumulated
Amortization | | Net Book
Value |
| Definite-lived intangible assets—customer relationships | $ | 26,800 |
| | $ | (11,029 | ) | | $ | 15,771 |
|
| Definite-lived intangible assets—software licenses | 1,926 |
| | (36 | ) | | 1,890 |
|
| Definite-lived intangible assets—software licenses in process | 870 |
| | — |
| | 870 |
|
| Indefinite-lived intangible assets—trademarks | 10,183 |
| | — |
| | 10,183 |
|
| Total intangible assets | 39,779 |
| | (11,065 | ) | | 28,714 |
|
| Goodwill | 45,192 |
| | — |
| | 45,192 |
|
| Total intangible assets and goodwill | $ | 84,971 |
| | $ | (11,065 | ) | | $ | 73,906 |
|
The remaining weighted-average amortization period for amortizing intangible assets is approximately 10 years as of September 30, 2019. Estimated future amortization expense for amortizing intangible assets is as follows (in thousands):
|
| | | |
| Years Ending December 31, | |
| Remainder of 2019 | $ | 583 |
|
| 2020 | 2,336 |
|
| 2021 | 2,336 |
|
| 2022 | 2,336 |
|
| 2023 | 2,336 |
|
| 2024 | 2,336 |
|
| Thereafter | 10,550 |
|
| Total | $ | 22,813 |
|
Summary - The Company’s outstanding debt, net of unamortized debt discounts and unamortized deferred financing costs, as of September 30, 2019 and December 31, 2018, consists of the following (dollars in thousands):
|
| | | | | | | | | | | | | | | | | | | | | | | | | |
| | | Stated
Amount | | Carrying Amount | | Unamortized Deferred Financing Costs | | | | | |
| Loan | | | September 30, 2019 | | December 31, 2018 | | September 30, 2019 | | December 31, 2018 | | Stated Interest Rate | | Maturity Date | |
| Term loan facility | | | | | | | | | | | | | | | |
| ESH REIT Term Facility | | $ | 630,909 |
| | $ | 628,880 |
| (1) | $ | 1,132,259 |
| (1) | $ | 9,357 |
| | $ | 10,546 |
| | LIBOR(2) + 2.00% | | 9/18/2026 | (3) |
| Senior notes | | | | | | | | | | | | | | | |
| 2027 Notes | | 750,000 |
| | 750,000 |
| | — |
| | 14,054 |
| | — |
| | 4.63% | | 10/1/2027 | |
| 2025 Notes | | 1,300,000 |
| | 1,292,658 |
| (4) | 1,291,671 |
| (4) | 15,760 |
| | 17,877 |
| | 5.25% | | 5/1/2025 | |
| Revolving credit facilities | | | | | | | | | | | | | | | |
| ESH REIT Revolving Credit Facility | | 350,000 |
| | — |
| | — |
| | 2,709 |
| (5) | 1,469 |
| (5) | LIBOR(2) + 2.00% | | 9/18/2024 | |
| Corporation Revolving Credit Facility | | 50,000 |
| | — |
| | — |
| | 551 |
| (5) | 292 |
| (5) | LIBOR(2) + 2.25% | | 9/18/2024 | |
| Unsecured Intercompany Facility | | | | | | | | | | | | | | | |
Unsecured Intercompany Facility(6) | | 75,000 |
| | — |
| | — |
| | — |
| | — |
| | 5.00% | | 9/18/2026 | |
| Total | | | | $ | 2,671,538 |
| | $ | 2,423,930 |
| | $ | 42,431 |
| | $ | 30,184 |
| | | | | |
_________________________________
| |
| (1) | The ESH REIT Term Facility (defined below) is presented net of an unamortized debt discount of $2.0 million and $4.3 million as of September 30, 2019 and December 31, 2018, respectively. |
| |
| (2) | As of September 30, 2019 and December 31, 2018, one-month LIBOR was 2.02% and 2.50%, respectively. As of September 30, 2019 and December 31, 2018, $250.0 million and $300.0 million, respectively, of the ESH REIT Term Facility was subject to an interest rate swap at a fixed rate of 1.175%. |
| |
| (3) | Amortizes in equal quarterly installments of $1.6 million. In addition to scheduled amortization, subject to certain exceptions, annual mandatory prepayments of up to 50% of Excess Cash Flow, as defined, may be required. Annual mandatory prepayments for the year are due during the first quarter of the following year. No mandatory prepayments were required in the first quarter of 2019 based on ESH REIT’s Excess Cash Flow for the year ended December 31, 2018. |
| |
| (4) | The 2025 Notes (defined below) are presented net of an unamortized discount of $7.3 million and $8.3 million as of September 30, 2019 and December 31, 2018, respectively. |
| |
| (5) | Unamortized deferred financing costs related to revolving credit facilities are included in other assets in the accompanying condensed consolidated balance sheets. |
| |
| (6) | Any outstanding debt balances and interest expense, as applicable, owed from ESH REIT to the Corporation eliminate in consolidation. |
ESH REIT Credit Facilities
ESH REIT’s credit agreement, as may be amended and supplemented from time to time, provides for senior secured credit facilities (collectively, the “ESH REIT Credit Facilities”), which, as of September 30, 2019, consisted of a $630.9 million senior secured term loan facility (the “ESH REIT Term Facility”) and a $350.0 million senior secured revolving credit facility (the “ESH REIT Revolving Credit Facility”). Subject to the satisfaction of certain criteria, borrowings under the ESH REIT Credit Facilities may be increased by an amount of up to $600.0 million, plus additional amounts, so long as, after giving effect to the incurrence of such incremental facility and the application of proceeds thereof, ESH REIT’s pro-forma senior loan-to-value ratio is less than or equal to 45%.
In September 2019, ESH REIT entered into an amendment to the ESH REIT Credit Facilities whereby, among other things, proceeds from the issuance of the 2027 Notes (defined below) were used to repay $500.0 million of the outstanding borrowings under the ESH REIT Term Facility and the stated amount of the ESH REIT Term Facility was reduced from $1,130.0 million to $630.9 million. Additionally, the amendment reduced the interest rate applicable to the ESH REIT Revolving Credit Facility and extended the maturity of both the ESH REIT Term Facility and the ESH REIT Revolving Credit Facility. In connection with these transactions, ESH REIT incurred $6.7 million of debt extinguishment and modification costs, which consist of the write-off of unamortized deferred financing costs and discounts of $5.6 million and other costs of $1.1 million. Debt extinguishment and modification costs are included as a component of net interest expense in the accompanying condensed consolidated statements of operations.
ESH REIT Term Facility—The ESH REIT Term Facility bears interest at a rate equal to (i) LIBOR plus 1.75% for any period during which ESH REIT maintains a public corporate family rating better than or equal to BB- (with a stable or better outlook) from S&P and Ba3 (with a stable or better outlook) from Moody’s (a “Level 1 Period”) or LIBOR plus 2.00% for any
period other than a Level 1 Period; or (ii) a base rate, as defined, plus 0.75% during a Level 1 Period or 1.00% for any period other than a Level 1 Period. The ESH REIT Term Facility amortizes in equal quarterly installments of $1.6 million. In addition to scheduled amortization, subject to certain exceptions, annual mandatory prepayments of up to 50% of Excess Cash Flow, as defined, may be required. The ESH REIT Term Facility matures on September 18, 2026.
ESH REIT has the option to voluntarily prepay outstanding loans under the ESH REIT Term Facility at any time upon prior written notice. In addition to customary breakage costs, amounts refinanced, substituted or replaced by indebtedness in connection with certain repricing transactions which have a lower all-in yield than the all-in yield under the ESH REIT Term Facility on or prior to March 18, 2020 (other than as a result of a transformative transaction) are subject to a prepayment penalty equal to 1.00% of the aggregate principal amount refinanced, substituted or replaced. Prepayments made after March 18, 2020 are not subject to a prepayment penalty.
ESH REIT Revolving Credit Facility—Borrowings under the ESH REIT Revolving Credit Facility bear interest at a rate equal to (i) LIBOR plus a spread that ranges from 1.50% to 2.00% based on ESH REIT’s Consolidated Total Net Leverage Ratio, as defined, or (ii) a base rate (determined by reference to the highest of (A) the prime lending rate, (B) the overnight federal funds rate plus 0.50%, or (C) the one-month adjusted LIBOR rate plus 1.00%) plus a spread that ranges from 0.50% to 1.00% based on ESH REIT’s Consolidated Total Net Leverage Ratio, as defined. ESH REIT incurs a fee of 0.30% or 0.175% on the unutilized revolver balance. ESH REIT is also required to pay customary letter of credit fees and agency fees. The ESH REIT Revolving Credit Facility provides for the issuance of up to $50.0 million of letters of credit. As of September 30, 2019, ESH REIT had 0 letters of credit outstanding under the facility and available borrowing capacity of $350.0 million. The ESH REIT Revolving Credit Facility matures on September 18, 2024.
ESH REIT 2027 Notes
In September 2019, ESH REIT issued $750.0 million of its 4.625% senior notes due in 2027 (the “2027 Notes”) under an indenture with Deutsche Bank Trust Company Americas, as trustee, at a price equal to 100% of par value in a private placement pursuant to Rule 144A of the Securities Act of 1933, as amended. Proceeds received from the issuance of the 2027 Notes, net of financing costs, totaled $738.0 million, $500.0 million of which were used to repay a portion of outstanding borrowings under the ESH REIT Term Loan. The remaining proceeds, $238.0 million, are expected to be used for general corporate purposes. The 2027 Notes bear interest at a fixed rate of 4.625% per annum, payable semi-annually in arrears on April 1 and October 1 of each year, commencing April 1, 2020, and mature on October 1, 2027.
The 2027 Notes are fully and unconditionally guaranteed, jointly and severally, on an unsecured basis by each of ESH REIT’s subsidiaries that guarantee ESH REIT’s obligations under the ESH REIT Credit Facilities. The 2027 Notes are not guaranteed by the Corporation or any of its subsidiaries that lease ESH REIT’s properties or its subsidiaries that engage in franchising or management activities or own intellectual property. The 2027 Notes rank equally in right of payment with ESH REIT’s existing and future senior unsecured indebtedness, and senior in right of payment to all future subordinated indebtedness, if any. The 2027 Notes are effectively junior to any of ESH REIT’s secured indebtedness to the extent of the value of the assets securing such indebtedness.
ESH REIT may redeem the 2027 Notes at any time on or after October 1, 2022, in whole or in part, at a redemption price equal to 102.313% of the principal amount, declining annually to 100% of the principal amount from October 1, 2024 and thereafter, plus accrued and unpaid interest. Prior to October 1, 2022, ESH REIT may redeem the 2027 Notes, in whole or in part, at a redemption price equal to 100% of the principal amount, plus a “make-whole” premium, as defined, plus accrued and unpaid interest. Prior to October 1, 2022, subject to certain conditions, ESH REIT may redeem up to 35% of the aggregate principal amount of the 2027 Notes at a redemption price equal to 101% of the aggregate principal amount, plus accrued and unpaid interest, with the net cash proceeds from certain equity offerings, provided 65% of the original amount of the principal remains outstanding after the occurrence of each such redemption. Upon a Change of Control, as defined, holders of the 2027 Notes have the right to require ESH REIT to redeem the 2027 Notes at 101% of the principal amount, plus accrued and unpaid interest.
ESH REIT 2025 Notes
In May 2015 and March 2016, ESH REIT issued $500.0 million and $800.0 million, respectively, of its 5.25% senior notes due in 2025 (the “2025 Notes”) under an indenture with Deutsche Bank Trust Company Americas, as trustee, in private placements pursuant to Rule 144A of the Securities Act of 1933, as amended. The 2025 Notes bear interest at a fixed rate of 5.25% per annum, payable semi-annually in arrears on May 1 and November 1 of each year, and mature on May 1, 2025.
ESH REIT may redeem the 2025 Notes at any time on or after May 1, 2020, in whole or in part, at a redemption price equal to 102.625% of the principal amount, declining annually to 100% of the principal amount from May 1, 2023 and thereafter, plus accrued and unpaid interest. Prior to May 1, 2020, ESH REIT may redeem the 2025 Notes, in whole or in part, at a redemption price equal to 100% of the principal amount, plus a “make-whole” premium, as defined, plus accrued and unpaid interest. Upon a Change of Control, as defined, holders of the 2025 Notes have the right to require ESH REIT to redeem the 2025 Notes at 101% of the principal amount, plus accrued and unpaid interest.
Corporation Revolving Credit Facility
The Corporation’s revolving credit facility, as may be amended and supplemented from time to time (the “Corporation Revolving Credit Facility”), provides for the issuance of up to $50.0 million of letters of credit as well as borrowing on same day notice, referred to as swingline loans, in an amount of up to $20.0 million. In September 2019, the Corporation entered into an amendment to the Corporation Revolving Credit Facility which, among other things, extended the facility’s maturity and reduced the interest rate spread on utilized and unutilized revolver balances. Borrowings under the Corporation Revolving Credit Facility bear interest at a rate equal to (i) LIBOR plus 2.25% or (ii) a base rate (determined by reference to the highest of (A) the prime lending rate, (B) the overnight federal funds rate plus 0.50% or (C) the one-month adjusted LIBOR plus 1.00%) plus 1.25%. As of September 30, 2019, the Corporation had 1 letter of credit outstanding under the facility of $0.2 million and available borrowing capacity of $49.8 million. The Corporation Revolving Credit Facility matures on September 18, 2024.
Unsecured Intercompany Facility
In August 2016, ESH REIT, as borrower, and the Corporation, as lender, entered into an unsecured intercompany credit facility, as may be amended and supplemented from time to time (the “Unsecured Intercompany Facility”). In September 2019, the Unsecured Intercompany Facility was amended to, among other things, extend the facility’s maturity. Under the Unsecured Intercompany Facility, ESH REIT may borrow up to $300.0 million, plus additional amounts, in each case subject to certain conditions. Loans under the Unsecured Intercompany Facility bear interest at an annual rate of 5.0%. ESH REIT has the option to prepay outstanding balances under the facility without penalty. As of September 30, 2019 and December 31, 2018, the amount outstanding under the facility was $0. There is no scheduled amortization, and the Unsecured Intercompany Facility matures on September 18, 2026.
Covenants
The ESH REIT Credit Facilities, the 2027 Notes, the 2025 Notes, the Corporation Revolving Credit Facility and the Unsecured Intercompany Facility contain a number of restrictive covenants that, among other things and subject to certain exceptions, limit the Corporation’s or ESH REIT’s ability and the ability of their respective subsidiaries to engage in certain transactions. In addition, the ESH REIT Revolving Credit Facility and the Corporation Revolving Credit Facility contain financial covenants that, subject to certain conditions, require compliance with certain senior loan-to-value and consolidated leverage ratios. The agreements governing the Corporation’s and ESH REIT’s indebtedness also contain certain customary events of default, including, but not limited to, cross-defaults to certain other indebtedness and, in the case of the ESH REIT Credit Facilities and the Unsecured Intercompany Facility, certain material operating leases and management agreements. As of September 30, 2019, the Corporation and ESH REIT were in compliance with all covenants under their respective debt agreements.
Interest Expense, net—The components of net interest expense during the three and nine months ended September 30, 2019 and 2018, are as follows (in thousands):
|
| | | | | | | | | | | | | | | |
| | Three Months Ended September 30, | | Nine Months Ended September 30, |
| | 2019 | | 2018 | | 2019 | | 2018 |
Contractual interest (1) | $ | 28,727 |
| | $ | 29,120 |
| | $ | 86,209 |
| | $ | 87,158 |
|
| Amortization of deferred financing costs and debt discount | 2,014 |
| | 1,996 |
| | 6,007 |
| | 6,008 |
|
Debt extinguishment and other costs (2) | 7,117 |
| | 231 |
| | 7,923 |
| | 2,428 |
|
| Interest income | (1,323 | ) | | (340 | ) | | (4,234 | ) | | (522 | ) |
| Total | $ | 36,535 |
| | $ | 31,007 |
| | $ | 95,905 |
| | $ | 95,072 |
|
______________________
| |
| (1) | Includes dividends on shares of mandatorily redeemable Corporation preferred stock. Net of capitalized interest of $0.6 million, $0.1 million, $1.4 million and $0.2 million, respectively. |
| |
| (2) | Includes interest expense on finance leases (see Note 12) and unused credit facility fees. |
Mandatorily Redeemable Preferred Stock—The Corporation has authorized 350.0 million shares of preferred stock, $0.01 par value, of which 7,130 shares of mandatorily redeemable voting preferred stock were issued and outstanding as of September 30, 2019 and December 31, 2018. Dividends on these mandatorily redeemable voting preferred shares are payable quarterly in arrears at a rate of 8.0% per year. With respect to dividend, distribution and liquidation rights, the 8.0% voting preferred stock ranks senior to the Corporation’s common stock. Holders of the 8.0% voting preferred stock have the right to require the Corporation to redeem in cash the 8.0% voting preferred stock at $1,000 per share plus any accumulated unpaid dividends. On November 15, 2020, the Corporation shall mandatorily redeem all of the 8.0% voting preferred stock at $1,000 per share plus any accumulated unpaid dividends.
Fair Value of Debt and Mandatorily Redeemable Preferred Stock—As of September 30, 2019 and December 31, 2018, the estimated fair value of the Company’s debt was $2.7 billion and $2.3 billion, respectively, and the estimated fair value of the Corporation’s 8.0% mandatorily redeemable preferred stock was $7.1 million and $7.0 million, respectively. Estimated fair values are determined by comparing current borrowing rates and risk spreads offered in the market (Level 2 fair value measures) or quoted market prices (Level 1 fair value measures), when available, to the stated interest rates and spreads on the Company’s debt and the Corporation’s 8.0% mandatorily redeemable preferred stock.
In September 2016, ESH REIT entered into a floating-to-fixed interest rate swap, as amended and supplemented from time to time, at a fixed rate of 1.175% and a floating rate of one-month LIBOR to manage its exposure to interest rate risk on a portion of the ESH REIT Term Facility. The notional amount of the interest rate swap as of September 30, 2019 was $250.0 million. The notional amount decreases by an additional $50.0 million every six months until the swap’s maturity in September 2021.
For the three and nine months ended September 30, 2019, the Company received proceeds of $0.7 million and $2.5 million, respectively, and for the three and nine months ended September 30, 2018, the Company received proceeds of $0.8 million and $1.9 million, respectively, that offset interest expense. As of September 30, 2019, $0.9 million is expected to be recognized through earnings over the following twelve months.
The table below presents the amounts and classification of the interest rate swap on the Company’s condensed consolidated financial statements (in thousands):
|
| | | | | | | | | | |
| | Other assets | Accumulated other comprehensive income, net of tax | | Interest expense, net |
| As of September 30, 2019 | $ | 971 |
| $ | 825 |
| (1) | |
| As of December 31, 2018 | $ | 5,789 |
| $ | 4,934 |
| (2) | |
| For the three months ended September 30, 2019 | | | | $ | (704 | ) |
| For the three months ended September 30, 2018 | | | | $ | (803 | ) |
| For the nine months ended September 30, 2019 | | | | $ | (2,501 | ) |
| For the nine months ended September 30, 2018 | | | | $ | (1,888 | ) |
_______________________________
| |
| (1) | Changes during the nine months ended September 30, 2019, on a pre-tax basis, consisted of changes in fair value of $(4.8) million. |
| |
| (2) | Changes during the year ended December 31, 2018, on a pre-tax basis, consisted of changes in fair value of $(0.6) million and the cumulative effect adjustment of $(0.7) million recorded as a result of adopting ASU 2017-12, Derivatives and Hedging: Targeted Improvements to Accounting for Hedging Activities, on January 1, 2018. |
| |
| 9. | REVENUE FROM CONTRACTS WITH CUSTOMERS |
Disaggregation of Revenue
The following table disaggregates room revenues generated from owned hotels by booking source for the three and nine months ended September 30, 2019 and 2018 (in thousands):
|
| | | | | | | | | | | | | | | | |
| | Three Months Ended September 30, | | Nine Months Ended
September 30, | |
| | 2019 | | 2018 | | 2019 | | 2018 | |
| Property direct | $ | 83,335 |
| | $ | 94,356 |
| | $ | 236,922 |
| | $ | 281,222 |
| |
| Central call center | 83,266 |
| | 85,088 |
| | 226,894 |
| | 232,754 |
| |
| Proprietary website | 58,791 |
| | 61,930 |
| | 166,684 |
| | 169,531 |
| |
| Third-party intermediaries | 84,226 |
| | 84,594 |
| (1) | 237,065 |
| | 233,579 |
| (1) |
| Travel agency global distribution systems | 11,051 |
| | 14,949 |
| (1) | 31,764 |
| | 40,989 |
| (1) |
Total room revenues(2) | $ | 320,669 |
| | $ | 340,917 |
| | $ | 899,329 |
| | $ | 958,075 |
| |
_________________________________
| |
| (1) | As a result of the correction of a classification error, for the three and nine months ended September 30, 2018, $19.3 million and $55.2 million of room revenues generated from opaque booking channels, which were previously reported as revenues generated from travel agency global distribution systems, have been reclassified and reported as revenues generated from third-party intermediaries. The Company concluded that the effect of the error is immaterial to previously issued financial statements but has made the correction for consistent presentation. |
| |
| (2) | In addition to room revenues, the Company’s owned hotels earned $6.5 million and $17.8 million of other hotel revenues during the three and nine months ended September 30, 2019, respectively, and $5.9 million and $16.7 million of other hotel revenues during the three and nine months ended September 30, 2018, respectively. |
The following table disaggregates room revenues generated from owned hotels by length of guest stay for the three and nine months ended September 30, 2019 and 2018 (in thousands):
|
| | | | | | | | | | | | | | | |
| | Three Months Ended September 30, | | Nine Months Ended
September 30, |
| | 2019 | | 2018 | | 2019 | | 2018 |
| 1-6 nights | $ | 118,700 |
| | $ | 125,285 |
| | $ | 341,176 |
| | $ | 356,709 |
|
| 7-29 nights | 67,927 |
| | 74,331 |
| | 186,894 |
| | 202,997 |
|
| 30+ nights | 134,042 |
| | 141,301 |
| | 371,259 |
| | 398,369 |
|
Total room revenues (1) | $ | 320,669 |
| | $ | 340,917 |
| | $ | 899,329 |
| | $ | 958,075 |
|
_________________________________
| |
| (1) | In addition to room revenues, the Company’s owned hotels earned $6.5 million and $17.8 million of other hotel revenues during the three and nine months ended September 30, 2019, respectively, and $5.9 million and $16.7 million of other hotel revenues during the three and nine months ended September 30, 2018, respectively. |
The following table disaggregates revenues from franchised and managed hotels for the three and nine months ended September 30, 2019 and 2018 (in thousands):
|
| | | | | | | | | | | | | | | |
| | Three Months Ended
September 30, | | Nine Months Ended
September 30, |
| | 2019 | | 2018 | | 2019 | | 2018 |
| Management fees | $ | 312 |
| | $ | 335 |
| | $ | 972 |
| | $ | 875 |
|
| Franchise fees | 1,039 |
| | 529 |
| | 3,051 |
| | 1,265 |
|
| Indirect reimbursements (system services fees) | 1,365 |
| | 582 |
| | 3,948 |
| | 1,353 |
|
| Direct reimbursements | 2,835 |
| | 2,770 |
| | 8,873 |
| | 7,066 |
|
| Total revenues from franchised and managed hotels | $ | 5,551 |
| | $ | 4,216 |
| | $ | 16,844 |
| | $ | 10,559 |
|
Outstanding Contract Liabilities
Contract liabilities relate to advance deposits and deferred revenue with respect to owned hotels and, with respect to franchised hotels, advance consideration received, such as initial franchise fees paid when a franchise agreement is executed and certain system implementation fees paid at the time of installation. Contract liabilities are included in accounts payable and accrued liabilities on the accompanying condensed consolidated balance sheets. The following table presents outstanding contract liabilities as of September 30, 2019 and January 1, 2019, and the amount of outstanding January 1, 2019 contract liabilities recognized as revenue during the three and nine months ended September 30, 2019 (in thousands):
|
| | | | | | | |
| | Outstanding Contract Liabilities | | Outstanding Contract Liabilities as of January 1, 2019 Recognized as Revenue |
| As of September 30, 2019 | $ | 19,327 |
| | |
| As of January 1, 2019 | 13,829 |
| | |
| For the three months ended September 30, 2019 | | | $ | 346 |
|
| For the nine months ended September 30, 2019 | | | 8,961 |
|
Performance Obligations
As of September 30, 2019, $14.0 million of the outstanding contract liabilities related to owned hotels and $5.3 million related to franchised hotels. The Company does not estimate revenues expected to be recognized related to unsatisfied performance obligations for royalty fees, system service fees or management fees, as they are considered either sales-based fees or allocated to wholly unsatisfied performance obligations in a series. Performance obligations related to owned hotels are expected to be satisfied within less than one year. Performance obligations related to franchised hotels are expected to be satisfied over the term of the respective franchise agreements, which are typically 20 years.
The Company’s operating segments are components of the business which are managed discretely and for which discrete financial information is reviewed regularly by its chief operating decision maker to assess performance and make decisions regarding the allocation of resources. The Company’s operating and reportable segments are defined as follows:
| |
| • | Owned hotels—Earnings are derived from the operation of owned hotel properties and include room and other hotel revenues. |
| |
| • | Franchise and management—Earnings are derived from fees under various franchise and management agreements with third parties. These contracts provide the Company the ability to earn compensation for licensing the Extended Stay America brand name, providing access to shared system-wide platforms and/or management services. |
The performance of the Company’s operating segments is evaluated primarily on income from operations. Selected financial data is provided below (in thousands):
|
| | | | | | | | | | | | | | | | |
| | Three Months Ended September 30, | | Nine Months Ended
September 30, | |
| | 2019 | | 2018 | | 2019 | | 2018 | |
| Revenues: | | | | | | | | |
| Owned hotels | $ | 327,144 |
| | $ | 346,861 |
| | $ | 917,177 |
| | $ | 974,786 |
| |
Franchise and management (1) | 2,332 |
| | 1,901 |
| | 6,774 |
| | 5,062 |
| |
| Total segment revenues | 329,476 |
| | 348,762 |
| | 923,951 |
| | 979,848 |
| |
Corporate and other (2) | 18,506 |
| | 19,471 |
| | 57,724 |
| | 61,601 |
| |
Other revenues from franchised and managed properties(3) | 4,200 |
| | 3,352 |
| | 12,821 |
| | 8,419 |
| |
Intersegment eliminations (4) | (19,487 | ) | | (20,509 | ) | | (60,475 | ) | | (64,524 | ) | |
| Total | $ | 332,695 |
| | $ | 351,076 |
| | $ | 934,021 |
| | $ | 985,344 |
| |
| | | | | | | | | |
| Income (loss) from operations: | | | | | | | | |
| Owned hotels | $ | 105,777 |
| (5) | $ | 124,848 |
| (6) | $ | 280,125 |
| (5) | $ | 315,994 |
| (7) |
Franchise and management (1) | 2,332 |
| | 1,901 |
| | 6,774 |
| | 5,062 |
| |
| Total segment income from operations | 108,109 |
| | 126,749 |
| | 286,899 |
| | 321,056 |
| |
Corporate and other (2) | (7,243 | ) | | (5,190 | ) | | (20,607 | ) | | (18,018 | ) | |
Other expenses from franchised and managed properties, net(3) | (499 | ) | | (97 | ) | | (1,521 | ) | | (343 | ) | |
| Total | $ | 100,367 |
| | $ | 121,462 |
| | $ | 264,771 |
| | $ | 302,695 |
| |
_________________________________
| |
| (1) | Includes intellectual property fees charged to the owned hotels segment of $1.0 million and $2.8 million for the three and nine months ended September 30, 2019, respectively, and $1.0 million and $2.9 million for the three and nine months ended September 30, 2018, respectively, that are eliminated in the condensed consolidated statements of operations. |
| |
| (2) | Includes revenues generated and operating expenses incurred in connection with the overall support of owned, franchised and managed hotels and related operations. Corporate and other revenues are comprised of management fees earned by and cost reimbursements charged to the owned hotels segment that are eliminated in the condensed consolidated statements of operations. |
| |
| (3) | Includes direct reimbursement of specific costs incurred under franchise and management agreements that the Company is reimbursed for on a dollar-for-dollar basis as well as indirect reimbursement of certain costs incurred associated with the Company’s shared platform (i.e., system services) (see Note 2). |
| |
| (4) | Includes management fees, intellectual property fees and other cost reimbursements charged to the owned hotels segment that are eliminated in the condensed consolidated statements of operations. |
| |
| (5) | Includes impairment charge of $2.7 million. |
| |
| (6) | Includes gain on sale of hotel properties of $3.5 million. |
| |
| (7) | Includes impairment charges of $43.6 million and gain on sale of hotel properties of $41.6 million. |
Total assets for each of the Company’s operating segments are provided below (in thousands):
|
| | | | | | | |
| | September 30, 2019 | | December 31, 2018 |
| Assets: | | | |
| Owned hotels | $ | 3,728,423 |
| | $ | 3,643,603 |
|
| Franchise and management | 12,793 |
| | 14,634 |
|
| Total segment assets | 3,741,216 |
| | 3,658,237 |
|
| Corporate and other | 454,239 |
| | 308,181 |
|
| Intersegment eliminations | (40,078 | ) | | (42,208 | ) |
| Total | $ | 4,155,377 |
| | $ | 3,924,210 |
|
Total capital expenditures for each of the Company's operating segments are provided below (in thousands):
|
| | | | | | | |
| | Nine Months Ended
September 30, |
| | 2019 | | 2018 |
| Capital Expenditures: | | | |
| Owned hotels | $ | 177,214 |
| | $ | 146,445 |
|
| Franchise and management | — |
| | 250 |
|
| Total segment capital expenditures | 177,214 |
| | 146,695 |
|
| Corporate and other | 799 |
| | 842 |
|
| Total | $ | 178,013 |
| | $ | 147,537 |
|
The Corporation’s taxable income includes the taxable income of its wholly-owned subsidiaries and distribution income related to its 58% ownership of ESH REIT.
ESH REIT has elected to be taxed and expects to continue to qualify as a real estate investment trust (“REIT”) under Sections 856 through 860 of the Internal Revenue Code of 1986, as amended (the “Code”). A REIT is a legal entity that holds real estate assets and is generally not subject to federal and state income taxes. In order to maintain qualification as a REIT, ESH REIT is required to distribute at least 90% of its taxable income, excluding net capital gain, to its shareholders each year. In addition, ESH REIT must meet a number of complex organizational and operational requirements. If ESH REIT were to fail to qualify as a REIT in any taxable year, it would be subject to federal income taxes at regular corporate rates and generally would be precluded from qualifying as a REIT for the subsequent four taxable years following the year during which it lost its REIT qualification. ESH REIT intends to distribute its taxable income to the extent necessary to optimize its tax efficiency including, but not limited to, maintaining its REIT status, while retaining sufficient capital for its ongoing needs. Even in qualifying as a REIT, ESH REIT may be subject to state and local taxes in certain jurisdictions, and is subject to federal income and excise taxes on undistributed income.
The Company recorded a provision for federal, state and foreign income taxes of $10.5 million for the three months ended September 30, 2019, an effective tax rate of 16.5%, as compared with a provision of $15.0 million for the three months ended September 30, 2018, an effective rate of 16.6%. The Company recorded a provision for federal, state and foreign income taxes of $27.8 million for the nine months ended September 30, 2019, an effective tax rate of 16.5%, as compared with a provision of $35.2 million for the nine months ended September 30, 2018, an effective rate of 17.0%. The Company’s effective rate differs from the federal statutory rate of 21% primarily due to ESH REIT’s status as a REIT under the provisions of the Code.
The Company’s income tax returns for the years 2016 to present are subject to examination by the Internal Revenue Service (“IRS”) and other tax returns for the years 2014 to present are subject to examination by other taxing authorities. As of September 30, 2019, a subsidiary of ESH REIT was under examination by the Canada Revenue Agency for tax years 2014 through 2017. As the examination is still in process, the timing of the resolution and any payments that may be required cannot be determined at this time. The Company believes that, to the extent a liability may exist, it is appropriately reserved as of September 30, 2019.
| |
| 12. | COMMITMENTS AND CONTINGENCIES |
Lease Commitments—The Company is a tenant under long-term ground leases at 5 of its hotel properties, including 1 hotel site for which development is in process. NaN of these leases are operating leases and 2 are finance leases. The ground lease agreements terminate at various dates between 2023 and 2096 and several of the agreements include multiple renewal options for generally five or ten year periods. The Company is also a tenant under an operating lease for its corporate office, which terminates in August 2021 and includes renewal options for 2 five-year terms. As the Company is reasonably certain that it will exercise the options to extend its ground leases, fixed payments associated with the extensions are included in the measurement of related right-of-use assets and lease liabilities. Payments associated with the option to extend the corporate office lease are not included in the measurement of the right-of-use asset and lease liability, as the associated payments cannot be reasonably estimated.
Operating lease costs related to ground leases are included in hotel operating expenses, while operating lease costs related to the Company’s office lease are included in general and administrative expenses, in the condensed consolidated statements of
operations. Finance lease interest costs are included in interest expense, net in the condensed consolidated statements of operations (see Note 7) or, when pertaining to assets under development, are capitalized and included in property and equipment, net on the condensed consolidated balance sheets (see Note 5). As the Company’s finance lease right-of-use assets pertain to land and land under development, and as the Company elected the practical expedient to retain prior lease classification upon adoption of ASC 842, Leases, 0 amortization costs related to finance leases were incurred during the three and nine months ended September 30, 2019. The Company has no variable lease costs or short-term leases.
For the three and nine months ended September 30, 2019, the components of the Company’s total lease costs are as follows (in thousands):
|
| | | | | | | |
| | Three Months Ended
September 30, 2019 | | Nine Months Ended
September 30, 2019 |
| Operating lease costs | $ | 794 |
| | $ | 2,332 |
|
| Finance lease costs - interest | 61 |
| | 183 |
|
| Total lease costs | 855 |
| | 2,515 |
|
The Company’s right-of-use assets and lease liabilities are as follows (in thousands):
|
| | | | | | | |
| | September 30, 2019 | | December 31, 2018(4) |
| Right-of-use assets: | | | |
Operating(1) | $ | 5,429 |
| | $ | — |
|
Finance(2) | 3,979 |
| | 3,843 |
|
| | | | |
| Lease liabilities: | | | |
Operating(3) | 13,091 |
| | — |
|
| Finance | 3,410 |
| | 3,360 |
|
_________________________________
| |
| (1) | Included in other assets on the accompanying condensed consolidated balance sheets. |
| |
| (2) | Included in property and equipment, net on the accompanying condensed consolidated balance sheets. |
| |
| (3) | Included in accounts payable and accrued liabilities on the accompanying condensed consolidated balance sheets. |
| |
| (4) | Finance lease right-of-use assets and liabilities as of December 31, 2018, were previously classified as capital lease assets and liabilities under ASC 840, Leases. |
Maturities of lease liabilities as of September 30, 2019, are as follows (in thousands):
|
| | | | | | | | |
| Years Ending December 31, | | Operating Leases | | Finance Leases |
| Remainder of 2019 | | 705 |
| | 90 |
|
| 2020 | | 2,899 |
| | 386 |
|
| 2021 | | 2,220 |
| | 395 |
|
| 2022 | | 806 |
| | 397 |
|
| 2023 | | 545 |
| | 400 |
|
| 2024 | | 503 |
| | 402 |
|
| Thereafter | | 77,594 |
| | 3,100 |
|
| Total | | $ | 85,272 |
| | $ | 5,170 |
|
| | | | | |
| Total discounted lease liability | | $ | 13,091 |
| | $ | 3,410 |
|
| Difference between undiscounted cash flows and discounted cash flows | | $ | 72,181 |
| | $ | 1,760 |
|
| | | | | |
| Weighted-average remaining lease term | | 41 years |
| | 12 years |
|
| Weighted-average discount rate | | 6.3 | % | | 7.0 | % |
Future minimum lease payments as of December 31, 2018, disclosed in accordance with ASC 840, Leases, were as follows (in thousands):
|
| | | | | | | |
| Years Ending December 31, | Operating Leases | | Finance Leases |
| 2019 | $ | 2,779 |
| | $ | 351 |
|
| 2020 | 2,899 |
| | 375 |
|
| 2021 | 2,220 |
| | 384 |
|
| 2022 | 806 |
| | 386 |
|
| 2023 | 545 |
| | 387 |
|
| Thereafter | 78,097 |
| | 3,340 |
|
| Total | $ | 87,346 |
| | $ | 5,223 |
|
The Company’s leases do not contain residual value guarantees and do not contain restrictions with respect to incurring additional financial obligations or dividends. As of September 30, 2019, the Company does not have any material leases that have not yet commenced.
Letter of Credit—As of September 30, 2019, the Company had 1 outstanding letter of credit, issued by the Corporation, for $0.2 million, which is collateralized by the Corporation Revolving Credit Facility.
Legal Contingencies—As of September 30, 2019, 6 purported class action lawsuits in California have been filed against the Company. The complaints allege, among other things, failure to provide meal and rest periods, wage and hour violations and violations of the Fair Credit Reporting Act. The complaints seek, among other relief, collective and class certification of the lawsuits, unspecified damages, costs and expenses, including attorneys’ fees, and such other relief as the Court might find just and proper. The Company believes it has meritorious defenses and is prepared to vigorously defend the lawsuits.
With respect to the meal and rest period and the wage and hour violations alleged in the lawsuits described above, although the Company believes it is reasonably possible that it may incur losses associated with such matters, it is not possible to estimate the amount of loss or range of loss, if any, that might result from adverse judgments, settlements or other resolution based on the early stage of these lawsuits, the uncertainty as to the certification of a class or classes and the size of any certified class, if applicable, and the lack of resolution of significant factual and legal issues. However, depending on the amount and timing, an unfavorable resolution of some or all of these lawsuits could have a material adverse effect on the Company’s condensed consolidated financial statements, results of operations or liquidity in a future period.
With respect to the Fair Credit Reporting Act violations alleged in the lawsuits described above, the parties reached a tentative settlement agreement in May 2019, which is subject to certain conditions, including court approval. During the nine months ended September 30, 2019, the Company recorded a payable and a corresponding insurance receivable for the amount of the tentative settlement. The expected resolution of the alleged Fair Credit Reporting Act violations in the lawsuits did not have, and is not expected to have, a material adverse impact on the Company’s condensed consolidated financial statements, results of operations or liquidity.
The Company is not a party to any additional litigation or claims, other than routine matters arising in the ordinary course of business that are incidental to the operation of the business of the Company. The Company believes that the results of all additional litigation and claims, individually or in the aggregate, will not have a material adverse effect on its condensed consolidated financial statements, results of operations or liquidity.
| |
| 13. | EQUITY-BASED COMPENSATION |
The Corporation and ESH REIT each maintain a long-term incentive plan (“LTIP”), as amended and restated in 2015, approved by their shareholders. Under the LTIPs, the Corporation and ESH REIT may issue to eligible employees or directors restricted stock units (“RSUs”) or other equity-based awards, in respect of Paired Shares, with service, performance or market vesting conditions. The aggregate number of Paired Shares that may be the subject of awards under the LTIPs shall not exceed 8.0 million, of which no more than 4.0 million may be granted as incentive stock options. Each of the Corporation’s and ESH REIT’s LTIP has a share reserve of an equivalent number of shares of Corporation common stock and ESH REIT Class B common stock. As of September 30, 2019, 4.5 million Paired Shares were available for future issuance under the LTIPs.
Equity-based compensation expense is recognized by amortizing the grant-date fair value on a straight-line basis over the requisite service period of each award. A portion of the grant-date fair value of all equity-based awards is allocated to a share of
Corporation common stock and a portion is allocated to a share of ESH REIT Class B common stock. Equity-based compensation expense, which is included in general and administrative expenses in the accompanying condensed consolidated statements of operations, was $1.9 million and $1.8 million for the three months ended September 30, 2019 and 2018, respectively, and $6.1 million and $6.0 million for the nine months ended September 30, 2019 and 2018, respectively.
As of September 30, 2019, unrecognized compensation expense related to outstanding equity-based awards and the related weighted-average period over which it is expected to be recognized subsequent to September 30, 2019, is presented in the following table. Total unrecognized compensation expense will be adjusted for forfeitures and the achievement of certain performance conditions.
|
| | | | | |
| | Unrecognized Compensation Expense Related to Outstanding Awards (in thousands) | | Remaining Weighted-Average Amortization Period (in years) |
| RSUs with service vesting conditions | $ | 7,674 |
| | 1.3 |
| RSUs with performance vesting conditions | 52 |
| | 0.3 |
| RSUs with market vesting conditions | 4,122 |
| | 1.9 |
| Total unrecognized compensation expense | $ | 11,848 |
| | |
RSU activity during the nine months ended September 30, 2019, was as follows:
|
| | | | | | | | | | | | | | | | | | | | |
| | | | | | Performance-Based Awards |
| | Service-Based Awards | | Performance Vesting | | Market Vesting |
| | Number of RSUs (in thousands) | | Weighted- Average Grant- Date Fair Value | | Number of RSUs (in thousands) | | Weighted- Average Grant- Date Fair Value | | Number of RSUs (in thousands) | | Weighted- Average Grant- Date Fair Value(1) |
| Outstanding at January 1, 2019 | 523 |
| | $ | 18.42 |
| | 32 |
| | $ | 19.52 |
| | 297 |
| | $ | 16.79 |
|
| Granted | 394 |
| | $ | 17.16 |
| | 24 |
| | $ | 17.20 |
| | 247 |
| | $ | 15.35 |
|
| Settled | (249 | ) | | $ | 18.03 |
| | (33 | ) | | $ | 19.46 |
| | (53 | ) | | $ | 12.36 |
|
| Forfeited | (31 | ) | | $ | 17.85 |
| | (1 | ) | | $ | 17.20 |
| | (30 | ) | | $ | 16.37 |
|
| Outstanding at September 30, 2019 | 637 |
| | $ | 17.82 |
| | 22 |
| | $ | 17.20 |
| | 461 |
| | $ | 16.55 |
|
| | | | | | | | | | | | |
| Vested at September 30, 2019 | 11 |
| | $ | 17.03 |
| | — |
| | $ | — |
| | — |
| | $ | — |
|
| Nonvested at September 30, 2019 | 626 |
| | $ | 17.83 |
| | 22 |
| | $ | 17.20 |
| | 461 |
| | $ | 16.55 |
|
| |
| (1) | An independent third-party valuation was performed contemporaneously with the issuance of grants. |
The grant-date fair value of awards with service vesting conditions is based on the closing price of a Paired Share on the date of grant. Service-based awards vest over a period of one to three years, subject to the grantee’s continued employment or service. The grant-date fair value of awards with performance vesting conditions is based on the closing price of a Paired Share on the date of grant. Equity-based compensation expense with respect to these awards is adjusted over the vesting period to reflect the probability of achievement of performance targets defined in the award agreements. These awards vest over a one-year period, subject to the grantee’s continued employment, with the ability to earn Paired Shares in a range of 0% to 200% of the awarded number of RSUs based on the achievement of defined performance targets. The grant-date fair value of awards with market vesting conditions is based on an independent third-party valuation. These awards vest at the end of a three-year period, subject to the grantee’s continued employment, with the ability to earn Paired Shares in a range of 0% to 150% of the awarded number of RSUs based on the total shareholder return of a Paired Share relative to the total shareholder return of other publicly traded companies identified in the award agreements. During the nine months ended September 30, 2019, the grant-date fair value of awards with market vesting conditions was calculated using a Monte Carlo simulation model with the following key assumptions:
|
| | |
| Expected holding period | 2.90 years |
|
| Risk-free rate of return | 2.46 | % |
| Expected dividend yield | 5.12 | % |
On November 6, 2019, the Board of Directors of the Corporation declared a cash distribution of $0.12 per share for the third quarter of 2019 on its common stock. The distribution is payable on December 4, 2019 to shareholders of record as of November 20, 2019. Also on November 6, 2019, the Board of Directors of ESH REIT declared a cash distribution of $0.11 per share for the third quarter of 2019 on its Class A and Class B common stock. This distribution is also payable on December 4, 2019 to shareholders of record as of November 20, 2019.
Subsequent to September 30, 2019, the Corporation and ESH REIT repurchased and retired their respective portion of 1.7 million Paired Shares for $15.6 million and $8.9 million, including transaction fees, respectively. As of October 31, 2019, $180.8 million is remaining under the Paired Share repurchase program.
ESH HOSPITALITY, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
AS OF SEPTEMBER 30, 2019 AND DECEMBER 31, 2018
(In thousands, except share and per share data)
(Unaudited)
|
| | | | | | | |
| | September 30,
2019 | | December 31,
2018 |
| ASSETS | | | |
| PROPERTY AND EQUIPMENT - Net of accumulated depreciation of $1,332,796 and $1,215,899 | $ | 3,479,649 |
| | $ | 3,467,645 |
|
| CASH AND CASH EQUIVALENTS | 368,338 |
| | 178,538 |
|
| RENTS RECEIVABLE FROM EXTENDED STAY AMERICA, INC. (Note 10) | 15,780 |
| | 4,098 |
|
| DEFERRED RENTS RECEIVABLE FROM EXTENDED STAY AMERICA, INC. (Note 10) | 24,069 |
| | 8,637 |
|
| INTANGIBLE ASSETS - Net of accumulated amortization of $460 and $36 | 8,106 |
| | 2,760 |
|
| GOODWILL | 44,012 |
| | 44,012 |
|
| OTHER ASSETS | 25,767 |
| | 22,692 |
|
| TOTAL ASSETS | $ | 3,965,721 |
| | $ | 3,728,382 |
|
| LIABILITIES AND EQUITY | | | |
| LIABILITIES: | | | |
Term loan facility payable - Net of unamortized deferred financing costs and debt discount
of $11,386 and $14,879 | $ | 619,523 |
| | $ | 1,121,713 |
|
Senior notes payable - Net of unamortized deferred financing costs and debt discount
of $37,156 and $26,206 | 2,012,844 |
| | 1,273,794 |
|
| Finance lease liabilities | 3,410 |
| | 3,360 |
|
| Unearned rental revenues from Extended Stay America, Inc. (Note 10) | 165,273 |
| | 37,506 |
|
| Due to Extended Stay America, Inc., net (Note 10) | 11,973 |
| | 12,177 |
|
| Accounts payable and accrued liabilities | 97,711 |
| | 64,658 |
|
| Deferred tax liabilities | 16 |
| | 20 |
|
| Total liabilities | 2,910,750 |
| | 2,513,228 |
|
| COMMITMENTS AND CONTINGENCIES (Note 11) |
| |
|
| EQUITY: | | | |
| Common stock - Class A: $0.01 par value, 4,300,000,000 shares authorized, 250,493,583 shares issued and outstanding; Class B: $0.01 par value, 7,800,000,000 shares authorized, 184,501,128 and 188,219,605 shares issued and outstanding | 4,350 |
| | 4,387 |
|
| Additional paid in capital | 1,050,136 |
| | 1,090,809 |
|
| Preferred stock - no par value, $1,000 liquidation value, 125 shares authorized, issued and outstanding | 73 |
| | 73 |
|
| (Accumulated deficit) retained earnings | (557 | ) | | 114,096 |
|
| Accumulated other comprehensive income | 969 |
| | 5,789 |
|
| Total equity | 1,054,971 |
| | 1,215,154 |
|
| TOTAL LIABILITIES AND EQUITY | $ | 3,965,721 |
| | $ | 3,728,382 |
|
See accompanying notes to condensed consolidated financial statements.
ESH HOSPITALITY, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2019 AND 2018
(In thousands, except per share data)
(Unaudited)
|
| | | | | | | | | | | | | | | |
| | Three Months Ended
September 30, | | Nine Months Ended
September 30, |
| | 2019 | | 2018 | | 2019 | | 2018 |
REVENUES - Rental revenues from Extended Stay America, Inc. (Note 10) | $ | 139,455 |
| | $ | 142,977 |
| | $ | 375,562 |
| | $ | 367,840 |
|
| OPERATING EXPENSES: | | | | | | | |
| Hotel operating expenses | 21,577 |
| | 22,621 |
| | 64,822 |
| | 64,677 |
|
| General and administrative expenses (Note 10) | 3,477 |
| | 3,393 |
| | 11,002 |
| | 11,705 |
|
| Depreciation and amortization | 48,885 |
| | 51,748 |
| | 144,884 |
| | 158,566 |
|
| Total operating expenses | 73,939 |
| | 77,762 |
| | 220,708 |
| | 234,948 |
|
| (LOSS) GAIN ON SALE OF HOTEL PROPERTIES (Note 4) | — |
| | (25,657 | ) | | — |
| | 9,753 |
|
| OTHER INCOME | — |
| | 20 |
| | 15 |
| | 499 |
|
| INCOME FROM OPERATIONS | 65,516 |
| | 39,578 |
| | 154,869 |
| | 143,144 |
|
| OTHER NON-OPERATING EXPENSE (INCOME) | 79 |
| | (216 | ) | | (194 | ) | | 50 |
|
| INTEREST EXPENSE, NET | 36,882 |
| | 30,931 |
| | 97,083 |
| | 94,710 |
|
| INCOME BEFORE INCOME TAX EXPENSE | 28,555 |
| | 8,863 |
| | 57,980 |
| | 48,384 |
|
| INCOME TAX EXPENSE | 88 |
| | 42 |
| | 98 |
| | 792 |
|
| NET INCOME | $ | 28,467 |
| | $ | 8,821 |
| | $ | 57,882 |
| | $ | 47,592 |
|
| NET INCOME PER ESH HOSPITALITY, INC. COMMON SHARE: | | | | | | | |
| Class A - basic | $ | 0.07 |
| | $ | 0.02 |
| | $ | 0.13 |
| | $ | 0.11 |
|
| Class A - diluted | $ | 0.07 |
| | $ | 0.02 |
| | $ | 0.13 |
| | $ | 0.11 |
|
| Class B - basic | $ | 0.07 |
| | $ | 0.02 |
| | $ | 0.13 |
| | $ | 0.11 |
|
| Class B - diluted | $ | 0.07 |
| | $ | 0.02 |
| | $ | 0.13 |
| | $ | 0.11 |
|
| WEIGHTED-AVERAGE ESH HOSPITALITY, INC. COMMON SHARES OUTSTANDING: | | | | | | | |
| Class A - basic | 250,494 |
| | 250,494 |
| | 250,494 |
| | 250,494 |
|
| Class A - diluted | 250,494 |
| | 250,494 |
| | 250,494 |
| | 250,494 |
|
| Class B - basic | 186,844 |
| | 188,822 |
| | 188,063 |
| | 189,681 |
|
| Class B - diluted | 187,015 |
| | 189,253 |
| | 188,317 |
| | 190,111 |
|
See accompanying notes to condensed consolidated financial statements.
ESH HOSPITALITY, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2019 AND 2018
(In thousands)
(Unaudited)
|
| | | | | | | | | | | | | | | |
| | Three Months Ended
September 30, | | Nine Months Ended
September 30, |
| | 2019 | | 2018 | | 2019 | | 2018 |
| NET INCOME | $ | 28,467 |
| | $ | 8,821 |
| | $ | 57,882 |
| | $ | 47,592 |
|
| OTHER COMPREHENSIVE INCOME, NET OF TAX: | | | | | | | |
| INTEREST RATE CASH FLOW HEDGE (LOSS) GAIN, NET OF TAX OF $0, $0, $2, $(12) | (806 | ) | | (184 | ) | | (4,820 | ) | | 1,953 |
|
| |
|
| | | | | | |
| COMPREHENSIVE INCOME | $ | 27,661 |
| | $ | 8,637 |
| | $ | 53,062 |
| | $ | 49,545 |
|
See accompanying notes to condensed consolidated financial statements.
ESH HOSPITALITY, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN EQUITY
FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2019 AND 2018
(In thousands, except preferred stock shares and per share data)
(Unaudited)
|
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Common Stock | | Preferred Stock | | Additional
Paid in Capital | | Retained
Earnings (Accumulated Deficit) | | Accumulated
Other
Comprehensive
Income | | Total
Equity |
| | Class A
Shares | | Class B
Shares | | Amount | | Shares | | Amount | | | | |
| BALANCE - July 1, 2018 | 250,494 |
| | 188,994 |
| | $ | 4,395 |
| | 125 |
| | $ | 73 |
| | $ | 1,089,926 |
| | $ | 69,835 |
| | $ | 8,511 |
| | $ | 1,172,740 |
|
| Net income | — |
| | — |
| | — |
| | — |
| | — |
| | — |
| | 8,821 |
| | — |
| | 8,821 |
|
| Interest rate cash flow hedge loss, net of tax | — |
| | — |
| | — |
| | — |
| | — |
| | — |
| | — |
| | (184 | ) | | (184 | ) |
| Repurchase of Class B common stock | — |
| | (559 | ) | | (6 | ) | | — |
| | — |
| | — |
| | (4,236 | ) | | — |
| | (4,242 | ) |
| Common distributions - $0.18 per Class A and Class B common share | — |
| | — |
| | — |
| | — |
| | — |
| | — |
| | (79,260 | ) | | — |
| | (79,260 | ) |
| Preferred distributions | — |
| | — |
| | — |
| | — |
| | — |
| | — |
| | (4 | ) | | — |
| | (4 | ) |
| Equity-based compensation | — |
| | 82 |
| | 1 |
| | — |
| | — |
| | 37 |
| | — |
| | — |
| | 38 |
|
| BALANCE - September 30, 2018 | 250,494 |
| | 188,517 |
| | $ | 4,390 |
| | 125 |
| | $ | 73 |
| | $ | 1,089,963 |
| | $ | (4,844 | ) | | $ | 8,327 |
| | $ | 1,097,909 |
|
|
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Common Stock | | Preferred Stock | | Additional
Paid in Capital | | Retained
Earnings (Accumulated Deficit) | | Accumulated
Other
Comprehensive Income | | Total
Equity |
| | Class A
Shares | | Class B
Shares | | Amount | | Shares | | Amount | | | | |
| BALANCE - July 1, 2019 | 250,494 |
| | 188,412 |
| | $ | 4,389 |
| | 125 |
| | $ | 73 |
| | $ | 1,091,845 |
| | $ | 15,919 |
| | $ | 1,775 |
| | $ | 1,114,001 |
|
| Net income | — |
| | — |
| | — |
| | — |
| | — |
| | — |
| | 28,467 |
| | — |
| | 28,467 |
|
| Interest rate cash flow hedge loss, net of tax | — |
| | — |
| | — |
| | — |
| | — |
| | — |
| | — |
| | (806 | ) | | (806 | ) |
| Repurchase of Class B common stock | — |
| | (3,993 | ) | | (40 | ) | | — |
| | — |
| | — |
| | (20,847 | ) | | — |
| | (20,887 | ) |
| Common distributions - $0.15 per Class A and Class B common share | — |
| | — |
| | — |
| | — |
| | — |
| | (41,832 | ) | | (24,092 | ) | | — |
| | (65,924 | ) |
| Preferred distributions | — |
| | — |
| | — |
| | — |
| | — |
| | — |
| | (4 | ) | | — |
| | (4 | ) |
| Equity-based compensation | — |
| | 82 |
| | 1 |
| | — |
| | — |
| | 123 |
| | — |
| | — |
| | 124 |
|
| BALANCE - September 30, 2019 | 250,494 |
| | 184,501 |
| | $ | 4,350 |
| | 125 |
| | $ | 73 |
| | $ | 1,050,136 |
| | $ | (557 | ) | | $ | 969 |
| | $ | 1,054,971 |
|
|
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Common Stock | | Preferred Stock | | Additional Paid in Capital | | Retained
Earnings (Accumulated Deficit) | | Accumulated Other Comprehensive Income | | Total Equity |
| | Class A Shares | | Class B Shares | | Amount | | Shares | | Amount | | | | |
| BALANCE - January 1, 2018 | 250,494 |
| | 192,100 |
| | $ | 4,426 |
| | 125 |
| | $ | 73 |
| | $ | 1,088,793 |
| | $ | 191,964 |
| | $ | 7,038 |
| | $ | 1,292,294 |
|
| Net income | — |
| | — |
| | — |
| | — |
| | — |
| | — |
| | 47,592 |
| | — |
| | 47,592 |
|
| Cumulative effect adjustment of ASU 2017-12 | — |
| | — |
| | — |
| | — |
| | — |
| | — |
| | 664 |
| | (664 | ) | | — |
|
| Interest rate cash flow hedge gain, net of tax | — |
| | — |
| | — |
| | — |
| | — |
| | — |
| | — |
| | 1,953 |
| | 1,953 |
|
| Repurchase of Class B common stock | — |
| | (3,987 | ) | | (40 | ) | | — |
| | — |
| | — |
| | (28,939 | ) | | — |
| | (28,979 | ) |
| Common distributions - $0.49 per Class A and Class B common share | — |
| | — |
| | — |
| | — |
| | — |
| | — |
| | (216,113 | ) | | — |
| | (216,113 | ) |
| Preferred distributions | — |
| | — |
| | — |
| | — |
| | — |
| | — |
| | (12 | ) | | — |
| | (12 | ) |
| Equity-based compensation | — |
| | 404 |
| | 4 |
| | — |
| | — |
| | 1,170 |
| | — |
| | — |
| | 1,174 |
|
| BALANCE - September 30, 2018 | 250,494 |
| | 188,517 |
| | $ | 4,390 |
| | 125 |
| | $ | 73 |
| | $ | 1,089,963 |
| | $ | (4,844 | ) | | $ | 8,327 |
| | $ | 1,097,909 |
|
|
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Common Stock | | Preferred Stock | | Additional Paid in Capital | | Retained
Earnings (Accumulated Deficit) | | Accumulated Other Comprehensive Income | | Total Equity |
| | Class A Shares | | Class B Shares | | Amount | | Shares | | Amount | | | | |
| BALANCE - January 1, 2019 | 250,494 |
| | 188,219 |
| | $ | 4,387 |
| | 125 |
| | $ | 73 |
| | $ | 1,090,809 |
| | $ | 114,096 |
| | $ | 5,789 |
| | $ | 1,215,154 |
|
| Net income | — |
| | — |
| | — |
| | — |
| | — |
| | — |
| | 57,882 |
| | — |
| | 57,882 |
|
| Interest rate cash flow hedge loss, net of tax | — |
| | — |
| | — |
| | — |
| | — |
| | — |
| | — |
| | (4,820 | ) | | (4,820 | ) |
| Repurchase of Class B common stock | — |
| | (3,993 | ) | | (40 | ) | | — |
| | — |
| | — |
| | (20,847 | ) | | — |
| | (20,887 | ) |
| Common distributions - $0.44 per Class A and Class B common share | — |
| | — |
| | — |
| | — |
| | — |
| | (41,832 | ) | | (151,676 | ) | | — |
| | (193,508 | ) |
| Preferred distributions | — |
| | — |
| | — |
| | — |
| | — |
| | — |
| | (12 | ) | | — |
| | (12 | ) |
| Equity-based compensation | — |
| | 275 |
| | 3 |
| | — |
| | — |
| | 1,159 |
| | — |
| | — |
| | 1,162 |
|
| BALANCE - September 30, 2019 | 250,494 |
| | 184,501 |
| | $ | 4,350 |
| | 125 |
| | $ | 73 |
| | $ | 1,050,136 |
| | $ | (557 | ) | | $ | 969 |
| | $ | 1,054,971 |
|
See accompanying notes to condensed consolidated financial statements.
ESH HOSPITALITY, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2019 AND 2018
(In thousands)
(Unaudited)
|
| | | | | | | |
| | Nine Months Ended
September 30, |
| | 2019 |
| 2018 |
| OPERATING ACTIVITIES: | | | |
| Net income | $ | 57,882 |
| | $ | 47,592 |
|
| Adjustments to reconcile net income to net cash provided by operating activities: | | | |
| Depreciation and amortization | 144,884 |
| | 158,566 |
|
| Foreign currency transaction (gain) loss | (194 | ) | | 50 |
|
| Amortization and write-off of deferred financing costs and debt discount | 11,540 |
| | 6,536 |
|
| Amortization and write-off of above-market ground leases | — |
| | (240 | ) |
| Debt modification and extinguishment costs | 82 |
| | 1,183 |
|
| Loss on disposal of property and equipment | 5,037 |
| | 2,618 |
|
| Gain on sale of hotel properties | — |
| | (9,753 | ) |
| Equity-based compensation | 411 |
| | 461 |
|
| Deferred income tax expense | (5 | ) | | (14 | ) |
| Changes in assets and liabilities: | | | |
| Deferred rents receivable from Extended Stay America, Inc. | (15,432 | ) | | 21,366 |
|
| Due from (to) Extended Stay America, Inc., net | 2,222 |
| | (3,491 | ) |
| Other assets | (6,257 | ) | | (6,496 | ) |
| Unearned rental revenues/rents receivable from Extended Stay America, Inc., net | 116,085 |
| | 125,576 |
|
| Accounts payable and accrued liabilities | 31,708 |
| | 29,441 |
|
| Net cash provided by operating activities | 347,963 |
| | 373,395 |
|
| INVESTING ACTIVITIES: | | | |
| Purchases of property and equipment | (124,192 | ) | | (101,165 | ) |
| Acquisition of hotel property | — |
| | (12,733 | ) |
| Development in process payments | (42,116 | ) | | (28,414 | ) |
| Payments for intangible assets | (6,081 | ) | | — |
|
| Proceeds from sale of hotel properties | — |
| | 274,100 |
|
| Proceeds from insurance and related recoveries | 914 |
| | 4,533 |
|
| Net cash (used in) provided by investing activities | (171,475 | ) | | 136,321 |
|
| FINANCING ACTIVITIES: | | | |
| Principal payments on term loan facility | (505,683 | ) | | (69,163 | ) |
| Proceeds from issuance of senior notes | 750,000 |
| | — |
|
| Payment of deferred financing costs | (17,983 | ) | | — |
|
| Principal payments on finance leases | (86 | ) | | — |
|
| Debt modification and extinguishment costs | (82 | ) | | (1,183 | ) |
| Repurchase of Class B common stock | (20,887 | ) | | (28,979 | ) |
| Issuance of Class B common stock | 1,462 |
| | 2,700 |
|
| Common distributions | (193,421 | ) | | (216,397 | ) |
| Preferred distributions | (8 | ) | | (12 | ) |
| Net cash provided by (used in) financing activities | 13,312 |
| | (313,034 | ) |
| NET INCREASE IN CASH AND CASH EQUIVALENTS | 189,800 |
| | 196,682 |
|
| CASH AND CASH EQUIVALENTS - Beginning of period | 178,538 |
| | 54,915 |
|
| CASH AND CASH EQUIVALENTS - End of period | $ | 368,338 |
| | $ | 251,597 |
|
| SUPPLEMENTAL CASH FLOW INFORMATION: | | | |
| Cash payments for interest, excluding prepayment and other penalties, net of capitalized interest of $1,373 and $243 | $ | 68,389 |
| | $ | 70,566 |
|
| Cash payments for income taxes, net of refunds of $0 and $6 | $ | 742 |
| | $ | 645 |
|
| Operating cash payments for finance leases | $ | 183 |
| | $ | — |
|
| Operating cash payments for operating leases | $ | 532 |
| | $ | — |
|
| NONCASH INVESTING AND FINANCING ACTIVITIES: | | | |
| Capital expenditures included in due to/from Extended Stay America, Inc. and accounts payable and accrued liabilities | $ | 27,072 |
| | $ | 20,288 |
|
| Additions to finance lease right-of-use assets and liabilities | $ | 109 |
| | $ | — |
|
| Deferred financing costs included in accounts payable and accrued liabilities | $ | 2,254 |
| | $ | — |
|
| Debt modification and extinguishment costs included in accounts payable and accrued liabilities | $ | 1,006 |
| | $ | — |
|
| Common stock distributions included in accounts payable and accrued liabilities | $ | 879 |
| | $ | 697 |
|
| Net payable related to unsettled RSUs not yet settled or issued included in due to/from Extended Stay America, Inc. | $ | (32 | ) | | $ | (144 | ) |
See accompanying notes to condensed consolidated financial statements.
ESH HOSPITALITY, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
AS OF SEPTEMBER 30, 2019 AND DECEMBER 31, 2018 AND FOR THE THREE AND NINE MONTHS ENDED
SEPTEMBER 30, 2019 AND 2018
(Unaudited)
| |
| 1. | BUSINESS, ORGANIZATION AND BASIS OF CONSOLIDATION |
ESH Hospitality, Inc. (“ESH REIT”) was formed as a limited liability company in the state of Delaware on September 16, 2010 and was converted to a corporation on November 5, 2013. Extended Stay America, Inc. (the “Corporation”), the parent of ESH REIT, was incorporated in the state of Delaware on July 8, 2013. The Corporation owns, and is expected to continue to own, all of the issued and outstanding Class A common stock of ESH REIT, which, as of September 30, 2019, represents 58% of the outstanding common stock of ESH REIT.
A “Paired Share” consists of 1 share of common stock, par value $0.01 per share, of the Corporation, that is attached to and trades as a single unit with 1 share of Class B common stock, par value $0.01 per share, of ESH REIT. Each outstanding share of ESH REIT Class B common stock is attached to and trades with one share of Corporation common stock.
As of September 30, 2019 and December 31, 2018, ESH REIT and its subsidiaries owned and leased 554 hotel properties in 40 U.S. states, consisting of approximately 61,500 rooms. All hotels are leased to wholly-owned subsidiaries of the Corporation (the “Operating Lessees”).
Paired Share Repurchase Program—In December 2015, the Boards of Directors of the Corporation and ESH REIT authorized a combined Paired Share repurchase program. As a result of several increases in authorized amounts and program extensions, including a $150 million increase to the authorized amount and a program extension in August 2019, as of September 30, 2019, the combined Paired Share repurchase program authorized the Corporation and ESH REIT to purchase up to $550 million in Paired Shares through December 31, 2020. Repurchases may be made at management’s discretion from time to time in the open market, in privately negotiated transactions or by other means (including through Rule 10b5-1 trading plans). As of September 30, 2019, ESH REIT had repurchased and retired 21.3 million ESH REIT Class B common shares for $128.4 million, including transaction fees, and $205.3 million remained available under the combined Paired Share repurchase program.
Basis of Consolidation
The accompanying condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the U.S. (“U.S. GAAP”), and include the financial position, results of operations, comprehensive income, changes in equity and cash flows of ESH REIT and its consolidated subsidiaries. Changes in ownership interests in a consolidated subsidiary that do not result in a loss of control are accounted for as equity transactions. All intercompany accounts and transactions have been eliminated. With respect to the condensed consolidated balance sheets, certain prior period amounts have been reclassified for comparability to current period presentation.
| |
| 2. | SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES |
Interim Presentation—Certain information and footnote disclosures normally included in financial statements presented in accordance with U.S. GAAP have been condensed or omitted in the accompanying condensed consolidated financial statements. ESH REIT believes the disclosures made are adequate to prevent the information presented from being misleading. However, the condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements as of and for the year ended December 31, 2018, included in the combined annual report on Form 10-K filed with the U.S. Securities and Exchange Commission (“SEC”) on February 27, 2019.
The accompanying condensed consolidated financial statements reflect all adjustments (consisting only of normal and recurring items) necessary to present fairly ESH REIT’s financial position as of September 30, 2019, the results of ESH REIT’s operations, comprehensive income and changes in equity for the three and nine months ended September 30, 2019 and 2018 and cash flows for the nine months ended September 30, 2019 and 2018. Interim results are not necessarily indicative of full year performance because of acquisitions, dispositions, financing or other capital transactions and the impact of accounting for variable rental payments under lease arrangements.
Use of Estimates—The preparation of the accompanying condensed consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the amounts of assets and liabilities, disclosures of contingent assets and liabilities at the date of the financial statements, and the amounts of revenues and expenses during the reporting period. Management used significant estimates to determine the estimated useful lives of tangible assets as well as in the assessment of tangible and intangible assets for impairment and the grant-date fair value of certain equity-based awards. Actual results could differ from those estimates.
Property and Equipment—Property and equipment additions are recorded at cost. Major improvements that extend the life or utility of property or equipment are capitalized and depreciated over a period equal to the shorter of the estimated useful life of the improvement or the remaining estimated useful life of the asset. Ordinary repairs and maintenance are charged to expense as incurred. Depreciation and amortization are recorded on a straight-line basis over estimated useful lives which range from two to 49 years.
Management assesses the performance of long-lived assets for potential impairment quarterly, as well as when events or changes in circumstances indicate the carrying amount of an asset, or group of assets, may not be recoverable. Recoverability of property and equipment is measured by a comparison of the carrying amount of a hotel property or group of hotel properties (when they are grouped under ESH REIT’s leases), to the estimated future undiscounted cash flows expected to be generated by each hotel property or group of hotel properties. Impairment is recognized when estimated future undiscounted cash flows, including expected proceeds from disposition, are less than the carrying value of the hotel property or group of hotel properties. To the extent that a hotel property or group of hotel properties is impaired, the excess carrying amount over estimated fair value is recognized as an impairment charge and reduces income from operations. Fair value is determined based upon the discounted cash flows of a hotel property or group of hotel properties, bids, quoted market prices or independent appraisals, as considered necessary. The estimation of future undiscounted cash flows is inherently uncertain and relies upon assumptions regarding current and future economic and market conditions. If such conditions change, impairment charges may occur in future periods (see Note 5).
Revenue Recognition—ESH REIT’s sole source of revenues is rental revenue derived from operating leases with subsidiaries of the Corporation (i.e., all revenues are generated from agreements with related parties (see Note 10). Rental revenues are recorded on a straight-line basis as they are earned during the lease terms. Rents receivable from Extended Stay America, Inc. on the accompanying condensed consolidated balance sheets represent monthly rental amounts contractually due. Deferred rents receivable from Extended Stay America, Inc. on the accompanying condensed consolidated balance sheets represent the cumulative difference between straight-line rental revenues recognized and rental revenues contractually due. Lease rental payments received prior to rendering services are included in unearned rental revenues from Extended Stay America, Inc. on the accompanying condensed consolidated balance sheets. Variable rental revenues, specifically percentage rental revenues related to hotel revenues of the Operating Lessees, are recognized when such amounts are fixed and determinable (i.e., only when percentage rental revenue thresholds have been achieved).
Recently Issued Accounting Standards
Fair Value Measurement—In August 2018, the Financial Accounting Standards Board (“FASB”) issued an accounting standards update which modifies the disclosure requirements for fair value measurements in Topic 820, Fair Value Measurement. This update will be effective for fiscal years and interim periods within those fiscal years beginning after December 15, 2019, and may be early adopted. ESH REIT does not expect the adoption of this update to have a material effect on its condensed consolidated financial statements.
Intangibles-Goodwill and Other—Internal-Use Software—In August 2018, the FASB issued an accounting standards update which aligns the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software and hosting arrangements that include an internal-use software license. This update will be effective for fiscal years and interim periods within those fiscal years beginning after December 15, 2019, and may be early adopted. ESH REIT expects to apply this update prospectively and does not expect adoption to have a material effect on its condensed consolidated financial statements.
Compensation—Stock Compensation—In June 2018, the FASB issued an accounting standards update which expands the scope of Topic 718, Stock Compensation, to include share-based payments granted to non-employees in exchange for goods or services. The new guidance simplifies the accounting for share-based payments granted to non-employees for goods or services by aligning it with the accounting for share-based payments granted to employees, with certain exceptions. Under the new guidance, non-employee share-based payment awards included within the scope of Topic 718 will be measured at the grant-date fair value of the equity instruments. In addition, classification of non-employee share-based payment awards will be
subject to the requirements of Topic 718 unless modified after the good has been delivered and/or the service has been rendered and any other conditions necessary to earn the right to benefit from the instruments have been satisfied. This approach will eliminate the requirement to reassess classification of such awards upon vesting. ESH REIT adopted this update on January 1, 2019, using a retrospective method. The adoption of this update did not have a material effect on ESH REIT’s condensed consolidated financial statements.
Goodwill—In January 2017, the FASB issued an accounting standards update in which the guidance on testing for goodwill was updated to eliminate Step 2 in the determination on whether goodwill should be considered impaired. Annual and/or interim assessments are still required. This update will be effective for fiscal years and interim periods within fiscal years beginning after December 15, 2019, and may be adopted early. ESH REIT expects to apply this update prospectively and does not expect adoption to have a material effect on its condensed consolidated financial statements.
Leases—ASC 842, Leases, introduced a lessee model that requires a right-of-use asset and lease obligation to be presented on the balance sheet for all leases, whether operating or financing. ESH REIT adopted ASC 842 on January 1, 2019, using the modified retrospective approach with the Comparatives Under 840 Option, whereby ESH REIT applied the standard at the beginning of the period of adoption and has presented financial information for periods prior to January 1, 2019 in accordance with prior guidance. Upon adoption, ESH REIT elected practical expedients related to (i) the identification and classification of leases that commenced before the effective date, (ii) initial direct costs for leases that commenced before the effective date, (iii) the ability to use hindsight in evaluating lessee options to extend or terminate a lease or to purchase the underlying asset, (iv) land easements and (v) the evaluation of lease and non-lease components of a contract.
Implementation had no cumulative effect on retained earnings. Adoption resulted in the recognition of operating lease right-of-use assets of $2.8 million as of January 1, 2019, which included adjustments for accrued lease payments, above market lease liabilities and lease incentives, and liabilities of $9.3 million. Finance lease right-of-use assets and liabilities recognized as of January 1, 2019, included preexisting assets and liabilities of $3.8 million and $3.4 million, respectively, related to capital leases accounted for under prior guidance.
Judgement was exercised in the application of ASC 842 with respect to the determination of whether a contract contains a lease. While the ability to control and direct the use of an identified asset indicates that the contract, or portion of a contract, is a lease, a counterparty’s substantive substitution rights typically provide evidence that a lessee does not control the asset. Judgement was also exercised with respect to the determination of the discount rate used to determine the present value of lease payments. In instances in which interest rates implicit in leases are not readily determinable, ESH REIT uses its incremental borrowing rate. The substantial majority of widely available market maturities and asset-specific risk spreads may not match the underlying contract and, as such, borrowing rates and risk spreads are estimated based on the contract’s term, the counterparty’s security and other characteristics of the identified asset.
Under ASC 842, lessor accounting for leases did not substantially change from previous guidance; however, the standard introduced certain modifications to conform lessor accounting with the lessee model, further defined certain lease and non-lease components and changed the definition of initial direct costs of leases. The adoption of ASC 842 did not have a material effect on ESH REIT’s revenue recognition or related disclosures.
Basic net income per share is computed by dividing net income available to Class A and Class B common shareholders by the weighted-average number of shares of unrestricted Class A and Class B common stock outstanding, respectively. Diluted net income per share is computed by dividing net income available to Class A and Class B common shareholders, as adjusted for potentially dilutive securities, by the weighted-average number of shares of unrestricted Class A and Class B common stock outstanding, respectively, plus other potentially dilutive securities. Dilutive securities include certain equity-based awards and are included in the calculation provided that the inclusion of such securities is not anti-dilutive.
The calculations of basic and diluted net income per share, including a reconciliation of the numerators and denominators, are as follows (in thousands, except per share data):
|
| | | | | | | | | | | | | | | |
| | Three Months Ended
September 30, | | Nine Months Ended
September 30, |
| | 2019 | | 2018 | | 2019 | | 2018 |
| Numerator: | | | | | | | |
| Net income | $ | 28,467 |
| | $ | 8,821 |
| | $ | 57,882 |
| | $ | 47,592 |
|
| Less preferred dividends | (4 | ) | | (4 | ) | | (12 | ) | | (12 | ) |
| Net income available to ESH Hospitality, Inc. common shareholders | $ | 28,463 |
| | $ | 8,817 |
| | $ | 57,870 |
| | $ | 47,580 |
|
| Class A: | | | | | | | |
Net income available to ESH Hospitality, Inc. Class A common
shareholders - basic | $ | 16,303 |
| | $ | 5,027 |
| | $ | 33,054 |
| | $ | 27,077 |
|
Amounts attributable to ESH Hospitality, Inc. Class B
shareholders assuming conversion | (6 | ) | | (5 | ) | | (19 | ) | | (26 | ) |
Net income available to ESH Hospitality, Inc. Class A common
shareholders - diluted | $ | 16,297 |
| | $ | 5,022 |
| | $ | 33,035 |
| | $ | 27,051 |
|
| Class B: | | | | | | | |
Net income available to ESH Hospitality, Inc. Class B common
shareholders - basic | $ | 12,160 |
| | $ | 3,790 |
| | $ | 24,816 |
| | $ | 20,503 |
|
Amounts attributable to ESH Hospitality, Inc. Class B
shareholders assuming conversion | 6 |
| | 5 |
| | 19 |
| | 26 |
|
Net income available to ESH Hospitality, Inc. Class B common
shareholders - diluted | $ | 12,166 |
| | $ | 3,795 |
| | $ | 24,835 |
| | $ | 20,529 |
|
| Denominator: | | | | | | | |
| Class A: | | | | | | | |
Weighted-average number of ESH Hospitality, Inc. Class A common
shares outstanding - basic and diluted | 250,494 |
| | 250,494 |
| | 250,494 |
| | 250,494 |
|
| Class B: | | | | | | | |
Weighted-average number of ESH Hospitality, Inc. Class B common
shares outstanding - basic | 186,844 |
| | 188,822 |
| | 188,063 |
| | 189,681 |
|
| Dilutive securities | 171 |
| | 431 |
| | 254 |
| | 430 |
|
Weighted-average number of ESH Hospitality, Inc. Class B common
shares outstanding - diluted | 187,015 |
| | 189,253 |
| | 188,317 |
| | 190,111 |
|
| Net income per ESH Hospitality, Inc. common share - Class A - basic | $ | 0.07 |
| | $ | 0.02 |
| | $ | 0.13 |
| | $ | 0.11 |
|
| Net income per ESH Hospitality, Inc. common share - Class A - diluted | $ | 0.07 |
| | $ | 0.02 |
| | $ | 0.13 |
| | $ | 0.11 |
|
| Net income per ESH Hospitality, Inc. common share - Class B - basic | $ | 0.07 |
| | $ | 0.02 |
| | $ | 0.13 |
| | $ | 0.11 |
|
| Net income per ESH Hospitality, Inc. common share - Class B - diluted | $ | 0.07 |
| | $ | 0.02 |
| | $ | 0.13 |
| | $ | 0.11 |
|
NaN hotels were sold during the three or nine months ended September 30, 2019. The table below summarizes hotel dispositions during the year ended December 31, 2018 (in thousands, except number of hotels and number of rooms). None of the 2018 dispositions were reported as discontinued operations.
|
| | | | | | | | | | | |
| Year | Brand | Location | Month Sold | Number of
Hotels | Number of
Rooms | Net Proceeds | (Loss) Gain
On Sale |
| 2018 | Extended Stay America | Various | November | 14 | 1,369 | $ | 34,855 |
| $ | (14,930 | ) |
| 2018 | Extended Stay America | Various | September | 16 | 1,680 | 60,710 |
| (17,025 | ) |
| 2018 | Extended Stay America | Various | September | 16 | 1,776 | 58,144 |
| (8,934 | ) |
| 2018 | Extended Stay America | Various | February | 25 | 2,430 | 111,156 |
| 4,269 |
|
| 2018 | Extended Stay America | Texas | March | 1 | 101 | 44,090 |
| 30,992 |
|
During the three and nine months ended September 30, 2018, disposed hotel properties contributed rental revenues, total operating expenses and income before income tax expense as follows (in thousands):
|
| | | | | | | |
| | Three Months Ended September 30, 2018 | | Nine Months Ended September 30, 2018 |
| Rental revenues from Extended Stay America, Inc. | $ | 6,316 |
| | $ | 20,349 |
|
| Total operating expenses | 4,319 |
| | 15,637 |
|
| Income before income tax expense | 1,997 |
| | 4,712 |
|
Net investment in property and equipment as of September 30, 2019 and December 31, 2018, consists of the following (in thousands):
|
| | | | | | | |
| | September 30,
2019 | | December 31,
2018 |
| Hotel properties: | | | |
Land and site improvements (1) | $ | 1,220,948 |
| | $ | 1,218,077 |
|
| Building and improvements | 2,786,268 |
| | 2,756,674 |
|
| Furniture, fixtures and equipment | 729,429 |
| | 679,944 |
|
| Total hotel properties | 4,736,645 |
| | 4,654,695 |
|
Development in process (2) | 74,125 |
| | 27,174 |
|
| Undeveloped land parcel | 1,675 |
| | 1,675 |
|
| Total cost | 4,812,445 |
| | 4,683,544 |
|
| Less accumulated depreciation | (1,332,796 | ) | | (1,215,899 | ) |
| Property and equipment - net | $ | 3,479,649 |
| | $ | 3,467,645 |
|
_________________________________
| |
| (1) | Includes finance lease asset of $3.2 million as of September 30, 2019 and December 31, 2018. |
| |
| (2) | Includes finance lease asset of $0.8 million and $0.6 million as of September 30, 2019 and December 31, 2018, respectively. |
As of September 30, 2019 and December 31, 2018, development in process consisted of 15 and 11 land parcels, respectively, which are in various phases of construction and/or development.
ESH REIT uses Level 3 unobservable inputs and, in certain instances Level 2 observable inputs, to determine the impairment on its property and equipment. Quantitative information with respect to observable inputs consists of non-binding bids or, in certain instances, binding agreements to sell a hotel or portfolio of hotels to one or more third parties. Quantitative information with respect to unobservable inputs consists of internally developed cash flow models that include the following assumptions, among others: projections of revenues, expenses and hotel-related cash flows based on assumed long-term growth rates, demand trends, expected future capital expenditures and estimated discount rates. These assumptions are based on ESH REIT’s historical data and experience, budgets, industry projections and overall micro and macro-economic projections.
The estimation and evaluation of future cash flows, in particular the holding period for real estate assets and asset composition and/or concentration within real estate portfolios, relies on judgments and assumptions regarding holding period, current and future operating and economic performance, and current and future market conditions. It is possible that such judgments and/or estimates will change; if this occurs, ESH REIT may recognize impairment charges or losses on sale of hotel properties in future periods reflecting either changes in estimate, circumstance or the estimated market value of assets.
| |
| 6. | INTANGIBLE ASSETS AND GOODWILL |
ESH REIT’s intangible assets and goodwill as of September 30, 2019 and December 31, 2018, consist of the following (dollars in thousands):
|
| | | | | | | | | | | |
| | September 30, 2019 |
| | Gross Carrying Amount | | Accumulated Amortization | | Net Book Value |
| Definite-lived intangible assets—software licenses | $ | 8,508 |
| | $ | (460 | ) | | $ | 8,048 |
|
| Definite-lived intangible assets—software licenses in process | 58 |
| | — |
| | 58 |
|
| Total intangible assets | 8,566 |
| | (460 | ) | | 8,106 |
|
| Goodwill | 44,012 |
| | — |
| | 44,012 |
|
| Total intangible assets and goodwill | $ | 52,578 |
| | $ | (460 | ) | | $ | 52,118 |
|
|
| | | | | | | | | | | |
| | December 31, 2018 |
| | Gross Carrying Amount | | Accumulated Amortization | | Net Book Value |
| Definite-lived intangible assets—software licenses | $ | 1,926 |
| | $ | (36 | ) | | $ | 1,890 |
|
| Definite-lived intangible assets—software licenses in process | 870 |
| | — |
| | 870 |
|
| Total intangible assets | 2,796 |
| | (36 | ) | | 2,760 |
|
| Goodwill | 44,012 |
| | — |
| | 44,012 |
|
| Total intangible assets and goodwill | $ | 46,808 |
| | $ | (36 | ) | | $ | 46,772 |
|
The remaining weighted-average amortization period for amortizing intangible assets is approximately 8 years as of September 30, 2019. Estimated future amortization expense for amortizing intangible assets is as follows (in thousands):
|
| | | |
| Years Ending December 31, | |
| Remainder of 2019 | $ | 249 |
|
| 2020 | 996 |
|
| 2021 | 996 |
|
| 2022 | 996 |
|
| 2023 | 996 |
|
| 2024 | 996 |
|
| Thereafter | 2,819 |
|
| Total | $ | 8,048 |
|
Summary—ESH REIT’s outstanding debt, net of unamortized debt discounts and unamortized deferred financing costs, as of September 30, 2019 and December 31, 2018, consists of the following (dollars in thousands):
|
| | | | | | | | | | | | | | | | | | | | | | | | |
| | Stated Amount | | Carrying Amount | | Unamortized Deferred Financing Costs | | | | | |
| Loan | | September 30, 2019 | | December 31, 2018 | | September 30, 2019 | | December 31, 2018 | | Stated Interest Rate | | Maturity Date | |
| Term loan facility | | | | | | | | | | | | | | |
| ESH REIT Term Facility | $ | 630,909 |
| | $ | 628,880 |
| (1) | $ | 1,132,259 |
| (1) | $ | 9,357 |
| | $ | 10,546 |
| | LIBOR(2) + 2.00% | | 9/18/2026 | (3) |
| Senior notes | | | | | | | | | | | | | | |
| 2027 Notes | 750,000 |
| | 750,000 |
| | — |
| | 14,054 |
| | — |
| | 4.63% | | 10/1/2027 | |
| 2025 Notes | 1,300,000 |
| | 1,292,658 |
| (4) | 1,291,671 |
| (4) | 15,760 |
| | 17,877 |
| | 5.25% | | 5/1/2025 | |
| Revolving credit facility | | | | | | | | | | | | | | |
| ESH REIT Revolving Credit Facility | 350,000 |
| | — |
| | — |
| | 2,709 |
| (5) | 1,469 |
| (5) | LIBOR(2) + 2.00% | | 9/18/2024 | |
| Unsecured Intercompany Facility | | | | | | | | | | | | | | |
| Unsecured Intercompany Facility | 75,000 |
| | — |
| | — |
| | — |
| | — |
| | 5.00% | | 9/18/2026 | |
| Total | | | $ | 2,671,538 |
| | $ | 2,423,930 |
| | $ | 41,880 |
| | $ | 29,892 |
| | | | | |
_________________________________
| |
| (1) | The ESH REIT Term Facility (defined below) is presented net of an unamortized debt discount of $2.0 million and $4.3 million as of September 30, 2019 and December 31, 2018, respectively. |
| |
| (2) | As of September 30, 2019 and December 31, 2018, one-month LIBOR was 2.02% and 2.50%, respectively. As of September 30, 2019 and December 31, 2018, $250.0 million and $300.0 million, respectively, of the ESH REIT Term Facility was subject to an interest rate swap at a fixed rate of 1.175%. |
| |
| (3) | Amortizes in equal quarterly installments of $1.6 million. In addition to scheduled amortization, subject to certain exceptions, annual mandatory prepayments of up to 50% of Excess Cash Flow, as defined, may be required. Annual mandatory prepayments for the year are due during the first quarter of the following year. No mandatory prepayments were required in the first quarter of 2019 based on ESH REIT’s Excess Cash Flow for the year ended December 31, 2018. |
| |
| (4) | The 2025 Notes (defined below) are presented net of an unamortized discount of $7.3 million and $8.3 million as of September 30, 2019 and December 31, 2018, respectively. |
| |
| (5) | Unamortized deferred financing costs related to the revolving credit facility are included in other assets in the accompanying condensed consolidated balance sheets. |
ESH REIT Credit Facilities
ESH REIT’s credit agreement, as may be amended and supplemented from time to time, provides for senior secured credit facilities (collectively, the “ESH REIT Credit Facilities”) which, as of September 30, 2019, consisted of a $630.9 million senior secured term loan facility (the “ESH REIT Term Facility”) and a $350.0 million senior secured revolving credit facility (the “ESH REIT Revolving Credit Facility”). Subject to the satisfaction of certain criteria, borrowings under the ESH REIT Credit Facilities may be increased by an amount of up to $600.0 million, plus additional amounts, so long as, after giving effect to the incurrence of such incremental facility and the application of proceeds thereof, ESH REIT’s pro-forma senior loan-to-value ratio is less than or equal to 45%.
In September 2019, ESH REIT entered into an amendment to the ESH REIT Credit Facilities whereby, among other things, proceeds from the issuance of the 2027 Notes (defined below) were used to repay $500.0 million of the outstanding borrowings under the ESH REIT Term Facility and the stated amount of the ESH REIT Term Facility was reduced from $1,130.0 million to $630.9 million. Additionally, the amendment reduced the interest rate applicable to the ESH REIT Revolving Credit Facility and extended the maturity of both the ESH REIT Term Facility and the ESH REIT Revolving Credit Facility. In connection with these transactions, ESH REIT incurred $6.7 million of debt extinguishment and modification costs, which consist of the write-off of unamortized deferred financing costs and discounts of $5.6 million and other costs of $1.1 million. Debt extinguishment and modification costs are included as a component of net interest expense in the accompanying condensed consolidated statements of operations.
ESH REIT Term Facility—The ESH REIT Term Facility bears interest at a rate equal to (i) LIBOR plus 1.75% for any period during which ESH REIT maintains a public corporate family rating better than or equal to BB- (with a stable or better outlook) from S&P and Ba3 (with a stable or better outlook) from Moody’s (a “Level 1 Period”) or LIBOR plus 2.00% for any period other than a Level 1 Period; or (ii) a base rate, as defined, plus 0.75% during a Level 1 Period or 1.00% for any period other than a Level 1 Period. The ESH REIT Term Facility amortizes in equal quarterly installments of $1.6 million. In addition
to scheduled amortization, subject to certain exceptions, annual mandatory prepayments of up to 50% of Excess Cash Flow, as defined, may be required. The ESH REIT Term Facility matures on September 18, 2026.
ESH REIT has the option to voluntarily prepay outstanding loans under the ESH REIT Term Facility at any time upon prior written notice. In addition to customary breakage costs, amounts refinanced, substituted or replaced by indebtedness in connection with certain repricing transactions which have a lower all-in yield than the all-in yield under the ESH REIT Term Facility on or prior to March 18, 2020 (other than as a result of a transformative transaction) are subject to a prepayment penalty equal to 1.00% of the aggregate principal amount refinanced, substituted or replaced. Prepayments made after March 18, 2020 are not subject to a prepayment penalty.
ESH REIT Revolving Credit Facility— Borrowings under the ESH REIT Revolving Credit Facility bear interest at a rate equal to (i) LIBOR plus a spread that ranges from 1.50% to 2.00% based on ESH REIT’s Consolidated Total Net Leverage Ratio, as defined, or (ii) a base rate (determined by reference to the highest of (A) the prime lending rate, (B) the overnight federal funds rate plus 0.50%, or (C) the one-month adjusted LIBOR rate plus 1.00%) plus a spread that ranges from 0.50% to 1.00% based on ESH REIT’s Consolidated Total Net Leverage Ratio, as defined. ESH REIT incurs a fee of 0.30% or 0.175% on the unutilized revolver balance. ESH REIT is also required to pay customary letter of credit fees and agency fees. The ESH REIT Revolving Credit Facility provides for the issuance of up to $50.0 million of letters of credit. As of September 30, 2019, ESH REIT had 0 letters of credit outstanding under the facility and available borrowing capacity of $350.0 million. The ESH REIT Revolving Credit Facility matures on September 18, 2024.
ESH REIT 2027 Notes
In September 2019, ESH REIT issued $750.0 million of its 4.625% senior notes due in 2027 (the “2027 Notes”) under an indenture with Deutsche Bank Trust Company Americas, as trustee, at a price equal to 100% of par value in a private placement pursuant to Rule 144A of the Securities Act of 1933, as amended. Proceeds received from the issuance of the 2027 Notes, net of financing costs, totaled $738.0 million, $500.0 million of which were used to repay a portion of outstanding borrowings under the ESH REIT Term Loan. The remaining proceeds, $238.0 million, are expected to be used for general corporate purposes. The 2027 Notes bear interest at a fixed rate of 4.625% per annum, payable semi-annually in arrears on April 1 and October 1 of each year, commencing April 1, 2020, and mature on October 1, 2027.
The 2027 Notes are fully and unconditionally guaranteed, jointly and severally, on an unsecured basis by each of ESH REIT’s subsidiaries that guarantee ESH REIT’s obligations under the ESH REIT Credit Facilities. The 2027 Notes are not guaranteed by the Corporation or any of its subsidiaries that lease ESH REIT’s properties or its subsidiaries that engage in franchising or management activities or own intellectual property. The 2027 Notes rank equally in right of payment with ESH REIT’s existing and future senior unsecured indebtedness, and senior in right of payment to all future subordinated indebtedness, if any. The 2027 Notes are effectively junior to any of ESH REIT’s secured indebtedness to the extent of the value of the assets securing such indebtedness.
ESH REIT may redeem the 2027 Notes at any time on or after October 1, 2022, in whole or in part, at a redemption price equal to 102.313% of the principal amount, declining annually to 100% of the principal amount from October 1, 2024 and thereafter, plus accrued and unpaid interest. Prior to October 1, 2022, ESH REIT may redeem the 2027 Notes, in whole or in part, at a redemption price equal to 100% of the principal amount, plus a “make-whole” premium, as defined, plus accrued and unpaid interest. Prior to October 1, 2022, subject to certain conditions, ESH REIT may redeem up to 35% of the aggregate principal amount of the 2027 Notes at a redemption price equal to 101% of the aggregate principal amount, plus accrued and unpaid interest, with the net cash proceeds from certain equity offerings, provided 65% of the original amount of the principal remains outstanding after the occurrence of each such redemption. Upon a Change of Control, as defined, holders of the 2027 Notes have the right to require ESH REIT to redeem the 2027 Notes at 101% of the principal amount, plus accrued and unpaid interest.
ESH REIT 2025 Notes
In May 2015 and March 2016, ESH REIT issued $500.0 million and $800.0 million, respectively, of its 5.25% senior notes due in 2025 (the “2025 Notes”) under an indenture with Deutsche Bank Trust Company Americas, as trustee, in private placements pursuant to Rule 144A of the Securities Act of 1933, as amended. The 2025 Notes bear interest at a fixed rate of 5.25% per annum, payable semi-annually in arrears on May 1 and November 1 of each year, and mature on May 1, 2025.
ESH REIT may redeem the 2025 Notes at any time on or after May 1, 2020, in whole or in part, at a redemption price equal to 102.625% of the principal amount, declining annually to 100% of the principal amount from May 1, 2023 and thereafter, plus accrued and unpaid interest. Prior to May 1, 2020, ESH REIT may redeem the 2025 Notes, in whole or in part, at a redemption price equal to 100% of the principal amount, plus a “make-whole” premium, as defined, plus accrued and unpaid interest. Upon a Change of Control, as defined, holders of the 2025 Notes have the right to require ESH REIT to redeem the 2025 Notes at 101% of the principal amount, plus accrued and unpaid interest.
Unsecured Intercompany Facility
In August 2016, ESH REIT, as borrower, and the Corporation, as lender, entered into an unsecured intercompany credit facility, as may be amended and supplemented from time to time (the “Unsecured Intercompany Facility”). In September 2019, the Unsecured Intercompany Facility was amended to, among other things, extend the facility’s maturity. Under the Unsecured Intercompany Facility, ESH REIT may borrow up to $300.0 million, plus additional amounts, in each case subject to certain conditions. Loans under the Unsecured Intercompany Facility bear interest at an annual rate of 5.0%. ESH REIT has the option to prepay outstanding balances under the facility without penalty. As of September 30, 2019, and December 31, 2018, the amount outstanding under the facility was $0. There is no scheduled amortization, and the Unsecured Intercompany Facility matures on September 18, 2026.
Covenants
The ESH REIT Credit Facilities, the 2027 Notes, the 2025 Notes and the Unsecured Intercompany Facility contain a number of restrictive covenants that, among other things and subject to certain exceptions, limit ESH REIT’s ability and the ability of its subsidiaries to engage in certain transactions. In addition, the ESH REIT Revolving Credit Facility contains a financial covenant that, subject to certain conditions, requires compliance with a certain senior loan-to-value ratio. The agreements governing ESH REIT’s indebtedness also contain certain customary events of default, including, but not limited to, cross-defaults to certain other indebtedness and, in the case of the ESH REIT Credit Facilities and the Unsecured Intercompany Facility, certain material operating leases and management agreements. As of September 30, 2019, ESH REIT was in compliance with all covenants under its debt agreements.
Interest Expense, net—The components of net interest expense during the three and nine months ended September 30, 2019 and 2018, are as follows (in thousands):
|
| | | | | | | | | | | | | | | |
| | Three Months Ended September 30, | | Nine Months Ended September 30, |
| | 2019 | | 2018 | | 2019 | | 2018 |
Contractual interest(1) | $ | 28,584 |
| | $ | 28,978 |
| | $ | 85,781 |
| | $ | 86,730 |
|
| Amortization of deferred financing costs and debt discount | 1,987 |
| | 1,969 |
| | 5,925 |
| | 5,926 |
|
Debt extinguishment and other costs(2) | 7,058 |
| | 199 |
| | 7,773 |
| | 2,306 |
|
| Interest Income | (747 | ) | | (215 | ) | | (2,396 | ) | | (252 | ) |
| Total | $ | 36,882 |
| | $ | 30,931 |
| | $ | 97,083 |
| | $ | 94,710 |
|
______________________
| |
| (1) | Net of capitalized interest of $0.6 million, $0.1 million, $1.4 million and $0.2 million, respectively. |
| |
| (2) | Includes interest expense on finance leases (see Note 11) and unused credit facility fees. |
Fair Value of Debt—As of September 30, 2019 and December 31, 2018, the estimated fair value of ESH REIT’s debt was $2.7 billion and $2.3 billion, respectively. Estimated fair values are determined by comparing current borrowing rates and risk spreads offered in the market (Level 2 fair value measures) or quoted market prices (Level 1 fair value measures), when available, to the stated interest rates and spreads on ESH REIT’s debt.
In September 2016, ESH REIT entered into a floating-to-fixed interest rate swap, as amended and supplemented from time to time, at a fixed rate of 1.175% and a floating rate of one-month LIBOR to manage its exposure to interest rate risk on a portion of the ESH REIT Term Facility. The notional amount of the interest rate swap as of September 30, 2019 was $250.0 million. The notional amount decreases by an additional $50.0 million every six months until the swap’s maturity in September 2021.
For the three and nine months ended September 30, 2019, ESH REIT received proceeds of $0.7 million and $2.5 million, respectively, and for the three and nine months ended September 30, 2018, ESH REIT received proceeds of $0.8 million and $1.9 million, respectively, that offset interest expense. As of September 30, 2019, $0.9 million is expected to be recognized through earnings over the following twelve months.
The table below presents the amounts and classification of the interest rate swap on ESH REIT’s condensed consolidated financial statements (in thousands):
|
| | | | | | | | | | |
| | Other assets | Accumulated other comprehensive income, net of tax | | Interest expense, net |
| As of September 30, 2019 | $ | 971 |
| $ | 969 |
| (1) | |
| As of December 31, 2018 | $ | 5,789 |
| $ | 5,789 |
| (2) | |
| For the three months ended September 30, 2019 | | | | $ | (704 | ) |
| For the three months ended September 30, 2018 | | | | $ | (803 | ) |
| For the nine months ended September 30, 2019 | | | | $ | (2,501 | ) |
| For the nine months ended September 30, 2018 | | | | $ | (1,888 | ) |
_______________________________
| |
| (1) | Changes during the nine months ended September 30, 2019, on a pre-tax basis, consisted of changes in fair value of $(4.8) million. |
| |
| (2) | Changes during the year ended December 31, 2018, on a pre-tax basis, consisted of changes in fair value of $(0.6) million and the cumulative effect adjustment of $(0.7) million recorded as a result of adopting ASU 2017-12, Derivatives and Hedging: Targeted Improvements to Accounting for Hedging Activities, on January 1, 2018. |
ESH REIT has elected to be taxed and expects to continue to qualify as a real estate investment trust (“REIT”) under Sections 856 through 860 of the Internal Revenue Code of 1986, as amended (the “Code”). A REIT is a legal entity that holds real estate assets and is generally not subject to federal and state income taxes. In order to maintain qualification as a REIT, ESH REIT is required to distribute at least 90% of its taxable income, excluding net capital gain, to its shareholders each year. In addition, ESH REIT must meet a number of complex organizational and operational requirements. If ESH REIT were to fail to qualify as a REIT in any taxable year, it would be subject to federal income taxes at regular corporate rates and generally would be precluded from qualifying as a REIT for the subsequent four taxable years following the year during which it lost its REIT qualification. ESH REIT intends to distribute its taxable income to the extent necessary to optimize its tax efficiency including, but not limited to, maintaining its REIT status, while retaining sufficient capital for its ongoing needs. Even in qualifying as a REIT, ESH REIT may be subject to state and local taxes in certain jurisdictions, and is subject to federal income and excise taxes on undistributed income.
ESH REIT recorded a provision for state income taxes of $0.1 million for each of the three and nine months ended September 30, 2019, effective rates of 0.3% and 0.2%, respectively, as compared to a provision of less than $0.1 million and $0.8 million for the three and nine months ended September 30, 2018, respectively, effective rates of 0.5% and 1.6%. ESH REIT’s effective rate differs from the federal statutory income tax rate of 21% primarily due to ESH REIT’s status as a REIT under the provisions of the Code.
ESH REIT’s income tax returns for the years 2016 to present are subject to examination by the Internal Revenue Service and other tax returns for the years 2014 to present are subject to examination by other taxing authorities. As of September 30, 2019, a subsidiary of ESH REIT was under examination by the Canada Revenue Agency for tax years 2014 through 2017. As the examination is still in process, the timing of the resolution and any payments that may be required cannot be determined at this time. ESH REIT believes that, to the extent a liability may exist, it is appropriately reserved as of September 30, 2019.
| |
| 10. | RELATED PARTY TRANSACTIONS |
Revenues and Overhead Expenses
Leases and Rental Revenues—All revenues are generated as a result of, and earned from, related parties. During the three and nine months ended September 30, 2019 and 2018, ESH REIT’s revenues were derived from 3 operating leases. The counterparty to each lease agreement is a subsidiary of the Corporation.
ESH REIT’s fixed and variable rental revenues for the three and nine months ended September 30, 2019 and 2018 are as follows (in thousands):
|
| | | | | | | | | | | | | |
| | Three Months Ended September 30, | | Nine Months Ended
September 30, |
| | 2019 | 2018 | | 2019 | 2018 |
| Fixed rental revenues | $ | 118,005 |
| $ | 111,598 |
| | $ | 354,016 |
| $ | 335,999 |
|
Variable rental revenues(1) | 21,450 |
| 31,379 |
| | 21,546 |
| 31,841 |
|
_________________________________
| |
| (1) | Regardless of whether cash rental payments are received, ESH REIT only recognizes revenue when a lessee’s revenue exceeds specific thresholds stated in the lease. |
Each lease agreement, which had an initial term that expired in October 2018, was renewed effective November 1, 2018, for a five-year term that expires in October 2023. Each lease agreement contains an automatic five-year renewal, unless lessee provides notice that it will not renew no later than thirty months prior to expiration. Upon renewal, if applicable, minimum and percentage rents shall be adjusted to reflect then-current market terms. Future fixed rental payments to be received under current remaining noncancelable lease terms are as follows (in thousands):
|
| | | |
Years Ending December 31, | |
| Remainder of 2019 | $ | 112,861 |
|
| 2020 | 462,860 |
|
| 2021 | 474,409 |
|
| 2022 | 486,247 |
|
| 2023 | 415,112 |
|
| Total | $ | 1,951,489 |
|
Overhead Expenses—A subsidiary of the Corporation incurs costs under a services agreement with the Corporation and ESH REIT for certain overhead services performed on the entities’ behalf. The services relate to executive management, accounting, financial analysis, training and technology. For the three months ended September 30, 2019 and 2018, ESH REIT incurred costs of $2.5 million and $2.2 million, respectively, and for the nine months ended September 30, 2019 and 2018, ESH REIT incurred costs of $7.3 million and $7.4 million, respectively, related to this agreement, which are included in general and administrative expenses in the accompanying condensed consolidated statements of operations. The expenses ESH REIT incurred under this services agreement include expenses related to certain employees that participate in the Corporation’s long-term incentive plan. Such charges were $0.2 million for each of the three months ended September 30, 2019 and 2018 and $0.8 million and $0.7 million for the nine months ended September 30, 2019 and 2018, respectively.
Debt and Equity Transactions
Unsecured Intercompany Facility—As of September 30, 2019 and December 31, 2018, there were 0 outstanding balances owed by ESH REIT to the Corporation under the Unsecured Intercompany Facility, and ESH REIT incurred 0 interest expense during the three and nine months ended September 30, 2019 and 2018 related to the Unsecured Intercompany Facility. ESH REIT is able to borrow under the Unsecured Intercompany Facility up to $300.0 million, plus additional amounts, in each case subject to certain conditions (see Note 7).
Distributions—During the three months ended September 30, 2019 and 2018, ESH REIT paid distributions of $37.6 million and $45.1 million, respectively, and during the nine months ended September 30, 2019 and 2018, ESH REIT paid distributions of $110.2 million and $122.7 million, respectively, to the Corporation in respect of the Class A common stock of ESH REIT.
Issuance of Common Stock—In September 2019 and 2018, ESH REIT issued and was compensated $0.2 million and $0.3 million, respectively, for 0.1 million shares of Class B common stock, each of which was attached to a share of Corporation common stock to form a Paired Share, used to settle vested restricted stock units (“RSUs”). In March 2019 and 2018, ESH REIT was compensated $1.2 million and $2.3 million, respectively, for the issuance of 0.2 million and 0.3 million shares of Class B common stock, respectively, each of which was attached to a share of Corporation common stock to form a Paired Share, used to settle vested RSUs.
As of September 30, 2019, the Corporation has granted a total of 1.1 million RSUs, whereby, as a counterparty to these outstanding RSUs, ESH REIT is expected to issue and be compensated in cash for 1.1 million shares of Class B common stock of ESH REIT in future periods, assuming performance-based and market-based awards vest at 100% and no forfeitures.
Related Party Balances
Related party transaction balances as of September 30, 2019 and December 31, 2018, include the following (in thousands):
|
| | | | | | | |
| | September 30,
2019 | | December 31,
2018 |
| Leases: | | | |
Rents receivable(1) | $ | 15,780 |
| | $ | 4,098 |
|
Deferred rents receivable(2) | $ | 24,069 |
| | $ | 8,637 |
|
Unearned rental revenues(1) | $ | (165,273 | ) | | $ | (37,506 | ) |
| | | | |
| Working capital and other: | | | |
Ordinary working capital(3) | $ | (11,941 | ) | | $ | (12,581 | ) |
Equity awards (payable) receivable(4) | (32 | ) | | 404 |
|
Total working capital and other, net(5) | $ | (11,973 | ) | | $ | (12,177 | ) |
______________________
| |
| (1) | Rents receivable relate to percentage rents. As of September 30, 2019, unearned rental revenues related to October 2019 fixed minimum rent of $37.5 million and percentage rent of $127.8 million. As of December 31, 2018, unearned rental revenues related to January 2019 fixed minimum rent. |
| |
| (2) | Revenues recognized in excess of cash rents received. |
| |
| (3) | Disbursements and/or receipts made by the Corporation or ESH REIT on the other entity’s behalf and amounts payable/receivable for certain transactions between the Corporate and ESH REIT. Includes overhead costs incurred by the Corporation on ESH REIT’s behalf. |
| |
| (4) | Amounts related to restricted stock units not yet settled or issued. |
| |
| (5) | Outstanding balances are typically repaid within 30 days. |
| |
| 11. | COMMITMENTS AND CONTINGENCIES |
Lease Commitments—ESH REIT is a tenant under long-term ground leases at 5 of its hotel properties, including 1 hotel site for which development is in process. NaN of these leases are operating leases and 2 are finance leases. The ground lease agreements terminate at various dates between 2023 and 2096 and several of the agreements include multiple renewal options for generally five or ten year periods. As ESH REIT is reasonably certain that it will exercise the options to extend its ground leases, fixed payments associated with the extensions are included in the measurement of related right-of-use assets and lease liabilities.
Operating lease costs related to ground leases are included in hotel operating expenses in the condensed consolidated statements of operations. Finance lease interest costs are included in interest expense, net in the condensed consolidated statements of operations (see Note 7) or, when pertaining to assets under development, are capitalized and included in property and equipment, net on the condensed consolidated balance sheets (see Note 5). As ESH REIT’s finance lease right-of-use assets pertain to land and land under development, and as ESH REIT elected the practical expedient to retain prior lease classification upon adoption of ASC 842, Leases, 0 amortization costs related to finance leases were incurred during the three and nine months ended September 30, 2019. ESH REIT has no variable lease costs or short-term leases.
For the three and nine months ended September 30, 2019, components of ESH REIT’s total lease costs are as follows (in thousands):
|
| | | | | | | |
| | Three Months Ended
September 30, 2019 | | Nine Months Ended
September 30, 2019 |
| Operating lease costs | $ | 351 |
| | $ | 1,004 |
|
| Finance lease costs - interest | 61 |
| | 183 |
|
| Total lease costs | 412 |
| | 1,187 |
|
ESH REIT’s right-of-use assets and lease liabilities are as follows (in thousands):
|
| | | | | | | |
| | September 30, 2019 | | December 31, 2018(4) |
| Right-of-use assets: | | | |
Operating(1) | $ | 2,260 |
| | $ | — |
|
Finance(2) | 3,979 |
| | 3,843 |
|
| | | | |
| Lease liabilities: | | | |
Operating(3) | 9,235 |
| | — |
|
| Finance | 3,410 |
| | 3,360 |
|
_________________________________
| |
| (1) | Included in other assets on the accompanying condensed consolidated balance sheets. |
| |
| (2) | Included in property and equipment, net on the accompanying condensed consolidated balance sheets. |
| |
| (3) | Included in accounts payable and accrued liabilities on the accompanying condensed consolidated balance sheets. |
| |
| (4) | Finance lease right-of-use assets and liabilities as of December 31, 2018 were previously recorded as capital lease assets and obligations under ASC 840, Leases. |
Maturities of lease liabilities as of September 30, 2019, are as follows (in thousands):
|
| | | | | | | | |
| Years Ending December 31, | | Operating Leases | | Finance Leases |
| Remainder of 2019 | | $ | 181 |
| | $ | 90 |
|
| 2020 | | 779 |
| | 386 |
|
| 2021 | | 784 |
| | 395 |
|
| 2022 | | 806 |
| | 397 |
|
| 2023 | | 545 |
| | 400 |
|
| 2024 | | 503 |
| | 402 |
|
| Thereafter | | 77,594 |
| | 3,100 |
|
| Total | | $ | 81,192 |
| | $ | 5,170 |
|
| | | | | |
| Total discounted lease liability | | $ | 9,235 |
| | $ | 3,410 |
|
| Difference between undiscounted cash flows and discounted cash flows | | $ | 71,957 |
| | $ | 1,760 |
|
| | | | | |
| Weighted-average remaining lease term | | 58 years |
| | 12 years |
|
| Weighted-average discount rate | | 6.6 | % | | 7.0 | % |
Future minimum lease payments as of December 31, 2018, disclosed in accordance with ASC 840, Leases, were as follows (in thousands):
|
| | | | | | | |
| Years Ending December 31, | Operating Leases | | Finance Leases |
| 2019 | $ | 712 |
| | $ | 351 |
|
| 2020 | 779 |
| | 375 |
|
| 2021 | 784 |
| | 384 |
|
| 2022 | 806 |
| | 386 |
|
| 2023 | 545 |
| | 387 |
|
| Thereafter | 78,097 |
| | 3,340 |
|
| Total | $ | 81,723 |
| | $ | 5,223 |
|
ESH REIT’s leases do not contain residual value guarantees and do not contain restrictions with respect to incurring additional financial obligations or paying dividends. As of September 30, 2019, ESH REIT does not have any material leases that have not yet commenced.
Legal Contingencies—ESH REIT is not a party to any litigation or claims, other than routine matters arising in the ordinary course of business that are incidental to the operation of the business of ESH REIT. ESH REIT believes that the results of all claims and litigation, individually or in the aggregate, will not have a material adverse effect on its condensed consolidated financial statements, results of operations or liquidity.
On November 6, 2019, the Board of Directors of ESH REIT declared a cash distribution of $0.11 per share for the third quarter of 2019 on its Class A and Class B common stock. The distribution is payable on December 4, 2019 to shareholders of record as of November 20, 2019.
Subsequent to September 30, 2019, ESH REIT repurchased and retired 1.7 million ESH REIT Class B common shares for $8.9 million, including transaction fees. As of October 31, 2019, $180.8 million is remaining under the Paired Share repurchase program.
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following discussion should be read in conjunction with the condensed consolidated financial statements of Extended Stay America, Inc. and ESH Hospitality, Inc., included in Item 1 in this combined quarterly report on Form 10-Q.
Background and Certain Defined Terms
The following defined terms relate to our corporate structure and lodging industry operating metrics. Unless otherwise indicated or the context requires:
| |
| • | ADR or average daily rate means hotel room revenues divided by total number of rooms sold in a given period. |
| |
| • | Company means the Corporation, ESH REIT and their subsidiaries considered as a single enterprise. |
| |
| • | Comparable Hotels means, when used in connection with describing our results of operations, the 553 and 552 Extended Stay America-branded hotels owned and operated by the Company during the full three and nine months ended September 30, 2019 and 2018, respectively. The operating results of 553 Comparable Hotels for the three months ended September 30, 2019 and 2018 exclude the results of 72 hotels sold in 2018 and one hotel that opened in November 2018. The operating results of 552 Comparable Hotels for the nine months ended September 30, 2019 and 2018 exclude the results of 72 hotels sold in 2018, one hotel acquired in May 2018 and one hotel that opened in November 2018. |
| |
| • | Corporation means Extended Stay America, Inc., a Delaware corporation, and its subsidiaries (excluding ESH REIT and its subsidiaries), which include the Operating Lessees (as defined below), ESH Strategies (as defined below) and ESA Management (as defined below). The Corporation controls ESH REIT through its ownership of ESH REIT’s Class A common stock, which currently represents 58% of the outstanding common stock of ESH REIT. |
| |
| • | ESA Management means ESA Management LLC, a Delaware limited liability company and wholly-owned subsidiary of the Corporation, and its subsidiaries, which manage Extended Stay America-branded hotel properties on behalf of the Operating Lessees and third parties. |
| |
| • | ESH REIT means ESH Hospitality, Inc., a Delaware corporation that has elected to be taxed as a real estate investment trust (“REIT”), and its subsidiaries. ESH REIT is a majority-owned subsidiary of the Corporation, which leases all of its hotel properties to the Operating Lessees. |
| |
| • | ESH Strategies means ESH Hospitality Strategies LLC, a Delaware limited liability company and wholly-owned subsidiary of the Corporation, and one of its subsidiaries, ESH Strategies Branding LLC, a Delaware limited liability company, which owns the intellectual property related to our businesses and licenses it to the Operating Lessees and ESH Strategies Franchise (as defined below). |
| |
| • | ESH Strategies Franchise means ESH Strategies Franchise LLC, a Delaware limited liability company and wholly-owned subsidiary of ESH Strategies, that licenses the Extended Stay America brand name from ESH Strategies and in-turn relicenses it to third-party franchisees. |
| |
| • | Extended stay market means the market of hotels with a fully equipped kitchenette in each guest room, which accept reservations and do not require a lease, as defined by The Highland Group. |
| |
| • | Mid-price extended stay segment means the segment of the extended stay market that generally operates at a daily rate between $55 and $105. |
| |
| • | Occupancy or occupancy rate means the total number of rooms sold in a given period divided by the total number of rooms available during that period. |
| |
| • | Operating Lessees means the wholly-owned subsidiaries of the Corporation that each lease a group of hotels from ESH REIT and, as stipulated under each lease agreement, operate the Company-owned hotels. |
| |
| • | Paired Share means one share of common stock, par value $0.01 per share, of the Corporation together with one share of Class B common stock, par value $0.01 per share, of ESH REIT, which are attached and trade as a single unit. |
| |
| • | RevPAR or Revenue per Available Room means the product of average daily room rate charged and the average daily occupancy achieved for a hotel or group of hotels in a given period. RevPAR does not include ancillary revenues, such as food and beverage revenues, or parking, pet, WiFi upgrade, telephone or other guest service revenues. |
| |
| • | System-wide hotels means all hotels that are operated under the Extended Stay America brand and that are owned, franchised and/or managed by the Company. As of September 30, 2019, there were 626 system-wide hotels. |
| |
| • | Third-party intermediaries are unaffiliated distribution channels that sell hotel inventory, including ours, for a fee on the internet. Third-party intermediaries currently include Expedia.com and Booking.com (and their respective affiliated brands and distribution channels, such as Priceline, Hotwire, Kayak and Trivago) and may in the future include search engines such as Google and alternative lodging suppliers such as Airbnb and HomeAway. |
The following discussion may contain forward-looking statements. Actual results may differ materially from those suggested by any forward-looking statements for various reasons, including those discussed in “Risk Factors” in the 2018 Form 10-K, and “Cautionary Note Regarding Forward-Looking Statements” contained herein. Those sections expressly qualify any subsequent oral and written forward-looking statements attributable to us or persons acting on our behalf.
We present below separate results of operations for each of the Company and ESH REIT. Our assets and operations, other than ownership of our hotel properties (which are owned by ESH REIT), are held directly by the Corporation and operated as an integrated enterprise. The Corporation owns all of the issued and outstanding shares of Class A common stock of ESH REIT, representing 58% of the outstanding common stock of ESH REIT. Due to its controlling interest in ESH REIT, the Corporation consolidates the financial position, results of operations, comprehensive income and cash flows of ESH REIT.
Overview
We are the largest integrated owner/operator of company-branded hotels in North America. Our business operates in the extended stay segment of the lodging industry, and we have the following reportable operating segments:
| |
| • | Owned hotels—Earnings are derived from the operation of owned hotel properties and include room and other hotel revenues. |
| |
| • | Franchise and management—Earnings are derived from revenues (i.e., fees) under various franchise and management agreements with third parties. These contracts provide us the ability to earn compensation for licensing the Extended Stay America brand name, providing access to shared system-wide platforms and/or management services. |
As of September 30, 2019, we owned and operated 554 hotel properties in 40 U.S. states, consisting of approximately 61,500 rooms, and franchised or managed 72 hotel properties for third parties, consisting of approximately 7,400 rooms. All 626 system-wide hotels operate under the Extended Stay America brand, which serves the mid-price extended stay segment and accounts for approximately 42% of the segment by number of rooms in the United States.
Extended Stay America-branded hotels are designed to provide an affordable and attractive alternative to traditional lodging or apartment accommodations and are targeted toward self-sufficient, value-conscious guests who need lodging for more than a week. Guests include business travelers, leisure travelers, professionals on temporary work or training assignments, persons relocating, the temporarily displaced, those purchasing a home and anyone else in need of temporary housing.
For the trailing twelve months ended September 30, 2019, 37.5%, 20.8% and 41.7% of our owned hotel room revenues were derived from guests with stays from 1-6 nights, from 7-29 nights and for 30 or more nights, respectively. For the trailing twelve months ended September 30, 2019, 26.8% of our owned hotel room revenues were derived from property-direct reservations, 25.2% were derived from our central call center, 18.5% were derived from our own proprietary website, 25.9% were derived from third-party intermediaries and 3.6% were derived from travel agency global distribution systems.
For the trailing twelve months ended September 30, 2019, 51.4% of our franchise and management fees and related revenues were derived from franchising activities and 48.6% were derived from management activities. Franchisees typically pay an initial application fee, along with monthly royalty and system services fees for the licensing of our brand and the use of our shared system-wide platforms, such as marketing, technology infrastructure, central reservations, national sales and revenue management systems. The standard term for our franchise agreements is generally 20 years.
We seek to drive our competitive advantage by targeting our product offering to an underserved market segment and by driving economies of scale through our national distribution and concentration of multiple hotels in individual markets. We focus on continually improving our product and service, improving marketing efforts and driving ADR. In addition to owning and operating hotels, we have increased, and plan to continue to increase, our distribution through the ongoing development of our fee-based income stream pursuant to which we franchise our brand to third parties and, in certain instances, manage hotels on behalf of our franchisees. We also seek to increase our efficiency and the overall quality of our real estate portfolio by selling non-strategic hotels over time, in some cases franchising our brand to, or managing sold hotels for, the buyers. Our current and future plans include some or all of the following:
| |
| • | continuing to invest capital in our hotels, both on an ongoing basis and through future cyclical hotel renovation programs, where justified by anticipated returns on investment; |
| |
| • | repurposing and/or rebuilding certain of our hotel properties; |
| |
| • | building new Extended Stay America hotel properties which we expect to own and operate; |
| |
| • | selling non-strategic hotels to buyers that we expect will franchise the Extended Stay America brand from us and for whom we may perform management or other services; |
| |
| • | converting existing hotels to the Extended Stay America brand, either as franchises or on our own balance sheet; |
| |
| • | franchising the Extended Stay America brand to newly-constructed hotel properties built and owned by third parties for whom we may perform management or other services; and |
| |
| • | acquiring additional hotel properties. |
Hotel Acquisitions
No hotels were acquired during the nine months ended September 30, 2019. In September 2018, we acquired a 107-room hotel under construction. The hotel opened under the Extended Stay America brand in the fourth quarter of 2018. In May 2018, we acquired a 115-room hotel and converted it to an Extended Stay America-branded hotel. Prior to its acquisition by the Company, the hotel opened in late 2017.
Hotel Dispositions
No hotels were sold during the nine months ended September 30, 2019. The table below summarizes hotel dispositions for the year ended December 31, 2018 (in thousands, except number of hotels and number of rooms).
|
| | | | | | | | | | | | | | |
| Year | Brand | Location | Month Sold | Number of
Hotels | Number of Rooms | Net Proceeds | Gain (Loss) on Sale | | Franchised/Managed (1) | |
| 2018 | Extended Stay America | Various | November | 14 | 1,369 | $ | 34,855 |
| $ | 1,331 |
| (2) | Yes | |
| 2018 | Extended Stay America | Various | September | 16 | 1,680 | $ | 60,710 |
| $ | 6,293 |
| (2) | Yes | |
| 2018 | Extended Stay America | Various | September | 16 | 1,776 | $ | 58,144 |
| $ | (3,014 | ) | (2) | Yes | |
| 2018 | Extended Stay America | Various | February | 25 | 2,430 | $ | 111,156 |
| $ | 6,810 |
| (2) | Yes | |
| 2018 | Extended Stay America | Texas | March | 1 | 101 | $ | 44,090 |
| $ | 31,058 |
| | No | (3) |
____________________
| |
| (1) | As of September 30, 2019. |
| |
| (2) | Net of impairment charges of $16.8 million, $24.3 million, $6.3 million and $2.1 million, respectively, recorded prior to sale. |
| |
| (3) | Management agreement terminated in August 2019. |
See Note 4 to each of the condensed consolidated financial statements of Extended Stay America, Inc. and ESH Hospitality, Inc., included in Item 1 of this combined quarterly report on Form 10-Q.
Franchised and Managed Hotels
The following table summarizes the number of third-party owned hotels in our franchise and management segment during the year ended December 31, 2018 and the nine months ended September 30, 2019. |
| | | | | | | | | | | | |
| Date | | Number of franchised hotels added (removed) | | Number of rooms | | Number of franchised hotels(1) | | Number of franchised rooms(1) |
| January 2018 | | — |
| | — |
| | 1 |
| | 160 |
|
| February 2018 | | 25 |
| | 2,430 |
| | 26 |
| | 2,588 |
|
| March 2018 | | 1 |
| | 101 |
| | 27 |
| | 2,689 |
|
| September 2018 | | 32 |
| | 3,456 |
| | 59 |
| | 6,147 |
|
| November 2018 | | 14 |
| | 1,369 |
| | 73 |
| | 7,533 |
|
| April 2019 | | 1 |
| | 115 |
| | 74 |
| | 7,648 |
|
| July 2019 | | (1 | ) | | (160 | ) | | 73 |
| | 7,488 |
|
| August 2019 | | (1 | ) | | (101 | ) | | 72 |
| | 7,387 |
|
| September 2019 | | — |
| | — |
| | 72 |
| | 7,387 |
|
Hotel Pipeline
As of September 30, 2019, the Company had a pipeline of 77 hotels, which consisted of the following:
|
| | | | | | | | | |
| Company-Owned Pipeline & Recently Opened Hotels as of September 30, 2019 |
| Under Option | Pre-Development | Under Construction | Total Pipeline | Opened YTD |
| # Hotels | # Rooms | # Hotels | # Rooms | # Hotels | # Rooms | # Hotels | # Rooms | # Hotels | # Rooms |
| 4 | 496 | 6 | 752 | 9 | 1,140 | 19 | 2,388 | — | — |
| | | | | | | | | | |
| Third-Party Pipeline & Recently Opened Hotels as of September 30, 2019 |
| Commitments | Applications | Executed | Total Pipeline | Opened YTD |
| # Hotels | # Rooms | # Hotels | # Rooms | # Hotels | # Rooms | # Hotels | # Rooms | # Hotels | # Rooms |
| 40 | 4,928 | 7 | 868 | 11 | 1,261 | 58 | 7,057 | 1 | 115 |
|
| |
| Definitions | |
| Under Option | Locations with a signed purchase and sale agreement |
| Pre-Development | Land purchased, permitted and/or site work |
| Under Construction | Hotel is under construction |
| Commitments | Signed commitment to build a certain number of hotels by a third party |
| Applications | Third party filed franchise application with deposit |
| Executed | Franchise application approved, various stages of pre-development and/or under construction |
Understanding Our Results of Operations—The Company
Revenues and Expenses. The Company’s revenues are derived from hotel ownership/operations and the franchise and management of hotels owned by third parties. Hotel operating expenses account for the largest portion of the Company’s operating expenses and reflect ongoing expenses associated with the ownership and operation of our hotels.
The following table presents the components of the Company’s revenues as a percentage of our total revenues for the nine months ended September 30, 2019:
|
| |
| | Percentage of 2019 Year to Date Total Revenues |
• Room revenues. Room revenues are driven primarily by ADR and occupancy. Pricing policy and customer mix are significant drivers of ADR. | 96.3% |
• Other hotel revenues. Other hotel revenues include ancillary revenues such as laundry revenues, vending commissions, additional housekeeping fees, purchased WiFi upgrades, parking revenues and pet charges. Occupancy and customer mix, as well as the number and percentage of guests that have longer-term stays, have been historical drivers of our other hotel revenues. | 1.9% |
• Franchise and management fees. Franchise and management fees include royalty and other fees charged to third parties for use of our brand name and hotel management services. The substantial majority of these fees are based on a percentage of revenues of the franchised or managed hotels. | 0.4% |
• Other revenues from franchised and managed properties. Other revenues from franchised and managed properties include the direct reimbursement of specific costs, such as on-site personnel expense and incremental reservation and other distribution costs, incurred by us for which we are reimbursed on a dollar-for-dollar basis. Additionally, these revenues include fees charged, typically based on a percentage of revenue from the franchised hotel, as reimbursement for indirect costs incurred by us associated with certain shared system-wide platforms (i.e., system services), such as marketing, technology infrastructure, central reservations, national sales and revenue management systems. | 1.4% |
The following table presents the components of the Company’s operating expenses as a percentage of our total operating expenses for the nine months ended September 30, 2019:
|
| |
| | Percentage of 2019 Year to Date Total Operating Expenses |
• Hotel operating expenses. Hotel operating expenses have both fixed and variable components. Operating expenses that are relatively fixed include personnel expense, real estate tax expense and property insurance premiums. Occupancy is a key driver of expenses that have a high degree of variability, such as housekeeping services and amenity costs. Other variable expenses include marketing costs, reservation costs, property insurance claims and repairs and maintenance expense. | 65.3% |
• General and administrative expenses. General and administrative expenses include expenses associated with corporate overhead. Costs consist primarily of compensation expense of our corporate staff, including equity-based compensation, and professional fees, including audit, tax, legal and consulting fees. | 10.1% |
• Depreciation and amortization. Depreciation and amortization is a charge that relates primarily to the acquisition and related usage of hotels and other property and equipment, including capital expenditures incurred with respect to hotel renovations and other capital expenditures. | 22.0% |
• Impairment of long-lived assets. Impairment of long-lived assets is a charge recognized when events and circumstances indicate that the carrying value of an individual hotel asset, or a group of hotel assets, may not be recoverable. | 0.4% |
• Other expenses from franchised and managed properties. Other expenses from franchised and managed properties include specific costs, such as on-site hotel personnel expense and incremental reservation and other distribution costs, incurred by us in the delivery of services for which we are reimbursed on a dollar-for-dollar basis. Additionally, these expenses include costs associated with shared system-wide platforms (i.e., system services), such as marketing, technology infrastructure, central reservations, national sales and revenue management systems, for which we are reimbursed over time through system service (i.e., program) fees. | 2.2% |
Understanding Our Results of Operations—ESH REIT
Revenues. ESH REIT’s rental revenues are generated from leasing its hotel properties to subsidiaries of the Corporation. Rental revenues consist of fixed minimum rental payments recognized on a straight-line basis over the lease terms plus variable rental payments based on specified percentages of total hotel revenues over designated thresholds.
The initial lease term of the operating leases expired in October 2018. In connection with the five-year renewal of the lease agreements, amended and restated leases were executed effective November 1, 2018. At such time, minimum and percentage rents were adjusted to reflect then-current market terms.
Expenses. The following table presents the components of ESH REIT’s operating expenses as a percentage of ESH REIT’s total operating expenses for the nine months ended September 30, 2019:
|
| |
| | Percentage of 2019 Year to Date Total Operating Expenses |
• Hotel operating expenses. ESH REIT’s hotel operating expenses include expenses directly related to hotel ownership, such as real estate tax expense, property insurance premiums and loss on disposal of assets. | 29.4% |
• General and administrative expenses. General and administrative expenses include overhead expenses incurred directly by ESH REIT and administrative service costs reimbursed to the Corporation. | 5.0% |
• Depreciation and amortization. Depreciation and amortization are charges that relate primarily to the acquisition and related usage of hotels and other property and equipment, including capital expenditures incurred with respect to hotel renovations and other capital expenditures. | 65.6% |
Results of Operations
Results of Operations discusses the Company’s and ESH REIT’s condensed consolidated financial statements, each of which have been prepared in accordance with U.S. GAAP. The condensed consolidated financial statements of the Company include the financial position, results of operations, comprehensive income, changes in equity and cash flows of the Corporation and its subsidiaries, including ESH REIT. Third-party equity interests in ESH REIT, which consist primarily of the Class B common stock of ESH REIT and represent 42% of ESH REIT’s total common equity, are not owned by the Corporation and therefore are presented as noncontrolling interests. The condensed consolidated financial statements of ESH REIT include the financial position, results of operations, comprehensive income, changes in equity and cash flows of ESH REIT and its subsidiaries.
Results of Operations—The Company
As of September 30, 2019, we owned and operated 554 hotels, consisting of approximately 61,500 rooms, and franchised and/or managed 72 hotels for third parties, consisting of approximately 7,400 rooms. As of September 30, 2018, we owned and operated 567 hotels, consisting of approximately 62,700 rooms, and franchised and/or managed 59 hotels for third parties, consisting of approximately 6,200 rooms.
Comparison of Three Months Ended September 30, 2019 and September 30, 2018
The following table presents our consolidated results of operations for the three months ended September 30, 2019 and 2018, including the amount and percentage change in these results between the periods (in thousands):
|
| | | | | | | | | | | | | | |
| | Three Months Ended September 30, | | | | |
| | 2019 | | 2018 | | Change ($) | | Change (%) |
| Revenues: | | | | | | | |
| Room revenues | $ | 320,669 |
| | $ | 340,917 |
| | $ | (20,248 | ) | | (5.9 | )% |
| Other hotel revenues | 6,475 |
| | 5,943 |
| | 532 |
| | 9.0 | % |
| Franchise and management fees | 1,351 |
| | 864 |
| | 487 |
| | 56.4 | % |
| | 328,495 |
| | 347,724 |
| | (19,229 | ) | | (5.5 | )% |
| Other revenues from franchised and managed properties | 4,200 |
| | 3,352 |
| | 848 |
| | 25.3 | % |
| Total revenues | 332,695 |
| | 351,076 |
| | (18,381 | ) | | (5.2 | )% |
| Operating expenses: | | | | | | | |
| Hotel operating expenses | 152,913 |
| | 156,341 |
| | (3,428 | ) | | (2.2 | )% |
| General and administrative expenses | 22,292 |
| | 21,242 |
| | 1,050 |
| | 4.9 | % |
| Depreciation and amortization | 49,748 |
| | 52,138 |
| | (2,390 | ) | | (4.6 | )% |
| Impairment of long-lived assets | 2,679 |
| | — |
| | 2,679 |
| | n/a |
|
| | 227,632 |
| | 229,721 |
| | (2,089 | ) | | (0.9 | )% |
| Other expenses from franchised and managed properties | 4,699 |
| | 3,449 |
| | 1,250 |
| | 36.2 | % |
| Total operating expenses | 232,331 |
| | 233,170 |
| | (839 | ) | | (0.4 | )% |
| Gain on sale of hotel properties | — |
| | 3,517 |
| | (3,517 | ) | | (100.0 | )% |
| Other income | 3 |
| | 39 |
| | (36 | ) | | (92.3 | )% |
| Income from operations | 100,367 |
| | 121,462 |
| | (21,095 | ) | | (17.4 | )% |
| Other non-operating expense (income) | 101 |
| | (251 | ) | | 352 |
| | 140.2 | % |
| Interest expense, net | 36,535 |
| | 31,007 |
| | 5,528 |
| | 17.8 | % |
| Income before income tax expense | 63,731 |
| | 90,706 |
| | (26,975 | ) | | (29.7 | )% |
| Income tax expense | 10,501 |
| | 15,014 |
| | (4,513 | ) | | (30.1 | )% |
| Net income | 53,230 |
| | 75,692 |
| | (22,462 | ) | | (29.7 | )% |
| Net income attributable to noncontrolling interests | (12,159 | ) | | (3,790 | ) | | (8,369 | ) | | 220.8 | % |
| Net income attributable to Extended Stay America, Inc. common shareholders | $ | 41,071 |
| | $ | 71,902 |
| | $ | (30,831 | ) | | (42.9 | )% |
The following table presents key operating metrics, including occupancy, ADR, RevPAR and hotel inventory for our owned hotels for the three months ended September 30, 2019 and 2018, respectively:
|
| | | | | |
| | Three Months Ended September 30, | | |
| | 2019 | | 2018 | | Change |
| Number of hotels (as of September 30) | 554 | | 567 | | (13) |
| Number of rooms (as of September 30) | 61,486 | | 62,748 | | (1,262) |
| Occupancy | 80.8% | | 80.2% | | 60 bps |
| ADR | $70.10 | | $69.85 | | 0.4% |
| RevPAR | $56.66 | | $56.02 | | 1.1% |
| | | | | | |
| Renovation Displacement Data (in thousands, except percentages): | | | | | |
| Total available room nights | 5,657 | | 5,773 | | (116) |
| Room nights displaced from renovation | 10 | | — | | 10 |
| % of available room nights displaced | 0.2% | | —% | | 20 bps |
Room revenues. Room revenues decreased by $20.2 million, or 5.9%, to $320.7 million for the three months ended September 30, 2019, compared to $340.9 million for the three months ended September 30, 2018, primarily due to the sale of 32 hotels that occurred in September 2018. Additionally, on a Comparable Hotel basis, room revenues decreased by $4.7 million, or 1.5%, due to a 1.4% decline in RevPAR for hotels we owned and operated during the entirety of both periods, which was the result of a 1.6% decrease in ADR, partially offset by a 0.1% increase in occupancy.
Other hotel revenues. Other hotel revenues increased by $0.5 million, or 9.0%, to $6.5 million for the three months ended September 30, 2019, compared to $5.9 million for the three months ended September 30, 2018. On a Comparable Hotel basis, other hotel revenues increased by $0.8 million, or 14.0%, due to system and process improvements that improved our billing efficiency and collection of cancellation and other fees.
Franchise and management fees. For the three months ended September 30, 2019, we earned franchise and management fees of $1.4 million, and for the three months ended September 30, 2018, we earned franchise and management fees of $0.9 million. The $0.5 million increase in fees was the result of the addition of 13 hotels on a net basis, or approximately 1,200 rooms, to our franchise and management segment. We expect additional newly built and brand-converted franchised hotels to open in the future.
Other revenues from franchised and managed properties. For the three months ended September 30, 2019 and 2018, we recognized $4.2 million and $3.4 million, respectively, in other revenues from franchised and managed properties. Other revenues from franchised and managed properties include both direct and indirect reimbursable costs.
Hotel operating expenses. Hotel operating expenses decreased by $3.4 million, or 2.2%, to $152.9 million for the three months ended September 30, 2019, compared to $156.3 million for the three months ended September 30, 2018. On a Comparable Hotel basis, hotel operating expenses increased by $5.9 million, or 4.0%. The increase in hotel operating expenses was primarily due to increases in personnel expense of $3.3 million, allowance for uncollectible guest balances of $1.9 million and cable and internet costs of $0.6 million.
General and administrative expenses. General and administrative expenses increased by $1.1 million, or 4.9%, to $22.3 million for the three months ended September 30, 2019, compared to $21.2 million for the three months ended September 30, 2018. The increase in general and administrative expenses was primarily due to employee separation costs of $1.2 million.
Depreciation and amortization. Depreciation and amortization decreased by $2.4 million, or 4.6%, to $49.7 million for the three months ended September 30, 2019, compared to $52.1 million for the three months ended September 30, 2018, primarily due to hotel dispositions that occurred in September 2018.
Impairment of long-lived assets. During the three months ended September 30, 2019, we recognized an impairment charge of $2.7 million related to a hotel located in New York. The impairment charge was the result of a decline in the hotel’s estimated future operating cash flows. No impairment charges were recognized during the three months ended September 30, 2018. The estimation and evaluation of future cash flows, which is a key factor in determining the amount and/or timing of impairment charges, in particular the holding period for real estate assets and asset composition and/or concentration within
real estate portfolios, relies on judgments and assumptions regarding holding period, current and future operating and economic performance and current and future market conditions. It is possible that such judgments and/or estimates will change; if this occurs, we may recognize additional impairment charges or losses in future periods reflecting either changes in estimate, circumstance or the estimated market value of our assets.
Other expenses from franchised and managed properties. For the three months ended September 30, 2019, we incurred other expenses from franchised and managed properties of $4.7 million, and for the three months ended September 30, 2018, we incurred other expenses from franchised and managed properties of $3.4 million. We generally expect the cost to provide certain shared system-wide platforms to franchisees to be recovered through system services fees. System services fees are included in other revenues from franchised and managed properties.
Gain on sale of hotel properties. No hotels were sold during the three months ended September 30, 2019. During the three months ended September 30, 2018, we recognized a $3.5 million gain related to the sale of 32 hotels.
Other income. No material other income was recognized during the three months ended September 30, 2019 and 2018.
Other non-operating expense (income). During the three months ended September 30, 2019 and 2018, we recognized a foreign currency transaction loss of $0.1 million and gain of $0.3 million, respectively, related to a residual Canadian dollar-denominated deposit resulting from the 2017 sale of our Canadian hotels.
Interest expense, net. During the three months ended September 30, 2019, we incurred debt extinguishment and modification costs of $6.7 million, consisting of the write-off of unamortized deferred financing costs and debt discount of $5.6 million and other costs of $1.1 million, which related to the $500.0 million repayment of outstanding borrowings under the ESH REIT Term Facility and the modification of the ESH REIT Credit Facilities. Excluding debt extinguishment and modification costs, net interest expense decreased $1.2 million, or 3.9%, to $29.8 million for the three months ended September 30, 2019, compared to $31.0 million for the three months ended September 30, 2018, primarily due to an increase in interest income earned on money market investments. The Company’s weighted-average interest rate was 4.7% as of September 30, 2019 and 2018. The Company’s total debt outstanding increased to $2.6 billion, net of unamortized deferred financing costs and debt discounts, as of September 30, 2019, compared to $2.5 billion, net of unamortized deferred financing costs and debt discounts, as of September 30, 2018 as a result of the issuance of $750.0 million of 2027 Notes.
Income tax expense. Our effective income tax rate decreased to 16.5% for the three months ended September 30, 2019, compared to 16.6% for the three months ended September 30, 2018. The Company’s effective rate differs from the current federal statutory rate of 21% primarily due to ESH REIT’s status as a REIT under the provisions of the Internal Revenue Code of 1986, as amended (the “Code”). The decrease in the effective income tax rate for the three months ended September 30, 2019 was due to a slight decrease in dividend income and other factors with respect to the Corporation’s ownership in ESH REIT.
Net income attributable to noncontrolling interests. Third-party equity interests in Extended Stay America, Inc. consist of the outstanding shares of the Class B common stock of ESH REIT, which represented 42% and 43% of ESH REIT’s total common equity as of September 30, 2019 and 2018, respectively.
Comparison of Nine Months Ended September 30, 2019 and September 30, 2018
The following table presents our consolidated results of operations for the nine months ended September 30, 2019 and 2018, including the amount and percentage change in these results between the periods (in thousands):
|
| | | | | | | | | | | | | | |
| | Nine Months Ended
September 30, | | | | |
| | 2019 | | 2018 | | Change ($) | | Change (%) |
| Revenues: | | | | | | | |
| Room revenues | $ | 899,329 |
| | $ | 958,075 |
| | $ | (58,746 | ) | | (6.1 | )% |
| Other hotel revenues | 17,848 |
| | 16,710 |
| | 1,138 |
| | 6.8 | % |
| Franchise and management fees | 4,023 |
| | 2,140 |
| | 1,883 |
| | 88.0 | % |
| | 921,200 |
| | 976,925 |
| | (55,725 | ) | | (5.7 | )% |
| Other revenues from franchised and managed properties | 12,821 |
| | 8,419 |
| | 4,402 |
| | 52.3 | % |
| Total revenues | 934,021 |
| | 985,344 |
| | (51,323 | ) | | (5.2 | )% |
| Operating expenses: | | | | | | | |
| Hotel operating expenses | 437,111 |
| | 443,025 |
| | (5,914 | ) | | (1.3 | )% |
| General and administrative expenses | 67,606 |
| | 69,710 |
| | (2,104 | ) | | (3.0 | )% |
| Depreciation and amortization | 147,543 |
| | 159,652 |
| | (12,109 | ) | | (7.6 | )% |
| Impairment of long-lived assets | 2,679 |
| | 43,600 |
| | (40,921 | ) | | (93.9 | )% |
| | 654,939 |
| | 715,987 |
| | (61,048 | ) | | (8.5 | )% |
| Other expenses from franchised and managed properties | 14,342 |
| | 8,762 |
| | 5,580 |
| | 63.7 | % |
| Total operating expenses | 669,281 |
| | 724,749 |
| | (55,468 | ) | | (7.7 | )% |
| Gain on sale of hotel properties | — |
| | 41,599 |
| | (41,599 | ) | | (100.0 | )% |
| Other income | 31 |
| | 501 |
| | (470 | ) | | (93.8 | )% |
| Income from operations | 264,771 |
| | 302,695 |
| | (37,924 | ) | | (12.5 | )% |
| Other non-operating (income) expense | (248 | ) | | 48 |
| | (296 | ) | | 616.7 | % |
| Interest expense, net | 95,905 |
| | 95,072 |
| | 833 |
| | 0.9 | % |
| Income before income tax expense | 169,114 |
| | 207,575 |
| | (38,461 | ) | | (18.5 | )% |
| Income tax expense | 27,822 |
| | 35,218 |
| | (7,396 | ) | | (21.0 | )% |
| Net income | 141,292 |
| | 172,357 |
| | (31,065 | ) | | (18.0 | )% |
| Net income attributable to noncontrolling interests | (24,790 | ) | | (20,547 | ) | | (4,243 | ) | | 20.7 | % |
| Net income attributable to Extended Stay America, Inc. common shareholders | $ | 116,502 |
| | $ | 151,810 |
| | $ | (35,308 | ) | | (23.3 | )% |
The following table presents key operating metrics, including occupancy, ADR, RevPAR and hotel inventory for our owned hotels for the nine months ended September 30, 2019 and 2018, respectively:
|
| | | | | |
| | Nine Months Ended
September 30, | | |
| | 2019 | | 2018 | | Change |
| Number of hotels (as of September 30) | 554 | | 567 | | (13) |
| Number of rooms (as of September 30) | 61,486 | | 62,748 | | (1,262) |
| Occupancy | 77.4% | | 76.0% | | 140 bps |
| ADR | $69.15 | | $69.24 | | (0.1)% |
| RevPAR | $53.53 | | $52.65 | | 1.7% |
| | | | | | |
| Renovation Displacement Data (in thousands, except percentages): | | | | | |
| Total available room nights | 16,786 | | 17,130 | | (344) |
| Room nights displaced from renovation | 45 | | — | | 45 |
| % of available room nights displaced | 0.3% | | —% | | 30 bps |
Room revenues. Room revenues decreased by $58.7 million, or 6.1%, to $899.3 million for the nine months ended September 30, 2019, compared to $958.1 million for the nine months ended September 30, 2018, primarily due to hotel dispositions which occurred in the first and third quarters of 2018. On a Comparable Hotel basis, room revenues decreased by $10.9 million, or 1.2%, due to a 1.2% decrease in RevPAR for hotels we owned and operated for the entirety of both periods. The 1.2% RevPAR decline for the Comparable Hotels was the result of a 2.1% decrease in ADR, partially offset by a 0.7% increase in occupancy.
Other hotel revenues. Other hotel revenues increased by $1.1 million, or 6.8%, to $17.8 million for the nine months ended September 30, 2019, compared to $16.7 million for the nine months ended September 30, 2018. On a Comparable Hotel basis, other hotel revenues increased by $2.2 million, or 14.0%, due to system and process improvements that improved billing efficiency and collection of cancellation and other fees.
Franchise and management fees. For the nine months ended September 30, 2019, we earned franchise and management fees of $4.0 million, and for the nine months ended September 30, 2018, we earned franchise and management fees of $2.1 million. The $1.9 million increase in fees was the result of the addition of 13 hotels on a net basis, or approximately 1,200 rooms, to our franchise and management segment. We expect additional newly built and brand-converted franchised hotels to open in the future.
Other revenues from franchised and managed properties. For the nine months ended September 30, 2019 and 2018, we recognized $12.8 million and $8.4 million, respectively, in other revenues from franchised and managed properties. Other revenues from franchised and managed properties include both direct and indirect reimbursable costs.
Hotel operating expenses. Hotel operating expenses decreased by $5.9 million, or 1.3%, to $437.1 million for the nine months ended September 30, 2019, compared to $443.0 million for the nine months ended September 30, 2018. On a Comparable Hotel basis, hotel operating expenses increased by $23.7 million, or 5.8%. The increase in hotel operating expenses was primarily due to increases in personnel expense of $9.5 million, allowance for uncollectible guest balances of $2.9 million, marketing costs of $2.8 million, cable, internet and telephone costs of $2.7 million, loss on disposal of assets of $2.4 million, real estate tax expense of $1.3 million and insurance expense of $1.0 million.
General and administrative expenses. General and administrative expenses decreased by $2.1 million, or 3.0%, to $67.6 million for the nine months ended September 30, 2019, compared to $69.7 million for the nine months ended September 30, 2018. This decrease was primarily due to decreases in professional fees and compensation expense.
Depreciation and amortization. Depreciation and amortization decreased by $12.1 million, or 7.6%, to $147.5 million for the nine months ended September 30, 2019, compared to $159.7 million for the nine months ended September 30, 2018, primarily due to hotel dispositions which occurred in the first and third quarters of 2018.
Impairment of long-lived assets. During the nine months ended September 30, 2019, we recognized an impairment charge of $2.7 million related to a hotel located in New York. The impairment charge was incurred as a result of a decline in the hotel’s estimated future operating cash flows. During the nine months ended September 30, 2018, we recognized impairment charges
for 21 hotels, generally located in the Midwestern U.S., which totaled $43.6 million. The majority of the charges incurred were in connection with evaluating the potential sale of certain non-core assets. The estimation and evaluation of future cash flows, which is a key factor in determining the amount and/or timing of impairment charges, in particular the holding period for real estate assets and asset composition and/or concentration within real estate portfolios, relies on judgments and assumptions regarding holding period, current and future operating and economic performance and current and future market conditions. It is possible that such judgments and/or estimates will change; if this occurs, we may recognize additional impairment charges reflecting either changes in estimate, circumstance or the estimated market value of our assets.
Other expenses from franchised and managed properties. For the nine months ended September 30, 2019, we incurred other expenses from franchised and managed properties of $14.3 million and for the nine months ended September 30, 2018, we incurred other expenses from franchised and managed properties of $8.8 million. We generally expect the cost to provide certain shared system-wide platforms to franchisees to be recovered through system services fees. System services fees are included in other revenues from franchised and managed properties.
Gain on sale of hotel properties. No hotels were sold during the nine months ended September 30, 2019. During the nine months ended September 30, 2018, we recognized a $41.6 million gain related to the sale of 58 hotels.
Other income. No material other income was recognized during the nine months ended September 30, 2019. Other income for the nine months ended September 30, 2018 was $0.5 million, which primarily related to a business interruption insurance reimbursement.
Other non-operating (income) expense. During the nine months ended September 30, 2019 and 2018, we recognized a foreign currency transaction gain of $0.2 million and loss of less than $0.1 million, respectively, related to a residual Canadian dollar-denominated deposit resulting from the 2017 sale of our Canadian hotels.
Interest expense, net. During the nine months ended September 30, 2019, we incurred debt extinguishment and modification costs of $6.7 million, consisting of the write-off of unamortized deferred financing costs and debt discount of $5.6 million and other costs of $1.1 million, which related to the $500.0 million repayment of outstanding borrowings under the ESH REIT Term Facility and the modification of the ESH REIT Credit Facilities. During the nine months ended September 30, 2018, we incurred debt modification costs of $1.6 million related to repricing the ESH REIT Term Facility. Excluding debt extinguishment and modification costs, net interest expense decreased $4.3 million, or 4.6%, to $89.2 million for the nine months ended September 30, 2019, compared to $93.5 million for the nine months ended September 30, 2018, due to an increase in interest income earned on money market investments. The Company’s weighted-average interest rate was 4.7% as of September 30, 2019 and 2018. The Company’s total debt outstanding increased to $2.6 billion, net of unamortized deferred financing costs and debt discounts, as of September 30, 2019 compared to $2.5 billion, net of unamortized deferred financing costs and debt discounts, as of September 30, 2018 as a result of the issuance of $750.0 million of 2027 Notes.
Income tax expense. Our effective income tax rate decreased to 16.5% for the nine months ended September 30, 2019, compared to 17.0% for the nine months ended September 30, 2018. The Company’s effective rate differs from the current federal statutory rate of 21% primarily due to ESH REIT’s status as a REIT under the provisions of the Code. The decrease in the effective income tax rate for the nine months ended September 30, 2019 was due to a slight decrease in dividend income and other factors with respect to the Corporation’s ownership in ESH REIT.
Net income attributable to noncontrolling interests. Third-party equity interests in the Company consist of the outstanding shares of the Class B common stock of ESH REIT, which represented 42% and 43% of ESH REIT’s total common equity as of September 30, 2019 and 2018, respectively.
Results of Operations—ESH REIT
ESH REIT’s sole source of revenues is lease rental revenues. The initial lease term of ESH REIT’s lease agreements expired in October 2018. In connection with the five-year renewal of the lease agreements, amended and restated leases were executed effective November 1, 2018. At such time, minimum and percentage rents were adjusted to reflect then-current market terms. Hotel operating expenses reflect only those hotel operating expenses incurred directly related to hotel ownership. Administrative service costs reimbursed to the Corporation are included as a component of general and administrative expenses.
As of September 30, 2019, ESH REIT owned and leased 554 hotels, consisting of approximately 61,500 rooms. As of September 30, 2018, ESH REIT owned and leased 567 hotels, consisting of approximately 62,700 rooms.
Comparison of Three Months Ended September 30, 2019 and September 30, 2018
The following table presents ESH REIT’s results of operations for the three months ended September 30, 2019 and 2018, including the amount and percentage change in these results between the periods (in thousands):
|
| | | | | | | | | | | | | |
| | Three Months Ended September 30, | | | | |
| | 2019 | | 2018 | | Change ($) | | Change (%) |
Revenues- Rental revenues from Extended Stay America, Inc. | $ | 139,455 |
| | $ | 142,977 |
| | $ | (3,522 | ) | | (2.5)% |
| Operating expenses: | | | | | | | |
| Hotel operating expenses | 21,577 |
| | 22,621 |
| | (1,044 | ) | | (4.6)% |
| General and administrative expenses | 3,477 |
| | 3,393 |
| | 84 |
| | 2.5% |
| Depreciation and amortization | 48,885 |
| | 51,748 |
| | (2,863 | ) | | (5.5)% |
| Total operating expenses | 73,939 |
| | 77,762 |
| | (3,823 | ) | | (4.9)% |
| Loss on sale of hotel properties | — |
| | (25,657 | ) | | 25,657 |
| | (100.0)% |
| Other income | — |
| | 20 |
| | (20 | ) | | (100.0)% |
| Income from operations | 65,516 |
| | 39,578 |
| | 25,938 |
| | 65.5% |
| Other non-operating expense (income) | 79 |
| | (216 | ) | | 295 |
| | 136.6% |
| Interest expense, net | 36,882 |
| | 30,931 |
| | 5,951 |
| | 19.2% |
| Income before income tax expense | 28,555 |
| | 8,863 |
| | 19,692 |
| | 222.2% |
| Income tax expense | 88 |
| | 42 |
| | 46 |
| | 109.5% |
| Net income | $ | 28,467 |
| | $ | 8,821 |
| | $ | 19,646 |
| | 222.7% |
Rental revenues from Extended Stay America, Inc. Rental revenues decreased by $3.5 million, or 2.5%, to $139.5 million for the three months ended September 30, 2019, compared to $143.0 million for the three months ended September 30, 2018. The decrease in rental revenues was due to the sale of 32 hotels in September 2018 and a decrease in revenues of the leased Comparable Hotels, partially offset by the renewal of the lease agreements between ESH REIT and the Operating Lessees in November 2018, which reset the straight-line impact of future fixed minimum rent increases. Percentage rental revenues were $21.5 million and $31.4 million during the three months ended September 30, 2019 and 2018, respectively.
Hotel operating expenses. Hotel operating expenses decreased by $1.0 million, or 4.6%, to $21.6 million for the three months ended September 30, 2019, compared to $22.6 million for the three months ended September 30, 2018. This decrease was primarily due to the 32 hotel dispositions which occurred during September 2018.
General and administrative expenses. General and administrative expenses increased by $0.1 million, or 2.5%, to $3.5 million for the three months ended September 30, 2019, compared to $3.4 million for the three months ended September 30, 2018.
Depreciation and amortization. Depreciation and amortization decreased by $2.9 million, or 5.5%, to $48.9 million for the three months ended September 30, 2019, compared to $51.7 million for the three months ended September 30, 2018, primarily due to the 32 hotel dispositions which occurred during September 2018.
Loss on sale of hotel properties. No hotels were sold during the three months ended September 30, 2019. During the three months ended September 30, 2018, ESH REIT recognized a loss on sale of hotel properties of $25.7 million related to the sale of 32 hotel properties.
Other income. No material other income was recognized during the three months ended September 30, 2019 and 2018.
Other non-operating expense (income). During the three months ended September 30, 2019 and 2018, ESH REIT recognized a foreign currency transaction loss of $0.1 million and gain of $0.2 million, respectively, related to a residual Canadian dollar-denominated deposit resulting from the 2017 sale of its Canadian hotels.
Interest expense, net. During the three months ended September 30, 2019, ESH REIT incurred debt extinguishment and modification costs of $6.7 million, consisting of the write-off of unamortized deferred financing costs and debt discount of $5.6 million and other costs of $1.1 million, which related to the $500.0 million repayment of outstanding borrowings under the ESH REIT Term Facility and the modification of the ESH REIT Credit Facilities. Excluding debt extinguishment and modification costs, net interest expense decreased $0.7 million, or 2.3%, to $30.2 million, for the three months ended September 30, 2019, compared to $30.9 million for the three months ended September 30, 2018, due to an increase in interest income earned on money market investments. ESH REIT’s weighted-average interest rate was 4.7% and 4.6% as of September 30, 2019 and 2018, respectively. ESH REIT’s total debt outstanding increased to $2.6 billion, net of unamortized deferred financing costs and debt discounts, as of September 30, 2019 compared to $2.5 billion, net of unamortized deferred financing costs and debt discounts, as of September 30, 2018 as a result of the issuance of $750.0 million of 2027 Notes.
Income tax expense. ESH REIT’s effective income tax rate decreased to 0.3% for the three months ended September 30, 2019 compared to 0.5% for the three months ended September 30, 2018. ESH REIT’s effective rate differs from the federal statutory rate of 21% primarily due to ESH REIT’s status as a REIT under the provisions of the Code.
Comparison of Nine Months Ended September 30, 2019 and September 30, 2018
The following table presents ESH REIT’s results of operations for the nine months ended September 30, 2019 and 2018, including the amount and percentage change in these results between the periods (in thousands):
|
| | | | | | | | | | | | | |
| | Nine Months Ended
September 30, | | | | |
| | 2019 | | 2018 | | Change ($) | | Change (%) |
Revenues- Rental revenues from Extended Stay America, Inc. | $ | 375,562 |
| | $ | 367,840 |
| | $ | 7,722 |
| | 2.1% |
| Operating expenses: | | | | | | | |
| Hotel operating expenses | 64,822 |
| | 64,677 |
| | 145 |
| | 0.2% |
| General and administrative expenses | 11,002 |
| | 11,705 |
| | (703 | ) | | (6.0)% |
| Depreciation and amortization | 144,884 |
| | 158,566 |
| | (13,682 | ) | | (8.6)% |
| Total operating expenses | 220,708 |
| | 234,948 |
| | (14,240 | ) | | (6.1)% |
| Gain on sale of hotel properties | — |
| | 9,753 |
| | (9,753 | ) | | (100.0)% |
| Other income | 15 |
| | 499 |
| | (484 | ) | | (97.0)% |
| Income from operations | 154,869 |
| | 143,144 |
| | 11,725 |
| | 8.2% |
| Other non-operating (income) expense | (194 | ) | | 50 |
| | (244 | ) | | 488.0% |
| Interest expense, net | 97,083 |
| | 94,710 |
| | 2,373 |
| | 2.5% |
| Income before income tax expense | 57,980 |
| | 48,384 |
| | 9,596 |
| | 19.8% |
| Income tax expense | 98 |
| | 792 |
| | (694 | ) | | (87.6)% |
| Net income | $ | 57,882 |
| | $ | 47,592 |
| | $ | 10,290 |
| | 21.6% |
Rental revenues from Extended Stay America, Inc. Rental revenues increased by $7.7 million, or 2.1%, to $375.6 million for the nine months ended September 30, 2019, compared to $367.8 million for the nine months ended September 30, 2018. The increase in rental revenues was due to the renewal of the lease agreements between ESH REIT and the Operating Lessees in November 2018, which reset the straight-line impact of fixed minimum rent increases, partially offset by a decrease in percentage rental revenues resulting from the sale of 58 hotels in 2018 and a decrease in revenues of the leased Comparable
Hotels. Percentage rental revenues were $21.5 million and $31.8 million during the nine months ended September 30, 2019 and 2018, respectively.
Hotel operating expenses. Hotel operating expenses increased by $0.1 million, or 0.2%, to $64.8 million for the nine months ended September 30, 2019, compared to $64.7 million for the nine months ended September 30, 2018. This increase was due to an increase in loss on disposal of assets of $2.4 million, mostly offset by a decrease in expenses related to sold hotels.
General and administrative expenses. General and administrative expenses decreased by $0.7 million, or 6.0%, to $11.0 million for the nine months ended September 30, 2019, compared to $11.7 million for the nine months ended September 30, 2018. This decrease was primarily due to decreases in professional fees and costs paid to the Corporation for administrative services performed on ESH REIT’s behalf.
Depreciation and amortization. Depreciation and amortization decreased by $13.7 million, or 8.6%, to $144.9 million for the nine months ended September 30, 2019, compared to $158.6 million for the nine months ended September 30, 2018, primarily due to the sale of 58 hotels which occurred during the first and third quarters of 2018.
Gain on sale of hotel properties. No hotels were sold during the nine months ended September 30, 2019. During the nine months ended September 30, 2018, ESH REIT recognized a gain of $9.8 million related to the sale of 58 hotels.
Other income. No material other income was recognized during the nine months ended September 30, 2019. Other income for the nine months ended September 30, 2018 was $0.5 million, which primarily related to a business interruption insurance reimbursement.
Other non-operating (income) expense. During the nine months ended September 30, 2019 and 2018, ESH REIT recognized a foreign currency transaction gain of $0.2 million and loss of $0.1 million, respectively, related to a residual Canadian dollar-denominated deposit resulting from the 2017 sale of our Canadian hotels.
Interest expense, net. During the nine months ended September 30, 2019, ESH REIT incurred debt extinguishment and modification costs of $6.7 million, consisting of the write-off of unamortized deferred financing costs and debt discount of $5.6 million and other costs of $1.1 million, which related to the $500.0 million repayment of outstanding borrowings under the ESH REIT Term Facility and the modification of the ESH REIT Credit Facilities. During the nine months ended September 30, 2018, ESH REIT incurred debt modification costs of $1.6 million related to repricing the ESH REIT Term Facility. Excluding debt extinguishment and modification costs, net interest expense decreased $2.7 million, or 2.9%, to $90.4 million for the nine months ended September 30, 2019, compared to $93.1 million for the nine months ended September 30, 2018, due to an increase in interest income earned on money market investments. ESH REIT’s weighted-average interest rate was 4.7% and 4.6% as of September 30, 2019 and 2018, respectively. ESH REIT’s total debt outstanding increased to $2.6 billion, net of unamortized deferred financing costs and debt discounts, as of September 30, 2019, compared to $2.5 billion, net of unamortized deferred financing costs and debt discounts, as of September 30, 2018 as a result of the issuance of $750.0 million of 2027 Notes.
Income tax expense. ESH REIT’s effective income tax rate decreased to 0.2% for the nine months ended September 30, 2019, compared to 1.6% for the nine months ended September 30, 2018. ESH REIT’s effective rate differs from the federal statutory rate of 21% primarily due to ESH REIT’s status as a REIT under the provisions of the Code. The decrease in the effective income tax rate for the nine months ended September 30, 2019 was primarily due to the fact that ESH REIT filed its final Canadian income tax return during the nine months ended September 30, 2018, which resulted in $0.7 million in incremental income tax expense.
Non-GAAP Financial Measures
Hotel Operating Profit and Hotel Operating Margin
Hotel Operating Profit and Hotel Operating Margin measure hotel-level operating results prior to certain items, including debt service, income tax expense, impairment charges, depreciation and amortization and general and administrative expenses. The Company believes that Hotel Operating Profit and Hotel Operating Margin are useful measures to investors regarding our operating performance as they help us evaluate aggregate owned hotel-level profitability, specifically owned hotel operating efficiency and effectiveness. Further, these measures allow us to analyze period over period operating margin flow-through, defined as the change in Hotel Operating Profit divided by the change in total room and other hotel revenues.
We define Hotel Operating Profit as net income excluding: (1) income tax expense; (2) net interest expense; (3) other non-operating expense (income); (4) other income; (5) gain on sale of hotel properties; (6) impairment of long-lived assets; (7) depreciation and amortization; (8) general and administrative expenses; (9) loss on disposal of assets; (10) franchise and management fees; and (11) other expenses from franchised and managed properties, net of other revenues. We define Hotel Operating Margin as Hotel Operating Profit divided by the sum of room and other hotel revenues. We believe that Hotel Operating Profit and Hotel Operating Margin are not meaningful or useful measures for ESH REIT on a stand-alone basis due to the fact that a Paired Share represents an investment in the Company, as a single, consolidated enterprise, which is reflected in the consolidated Company results of operations; therefore, we believe these performance measures are meaningful for the consolidated Company only.
The following table provides a reconciliation of Hotel Operating Profit and Hotel Operating Margin for the Company for the three and nine months ended September 30, 2019 and 2018 (in thousands):
|
| | | | | | | | | | | | | | | |
| | Three Months Ended
September 30, | | Nine Months Ended
September 30, |
| | 2019 | | 2018 | | 2019 | | 2018 |
| Net income | $ | 53,230 |
| | $ | 75,692 |
| | $ | 141,292 |
| | $ | 172,357 |
|
| Income tax expense | 10,501 |
| | 15,014 |
| | 27,822 |
| | 35,218 |
|
| Interest expense, net | 36,535 |
| | 31,007 |
| | 95,905 |
| | 95,072 |
|
| Other non-operating expense (income) | 101 |
| | (251 | ) | | (248 | ) | | 48 |
|
| Other income | (3 | ) | | (39 | ) | | (31 | ) | | (501 | ) |
| Gain on sale of hotel properties | — |
| | (3,517 | ) | | — |
| | (41,599 | ) |
| Impairment of long-lived assets | 2,679 |
| | — |
| | 2,679 |
| | 43,600 |
|
| Depreciation and amortization | 49,748 |
| | 52,138 |
| | 147,543 |
| | 159,652 |
|
| General and administrative expenses | 22,292 |
| | 21,242 |
| | 67,606 |
| | 69,710 |
|
Loss on disposal of assets(1) | 1,660 |
| | 1,949 |
| | 5,037 |
| | 2,617 |
|
| Franchise and management fees | (1,351 | ) | | (864 | ) | | (4,023 | ) | | (2,140 | ) |
| Other expenses from franchised and managed properties, net of other revenues | 499 |
| | 97 |
| | 1,521 |
| | 343 |
|
| Hotel Operating Profit | $ | 175,891 |
| | $ | 192,468 |
| | $ | 485,103 |
| | $ | 534,377 |
|
| | | | | | | | |
| Room revenues | $ | 320,669 |
| | $ | 340,917 |
| | $ | 899,329 |
| | $ | 958,075 |
|
| Other hotel revenues | 6,475 |
| | 5,943 |
| | 17,848 |
| | 16,710 |
|
| Total room and other hotel revenues | $ | 327,144 |
| | $ | 346,860 |
| | $ | 917,177 |
| | $ | 974,785 |
|
| | | | | | | | |
| Hotel Operating Margin | 53.8 | % | | 55.5 | % | | 52.9 | % | | 54.8 | % |
________________________
(1) Included in hotel operating expenses in the condensed consolidated statements of operations.
EBITDA and Adjusted EBITDA
EBITDA is defined as net income excluding: (1) net interest expense; (2) income tax expense; and (3) depreciation and amortization. EBITDA is a commonly used measure of performance in many industries. The Company believes that EBITDA provides useful information to investors regarding our operating performance as it helps us and investors evaluate the ongoing performance of our hotels and our franchise and management operations after removing the impact of our capital structure, primarily net interest expense, our corporate structure, primarily income tax expense, and our asset base, primarily depreciation and amortization. We believe that the use of EBITDA facilitates comparisons between us and other lodging companies, hotel owners and capital-intensive companies. Additionally, EBITDA is a measure that is used by management in our annual budgeting and compensation planning processes.
The Company uses Adjusted EBITDA when evaluating our performance because we believe the adjustment for certain additional items, described below, provides useful supplemental information to investors regarding ongoing operating performance and that the presentation of Adjusted EBITDA, when combined with the U.S. GAAP presentation of net income, net income per share and cash flow provided by operating activities, is beneficial to the overall understanding of ongoing operating performance. We adjust EBITDA for the following items, where applicable for each period presented, and refer to this measure as Adjusted EBITDA:
| |
| • | Equity-based compensation—We exclude charges related to equity-based compensation expense with respect to awards issued under long-term incentive compensation plans to employees and certain directors. |
| |
| • | Impairment of long-lived assets—We exclude the effect of impairment losses recorded on property and equipment and intangible assets, as we believe they are not reflective of ongoing or future operating performance. |
| |
| • | Gain on sale of hotel properties—We exclude the net gain on sale of hotel properties, as we believe it is not reflective of ongoing or future operating performance. |
| |
| • | Other expense (income)—We exclude the effect of other expense or income that we do not consider reflective of ongoing or future operating performance, including the following: loss (gain) on disposal of assets, non-operating expense (income), including foreign currency transaction costs, and certain costs associated with acquisitions, dispositions and/or capital transactions. |
EBITDA and Adjusted EBITDA as presented may not be comparable to similar measures calculated by other companies. This information should not be considered as an alternative to net income of the Company, the Corporation or ESH REIT, or any other measure of the Company, the Corporation or ESH REIT calculated in accordance with U.S. GAAP. Cash expenditures for capital expenditures, interest expense and other items have been and will continue to be incurred and are not reflected in EBITDA or Adjusted EBITDA. Management separately considers the impact of these excluded items to the extent they are material to operating decisions and assessments of operating performance. The Company’s condensed consolidated statements of operations and cash flows include capital expenditures, net interest expense and other excluded items, all of which should be considered when evaluating our performance in addition to our non-GAAP financial measures. EBITDA and Adjusted EBITDA should not solely be considered as measures of our profitability or indicative of funds available to fund our cash needs, including our ability to pay shareholder distributions.
We believe that EBITDA and Adjusted EBITDA are not meaningful or useful measures for ESH REIT on a stand-alone basis due to the fact that a Paired Share represents an investment in the Company, as a single, consolidated enterprise, which is reflected in the consolidated Company results of operations; therefore, we believe these performance measures are meaningful for the consolidated Company only.
The following table provides a reconciliation of net income to EBITDA and Adjusted EBITDA for the Company for the three and nine months ended September 30, 2019 and 2018 (in thousands):
|
| | | | | | | | | | | | | | | |
| | Three Months Ended
September 30, | | Nine Months Ended
September 30, |
| | 2019 | | 2018 | | 2019 | | 2018 |
| Net income | $ | 53,230 |
| | $ | 75,692 |
| | $ | 141,292 |
| | $ | 172,357 |
|
| Interest expense, net | 36,535 |
| | 31,007 |
| | 95,905 |
| | 95,072 |
|
| Income tax expense | 10,501 |
| | 15,014 |
| | 27,822 |
| | 35,218 |
|
| Depreciation and amortization | 49,748 |
| | 52,138 |
| | 147,543 |
| | 159,652 |
|
| EBITDA | 150,014 |
| | 173,851 |
| | 412,562 |
| | 462,299 |
|
| Equity-based compensation | 1,876 |
| | 1,811 |
| | 6,131 |
| | 5,999 |
|
| Impairment of long-lived assets | 2,679 |
| | — |
| | 2,679 |
| | 43,600 |
|
| Gain on sale of hotel properties | — |
| | (3,517 | ) | | — |
| | (41,599 | ) |
Other expense(1) | 1,756 |
| | 1,532 |
| | 4,907 |
| | 2,879 |
|
| Adjusted EBITDA | $ | 156,325 |
| | $ | 173,677 |
| | $ | 426,279 |
| | $ | 473,178 |
|
________________________
| |
| (1) | Includes loss on disposal of assets, non-operating expense (income), including foreign currency transaction costs, and certain costs associated with acquisitions and dispositions. Loss on disposal of assets totaled $1.7 million, $1.9 million, $5.0 million and $2.6 million, respectively. |
FFO, Adjusted FFO and Adjusted FFO per diluted Paired Share
FFO, Adjusted FFO and Adjusted FFO per diluted Paired Share are metrics used by management to assess our operating performance and profitability and to facilitate comparisons between us and other hotel and/or real estate companies that include a REIT as part of their legal entity structure. Funds from Operations (“FFO”) is defined by the National Association of Real Estate Investment Trusts (“NAREIT”) as net income (computed in accordance with U.S. GAAP), excluding gains from sales of real estate, impairment charges, the cumulative effect of changes in accounting principle, plus real estate related depreciation and amortization and after adjustments for unconsolidated partnerships and joint ventures following the same approach. FFO is a commonly used measure among other hotel and/or real estate companies that include a REIT as a part of their legal entity structure. Since real estate depreciation and amortization, impairment of long-lived assets and gains from sales of hotel properties are dependent upon the historical cost of the real estate asset bases and generally not reflective of ongoing operating performance or earnings capability, the Company believes FFO is useful to investors as it provides a meaningful comparison of our performance between periods and between us and other companies and/or REITs.
Consistent with our presentation of Paired Share Income, Adjusted Paired Share Income and Adjusted Paired Share Income per diluted Paired Share, as described below, our reconciliation of FFO, Adjusted FFO and Adjusted FFO per diluted Paired Share begins with net income attributable to Extended Stay America, Inc. common shareholders, which excludes net income attributable to noncontrolling interests, and adds back earnings attributable to ESH REIT’s Class B common shares, presented as noncontrolling interest of the Company as required by U.S. GAAP. We believe that including earnings attributable to ESH REIT’s Class B common shares in our calculations of FFO, Adjusted FFO and Adjusted FFO per diluted Paired Share provides investors with useful supplemental measures of the Company’s operating performance since our Paired Shares, directly through the pairing of the common stock of the Corporation and Class B common stock of ESH REIT, and indirectly through the Corporation’s ownership of the Class A common stock of ESH REIT, entitle holders to participate in 100% of the common equity and earnings of both the Corporation and ESH REIT. Based on the limitation on transfer provided for in each of the Corporation’s and ESH REIT’s charters, shares of common stock of the Corporation and shares of Class B common stock of ESH REIT are transferable and tradable only in combination as units, each unit consisting of one share of the Corporation’s common stock and one share of ESH REIT Class B common stock.
The Company uses Adjusted FFO and Adjusted FFO per diluted Paired Share when evaluating our performance because we believe the adjustment for certain additional items, described below, provides useful supplemental information to investors regarding our ongoing operating performance and that the presentation of Adjusted FFO and Adjusted FFO per diluted Paired Share, when combined with the U.S. GAAP presentation of net income and net income per common share, is beneficial to the overall understanding of our ongoing performance.
The Company adjusts FFO for the following items, net of tax, that are not addressed in NAREIT’s definition of FFO, and refers to this measure as Adjusted FFO:
| |
| • | Debt modification and extinguishment costs—We exclude charges related to the write-off of unamortized deferred financing costs and debt discounts, prepayment penalties and other costs associated with the modification and/or extinguishment of debt as we believe they are not reflective of our ongoing or future operating performance. |
Adjusted FFO per diluted Paired Share is defined as Adjusted FFO divided by the weighted average number of Paired Shares outstanding on a diluted basis. Until such time as the number of outstanding common shares of the Corporation and Class B common shares of ESH REIT differ, we believe Adjusted FFO per diluted Paired Share is useful to investors, as it represents a measure of the economic risks and rewards related to an investment in our Paired Shares.
FFO, Adjusted FFO and Adjusted FFO per diluted Paired Share as presented may not be comparable to similar measures calculated by other REITs or real estate companies that include a REIT as part of their legal entity structure. In particular, due to the fact that we present these measures for the Company on a consolidated basis (i.e., including the impact of franchise fees, management fees and income taxes), FFO, Adjusted FFO and Adjusted FFO per diluted Paired Share, may be of limited use to investors comparing our results only to REITs. This information should not be considered as an alternative to net income of the Company, the Corporation, or ESH REIT, net income per share of common stock of the Corporation, net income per share of Class A or Class B common stock of ESH REIT or any other measure of the Company, the Corporation or ESH REIT calculated in accordance with U.S. GAAP. Real estate related depreciation and amortization expense will continue to be incurred and is not reflected in FFO, Adjusted FFO or Adjusted FFO per diluted Paired Share. Additionally, impairment charges, gains or losses on sales of hotel properties and other charges or income incurred in accordance with U.S. GAAP may occur and are not reflected in FFO, Adjusted FFO or Adjusted FFO per diluted Paired Share. Management separately considers the impact of these excluded items to the extent they are material to operating decisions and assessments of operating
performance. The Company’s consolidated statements of operations include these items, all of which should be considered when evaluating our performance, in addition to our non-GAAP financial measures.
We believe that FFO, Adjusted FFO and Adjusted FFO per diluted Paired Share are not meaningful or useful measures for ESH REIT on a stand-alone basis due to the fact that a Paired Share represents an investment in the Company, as a single, consolidated enterprise, which is reflected in the consolidated Company results of operations; therefore, we believe these performance measures are meaningful for the consolidated Company only.
The following table provides a reconciliation of net income attributable to Extended Stay America, Inc. common shareholders to FFO, Adjusted FFO and Adjusted FFO per diluted Paired Share for the Company for the three and nine months ended September 30, 2019 and 2018 (in thousands, except per Paired Share data):
|
| | | | | | | | | | | | | | | |
| | Three Months Ended
September 30, | | Nine Months Ended
September 30, |
| | 2019 | | 2018 | | 2019 | | 2018 |
| Net income per Extended Stay America, Inc. common share - diluted | $ | 0.22 |
| | $ | 0.38 |
| | $ | 0.62 |
| | $ | 0.80 |
|
| | | | | | | | |
| Net income attributable to Extended Stay America, Inc. common shareholders | $ | 41,071 |
| | $ | 71,902 |
| | $ | 116,502 |
| | $ | 151,810 |
|
| Noncontrolling interests attributable to Class B common shares of ESH REIT | 12,155 |
| | 3,786 |
| | 24,778 |
| | 20,535 |
|
| Real estate depreciation and amortization | 48,247 |
| | 50,807 |
| | 143,335 |
| | 155,788 |
|
| Impairment of long-lived assets | 2,679 |
| | — |
| | 2,679 |
| | 43,600 |
|
| Gain on sale of hotel properties | — |
| | (3,517 | ) | | — |
| | (41,599 | ) |
| Tax effect of adjustments to net income attributable to Extended Stay America, Inc. common shareholders | (8,250 | ) | | (7,897 | ) | | (23,132 | ) | | (26,502 | ) |
| FFO | 95,902 |
| | 115,081 |
| | 264,162 |
| | 303,632 |
|
| Debt modification and extinguishment costs | 6,716 |
| | — |
| | 6,716 |
| | 1,621 |
|
| Tax effect of adjustments to FFO | (1,088 | ) | | — |
| | (1,088 | ) | | (274 | ) |
| Adjusted FFO | $ | 101,530 |
| | $ | 115,081 |
| | $ | 269,790 |
| | $ | 304,979 |
|
| Adjusted FFO per Paired Share - diluted | $ | 0.54 |
| | $ | 0.61 |
| | $ | 1.43 |
| | $ | 1.60 |
|
| Weighted Average Paired Shares outstanding - diluted | 187,015 |
| | 189,253 |
| | 188,317 |
| | 190,111 |
|
Paired Share Income, Adjusted Paired Share Income and Adjusted Paired Share Income per diluted Paired Share
We present Paired Share Income, Adjusted Paired Share Income and Adjusted Paired Share Income per diluted Paired Share as supplemental measures of the Company’s performance. We believe that these are useful measures for investors since our Paired Shares, directly through the pairing of the common stock of the Corporation and Class B common stock of ESH REIT, and indirectly through the Corporation’s ownership of the Class A common stock of ESH REIT, entitle holders to participate in 100% of the common equity and earnings of both the Corporation and ESH REIT. As required by U.S. GAAP, net income attributable to Extended Stay America, Inc. common shareholders excludes earnings attributable to ESH REIT’s Class B common shares, a noncontrolling interest. Based on the limitation on transfer provided for in each of the Corporation’s and ESH REIT’s charters, shares of common stock of the Corporation and shares of Class B common stock of ESH REIT are transferable and tradable only in combination as units, each unit consisting of one share of the Corporation’s common stock and one share of ESH REIT Class B common stock. As a result, we believe that Paired Share Income, Adjusted Paired Share Income and Adjusted Paired Share Income per diluted Paired Share represent useful measures to holders of our Paired Shares.
Paired Share Income is defined as the sum of net income attributable to Extended Stay America, Inc. common shareholders and noncontrolling interests attributable to Class B common shares of ESH REIT. Adjusted Paired Share Income is defined as Paired Share Income adjusted for items that, net of income taxes, we believe are not reflective of ongoing or future operating performance. We adjust Paired Share Income for the following items, net of income taxes, where applicable for each period presented, and refer to this measure as Adjusted Paired Share Income: debt modification and extinguishment costs, impairment of long-lived assets, gain on sale of hotel properties and other expenses (income) such as loss on disposal of assets, non-operating (income) expense, including foreign currency transaction costs and certain costs associated with acquisitions, dispositions and/or capital transactions. With the exception of equity-based compensation, an ongoing charge, and debt modification and extinguishment costs, these adjustments (other than the effect of income taxes) are the same as those used in the reconciliation of net income calculated in accordance with U.S. GAAP to EBITDA and Adjusted EBITDA.
Adjusted Paired Share Income per diluted Paired Share is defined as Adjusted Paired Share Income divided by the number of Paired Shares outstanding on a diluted basis. Until such time as the number of outstanding common shares of the Corporation and Class B common shares of ESH REIT differ, we believe Adjusted Paired Share Income per diluted Paired Share is useful to investors, as it represents one measure of the economic risks and rewards related to an investment in our Paired Shares. We believe that Paired Share Income, Adjusted Paired Share Income and Adjusted Paired Share Income per diluted Paired Share provide meaningful indicators of the Company’s operating performance in addition to separate and/or individual analyses of net income attributable to common shareholders of the Corporation and net income attributable to Class B common shareholders of ESH REIT, each of which is impacted by specific U.S. GAAP requirements, including the recognition of contingent lease rental revenues and the recognition of fixed minimum lease rental revenues on a straight-line basis, and may not reflect how cash flows are generated on an individual entity or total enterprise basis. Paired Share Income, Adjusted Paired Share Income and Adjusted Paired Share Income per diluted Paired Share should not be considered as an alternative to net income of the Company, net income of the Corporation, net income of ESH REIT, net income per share of common stock of the Corporation, net income per share of Class A or Class B common stock of ESH REIT or any other measure of the Company, the Corporation or ESH REIT calculated in accordance with U.S. GAAP.
We believe that Paired Share Income, Adjusted Paired Share Income and Adjusted Paired Share Income per diluted Paired Share are not meaningful or useful measures for ESH REIT on a stand-alone basis due to the fact that a Paired Share represents an investment in the Company, as a single, consolidated enterprise, which is reflected in the consolidated Company results of operations; therefore, we believe these performance measures are meaningful for the consolidated Company only.
The following table provides a reconciliation of net income attributable to Extended Stay America, Inc. common shareholders to Paired Share Income, Adjusted Paired Share Income and Adjusted Paired Share Income per diluted Paired Share for the three and nine months ended September 30, 2019 and 2018 (in thousands, except per Paired Share data):
|
| | | | | | | | | | | | | | | |
| | Three Months Ended
September 30, | | Nine Months Ended
September 30, |
| | 2019 | | 2018 | | 2019 | | 2018 |
| Net income per Extended Stay America, Inc. common share - diluted | $ | 0.22 |
| | $ | 0.38 |
| | $ | 0.62 |
| | $ | 0.80 |
|
| | | | | | | | |
| Net income attributable to Extended Stay America, Inc. common shareholders | $ | 41,071 |
| | $ | 71,902 |
| | $ | 116,502 |
| | $ | 151,810 |
|
| Noncontrolling interests attributable to Class B common shares of ESH REIT | 12,155 |
| | 3,786 |
| | 24,778 |
| | 20,535 |
|
| Paired Share Income | 53,226 |
| | 75,688 |
| | 141,280 |
| | 172,345 |
|
| Debt modification and extinguishment costs | 6,716 |
| | — |
| | 6,716 |
| | 1,621 |
|
| Impairment of long-lived assets | 2,679 |
| | — |
| | 2,679 |
| | 43,600 |
|
| Gain on sale of hotel properties | — |
| | (3,517 | ) | | — |
| | (41,599 | ) |
Other expense(1) | 1,756 |
| | 1,532 |
| | 4,907 |
| | 2,879 |
|
| Tax effect of adjustments to Paired Share Income | (1,806 | ) | | 331 |
| | (2,299 | ) | | (1,088 | ) |
| Adjusted Paired Share Income | $ | 62,571 |
| | $ | 74,034 |
| | $ | 153,283 |
| | $ | 177,758 |
|
| Adjusted Paired Share Income per Paired Share – diluted | $ | 0.33 |
| | $ | 0.39 |
| | $ | 0.81 |
| | $ | 0.94 |
|
| Weighted average Paired Shares outstanding – diluted | 187,015 |
| | 189,253 |
| | 188,317 |
| | 190,111 |
|
_________________________
| |
| (1) | Includes loss on disposal of assets, non-operating expense (income), including foreign currency transaction costs, and certain costs associated with acquisitions and dispositions. Loss on disposal of assets totaled $1.7 million, $1.9 million, $5.0 million and $2.6 million, respectively. |
Liquidity and Capital Resources
Overview
On a consolidated basis, we have historically generated significant cash flow from operations and have financed our ongoing business, including execution of our strategic objectives, primarily with existing cash, cash flow generated from operations, borrowings under our revolving credit facilities, as needed, and, in certain instances, proceeds from asset dispositions. We generated cash flow from operations of $338.8 million for the nine months ended September 30, 2019.
Our current liquidity requirements consist primarily of funds necessary to pay for (i) hotel operating expenses, (ii) capital expenditures, including those capital expenditures incurred to perform hotel renovations, repurpose and/or rebuild certain hotels, construct new hotels and acquire additional hotel properties and/or other lodging companies, (iii) investments in
franchise, management and other fee programs, (iv) general and administrative expenses, (v) debt service obligations, including interest expense, (vi) income taxes, (vii) Paired Share repurchases, (viii) Corporation distributions and required ESH REIT distributions and (ix) certain other growth and strategic initiatives (See “—Overview”). We expect to fund our current liquidity requirements from a combination of cash on hand, cash flow generated from operations, borrowings under our revolving credit facilities, as needed, and, in certain instances, proceeds from asset dispositions.
Long-term liquidity requirements consist of funds necessary to (i) complete future hotel renovations, (ii) repurpose and/or rebuild certain existing hotels, (iii) construct new Extended Stay America-branded hotels, (iv) acquire additional hotel properties and/or other lodging companies, (v) execute our other growth and strategic initiatives, (vi) pay distributions and (vii) refinance (including prior to or in connection with debt maturity payments) the 2025 Notes, the ESH REIT Term Facility and the 2027 Notes maturing in May 2025, September 2026 and October 2027, respectively. See Note 7 to each of the condensed consolidated financial statements of Extended Stay America, Inc. and ESH Hospitality, Inc., included in Item 1 in this combined quarterly report on Form 10-Q, for additional detail related to our debt obligations.
With respect to our long-term liquidity requirements, specifically our ability to refinance our existing outstanding debt obligations, we cannot assure you that the Corporation and/or ESH REIT will be able to refinance any debt on attractive terms at or before maturity, on commercially reasonable terms or at all, or the timing of any such refinancing. We expect to meet our long-term liquidity requirements through various sources of capital, including future debt financings or equity issuances by the Corporation and/or ESH REIT, existing working capital, cash flow generated from operations and, in certain instances, proceeds from asset dispositions. However, there are a number of factors that may have a material adverse effect on our ability to access these capital sources, including the current and future state of overall capital and credit markets, our degree of leverage, the value of our unencumbered assets and borrowing restrictions imposed by existing or prospective lenders, general market conditions for the lodging industry, our operating performance and liquidity and market perceptions about us. The success of our business strategies will depend, in part, on our ability to access these various capital sources. There can be no assurance that we will be able to raise any such financing on terms acceptable to us or at all.
The Company had unrestricted cash and cash equivalents of $489.8 million at September 30, 2019. Based upon the current level of operations, management believes that our cash flow from operations, together with our cash balances and available borrowings under our revolving credit facilities, will be adequate to meet our anticipated funding requirements and business objectives for the foreseeable future. We regularly review our capital structure and at any time may refinance or repay existing indebtedness, incur new indebtedness or purchase debt or equity securities.
Debt Obligations. In September 2019, ESH REIT entered into an amendment to the ESH REIT Credit Facilities whereby, among other things, proceeds from the issuance of the 2027 Notes (defined below) were used to repay $500.0 million of the outstanding borrowings under the ESH REIT Term Facility and the stated amount of the ESH REIT Term Facility was reduced from $1,130.0 million to $630.9 million. Additionally, the amendment reduced the interest rate applicable to the ESH REIT Revolving Credit Facility and extended the maturity of both the ESH REIT Revolving Credit Facility and the ESH REIT Term Facility through September 2024 and 2026, respectively.
In September 2019, ESH REIT issued $750.0 million of its 4.625% senior notes due in 2027 (the “2027 Notes”) under an indenture with Deutsche Bank Trust Company Americas, as trustee, at a price equal to 100% of par value in a private placement pursuant to Rule 144A of the Securities Act of 1933, as amended. Proceeds received from the issuance of the 2027 Notes, net of financing costs, totaled $738.0 million, $500.0 million of which were used to repay a portion of outstanding borrowings under the ESH REIT Term Loan. The remaining proceeds, $238.0 million, are expected to be used for general corporate purposes. The 2027 Notes bear interest at a fixed rate of 4.625% per annum, payable semi-annually in arrears on April 1 and October 1 of each year, commencing April 1, 2020, and mature on October 1, 2027.
The 2027 Notes are fully and unconditionally guaranteed, jointly and severally, on an unsecured basis by each of ESH REIT’s subsidiaries that guarantee ESH REIT’s obligations under the ESH REIT Credit Facilities. The 2027 Notes are not guaranteed by the Corporation or any of its subsidiaries that lease ESH REIT’s properties or its subsidiaries that engage in franchising or management activities or own intellectual property. The 2027 Notes rank equally in right of payment with ESH REIT’s existing and future senior unsecured indebtedness, and senior in right of payment to all future subordinated indebtedness, if any. The 2027 Notes are effectively junior to any of ESH REIT’s secured indebtedness to the extent of the value of the assets securing such indebtedness.
ESH REIT may redeem the 2027 Notes at any time on or after October 1, 2022, in whole or in part, at a redemption price equal to 102.313% of the principal amount, declining annually to 100% of the principal amount from October 1, 2024 and thereafter, plus accrued and unpaid interest. Prior to October 1, 2022, ESH REIT may redeem the 2027 Notes, in whole or in part, at a redemption price equal to 100% of the principal amount, plus a “make-whole” premium, as defined, plus accrued and
unpaid interest. Prior to October 1, 2022, subject to certain conditions, ESH REIT may redeem up to 35% of the aggregate principal amount of the 2027 Notes at a redemption price equal to 101% of the aggregate principal amount, plus accrued and unpaid interest, with the net cash proceeds from certain equity offerings, provided 65% of the original amount of the principal remains outstanding after the occurrence of each such redemption. Upon a Change of Control, as defined, holders of the 2027 Notes have the right to require ESH REIT to redeem the 2027 Notes at 101% of the principal amount, plus accrued and unpaid interest.
In September 2019, the Corporation entered into an amendment to the Corporation Revolving Credit Facility which, among other things, extended the facility’s maturity through September 2026 and reduced the interest rate spread on utilized and unutilized revolver balances.
In August 2016, ESH REIT, as borrower, and the Corporation, as lender, entered into an unsecured intercompany credit facility, as may be amended and supplemented from time to time (the “Unsecured Intercompany Facility”). In September 2019, the Unsecured Intercompany Facility was amended to, among other things, extend the facility’s maturity through September 2026. Under the Unsecured Intercompany Facility, ESH REIT may borrow up to $300.0 million, plus additional amounts, in each case subject to certain conditions. As of September 30, 2019, the outstanding balance under the Unsecured Intercompany Facility was $0.
See Note 7 to each of the condensed consolidated financial statements of Extended Stay America, Inc. and ESH Hospitality, Inc., both of which are included in Item 1 in this combined quarterly report on Form 10-Q, for additional detail on our debt obligations.
Paired Share Repurchase Program. In December 2015, the Boards of Directors of the Corporation and ESH REIT authorized a combined Paired Share repurchase program. As a result of several increases in authorized amounts and program extensions, including a $150 million increase to the authorized amount and a program extension in August 2019, as of September 30, 2019, the combined Paired Share repurchase program authorized the Corporation and ESH REIT to purchase up to $550 million in Paired Shares through December 31, 2020. Repurchases may be made at management’s discretion from time to time in the open market, in privately negotiated transactions or by other means (including through Rule 10b5-1 trading plans). As of September 30, 2019, the Corporation and ESH REIT repurchased and retired their respective portion of 21.3 million Paired Shares for a total of $345.1 million, including transaction fees. As of October 31, 2019, $180.8 million remained under the combined Paired Share repurchase program.
Distributions. On November 6, 2019, the Board of Directors of ESH REIT declared a cash distribution of $0.11 per Class A and Class B common share for the third quarter of 2019. Additionally, the Board of Directors of the Corporation declared a cash distribution of $0.12 per common share for the third quarter of 2019. These distributions, which total $0.23 per Paired Share, will be payable on December 4, 2019 to shareholders of record as of November 20, 2019.
The following table outlines distributions declared or paid to date in 2019:
|
| | | | | | | | | | |
| Declaration Date | | Record Date | | Date Paid/Payable | | ESH REIT Distribution | | Corporation Distribution | | Total Distribution |
| 2/27/2019 | | 3/14/2019 | | 3/28/2019 | | $0.15 | | $0.07 | | $0.22 |
| 5/1/2019 | | 5/16/2019 | | 5/30/2019 | | $0.14 | | $0.09 | | $0.23 |
| 8/6/2019 | | 9/4/2019 | | 8/21/2019 | | $0.15 | | $0.08 | | $0.23 |
| 11/6/2019 | | 11/20/2019 | | 12/4/2019 | | $0.11 | | $0.12 | | $0.23 |
| | | | | | | $0.55 | | $0.36 | | $0.91 |
The Corporation
The Corporation’s primary source of liquidity is distribution income it receives in respect of its ownership of 100% of the Class A common stock of ESH REIT, which as of September 30, 2019, represents 58% of the outstanding common stock of ESH REIT. Other sources of liquidity include income from the operations of the Operating Lessees, ESA Management, ESH Strategies and ESH Strategies Franchise.
The Corporation’s current liquidity requirements consist primarily of funds necessary to pay for or fund (i) hotel operating expenses, (ii) general and administrative expenses, (iii) any debt service obligations, including interest expense on its outstanding mandatorily redeemable voting preferred stock, (iv) income taxes, (v) investments in its franchise, management and other fee programs, (vi) Paired Share repurchases, and (vii) Corporation distributions. The Corporation expects to fund its current liquidity requirements from a combination of cash on hand, cash flow generated from operations (including distribution income it receives in respect of its ownership of 100% of the Class A common stock of ESH REIT) and borrowings under its revolving credit facility, as needed.
The Corporation’s long-term liquidity requirements include the repayment of any outstanding amounts under its revolving credit facility and the repayment of its 8% mandatorily redeemable voting preferred stock outstanding, the total par value of which is $7.1 million, in November 2020. Holders of the mandatorily redeemable voting preferred stock have the right to require the Corporation to redeem in cash the mandatorily redeemable voting preferred stock at $1,000 per share plus any accumulated unpaid dividends. See Note 7 to the condensed consolidated financial statements of Extended Stay America, Inc., included in Item 1 of this combined quarterly report on Form 10-Q, for additional detail on the Corporation’s debt obligations.
The Corporation is expected to continue to pay distributions on its common stock to meet a portion of our expected distribution rate on our Paired Shares. The Corporation’s ability to pay distributions is dependent upon its results of operations, net income, liquidity, cash flows, financial condition or prospects, economic conditions, the ability to effectively execute certain tax planning strategies, compliance with applicable law, the receipt of distributions from ESH REIT in respect of the Class A common stock, level of indebtedness, capital requirements, contractual restrictions, restrictions in any existing and future debt agreements of the Corporation and ESH REIT and other factors. The payment of distributions in the future will be at the discretion of the Corporation’s Board of Directors.
From time to time, the Corporation may return additional cash to ESH REIT in order for ESH REIT to pay for or fund (i) its current and long-term liquidity requirements, (ii) capital expenditures (see “—Liquidity and Capital Resources - ESH REIT”), (iii) outstanding debt obligations or (iv) for other corporate purposes. The Corporation may transfer cash to ESH REIT through the purchase of additional shares of Class A common stock, which would increase its ownership of ESH REIT and reduce the Company’s overall tax efficiency. Additionally, the Corporation may loan funds to ESH REIT under the Unsecured Intercompany Facility or an additional intercompany facility, subject to the conditions contained in the ESH REIT Credit Facilities, the 2027 Notes, the 2025 Notes and the Unsecured Intercompany Facility. See Note 7 to each of the condensed consolidated financial statements of Extended Stay America, Inc. and ESH Hospitality, Inc., both of which are included in Item 1 in this combined quarterly report on Form 10-Q.
Based upon the current level of operations, management believes that the Corporation’s cash position, cash flow generated from operations and available borrowings under its revolving credit facility, as needed, will be adequate to meet all of the Corporation’s funding requirements and business objectives for the foreseeable future.
ESH REIT
ESH REIT’s primary source of liquidity is rental revenues derived from leases. The initial lease term of the operating leases expired in October 2018. In connection with the five-year renewal of the lease agreements, amended and restated leases were executed effective November 1, 2018. At such time, minimum and percentage rents were adjusted to reflect then-current market terms. ESH REIT’s current liquidity requirements include funds necessary to pay (i) fixed costs associated with ownership of hotel properties, (ii) debt service obligations, including interest expense and, with respect to the ESH REIT Term Facility, scheduled principal payments on outstanding borrowings, (iii) real estate tax expense, (iv) property insurance expense, (v) general and administrative expense, including administrative service costs reimbursed to the Corporation, (vi) capital expenditures, including those capital expenditures incurred to perform hotel renovations, repurpose and/or rebuild certain hotels, construct new hotels and acquire additional hotel properties and/or other lodging companies, (vii) Paired Share repurchases and (viii) the payment of distributions.
ESH REIT’s long-term liquidity requirements consist of funds necessary to (i) complete future hotel renovations, (ii) repurpose and/or rebuild certain of ESH REIT’s existing hotel properties, (iii) construct new Extended Stay America-branded owned hotels, (iv) acquire additional hotel properties and/or other lodging companies, (v) pay distributions and (vi) refinance (including prior to or in connection with debt maturity payments) the 2025 Notes, the ESH REIT Term Facility and the 2027 Notes maturing in May 2025, September 2026 and October 2027, respectively. See Note 7 to the condensed consolidated financial statements of ESH Hospitality, Inc., included in Item 1 in this combined quarterly report on Form 10-Q.
In order to qualify and maintain its status as a REIT, ESH REIT must distribute annually to its shareholders an amount at least equal to:
| |
| • | 90% of its REIT taxable income, computed without regard to the deduction for dividends paid and excluding any net capital gain; plus |
| |
| • | 90% of the excess of its net income, if any, from foreclosure property over the tax imposed on such income by the Code; less |
| |
| • | the sum of certain items of non-cash income that exceeds a percentage of ESH REIT’s income. |
ESH REIT intends to distribute its taxable income to the extent necessary to optimize its tax efficiency, including, but not limited to, maintaining its REIT status, while retaining sufficient capital for its ongoing needs. ESH REIT is subject to income tax on its taxable income that is not distributed and to an excise tax to the extent that certain percentages of its taxable income are not distributed by specified dates. To the extent distributions in respect of the Class B common stock of ESH REIT are not sufficient to meet our expected Paired Share distributions, Paired Share distributions are expected to be completed through distributions in respect of the common stock of the Corporation, as they have been in prior periods, using funds distributed to the Corporation in respect of the Class A common stock of ESH REIT, after allowance for tax, if any, on those funds.
Due to REIT distribution requirements, ESH REIT has historically not accumulated significant amounts of cash. As a result and as discussed above, we expect that ESH REIT will need to refinance all or a portion of its outstanding debt, including the 2025 Notes, the ESH REIT Credit Facilities and the 2027 Notes, on or before maturity. See Note 7 to the condensed consolidated financial statements of ESH Hospitality, Inc., included in Item 1 in this combined quarterly report on Form 10-Q. We cannot assure you that ESH REIT will be able to refinance any of its debt on attractive terms at or before maturity, on commercially reasonable terms or at all.
Based upon the current level of operations, management believes that ESH REIT’s cash position, cash flow generated from operations, available borrowings under its revolving credit facility and the Unsecured Intercompany Facility, as needed, and, in certain circumstances, proceeds from asset sales, will be adequate to meet all of ESH REIT’s funding requirements and business objectives for the foreseeable future.
Sources and Uses of Cash – The Company
The following cash flow table and comparisons are provided for the Company:
Comparison of Nine Months Ended September 30, 2019 and September 30, 2018
We had total cash, cash equivalents and restricted cash of $503.3 million and $386.6 million at September 30, 2019 and 2018, respectively. The following table summarizes the changes in our cash, cash equivalents and restricted cash as a result of operating, investing and financing activities for the nine months ended September 30, 2019 and 2018 (in thousands): |
| | | | | | | | | | | |
| | Nine Months Ended September 30, | | |
| | 2019 | | 2018 | | Change ($) |
| Cash provided by (used in): | | | | | |
| Operating activities | $ | 338,786 |
| | $ | 383,050 |
| | $ | (44,264 | ) |
| Investing activities | (177,099 | ) | | 131,096 |
| | (308,195 | ) |
| Financing activities | 38,273 |
| | (278,412 | ) | | 316,685 |
|
| Effects of changes in exchange rate on cash and cash equivalents | 43 |
| | (67 | ) | | 110 |
|
| Net increase in cash, cash equivalents and restricted cash | $ | 200,003 |
| | $ | 235,667 |
| | $ | (35,664 | ) |
Cash Flows provided by Operating Activities
Cash flows provided by operating activities totaled $338.8 million for the nine months ended September 30, 2019 compared to $383.1 million for the nine months ended September 30, 2018, a decrease of $44.3 million. Cash flows provided by operating activities decreased for the nine months ended September 30, 2019, primarily as a result of hotel dispositions which occurred in the first and third quarters of 2018. In addition, hotel operating cash flow decreased due to the management of short-term working capital and a decline in hotel operating performance, including a 1.2% decrease in RevPAR for hotels owned and operated for the entirety of both periods and an increase in hotel operating expenses.
Cash Flows (used in) provided by Investing Activities
Cash flows used in investing activities totaled $177.1 million for the nine months ended September 30, 2019 compared to cash flows provided by investing activities of $131.1 million for the nine months ended September 30, 2018. Cash flows used in investing activities increased due to $274.1 million in net proceeds received from hotel dispositions during the nine months ended September 30, 2018, whereas no hotel properties were sold during the nine months ended September 30, 2019. In addition, cash flows used in investing activities increased due to increased investment in property and equipment, including development in process and intangible assets, of $43.2 million for the nine months ended September 30, 2019, partially offset by a $12.7 million decrease in cash used for hotel acquisitions.
Cash Flows provided by (used in) Financing Activities
Cash flows provided by financing activities totaled $38.3 million for the nine months ended September 30, 2019 compared to cash flows used in financing activities of $278.4 million for the nine months ended September 30, 2018. Cash flows provided by financing activities increased primarily due to a $295.2 million increase in proceeds from debt issuances, net of debt repayments and deferred financing costs, as well as a $22.2 million decrease in Paired Share repurchases.
Sources and Uses of Cash – ESH REIT
The following cash flow table and comparisons are provided for ESH REIT:
Comparison of Nine Months Ended September 30, 2019 and September 30, 2018
ESH REIT had total cash and cash equivalents of $368.3 million and $251.6 million at September 30, 2019 and 2018, respectively. The following table summarizes the changes in ESH REIT’s cash and cash equivalents as a result of operating, investing and financing activities for the nine months ended September 30, 2019 and 2018 (in thousands):
|
| | | | | | | | | | | |
| | Nine Months Ended September 30, | | |
| | 2019 | | 2018 | | Change ($) |
| Cash provided by (used in): | | | | | |
| Operating activities | $ | 347,963 |
| | $ | 373,395 |
| | $ | (25,432 | ) |
| Investing activities | (171,475 | ) | | 136,321 |
| | (307,796 | ) |
| Financing activities | 13,312 |
| | (313,034 | ) | | 326,346 |
|
| Net increase in cash and cash equivalents | $ | 189,800 |
| | $ | 196,682 |
| | $ | (6,882 | ) |
Cash Flows provided by Operating Activities
Cash flows provided by operating activities totaled $348.0 million for the nine months ended September 30, 2019 compared to $373.4 million for the nine months ended September 30, 2018, a decrease of $25.4 million. This decrease in cash flows from operating activities was a result of hotel dispositions which occurred during the first and third quarters of 2018, as well as a decrease in percentage rental revenues as a result of a decrease in revenues of the leased Comparable Hotels.
Cash Flows (used in) provided by Investing Activities
Cash flows used in investing activities totaled $171.5 million for the nine months ended September 30, 2019 compared to cash flows provided by investing activities of $136.3 million for the nine months ended September 30, 2018. Cash flows used in investing activities increased due to $274.1 million in net proceeds received from hotel dispositions during the nine months ended September 30, 2018, whereas no hotel properties were sold during the nine months ended September 30, 2019. In addition, cash flows used in investing activities increased due to increased investment in property and equipment, including development in process and intangible assets, of $42.8 million for the nine months ended September 30, 2019, partially offset by a $12.7 million decrease in cash used for hotel acquisitions.
Cash Flows provided by (used in) Financing Activities
Cash flows provided by financing activities totaled $13.3 million for the nine months ended September 30, 2019 compared to cash flows used in financing activities of $313.0 million for the nine months ended September 30, 2018. Cash flows provided by financing activities increased due to a $295.4 million increase in proceeds from debt issuances, net of debt
repayments and deferred financing costs, an $8.1 million decrease in Paired Share repurchases and a $23.0 million decrease in Class A and Class B common share distributions.
Capital Expenditures
We maintain each of our hotels in good repair and condition and in conformity with applicable laws and regulations. The cost of all improvements and significant alterations are generally made with cash flows from operations. During the nine months ended September 30, 2019 and 2018, the Company incurred capital expenditures, including development and construction in process, of $178.0 million and $147.5 million, respectively. Capital expenditures during the nine months ended September 30, 2019 and 2018 related to land acquisitions, development and construction in process, cyclical hotel renovations, ordinary hotel capital improvements and investments in information technology. Funding requirements for future capital expenditures, including our current and any future cyclical hotel renovations, repurposing and/or rebuilding certain of our hotel properties, building new hotels we expect to own and operate and acquiring and converting existing hotels to the Extended Stay America brand, either as a franchise or on our balance sheet, will be significant and are expected to be provided primarily from cash flows generated from operations or, to the extent necessary, the Corporation or ESH REIT revolving credit facilities, including the Unsecured Intercompany Facility and, in certain instances, proceeds from asset sales.
Hotel Renovation Program
In the fourth quarter of 2018, the Company commenced its current cyclical hotel renovation program. We completed our prior cyclical hotel renovation program in the second quarter of 2017. Each hotel is generally on a seven-year renovation cycle. Over the next seven years, we expect to renovate approximately 450 owned hotels. This renovation cycle is expected to provide each hotel a renovation package ranging from $5,000 to $20,000 per room. We expect to renovate an average of 60 to 70 hotels per year over a multi-year period under the current renovation program, whereby the level of investment in each hotel will be determined by potential return based on multiple market and hotel specific variables.
As of September 30, 2019, we have substantially completed renovations at 12 hotels for $23.4 million. Also as of September 30, 2019, we are in the process of performing renovations at eight additional hotels, with total costs incurred for these and future hotel renovations (consisting primarily of advance materials purchases) of $23.1 million.
Our Indebtedness
As of September 30, 2019, the Company’s total indebtedness was $2.6 billion, net of unamortized deferred financing costs and debt discounts, including $7.1 million of Corporation mandatorily redeemable preferred stock. ESH REIT’s total indebtedness at September 30, 2019 was $2.6 billion, net of unamortized deferred financing costs and debt discounts. See Note 7 to each of the condensed consolidated financial statements of Extended Stay America, Inc. and ESH Hospitality, Inc., included in Item 1 in this combined quarterly report on Form 10-Q, for additional detail related to our debt obligations.
Off-Balance Sheet Arrangements
Neither the Corporation nor ESH REIT have off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources. See Note 12 to the condensed consolidated financial statements of Extended Stay America, Inc. and Note 11 to the condensed consolidated financial statements of ESH Hospitality, Inc., included in Item 1 of this combined quarterly report on Form 10-Q, for additional information with respect to commitments and contingencies, including lease obligations.
Critical Accounting Policies
Our discussion and analysis of our historical financial condition and results of operations is based on the Company’s and ESH REIT’s historical condensed consolidated financial statements, which have been prepared in accordance with U.S. GAAP. The preparation of these financial statements requires management to make estimates and assumptions that affect the amounts of assets and liabilities, disclosures of contingent assets and liabilities at the date of the financial statements and the amounts of revenues and expenses during the reporting periods. Actual results may differ significantly from these estimates and assumptions. We believe the following accounting policies, which are described in detail in Note 2 to each of the audited consolidated financial statements of Extended Stay America, Inc. and ESH Hospitality, Inc., included in Item 8 of the 2018 Form 10-K, require material subjective or complex judgments and have the most significant impact on the Company’s and ESH REIT’s financial condition and results of operations: property and equipment, investments, rental revenue recognition, income taxes and equity-based compensation. We evaluate estimates, assumptions and judgments on an ongoing basis, based on
information that is then available to us, our experience and various matters that we believe are reasonable and appropriate for consideration under the circumstances.
Recent Accounting Pronouncements
For a discussion of recently issued accounting standards, see Note 2 to each of the condensed consolidated financial statements of Extended Stay America, Inc. and ESH Hospitality, Inc., included in Item 1 of this combined quarterly report on Form 10-Q.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
The Corporation and ESH REIT may seek to reduce earnings and cash flow volatility associated with changes in interest rates and commodity prices by entering into financial arrangements to provide a hedge against a portion of the risks associated with such volatility, when applicable. We have exposure to such risks to the extent they are not hedged. We may enter into derivative financial arrangements to the extent they meet the foregoing objectives. We do not use derivatives for trading or speculative purposes.
The Corporation
As of September 30, 2019, the Corporation had minimal exposure to market risk from changes in interest rates because it had no variable rate debt as there were no outstanding amounts drawn on the Corporation’s revolving credit facility. The Corporation’s exposure to market risk from changes in interest rates may increase in future periods should the Corporation incur variable rate debt, including draws on the Corporation’s revolving credit facility.
ESH REIT
As of September 30, 2019, $630.9 million of ESH REIT’s outstanding debt of $2.6 billion, net of unamortized deferred financing costs and debt discounts, had a variable interest rate. ESH REIT is a counterparty to an interest rate swap at a fixed rate of 1.175%. The notional amount of the interest rate swap as of September 30, 2019 was $250.0 million, which is reduced by $50.0 million every six months until the swap matures in September 2021. The remaining $380.9 million of outstanding variable interest rate debt not subject to the interest rate swap remains subject to interest rate risk. If market rates of interest were to fluctuate by 1.0%, interest expense would increase or decrease by $3.8 million annually, assuming that the amount outstanding under ESH REIT’s unhedged variable interest rate debt remains at $380.9 million.
ESH REIT is exposed to losses in the event of non-performance by the counterparty to the interest rate swap discussed above; however, we do not anticipate any non-performance by the counterparty. The counterparty was evaluated for creditworthiness and risk assessment prior to initiating hedging activity and is evaluated periodically throughout each year.
Item 4. Controls and Procedures
Controls and Procedures (Extended Stay America, Inc.)
Disclosure Controls and Procedures
As of September 30, 2019, Extended Stay America, Inc. reviewed, under the direction of the Chief Executive Officer and Chief Financial Officer, the disclosure controls and procedures of Extended Stay America, Inc., as defined in Exchange Act Rule 13a-15(e). Based upon and as of the date of that review, the Chief Executive Officer and Chief Financial Officer of Extended Stay America, Inc. concluded that the disclosure controls and procedures of Extended Stay America, Inc. were effective to ensure that information required to be disclosed in the reports that Extended Stay America, Inc. files or submits under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to the management of Extended Stay America, Inc., including the Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosures.
Changes in Internal Control over Financial Reporting
There were no changes in Extended Stay America, Inc.’s internal control over financial reporting that occurred during the most recent fiscal quarter covered by this report that have materially affected, or are reasonably likely to materially affect, Extended Stay America, Inc.’s internal control over financial reporting.
Controls and Procedures (ESH Hospitality, Inc.)
Disclosure Controls and Procedures
As of September 30, 2019, ESH Hospitality, Inc. reviewed, under the direction of the Chief Executive Officer and Chief Financial Officer, the disclosure controls and procedures of ESH Hospitality, Inc., as defined in Exchange Act Rule 13a-15(e). Based upon and as of the date of that review, the Chief Executive Officer and Chief Financial Officer of ESH Hospitality, Inc. concluded that the disclosure controls and procedures of ESH Hospitality, Inc. were effective to ensure that information required to be disclosed in the reports that ESH Hospitality, Inc. files or submits under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to the management of ESH Hospitality, Inc., including the Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosures.
Changes in Internal Control over Financial Reporting
There were no changes in ESH Hospitality, Inc.’s internal control over financial reporting that occurred during the most recent fiscal quarter covered by this report that have materially affected, or are reasonably likely to materially affect, ESH Hospitality, Inc.’s internal control over financial reporting.
PART II — OTHER INFORMATION
Item 1. Legal Proceedings
We are from time to time subject to various litigation and claims incidental to our business. We recognize a liability when we believe a loss is probable and can be reasonably estimated. However, the ultimate result of litigation and claims cannot be predicted with certainty.
As of September 30, 2019, the following six purported class action lawsuits have been filed against the Company: |
| | | |
| Date of Filing | Plaintiff(s) | Defendant(s) | Court |
| March 27, 2018 | Tracy Reid, on behalf of himself, all others similarly situated | ESA Management, LLC | US District Court, Northern District of California |
| June 8, 2018 | Franisha Beasley and Stephanie Randall, individually and on behalf of others similarly situated | ESA Management, LLC | US District Court, Northern District of California |
| July 13, 2018 | Adrienne Liggins, individually and on behalf of others similarly situated and aggrieved | ESA Management, LLC, Extended Stay America - Anaheim Convention Center | US District Court, Northern District of California |
| July 13, 2018 | Bridget Liggins, individually and on behalf of others similarly situated and aggrieved | ESA Management, LLC | State of California, Orange County Superior Court |
| August 21, 2018 | Sandra Arizmendi, an individual, on behalf of the State of California, as private attorney general, and on behalf of all others similarly situated | ESA Management, LLC | US District Court, Northern District of California |
| January 18, 2019 | Lisa M. Sanchez, individually and on behalf of all others similarly situated | Extended Stay America, Inc. and ESA Management, LLC | State of California, Orange County Superior Court |
The complaints allege, among other things, failure to provide meal and rest periods, wage and hour violations and violations of the Fair Credit Reporting Act. The complaints seek, among other relief, collective and class certification of the lawsuits, unspecified damages, costs and expenses, including attorneys’ fees, and such other relief as the court might find just and proper. We believe that we have meritorious defenses and are prepared to vigorously defend the lawsuits.
With respect to the meal and rest period and the wage and hour violations alleged in the lawsuits described above, although the Company believes it is reasonably possible that it may incur losses associated with such matters, it is not possible to estimate the amount of loss or range of loss, if any, that might result from adverse judgments, settlements or other resolution based on the early stage of these lawsuits, the uncertainty as to the certification of a class or classes and the size of any certified class, if applicable, and the lack of resolution of significant factual and legal issues. However, depending on the amount and timing, an unfavorable resolution of some or all of these lawsuits could have a material adverse effect on the Company’s condensed consolidated financial statements, results of operations or liquidity in a future period.
With respect to the Fair Credit Reporting Act violations alleged in the lawsuits described above, the parties reached a tentative settlement agreement in May 2019, which is subject to certain conditions, including court approval. During the nine months ended September 30, 2019, the Company recorded a payable and a corresponding insurance receivable for the amount of the tentative settlement. The expected resolution of the alleged Fair Credit Reporting Act violations in the lawsuits did not have, and is not expected to have, a material adverse impact on the Company’s condensed consolidated financial statements, results of operations or liquidity.
We are also subject to various other litigation and claims incidental to our business. We believe we have adequate reserves against such matters. In the opinion of management, such matters, individually or in the aggregate, will not have a material adverse effect on the Company’s condensed consolidated financial statements, results of operations or liquidity or on ESH REIT’s condensed consolidated financial statements, results of operations or liquidity.
Item 1A. Risk Factors
There have been no material changes to our principal risks that we believe are material to our business, results of operations and financial condition, from the risk factors previously disclosed in the 2018 Form 10-K, which is accessible on the SEC’s website at www.sec.gov.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
Purchases of Equity Securities by the Issuers and Affiliated Purchasers
Paired Share Repurchase Program
The following table sets forth all purchases made by or on behalf of the Corporation and ESH REIT or any “affiliated purchaser,” as defined in Rule 10b-18(a)(3) under the Exchange Act, of Paired Shares during the third quarter of 2019:
|
| | | | | | | | | | | | | |
| Period | Total number of Paired Shares purchased(1) | | Average price paid per Paired Share(2) | | Total number of Paired Shares purchased as part of publicly announced program(1) (3) | | Maximum dollar value that may yet be purchased under the program(3)(4) |
| July 1 - July 31, 2019 | — |
| | $ | — |
| | — |
| | $ | 112,680,640 |
|
| August 1 - August 31, 2019 | 1,482,644 |
| | $ | 14.13 |
| | 1,482,644 |
| | $ | 241,724,679 |
|
| September 1 - September 30, 2019 | 2,509,999 |
| | $ | 14.51 |
| | 2,509,999 |
| | $ | 205,309,942 |
|
| Total | 3,992,643 |
| | $ | 14.37 |
| | 3,992,643 |
| | $ | 205,309,942 |
|
| |
| (1) | Represents an equal number of Corporation common shares and ESH REIT Class B common shares, which are paired together on a one-for-one basis to form Paired Shares. |
| |
| (2) | In the aggregate, the Corporation and ESH REIT paid $36.6 million and $20.9 million, including transaction fees, respectively, for their respective portion of the Paired Shares that were repurchased and retired during the three months ended September 30, 2019. |
| |
| (3) | In December 2015, the Boards of Directors of the Corporation and ESH REIT authorized a combined Paired Share repurchase program. As a result of several increases in authorized amounts and program extensions, including a $150 million increase to the authorized amount and a program extension in August 2019, the combined Paired Share repurchase program currently authorizes the Corporation and ESH REIT to purchase up to $550 million in Paired Shares through December 31, 2020. Repurchases may be made at management’s discretion from time to time in the open market, in privately negotiated transactions or by other means (including through Rule 10b5-1 trading plans). |
Subsequent to September 30, 2019, the Corporation and ESH REIT repurchased and retired their respective portion of 1.7 million Paired Shares for $15.6 million and $8.9 million, including transaction fees, respectively. As of October 31, 2019, $180.8 million is remaining under the Paired Share repurchase program.
Item 3. Defaults Upon Senior Securities
None.
Item 4. Mine Safety Disclosures
None.
Item 5. Other Information
None.
Item 6. Exhibits
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Exhibit
Number | Description |
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| First Amendment to Credit Agreement, dated September 18, 2019, among Extended Stay America, Inc., certain wholly-owned subsidiaries of Extended Stay America, Inc., the lenders party thereto and Deutsche Bank AG New York Branch, as administrative agent (filed as Exhibit 10.2 to the Registrants’ Current Report on Form 8-K (File No. 001-36190) filed September 20, 2019, and incorporated herein by reference). |
| First Amendment to Credit Agreement, dated September 18, 2019, among ESH Hospitality, Inc., certain wholly-owned subsidiaries of ESH Hospitality, Inc. and Extended Stay America, Inc., as the lender (filed as Exhibit 10.3 to the Registrants’ Current Report on Form 8-K (File No. 001-36190) filed September 20, 2019, and incorporated herein by reference). |
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| 101.SCH | Inline XBRL Taxonomy Extension Schema Document |
| 101.CAL | Inline XBRL Taxonomy Extension Calculation Linkbase Document |
| 101.DEF | Inline XBRL Taxonomy Extension Definition Linkbase Document |
| 101.LAB | Inline XBRL Taxonomy Extension Label Linkbase Document |
| 101.PRE | Inline XBRL Taxonomy Extension Presentation Linkbase Document |
| 104 | Cover Page Interactive Data File - the cover page XBRL tags are embedded within the Inline XBRL document. |
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrants have duly caused this report to be signed on their behalf by the undersigned thereunto duly authorized.
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| | EXTENDED STAY AMERICA, INC. |
| | | |
| Date: November 6, 2019 | By: | /s/ Jonathan S. Halkyard |
| | | Jonathan S. Halkyard |
| | | President and Chief Executive Officer |
| | | |
| Date: November 6, 2019 | By: | /s/ Brian T. Nicholson |
| | | Brian T. Nicholson |
| | | Chief Financial Officer |
| | | |
| | ESH HOSPITALITY, INC. |
| | | |
| Date: November 6, 2019 | By: | /s/ Jonathan S. Halkyard |
| | | Jonathan S. Halkyard |
| | | President and Chief Executive Officer |
| | | |
| Date: November 6, 2019 | By: | /s/ Brian T. Nicholson |
| | | Brian T. Nicholson |
| | | Chief Financial Officer |
