SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-Q
(MARK ONE)
[X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d)OF THE
SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended March 31, 2000
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
Commission file number 0-23941
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U.S. FRANCHISE SYSTEMS, INC.
(Exact Name of Registrant as Specified in its Charter)
DELAWARE 58-2361501
(State or other jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
13 Corporate Square, Suite 250 30329
Atlanta, Georgia (Zip Code)
(Address of Principal Executive Offices)
Registrant's telephone number, including area code: (404) 321-4045
-----------
Indicate by check mark whether the registrant: (1) has filed all
reports required by Sections 12, 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. Yes [X] No [ ]
There were 17,245,834 shares of the registrant's Class A Common Stock
and 2,707,919 shares of the registrant's Class B Common Stock outstanding as of
April 30, 2000.
U.S. FRANCHISE SYSTEMS, INC.
INDEX
PAGE
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
Consolidated Statements of Financial Position at December 31, 2000 and March 31, 1999 (Unaudited).......... 3
Consolidated Statements of Operations for the three months ended March 31, 2000 and March 31, 1999
(Unaudited) ............................................................................................... 4
Consolidated Statements of Cash Flows for the three months ended March 31, 2000 and March 31, 1999
(Unaudited) ............................................................................................... 5
Notes to Consolidated Financial Statements (Unaudited) .................................................... 6
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS...................... 7
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS.......................................................................................... 19
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS.................................................................. 19
ITEM 3. DEFAULTS UPON SENIOR SECURITIES............................................................................ 20
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS........................................................ 20
ITEM 5. OTHER INFORMATION.......................................................................................... 20
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K........................................................................... 20
SIGNATURES................................................................................................. 21
EXHIBIT INDEX.............................................................................................. 22
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
U.S. FRANCHISE SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF FINANCIAL POSITION (UNAUDITED)
MARCH 31, DECEMBER 31,
2000 1999
--------- ------------
ASSETS
CURRENT ASSETS
Cash and temporary cash investments................................................... $ 5,776,000 $ 6,339,000
Accounts receivable................................................................... 3,360,000 2,315,000
Deposits and prepaid expenses......................................................... 182,000 536,000
Promissory notes receivable........................................................... 2,359,000 1,898,000
Deferred commissions.................................................................. 4,249,000 2,564,000
--------- ----------
TOTAL CURRENT ASSETS.......................................................... 15,926,000 13,652,000
PROMISSORY NOTES RECEIVABLE.............................................................. 11,116,000 12,369,000
PROPERTY AND EQUIPMENT-Net............................................................... 2,053,000 2,141,000
FRANCHISE RIGHTS-Net..................................................................... 24,463,000 24,691,000
DEFERRED COMMISSIONS..................................................................... 5,254,000 6,525,000
DEVELOPMENT SUBSIDIES.................................................................... 11,593,000 10,837,000
OTHER ASSETS-Net......................................................................... 493,000 497,000
------------ -----------
TOTAL ASSETS.................................................................. $ 70,898,000 $ 70,712,000
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable...................................................................... $ 582,000 $ 227,000
Commissions payable................................................................... 758,000 1,516,000
Deferred application fees............................................................. 5,052,000 3,686,000
Accrued expenses...................................................................... 2,534,000 1,875,000
------------ ------------
TOTAL CURRENT LIABILITIES..................................................... 8,926,000 7,304,000
DEFERRED APPLICATION FEES................................................................ 5,095,000 6,570,000
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TOTAL LIABILITIES............................................................. 14,021,000 13,874,000
REDEEMABLE STOCK:
Common shares, par value $0.01 per share; issued and outstanding
3,128,473 (net of 58,807 shares in Treasury at March 31, 2000 and
December 31, 1999) entitled to redemption under certain circumstances at $324,000
(net of $6,000 in Treasury) as of March 31, 2000 and December 31, 1999................... 324,000 324,000
STOCKHOLDERS' EQUITY:
Common shares, par value $0.01 per share; authorized 30,000,000 shares
of Class A Common Stock and 5,000,000 shares of Class B Common Stock;
issued and outstanding 14,117,361 Class A shares and 2,707,919 Class B
shares at March 31, 2000; issued and outstanding 14,063,496 Class A shares and
2,707,919 Class B shares at December 31, 1999............................................. 167,000 167,000
Capital in excess of par............................................................... 90,687,000 90,293,000
Accumulated deficit.................................................................... (34,301,000) (33,946,000)
------------ ------------
TOTAL STOCKHOLDERS' EQUITY............................................................. 56,553,000 56,514,000
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY............................................. $ 70,898,000 $ 70,712,000
============ ============
See notes to consolidated financial statements.
U.S. FRANCHISE SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
THREE MONTHS THREE MONTHS
ENDED ENDED
MARCH 31, 2000 MARCH 31, 1999
-------------- --------------
REVENUES:
Royalty and Other Fee Income Income ........... $3,873,000 $ 2,559,000
Franchise application fees..................... 918,000 617,000
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4,791,000 3,176,000
EXPENSES:
General and administrative.................... 4,112,000 2,422,000
Franchise sales commissions................... 804,000 659,000
Depreciation and amortization 439,000 341,000
Interest income............................... (209,000) (751,000)
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NET INCOME (LOSS) BEFORE TAXES (355,000) 505,000
Income taxes 0 0
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NET INCOME (LOSS) AFTER TAXES ($355,000) $505,000
===========================================================
Weighted average number of common shares
outstanding 19,934,572 19,875,113
Weighted average number of common shares
outstanding, assuming dilution
20,023,661
Earnings (loss) per share (Basic) ($0.02) $0.03
Earnings (loss) per share (Diluted) $0.03
See Notes to Consolidated Financial Statements.
U.S. FRANCHISE SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
THREE MONTHS THREE MONTHS
ENDED ENDED
MARCH 31, 2000 MARCH 31, 1999
-------------- --------------
OPERATING ACTIVITIES:
Net Income/(Loss)................................................................... ($355,000) $505,000
Adjustments to reconcile net loss to net cash provided by/(used in) operating
activities:
Depreciation and amortization.................................................... 439,000 341,000
Deferred compensation amortization............................................... 129,000 122,000
Changes in assets and liabilities:
Decrease/(Increase) in accounts receivable, prepaid expenses & deposits.......... (691,000) (91,000)
Decrease/(Increase) in promissory notes receivable............................... 792,000 (2,170,000)
Decrease/(Increase) in deferred commissions...................................... (414,000) (646,000)
Decrease/(Increase) in other assets.............................................. 76,000 (1,974,000)
(Decrease)/Increase in accounts payable.......................................... 355,000 (315,000)
(Decrease)/Increase in accrued expenses.......................................... 659,000 (186,000)
(Decrease)/Increase in commissions payable....................................... (758,000) (594,000)
(Decrease)/Increase in deferred application fees................................. (109,000) 989,000
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NET CASH PROVIDED BY/(USED IN) OPERATING ACTIVITIES 123,000 (4,019,000)
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INVESTING ACTIVITIES:
Acquisition of property and equipment................................................ (76,000) (76,000)
Issuance of development subsidies ................................................... (635,000) 0
Acquisition of franchise rights ..................................................... 0 (3,000)
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NET CASH USED IN INVESTING ACTIVITIES............................................ (711,000) (79,000)
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FINANCING ACTIVITIES:
Exercise of stock options ........................................................... 25,000 0
NET DECREASE IN CASH AND CASH EQUIVALANTS (563,000) (4,098,000)
CASH AND TEMPORARY INVESTMENTS
Beginning of period................................................................. 6,339,000 15,966,000
--------- ----------
End of period....................................................................... $5,776,000 $11,868,000
========== ===========
SUPPLEMENTAL DISCLOSURE OF CASHFLOW INFORMATION:
Non cash activities:
Issuance of 48,290 shares as a form of development subsidy $220,000
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.
U.S. FRANCHISE SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
1. BASIS OF PRESENTATION
The accompanying unaudited financial statements have been prepared
pursuant to the rules and regulations of the Securities and Exchange
Commission for reporting on Form 10-Q. Accordingly, certain information and
footnotes required by generally accepted accounting principles for complete
financial statements have been omitted. In the opinion of management, all
adjustments, consisting of normal recurring adjustments, which are necessary
for a fair presentation of financial position and results of operations, have
been made. These interim financial statements should be read in conjunction
with the consolidated financial statements and notes thereto, presented in
the U.S. Franchise Systems, Inc. ("USFS" or the "Company") Annual Report on
Form 10-K for the year ended December 31, 1999, filed with the Securities and
Exchange Commission. The results of operations for the three months ended
March 31, 2000 are not necessarily indicative of results that may be expected
for the full year.
2. RECLASSIFICATIONS
Certain amounts in the March 31, 2000 statement of operations and
consolidated statement of cash flows have been reclassified to conform to
current year classifications.
3. EARNINGS PER SHARE
Basic earnings per common share are computed using the weighted
average number of common shares outstanding during the period. Diluted
earnings per common share incorporates the incremental shares issuable upon
the assumed exercise of stock options. Most of the Company's stock options
were excluded from the calculation of diluted earnings per share because they
were antidilutive, but these options could be dilutive in the future.
4. STOCK OPTION PLANS
The fair value of each option grant is estimated on the date of
grant using the Black-Scholes option-pricing model with the following
weighted average assumptions.
THREE MONTHS THREE MONTHS
ENDED ENDED
31-MARCH-00 31-MARCH-99
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NEW STOCK OPTION GRANTS
Expected life(years) 4.0 3.6
Expected volatility 44% 36%
Risk free interest rate 6% 5.9%
Dividend yield 0% 0%
Number of options granted 173,450 203,550
Weighted average exercise price 4.81 9.03
FORFEITURES AND EXERCISES:
Number of options forfeited 20,975 14,500
Number of options exercised 5,575 0
STOCK OPTION EXPENSE $93,184 $87,000
5. SEGMENT REPORTING
The Company owns three hotel brands and operates a management
company primarily in the United States. Other/Corporate represents overhead
and assets not specifically allocable to the brands or the management
company. Revenues, expenses and capital expenditures directly attributable to
each business segment are reflected as such and
shown below. Common expenses and common capital expenditures are classified
in other/corporate.
THREE MONTHS ENDED, MARCH 31, 2000
MICROTEL HAWTHORN BEST MANAGEMENT OTHER CONSOLIDATED
COMPANY CORPORATE
REVENUE
- ---------------------------------------------------------------------------------------------------------------------------------
March 31, 2000 $ 1,498,000 $ 2,040,000 $ 887,000 $ 366,000 $ 0 $ 4,791,000
March 31, 1999 1,098,000 1,049,000 576,000 453,000 0 3,176,000
NET INCOME (LOSS)
- ---------------------------------------------------------------------------------------------------------------------------------
March 31, 2000 $ 1,123,000 $ 1,540,000 $ 584,000 $ (450,000) $(3,152,000) $ (355,000)
March 31, 1999 769,000 867,000 815,000 134,000 (2,080,000) 505,000
CAPITAL EXPENDITURES
- ---------------------------------------------------------------------------------------------------------------------------------
March 31, 2000 $ 0 $ 0 $ 0 $ 3,000 $ 73,000 $ 76,000
March 31, 1999 2,000 1,000 2,000 46,000 25,000 76,000
6. COMMITMENTS AND CONTINGENCIES
Two former employees of the Company have commenced an action
alleging wrongful termination and seeking unspecified damages. The Company
has filed a counterclaim for unspecified damages. The Company believes it has
meritorious defenses but can not predict the outcome of this matter.
The Company is currently in litigation with respect to certain
financing programs under which the Company retained an ongoing participation.
Management has reserved approximately $800,000 with respect to the
termination of the loan program as of December 31, 1999.
On April 11, 2000, the Company and certain subsidiaries settled a
lawsuit which was brought by the owner of nine Best Inn properties for
alleged mismanagement under management agreements that the Company assumed in
connection with its 1998 acquisition of the Best Inns brand. USFS Management,
Inc., a subsidiary of the Company, had also filed a counterclaim alleging
fraudulent conduct by the owner and certain of his affiliates, which was also
settled. In connection with the settlement, in the first quarter of 2000 the
Company and the subsidiaries accrued $510,000 in settlement payments and
related legal costs. The franchise agreements with the owner remain in effect.
In addition, the Company is subject to litigation in the ordinary
course of its business. In the opinion of management, the outcome of such
litigation will not have a material impact of the earnings, financial
position or cash flow of the Company.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
GENERAL
This "Management's Discussion and Analysis of Financial Condition
and Results of Operations" should be read in conjunction with the
consolidated financial statements included herein of the Company and its
subsidiaries. Certain statements under this caption "Management's Discussion
and Analysis of Financial Condition and Results of Operations" constitute
"forward-looking statements" under the Private Securities Litigation Reform
Act of 1995 (the "Reform Act"). Certain, but not necessarily all, of such
forward-looking statements can be identified by the use of forward-looking
terminology such as "believes," "expects," "may," "will," "should," or
"anticipates" or the negative thereof or other variations thereon or
comparable terminology, or by discussions of strategy that involve risks and
uncertainties. Such forward-looking statements involve known and unknown
risks, uncertainties and other factors which may cause the actual results,
performance or achievements of U.S. Franchise Systems, Inc. ("USFS" or the
"Company") and its subsidiaries to be materially different from any future
results, performance or achievements expressed or implied by such
forward-looking statements. Such factors include, but are not limited to, the
following: general economic and business conditions; aggressive competition
in the lodging and franchising industries; success of acquisitions and
operating initiatives; management of growth; risks relating to the Company's
loans to and other investments in franchisees; dependence on senior
management; brand awareness; general risks of the lodging and franchising
industries; development risk and construction; risk of loss of management
contracts; risk relating to the availability of financing for franchisees;
the existence or absence of adverse publicity; changes in business strategy
or development plan; availability, terms and deployment of capital; business
abilities and judgment of personnel; availability of qualified personnel;
labor and employee benefit costs; changes in, or failure to comply with,
government regulations; construction schedules; and the costs and other
effects of legal and administrative proceedings and other factors referenced
below under the sub-heading "Risk Factors" in this Form 10-Q. The Company
will not undertake and specifically declines any obligation to publicly
release the results of any revisions which may be made to any forward-looking
statement to reflect events or circumstances after the date of such
statements or to reflect the occurrence of anticipated or unanticipated
events. The Company does not intend to update the information contained
herein with respect to its exploration of potential strategic alternatives
for any future
developments or circumstances unless and until there is a definitive
transaction agreement entered into between the Company and any third party or
until its exploration of potential alternatives is definitively terminated.
There can be no assurance whatsoever that any transaction between the Company
and any third party will take place or, even if one does occur, about the
nature and extent of any terms and conditions of any such potential
transaction. See "Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations-Risk Factors".
The Company was formed to acquire, market and service
well-positioned brands with potential for rapid unit growth through
franchising. The Company's brands, which are in the lodging industry, are
Microtel Inn & Suites, Hawthorn Suites and Best Inn & Suites. The Company
acquired the rights to these brands because of their potential for
significant growth, which reflects, among other things, their potential
profitability for franchisees at the property level and their positions in
attractive segments of the lodging industry. Microtel primarily competes in
the budget and economy segments, Hawthorn primarily in the upscale and
mid-market segments, and Best primarily in the mid-market and economy
segments of the lodging industry. The Company also manages certain properties
on behalf of franchisees.
As a franchisor, the Company licenses the use of its brand names to
independent hotel owners and operators (i.e. franchisees). The Company
provides its franchisees with a variety of benefits and services designed to
(i) decrease development costs, (ii) shorten the time frame and reduce the
complexity of the construction process and (iii) increase the occupancy
rates, revenues and profitability of the franchised properties. The Company
offers prospective franchisees access to financing, a business format, design
and construction assistance (including architectural plans), quality
standards, training programs, national reservations systems, national and
local advertising and promotional campaigns and volume purchasing discounts.
The Company expects that its future revenues will consist primarily
of (i) franchise royalty fees, (ii) franchise application fees, (iii) various
management fees, (iv) international master license agreement fees, and (v)
payments made by vendors who supply the Company's franchisees with various
products and services. The Company recognizes franchise application fees as
revenue only upon the opening of the underlying hotels.
The Company's predecessor was incorporated in Delaware in August
1995. The Company was incorporated in Delaware on November 26, 1997 and
merged with its predecessor on March 12, 1998 with the Company as the
surviving corporation. The Company's executive offices are located at 13
Corporate Square, Suite 250, Atlanta, Georgia 30329 and its telephone number
is (404) 321-4045.
INTRODUCTION
The Company believes that it continues to feel the effects of the
more difficult and competitive environment in the hotel franchising and
management business. To the extent that the difficult environment encountered
by the Company's franchisees during 1999 and the first quarter of 2000
continues in 2000, the Company's royalty and management fee revenues and
profitability could be adversely affected and all or a portion of the
Company's remaining loan portfolio ($9.1 million net of $1.1 million of
reserves at March 31, 2000) could become impaired.
The Company continues to reevaluate the future prospects of its
hotel management business line. During 1999, 17 management contracts were
terminated, leaving the Company with 24 contracts at December 31, 1999. The
Company terminated three additional contracts in the first quarter
2000, leaving the Company with 21 contracts (including 17 with the operating
subsidiary of Alpine Equity Ventures, LLC ("Ventures")). The Company is
currently considering various alternatives related to the remaining
contracts. Accordingly, because the Company is managing fewer properties,
hotel management revenues will decline substantially in 2000 as compared to
1999. In the three
months ended March 31, 2000, hotel management revenues were $366,0000 as
compared to $453,000 for the three months ended March 31, 1999. If the
Company determines not to continue to provide management services, the
Company will be required to take a non-recurring charge related to exiting
the management business line. The amount of this charge cannot be determined
at this time.
The Company, with the assistance of Banc of America Securities,
continues to explore strategic alternatives and opportunities that may be or
become available to the Company.
USFS DOES NOT INTEND TO UPDATE THE INFORMATION CONTAINED HEREIN WITH
RESPECT TO ITS EXPLORATION OF POTENTIAL STRATEGIC ALTERNATIVES FOR ANY FUTURE
DEVELOPMENTS OR CIRCUMSTANCES UNLESS AND UNTIL THERE IS A DEFINITIVE
TRANSACTION AGREEMENT ENTERED INTO BETWEEN USFS AND ANY THIRD PARTY OR UNTIL
ITS EXPLORATION OF POTENTIAL ALTERNATIVES IS DEFINITIVELY TERMINATED. THERE
CAN BE NO ASSURANCE WHATSOEVER THAT ANY TRANSACTION BETWEEN USFS AND ANY
THIRD PARTY WILL TAKE PLACE OR, EVEN IF ONE DOES OCCUR, ABOUT THE NATURE AND
EXTENT OF ANY TERMS AND CONDITIONS OF ANY SUCH POTENTIAL TRANSACTION.
Comparisons have been made between the three months ended March 31,
2000 and the three months ended March 31, 1999 for the purposes of the
following discussion:
RESULTS OF OPERATIONS
FRANCHISE SALES GROWTH- The Company has realized Microtel franchise
sales growth as follows:
FRANCHISE SALES GROWTH
AS OF MARCH 31,
- ---------------------------------------------------------------------------------------------- -------------- ------------------
MICROTEL FRANCHISE DATA 2000 1999
- ---------------------------------------------------------------------------------------------- -------------- ------------------
Properties open (1) 190 135
Executed agreements and under construction 56 65
Executed franchise agreements but not under construction 253 270
Accepted applications 102 51
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Total in development and accepted applications (2) 411 386
- ---------------------------------------------------------------------------------------------- -------------- ------------------
OPEN PLUS IN DEVELOPMENT AND ACCEPTED APPLICATIONS 601 521
- ---------------------------------------------------------------------------------------------- -------------- ------------------
(1) The Company does not receive royalties from 27 hotels open as of March
31, 2000.
(2) There can be no assurance that properties in development or for which
applications have been accepted will result in open hotels. During the three
months ended March 31, 2000, two previously opened hotels ceased operating as
a Microtel. Since the Microtel brand was acquired by the Company, 36% of
accepted applications did not become executed agreements and 38% of executed
agreements terminated before resulting in open hotels. See "Rick Factors-
Dependence on, and Obstacles to, Hotel Openings.
During the first quarter 2000, for Microtel hotels open one year or
more, average daily rate, occupancy and revenue per available room ("Rev
Par") were $42.80, 52.7% and $22.54 compared to $41.70, 51.9%, and $21.64 in
first quarter 1999.
The Company has realized Hawthorn Suites franchise sales growth as
follows:
AS OF MARCH 31,
- ---------------------------------------------------------------------------------------------- -------------- ------------------
HAWTHORN SUITES FRANCHISE DATA 2000 1999
- ---------------------------------------------------------------------------------------------- -------------- ------------------
Properties open (1) 110 54
Executed agreements and under construction 40 38
Executed franchise agreements but not under construction 135 111
Accepted applications 66 69
-------------- ------------------
Total in development and accepted applications(2) 241 218
- ---------------------------------------------------------------------------------------------- -------------- ------------------
OPEN PLUS IN DEVELOPMENT AND ACCEPTED APPLICATIONS 351 272
- ---------------------------------------------------------------------------------------------- -------------- ------------------
(1) The Company does not receive royalties from 1 hotel open as of March
31, 2000.
(2) There can be no assurance that properties in development or for which
applications have been accepted will result in open hotels. During the three
months ended March 31, 2000, no previously opened hotels ceased operating as
a Hawthorn. Since the Hawthorn brand was acquired by the Company, 32% of
accepted applications did not become executed agreements and 15% of executed
agreements terminated before resulting in open hotels. See "Rick Factors-
Dependence on, and Obstacles to, Hotel Openings.
During the first quarter 2000, for properties in the Hawthorn system
one year or more, average daily rate, occupancy and Rev Par were $84.00,
64.3% and $53.99 compared to $84.88, 59.7%, and $50.63 in first quarter 1999.
The Company has realized Best Inns franchise sales growth as follows:
AS OF MARCH 31,
- ---------------------------------------------------------------------------------------------- -------------- ------------------
BEST INNS FRANCHISE DATA 2000 1999
- ---------------------------------------------------------------------------------------------- -------------- ------------------
Properties open 125 65
Executed agreements and under construction 28 19
Executed franchise agreements but not under construction 31 26
Accepted applications 128 103
-------------- ------------------
Total in development and accepted applications (1) 187 148
- ---------------------------------------------------------------------------------------------- -------------- ------------------
OPEN PLUS IN DEVELOPMENT AND ACCEPTED APPLICATIONS 312 213
- ---------------------------------------------------------------------------------------------- -------------- ------------------
(1) There can be no assurance that properties in development or for which
applications have been accepted will result in open hotels. During the
three months ended March 31, 2000, four previously opened hotels
ceased operating as a Best Inns. Since the Best brand was acquired by
the Company, 64% of accepted applications did not become executed
agreements and 4% of executed agreements terminated before resulting
in open hotels. See "Rick Factors-Dependence on, and Obstacles to,
Hotel Openings.
During the first quarter 2000, for properties in the Best Inns system
one year or more, average daily rate, occupancy and Rev Par were $53.25,
54.4% and $28.96 compared to $48.06 58.1%, and $27.94 in first quarter 1999.
REVENUE- The Company has derived revenues from the following sources:
THREE MONTHS ENDED THREE MONTHS ENDED
MARCH 31, 2000 MARCH 31, 1999
------------------ ------------------
Royalty and other fee Income........................... 3,873,000 $2,559,000
Franchise application fees............................. 918,000 617,000
--------- ----------
TOTAL.................................................. $4,791,000 $3,176,000
THREE MONTHS ENDED MARCH 31, 2000 COMPARED TO THREE MONTHS ENDED MARCH 31, 1999
Royalty and other fee income increased approximately $1.3 million
for the three months ended March 31, 2000 as compared to the prior year's
comparable period. The increase is primarily attributable to (i) the increase
in royalty paying hotels from 224 to 397 and (ii) signing of an international
master license agreement ($100,000). The revenue increase was offset by an
$87,000 decrease in hotel management fees and a $125,000 decline in the
management fees received from Constellation Development Fund. During the
three months ended March 31, 2000, hotel management fees were $366,000
compared to $453,000 for the three months ended March 31, 1999. Management
fee revenues is expected to continue to decline substantially as discussed in
the Introduction. During the three months ended March 31, 2000, management
fees for Constellation Development Fund were $125,000 compared to $250,000 in
the same period last year.
Franchise application fees increased approximately $0.3 million for
the three months ended March 31, 2000 as compared to the prior year's
comparable period primarily due to an increase in the number of hotels opened
during the quarter.
EXPENSES-The Company's expenses were as summarized below:
THREE MONTHS ENDED THREE MONTHS ENDED
MARCH 31, 2000 MARCH 31, 1999
------------------ ------------------
General and administrative.......................... $4,112,000 $2,422,000
Franchise sales commissions......................... 804,000 659,000
Depreciation and amortization..... 439,000 341,000
Interest income..................................... (209,000) (751,000)
--------- ---------
TOTAL............................................... $5,146,000 $2,671,000
THREE MONTHS ENDED MARCH 31, 2000 COMPARED TO THREE MONTHS ENDED MARCH 31, 1999
General and administrative expenses increased by approximately
$1,690,000 including certain charges totaling $760,000 for the three months
ended March 2000 as compared to the prior year's comparable period. The
$760,000 charge reflected in the three months ended March 2000 pertained to a
settlement of a legal dispute involving the Company's management subsidiary
and to costs associated with the Company's review and evaluation of strategic
alternatives.
Excluding those certain charges, general and administrative expenses
increased $930,000 primarily related to (1) an increase in personnel and
associated costs due to more open hotels ($421,000); (2) increased
professional fees ($253,000); and (3) increased marketing expenses ($194,000).
Franchise sales commissions increased $145,000 for the three months
ended March 31, 2000 as compared to the comparable prior year's period
primarily due to an increase in the number of hotels opened during the
quarter.
Depreciation and amortization expense increased $98,000 primarily
due to additional amortization related to development subsidies.
Interest income, resulting primarily from promissory notes
receivable and investments in cash and marketable securities, decreased
$542,000 primarily due to the fact the Company recorded no interest income
during the first quarter of 2000 related to a $15 million loan made to Alpine
Hospitality Ventures and a reduced amount of cash available for investments
in marketable securities. The Company does not expect to recognize
pay-in-kind interest on the loan to Ventures in 2000.
LIQUIDITY AND CAPITAL RESOURCES
The Company had approximately $5.8 million in cash or equivalents as
of March 31, 2000. In management's opinion, based on the Company's current
operations, the Company's capital resources, including its cash on hand and
borrowing capability, are sufficient to fund operations for the next 12
months. The Company currently has no outstanding lines of credit in place.
For the three months ended March 31, 2000, the Company had a net
loss of $355,000. Net cash provided by operating activities was $123,000 and
the primary operating adjustments to net income was a decrease in promissory
notes receivable ($792,000) a decrease in commissions payable ($758,000), and
an increase in accrued expenses ($659,000). For the three months ended March
31, 2000, net cash provided by investing activities was $711,000 with the
primary investment being development subsidies issued to franchisees
($635,000). For the three months ended March 31, 2000, net cash provided in
financing activities was $25,000 resulting from the exercise of stock options
by certain current and former employees.
As of March 31, 2000, the Company had loans outstanding of
approximately $4.4 million in the aggregate to Constellation Equity Corp.
("Constellation") and expects to lend up to an additional $400,000 to
Constellation. Due to uncertainties surrounding ultimate recoverability of
these loans, the Company is accounting for them on the cost recovery basis,
where interest income is recorded only after recovery of principal.
As of March 31, 2000, the Company had made a $15 million unsecured
subordinated loan to Ventures. In the fourth quarter of 2000, the Company
took a $15.5 million reserve against this loan and accrued interest thereon.
The Company also is committed to make up to $7.5 million of additional loans
to Ventures under certain circumstances. The Company manages the 17 hotels
owned by a subsidiary of Ventures, all of which are franchises of the
Company. Certain management and franchise fees related to these hotels could
be deferred if the senior debt owed by the owner of those hotels is not paid
currently. A portion of these fees were deferred in the first quarter 2000.
Commencing April 2001, the Company may be obligated to reimburse the owner of
those hotels for as much as 90% of the management fee if the owner's net
profit for the 12-month period then ended, and each subsequent 12-month
period, falls below a specified level.
YEAR 2000 COMPUTER MATTER
The Year 2000 Issue is the result of computer programs being written
using two digits rather than four to define the applicable year. Any of the
Company's computer programs that have time-sensitive software may recognize a
date using "00" as the year 1900 rather than the year 2000. This could result
in a system failure or miscalculations causing disruptions of operations,
including, among other things, a temporary inability to process transactions
or customer reservations or engage in similar normal business activities. The
Company has experienced no material disruptions or adverse effects due to
Year 2000 issues and management believes that the Year 2000 Issue will not
pose material operational problems for its computer systems and does not
expect that any remaining costs of compliance will have a materially adverse
impact on the results of operations during any quarterly or annual reporting
period. The Company does not believe that its operations and systems are
vulnerable to those third parties' failure to remediate their own Year 2000
Issues. There can be no guarantee that the systems of other companies on
which the Company's operations and systems rely will not have an adverse
effect in the Company's systems or results of operations. There can be no
assurances that circumstances will not arise in the future that will require
management to take action in addition to what has already been performed on
the Year 2000 Issues.
SEASONALITY
Royalties generated by gross room revenues of franchised properties are
expected to be the largest source of revenue for the Company for the
immediate future. The Company expects to experience seasonal revenue patterns
similar to those experienced by the lodging industry generally. The summer
months, because of increase in leisure travel, are expected to produce higher
revenues for the Company than other periods. Accordingly, the Company may
experience lower revenues and profits in the first and fourth quarters and
higher revenues and profits in the second and third quarters.
RISK FACTORS
In evaluating the Company and its business, the following risks
should be considered. These are not the only risks the Company faces. Some
risks are not yet known to the Company and others that the Company does not
consider material but could later turn out to be so. All of these risks could
adversely affect the Company's business:
MANAGEMENT OF GROWTH
The Company has experienced rapid growth in the number of its
employees and the scope of its operations since its inception. This growth
has resulted in, and is expected to continue to create, new and increased
responsibilities for management personnel, as well as added demands on the
Company's operating and financial systems. The Company's success will depend
on its ability to manage this growth while implementing its strategy. The
efforts of key management personnel and the Company's ability to attract or
develop
new management personnel and to integrate these new employees into its
overall operations will be crucial to continued growth. The recent aggressive
competition in the franchise business has made it more difficult and more
costly to attract qualified personnel. If the Company is unable to manage
growth effectively, the Company's business and results of operations could be
materially and adversely affected.
DEPENDENCE ON, AND OBSTACLES TO, HOTEL OPENINGS
The Company expects that in the future its principal source of
revenue will be franchise fees received from its franchisees. Accordingly,
future revenues will be highly dependent on the timing and the number of open
hotels and their gross room revenues. There are numerous factors beyond the
control of the Company which affect the probability and timing of a hotel
opening and the ability or desire for a hotel to stay in the Company's
franchise system. These factors include, but are not limited to, the ability
of a potential hotel owner to (i) secure adequate financing or satisfy
financing payments during the construction period; (ii) locate an appropriate
site of a hotel; (iii) obtain all necessary state and local construction,
occupancy or other permits and approvals; (iv) obtain necessary construction
materials; and (v) reach a satisfactory level of profitability at the hotel.
Under industry and general economic conditions that prevailed in 1999, the
first quarter of 2000 and that are expected to continue in 2000, hotel
developers have had and may continue to have difficulty accessing needed
capital and attaining satisfactory levels of profitability. As a result, the
number and timing of franchised hotel openings, and accordingly the Company's
franchise fees, could be adversely affected if current conditions do not
improve. Additionally, there can be no assurance that accepted franchise
applications will result in executed franchise agreements or that executed
franchise agreements will result in open properties. Deteriorating conditions
in the lodging industry can be expected to adversely affect the likelihood
that properties in development will open on a timely basis or at all.
LIMITED OPERATING HISTORY; NET LOSSES; OUR RESULTS FLUCTUATE AND THESE
FLUCTUATIONS CAN BE UNPREDICTABLE
The Company began operating in October 1995 and therefore has a
limited operating history upon which investors can evaluate its performance.
While the Company was profitable during the first three quarters of 1999, the
Company incurred significant charges in the fourth quarter of 1999 that
resulted in a net loss for the year and recorded a net loss, after certain
charges, for the first quarter 2000. There can be no assurance that the
Company will be profitable in the future. Additionally, events outside our
control, including those set forth in other risk factors, may cause the
Company to experience fluctuations in revenues and operating results. As a
result, the Company's future results may be below market expectations,
including the expectations of financial analysts and investors. A failure to
meet such expectations may adversely affect the trading price of the
Company's Class A Common Stock.
MANAGEMENT, BY VIRTUE OF OWNERSHIP OF SUPERVOTING CLASS B COMMON STOCK,
CONTROLS THE COMPANY
Holders of Class A Common Stock are entitled to one vote per share
and holders of Class B Common Stock are entitled to ten votes per share. Each
share of Class B Common Stock is convertible at any time into one share of
the Class A Common Stock and, with limited exceptions, will convert
automatically upon any transfer thereof. Michael A. Leven, Chairman,
President and Chief Executive Officer, and Neal K. Aronson, Executive Vice
President and Chief Financial Officer, have the right to vote all of the
outstanding shares of Class B Common Stock, which, together with shares of
Class A Common Stock which they beneficially own (including stock held by
other members of management), represent approximately 65% of the combined
voting power of the Company's outstanding Common Stock. By reason of their
right to vote the Class B Common Stock, Messrs. Leven and Aronson will be
able to (i) elect all of the Company's directors (except as otherwise
contractually provided), (ii) amend the Charter with respect to most matters,
(iii) effect a merger, sale or other major corporate transaction, (iv) defeat
any unsolicited takeover attempt
and (v) generally direct the affairs of the Company (including in a manner
that may benefit themselves disproportionately relative to other
shareholders).
SUCCESSFUL COMPLETION AND INTEGRATION OF ACQUISITIONS
One element of the Company's business strategy is to continuously
evaluate acquisitions and business combinations. These acquisitions may be of
brands in the lodging industry or in other industries, or of businesses that
the Company does not expect to franchise, which would require the Company to
develop expertise in areas that it does not currently operate. There can be
no assurance that the Company will identify and complete suitable
acquisitions or if completed, that such acquisitions will be successfully
integrated. The Company did not engage in any such transaction in 1999.
Acquisitions involve numerous risks, including difficulties assimilating new
operations and brands. There can be no assurance that any acquisitions would
result in long-term benefits to the Company or that management would be able
to manage effectively the resulting business.
DEPENDENCE ON SENIOR MANAGEMENT
The success of the Company is largely dependent on the efforts and
abilities of its senior management and certain other key personnel,
particularly Messrs. Leven, Aronson and Steve Romaniello, Executive Vice
President-Franchise Sales and Administration. The Company's success will
depend in large part on its ability to retain these individuals and other
current members of its senior management team and to attract and retain
qualified personnel in the future. The loss of members of senior management
or of certain other key employees or the Company's inability to retain and
attract other qualified employees could have an adverse impact on the
Company's business and results of operations. Certain franchise agreements
have stipulations which allow franchisees to exit without penalty if certain
members of management are no longer affiliated with the Company. The Company
does not maintain key person life insurance on behalf of the lives of any of
its officers or employees.
COMPETITION FOR NEW FRANCHISE PROPERTIES AND HOTEL GUESTS
Competition among national brand franchisers and smaller chains in
the lodging industry to grow their franchise systems is fierce and
intensified during 1999 and during the first quarter of 2000. During 1999, an
increasing number of hotel companies announced new franchise initiatives. As
a result, the Company believes there has been a marked increase in franchise
sales personnel throughout the lodging industry and more aggressive financial
incentives are being offered to hotel owners and developers. Many of the
Company's competitors are affiliated with larger chains with substantially
more properties, greater marketing budgets and greater brand identity than
the Company and its brands. There can be no assurance that the Company can
franchise a sufficient number of properties to generate operating
efficiencies that will enable it to compete with these larger chains.
GENERAL RISKS OF THE LODGING INDUSTRY
The Company is exposed to general risks of the lodging industry in a
number of ways. First, as a franchiser and manager, the Company's franchise
royalty and management fee revenues vary directly with its franchisees' gross
room revenues. As a result, the Company's franchise and management businesses
are, and will be, affected by risks experienced by hotel operators generally.
In fact, because of factors adversely affecting the lodging industry such as
lower occupancy rates, lower percentages of daily rate growth, higher
interest rates and increased room supply competition, the Company is
currently evaluating the future prospects of its management business to
determine whether to continue to offer management services. Second, to the
extent the Company directly or indirectly makes equity or debt investments in
hotel properties, those investments will be subject to the risks experienced
by the underlying properties. Third, the Company may
directly acquire ownership interests in its branded hotel properties in order
to promote the brand or for other reasons. To the extent that the Company
owns or leases hotel properties, it will be subjected to the risks of a hotel
operator.
The segments in which hotels franchised under the Company's brands
currently operate or plan to operate, may be adversely affected by changes in
national or local economic conditions and other local market conditions, such
as an oversupply of or a reduction in demand for lodging or a scarcity of
potential sites in a geographic area, changes in travel patterns, extreme
weather conditions, changes in governmental regulations that influence or
determine wages, prices, construction costs or methods of operation, changes
in interest rates, the availability of financing, and changes in real estate
tax rates and other operating expenses. In addition, due in part to the
strong correlation between the lodging industry's performance and economic
conditions, the lodging industry is subject to cyclical changes in revenues
and profits. In fact, the Company believes that hotel operators were
negatively affected during 1999 and during the first quarter of 2000 by
increased room supply, weaker room demand and higher interest rates, among
other things. These risks may have been exacerbated by the relatively
illiquid nature of real estate holdings.
Downturns or prolonged adverse conditions in real estate or capital
markets or in national or local economies could have a material adverse
impact on the Company's ability to locate new franchisees, the timing of new
hotel openings, the number of rooms at newly-opened hotels, and the amount of
royalty and management fee income earned by the Company and could result in
the cancellation of the Company's franchise agreements and management
contracts and increase risks of impairment on loans or other investments made
by the Company directly or indirectly to or in franchisees and developers and
potential deferral or loss of the interest income associated with such
potential write-offs. In fact, during the first quarter 2000, six of the
Company's franchised hotels left their respective systems and three of the
Company's management contracts were terminated. In addition to the
aforementioned risks, the Company's current and potential future investments
in or ownership of hotel properties creates a risk of decreased earnings due
to losses related to start-up expenses or ongoing losses due to shortfalls in
expected performance of a hotel. In addition, any guaranty required to secure
construction or permanent loan financing could adversely affect the Company's
financial condition.
The Company expects to experience seasonal revenue patterns similar
to those experienced by participants in the lodging industry generally.
Accordingly, the summer months, because of increases in leisure travel, are
expected to produce higher revenues for the Company than other periods during
the year.
DEVELOPMENT AND OWNERSHIP RISK
The Company's success depends upon the development or conversion and
opening of hotels. As a result, it is subject to risks experienced by hotel
developers. These risks, which are applicable to Microtels as new
construction properties, and to Hawthorn and Best Inns as both new
construction and conversion properties, include delays in the commencement or
completion of construction, failure to obtain all necessary zoning and
construction permits, discovery of environmental hazards, unavailability of
financing on favorable terms, if at all, the failure of developed properties
to achieve desired revenue or profitability levels once opened, competition
for suitable development sites from competing franchise chains, the risk of
incurring substantial costs in the event a development project must be
abandoned prior to completion, changes in governmental rules, regulations and
interpretations and general economic and business conditions. The Company's
revenues may also be adversely affected by increases in interest rates, which
could increase the costs of financing new hotel construction or the
conversion of existing hotels. Any one of these risks could discourage or
prohibit potential franchisees from beginning or completing hotel projects or
harm the profitability of an open hotel, which could result in the
termination of franchise agreements and management contracts.
If the Company leases and/or owns hotel properties or makes,
directly or indirectly, equity or debt investments in hotel properties, it
would be subject to risks experienced by hotel operators generally. During
1999, the Company incurred costs of approximately $0.5 million in connection
with its abandoned purchase of a Hawthorn Suites property, representing a
portion of a forfeited deposit and transaction costs.
RISKS RELATING TO THE FINANCING OF FRANCHISEES
The Company participates, from time to time, in construction loans,
equity investments, and long-term mortgage loans made to franchisees. In
particular, the Company has committed to lend up to $10 million to
Constellation Equity Corp. ("Constellation") to be invested by Constellation
in Constellation Development Fund, LLC (the "Development Fund") and to be
used by the Development Fund to provide debt and equity financing to selected
developers. As of March 31, 2000, the Company has loaned approximately $4.4
million in the aggregate to Constellation and expects to loan up to an
additional $400,000 to Constellation in the remainder of 2000. The loan to
Constellation is subordinated to returns of other members. If such returns
are not met, this loan could be jeopardized. Due to the uncertainty
surrounding the ultimate recoverability of the subordinated loan, the Company
is accounting for them on a cost-recovery basis, where interest income is
recorded only after recovery of principal. As of March 31, 2000, the
Development Fund has invested in seven Microtels and two Hawthorn Suites
hotels which are in different stages of development. As of February 21, 2000,
the managers of the Development Fund agreed that no additional projects will
be commenced in the future.
In addition, the Company made a $15 million unsecured subordinated
loan to Alpine Hospitality Ventures LLC ("Ventures") in connection with the
Best Inns acquisition at an interest rate of 12% per annum, interest on which
will be paid in cash to the extent available and otherwise to be paid
in-kind. The loan is subordinated to a guaranty provided by Ventures in
connection with a third party senior loan in the principal amount of
approximately $65 million to its subsidiary that acquired 17 Best Inns hotels
in the Best Inns transaction and is structurally subordinated to such third
party loan. The Company is also committed to make additional loans of up to
$7.5 million to Ventures under certain circumstances. No such additional
loans were made as of March 31, 2000, but it is possible that the loan, or a
portion thereof, will be required to be made in the future. Both Ventures and
Constellation are highly leveraged entities and there can be no assurances
that any loans to Ventures or Constellation will be repaid. In the fourth
quarter 1999, the Company was advised by Ventures that the senior lender to
its operating subsidiary planned to institute a "lock-box" arrangement
because of the deteriorating financial condition of the operating subsidiary.
In March 2000, the lock-box agreement was executed. The lock-box arrangement
effectively precludes the payment of cash interest to the Company while such
arrangement is in place. The Company will continue to receive interest
in-kind payments but will not include such in-kind payments in income.
Recognition of such in-kind payments as income is dependent upon the amount
of underlying property values of the borrower, relative to other lenders and
shareholders. There can be no assurance that those values will continue to be
sufficient to permit the Company to continue to record such interest income
and, in fact, no such income was recognized by the Company in the fourth
quarter 1999 or the first quarter 2000 and the Company does not currently
expect to record income in 2000. In fact, the Company has taken a reserve of
approximately $15.5 million associated with the principal and accrued
interest of the loan.
The Company has also made various loans and advances to individual
franchisees, the reservation and marketing funds for the Microtel and Best
Inns brands, and loan participations in a financing program with Nomura Asset
Capital Corp. See "Legal Proceedings" for a discussion of a pending
litigation concerning these loan participations. The Company is subject to
the risks experienced by lenders generally, including risks of
franchisee/borrower defaults and bankruptcies. Among other things, the
ability of the borrowers to repay these loans will be affected by the factors
discussed under "General Risks of the Lodging Industry" and "Development and
Ownership Risk." The failure of a borrower to pay interest could have a
material adverse effect on the Company's results of operations. In the event
of default under such loans, the Company,
as a lender, would bear the risk of loss of principal to the extent the value
of the collateral was not sufficient to pay lenders, which may be more senior
in the capital structure. As of March 31, 2000, in addition to the loans to
Ventures and Constellation, the Company had outstanding loans made to
borrowers of approximately $9.1 million aggregate principal amount (net of
approximately $1.1 million of reserves). If the financial condition of the
borrowers of these loans were to worsen, the loans could be deemed to be
impaired, which could result in a significant charge to the Company and
future interest income related to these loans could be deferred or eliminated
which could have a materially adverse effect on future income. In connection
with equity investments, the Company would be subject to risks as an equity
investor. See "Business-Regulation."
REGULATION
The sale of franchises is regulated by various state laws, as well
as by the FTC. To the extent that the Company manages, owns or leases hotel
properties, it will be subject to additional governmental regulations. For
example, owners and operators of hotels are subject to numerous federal,
state and local government regulations, including those relating to the
preparation and sale of food and beverages (such as health and liquor license
laws) and building and zoning requirements. Under the Americans with
Disabilities Act of 1990 (the "ADA"), all public accommodations are required
to meet certain federal requirements related to access and use by disabled
persons. The determination that hotels owned, managed or leased by the
Company are not in compliance with the ADA could result in the imposition of
fines, and award of damages to private litigants or significant expense to
the Company in bringing these hotels into compliance. Additionally, various
national, state and local laws and regulations may affect activities
undertaken by the Company in connection with providing financing to
franchisees. In particular, the Company may be required to obtain a license
or to register in certain states in order to arrange loans to be made to
franchisees. See "Business-Regulation."
DEPENDENCE ON SPIRIT RESERVATION SYSTEM
Franchisees of the Hawthorn brand open one year or greater derived
approximately 21% of their reservations through the Spirit Reservation
System, which is operated under contract with Hyatt Hotels Corporation by CSC
Outsourcing, Inc. ("CSC") and Sabre Technology Solutions ("Sabre"). There can
be no assurance that CSC and Sabre will continue to service Hawthorn Suites'
reservations needs in the future.
ABSENCE OF DIVIDENDS
The Company has not paid a dividend on its Common Stock since its
inception. The Company intends to retain any earnings to finance its growth
and for general corporate purposes and therefore does not anticipate paying
any cash dividends in the foreseeable future. In addition, future financing
agreements may contain limitations on the payment of cash dividends or other
distributions of assets to the holders of Common Stock.
ANTI-TAKEOVER DEVICES
Certain identical provisions of the Certificate of Incorporation and
the By-laws of the Company may be deemed to have anti-takeover effects and
may delay, deter or prevent a change in control of the Company that
stockholders might otherwise consider in their best interests. These
provisions (i) allow only the Board of Directors, the Chairman of the Board
of Directors or the Chief Executive Officer of the Company to call special
meetings of the stockholders, (ii) eliminate the ability of stockholders to
take any action without a meeting, (iii) establish certain advance notice
procedures for nomination of candidates for election as directors and for
stockholder proposals to be considered at stockholders' meeting, (iv)
generally authorize the issuance of one or more classes of "blank check"
preferred stock, with such designations, rights and preferences as may be
determined from time to time by the Board of Directors, (v) require approval
of holders
of 75% of the outstanding Class B Common Stock for the Board of Directors to
create a series of Preferred Stock with general voting rights or with the
right to elect a majority of directors under any circumstances and (vi)
require approval of holders of 75% of the outstanding voting power to amend
or repeal items (i), (ii) or (v) above or this item (vi).
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The Company is and may become party to claims and litigations that
arise in its normal course of business, including but not limited to those
listed below. In management's opinion, except for certain of the matters
described below, the outcome of any currently pending matters is not expected
to have a material adverse effect on the Company's consolidated financial
statements.
Nomura Asset Capital Corporation has commenced an action against the
Company and its subsidiary seeking damages in an amount not less than
$704,910. Nomura has also asserted that it is entitled to foreclose on
$432,949 in loan participations previously funded by the Company and pledged
to Nomura. The complaint alleges, among other things, that the Company owes
Nomura this amount in connection with certain construction loans Nomura has
made to the Company's franchisees. The Company has filed a counterclaim for
unspecified damages. The Company cannot predict the outcome of this matter.
Best Western International and Cal-Vegas LP have filed notices of
opposition to the registration (but not to the use) by the Company of certain
Best Inns marks. The Company believes that the opposition rights of Cal-Vegas
have expired, and is contesting the Best Western opposition. While the
Company cannot predict the outcome of this matter, it does not believe that
it will have a material adverse effect on the Company's ability to market the
Best Inns brands or on the Company's consolidated financial statements.
Two former employees of the Company have commenced an action
alleging wrongful termination and seeking unspecified damages. The Company
has filed a counterclaim for unspecified damages. The Company believes it has
meritorious defenses but can not predict the outcome of this matter.
On April 11, 2000, the Company and certain subsidiaries settled a
lawsuit which was brought by the owner of nine Best Inn properties for
alleged mismanagement under management agreements that the Company assumed in
connection with its 1998 acquisition of the Best Inns brand. USFS Management,
Inc., a subsidiary of the Company, had also filed a counterclaim alleging
fraudulent conduct by the owner and certain of his affiliates, which was also
settled. In connection with the settlement, in the first quarter of 2000 the
Company and its subsidiaries accrued $510,000 in settlement payments and
related legal costs. The franchise agreements with the owner remain in effect.
ITEM 2. CHANGES IS SECURITIES AND USE OF PROCEEDS
In connection with a letter agreement with Leisure Hotel Management
dated February 3, 1998, the Company has authorized the issuance of up to
$900,000 worth of shares of Class A Common Stock upon the attainment of
certain development milestones. On March 3, 2000, the Company issued 48,290
shares of Class A Common Stock, valued at approximately $240,000, in
satisfaction of the first such milestone. The Company believes that this
transaction is exempt from registration under the Securities Act of 1933, as
amended, (the "Act") by virtue of Section 4(2) of the Act.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Not applicable
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
There were no matters submitted to a vote of security holders during
the quarter.
ITEM 5. OTHER INFORMATION
Not applicable
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
A) EXHIBITS:
EXHIBIT DESCRIPTION
NUMBER
27.1 Financial Data Schedule.
B) REPORTS ON FORM 8-K
During the period from January 1, 2000 to March 31, 2000,
the Company did not file any reports on Form 8-K.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934,
the Registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
U.S. FRANCHISE SYSTEMS, INC.
By /s/ Michael A. Leven By /s/ Neal K. Aronson
----------------------------- -----------------------------
Michael A. Leven Neal K. Aronson
CHAIRMAN OF THE BOARD, PRESIDENT EXECUTIVE VICE PRESIDENT AND CHIEF
AND CHIEF EXECUTIVE OFFICER FINANCIAL OFFICER
Dated: May 12, 2000
EXHIBIT INDEX
EXHIBIT DESCRIPTION
NUMBER
27.1 Financial Data Schedule.