UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
SCHEDULE 14A INFORMATION
Proxy Statement Pursuant to Section 14(a) of the Securities Exchange Act of
1934
(Amendment No. )
Filed by the Registrant [X]
Filed by a Party other than the Registrant [_]
Check the appropriate box:
[_]Preliminary Proxy Statement
[_]Confidential, for Use of the Commission Only (as permitted by Rule 14a-
6(e)(2))
[X]Definitive Proxy Statement
[_]Definitive Additional Materials
[_]Soliciting Material Pursuant to (S) 240.14a-12
SUNBURST HOSPITALITY CORPORATION
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(Name of Registrant as Specified in Its Charter)
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(Name of Person(s) Filing Proxy Statement, if other than the Registrant)
Payment of Filing Fee (Check the appropriate box):
[_]No fee required.
[_]Fee computed on table below per Exchange Act Rules 14a-6(i)(1) and 0-11.
(1) Title of each class of securities to which transaction applies:
Common Stock, par value $0.01 per share
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(2) Aggregate number of securities to which transaction applies:
9,043,774
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(3) Per unit price or other underlying value of transaction computed
pursuant to Exchange Act Rule 0-11 (set forth the amount on which
the filing fee is calculated and state how it was determined):
$7.375
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(4) Proposed maximum aggregate value of transaction:
$66,697,833.25
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(5) Total fee paid: $13,339.57
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[X]Fee paid previously with preliminary materials.
[_]Check box if any part of the fee is offset as provided by Exchange Act Rule
0-11(a)(2) and identify the filing for which the offsetting fee was paid
previously. Identify the previous filing by registration statement number,
or the Form or Schedule and the date of its filing.
(1) Amount previously paid:
-------------------------------------
(2) Form, Schedule or Registration Statement No.:
-------------------------------------
(3) Filing Party:
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(4) Date Filed:
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[SUNBURST HOSPITALITY CORPORATION LOGO]
To Our Stockholders:
You are cordially invited to attend a special meeting of stockholders of
Sunburst Hospitality Corporation to be held at 10:30 a.m. local time, on
January 4, 2001 at the Quality Suites Hotel, 3 Research Court, Rockville,
Maryland 20850.
At the special meeting, you will be asked to consider and vote upon the
approval and adoption of the Recapitalization Agreement, dated September 20,
2000, that provides for the merger of Nova Finance Company LLC into Sunburst.
After the recapitalization, Sunburst will be wholly owned by Stewart Bainum,
Jr., Chairman of Sunburst's Board of Directors, James A. MacCutcheon, Co-Chief
Executive Officer of Sunburst, other members of Sunburst's management and other
members of the Bainum family, who we refer to in this proxy statement as the
continuing stockholders. Following the recapitalization, the continuing
stockholders will be the sole beneficiaries of the future earnings and growth
of Sunburst, if any.
Under the terms of the agreement, you will be entitled to receive $7.375 in
cash, without interest or any other payment thereon, for each share of Sunburst
common stock you hold unless you exercise and perfect your appraisal rights
under Delaware law. The aggregate amount of consideration that the continuing
stockholders will pay to Sunburst's stockholders will be $60.2 million.
A special committee of the Board of Directors has unanimously determined that
the terms of the recapitalization are advisable, and are fair to, and in the
best interests of, Sunburst stockholders (other than the continuing
stockholders) and has recommended to the Board of Directors that the
Recapitalization Agreement and the transactions contemplated by the
Recapitalization Agreement be approved and adopted. The special committee is
comprised of Directors who are not officers or employees of Sunburst and are
not affiliated with the continuing stockholders.
The Board of Directors formed the special committee of the Board of Directors
to evaluate the terms of the recapitalization proposed by the continuing
stockholders because the recapitalization involves conflicts of interest
arising from the status of the continuing stockholders. The continuing
stockholders include members of management, the Board of Directors and
significant stockholders. These individuals have interests in the
recapitalization that are different from, or in addition to their interests as
Sunburst stockholders (including, among others, interests related to employment
agreements, restricted stock and options) that create conflicts of interest.
The Board of Directors, based on the recommendation of the special committee,
has determined that the terms of the recapitalization are advisable, and are
fair to, and in the best interests of Sunburst's stockholders and has approved
the Recapitalization Agreement. The Board of Directors and the special
committee unanimously recommend that you vote for the approval and adoption of
the Recapitalization Agreement and the transactions contemplated by the
Recapitalization Agreement.
The recapitalization and merger cannot be completed unless, among other
things, two-thirds of the outstanding shares are cast in favor of approval and
adoption of the Recapitalization Agreement and the transactions contemplated
thereby and a majority of outstanding shares held by stockholders other than
continuing stockholders vote to approve and adopt the Recapitalization
Agreement and the transactions contemplated thereby.
It is very important that your shares be represented at the special meeting.
Whether or not you plan to attend the special meeting, we urge you to complete,
date, sign and return the enclosed proxy card promptly in the enclosed pre-
addressed postage-paid envelope. Failure to return a properly executed proxy
card or vote at the special meeting will have the same effect as a vote against
the Recapitalization Agreement and the transactions contemplated by the
Recapitalization Agreement.
Sincerely,
Donald J. Landry
President and Co-Chief Executive
Officer
THIS TRANSACTION HAS NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE COMMISSION
OR ANY STATE SECURITIES COMMISSION PASSED UPON THE FAIRNESS OR MERITS OF SUCH
TRANSACTION NOR UPON THE ACCURACY OR ADEQUACY OF THE INFORMATION CONTAINED IN
THIS DOCUMENT. ANY REPRESENTATION TO THE CONTRARY IS UNLAWFUL.
This proxy statement is dated December 8, 2000, and is first being mailed to
stockholders on December 9, 2000.
[SUNBURST HOSPITALITY CORPORATION LOGO]
NOTICE OF SPECIAL MEETING OF STOCKHOLDERS
TO BE HELD ON JANUARY 4, 2001
To Our Stockholders:
We are holding a special meeting of the stockholders of Sunburst Hospitality
Corporation at 10:30 a.m., local time, on January 4, 2001, at the Quality
Suites Hotel, 3 Research Court, Rockville, Maryland 20850. The purpose of the
meeting is to:
. Consider and vote on a proposal to approve and adopt the
Recapitalization Agreement, dated as of September 20, 2000, and the
transactions contemplated thereby. The Recapitalization Agreement is
described in the attached proxy statement.
. Transact any other business that properly comes before the special
meeting or any adjournment(s) or postponement(s) of the special meeting.
Only those persons who were record holders of Sunburst common stock at the
close of business on November 22, 2000 will be entitled to notice of, and to
vote at, the special meeting and any adjournment(s) or postponement(s) of the
special meeting.
By Order of the Board of Directors,
Douglas H. Verner
Secretary
Silver Spring, Maryland
December 8, 2000
YOUR VOTE AT THE SPECIAL MEETING IS IMPORTANT.
PLEASE INDICATE YOUR VOTE ON THE ENCLOSED PROXY AND RETURN IT IN THE ENCLOSED
ENVELOPE AS SOON AS POSSIBLE, EVEN IF YOU PLAN TO ATTEND THE MEETING.
IF YOU ATTEND THE MEETING, YOU WILL BE ABLE TO WITHDRAW YOUR PROXY AND VOTE IN
PERSON.
IF YOU HAVE ANY QUESTIONS ABOUT VOTING YOUR SHARES, PLEASE CONTACT:
MACKENZIE PARTNERS, INC.
156 FIFTH AVENUE
NEW YORK, NY 10010
(212) 929-5500
(212) 929-0308 (FAX)
PROXY@MACKENZIEPARTNERS.COM (E-MAIL)
SUMMARY TERM SHEET
This term sheet highlights the most material terms of the proposed
recapitalization. The term sheet may not contain all of the information that is
important to you. We encourage you to read the entire proxy statement carefully
in its entirety before voting.
Payment for Shares......... In the recapitalization, you will be entitled to
receive $7.375 in cash, without interest or any
other payment thereon, for each share of Sunburst
common stock you own at the time of the
recapitalization unless you exercise and perfect
your appraisal rights. After the
recapitalization, you will not own any Sunburst
common stock. See "The Recapitalization and
Related Agreements--The Recapitalization
Agreement--Consideration in the
Recapitalization--Common Stock" at page 46 of
this proxy statement.
Continuing Stockholders.... After the recapitalization, Sunburst will be
wholly owned by Stewart Bainum, Jr., Sunburst's
Chairman of the Board, James A. MacCutcheon, Co-
Chief Executive Officer, Kevin P. Hanley, Chief
Operating Officer, Pamela M. Williams, Assistant
General Counsel and Assistant Secretary, Charles
G. Warczak, Jr., Chief Financial Officer and
Treasurer, and Gregory D. Miller, Senior Vice
President, Marketing and Human Resources, and the
following members of the Bainum family: Stewart
Bainum, Jane L. Bainum, Roberta Bainum, Barbara
J. Bainum, Bruce Bainum and entities controlled
by members of the Bainum family. We refer to
these persons and entities as the continuing
stockholders. As of the record date, the
continuing stockholders held approximately 48.98%
of the outstanding common stock of Sunburst. See
"The Recapitalization and Related Agreements--The
Recapitalization Agreement--Consideration in the
Recapitalization--Preferred Stock" at page 46 of
this proxy statement. Each of the continuing
stockholders is identified at page 53 of this
proxy statement.
Source of Funds............ The cash funding necessary to complete the
recapitalization is expected to be provided by
borrowings under the senior secured credit
facilities in the form of a $180 million term
loan and an $80 million asset sale bridge loan
provided to Sunburst by a syndicate of financial
institutions arranged by The Chase Manhattan
Bank. "Special Factors--Financing of the
Recapitalization" at page 36 of this proxy
statement.
Stockholder Vote........... You are being asked to approve and adopt the
Recapitalization Agreement and the transactions
contemplated thereby. Our certificate of
incorporation requires the Recapitalization
Agreement to be approved and adopted by two-
thirds of the outstanding shares of common stock.
The Recapitalization Agreement requires, in
addition, approval and adoption by a majority of
the outstanding shares held by stockholders other
than continuing stockholders.
You should note that current members of
management who will not be continuing
stockholders -- Donald J. Landry and Douglas H.
Verner, who hold 925,973 and 88,635 shares of
Sunburst's outstanding
i
common stock, respectively -- have indicated
their intention to vote in favor of the proposal
and such votes will be counted towards the
majority of the shares held by stockholders other
than continuing stockholders. See "Information
About The Special Meeting--Vote Required for
Approval" at page 5 of this proxy statement.
Tax Consequences........... Generally, the recapitalization will be taxable
for U.S. federal income tax purposes. In general,
you will recognize taxable gain or loss for these
purposes equal to the difference between the cash
received for the shares of common stock that you
owned immediately before the recapitalization and
your tax basis in those shares. Gain or loss must
be determined separately for each block of stock.
See "Special Factors--Material Federal Income Tax
Consequences of the Recapitalization" at page 44
of this proxy statement.
Conditions................. The completion of the recapitalization is subject
to, among others, the following conditions:
. approval by at least two-thirds of the
total number of votes (including a majority
of the total number of votes that may be
cast by stockholders other than the
continuing stockholders) that may be cast
by holders of Sunburst capital stock in the
election of directors;
. absence of legal prohibitions to or
restraint upon the completion of the
recapitalization;
. the satisfaction of the conditions to
closing under the Heads of Agreement dated
September 20, 2000 between Sunburst and
Choice Hotels International, Inc. and the
execution of definitive agreements between
Sunburst and Choice Hotels International,
Inc. with respect to matters covered by the
Heads of Agreement with terms satisfactory
to Nova;
. the number of Sunburst stockholders
demanding appraisal rights is not more than
5% of the outstanding common stock; and
. the delivery to Sunburst by Nova of a
solvency opinion or similar materials
relating to the solvency of Sunburst after
the transactions satisfactory to the
special committee.
Each of the conditions to the Recapitalization
Agreement may be waived by the party that
benefits from the condition, or amended by
agreement of the parties. If a material condition
of the Recapitalization Agreement is waived or
amended, Sunburst will revise the proxy statement
and recirculate it to Sunburst's stockholders.
See "The Recapitalization and Related
Agreements--The Recapitalization Agreement--
Principal Conditions to the Completion of the
Recapitalization" at page 51 of this proxy
statement.
Expenses of the
Recapitalization........... The expenses of the recapitalization include
costs to obtain the financing and fees of
financial and legal advisors. If the transaction
is completed, all of these costs will be paid by
Sunburst. The expenses of the recapitalization
are approximately $26.5 million and include
ii
fees related to the financing, fees of financial
and legal advisors, real estate transaction costs
(title, survey, environmental and structural
engineering, and recording fees) and the yield
maintenance and prepayment fee related to
existing financing. If the transaction is not
completed, the costs will be paid as follows:
. If the transaction is not completed because
financing provided for in the commitment
letter obtained by Nova fails to close,
half the expenses will be paid by Sunburst
and half will be paid by Nova, but Nova
will not be required to pay more than
$700,000 of the costs incurred by Sunburst.
. If the transaction is not completed because
the necessary stockholder approval is not
obtained, Sunburst will pay 90% of the
expenses and Nova will pay 10% of the
expenses.
. If the transaction is not completed because
Nova breaches the agreement, Nova will pay
the expenses.
. If the transaction is not completed for any
other reason, Sunburst will pay the
expenses.
See "The Recapitalization and Related
Agreements--The Recapitalization Agreement--
Covenants of Sunburst--Expenses" at page 49 of
this proxy statement.
Effects of the
Recapitalization........... After the recapitalization, the continuing
stockholders will own Sunburst and you will no
longer hold any ownership interest in Sunburst.
The continuing stockholders will be the sole
beneficiaries of the future earnings and growth
of Sunburst, if any. Sunburst will no longer be a
public company and its stock will no longer be
listed on the New York Stock Exchange. See
"Special Factors--Certain Effects of the
Recapitalization" at page 28 of this proxy
statement.
iii
QUESTIONS AND ANSWERS ABOUT THE TRANSACTION
Q: WHAT WILL I BE ENTITLED TO RECEIVE IN THE RECAPITALIZATION, IF IT IS
COMPLETED?
A: If you hold shares of Sunburst common stock at the time the recapitalization
is completed, you will be entitled to receive a cash payment of $7.375 for
each share you own at that time.
Q: WHAT IS A "RECAPITALIZATION"?
A: The transaction is called a recapitalization because Sunburst will continue
after the transaction, but will have a different capital structure. The
effect of the recapitalization is to buy out for cash the interests of all
stockholders other than the continuing stockholders. The transaction is
structured as a recapitalization for accounting purposes in order to, among
other things, facilitate financing for the recapitalization, maintain the
continuing stockholders' equity interest in Sunburst and preserve the
corporate identity of Sunburst.
Q: DO ANY OF THE OFFICERS, DIRECTORS OR SIGNIFICANT STOCKHOLDERS OF SUNBURST
HAVE A CONFLICT OF INTEREST IN CONNECTION WITH THE TRANSACTION?
A: Yes. Members of the continuing stockholder group include directors,
employees and significant stockholders of Sunburst. The continuing
stockholders have interests that differ from those of other stockholders
because they will continue to hold equity interests in Sunburst and because
certain continuing stockholders will have employment agreements with
Sunburst, hold restricted stock and options in Sunburst and have other
interests. These interests are described in detail on pages 30 to 34 of the
proxy statement.
Q: WERE THERE PROCEDURES IN PLACE TO MITIGATE THE CONFLICTS OF INTEREST?
A: Yes. Sunburst and the special committee put in place procedures to ensure
that the negotiation of the transaction with the continuing stockholders
would be fair to Sunburst's stockholders. These procedures included the
formation of a special committee of independent directors that had its own
legal and financial advisors, the requirement that a majority of
stockholders (other than Nova, the continuing stockholders and their
respective affiliates) approve the recapitalization and the ability of the
Board of Directors and the special committee to consider unsolicited
transactions in some circumstances.
Q: WHY DID SUNBURST AGREE TO ENTER INTO THIS TRANSACTION AT THIS TIME?
A: Sunburst decided to enter into the Recapitalization Agreement because, among
other reasons, the recapitalization consideration represented a substantial
premium to prevailing market prices for Sunburst's common stock. Since mid-
1998, Sunburst had explored numerous strategic alternatives and was unable
to structure a satisfactory transaction. Sunburst also was unable to
refinance its substantial indebtedness on favorable terms. Moreover, there
was significant uncertainty related to Sunburst's future prospects and these
factors, among others discussed more fully in "Special Factors--Reasons for
the Recapitalization," led the special committee and the Board of Directors
to conclude that Sunburst should undertake this transaction at this time.
Q: WILL I BE SUBJECT TO TAX AS A RESULT OF THE TRANSACTION?
A: The receipt of cash for shares of common stock in the recapitalization will
be a taxable transaction for U.S. federal income tax purposes. Generally,
you will recognize gain or loss for these purposes equal to the difference
between the cash received for the shares of common stock that you owned
immediately before the recapitalization and your tax basis in those shares.
Gain or loss must be determined separately for each block of stock. A more
complete description of the U.S. federal tax consequences of the transaction
is set forth on pages 44 to 45 of the proxy statement. The receipt of cash
for common stock in
iv
the recapitalization may also be a taxable transaction under applicable
state, local, foreign and other tax laws. Tax matters are complicated and
the tax consequences of the recapitalization to you will depend on the
facts of your own situation. You should consult your tax advisor for a full
understanding of the tax consequences of the recapitalization to you.
Q: DID THE SPECIAL COMMITTEE OF THE BOARD OF DIRECTORS OF SUNBURST RECEIVE AN
OPINION REGARDING THE FAIRNESS, FROM A FINANCIAL POINT OF VIEW, OF THE
RECAPITALIZATION CONSIDERATION?
A: Yes. In connection with the recapitalization, the special committee
received a written opinion, dated September 20, 2000, from Salomon Smith
Barney Inc. as to the fairness, from a financial point of view, of the
recapitalization consideration to the holders of Sunburst common stock,
other than Nova, the continuing stockholders and their respective
affiliates. The full text of Salomon Smith Barney's written opinion dated
September 20, 2000 is attached to the back of this proxy statement as Annex
C. We encourage you to read this opinion carefully in its entirety for a
description of the assumptions made, matters considered and limitations on
the review undertaken. SALOMON SMITH BARNEY'S OPINION IS ADDRESSED TO THE
SPECIAL COMMITTEE AND DOES NOT CONSTITUTE A RECOMMENDATION TO ANY
STOCKHOLDER WITH RESPECT TO ANY MATTERS RELATING TO THE PROPOSED
RECAPITALIZATION.
Q: WILL SALOMON SMITH BARNEY UPDATE ITS OPINION?
A: Salomon Smith Barney's opinion, dated September 20, 2000, to the special
committee speaks as of that date. The special committee currently does not
intend to request an updated opinion from Salomon Smith Barney and Salomon
Smith Barney does not have any obligation to update, revise or reaffirm its
opinion, including at the time of the special meeting of the stockholders.
If, however, a material amendment to the Recapitalization Agreement is
entered into which modifies the recapitalization consideration, the special
committee may at that time seek an updated opinion from Salomon Smith
Barney. In making this determination, the special committee would consult
with its legal and financial advisors and take into account, consistent
with its fiduciary duties, all relevant factors and circumstances existing
at the time, including general market, economic and business conditions.
Q: WHEN DO YOU EXPECT THE RECAPITALIZATION TO BE COMPLETED?
A: Immediately after the special meeting, which will be held on January 4,
2001.
Q: WHO CAN VOTE ON THE RECAPITALIZATION AGREEMENT?
A: Stockholders of Sunburst common stock at the close of business on November
22, 2000, the record date for the special meeting, are entitled to vote on
the proposed transactions.
Q: WHAT DO I NEED TO DO NOW?
A: After you have carefully reviewed this proxy statement, please mark your
vote on your proxy card and sign, date and mail it in the enclosed return
envelope as soon as possible.
Q: HOW WILL MY PROXY BE VOTED IF I DO NOT INDICATE HOW I INTEND TO VOTE?
A: If you sign and send in your proxy card, but you do not indicate how you
intend to vote, the persons named as proxies on the proxy card will vote
FOR the adoption and approval of the Recapitalization Agreement.
Q: HOW WILL MY PROXY BE VOTED IF I DO NOT ATTEND THE MEETING AND VOTE MY
SHARES OR SEND IN MY PROXY CARD?
A: If you do not vote by proxy or attend the meeting and vote your shares,
this will have the same effect as a vote AGAINST adoption and approval of
the Recapitalization Agreement.
v
Q: IF MY SHARES ARE HELD IN "STREET NAME" BY MY BROKER, WILL MY BROKER VOTE MY
SHARES FOR ME?
A: You should follow the directions provided by your broker regarding how to
instruct your broker to vote your shares. If you do not provide
instructions, your shares will not be voted by your broker, and this will
have the same effect as a vote AGAINST the approval and adoption of the
Recapitalization Agreement. If you would like to attend the special meeting,
you must obtain a legal proxy from your broker.
Q: DO I HAVE APPRAISAL RIGHTS WITH RESPECT TO THE RECAPITALIZATION?
A: You may seek an appraisal of the fair value of your shares in the
recapitalization if you comply with all of the requirements of Delaware law.
We have summarized these requirements on page 43, and we have attached the
relevant section of the General Corporation Law of the State of Delaware as
Annex B to the proxy statement. If you exercise your appraisal rights, the
Delaware Court of Chancery will appraise the fair value of your shares of
Sunburst common stock. The appraised value may be more than, less than or
equal to the $7.375 per share paid in the recapitalization.
Q: CAN I CHANGE MY VOTE AFTER I HAVE MAILED MY SIGNED PROXY CARD?
A: Yes. You can change your vote at any time before the vote is taken at the
special meeting. If you are the record holder of Sunburst common stock, you
may change your vote by taking any of the following actions:
. You may send in a written notice dated later than your proxy card in
which you state that you would like to revoke your proxy card;
. You may send in a new proxy card dated later than your original proxy
card; or
. You can attend the special meeting and vote in person.
Simply attending the special meeting without voting will not revoke your
proxy. If you hold your shares in "street name" and have instructed a broker
to vote your shares, you must follow the instructions you received from your
broker as to how to change your vote.
Q: SHOULD I SEND IN MY STOCK CERTIFICATES NOW?
A: No. If the recapitalization is completed, we will send you written
instructions advising you how to send in your stock certificates in exchange
for the $7.375 per share payment for your shares.
Q: WHO CAN HELP ANSWER MY QUESTIONS?
A: If you have additional questions about the recapitalization after reviewing
the proxy statement, you should contact our proxy solicitor:
[LOGO OF MACKENZIE PARTNERS, INC.
156 FIFTH AVENUE
NEW YORK, NY 10010
(212) 929-5500
(212) 929-0308 (FAX)
PROXY@MACKENZIEPARTNERS.COM (E-MAIL)
vi
TABLE OF CONTENTS
SUMMARY TERM SHEET......................................................... i
QUESTIONS AND ANSWERS ABOUT THE TRANSACTION................................ iv
CAUTIONARY STATEMENT ABOUT FORWARD-LOOKING STATEMENTS...................... 1
INTRODUCTION............................................................... 2
INFORMATION ABOUT THE SPECIAL MEETING...................................... 4
Date, Time and Place of the Special Meeting.............................. 4
This Proxy Solicitation.................................................. 4
How to Vote Your Shares.................................................. 4
How to Revoke Your Proxy................................................. 4
Vote Required for Approval............................................... 5
SPECIAL FACTORS............................................................ 6
Background of the Transaction............................................ 6
Sunburst's Purpose for the Recapitalization.............................. 12
Recommendation of the Special Committee and Board of Directors; Fairness
of the Recapitalization................................................. 12
Reasons for the Recapitalization......................................... 12
Opinion of the Special Committee's Financial Advisor..................... 15
Financial Projections.................................................... 19
Continuing Stockholders' Leveraged Buyout Analysis....................... 20
Appraisals............................................................... 22
Alternatives to the Recapitalization..................................... 26
Nova's and the Continuing Stockholders' Purpose and Reasons for the
Recapitalization........................................................ 27
Certain Effects of the Recapitalization.................................. 28
Plans for Sunburst After the Recapitalization............................ 29
Conduct of the Business of Sunburst if the Recapitalization is Not
Completed............................................................... 30
Conflicts of Interest of Certain Persons in the Recapitalization......... 30
Arrangements with Continuing Stockholders................................ 34
Rights Agreement......................................................... 35
Litigation............................................................... 35
Accounting Treatment..................................................... 35
Financing of the Recapitalization........................................ 36
The Choice Agreements.................................................... 38
Expenses of the Recapitalization......................................... 43
Regulatory Requirements.................................................. 44
Material Federal Income Tax Consequences of the Recapitalization......... 44
THE RECAPITALIZATION AND RELATED AGREEMENTS................................ 46
The Recapitalization Agreement........................................... 46
Exchange and Voting Agreement............................................ 52
APPRAISAL RIGHTS........................................................... 55
SUMMARIZED FINANCIAL DATA FOR SUNBURST .................................... 59
PRO FORMA FINANCIAL INFORMATION ........................................... 60
MARKET FOR SUNBURST'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS........ 65
Common Stock Market Price Information.................................... 65
Dividend Information..................................................... 65
Common Stock Purchase Information........................................ 66
vii
TABLE OF CONTENTS
DIRECTORS AND EXECUTIVE OFFICERS............................................ 67
Directors of Sunburst..................................................... 67
Executive Officers of Sunburst............................................ 68
Nova Finance Company LLC.................................................. 69
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.............................. 71
Relationship with Manor Care.............................................. 71
Relationship with Choice.................................................. 71
BENEFICIAL OWNERSHIP OF SUNBURST COMMON STOCK............................... 79
STOCKHOLDER PROPOSALS FOR 2001 ANNUAL MEETING............................... 82
OTHER MATTERS............................................................... 82
WHERE YOU CAN FIND MORE INFORMATION......................................... 83
- --------
Annex A--Recapitalization Agreement, dated as of September 20, 2000, between
Sunburst Hospitality Corporation and Nova Finance Company LLC
Annex B--General Corporation Law of the State of Delaware
Annex C--Opinion of Salomon Smith Barney Inc.
Annex D--Sunburst's Form 10-K for the Fiscal Year Ended December 31, 1999
Annex E--Sunburst's Form 10-Q for the Quarter Ended September 30, 2000
viii
CAUTIONARY STATEMENT ABOUT FORWARD-LOOKING STATEMENTS
This proxy statement contains information based on management's beliefs and
forward-looking statements that involve a number of risks, uncertainties and
assumptions. There can be no assurance that actual results will not materially
differ from the forward-looking statements as a result of various factors,
including, but not limited to:
. Sunburst's ability to consummate the proposed recapitalization;
. receipt of required regulatory approvals related to the proposed
recapitalization;
. the completion of financing under Nova's commitment letter for the
recapitalization;
. results of litigation, including litigation relating to the
recapitalization;
. competition;
. government regulation; and
. general economic and business conditions.
You should not place undue reliance on forward-looking statements, which
reflect management's view only as of the date of this proxy statement. All
forward-looking statements included in this proxy statement and all subsequent
forward-looking statements attributable to Sunburst or persons acting on its
behalf are expressly qualified in their entirety by these cautionary
statements. Sunburst undertakes no obligation to publicly release the result of
any revisions to these forward-looking statements that may be made to reflect
events or circumstances after the date of this proxy statement or to reflect
the occurrence of unanticipated events.
1
INTRODUCTION
This proxy statement provides information about a proposed recapitalization
of Sunburst Hospitality Corporation that you should read before you vote on the
proposed recapitalization. The recapitalization will be voted on at a special
meeting of the stockholders of Sunburst to be held on January 4, 2001, at 10:30
a.m. local time, at the Quality Suites Hotel, 3 Research Court, Rockville,
Maryland 20850.
In the recapitalization, all stockholders other than continuing stockholders
will be entitled to receive $7.375 per share in cash, and the continuing
stockholders will, in the aggregate, own 100% of Sunburst. The summary term
sheet and questions and answers at the beginning of this proxy statement
provide a summary of key terms of the recapitalization and information about
the special meeting. The remainder of this proxy statement provides detailed
information about the recapitalization and the special meeting, and you should
carefully review this entire proxy statement.
Sunburst owns and operates hotels in four categories within the lodging
industry: extended-stay, under the brand name "MainStay Suites"; traditional
all-suite, under the brand names "Quality Suites" and "Comfort Suites"; full-
service, under the brand names "Clarion" and "Quality"; and limited service,
under the brand names "Comfort Inn," "Sleep Inn," and "Holiday Inn Express."
Within each category, hotels are segmented by room prices. The industry
generally uses the following segment descriptions: budget, economy, mid-price,
upscale and luxury. No specific dollar descriptions are attached to these
segment descriptions, as the prices of rooms vary materially market by market.
A hotel falls into a respective segment based on its pricing relative to all
other hotels in its specific local market. Sunburst's hotels fall into either
the mid-price or upscale segments.
Sunburst's hotels compete in their respective markets with other hotels
based on location, price, range of services and guest amenities, plus the
quality of customer service and overall product offerings. In most markets,
Sunburst's hotels have from 3 to 8 competitors that share general location
proximity. No individual hotel brand or hotel operator is a dominant
competitor. Common competitively branded hotels would include Holiday Inn,
Holiday Inn Express, Days Inn, Best Western, Fairfield Inn, Candlewood Suites,
Homestead Village, Hampton Inn and Courtyard Hotels.
As of September 30, 2000, the Sunburst portfolio included 75 hotels open
with 10,329 rooms in 25 states and three hotel development sites. Each hotel is
branded with a Choice Hotels International, Inc. brand, except for the Holiday
Inn Express. Sunburst is Choice's largest franchisee. Twenty-eight of the 75
hotels, with a net book value of $115.9 million at September 30, 2000, serve as
collateral for Sunburst's multi-class mortgage pass-through certificates.
Sunburst has not purchased any hotels since February 1997 or opened any newly
developed hotels since March 2000. Currently, Sunburst has approximately 3,100
employees, approximately 65 of whom work in Sunburst's Silver Spring, Maryland
headquarters. Sunburst's headquarters are located at 10770 Columbia Pike,
Silver Spring, Maryland, 20901, telephone: (301) 592-3800.
In the recapitalization, Nova Finance Company LLC will be merged with and
into Sunburst. Nova is a Delaware limited liability company organized, at the
direction of the continuing stockholders, for the purpose of facilitating the
recapitalization. Nova will cease to exist at the time of the merger.
Accordingly, it does not have and is not expected to have any business
activities, assets or liabilities, other than those arising under the
Recapitalization Agreement. Nova's business address is 7361 Calhoun Place,
Suite 300, Rockville, MD 20855, telephone: (301) 592-3803.
Recent Developments
Sunburst has entered into a sales agreement with a limited service hotel
owner/operator to purchase ten of Sunburst's limited service hotels with a book
value of $38.7 million for a purchase price of approximately $32.5 million. The
purchase of one of the hotels by the owner/operator is contingent on a possible
sale of that
2
hotel to another purchaser, which has a contract to purchase that hotel. The
sales agreement is subject to, among other things, approval of the transaction
by the boards of directors of both companies and the completion of a due
diligence review of these properties to be completed no later than February
2001. There can be no assurances that the transaction will be consummated. We
refer you to "Pro Forma Financial Information" for additional information about
the sale of these ten hotels.
3
INFORMATION ABOUT THE SPECIAL MEETING
The Board of Directors is soliciting your proxy to encourage your
participation in the voting at the special meeting and to obtain your support
for the recapitalization. You are invited to attend the special meeting and
vote your shares directly. If you do not attend the special meeting, you may
vote by proxy, which allows you to direct another person to vote your shares at
the special meeting on your behalf.
Date, Time and Place of the Special Meeting
Sunburst will hold the special meeting on January 4, 2001, at 10:30 a.m.,
local time at the Quality Suites Hotel, 3 Research Court, Rockville, Maryland
20850.
This Proxy Solicitation
This solicitation contains two parts: the proxy card and this proxy
statement. The proxy card is what you use to indicate how you want your shares
to be voted. This proxy statement provides you with information on the proposal
and other matters that you may find useful in determining how to vote. On
December 9, 2000, Sunburst began mailing this proxy statement to all people
who, according to our stockholder records, owned shares of Sunburst's common
stock at the close of business on November 22, 2000.
Proxies are being solicited by and on behalf of Sunburst's Board of
Directors. Sunburst will pay the cost of soliciting proxies from its
stockholders, as well as all mailing and Commission filing fees incurred in
connection with this proxy statement. Sunburst has engaged the services of
MacKenzie Partners, Inc., 156 Fifth Avenue, New York, NY 10010, to solicit
proxies and to assist in the distribution of proxy materials. In connection
with its retention by Sunburst, MacKenzie Partners, Inc. has agreed to provide
consulting and analytic services and provide solicitation services with respect
to banks, brokers, institutional investors and individual stockholders.
Sunburst has agreed to pay MacKenzie Partners, Inc. a fee of $6,000 plus
reasonable out-of-pocket expenses and to indemnify MacKenzie Partners, Inc.
against certain liabilities and expenses, including liabilities and expenses
under the federal securities laws. In addition to the solicitation of proxies
by mail, some of Sunburst's senior officers, including Sunburst's co-CEOs,
executive vice presidents and senior vice presidents, may solicit proxies in
person or by telephone, mail, facsimile or otherwise, but they will not receive
any additional compensation for their services. These senior officers will
respond to stockholders' questions, but will not actively solicit votes.
Sunburst also will reimburse brokers and other nominees for their reasonable
out-of-pocket expenses for forwarding proxy materials to beneficial owners of
stock held of record by them.
How to Vote Your Shares
You have one vote for each share of Sunburst's common stock that you owned
of record at the close of business on November 22, 2000. The number of shares
you own and may vote at the special meeting is listed on the enclosed proxy
card. You may vote your shares at the special meeting in person or by proxy. To
vote in person, you must attend the special meeting and obtain and submit a
ballot. Sunburst will have ballots for voting in person available at the
special meeting. To vote by proxy, you must complete and return the enclosed
proxy card. By completing and returning the proxy card, you will direct the
persons designated on the proxy card (those persons are known as proxies) to
vote your shares at the special meeting in accordance with your instructions.
Leland C. Pillsbury and Carole Y. Prest will serve as proxies at the special
meeting.
If you decide to vote by proxy, your proxy card will be valid only if you
sign, date and return the proxy card before the special meeting. If you
complete the proxy card except for the voting instructions, then your shares
will be voted FOR approval and adoption of the Recapitalization Agreement.
How to Revoke Your Proxy
You can change your vote at any time before the vote is taken at the special
meeting. If you are the record holder of Sunburst common stock, you may change
your vote by taking any of the following actions:
. You may send in a written notice dated later than your proxy card in
which you state that you would like to revoke your proxy card;
4
. You may send in a new proxy card dated later than your original proxy
card; or
. You can attend the special meeting and vote in person.
Simply attending the special meeting without voting will not revoke your
proxy. If you hold your shares in "street name" and have instructed a broker to
vote your shares, you must follow the instructions you received from your
broker as to how to change your vote.
You may send in a written notice or a facsimile dated later than your proxy
card in which you state that you would like to revoke your proxy card.
Facsimiles should be sent to MacKenzie Partners, Inc. at (212) 929-0308.
Vote Required for Approval
The completion of the recapitalization is conditioned on approval and
adoption by the holders of two-thirds of all outstanding shares of Sunburst of
the Recapitalization Agreement including approval and adoption by a majority of
the outstanding shares that are not held by members of the group of continuing
stockholders. Therefore, a total of 10,574,322 shares must be voted in favor of
the proposal and 4,046,240 of these shares must be held by persons other than
the continuing stockholders. The continuing stockholders have agreed to vote
all 7,769,005 shares they hold in favor of the proposal.
You should also note that current members of management who will not be
continuing stockholders--Donald J. Landry and Douglas H. Verner, who hold
925,973 and 88,635 shares of Sunburst's outstanding common stock,
respectively--have indicated their intention to vote in favor of the proposal
and such votes will be counted towards the majority of the shares held by
stockholders other than continuing stockholders.
If you hold your shares with a broker and you do not tell your broker how to
vote, your broker does not have the authority to vote on the recapitalization.
Accordingly, if you do not instruct your broker how to vote, this will be
equivalent to a vote against the recapitalization. In addition, if you abstain
from voting on the Recapitalization Agreement, this also will be equivalent to
a vote against the proposal.
Quorum
On the record date for the special meeting, November 22, 2000, 15,861,483
shares of Sunburst's common stock were issued and outstanding. Sunburst's
bylaws require that a "quorum" be present at the special meeting to transact
business. A quorum will be present if a majority of Sunburst's outstanding
common stock, or 7,980,742 shares, is represented at the special meeting, in
person or by proxy. If a quorum is not present, a vote cannot occur.
Abstentions will be counted in determining whether a quorum is present at the
special meeting.
5
SPECIAL FACTORS
Background of the Transaction
Sunburst was created as Choice Hotels International, Inc. in November 1996
when Manor Care, Inc., a nursing home owner, operator and developer, separated
its lodging business from its health care business through a spin-off of its
lodging business to its stockholders.
In October 1997, Choice Hotels International, Inc. divested itself of its
franchising business through a spin-off of that business to its stockholders.
Choice Hotels International, Inc. was renamed Sunburst Hospitality Corporation
and retained the business of developing, owning and operating hotels. The
franchising business was conducted under the name Choice Hotels International,
Inc. Following this transaction, the Bainum family continued to own a
significant portion of both Sunburst and Choice Hotels. Stewart Bainum, Jr.
(who is referred to throughout this proxy statement as Mr. Bainum) and Barbara
Bainum were members of the Choice Hotels Board of Directors, and Mr. Bainum was
a member of the Sunburst Board of Directors.
At the time of the 1997 spin-off, Sunburst's goals included developing
approximately twelve extended-stay type hotels per year. Sunburst's development
program would have required approximately $60 to $70 million of new capital per
year. Sunburst was not able to generate sufficient capital internally. As a
result, Sunburst planned to raise the new capital to fund projected growth
through an equity offering scheduled for 1998.
Sunburst identified the mid-priced, extended-stay lodging segment as an
attractive area for development. Based on published research that indicated a
substantial demand for extended-stay hotels and relatively few existing such
facilities, this market was identified as being underserved. Historically, on a
national basis, extended-stay hotels have achieved higher occupancy rates than
traditional hotels. As a result, Sunburst's extended-stay hotels have
historically produced higher returns on investment than its traditional hotels.
The operating model that Sunburst devised for the MainStay Suites hotels
resulted in higher operating profit margins than for those of its traditionally
operated hotels. Management believes that the demand in this segment
significantly exceeds supply. The return on investment Sunburst realized on the
initial MainStay Suites was superior to the rates of returns it believed it
could achieve from alternative investments in the lodging industry. Subsequent
projects' returns on investment have varied substantially. This factor, coupled
with the slower than expected growth of the MainStay Suites franchise system,
diminished Sunburst's interest in continuing to develop MainStay Suites hotels.
In the first half of 1998, hotel-industry analysts reported concerns about
the declining rate of revenue growth in the industry, and cited concerns about
new hotel construction that would create new supply in excess of new demand,
thereby reducing returns on capital invested in the hotel industry even in the
extended-stay lodging segment. Although Sunburst believes that demand on the
extended-stay segment has been keeping pace with supply, analysts' concerns in
early 1998 caused stock values of almost all hotel companies, including
Sunburst's, to decline substantially. By May 1998, when Sunburst attempted to
access the equity market, it was unable to secure a sufficient number of buyers
for Sunburst's common stock at the then current market price. Sunburst decided
to withdraw its offering, and began to explore various options to provide the
funds needed for its development program.
Since early 1998, Sunburst has surveyed the debt markets from time to time
to determine whether it could refinance its subordinated debt (of which
approximately $136 million, plus interest, is due in October 2002) on favorable
terms, and thereby obtain funds needed for growth. At no time during this
period was Sunburst able to locate favorable financing.
In mid-1998, shortly after Sunburst withdrew its equity offering, Sunburst's
senior management, including Donald Landry, James MacCutcheon and Kevin Hanley,
began to contact potential strategic partners that management identified as
companies in its industry that might be interested in engaging in a potential
transaction with the company. The goal of these contacts was to obtain capital
investments, to sell a number of older hotels or to merge part or all of
Sunburst's business with another company, all with the overriding goal of
6
providing funding to enable Sunburst's extended-stay hotel development to
continue or otherwise benefiting Sunburst and its stockholders.
In June 1998, Mr. Landry, Sunburst's CEO, contacted a senior manager of a
large hotel real estate investment trust regarding a possible strategic
combination. Discussions between Sunburst's senior management and the senior
management of this REIT occurred from June through September of 1998, and again
in November 1998. These discussions centered on combining that company's
extended-stay brand with Sunburst's MainStay Suites extended-stay hotels,
either through a sale of one company's extended-stay hotels to the other, or by
Sunburst exchanging several of its older hotels with that company for some or
all of its extended-stay hotels. That company terminated these discussions
without an agreement in late 1998. Discussions were revived again in August
1999, but the discussions terminated when the parties were unable to reach
agreement.
In December 1998, Mr. Landry contacted a leading developer, owner and
operator of mid-priced, extended-stay hotels. That company's hotels are similar
to Sunburst's MainStay Suites hotels and are one of the leading competitors of
the MainStay Suites brand. These discussions continued into early 1999 and
focused on a possible merger of Sunburst with that company. These discussions
were revived again in June and August 2000, as discussed further below, but a
mutually acceptable structure for a merger was never agreed upon.
In March 1999, following a telephone call from Mr. Landry, senior managers
of Sunburst met and corresponded with senior management of another hotel
company, which owned a number of mid-priced extended-stay hotels, to explore a
possible strategic transaction. Those discussions considered, among other
things, Sunburst's acquisition of that company's extended-stay hotels in
exchange for certain of Sunburst's older hotels. Those discussions extended
over several months, but no agreement was reached. Ultimately, that company
decided that it did not want to exchange its newer assets for Sunburst's older
assets.
In June 1999, Mr. Landry of Sunburst contacted senior management of a large,
international hotel company regarding the possibility of rebranding Sunburst's
MainStay Suites hotels under the name of this company's mid-price extended-stay
hotel brand, which is similar to the MainStay concept. Sunburst believed that
such a brand conversion would improve occupancy and rates at Sunburst's
extended-stay hotels and could improve Sunburst's ability to obtain funding for
its extended-stay hotel development program. By this time, Sunburst was slowing
its development program because Sunburst had nearly exhausted its funding
capacity. Although the parties tentatively reached an agreement regarding the
terms of the conversion, Choice Hotels, the franchisor of MainStay Suites
brand, threatened to pursue litigation against that company and Sunburst on the
bases of interference with contract and breach of contract. In October 1999,
Sunburst and Choice engaged in mediated discussions regarding their
relationship, which resulted in substantial financial benefits to Sunburst. The
benefits included: (1) Choice no longer has a right of first refusal to pick
the franchise of any new development by Sunburst; (2) Sunburst could "put"
three poorly performing MainStay Suites hotels to Choice at a price equal to
the total cost of developing these hotels, which was approximately 20% over the
three hotels' aggregate market value, at that time; (3) Sunburst could reflag
any MainStay Suites hotels after October 15, 2002 upon payment of $100,000 per
hotel, far less than the liquidated damages which would be due under the
franchise agreements; and (4) Sunburst received a credit in the amount of
$2,142,887 to be applied against future MainStay franchise fees, and Sunburst
may be entitled to future MainStay franchise fee credits based on the
difference between actual MainStay financial performance in the future and
Sunburst's projected financial performance at the time the hotel was built. In
exchange for receiving these benefits, Sunburst agreed not to reflag any
MainStay Suite hotels until October 15, 2002. If MainStay Suite hotels are
reflagged, Sunburst will not receive future franchise fee credits. As a result
of these discussions, Sunburst decided not to proceed with the conversion to
the new brand.
After being contacted by a senior manager of another large, international
hotel company in early 2000, Sunburst and that company held discussions that
focused on the possibility of that company providing funding to Sunburst to
develop a number of that company's extended-stay hotels. These discussions did
not result in an agreement because the amount of funding offered by that
company was insufficient to justify Sunburst's diversion of attention to the
development program of the other company's hotels to the possible detriment of
Sunburst's other properties.
7
In April 2000, the chief executive officer of a leading developer of both
low-price and mid-price extended-stay type hotels contacted Sunburst to discuss
potential strategic transactions. Sunburst and that company held discussions
during April and May 2000. The hotel developer expressed an interest in
exploring a purchase of a number of MainStay Suites hotels from Sunburst.
However, the parties were unable to agree on price.
In April and May 2000, executives from Sunburst met with representatives of
a real estate brokerage-investment banking company. That company initiated
these contacts based on its belief that an apartment developer might want to
enter into a strategic partnership with Sunburst for the development of
MainStay Suites hotels, which can be considered half-hotel, half-apartment.
These meetings led to Sunburst entering into an agreement with that company in
which the company would try to find Sunburst a strategic partner from a list of
large, apartment developers and Sunburst agreeing to pay a fee to that company
if an agreement was entered into with that strategic partner. No potential
strategic partner was ever brought to Sunburst as a result of this agreement.
During April 2000, Sunburst was contacted by a group of potential financial
purchasers, including a large investment bank and two individuals. Following
initial conversations, the parties met in May 2000, during which the group
indicated a willingness to consider buying Sunburst for $6 per share. The group
was informed that it was extremely unlikely that Sunburst's stockholders would
agree to that price, but no position was taken by Sunburst as to what an
appropriate price would be. Over the following few months the parties continued
discussions, including one additional meeting, primarily regarding the
possibility of the group acquiring certain of Sunburst's assets. No agreements
were ever reached with this group.
Including the transactions described above, since March 1998, Sunburst
management pursued discussions relating to transactions with eighteen strategic
buyers and four financial buyers. The discussions with each of the buyers that
are not specifically described above were very limited and did not result in
any offer with respect to all or part of Sunburst or its assets.
During the regularly scheduled meeting of the Board of Directors in February
2000, Mr. Bainum expressed an interest in considering a leveraged buyout of
Sunburst if market valuations did not increase significantly.
At the regularly scheduled Board meeting in May 2000, Mr. Bainum expressed
again an interest in exploring a leveraged buyout of Sunburst. Mr. Bainum
explained that such a transaction would likely include members of his family
and certain current members of senior management (the continuing stockholders).
Mr. Bainum also stated that any offer for Sunburst stock would be contingent on
Sunburst refinancing its debt to Choice Hotels, and he asked that Sunburst
management commence discussions with Choice Hotels to determine whether the
debt could be refinanced. The Board also noted that, in any event, negotiations
on restructuring the debt to Choice Hotels should begin sometime soon given the
debt's relatively short maturity and minimal attractive refinancing
alternatives. At that time, the Board also discussed the conflict of interest
created by Mr. Bainum, the Chairman of the Board of both Sunburst and Choice
Hotels, and members of management attempting to engage in a leveraged buyout.
The Board considered the need to establish a special committee of independent
Board members to analyze any offer from the continuing stockholders.
Discussions regarding the Choice Hotels indebtedness began in May 2000, and
by late July 2000, it appeared that this debt could be restructured on terms
that would allow the continuing stockholders to obtain financing to acquire
Sunburst's publicly held stock. Because of Mr. Bainum's interest in Choice
Hotels, Mr. Bainum recused himself from discussions regarding the restructuring
of the Choice Hotels debt.
On July 24, 2000, acting by unanimous written consent, the Board appointed a
special committee, comprised of Paul A. Gould, chairman of the special
committee, Leland C. Pillsbury and Keith B. Pitts. The Board authorized the
special committee to investigate all opportunities that might enhance the value
of Sunburst for its stockholders, including the transaction proposed by the
continuing stockholders, and to negotiate any proposed transaction. While the
Board established the special committee to consider the
8
transaction proposed by the continuing stockholders, the special committee was
given the authority to investigate any transaction that could lead to enhanced
stockholder value, and the special committee was not precluded from seeking
potential third party purchasers.
On July 26, 2000, at Mr. Bainum's request, Mr. Gould met with Mr. Bainum at
Mr. Gould's office in New York City. At this meeting, Mr. Bainum informed Mr.
Gould that the negotiations on the basic economic and business terms of the
Choice Hotels debt restructuring had been successful, and that The Chase
Manhattan Bank would commit to financing a restructuring of Sunburst's debt and
a buyout of the public stockholders. Mr. Bainum further stated that his review
of similar transactions led him to conclude that buyers usually pay a 20-25%
premium over the market valuation of the acquired company's stock prior to the
announcement of the transaction. While no numbers were mentioned at that time,
the premium mentioned by Mr. Bainum implied a valuation of between $6.30 and
$6.56 per share, based on the closing price of $5.25 for Sunburst on July 25,
2000. Mr. Gould listened to these comments and asked Mr. Bainum to provide the
background analysis regarding similar transaction pricing.
Mr. Gould then convened a series of meetings of the special committee,
during which discussions were held regarding retaining a financial advisor and
legal counsel for the special committee. The special committee interviewed
several investment banking firms with hotel company experience and ultimately
engaged Salomon Smith Barney Inc. as its financial advisor. The special
committee interviewed several law firms with experience in advising special
committees in leveraged buyout transactions and ultimately retained Wilmer,
Cutler & Pickering as its legal counsel.
On August 7, 2000, Mr. Gould called Mr. Bainum to advise him that the
special committee expected to review the expression of interest, including the
premium suggested by Mr. Bainum, with the special committee's legal and
financial advisors, and would then respond to Mr. Bainum with its view.
On August 14, 2000, the special committee met by teleconference with its
legal and financial advisors to review Mr. Gould's discussions with Mr. Bainum.
Following that meeting, Mr. Gould called Mr. Bainum and informed Mr. Bainum
that the special committee believed that a price considerably higher than the
20-25% premium Mr. Bainum had mentioned on July 26, 2000 would be appropriate
and that Mr. Bainum would have to raise the proposed price before discussions
could continue. Mr. Bainum stated that he would get back to Mr. Gould if he
were going to change his expression of interest.
On August 21, 2000, Mr. Bainum telephoned Mr. Gould and indicated that the
continuing stockholders would be willing to pay $6.75 per share for Sunburst.
Mr. Bainum pointed out that this price represented a 50% premium over prices
the stock had traded at during the prior month. Mr. Gould asked whether any
offer would be supported by committed financing. Mr. Bainum replied that the
financing would be committed. Mr. Gould said he would discuss Mr. Bainum's
expression of interest with the special committee.
Later on August 21, 2000, the special committee met by teleconference with
its legal and financial advisors to discuss the expression of interest by Mr.
Bainum, the preliminary leveraged buyout model that the continuing stockholders
had prepared and a business and financial overview of Sunburst. In early August
2000, a leveraged buyout model prepared by the continuing stockholders was
provided to the special committee. The preliminary leveraged buyout analysis is
discussed on page 20 of this proxy statement in "Special Factors--Continuing
Stockholders' Leveraged Buyout Analysis." After reviewing this analysis which
assumed the continuing stockholders would pay $7.00 per share in the
transaction, the special committee believed it could obtain a price of at least
$7.00 per share.
On August 22, 2000, the special committee met by teleconference in the
morning and afternoon with its legal and financial advisors regarding the
expression of interest and valuation matters. Salomon Smith Barney stated that
it needed to conduct further diligence to evaluate Mr. Bainum's revised
proposal. During this meeting, it was determined that representatives of
Salomon Smith Barney would meet with Chase Securities Inc., the financial
advisor to the continuing stockholders, to enable Salomon Smith Barney to
determine the reasonableness of the assumptions in the leveraged buyout model
that the continuing stockholders had prepared.
9
On August 22, 2000, Mr. Gould called Mr. Bainum and informed him that the
special committee was seeking a higher per share price than the $6.75 Mr.
Bainum had proposed on August 21, 2000. Mr. Bainum stated that the continuing
stockholders were not prepared to increase their offer above $6.75 per share.
On August 24, 2000, representatives of Salomon Smith Barney, representatives
of Chase Securities Inc. and Messrs. MacCutcheon and Hanley met to discuss the
continuing stockholders' belief that Sunburst's stock was worth $6.75 per
share. At this meeting, representatives of Salomon Smith Barney and Chase
Securities Inc. discussed the basis for the assumptions in the continuing
stockholders' leveraged buyout model.
On August 25, 2000, the special committee held a telephonic meeting with its
legal and financial advisors. Salomon Smith Barney reviewed with the special
committee its discussions with Chase Securities Inc. and related matters.
Salomon Smith Barney again stated, however, that it needed to conduct further
due diligence of Sunburst in order to assess Mr. Bainum's revised expression of
interest.
On August 28, 2000, Mr. Gould and Mr. Bainum spoke again by telephone. They
each repeated their position on valuation, and neither one was prepared to
alter his position.
On August 30, 2000, the special committee convened a telephonic meeting with
its legal and financial advisors. By that time, Salomon Smith Barney had
conducted a due diligence review at Sunburst's headquarters. Based on its due
diligence, Salomon Smith Barney informed the special committee that it was of
the view that a price of $6.75 per share was inadequate from a financial point
of view. During this meeting, the special committee also reviewed an indication
of interest that Sunburst had received from an extended-stay hotel company. On
August 28, 2000 the hotel company indicated a tentative interest in a
transaction in which Sunburst would purchase all of the other company's assets,
requiring Sunburst to incur additional indebtedness, and Sunburst would
purchase from Choice Hotels the franchise agreements related to Sunburst's
MainStay Suites extended-stay hotels. The other company would assume management
of Sunburst's properties in exchange for management fees from Sunburst. As
consideration for these transactions, that company would provide Sunburst with
preferential rights to develop the company's new properties and 4,000,000
shares of that company's stock. This potential transaction was rejected because
it would not offer direct consideration to Sunburst's stockholders, and it
would require Sunburst to increase its debt level. Further, there was
significant uncertainty surrounding Sunburst's ability to secure additional
financing to effect the potential transaction and thus would not be in the best
interests of Sunburst or its stockholders.
On August 31, 2000, Mr. Bainum contacted Mr. Gould. Mr. Bainum stated that
the continuing stockholders considered Sunburst fully valued at $7.00 per
share. Mr. Gould said he would review that position with the special committee
and respond.
Later that day, Mr. Gould called Mr. Bainum and informed him that the $7.00
per share price could not be recommended to the stockholders by the special
committee, but that the special committee was prepared to recommend an offer of
$7.75 per share. After a discussion regarding Sunburst's valuation and Mr.
Bainum's view that it would be unlikely that Sunburst would be able to arrange
a strategic transaction with another purchaser on terms as favorable as the
proposed transaction, Mr. Bainum stated that the continuing stockholders would
consider offering $7.25 per share for Sunburst. Mr. Gould said he would review
that position with the special committee and respond the next day.
On September 1, 2000, the special committee met by teleconference with its
legal and financial advisors to discuss Mr. Gould's ongoing negotiations with
Mr. Bainum. At this meeting, Mr. Gould updated the special committee and its
legal and financial advisors as to Mr. Bainum's proposed price of $7.25 per
share. The special committee agreed that Mr. Gould should continue negotiations
with Mr. Bainum in pursuit of a higher price.
Later on September 1, 2000, Mr. Gould contacted Mr. Bainum to negotiate the
price. Mr. Gould advised Mr. Bainum that the special committee was prepared to
recommend a price of $7.50 per share if financing was committed. Mr. Bainum
confirmed that financing was committed. Mr. Bainum also stated that the
continuing
10
stockholders were unwilling to pay $7.50 per share but would bridge the gap
between $7.25 and $7.50 by agreeing to $7.375 per share for Sunburst. Mr. Gould
said that he believed that such price would be acceptable to the special
committee, and suggested that the continuing stockholders' legal counsel
prepare draft transaction documents and forward them through the special
committee's legal counsel.
On September 2, 2000, Cahill Gordon & Reindel, counsel to the continuing
stockholders, circulated an initial draft of the recapitalization agreement. By
this point, the parties had fully negotiated the cash consideration to be
received by the stockholders.
After receiving the draft of the recapitalization agreement, the continuing
stockholders and Cahill Gordon & Reindel conducted negotiations with the
special committee and Wilmer, Cutler & Pickering. The special committee and
Wilmer, Cutler & Pickering responded to the initial draft with a proposal to
limit Sunburst's representations and warranties to the continuing stockholders
and to reduce the restrictions on the manner in which Sunburst conducted its
operations. The special committee and Wilmer, Cutler & Pickering also proposed
to modify the provision regarding the special committee's and the Board's
ability to consider proposals from third parties to make clear that they could
consider unsolicited offers consistent with the exercise of their fiduciary
duties. The special committee and Wilmer, Cutler & Pickering also proposed to
eliminate a fee the draft required Sunburst to pay if it entered into an
agreement with a third party. The special committee and Wilmer, Cutler &
Pickering also stated the special committee's understanding that the closing of
the recapitalization would not be contingent on Nova's receipt of financing
necessary to effect the transaction.
On September 6, 2000, Cahill Gordon & Reindel and the continuing
stockholders responded to Wilmer, Cutler & Pickering and the special
committee's proposed modifications. They generally accepted the proposed
changes, but proposed that Sunburst should be required to reimburse the
continuing stockholders for expenses incurred in connection with the
recapitalization in exchange for eliminating the fee payable if Sunburst
abandoned the transaction for another. They also argued that Nova should be
able to terminate the transaction if it did not receive financing.
On September 8, 2000, Wilmer, Cutler & Pickering reported to the special
committee that the continuing stockholders wanted to retain financing as a
condition and set forth the continuing stockholders' request regarding
Sunburst's payment of expenses. The special committee then terminated
negotiations because it believed that it could not reach an agreement with the
continuing stockholders on these issues.
Negotiations resumed on September 14, 2000, when Mr. Bainum contacted Mr.
Gould to discuss the financing condition and expense issues in general terms
and Wilmer, Cutler & Pickering and the continuing stockholders began detailed
discussions of these issues and the recourse Sunburst would have if Nova, a
shell entity, failed to obtain financing and pay expenses.
On September 19, 2000, the parties reached agreement regarding these issues.
The continuing stockholders agreed to remove the requirement that Nova obtain
financing as a condition to closing, and Mr. Bainum agreed to execute a side
letter to the Recapitalization Agreement that effectively guaranteed Nova's
obligations to reimburse Sunburst for some expenses if the transaction did not
close. The parties also agreed on the allocation of expenses as described in
"The Recapitalization and Related Agreements--The Recapitalization Agreement--
Covenants of Sunburst--Expenses."
On September 20, 2000, the special committee met with its legal and
financial advisors to discuss the proposed transaction. At this meeting,
Wilmer, Cutler & Pickering reviewed the terms of the Recapitalization
Agreement. Also at this meeting, Salomon Smith Barney reviewed with the special
committee its financial analysis of the $7.375 per share price payable in the
recapitalization and delivered to the special committee its opinion to the
effect that, as of that date and based on and subject to the matters described
in its written opinion, the recapitalization consideration was fair, from a
financial point of view, to holders of Sunburst common stock, other than Nova,
the continuing stockholders and their respective affiliates. After full
discussion, the special committee unanimously determined that the terms of the
recapitalization were advisable, fair to, and in the best interests of
Sunburst's stockholders, other than Nova, the continuing stockholders and their
respective affiliates, and recommended to the Board of Directors and to
Sunburst's public stockholders that the Recapitalization Agreement be approved
and adopted.
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Immediately following the meeting of the special committee, the Board of
Directors of Sunburst met to consider and vote on the recapitalization. The
special committee's legal advisors described the material terms of the
Recapitalization Agreement, and Salomon Smith Barney described the financial
analysis and opinion it had provided to the special committee. The Board of
Directors requested a change in the terms of the commitment to the financing
that Nova had received from The Chase Manhattan Bank. Specifically, the Board
of Directors requested that the maturity date of a portion of the term loan be
extended from 18 months to 24 months, and was later advised that the bank had
agreed to this change. The Board of Directors also reviewed and approved
changes in the employment agreement for Mr. Landry, Sunburst's Co-Chief
Executive Officer. The Board unanimously approved and declared the advisability
of the Recapitalization Agreement and determined that the recapitalization is
in the best interests of, and the consideration provided to stockholders in the
recapitalization is fair to, Sunburst and its stockholders (other than Nova,
the continuing stockholders and their affiliates) and recommended that the
stockholders approve and adopt the Recapitalization Agreement and the
transactions contemplated thereby.
Following the Sunburst Board meeting, Nova and Sunburst executed the
Recapitalization Agreement. In addition, Sunburst, Nova and the continuing
stockholders executed an Exchange and Voting Agreement, which provides that the
continuing stockholders will exchange their Sunburst common stock for preferred
stock in Sunburst immediately before the recapitalization and that they will
vote for the recapitalization. The exchange of common for preferred will result
in the continuing stockholders holding all of the stock of Sunburst after the
recapitalization, rather than the cash consideration other stockholders will
receive. Sunburst and Nova announced the recapitalization in a press release
issued on September 20, 2000.
Sunburst's Purpose for the Recapitalization
Sunburst's purpose for the recapitalization is to provide Sunburst's
stockholders cash for their shares, to permit the continuing stockholders to
acquire ownership of Sunburst and to terminate the status of Sunburst as a
company with publicly traded equity.
Recommendations of the Special Committee and Board of Directors; Fairness of
the Recapitalization
The special committee of the Board of Directors has unanimously determined
that the recapitalization is advisable and in the best interests of, and the
consideration in the recapitalization is fair to, Sunburst and its
stockholders, other than Nova, the continuing stockholders and their
affiliates. The special committee unanimously recommended to the Board of
Directors and Sunburst stockholders that the Recapitalization Agreement and the
transactions contemplated by the Recapitalization Agreement be approved and
adopted. The special committee considered a number of factors in determining to
recommend that the Board of Directors and Sunburst stockholders approve and
adopt the Recapitalization Agreement and the transactions contemplated thereby
as more fully described below under "--Reasons for the Recapitalization."
The Board of Directors, acting upon the recommendation of the special
committee, unanimously determined that the terms of the recapitalization and
the Recapitalization Agreement are advisable, and are fair to, and in the best
interests of, Sunburst and its stockholders, other than Nova, the continuing
stockholders and their respective affiliates.
The Board of Directors and the special committee unanimously recommend that
you vote FOR the approval and adoption of the Recapitalization Agreement and
the transactions contemplated thereby.
Reasons for the Recapitalization
In reaching their recommendations, the special committee and the Board of
Directors considered a number of factors that weighed both in favor of and
against the transaction, including the following:
. Current market prices for Sunburst's common stock, including the facts
that: $7.375 per share in cash represented a 31% premium over the
closing price per share on September 19, 2000 (the last day of trading
before the public announcement of the Recapitalization Agreement);
Sunburst's common stock had not traded at that level over the past two
years: the recapitalization consideration was
12
higher than any price paid by the continuing stockholders during the
preceding two years (see page 66); the recapitalization consideration
represented a 49% premium over the prior six months' average trading
price; and the recapitalization consideration represented a premium to
the assumed purchase price of $7.00 in the continuing stockholders'
leveraged buyout analysis. The special committee and the Board
considered the premium over prevailing market prices as a factor
weighing in favor of the transaction.
. The current and prospective environment in which Sunburst operates, and
in particular the competitive factors affecting the market for
Sunburst's hotels. The special committee and the Board considered that
this environment creates risks relating to the continued ownership of
the equity of Sunburst and considered the elimination of this risk
through a cash offer at a significant premium to prevailing market
prices for Sunburst shares a factor weighing in favor of the
transaction.
. The special committee's consideration of strategic alternatives and
Sunburst's inability to structure a strategic transaction with another
strategic buyer during the past two and one-half years. See""--
Background of the Transaction." The special committee and the Board
concluded that the fact that no better alternative had been presented
after two and one-half years of considering alternatives was a factor
weighing in favor of undertaking the transaction at this time. The
special committee and the Board concluded that after two and one-half
years, it was unlikely that further investigations of other alternatives
would yield a better alternative, and this led them to conclude that
accepting the transaction was appropriate at this time.
. The special committee's analysis that it was unlikely that a strategic
acquirer or another financial acquirer would be willing to pay a price
higher than $7.375 per share.
. The special committee and the Board understood that if Sunburst is
successful in developing extended-stay hotels and otherwise pursuing its
business plan, Sunburst's operating results may improve over time, which
could have a positive impact on the value of Sunburst's securities, and
that the transaction means that stockholders of Sunburst (other than the
continuing stockholders) will not obtain the benefits of that increased
value. The special committee and the Board realized that successful
future financial performance would depend on a wide variety of factors,
including: Sunburst's ability to refinance its existing debt
arrangements and obtain long-term capital funding; market conditions and
Sunburst's success compared to its competitors; and the future demand
for and supply of competing hotel properties. The special committee
considered the risks and uncertainties associated with Sunburst's future
prospects, including the uncertainty of Sunburst's ability to develop
its MainStay hotels if it is unable to secure funding, Sunburst's highly
leveraged financial position, the relatively flat demand growth for
limited service hotels, increased competition from new hotel supply, and
the risk of loss of key management and operating personnel in the
current competitive employment environment. The special committee and
the Board believed that these risks and uncertainties created the
possibility that the potential positive impacts would not be realized
and the future value of Sunburst's securities would be impaired. The
special committee and the Board considered the certainty of the cash
consideration offered in the transaction a factor weighing in favor of
the transaction in light of the uncertain prospects of Sunburst.
. The likelihood that the recapitalization would close as a result of the
financing commitments that Nova received with respect to the
recapitalization. In light of the financing commitments, the special
committee and the Board believed that it was very likely that the
transaction would be completed on the terms agreed to and this was a
factor weighing in favor of the transaction.
. The manner in which the strategic transaction process was conducted and
the fact that the special committee was delegated authority for
conducting the strategic transaction process after receipt of Mr.
Bainum's expression of interest. None of the members of the special
committee are continuing stockholders. These responsibilities included,
among other things, the review and analysis of the proposals presented
by the continuing stockholders, the engagement of the special
committee's own legal and financial advisors, the negotiations with the
continuing stockholders and the ultimate determination with respect to
the recommendation to the Board of Directors and Sunburst stockholders
of the merger and the Recapitalization Agreement. The terms of the
Recapitalization
13
Agreement were determined through extensive negotiations between the
special committee and its advisors and the continuing stockholders and
their advisors. See "--Background of the Transaction" for additional
information regarding the negotiations. The special committee and the
Board determined that these procedural safeguards enhanced the fairness
of the transaction and were a factor weighing in favor of the
transaction.
. The financial presentation of Salomon Smith Barney to the special
committee on September 20, 2000, including Salomon Smith Barney's
opinion as to the fairness, from a financial point of view and as of the
date of the opinion, of the recapitalization consideration to holders of
Sunburst common stock, other than Nova, the continuing stockholders and
their respective affiliates. The special committee and the Board
considered the conclusion reached in this opinion as a factor weighing
in favor of the transaction. The special committee and the Board were
aware that a portion of the fee that Salomon Smith Barney will receive
for its services in connection with the recapitalization is not due
unless the transaction closes and did not believe that such fee
arrangement discounted the value of Salomon Smith Barney's opinion.
. The terms of the Recapitalization Agreement and related agreements,
which do not preclude the Board of Directors or the special committee,
in the exercise of their fiduciary duties to stockholders, from
considering competing acquisition proposals. The Recapitalization
Agreement permits the Board of Directors or the special committee, under
circumstances stated in the Recapitalization Agreement, to furnish
information to, and participate in negotiations with, persons making
bona fide unsolicited written offers. The Recapitalization Agreement
permits the Board of Directors to terminate the Recapitalization
Agreement and accept an offer if required to do so in the exercise of
its fiduciary duties. The special committee and the Board concluded that
these provisions gave them the opportunity to accept a different
transaction in appropriate circumstances and this was a factor that
generally weighed in favor of the transaction, although the fact that
Sunburst would be obligated to pay expenses of Nova and the continuing
stockholders if it accepted another offer weighed against the
transaction. See "The Recapitalization and Related Agreements--The
Recapitalization Agreement--Covenants of Sunburst--No Solicitation" and
"--Termination of the Recapitalization Agreement" for additional
information regarding the Board of Directors' or the special committee's
ability to consider competing proposals.
. The special committee and the Board considered that Sunburst would
recognize cost savings upon becoming a privately-held company. The
special committee and the Board considered the cost savings as a factor
that weighed in favor of the transaction.
. The interests of certain directors and executive officers of Sunburst
that are different from those of other stockholders. See "--Conflicts of
Interest of Certain Persons in the Recapitalization." The special
committee, which consists solely of directors who are not officers or
employees of Sunburst, and who have no financial interest in the
proposed recapitalization different from Sunburst stockholders
generally, was aware of these interests and considered them in making
its determination. The special committee did not consider that these
interests weighed either in favor of or against the transaction.
. The ability of stockholders who may not support the recapitalization to
exercise appraisal rights under the General Corporation Law of the State
of Delaware. The General Corporation Law of the State of Delaware
provides stockholders with the opportunity to exercise appraisal rights
and to seek a determination by the Delaware Court of Chancery as to the
fair value of their shares of common stock. The special committee and
the Board concluded that the existence of appraisal rights weighed in
favor of the transaction because it gave objecting stockholders an
opportunity to receive a judicially determined price for their shares.
See "Appraisal Rights" for information on how to exercise your appraisal
rights.
. The fact that the per share price to be received pursuant to the
recapitalization is payable in cash, eliminating any uncertainties in
valuing the recapitalization consideration to be received by Sunburst
stockholders, but subjecting most stockholders to taxation on any gain.
The certainty of valuation
14
weighed in favor of the transaction but the taxability of the
transaction weighed against the transaction.
. The fact that, under Sunburst's certificate of incorporation, the
adoption and approval of the Recapitalization Agreement require the
affirmative vote of two-thirds of the outstanding shares of Sunburst
entitled to vote on the transactions. The special committee sought
additional protections for unaffiliated stockholders by requiring that a
majority of Sunburst's outstanding stock held by persons other than
Nova, the continuing stockholders and their respective affiliates,
approve and adopt the Recapitalization Agreement and related
transactions and the availability of these provisions weighed in favor
of the transaction.
In reaching its decision to approve and recommend the Recapitalization
Agreement, the Board of Directors relied on the special committee's
recommendation and the factors examined by the special committee as described
above.
The foregoing discussion addresses the material information and factors
considered by the special committee and the Board of Directors in their
consideration of the recapitalization, including factors that support the
recapitalization as well as those that may weigh against it. In view of the
variety of factors and the amount of information considered, the special
committee and the Board of Directors did not find it practicable to, and did
not specifically make assessments of, quantify or otherwise assign relative
weights to the various factors and analyses considered in reaching its
determination. The determination to approve the Recapitalization Agreement was
made after consideration of all the factors as a whole. The special committee
and the Board of Directors did not consider going concern value or liquidation
value independent of their analysis of the fairness opinion. In addition, the
special committee and the Board of Directors were of the opinion that net book
value ($5.80 as of June 30, 2000) was not a useful indicator of Sunburst's
value because market values of real estate companies are unrelated to net book
value and gave no weight to net book value in reaching their recommendations.
Opinion of the Special Committee's Financial Advisor
The special committee retained Salomon Smith Barney to act as its exclusive
financial advisor in connection with the proposed recapitalization. In
connection with this engagement, the special committee requested that Salomon
Smith Barney evaluate the fairness, from a financial point of view, of the
consideration to be received in the recapitalization by holders of Sunburst
common stock, other than Nova, the continuing stockholders and their respective
affiliates. On September 20, 2000, at a meeting of the special committee held
to evaluate the proposed recapitalization, Salomon Smith Barney delivered to
the special committee an oral opinion, which was confirmed by delivery of a
written opinion dated the same date, to the effect that, as of that date and
based on and subject to the matters described in the opinion, the
recapitalization consideration was fair, from a financial point of view, to the
holders of Sunburst common stock, other than Nova, the continuing stockholders
and their respective affiliates.
In arriving at its opinion, Salomon Smith Barney:
. reviewed the Recapitalization Agreement and related documents;
. held discussions with senior officers, directors and other
representatives and advisors of Sunburst concerning Sunburst's business,
operations and prospects;
. examined publicly available business and financial information relating
to Sunburst;
. examined financial forecasts and other information and data for
Sunburst, including third party appraisals of certain of Sunburst's
leasehold interests, which were provided to or otherwise discussed with
Salomon Smith Barney by Sunburst's management;
. reviewed the financial terms of the recapitalization as described in the
Recapitalization Agreement in relation to, among other things, current
and historical market prices and trading volumes of Sunburst
15
common stock, the historical and projected earnings and other operating
data of Sunburst, and the financial condition and capitalization of
Sunburst;
. analyzed financial, stock market and other publicly available
information relating to the businesses of other companies whose
operations Salomon Smith Barney considered relevant in evaluating those
of Sunburst; and
. conducted other analyses and examinations and considered other
financial, economic and market criteria as Salomon Smith Barney deemed
appropriate in arriving at its opinion.
In rendering its opinion, Salomon Smith Barney assumed and relied, without
independent verification, on the accuracy and completeness of all financial
and other information and data publicly available or furnished to or otherwise
reviewed by or discussed with Salomon Smith Barney. With respect to financial
forecasts and other information and data provided to or otherwise reviewed by
Salomon Smith Barney, including information relating to asset sales that
Sunburst's management expected to be completed prior to the consummation of
the recapitalization, Sunburst's management advised Salomon Smith Barney that
they were reasonably prepared on bases reflecting the best currently available
estimates and judgments of Sunburst's management as to the future financial
performance of Sunburst. With respect to third party appraisals provided to or
otherwise reviewed by or discussed with Salomon Smith Barney, Salomon Smith
Barney assumed, with Sunburst's consent, that the appraisals also were
prepared on bases reflecting the best currently available estimates and
judgments of the preparers of the appraisals as to the matters covered by the
appraisals. Salomon Smith Barney did not make or, with the exception of third
party appraisals provided by Sunburst's management, was not provided with an
independent evaluation or appraisal of the assets or liabilities, contingent
or otherwise, of Sunburst, and did not make any physical inspection of the
properties or assets of Sunburst.
In connection with its engagement, Salomon Smith Barney was not requested
to and did not solicit third party indications of interest in the possible
acquisition of all or a part of Sunburst. Salomon Smith Barney was advised by
representatives of Sunburst, however, and took into account for purposes of
its opinion that Sunburst had held discussions from time to time in the past
with third parties regarding a possible business combination or similar
transaction involving Sunburst. Salomon Smith Barney expressed no view as to,
and its opinion does not address, the relative merits of the recapitalization
as compared to any alternative business strategies that might exist for
Sunburst or the effect of any other transaction in which Sunburst might
engage. Salomon Smith Barney's opinion was necessarily based on information
available, and financial, stock market and other conditions and circumstances
existing and disclosed, to Salomon Smith Barney as of the date of its opinion.
Although Salomon Smith Barney evaluated the recapitalization consideration
from a financial point of view, Salomon Smith Barney was not asked to and did
not recommend the specific consideration payable in the recapitalization,
which was determined through negotiation between Sunburst and Nova. The
special committee imposed no other instructions or limitations on Salomon
Smith Barney with respect to the investigations made or procedures followed by
Salomon Smith Barney in rendering its opinion.
The full text of Salomon Smith Barney's written opinion dated September 20,
2000, which describes the assumptions made, matters considered and limitations
on the review undertaken, is attached to this proxy statement as Annex C and
is incorporated into this proxy statement by reference. Salomon Smith Barney's
opinion is addressed to the special committee and relates only to the fairness
of the recapitalization consideration from a financial point of view, does not
address any other aspect of the recapitalization or any related transaction
and does not constitute a recommendation to any stockholder with respect to
any matters relating to the proposed recapitalization.
In preparing its opinion, Salomon Smith Barney performed a variety of
financial and comparative analyses, including those described below. The
summary of these analyses is not a complete description of the analyses
underlying Salomon Smith Barney's opinion. The preparation of a fairness
opinion is a complex analytical process involving various determinations as to
the most appropriate and relevant methods of financial analysis and the
application of those methods to the particular circumstances and, therefore, a
fairness opinion is not readily susceptible to summary description. Salomon
Smith Barney's opinion was not based on any
16
single factor or analysis, nor did Salomon Smith Barney attribute particular
weight to individual factors or analyses. Rather, Salomon Smith Barney believed
that the totality of the factors considered and analyses performed by Salomon
Smith Barney in connection with its opinion operated collectively to support
its determination as to the fairness of the recapitalization consideration from
a financial point of view. Accordingly, Salomon Smith Barney believes that its
analyses must be considered as a whole and that selecting portions of its
analyses and factors, without considering all analyses and factors, could
create a misleading or incomplete view of the processes underlying its analyses
and opinion.
In its analyses, Salomon Smith Barney considered industry performance,
general business, economic, market and financial conditions and other matters
existing as of the date of its opinion, many of which are beyond the control of
Sunburst. No company, transaction or business used in those analyses as a
comparison is identical to Sunburst or the proposed transaction, and an
evaluation of those analyses is not entirely mathematical. Rather, the analyses
involve complex considerations and judgments concerning financial and operating
characteristics and other factors that could affect the acquisition, public
trading or other values of the companies, business segments or transactions
analyzed.
The estimates contained in Salomon Smith Barney's analyses and the valuation
ranges resulting from any particular analysis are not necessarily indicative of
actual values or predictive of future results or values, which may be
significantly more or less favorable than those suggested by its analyses. In
addition, analyses relating to the value of businesses or securities do not
necessarily purport to be appraisals or to reflect the prices at which
businesses or securities actually may be sold. Accordingly, Salomon Smith
Barney's analyses and estimates are inherently subject to substantial
uncertainty.
A copy of Salomon Smith Barney's written presentation to the special
committee has been filed as an exhibit to the Rule 13e-3 transaction statement
on Schedule 13E-3, filed by Sunburst with the Securities and Exchange
Commission, and will be available for inspection and copying at Sunburst's
principal executive offices during regular business hours by any interested
stockholder of Sunburst or any representative of such stockholder who has been
so designated in writing and also may be inspected and copied at the office of,
and obtained by mail from, the Securities and Exchange Commission.
Salomon Smith Barney's opinion and analyses were only one of many factors
considered by the special committee in its evaluation of the recapitalization
and should not be viewed as determinative of the views of the Sunburst board,
special committee or management with respect to the recapitalization
consideration or the proposed recapitalization. See "--Reasons for the
Recapitalization." It should be understood that Salomon Smith Barney's opinion,
dated September 20, 2000, to the special committee speaks as of that date. The
special committee currently does not intend to request an updated opinion from
Salomon Smith Barney and Salomon Smith Barney does not have any obligation to
update, revise or reaffirm its opinion, including at the time of the special
meeting of the stockholders. If, however, a material amendment to the
Recapitalization Agreement is entered into which modifies the recapitalization
consideration, the special committee may at that time seek an updated opinion
from Salomon Smith Barney. In making this determination, the special committee
would consult with its legal and financial advisors and take into account,
consistent with its fiduciary duties, all relevant factors and circumstances
existing at the time, including general market, economic and business
conditions.
The following is a summary of the material financial analyses performed by
Salomon Smith Barney in connection with the rendering of its opinion dated
September 20, 2000 to the special committee:
Selected Companies Analysis
Using publicly available information, Salomon Smith Barney analyzed the
market values and trading multiples of the following seven selected publicly
traded companies in the hotel industry:
. Prime Hospitality Corp.
. AmeriHost Properties, Inc.
17
. Lodgian, Inc.
. Suburban Lodges of America, Inc.
. Extended Stay America, Inc.
. Equity Inns Inc.
. Winston Hotels, Inc.
All multiples were based on closing stock prices on September 18, 2000.
Estimated financial data for the selected companies were based on public
filings and research analysts' estimates and estimated financial data for
Sunburst were based on internal estimates of Sunburst's management. Salomon
Smith Barney compared enterprise values, calculated as equity market value,
plus debt, less cash, of Sunburst and the selected companies as a multiple of
calendar year 2000 estimated earnings before interest, taxes, depreciation and
amortization, commonly referred to as EBITDA. Salomon Smith Barney applied a
range of selected multiples derived from the selected companies of calendar
year 2000 estimated EBITDA to corresponding financial data for Sunburst's
hotels in order to derive an implied enterprise reference range for Sunburst.
An implied equity reference range for Sunburst was then derived by subtracting
Sunburst's net debt as of June 30, 2000, as adjusted for the sale of assets
sold by Sunburst between June 30, 2000 and September 18, 2000. This analysis
resulted in an implied equity reference range for Sunburst of approximately
$6.24 to $9.64 per share, as compared to the recapitalization consideration of
$7.375 per share.
Net Asset Valuation Analysis
Salomon Smith Barney performed a net asset valuation analysis of Sunburst's
assets by adding the gross estimated value of Sunburst's assets and Sunburst's
estimated year-end 2000 net working capital balance and subtracting Sunburst's
estimated year-end 2000 outstanding net debt and estimated transaction costs.
The gross estimated value of Sunburst's assets was estimated by capitalizing
Sunburst's calendar year 2000 estimated cash flow of its hotels (excluding two
hotels under lease and three hotels expected to be sold between September 18,
2000 and December 31, 2000) utilizing capitalization rates of 11.79% to 13.71%
and incorporating an estimated value for two of Sunburst's leasehold interests
and the estimated value of three parcels of land owned by Sunburst. Estimated
financial data for Sunburst were based on internal estimates of Sunburst's
management. For the estimated value of Sunburst's leasehold interests in two
properties, Salomon Smith Barney used values set forth in drafts of third party
appraisals of Sunburst's leasehold interests prepared for the owners of the
properties which Sunburst had obtained and provided to Salomon Smith Barney.
This analysis resulted in an implied equity reference range for Sunburst of
approximately $7.05 to $10.32 per share, as compared to the recapitalization
consideration of $7.375 per share.
Discounted Cash Flow Analysis
Salomon Smith Barney performed a discounted cash flow analysis of Sunburst
to estimate the present value of the stand-alone, unlevered, after-tax free
cash flows that Sunburst could generate for fiscal years 2001 through 2005. The
range of estimated 2005 terminal values for Sunburst was calculated by adding
the calendar year 2005 estimated value for two of Sunburst's leasehold
interests to the range of values resulting from applying terminal value
multiples of 5.7x to 6.6x to the calendar year 2005 estimated EBITDA of
Sunburst's hotels (excluding two hotels under lease and three hotels expected
to be sold between September 18, 2000 and December 31, 2000). The present value
of the cash flows and terminal values were calculated using discount rates
ranging from 12.0% to 14.0%. Salomon Smith Barney then subtracted Sunburst's
estimated net debt as of December 31, 2000 from the range of the present values
of the cash flows and terminal values and added the estimated value of three
parcels of land owned by Sunburst to derive an implied equity reference range
for Sunburst. Estimated financial data for Sunburst were based on internal
estimates of Sunburst's management. For the estimated value of Sunburst's
leasehold interests in two properties, Salomon Smith Barney used values set
forth in drafts of third party appraisals of Sunburst's leasehold interests
prepared for the owners of the properties which Sunburst had obtained and
provided to Salomon Smith Barney. This analysis resulted in an
18
implied equity reference range for Sunburst of approximately $6.42 to $9.86
per share, as compared to the recapitalization consideration of $7.375 per
share.
Liquidation Analysis
Salomon Smith Barney performed a liquidation analysis of Sunburst's assets
utilizing the net asset valuation analysis described above, after adjustment
for penalties associated with the prepayment of a portion of Sunburst's
indebtedness and estimated taxes associated with the liquidation of its
assets. Estimated financial data for Sunburst were based on internal estimates
of Sunburst's management. This analysis resulted in an implied equity
reference range for Sunburst of approximately $4.68 to $6.81 per share, as
compared to the recapitalization consideration of $7.375 per share.
Other Factors
In rendering its opinion, Salomon Smith Barney also reviewed and considered
other factors, including:
. historical trading prices for Sunburst common stock for the period
October 15, 1997 through September 18, 2000 and historical trading
volume for Sunburst common stock for the period September 18, 1999
through September 18, 2000;
. the relationship between movements in Sunburst common stock and
movements in the common stock of selected companies in the hotel
industry for the period October 15, 1997 through September 18, 2000; and
. current market conditions in the limited service hotel industry.
Miscellaneous
Under the terms of its engagement, Sunburst has agreed to pay Salomon Smith
Barney for its financial advisory services to the special committee an
aggregate fee of $1.9 million, of which a portion was payable upon delivery of
the opinion and the remainder is contingent upon completion of the
recapitalization. Sunburst also has agreed to reimburse Salomon Smith Barney
for reasonable travel and other expenses incurred by Salomon Smith Barney in
performing its services, including reasonable fees and expenses of its legal
counsel, and to indemnify Salomon Smith Barney and related persons against
liabilities, including liabilities under the federal securities laws, arising
out of its engagement.
In the ordinary course of business, Salomon Smith Barney and its affiliates
may actively trade or hold the securities of Sunburst for their own account or
for the account of customers and, accordingly, may at any time hold a long or
short position in those securities. Salomon Smith Barney has in the past
provided investment banking services to Sunburst unrelated to the proposed
recapitalization, for which services Salomon Smith Barney has received
compensation. During the past two years, Salomon Smith Barney has not received
any fees from Sunburst. In addition, Salomon Smith Barney and its affiliates,
including Citigroup, Inc. and its affiliates, may maintain relationships with
Sunburst, Nova and their respective affiliates.
Salomon Smith Barney is an internationally recognized investment banking
firm and was selected by the special committee based on its experience,
expertise and familiarity with Sunburst and its business. Salomon Smith Barney
regularly engages in the valuation of businesses and their securities in
connection with mergers and acquisitions, negotiated underwritings,
competitive bids, secondary distributions of listed and unlisted securities,
private placements and valuations for estate, corporate and other purposes.
Financial Projections
Sunburst does not as a matter of course make public forecasts as to future
revenues, earnings or other financial information. Sunburst did, however,
prepare certain projections which it provided to Nova, the continuing
stockholders, the special committee and Salomon Smith Barney in connection
with the
19
recapitalization. The projections set forth below are included in this proxy
statement solely because such information was provided to Nova, the continuing
stockholders, the special committee and Salomon Smith Barney.
The projections set forth below were not prepared by Sunburst with a view to
public disclosure or compliance with published guidelines of the SEC or the
American Institute of Certified Public Accountants regarding prospective
financial information. In addition, the projections were not prepared with the
assistance of or reviewed, compiled or examined by, independent accountants.
The projections reflect numerous assumptions, all made by Sunburst's
management, with respect to industry performance, general business, economic,
market and financial conditions and other matters, all of which are difficult
to predict and many of which are beyond Sunburst's control. Accordingly, there
can be no assurance that the assumptions made in preparing the projections set
forth below will prove accurate, and actual results may be materially different
from those contained in the projections set forth below. See "Cautionary
Statement About Forward-Looking Statements" on page 1 of this proxy statement.
In light of the uncertainties inherent in forward-looking information of any
kind, Sunburst cautions against undue reliance on such information. Sunburst
does not intend to update or revise such projections to reflect circumstances
existing after the date they were prepared or to reflect the occurrence of
future events, unless required by law.
FISCAL YEARS ENDED DECEMBER 31,
--------------------------------------------------------
ITEM 2000 2001 2002 2003 2004 2005 2006 2007
---- ------ ------ ------ ------ ------ ------ ------ ------
(in millions)
Total Revenues........ $209.3 $207.6 $211.0 $214.3 $217.7 $221.2 $224.7 $228.3
Total Expenses........ 134.4 135.0 137.1 139.3 141.6 143.8 146.1 148.5
EBITDA................ 63.3 62.7 63.8 65.0 66.2 67.4 68.6 69.8
Net Income............ 2.7 (1.2) 1.0 2.4 4.2 6.4 9.1 11.4
In preparing the above seven-year financial projections, Sunburst made a
number of assumptions about its markets, their growth rates and other factors
that may affect the accuracy of these financial projections. These assumptions
included assumptions regarding growth in the number of hotel rooms owned by
Sunburst. Sunburst did not project growth in this measure for 2000, assumed an
aggregate growth rate of 3.0% for 2001 and assumed a growth rate of 1.5% for
the remaining five years. A growth rate of 0% was assumed for the hotels
Sunburst has identified as available for sale and a growth rate of 4.2% in 2001
declining to 2.0% in 2007 was assumed for the remaining hotels.
Sunburst also assumed various expenses, as a percentage of revenue. In
general, operating expenses were assumed to be 65.5% of the revenue for all
seven years. Corporate overhead was assumed to decline during this time period
due to the proposed recapitalization. Overhead was estimated at 5.5% of revenue
in 2000 and declined to 4.4% for 2007. Assumptions for capital expenditures, as
a percentage of revenues, remained fixed at 6%.
Sunburst also assumed fluctuating interest rates in determining the
financial projections. The interest rates at year end were assumed to be 10.31%
in 2000, 10.81% in 2001, 11.06% in 2002 and 11.31% for the remaining years.
Continuing Stockholders' Leveraged Buyout Analysis
In early August 2000, the continuing stockholders prepared the leveraged
buyout analysis that they provided to the special committee as discussed in
"Special Factors--Background of the Transaction." Based on the projections
described in "Special Factors--Financial Projections" above and other
projections and assumptions described in this section, the continuing
stockholders prepared a sources and uses table that specified the anticipated
cash sources and uses of funds in connection with the recapitalization. The
continuing stockholders prepared the sources and uses table to analyze the
feasibility of the recapitalization transaction.
20
The sources and uses table that the continuing stockholders prepared and
provided to the special committee is set forth below. This table was prepared
as of August 2000 and differs from the current estimation of sources and uses
set forth in "Special Factors--Financing of the Recapitalization--General"
because this table assumes a $190 million term loan compared to the currently
proposed term loan of $180 million, a subordinated note of $60 million compared
to the currently proposed $35 million subordinated note, a lower amount of
additional working capital and varying fees and items in this table have not
been disclosed on a net basis.
Sources (in millions)
------- ------------
Existing Cash Balances.. $ 0.0
New Revolving Credit.... 0.0
Term Loan............... 190.0
Asset Sale Bridge Loan.. 80.0
Put 3 Mainstays to
Choice................. 16.3
Choice Note............. 60.0
Options Proceeds........ 0.6
Management Rollover of
Equity................. 5.9
Bainum Rollover Equity.. 50.0
Common Equity........... 0.0
------
Total................... $402.7
======
Uses (in millions)
---- ------------
Choice Note............... $153.6
Additional Working
Capital.................. 2.1
Cashed Out Options........ 0.8
Management Rollover
Equity................... 5.9
Cashed Out Restricted
Shares................... 5.5
Revolving Credit
Facility*................ 6.6
Collateralized Mortgage
Pass-Through Certifi-
cates*................... 98.8
Transaction/Financing
Costs.................... 30.0
Bainum Rollover Equity.... 50.0
Purchase Common Stock Held
by Stockholders other
than Continuing
Stockholders at
$7.00/share.............. 49.4
------
Total..................... $402.7
======
* The Revolving Credit Facility and the Collateralized Mortgage Pass-Through
Certificates are the lending facilities currently in place but they are
expected to be replaced by credit facilities that The Chase Manhattan Bank will
arrange.
In addition to the income statement projections set forth above in "Special
Factors--Financial Projections," the continuing stockholders prepared seven-
year projections of Sunburst's balance sheet and cash flow statement and
financial ratios analyzing these projections. In preparing these projections,
the continuing stockholders made a number of assumptions in addition to the
assumptions and limitations discussed in "Special Factors--Financial
Projections" that may affect the accuracy of these financial projections. These
assumptions included assumptions about, among other things, Sunburst's future
levels of accounts receivable and other current assets as well as its future
levels of accounts payable, other current liabilities and deferred income
taxes, all of which items are difficult to predict and may be beyond Sunburst's
control. The continuing stockholders projected accounts receivable, other
current assets and deferred income taxes/current liabilities for 2000 of 5.4%,
3.2% and 2.6% as a percentage of revenues, respectively with an increase for
2001 through 2007 to 5.6%, 3.4% and 2.7% as a percentage of revenues,
respectively. Assumptions for accounts payable as a percentage of expenses were
17.4% for 2000, increasing to 17.9% for 2001 through 2007. In preparing the
cash flow projections, the continuing stockholders assumed capital expenditures
as a percentage of revenues of 6%. The continuing stockholders assumed a market
value of assets that had previously been sold and were held for sale in 2000 of
$23.2 million. The leveraged buyout analysis was prepared under the assumption
that Sunburst would not engage in asset sales, other than the $23.2 million of
asset sales in 2000 because, at that time, it had no other assets that had been
approved for sale. It should be noted, however, that Sunburst is currently
conducting asset sales which would cause the results of these analyses to
differ materially. See "Special Factors-- Plans for Sunburst After the
Recapitalization" and "Pro Forma Financial Information."
Sunburst has filed as an exhibit to its transaction statement on Schedule
13E-3 the continuing stockholders' leveraged buyout analysis that was provided
to the special committee. Upon request, Sunburst will furnish to any
stockholder without charge, a copy of these materials. Sunburst stockholders
are cautioned to review the entire leveraged buyout analysis because that
analysis is subject to the assumptions and limitations described therein
although the material assumptions and limitations have been described in this
section. The continuing stockholders and Sunburst do not intend to update or
revise the leveraged buyout
21
analysis to reflect circumstances existing after the date this analysis was
prepared. Also, stockholders are cautioned to consider the assumptions and
limitations set forth in "Special Factors--Financial Projections" above.
Appraisals
Properties Appraised
On September 22, 2000, The Chase Manhattan Bank retained CB Richard Ellis,
Inc. and HVS International to appraise 37 and 36 of Sunburst's hotel
properties, respectively. The properties were appraised for The Chase Manhattan
Bank in connection with the financing of the recapitalization. The special
committee and the Board of Directors did not consider these appraisals in
connection with their consideration of the recapitalization because the
appraisals were not completed until November 14, 2000 and October 30, 2000,
respectively, and they were prepared solely for The Chase Manhattan Bank's
review. However, CB Richard Ellis and HVS International have consented to
permit Sunburst to include information regarding the appraisals in this
document. Both CB Richard Ellis and HVS International are nationally recognized
property appraisers with experience in the area of hotel property appraisals.
CB Richard Ellis or HVS International prepared appraisal reports for each of
the hotel properties and concluded that the value of each of the 73 properties
appraised was as set forth below.
SUNBURST HOTEL PORTFOLIO VALUATION
Market
Name City State Value
- ---------------------------- --------------- ----- -----------
Clarion on the Lake Hot Springs AR $ 8,300,000
MainStay Suites Tempe AZ 4,500,000
Quality Hotel-Maingate Anaheim CA 7,740,000
Comfort Inn by the Bay San Francisco CA 10,600,000
MainStay Suites Jacksonville FL 5,150,000
Quality Hotel Southpoint Jacksonville FL 6,800,000
MainStay Suites Lake Mary FL 6,200,000
MainStay Suites Miami Springs FL 8,100,000
Holiday Inn Express Miami Springs FL 4,400,000
Sleep Inn--Miami Airport Miami Springs FL 6,500,000
Comfort Inn & Suites/Clarion Miami Springs FL 11,800,000
Comfort Inn Orlando FL 5,150,000
Comfort Inn West Palm Beach FL 6,600,000
Quality Inn Indianapolis IN 3,200,000
MainStay Suites Indianapolis IN 4,000,000
Sleep Inn Baton Rouge LA 1,700,000
Comfort Inn University Baton Rouge LA 5,750,000
MainStay Suites Annapolis MD 7,800,000
Clarion Hotel Baltimore MD 7,200,000
Comfort Inn NW Pikesville MD 4,450,000
Clarion Hotel Charlotte NC 3,000,000
Sleep Inn Charlotte NC 5,000,000
Comfort Inn Charlotte NC 3,175,000
Sleep Inn Raleigh NC 1,900,000
MainStay Suites Raleigh NC 3,000,000
Quality Suites Raleigh NC 4,500,000
MainStay Suites Secaucus NJ 17,000,000
22
SUNBURST HOTEL PORTFOLIO VALUATION
Market
Name City State Value
- ------------------ ----------------- ----- -----------
MainStay Fishkill NY $ 8,700,000
MainStay Suites Blue Ash OH 4,750,000
Clarion Hotel Worthington OH 6,300,000
MainStay Suites Malvern PA 6,200,000
Comfort Inn Hilton Head SC 5,300,000
MainStay Suites North Charleston SC 5,460,000
Sleep Inn Arlington TX 3,850,000
Sleep Inn Houston TX 3,100,000
Sleep Inn Round Rock TX 3,900,000
Sleep Inn San Antonio TX 2,100,000
MainStay Suites Greenwood Village CO 4,700,000
MainStay Suites Louisville KY 5,100,000
MainStay Suites Kansas City MO 2,300,000
MainStay Suites Plano TX 4,900,000
MainStay Suites Warwick RI 8,000,000
MainStay Suites Peabody MA 7,300,000
Sleep Inn Greenwood Village CO 2,400,000
Sleep Inn Aurora CO 2,400,000
Sleep Inn Plano TX 1,900,000
Sleep Inn Rockville MD 6,800,000
Quality Inn Salt Lake City UT 3,300,000
Quality Inn Richmond VA 6,900,000
Quality Inn Plymouth MI 6,700,000
Quality Inn & Sts. Hampton VA 7,400,000
Quality Hotel Arlington VA 38,000,000
Quality Hotel Los Angeles CA 10,800,000
Quality Suites Rockville MD 10,100,000
Quality Suites Deerfield Beach FL 4,700,000
Comfort Inn Albuquerque NM 5,000,000
Comfort Inn Hummelstown PA 10,200,000
Comfort Inn Miami Beach FL 10,400,000
Comfort Inn Deerfield Beach FL 3,300,000
Comfort Inn Danvers MA 11,000,000
Comfort Inn Portland ME 6,600,000
Comfort Inn St. Louis MO 2,700,000
Comfort Inn Brooklyn NY 14,000,000
Comfort Inn Canton OH 5,800,000
Comfort Inn Middleburg Hts. OH 5,800,000
Comfort Inn Vienna VA 26,400,000
Comfort Suites Haverhill MA 9,300,000
Comfort Suites Deerfield Beach FL 3,100,000
Clarion Hotel Springfield MO 4,700,000
Clarion Hotel Roanoke VA 4,900,000
Clarion Hotel Mobile AL 6,000,000
Clarion Hotel Virginia Beach VA 9,600,000
23
The appraisals were intended to comply with the reporting requirements set
forth under Standards Rule 2-2(b) of the Uniform Standards of Professional
Appraisal Practice for an Appraisal Report as well as the appraiser's
interpretation of Chase's guidelines and in compliance with the Financial
Institutions Reform, Recovery and Enforcement Act (FIRREA) of 1989, as amended.
Procedures Followed
In the process of preparing each appraisal, the appraisers:
. Inspected the building, site improvements, and market in which each
property is located.
. Interviewed representatives of ownership and/or the property management
company, where applicable.
. Reviewed operating history at each property, including occupancy levels
and average daily rates, as well as a detailed budget of income and
expense forecasts.
. Conducted market research to identify existing competitive properties
and proposed additions to the supply of hotel rooms in the marketplace.
. Analyzed demand for hotel rooms and estimated future demand growth
trends by market segments to derive potential room night demand.
. Forecasted occupancy patterns based on market segmentation and
penetration analysis. A prospective stabilized level of occupancy was
projected for those properties not currently considered to be
stabilized.
. Forecasted average daily rates and subsequent increases based on
historic performance, changes in market supply and demand, and potential
property specific physical and marketing changes. A prospective
stabilized average daily rate was projected for those properties not
currently considered to be stabilized.
. Reviewed third party leases for tenants occupying portions of the
improvements, as well as ground leases.
. Identified recent sales of similar properties to ascertain sales price
per room, effective gross revenue multipliers and capitalization rates.
. Developed a value estimate of the property through direct sales
comparison.
. Based on occupancy and average daily rate projections, estimated
revenues from rooms as well as other associated departments (food and
beverage, telephone, other).
. Prepared a forecast of income and expenses in keeping with the Uniform
Systems of Accounts for Hotels in connection with an estimate of
stabilized net income for direct capitalization purposes, and/or
developed a discounted cash flow analysis over a 10-year holding period.
Revenue from third party leases and the expense attributed to ground
leases, if any, were considered in each property's projected cash flows.
. Converted the projected cash flows into an indicator of value utilizing
capitalization and discount rates derived from industry surveys,
comparable transactions and an analysis of debt and equity parameters.
. Reconciled the value indications from the Sales Comparison and Income
Approaches and concluded to a final value estimate for the property. An
allocation was subsequently made for furniture, fixtures and equipment
and real estate components.
. Estimated insurable value for each property.
24
Valuation Methodology
The valuation methodology considered all three of the following approaches
to value. The most appropriate methodology was matched to the specific interest
being appraised (i.e. fee simple, leased fee, leasehold). In each instance, the
property's highest and best use was determined and formed the basis for
valuation. The value of any excess land and/or excess development potential was
taken into account in the final value conclusion.
The Cost Approach was not utilized in the CB Richard Ellis appraisals. In
the HVS International appraisals only replacement cost was estimated for each
appraisal. While some of the properties were recently constructed, it was
determined that the Cost Approach was not a reliable indicator of market value
because of the inherent entrepreneurial and business enterprise value in
hotels. Investors and sellers base their purchase decisions primarily on the
value of the cash flows of the property. Elements of the Cost Approach were
used in deriving Insurable Value for each property.
The Sales Comparison Approach was used to estimate the value of each
property based upon recent comparable sales. A national database of
transactions was supplemented with local and regional sales of comparable
properties. Sale prices per room or unit were analyzed and an appropriate unit
rate selected for application to the subject. In the CB Richard Ellis
appraisal, an overall capitalization rate was extracted from these sales for
use in the Income Approach, where available. In the HVS International appraisal
an overall capitalization rate, Rev PAR, occupancy levels, and average rate
levels were considered for a check against the conclusion of the Income
Approach.
The Income Approach is a method of converting the anticipated economic
benefits of owning property into a value estimate through capitalization. The
most common methods of converting net income into value are direct
capitalization and discounted cash flow analysis. The application of the
appropriate Income Approach technique is determined based upon the specific
appraisal situation. In the CB Richard Ellis appraisal, a combination of direct
capitalization and discounted cash flow analysis was utilized in the valuation
of the individual properties in the portfolio. In the HVS International
appraisal, a discounted cash flow analysis was prepared for each property in
the portfolio.
Historical operations at each property were reviewed along with a market
segmentation analysis to derive projected occupancy and average daily rates
over the projected holding period. This included consideration of existing
competitors in the market, as well as anticipated new construction. Expenses
were projected based upon operating histories as well as industry standards,
with consideration given to existing franchise agreements, reserves for
replacement, and management fees. The project income stream was either
capitalized into an indicator of value using a direct capitalization
methodology or the use of a discounted cash flow analysis. In those instances
where the property was not considered to be stabilized, both a current market
value and a prospective stabilized value were estimated.
During the past two years, neither CB Richard Ellis nor HVS International
have received any fees from Sunburst.
The summary appraisals set forth the results of the individual appraisals
for each of the 73 properties appraised, and the summary appraisals identify
the assumptions and limiting conditions to the appraisals. Sunburst has filed
the summary appraisal reports as exhibits to its transaction statement on
Schedule 13E-3. Upon request Sunburst will furnish to any stockholder, without
charge, a copy of the summary appraisal reports. In this regard, stockholders
are cautioned to refer to the entire summary appraisal report, inasmuch as the
opinions of value stated therein are subject to the assumptions and limiting
conditions stated therein. Furthermore, stockholders should be aware that
appraised values are opinions and, as such, may not represent the realizable
value of the properties.
25
Alternatives to the Recapitalization
Since early 1998, Sunburst has pursued a number of alternatives to the
recapitalization transaction. As described in "--Background of the
Transaction," above, the alternatives included:
. raising additional equity capital in the public or private markets;
. refinancing of Sunburst's outstanding indebtedness;
. strategic relationships with other participants in the hotel
development, ownership and management business; and
. acquisitions by unrelated third parties of all or substantial portions
of Sunburst's business.
None of the transactions pursued by Sunburst during this period resulted in
an offer that would have resulted in as much consideration to the stockholders
of Sunburst as the proposed recapitalization. In addition, during this period,
Sunburst has disposed of approximately 22 hotels and used the proceeds to
reduce its indebtedness. The special committee determined that the certainty to
Sunburst stockholders of receiving cash at the present time, representing a
substantial premium to the trading price of Sunburst's common stock, offered a
better alternative to stockholders than the risks and uncertainties presented
by refinancing.
Approximately $139.7 million, plus interest from December 4, 2000, of
Sunburst's outstanding subordinated indebtedness is due in October 2002. The
upcoming maturity of this amount of subordinated debt prevents Sunburst from
incurring the additional obligations that would be necessary to expand its
operations and requires Sunburst to develop a plan for retiring or refinancing
this debt within the next 24 months.
Sunburst has, from time to time during the last 18 months, evaluated the
feasibility of a new offering of subordinated debt with longer maturities in
order to refinance the existing subordinated debt. In general, market
conditions for non-investment grade debt issued by hotel real estate companies
have been quite unfavorable and Sunburst concluded that waiting for a better
refinancing environment was a more prudent and appropriate course of action.
During the last several years only one high yield debt issuance was completed
(in 1999) at an interest rate of 12.25%, which is in excess of the 11% that
Sunburst is paying under the current subordinated note.
Since the spring of 1998, management spoke to three different investment
bankers from time to time, concluding that there was no opportunity to
refinance the subordinated debt with new subordinated debt with a maturity of
at least 10 years and an interest rate (either pay-in-kind or cash) less than
the 11% being paid to Choice. Furthermore, the terms of the existing senior
bank debt precluded serious consideration of alternative forms of financing,
such as sale/lease-back transactions. Management hoped that a resurgence of the
high-yield market would enable Sunburst to refinance the note with long-term
subordinated debt at an interest rate less than 11%. Sunburst considered
refinancing without undergoing the recapitalization but the special committee
determined that accepting the price ultimately offered by the continuing
stockholders was preferable to completing a refinancing without the
recapitalization.
The financing arranged by and for the benefit of the continuing stockholders
could have also been arranged on substantially the same terms for Sunburst.
However, reduction of overhead costs, especially those relating to public
company costs, by the continuing stockholders results in greater debt capacity
than could have been obtained without the transaction. Furthermore, the
financing arranged by the continuing stockholders requires that virtually all
growth and development activity be curtailed until the absolute level of debt
leverage is significantly reduced. Management believed that the typical debt
covenants would significantly limit near term growth options through
acquisition or development and may have resulted in an even further decline in
the market value of Sunburst's publicly traded stock and therefore did not seek
to pursue such a refinancing in the absence of the transaction.
Another alternative that Sunburst considered was to sell sufficient assets
to repay its indebtedness between now and October 2002. Sunburst rejected this
alternative because it believed that this would reduce the company to a size
that would not attract analyst coverage and thus reduce Sunburst's market
value.
26
Any alternative that involves substantial sales of assets would also cause
Sunburst to lose its experienced and skilled hotel management staff if their
hotels were placed for sale, which could have a negative effect on sales price
and overall financial performance. Also, headquarters management and management
at the hotels that were not for sale might seek employment elsewhere as
Sunburst reduced its size and as the potential grew that additional hotels
might be listed for sale. Furthermore, Sunburst also believed that forced sales
over this time frame would cause it to sell its assets for unacceptably low
prices.
Nova's and the Continuing Stockholders' Purpose and Reasons for the
Recapitalization
Nova's and the continuing stockholders' purpose of the merger is to effect a
leveraged recapitalization of Sunburst in which the continuing stockholders
will acquire all of Sunburst's common stock, will control Sunburst and will
provide holders of Sunburst common stock a significant premium over the market
price at which the shares traded before the announcement of the
recapitalization.
Nova's and the Continuing Stockholders' Belief as to the Fairness of the
Recapitalization
The rules of the SEC require Nova and the continuing stockholders to express
their belief as to the fairness of the recapitalization to Sunburst
stockholders (other than the continuing stockholders and their affiliates).
Nova and the continuing stockholders did not at any time prior to the execution
of the Recapitalization Agreement evaluate the fairness of the recapitalization
or the recapitalization consideration to Sunburst's public stockholders,
however, representatives of the continuing stockholders negotiated the
recapitalization with Sunburst's management, Board of Directors and special
committee with directly opposing interests to the interests of Nova and the
continuing stockholders. Nova and the continuing stockholders believe that the
recapitalization is substantively and procedurally fair to Sunburst's
stockholders (other than the continuing stockholders and their affiliates) on
the basis of the factors described below. In reaching this conclusion, Nova and
the continuing stockholders considered a number of factors that weighed both in
favor of and against the transaction.
Each of Nova and the continuing stockholders believes that the transaction
is substantively and procedurally fair to Sunburst's stockholders (other than
the continuing stockholders and their affiliates) on the basis of its
observations that:
. The $7.375 per share in cash consideration being offered in the
recapitalization represented approximately 31% premium over the per
share closing price of Sunburst common stock on September 19, 2000, the
last full trading day prior to the public announcement of the
recapitalization. Sunburst's common stock had not traded at that level
over the past two years; the recapitalization consideration was higher
than any price paid by the continuing stockholders during the preceding
two years (see page 66) and the recapitalization consideration
represented a 49% premium over the prior six months' average trading
price. Nova and the continuing stockholders considered the premium over
prevailing market prices as a factor weighing in favor of the
transaction.
. The current and prospective environment in which Sunburst operates, and
in particular the competitive factors affecting the market for
Sunburst's hotels and the current depressed market for small cap stocks.
Nova and the continuing stockholders considered that this environment
may improve in the future and that Sunburst's public stockholders would
not be able to participate in the growth associated with such an
improved environment. Nova and the continuing stockholders considered
the potential for an improved market as a factor weighing against the
transaction.
. A special committee of independent directors was established. The
special committee retained its own legal and financial advisors and
conducted a vigorous process of evaluation and negotiation. Nova and the
continuing stockholders considered the establishment of a special
committee as a factor weighing in favor of the transaction.
27
. The special committee unanimously recommended to the Board of Directors
that the recapitalization and Recapitalization Agreement be approved and
adopted. Both the special committee and the Board of Directors of
Sunburst determined that the Recapitalization Agreement and
recapitalization are advisable and in the best interests of Sunburst's
public stockholders and that the recapitalization consideration is fair
to Sunburst's stockholders. Nova and the continuing stockholders
considered this recommendation as a factor weighing in favor of the
transaction.
. Salomon Smith Barney, the financial advisor to the special committee,
delivered an opinion dated September 20, 2000 to the special committee,
as to the fairness from a financial point of view and as of the date of
such opinion, of the recapitalization consideration to the holders of
Sunburst common stock (other than Nova, the continuing stockholders and
their respective affiliates). Although Nova and the continuing
stockholders are not entitled to rely on Salomon Smith Barney's opinion,
Nova and the continuing stockholders considered the delivery of this
opinion to the special committee as a factor weighing in favor of the
transaction. Nova and the continuing stockholders did not discount the
value of Salomon Smith Barney's opinion to the special committee in
light of the fact that a portion of the fee that Salomon Smith Barney
will receive for its services in connection with the recapitalization is
not due unless the transaction closes.
. The Recapitalization Agreement requires approval and adoption of the
recapitalization by the vote of the holders of at least a majority of
Sunburst's stock entitled to vote, including at least a majority of
Sunburst's common stock not held by the continuing stockholders. Nova
and the continuing stockholders considered this requirement as a factor
weighing in favor of the transaction.
This belief, however, should not be construed as a recommendation to any
stockholder as to how you should vote on the recapitalization. Neither Nova nor
the continuing stockholders considered any factors, other than as stated above,
regarding the fairness of the recapitalization to Sunburst's public
stockholders, as they believe the factors they considered provided a reasonable
basis to form their belief. Specifically, neither Nova nor the continuing
stockholders independently considered with respect to such fairness:
. net book value, going concern value or liquidation value of Sunburst; or
. firm offers for any merger or acquisition of Sunburst made by any
unaffiliated person.
Nova and the continuing stockholders have no reason to disagree with the
special committee's consideration of these factors, if any, or conclusions
regarding some of these factors and, as a result, Nova and the continuing
stockholders adopt the special committee's analyses and conclusions with
respect to each of the factors listed in the immediately preceding paragraph.
Certain Effects of the Recapitalization
After the effective time of the recapitalization, current Sunburst
stockholders, other than the continuing stockholders, will cease to have
ownership interests in Sunburst or rights as Sunburst stockholders. Therefore,
the current stockholders of Sunburst, other than the continuing stockholders,
will not participate in any future earnings or losses or the growth or decline
of Sunburst. Upon completion of the recapitalization, the continuing
stockholders will own all of the equity of Sunburst and Sunburst will pay all
of the fees and expenses of the recapitalization and related transactions. The
continuing stockholders will be the sole beneficiaries of the future earnings
and growth of Sunburst, if any. However, the continuing stockholders' equity
investment in Sunburst involves substantial risk resulting from the limited
liquidity of the investment, the high debt to equity ratio and consequential
substantial fixed charges that will apply to Sunburst following the
recapitalization.
As a result of the recapitalization, Sunburst will be a privately-held
corporation and there will be no public market for its common stock. After the
recapitalization, the common stock will cease to be traded on The New York
Stock Exchange and price quotations with respect to sales of shares of common
stock in the public market will no longer be available. In addition,
registration of the common stock under the Exchange Act will be
28
terminated. Assuming no other securities of Sunburst become subject to
registration under the Exchange Act, this termination will make the provisions
of the Exchange Act, including the periodic reporting requirements, the short-
swing profit recovery provisions of Section 16(b), the going private disclosure
rules and the requirement of furnishing a proxy or information statement in
connection with stockholders meetings, no longer applicable to Sunburst. After
the effective time of the recapitalization, Sunburst will no longer be required
to file periodic reports with the Commission.
It is expected that following completion of the recapitalization, the
operations of Sunburst will be conducted substantially as they are currently
being conducted. Except as described under "--Plans for Sunburst After the
Recapitalization," neither Sunburst nor any of the continuing stockholders has
any present plans or proposals that relate to or would result in an
extraordinary corporate transaction involving Sunburst's corporate structure,
business or management, such as a recapitalization, reorganization,
liquidation, relocation of any operations, or sale or transfer of a material
amount of assets. However, Sunburst and the continuing stockholders will
continue to evaluate Sunburst's business and operations after the
recapitalization, and may develop new plans and proposals that Sunburst or the
continuing stockholders consider to be in the best interests of Sunburst and
its stockholders.
Plans for Sunburst After the Recapitalization
Upon completion of the recapitalization, Sunburst will be capitalized with a
significant level of debt and will by the terms of that debt be required to,
over a short period of time, reduce the level of debt. Management anticipates
continuing Sunburst's asset disposition program, whereby hotels not meeting
Sunburst's criteria for long-term retention are sold and the proceeds are used
to reduce debt.
At the effective time of the recapitalization, Stewart Bainum, Jr., James A.
MacCutcheon, Barbara Bainum and up to two additional persons are expected to be
the directors of Sunburst. The current officers of Sunburst (other than Donald
Landry, Sunburst's Co-Chief Executive Officer, and Douglas Verner, Sunburst's
General Counsel) will remain the officers of Sunburst. At the effective time of
the recapitalization, Sunburst's certificate of incorporation and by-laws will
be amended with terms appropriate for a private corporation.
Management is currently seeking to sell eighteen hotels with an aggregate of
2,450 rooms and an aggregate book value of $83.4 million. The proceeds from the
sale of these eighteen hotels will be used to reduce outstanding indebtedness.
In the next 24 months, management anticipates listing approximately five
additional hotels for sale. The terms of the recapitalization financing will
require that asset sale proceeds of a least $80 million be utilized to reduce
debt within two years from the date of closing the recapitalization. Therefore
it is anticipated that all net proceeds from hotel sales will be used to repay
the $80 million term loan. See "Financing of the Recapitalization."
Sunburst has not paid dividends or made distributions to its stockholders
other than a 1997 special distribution of the common stock of Choice Hotels
Franchising, Inc. (now known as Choice Hotels International, Inc.). After the
recapitalization, the Board of Directors will evaluate whether to make
dividends or other distributions on the basis of, among other things, available
cash, alternative uses of cash, restrictions in financing agreements and the
need to preserve cash for future debt service payments, and the tax status of
the corporation and its shareholders. After the recapitlization, Sunburst may
elect to become a Subchapter S corporation, which could result in stockholders
being attributed income of Sunburst whether or not distributed. If this occurs,
it may increase the likelihood that the Board of Directors will decide to
declare a dividend or other distribution.
As the term of the recapitalization financing is, from two to seven years,
Sunburst anticipates attempting to subsequently refinance portions of that debt
with new, long-term mortgage financing secured by hotels. However, the terms of
the recapitalization financing prohibit longer term financing until Sunburst's
overall debt level is significantly reduced.
29
Conduct of the Business of Sunburst if the Recapitalization is Not Completed
In the event that this or a similar transaction does not close, the Board of
Directors will reevaluate Sunburst's strategic direction. Absent a significant
change in the capital markets, management believes that growth opportunities
will remain limited as Sunburst will remain capital constrained. Also
inhibiting Sunburst's hotel development opportunities is the continuing pace of
new development by Sunburst's competitors which limits the availability of (and
increases the cost of) appropriate sites and increases new room supply in many
markets in excess of new demand.
Strategically, Sunburst also would have to address its capital structure in
the near term. The approximately $139.7 million subordinated note, plus
interest, due to Choice Hotels in October 2002 will need to be refinanced
before any longer term debt can be arranged. An agreement to refinance the
Choice note has been reached contingent upon the recapitalization closing. If
the recapitalization does not close, management expects to commence new
negotiations with Choice to refinance some or all of the note in order to
extend overall debt maturities.
Until such time as the Board adopts a new or different long-term strategy,
Sunburst would continue to utilize cash generated from operating activities to
reduce total debt. In addition, Sunburst's management anticipates continuing
the asset disposition program whereby assets not meeting Sunburst's criteria
for long-term retention are sold and the proceeds are utilized to repay debt.
As this program results in some contraction in Sunburst's size and scale,
management anticipates that continuing to look for opportunities to reduce
fixed costs, inclusive of corporate overhead, would remain a priority.
Finally, while not specifically contemplated by the Board, Sunburst may also
utilize some portion of the cash generated from operating activities and the
asset disposition program to repurchase shares in the open market.
Conflicts of Interest of Certain Persons in the Recapitalization
In considering the recommendations of Sunburst's special committee and the
Board of Directors with respect to the Recapitalization Agreement, Sunburst
stockholders should be aware that certain directors and members of management
of Sunburst have interests in the recapitalization that are different from, or
in addition to, their interests as Sunburst stockholders generally. These
interests include the fact that the continuing stockholders--who will together
own 100% of Sunburst following the recapitalization--include Mr. Bainum and
entities he owns or controls and Mr. MacCutcheon, and the other interests
described below. Sunburst's special committee and the Board of Directors were
aware of these interests and considered them, among other matters, in approving
the recapitalization.
Summary
The following tables summarize the monetary value that will be available to
directors and executive officers of Sunburst if the recapitalization does or
does not occur. The value of options and restricted stock is based on the
market price of Sunburst on November 6, 2000 of $6.8125 per share assuming the
recapitalization does not occur, and on the $7.375 to be paid per share in the
transaction assuming the recapitalization does occur.
Interest in Sunburst assuming the recapitalization does not occur:
Restricted
Individual Salary Option Value Stock Value
- ---------- ----------- ------------- -------------
Stewart Bainum, Jr..................... $ 60,000.00 $ 234,463.31 $ 123,544.69
James A. MacCutcheon................... 350,000.00 382,968.78 2,052,279.00
Donald J. Landry....................... 450,000.00* 1,237,994.21 3,532,989.75
Kevin P. Hanley........................ 210,000.00 0 1,082,472.19
Pamela M. Williams..................... 149,000.00 0 325,875.94
- --------
* Receives compensation under Employment Agreement through 4/30/03.
30
Interest in Sunburst assuming the recapitalization does occur:
Value of
Grants
Restricted Received Upon
Individual Salary Option Value Stock Value Closing
- ---------- ----------- ------------- ------------- -------------
Stewart Bainum, Jr.... $ 60,000.00 $ 279,639.73 $ 133,745.63 $ 0
James A. MacCutcheon.. 350,000.00 442,736.10 2,221,733.50 2,379,160.00**
Donald J. Landry...... 450,000.00 1,471,511.02 3,824,704.50 0
Kevin P. Hanley....... 210,000.00 0 1,171,850.63 1,182,500.13***
Pamela M. Williams.... 149,000.00 0 352,783.13 571,002.00***
- --------
** The new equity incentives will vest:
(1)25% upon the closing of the recapitalization;
(2)37 1/2% upon the earlier of three years or completion of asset
disposition program;
(3)37 1/2% over three years; and
(4)100% upon a change of control as defined in the current Sunburst long
term incentive plan.
*** The new equity incentives will vest:
(1)25% upon the closing of the recapitalization;
(2)37 1/2% upon the earlier of five years or completion of asset disposition
program;
(3)37 1/2% over five years; and
(4)100% upon a change of control as defined in the current Sunburst long
term incentive plan.
Employment and Related Agreements
As part of the recapitalization, Sunburst will enter into employment
agreements with the following continuing stockholders substantially on the
terms set forth below. As noted below, the continuing stockholders who are
executive officers of Sunburst will be permitted to sell up to 50% of their
existing vested and unvested equity incentives at a price of $7.375 per shares
(less the exercise price, in the case of options sold) immediately after the
closing of the recapitalization. The following table sets forth the number of
shares and the aggregate proceeds available to each person.
Number
of Aggregate
Individual Shares Proceeds
- ---------- ------- -------------
James A. MacCutcheon...................................... 150,626 $1,110,866.75
Kevin P. Hanley........................................... 79,448 585,925.31
Pamela M. Williams........................................ 23,918 176,395.25
Prior to the recapitalization, Sunburst will enter into a new employment
agreement with James A. MacCutcheon pursuant to which, Mr. MacCutcheon will act
as Sunburst's President and Chief Executive Officer. The agreement will have a
term of three years and will provide for a base salary of $350,000 per annum,
subject to annual adjustments, and an annual bonus of up to 60% of his base
compensation, based upon Sunburst's performance. The agreement will also
provide for new equity incentives in the amount of 322,598 shares. The new
equity incentives will vest as follows:
. 25% upon the closing of the recapitalization;
. 37 1/2% upon the earlier of 3 years or completion of the asset
disposition program;
. 37 1/2% over 3 years; and
. 100% upon a change of control as defined in the current Sunburst long
term incentive plan.
Mr. MacCutcheon will, at his option, be permitted immediately after the
closing of the recapitalization to sell to Sunburst up to 50% of his existing
vested and unvested equity incentives, which total 303,986 shares, at a price
of $7.375 per share (less the exercise price, in the case of options sold).
Prior to the recapitalization, Sunburst will enter into an employment
agreement with Kevin P. Hanley pursuant to which Mr. Hanley will act as
Sunburst's Executive Vice President and Chief Operating Officer. The agreement
will have a term of 5 years and will provide for a base salary of $210,000 per
annum, subject to
31
annual adjustments, and an annual bonus of up to 50% of his base compensation
based on Sunburst's performance. The agreement will also provide for new equity
incentives in the amount of 160,339 shares. The new equity incentives will vest
as follows:
. 25% upon the closing of the recapitalization;
. 37 1/2% upon the earlier of 5 years or completion of the asset
disposition program;
. 37 1/2% over 5 years; and
. 100% upon a change of control as defined in the current Sunburst long
term incentive plan.
Mr. Hanley will, at his option, be permitted immediately after the closing
of the recapitalization to sell to Sunburst up to 50% of his existing vested
and unvested equity incentives, which total 160,339 shares, at a price of
$7.375 per share (less the exercise price, in the case of options).
Prior to the recapitalization, Sunburst will enter into an employment
agreement with Pamela M. Williams pursuant to which Ms. Williams will act as
Sunburst's Senior Vice President and General Counsel. The agreement will have a
term of 5 years and will provide for a base salary of $149,000 per annum,
subject to annual adjustments, and an annual bonus of up to 45% of her base
compensation based on Sunburst's performance. The agreement will also provide
for new equity incentives in the amount of 77,424 shares. The new equity
incentives will vest as follows:
. 25% upon the closing of the recapitalization;
. 37 1/2% upon the earlier of 5 years or completion of the asset
disposition program;
. 37 1/2% over 5 years; and
. 100% upon a change of control as defined in the current Sunburst long
term incentive plan.
Ms. Williams will, at her option, be permitted immediately after the closing
to cash out up to 50% of her existing vested and unvested equity incentives
which total 48,622 shares, at a price of $7.375 per share (less the exercise
price, in the case of options sold).
In connection with the execution of the recapitalization, Donald J. Landry
has entered into a new employment agreement which provides, among other things:
. that he has resigned as Chief Executive Officer;
. that he will continue as Co-Chief Executive Officer for 60 days or such
longer period at Sunburst's option, up to December 31, 2000;
. that all of his restricted stock and options will be cashed out in the
recapitalization at a price of $7.375 per share and the difference
between the option exercise price and $7.375, respectively;
. that he provide consulting services to Sunburst from January 1, 2001
through April 30, 2003;
. that he be paid a bi-weekly salary of $17,307 during the term of the
agreement;
. that he be paid a bonus of $270,000 on December 31, 2001 and December
31, 2002; and
. that he receive other customary fringe benefits including: reimbursement
for business expenses, an automobile allowance, club membership, health
and medical benefits, 401(k) and vacation benefits.
Common Stock
Sunburst and the continuing stockholders have agreed that the continuing
stockholders may, beginning 20 days after the mailing of this proxy statement,
purchase shares of Sunburst common stock in privately negotiated transactions.
32
Stock Options
Under the Recapitalization Agreement, each outstanding stock option held by
any person other than a continuing stockholder whether vested or not, will be
canceled and holders of options with an exercise price per share that is less
than the recapitalization consideration received by the stockholders will
receive an amount equal to the recapitalization consideration less the
applicable exercise price and any applicable withholding tax for each such
share. Any option, whether vested or not, with an exercise price that is equal
to or more than the recapitalization consideration will be canceled. Stock
options held by continuing stockholders will not be affected by the
recapitalization but will be subject to the provisions of the stockholders
agreement. See "Special Factors--Certain Arrangements with Continuing
Stockholders--Employment and Related Agreements." The number of options held by
each of the continuing stockholders as of the date of this proxy statement is
set forth in "The Recapitalization and Related Agreements--Exchange and Voting
Agreement--Exchange of Common Stock."
The following table sets forth the amounts directors of Sunburst will
receive as consideration for the cancellation of their previously awarded stock
options.
Consideration
Individual Received
- ---------- -------------
Paul A. Gould..................................................... $ 5,348.86
Leland C. Pillsbury............................................... 18,499.00
Keith B. Pitts.................................................... 4,594.00
Carole Y. Prest................................................... 8,248.80
Christine A. Shreve............................................... 4,594.00
Donald J. Landry.................................................. 1,237,994.21
Restricted Stock Awards
Under the Recapitalization Agreement, all existing restricted stock held by
any person other than a continuing stockholder or an individual who is not
offered continuing employment after the recapitalization will be canceled
immediately prior to the recapitalization and converted into the right to
receive an amount equal to the recapitalization consideration at $7.375 per
share in cash as follows:
. notwithstanding the existing restrictions on the restricted stock, the
restrictions on 50% of amounts received for restricted stock will lapse
on the first anniversary of the effective time of the recapitalization
and the restrictions on the remaining 50% will lapse on the second
anniversary of the effective time of the recapitalization; and
. amounts to be received in exchange for restricted stock will bear
interest from the effective time at the simple annual rate equal to the
rate for U.S. Treasury Notes with a one year maturity as of the
effective time. This rate will be reset on each monthly anniversary of
the effective time.
The 711,791 shares of restricted stock held by continuing stockholders will
be converted into shares of preferred stock and shall be subject to the
provisions of the stockholders agreement. See "Special Factors--Certain
Arrangements with Continuing Stockholders" for a description of plans to issue
additional options and restricted stock to continuing stockholders at the time
of the completion of the recapitalization.
33
Restricted stock held by individuals who are not offered continuing
employment after the recapitalization shall be accelerated and paid out upon
completion of the recapitalization as set forth in the table below. The
following table sets forth information for the directors and executive officers
of Sunburst.
Number
of Aggregate
Individual Shares Proceeds
- ---------- ------- -------------
Paul A. Gould............................................. 15,134 $ 111,613.25
Keith B. Pitts............................................ 15,572 114,843.50
Leland C. Pillsbury....................................... 11,865 87,504.38
Carole Y. Prest........................................... 17,322 127,749.75
Donald J. Landry.......................................... 518,605 3,824,711.88
Christine A. Shreve....................................... 17,507 129,114.13
Indemnification and Insurance
Under the Recapitalization Agreement, Nova has agreed to cause Sunburst and
its successors and assigns to:
. for a period of six years after the recapitalization, indemnify and hold
harmless present and former Directors and officers of Sunburst and its
subsidiaries for all acts or omissions occurring before the
recapitalization, including the transactions contemplated by the
Recapitalization Agreement, to the fullest extent permitted by law or
provided under Sunburst's certificate of incorporation or bylaws as of
the date of the Recapitalization Agreement; and
. provide, for a period of six years after the recapitalization, an
insurance and indemnification policy that grants Sunburst's officers and
Directors coverage no less favorable than Sunburst's policy in effect on
September 20, 2000; provided, however, that in no event will Sunburst's
annual premium payments for this coverage exceed 200% of the annual
premiums currently paid by Sunburst; and provided, further, that if the
annual premiums for this coverage exceed that amount, Sunburst will
provide a policy providing the best available coverage obtainable for
premiums not exceeding that amount.
Directors Fees for Special Committee Members
The members of the special committee received fees for their service on the
special committee equal to $1,600 for every four hours of meetings attended. As
of the date of this proxy statement, the three members of the special committee
had each received an aggregate of $4,800 in fees for their service in the
special committee.
Arrangements with Continuing Stockholders
Stockholders' Agreement
Under the Exchange and Voting Agreement, the continuing stockholders will
exchange each of their owned shares for shares of preferred stock which, as
part of the recapitalization, will be converted into common shares of the
surviving corporation. Pursuant to the Exchange and Voting Agreement, the
continuing stockholders will enter into a stockholders' agreement with respect
to the continuing stockholders' shares after the recapitalization. The
stockholders' agreement will provide restrictions on holders of Sunburst's
common stock largely related to Sunburst's qualifications as a subchapter S
corporation.
The stockholders agreement also will provide for bring-along rights for the
Bainum family if they decide to sell an amount of stock that represents at
least 50% of the voting power of Sunburst. In addition, stockholders will be
given customary tag-along and piggy-back registration rights with respect to
their shares. Stockholders also will have a right of first offer to purchase
their pro rata share of any additional equity securities sold by Sunburst,
except for shares sold by Sunburst:
34
. to management as part of a management compensation plan;
. in connection with any merger, acquisition or similar transaction with a
third party that is not an affiliate of the Bainum family; or
. as part of an initial public offering. Sunburst and the stockholders
will be given customary buy/sell and right of first refusal rights,
subject to certain limited exceptions.
Rights Agreement
On February 23, 1998, Sunburst approved and adopted a rights agreement under
which Sunburst distributed to holders of its common stock on April 3, 1998,
rights to purchase its series A junior participating preferred stock to ensure
that any strategic transaction undertaken by Sunburst will be one in which all
stockholders can receive fair and equal treatment, and to guard against partial
tender offers, open market accumulations and other abusive tactics that might
result in unfair treatment of stockholders. Sunburst distributed one right to
purchase the series A junior participating preferred stock for each outstanding
share of Sunburst common stock.
Effective September 20, 2000, Sunburst amended its rights agreement to
clarify that the rights are not exercisable as a result of the Recapitalization
Agreement or the recapitalization and agreed to cause the rights to expire
immediately prior to the consummation of the recapitalization.
Litigation
Following Sunburst's announcement on September 20, 2000 of the
recapitalization and merger, Sunburst, its directors, and some of its past and
present officers, were named as defendants in five purported stockholders class
action lawsuits filed in the Delaware Court of Chancery. The named plaintiffs
in these suits are: Robert Frost, Audrey Goldberg, Jerry Krim, J. B. McBride
and Filippo Teresi. These lawsuits have been consolidated.
The lawsuits allege, among other things, that the recapitalization
consideration of $7.375 per share contemplated by the Recapitalization
Agreement is inadequate, and that the individual defendants have breached their
fiduciary duties to the stockholders by approving the transaction. Among other
things, the complaints seek a court order enjoining the recapitalization and/or
damages.
The lead counsel for the plaintiffs and counsel for the defendants have
agreed in principle to a settlement of the litigation subject to entering into
definitive documentation and court approval. The settlement consideration is
additional disclosure contained in this proxy statement. This disclosure
includes seven-year financial projections, updated financial statements, a
statement regarding whether Salomon Smith Barney had received any fees from
Sunburst during the past two years, a description of the leveraged buyout model
prepared by the continuing stockholders and a description of the appraisals
prepared for The Chase Manhattan Bank by CB Richard Ellis, Inc. and HVS
International. If the settlement receives court approval any claims would be
released.
Accounting Treatment
The transaction is expected to be treated as a recapitalization for
accounting purposes, as Sunburst will not meet the requirements for a new
accounting basis as a result of the interests of the continuing stockholders. A
recapitalization is a transaction structured to transfer the controlling
interest of an operating entity to a new investor, with some owners also
retaining an ownership interest. A recapitalization results in no change in the
accounting basis of the assets or liabilities presented in the stand-alone
financial statements of the operating entity. The consideration paid for the
shares is accounted for as a reduction in equity.
35
Financing of the Recapitalization
General
We currently estimate that the cash funds required to consummate the
recapitalization, including to refinance Sunburst's indebtedness and pay fees
and expenses, will be approximately $260 million. These cash proceeds are
expected to be funded with borrowings under the senior secured credit
facilities provided to Sunburst by a group of financial institutions arranged
by The Chase Manhattan Bank. The following table sets forth the cash sources
and uses of funds in connection with the recapitalization assuming a December
31, 2000 closing.
Sources (in millions)
------- -------------
Term Loan............... $180.0
Asset Sale Bridge Loan.. 80.0
------
Total................... $260.0
======
Uses (in millions)
---- -------------
Cash payment on Choice
Note................... $ 96.0
Retirement of Existing
Debt................... 71.0
Recapitalization
Consideration.......... 60.2
Additional Working
Capital................ 6.3
Fees and Expenses....... 26.5
------
Total................... $260.0
======
In addition to the cash sources and uses described above, as partial
consideration for the refinancing of the Choice subordinated note, Sunburst
will issue to Choice a new senior subordinate discount note with an initial
accreted value of $60.0 million, will transfer a hotel property to Choice and
will enter into or amend certain agreements as described below under "--The
Choice Indebtedness." Sunburst has not arranged any alternative financing in
the event that it does not receive funding under the senior secured credit
facilities that are expected to be arranged by The Chase Manhattan Bank.
Senior Secured Credit Facilities
Term Loan Facilities and Revolving Facility. The Chase Manhattan Bank has
delivered a commitment letter, dated September 20, 2000, providing for senior
secured credit facilities to be made available to Sunburst, subject to the
terms and conditions set forth therein, by a syndicate of financial
institutions pursuant to a credit agreement to be entered into prior to the
consummation of the recapitalization. The Chase Manhattan Bank will act as
administrative agent and syndication agent in connection with the credit
facilities, and Chase Securities Inc. will act as advisor, lead arranger and
sole book manager.
The terms of the commitment letter provide for senior secured term loan
facilities in an aggregate principal amount of $260 million to be allocated
between two tranches of $180 million and $80 million, which facilities will be
used to finance the recapitalization, and a senior secured revolving credit
facility in an aggregate principal amount of up to $20 million (a portion of
which will be available in the form of letters of credit), which will be used
for working capital requirements.
Maturities; Amortization. The $180 million term loan facility and the
revolving facility will mature five years after the closing date, and the $80
million term loan facility will mature 24 months after the closing date. Each
tranche of the term loan facilities will amortize in nominal quarterly
installments, with payments based on available cash flow, subject to minimum
quarterly requirements. The revolving facility will be payable in full at
maturity.
Interest. The commitment letter provides that the term loan facilities and
the revolving facility will, in general, bear interest at a rate per annum
equal to, at the option of Sunburst, either the eurodollar rate (the London
interbank offered rate for eurodollar deposits as adjusted for statutory
reserve requirements) plus the applicable margin (as defined below), or the
alternate base rate, which is the higher of (a) The Chase Manhattan Bank's
prime rate or (b) the federal funds effective rate of 0.5%, plus the applicable
margin.
36
Prior to the repayment in full of the loans under the term loan facility,
the applicable margin for loans bearing interest based on the eurodollar rate
will be 3.50%, and the applicable margin for loans bearing interest based on
the alternate base rate will be 2.50%. Upon the repayment in full of the loans
under the $80 million term loan facility and provided that no event of default
has occurred and is continuing, the applicable margin will be subject to
reduction based on Sunburst's total leverage ratio.
Overdue principal will bear interest at the otherwise applicable interest
rate plus 2% per annum, and overdue interest and other amounts will bear
interest at the rate otherwise applicable to loans bearing interest at the
alternate base rate plus 2% per annum.
Fees. The commitment letter provides that a commitment fee on the undrawn
portion of the commitment of each lender (including The Chase Manhattan Bank)
under the revolving facility will begin to accrue on the closing date and will
be payable quarterly in arrears. The commitment fee will accrue at a rate of
0.50% per annum.
Mandatory Prepayment. The commitment letter provides that Sunburst will be
required to prepay the loans under the term loan facilities with (a) 100% of
the net proceeds of any indebtedness issued by Sunburst or any of its
subsidiaries, subject to certain exceptions to be agreed, and (b) 100% of the
net proceeds of any issuances of equity and excess cash flow, which percentage
will be subject, in each case, to reduction to 50% upon the repayment in full
of the $80 million term loan facility and the maintenance of a total leverage
ratio of 3.5 to 1.0 or less, and (c) 100% of the net proceeds of asset sales
(including proceeds of casualty and condemnation).
To the extent that the amount of any mandatory prepayment exceeds the
outstanding loans under the term loan facilities, the commitments under the
revolving facility will be reduced.
Voluntary Prepayment. The commitment letter provides that Sunburst may, at
its option, prepay the loans under the term loan facilities, in minimum
principal amounts to be agreed upon.
Security. Under the commitment letter, the facilities and the related
guarantees will be secured by a perfected first priority mortgage lien on or
security interest in all of Sunburst's tangible and intangible assets
(including, without limitation, real property, leases, rents and income
attributable to the real property, management agreements, franchise agreements,
licensing agreements and other licenses, permits and agreements relating to the
ownership and operation of the real property, intellectual property, and all of
the capital stock of each of its direct and indirect domestic subsidiaries).
Covenants. The commitment letter provides that the term loan facilities and
the revolving facility will contain affirmative covenants and negative
covenants customary for facilities of this type, including negative covenants
relating to, among other things, limitations on: indebtedness; liens; guarantee
obligations; mergers, consolidations, liquidations and dissolutions; sales of
assets; dividends and other payments in respect of capital stock; capital
expenditures; investments, loans and advances; optional payments and
modifications of subordinated and other debt instruments; transactions with
affiliates; sale and leasebacks; changes in fiscal year; negative pledge
clauses; amendments to the Recapitalization Agreement; and lines of business
limited to ownership and operation of hospitality properties in the United
States.
In addition, the term loan facilities and the revolving facility will
contain financial covenants relating to, among other things, minimum net worth,
minimum fixed charge coverage, minimum interest coverage, and maximum total and
senior leverage.
Events of Default. The commitment letter provides for events of default
under the term loan facilities and the revolving facility customary for
facilities of this type.
37
Conditions to Commitment. The Chase Manhattan Bank's commitment under the
commitment letter and Chase Securities, Inc.'s agreement to perform the
services described under the commitment letter are subject to:
. there not occurring or becoming known to them any material adverse
condition or material adverse change in or affecting the business,
operations, property, condition (financial or otherwise) or prospects of
Sunburst and its subsidiaries, taken as a whole;
. them not becoming aware after September 20, 2000 of any material
information or other material matter (including any matter relating to
financial models and underlying assumptions relating to the projections)
affecting the recapitalization or the parties to the recapitalization
that in their judgment is inconsistent in a material and adverse manner
with any such information or other matter disclosed to them before such
date;
. there not having occurred a material disruption of or material adverse
change in financial, banking or capital market conditions that, in their
judgment, could materially impair the syndication of the credit
activities;
. their satisfaction that before and during the syndication of the credit
facilities there shall be no competing offering, placement or
arrangement of any debt securities or bank financing by or on behalf of
Sunburst or any of its affiliates;
. the negotiation, execution and delivery on or before December 15, 2000
of definitive documentation with respect to the credit facilities
satisfactory to The Chase Manhattan Bank and its counsel; and
. the other customary conditions as set forth or referred to in the
related credit documents.
Side Letter with The Chase Manhattan Bank and Chase Securities Inc. On
September 20, 2000, Mr. Bainum entered into a side letter agreement with The
Chase Manhattan Bank and Chase Securities Inc. under which Mr. Bainum agreed to
assist Chase Securities Inc. in syndicating the credit facility and to pay the
fees described in the fee letter and the engagement letter if the closing of
the recapitalization does not occur.
Indemnification Letter with The Chase Manhattan Bank and Chase Securities
Inc. On September 20, 2000, Sunburst entered into a letter agreement with The
Chase Manhattan Bank and Chase Securities Inc. pursuant to which Sunburst
agreed, among other things, to indemnify The Chase Manhattan Bank, Chase
Securities Inc., their affiliates and respective officers, directors, employees
and agents against claims arising out of or in connection with the engagement
letter.
The Choice Agreements
In connection with the spin-off of Choice International from Sunburst in
1997, Sunburst became indebted to Choice pursuant to a subordinated term note
in the amount of $115 million, which is referred to as the Subordinated Note.
Including accrued interest through December 4, 2000, Sunburst is now indebted
to Choice for approximately $139.7 million pursuant to the Subordinated Note.
The recapitalization would constitute an event of default under the
Subordinated Note, and Sunburst and Choice have accordingly entered into an
agreement pursuant to which Sunburst will repay this indebtedness in part and
incur new indebtedness to Choice for the remaining amount. The terms of this
refinancing and the terms of the new indebtedness are set out in "Heads of
Agreement" and "Senior Subordinated Discount Note", respectively. The Heads of
Agreement includes additional provisions which are described in "Heads of
Agreement" below.
Heads of Agreement
Surrender of Subordinated Note; Issuance of Senior Subordinated Discount
Notes; Certain Cash Payments; and Hotel Conveyance. The Heads of Agreement
provides that, on the closing date, Choice shall surrender the Subordinated
Note to Sunburst, and Sunburst shall either:
. issue to Choice $60 million initial accreted value ($70.831 million
principal amount at maturity) of its 11.375% Senior Subordinated
Discount Notes maturing seven years after the closing date;
38
. pay to Choice $50 million in cash; or
. issue to Choice less than $60 million initial accreted value of Senior
Subordinated Discount Notes and pay to Choice an amount in cash equal to
the product of:
. $60 million less the initial accreted value of the Senior
Subordinated Discount Notes issued to be issued to Choice; and
. 0.8333.
If any Senior Subordinated Discount Notes are issued, on the closing date,
Sunburst will enter into an Indenture providing for the issuance of the Senior
Subordinated Discount Notes and a Registration Rights Agreement providing for
registration rights with respect thereto. The Senior Subordinated Discount
Notes and the Registration Rights Agreement are described below under "--Senior
Subordinated Discount Notes." As of the date of this proxy statement, Sunburst
expects that it will issue $60 million initial accreted value of the Senior
Subordinated Discount Notes to Choice. Additional information regarding the
terms of the Senior Subordinated Discount Notes is set forth under "Senior
Subordinated Discount Notes," below.
The Heads of Agreement also provides that Sunburst shall pay to Choice on
the closing date an amount in cash equal to $75,783,004 plus the amount of
accrued but unpaid interest on the principal balance of the Subordinated Note
from and including September 20, 2000 and through but excluding the closing
date. In addition, on the closing date, Sunburst shall convey to Choice the
hotel development site located in Mt. Laurel, New Jersey.
Amended and Restated Agreements. The Heads of Agreement provides that, on
the closing date, Sunburst and Choice will enter into an Amended and Restated
Strategic Alliance Agreement and an Amended and Restated Omnibus Amendment to
Franchising Agreements, the terms of which are described below under "Certain
Relationships and Related Transactions--Relationship with Choice."
Marketing and Rating of the Senior Subordinated Discount Notes. Pursuant to
the Heads of Agreement, Sunburst has agreed to use all commercially reasonable
efforts to, and to cause its affiliates and advisors to, take any and all
actions necessary in the reasonable judgment of Choice and its advisors in
order to enable Choice to sell the Senior Subordinated Discount Notes in one or
more sales under a shelf registration under the Securities Act of 1933 or one
private placement exempt from the registration requirements thereof (which may
take the form of a Rule 144A private placement with a subsequent registered
exchange offer) not inconsistent with the terms of the Registration Rights
Agreement, but which shall include all actions of an issuer of securities in an
offering under Rule 144A. In addition, Sunburst has agreed to use all
commercially reasonable best efforts to cause the Senior Subordinated Discount
Notes to be rated by Standard & Poor's and Moody's (or, if one of such rating
agencies shall not rate the Senior Subordinated Discount Notes, by Fitch as an
alternate rating agency) prior to the closing date. If the Senior Subordinated
Discount Notes shall not be rated by such two rating agencies on or prior to
the closing date, Sunburst has agreed to pay to Choice $900,000 as liquidated
damages. The Heads of Agreement provides that Sunburst's agreement to market
the Senior Subordinated Discount Notes, including obtaining a rating and any
due diligence that may be required by prospective investors, is subject to
reimbursement of Sunburst's time and expenses by Choice.
Representations and Warranties. As an inducement to enter into the Heads of
Agreement, Sunburst made representations and warranties to Choice regarding the
following matters:
. Sunburst's right, power and authority to convey the Mt. Laurel site;
. litigation, proceedings, investigations, claims, judgments, awards or
orders affecting the Mt. Laurel site;
. environmental matters affecting the Mt. Laurel site;
39
. delivery of the existing environmental survey and land survey with
respect to the Mt. Laurel site; and
. information regarding the transactions contemplated by the
Recapitalization Agreement.
Indemnification. Pursuant to the Heads of Agreement, Sunburst has agreed to
indemnify Choice and any of its affiliates from any damages which result from
any material breach of or inaccuracy in the representations, warranties and
covenants of Sunburst in the Heads of Agreement, or from injuries to persons or
property that occur or arise out of the Mt. Laurel hotel prior to the closing.
In addition, Choice has agreed to indemnify Sunburst and any of its affiliates
from any damages relating to the Mt. Laurel site resulting solely from facts or
circumstances occurring from and after the closing.
Conditions to Closing. The obligations of each of Sunburst and Choice to
consummate the closing under the Heads of Agreement are subject to the
following conditions:
. there being no injunction or court order restraining the transactions
contemplated by the Heads of Agreement, no pending or threatened action
or proceeding seeking to restrain or invalidate any of these
transactions and no law or regulation adopted making any of these
transactions illegal;
. there having been obtained all governmental approvals required in
connection with the transactions contemplated by the Heads of Agreement;
and
. all conditions to closing of the merger under the Recapitalization
Agreement shall have been satisfied.
Sunburst's obligation to consummate the closing under the Heads of Agreement
is also subject to the following additional conditions:
. Choice shall have delivered to Sunburst the Subordinated Note marked
"cancelled"; and
. Choice shall have executed the Amended and Restated Strategic Alliance
Agreement and the Amended and Restated Omnibus Amendment to Franchising
Agreements.
Choice's obligation to consummate the closing under the Heads of Agreement
is also subject to the following additional conditions:
. Sunburst shall have delivered to Choice free and clear title to the Mt.
Laurel site;
. Sunburst's covenants, representations and warranties shall have been
correct when made and on the closing date;
. the transactions contemplated by the Recapitalization Agreement shall
have been consummated substantially as set forth therein;
. Sunburst shall have made the required cash payments to Choice;
. if Senior Subordinated Discount Notes are issued, Sunburst shall have
executed the Indenture and the Registration Rights Agreement; and
. the following documents relating to the Mt. Laurel site shall have been
delivered to Choice:
. a special warranty deed;
. an assignment of contracts;
. a title insurance policy and related documentation; and
. certain certificates, affidavits and resolutions.
Termination. The Heads of Agreement may be terminated:
. by written agreement of Sunburst and Choice;
. by either party if the other party breaches the agreement and does not
cure the breach within thirty days; or
. if the Closing has not occurred on or prior to February 28, 2001.
40
Senior Subordinated Discount Notes
Principal, Maturity and Interest. Pursuant to the terms of the Heads of
Agreement, Sunburst may issue up to $70.831 million principal amount at
maturity of the Senior Subordinated Discount Notes. The Senior Subordinated
Discount Notes will mature seven years after the closing date. The Senior
Subordinated Notes will be issued at substantial discount from their principal
amount at maturity. Original issue discount on the Senior Subordinated Discount
Notes will accrete at a rate of 11.375%, compounded semi-annually, to $70.831
million eighteen months after the closing date. Cash interest will not accrue
on the Senior Subordinated Discount Notes prior to eighteen months after the
closing date. Thereafter, cash interest will accrue on the Senior Subordinated
Discount Notes at the rate of 11.375% per annum and will be payable semi-
annually in arrears.
Ranking and Guarantees. The Senior Subordinated Discount Notes will be
general unsecured obligations of Sunburst ranking subordinate in right of
payment to all senior debt of Sunburst. The Senior Subordinated Discount Notes
will be guaranteed by each domestic restricted subsidiary of Sunburst, other
than certain future special purpose finance subsidiaries. The guarantee of each
guarantor will be subordinate in right of payment to all senior debt of such
guarantor.
Optional Redemption. At any time prior to the fourth anniversary of the
closing date, Sunburst may redeem all, but not less than all, of the Senior
Subordinated Discount Notes at a redemption price equal to 100% of the accreted
value of the Senior Subordinated Discount Notes redeemed plus an applicable
premium and all accrued unpaid interest and liquidated damages, if any, to the
date of redemption. After the fourth anniversary of the closing date, Sunburst
may redeem all or part of the Senior Subordinated Discount Notes at the
redemption price (expressed as percentages of principal amount at maturity) set
forth below plus accrued and unpaid interest and liquidated damages, if any, on
the Senior Subordinated Discount Notes to be redeemed to the applicable
redemption date, if redeemed during the twelve month period beginning on the
anniversary of the closing date indicated below:
Fourth anniversary............................................. 105.6875%
Fifth anniversary.............................................. 102.84375%
Sixth anniversary and thereafter............................... 100%
Offer to Purchase. In the event of a change of control of Sunburst, Sunburst
will be obligated to make an offer to purchase all of the outstanding Senior
Subordinated Discount Notes at a purchase price equal to 101% of the accreted
value of the Senior Subordinated Discount Notes plus accrued and unpaid
interest and liquidated damages, if any, to the date of purchase. In addition,
Sunburst will be required under certain circumstances to make an offer to
purchase Senior Subordinated Discount Notes at a purchase price equal to 100%
of the accreted value thereof plus accrued and unpaid interest and liquidated
damages, if any, to the date of purchase, with the net cash proceeds from
certain asset sales.
Certain Covenants. The Indenture governing the Senior Subordinated Discount
Notes will contain covenants which will include restrictions with respect to
the following matters:
. restricted payments;
. incurrence of indebtedness and issuance of preferred stock;
. liens;
. dividend and other payment restrictions affecting restricted
subsidiaries;
. mergers, consolidations and sales of all or substantially all of
Sunburst's assets;
. transactions with affiliates;
. additional subsidiary guarantees;
. designation of restricted and unrestricted subsidiaries;
41
. issuances and sales of equity interests in wholly owned restricted
subsidiaries;
. payments for consents; and
. other senior subordinated debt.
Events of Default. Each of the following will constitute an event of
default under the Indenture:
. default for thirty days in the payment when due of interest on, or
liquidated damages with respect to, the Senior Subordinated Discount
Notes whether or not prohibited by the subordination provisions of the
Indenture;
. default in payment when due of the principal of, or premium, if any, on
the Senior Subordinated Discount Notes, whether or not prohibited by the
subordination provisions of the Indenture;
. failure by Sunburst or any of its subsidiaries to comply with the
provisions described under "--Offers to Purchase" or the covenants
relating to restricted payments, incurrence of indebtedness and issuance
of preferred stock or mergers, consolidations or sale of all or
substantially all of Sunburst's assets;
. failure by Sunburst or any of its subsidiaries for sixty days after
notice to comply with any of the other agreements in the Indenture;
. default under any mortgage, indenture or instrument under which there
may be issued or by which there may be secured or evidenced any
indebtedness for money borrowed by Sunburst or any of its subsidiaries
(or the payment of which is guaranteed by Sunburst or any of its
subsidiaries), if that default:
. is caused by a failure to pay principal of, or interest or
premium, if any, on such indebtedness prior to the expiration
of the grace period provided in such indebtedness on the date
of such default; or
. results in the acceleration of such indebtedness prior to its
express maturity,
. and, in each case, the principal amount of any such
indebtedness, together with the principal amount of any
other such indebtedness under which there has been a
payment default or the maturity of which has been so
accelerated, aggregates $10 million or more;
. failure by Sunburst or any of its subsidiaries to pay final judgments
aggregating in excess of $10 million, which judgments are not paid,
bonded, discharged or stayed for a period of sixty days;
. except as permitted by the Indenture, any subsidiary guarantee shall be
held in any judicial proceeding to be unenforceable or invalid or shall
cease for any reason to be in full force and effect or any guarantor, or
any person acting on behalf of any guarantor, shall deny or disaffirm
its obligations under its subsidiary guarantee; and
. certain events of bankruptcy or insolvency described in the Indenture
with respect to Sunburst or any of its restricted subsidiaries that are
significant subsidiaries.
Registration Rights Agreement. Any Senior Subordinated Notes issued on the
closing date will not have been registered under the Securities Act of 1933
and, unless so registered, will not be able to be offered or sold except
pursuant to an exception from, or in a transaction not subject to, the
registration requirements of the Securities Act of 1933. Sunburst has agreed
to enter into the Registration Rights Agreement which will provide that, at
the request of Choice, Sunburst will file, within forty-five days of such
request, a registration statement with respect to an offer to exchange the
Senior Subordinated Discount Notes for a series of notes with terms
substantially identical to the Senior Subordinated Discount Notes, will use
its best efforts to cause such registration statement to be declared effective
within 180 days of the Choice request and will use its best efforts to issue
the new notes on or prior to thirty business days after the date on which such
registration statement is declared effective. In addition, the Registration
Rights Agreement will provide that under certain circumstances, Sunburst will
become obligated to use its best efforts to file a shelf registration
statement within thirty days after such obligation arises, and to use its best
efforts, cause such shelf registration statement to be declared effective on
or prior to ninety days after such obligation arises.
42
The Registration Rights Agreement will provide that in the event Sunburst
does comply with certain of its obligations set forth therein, Sunburst will be
obligated to pay certain liquidated damages to the holders of the Senior
Subordinated Discount Notes.
Expenses of the Recapitalization
The estimated fees and expenses incurred and to be incurred in connection
with the merger by Sunburst and Nova are set forth in the tables below:
Sunburst's Expenses
(in thousands)
Prepayment penalty on existing debt......................... $11,890
Title, survey, appraisal and environmental costs............ 2,123
Special committee financial advisor fees and expenses....... 1,950
Special committee legal fees and expenses................... 200
Special committee member fees............................... 15
Printing and mailing expenses............................... 200
Accounting fees............................................. 50
Paying agent fees and expenses.............................. 10
Proxy solicitation agent fees and expenses.................. 10
SEC filing fee.............................................. 12
Miscellaneous............................................... 220
-------
Total................................................... $16,680
-------
Nova's Expenses
(in thousands)
Financing commitment ticking fees, financial advisor fees
and expenses............................................... $ 7,550
Lender's legal fees and expenses............................ 800
Nova legal fees and expenses................................ 750
Mortgage recording taxes.................................... 500
Miscellaneous............................................... 220
-------
Total................................................... $ 9,820
-------
Total Expenses............................................ $26,500
=======
The Recapitalization Agreement provides that Sunburst shall pay all of the
costs and expenses it incurs in connection with the Recapitalization Agreement;
provided, however, that:
. if the Recapitalization Agreement is terminated as a result of a breach
by Nova of the Recapitalization Agreement or a breach by the continuing
stockholders under the Exchange and Voting Agreement, then Nova will pay
or reimburse Sunburst for all of Sunburst's expenses;
. if the Recapitalization Agreement is not completed because financing
provided for in the commitment letter obtained by Nova fails to close,
then Nova will pay or reimburse Sunburst for 50% of Sunburst's expenses,
but not to exceed $700,000 in the aggregate; and
. if the Recapitalization Agreement is terminated because the merger is
not approved by Sunburst stockholders in accordance with the terms of
the Recapitalization Agreement, then Nova will pay or reimburse Sunburst
for 10% of Sunburst's expenses.
The Recapitalization Agreement also provides that at the earlier of the
effective time of the merger or the termination of the Recapitalization
Agreement, Sunburst shall pay or reimburse Nova for all of the costs and
43
expenses it incurs in connection with the Recapitalization Agreement; provided,
however, that:
. if the Recapitalization Agreement is terminated as a result of a breach
by Nova of the Recapitalization Agreement or a breach by the continuing
stockholders of the Exchange and Voting Agreement, then Sunburst will
not be obligated to pay or reimburse Nova for any of Nova's expenses;
. if the Recapitalization Agreement is not completed because financing
provided for in the commitment letter obtained by Nova fails to close,
then Sunburst will only be obligated to pay or reimburse Nova for 50% of
Nova's expenses; and
. if the Recapitalization Agreement is terminated because the merger is
not approved by Sunburst stockholders in accordance with the terms of
the Recapitalization Agreement, then Sunburst shall only be obligated to
pay or reimburse Nova for 90% of Nova's expenses.
See "The Recapitalization and Related Agreements--The Recapitalization
Agreement--Covenants of Sunburst--Expenses."
For information regarding the payment of fees and expenses to members of the
special committee, see "--Conflict of Interest of Certain Persons in the
Recapitalization--Directors' Fees For Special Committee Members." For
information regarding the terms of Salomon Smith Barney's engagement by the
special committee, see "--Opinion of the Special Committee's Financial
Advisor." For information regarding the terms of Chase Securities Inc.'s
engagement by Nova and the terms of Chase's commitment letter, see "--Financing
of the Recapitalization."
Neither Sunburst nor Nova will pay any fees or commissions to any broker or
dealer or any other person (other than the proxy solicitation agent) for
soliciting proxies with regard to the merger. Brokers, banks and other
custodians, nominees and fiduciaries will upon request be reimbursed by
Sunburst for reasonable out-of-pocket expenses incurred by them in forwarding
proxy soliciting materials to the beneficial owners of Sunburst's stock.
Regulatory Requirements
No party to the Recapitalization Agreement is required under the Hart-Scott-
Rodino Antitrust Improvements Act of 1976, as amended (and the rules and
regulations promulgated thereunder) to file a Notification and Report Form in
connection therewith.
Material Federal Income Tax Consequences of the Recapitalization
The following is a summary of the material U.S. federal income tax
consequences of the recapitalization to holders of common stock (including
holders exercising appraisal rights) other than persons who will continue to
own common stock after the recapitalization either directly or through related
persons. This summary is based on laws, regulations, rulings and decisions now
in effect, all of which are subject to change, possibly with retroactive
effect. This summary does not address all of the U.S. federal income tax
consequences that may be applicable to a particular holder of common stock or
to holders who are subject to special treatment under U.S. federal income tax
law (including, for example, banks, insurance companies, financial
institutions, tax-exempt investors, S corporations, dealers in securities, non-
U.S. persons, holders who hold their common stock as part of a hedge, straddle
or conversion transaction, and holders who acquired common stock through the
exercise of employee stock options or other compensation arrangements). In
addition, this summary does not address the tax consequences of the
recapitalization under applicable state, local or foreign laws. You should
consult your own tax advisor as to the particular tax consequences to you of
the recapitalization, including the application of any state, local or foreign
tax laws.
The receipt of cash by holders of common stock in the recapitalization or
upon exercise of appraisal rights will be a taxable transaction for U.S.
federal income tax purposes. A holder of common stock generally will recognize
gain or loss in an amount equal to the difference between the cash received by
the holder and that
44
holder's adjusted tax basis in the holder's common stock. Gain or loss must be
determined separately for each block of stock. That gain or loss generally will
be capital gain or loss if the common stock is held as a capital asset. Any
capital gain or loss generally will be long-term capital gain or loss if the
common stock has been held by the holder for more than one year. If the common
stock has been held by the holder for one year or less, any capital gain or
loss will generally be taxed as a short-term capital gain or loss. Net long-
term capital gain will generally be taxable to non-corporate taxpayers at a
rate not to exceed 20% for U.S. federal income tax purposes. In general,
capital losses are deductible only against capital gains and are not available
to offset ordinary income. However, individual taxpayers are allowed to offset
a limited amount of capital losses against ordinary income. Unused capital
losses may be carried forward to future tax years, subject to certain
limitations.
The tax consequences described in the immediately preceding paragraph may
not apply to a stockholder who, immediately after the recapitalization, owns
directly or is treated as owning constructively, under the attribution rules of
Section 318 of the Internal Revenue Code of 1986, any shares of Sunburst stock.
The cash received by such a stockholder may, in some circumstances, be treated
as ordinary dividend income.
Payments of cash to a stockholder in exchange for shares of common stock
owned by the stockholder may be subject to a backup withholding tax at a rate
of 31%, unless the stockholder:
. is a corporation or comes within certain exempt categories; or
. provides a correct tax identification number to the payer, certifies as
to no loss of exemption from backup withholding, and otherwise complies
with applicable requirements of backup withholding rules.
The letter of transmittal, which will be sent to the former stockholders of
Sunburst following the effective time if the recapitalization is consummated,
will include a substitute Form W-9 on which stockholders can provide the
information required to avoid backup withholding. A stockholder who does not
provide a correct tax identification number may be subject to penalties imposed
by the Internal Revenue Service. Any backup withholding tax collected does not
constitute additional tax and is creditable against the stockholder's U.S.
federal income tax liability, provided that certain conditions are met.
Stockholders should consult their tax advisors regarding the application of
backup withholding in their particular circumstances and the availability of an
exemption therefrom if the stockholders cannot or do not make the
certifications required by the substitute Form W-9.
45
THE RECAPITALIZATION AND RELATED AGREEMENTS
The Recapitalization Agreement
The following is a summary of the material terms of the Recapitalization
Agreement. The following description may not contain all the information about
it that is important to you. We encourage you to read the Recapitalization
Agreement itself, which is attached as Annex A and incorporated herein by
reference.
The Recapitalization
The Recapitalization Agreement provides that, as promptly as practicable
after all of the conditions to the merger have been satisfied or waived, Nova
will be merged with and into Sunburst, after which its separate existence will
cease and Sunburst will be the surviving corporation. Each of the conditions to
the Recapitalization Agreement may be waived by the party that benefits from
the condition, or amended by agreement of the parties. If a material condition
of the Recapitalization Agreement is waived or amended, Sunburst will revise
the proxy statement and recirculate it to Sunburst's stockholders. The merger
will become effective at the time the applicable certificate of merger is filed
with the secretary of state of Delaware, or at a later time, as specified in
that certificate of merger.
Consideration in the Recapitalization
Common Stock. At the effective time of the merger, each share of issued and
outstanding Sunburst common stock (other than shares for which appraisal rights
have been perfected) will be converted into the right to receive $7.375 in
cash. Each share of Sunburst common stock held by Sunburst as treasury shares
or by any subsidiary of Sunburst will be canceled and retired.
Preferred Stock. Immediately before the merger, the continuing stockholders
will exchange their common stock for Sunburst preferred stock. The class A
preferred stock will be held by the continuing stockholders and will be
converted into common stock of Sunburst in the merger. Thus, the continuing
stockholders will continue to own equity interests in Sunburst after the
recapitalization. See "The Recapitalization Agreement and Related Agreements--
Exchange and Voting Agreement."
Appraisal Rights
Stockholders who do not vote in favor of the recapitalization, who properly
demand appraisal of their shares and who otherwise comply with the applicable
requirements of the General Corporation Law of the State of Delaware are
entitled to appraisal rights. Sunburst has agreed to notify Nova of any demands
of appraisals and to allow Nova to conduct all negotiations regarding demands
of appraisals. These matters are further discussed below under the heading
"Appraisal Rights."
Options and Restricted Stock Awards
Pursuant to the Recapitalization Agreement, each outstanding Sunburst
employee stock option held by any person other than a continuing stockholder,
whether or not vested, will be canceled and holders of options with an exercise
price that is less than the merger consideration will receive the merger
consideration, which will be reduced by the exercise price for the option. Each
option, whether vested or unvested, that has an exercise price equal to or
greater than the merger consideration with all adjustments, will be canceled.
All existing restricted stock held by any person other than a continuing
stockholder or an individual who is not offered continuing employment after the
recapitalization will be canceled immediately prior to the recapitalization and
converted into the right to receive an amount equal to the merger consideration
of $7.375 per share in cash as follows:
. notwithstanding the existing restrictions on the restricted stock, the
restrictions on 50% of amounts received for restricted stock will lapse
on the first anniversary of the effective time of the merger and
46
the restrictions on the remaining 50% will lapse on the second
anniversary of the effective time of the merger; and
. amounts to be received in exchange for restricted stock will bear
interest from the effective time at the simple annual rate equal to the
rate for U.S. Treasury Notes with a one year maturity as of the
effective time. This rate will be reset on each monthly anniversary of
the effective time.
Restricted stock held by continuing stockholders will be converted into
shares of preferred stock and shall be subject to the provisions of the
stockholders agreement. Restricted stock held by individuals who are not
offered continuing employment after the recapitalization shall be accelerated
and paid out upon completion of the recapitalization.
Exchange of Shares
Prior to the recapitalization, Nova will appoint an exchange agent for the
payment of the merger consideration. All fees and expenses of the exchange
agent will be borne by Sunburst. Nova and Sunburst will provide the exchange
agent (prior to or at the effective time) funds in an amount sufficient to pay
the aggregate merger consideration.
Following the merger, the exchange agent will mail to each holder of
Sunburst common stock a letter of transmittal and instructions. For a period
of three months, holders may surrender their certificates and a duly executed
letter of transmittal to the exchange agent. Thereafter, holders may surrender
their certificates and a duly executed letter of transmittal to Sunburst. In
either case, upon surrender, the holders will receive the merger consideration
multiplied by the number of shares formerly represented by the certificate.
Until surrendered, each certificate will only represent the right to receive
the merger consideration.
The merger consideration paid pursuant to the merger will be paid in full
to the holder of shares without interest, and will be subject to reduction
only for any applicable U.S. federal or other withholding or stock transfer
taxes payable by such holder.
The Surviving Corporation
The certificate of incorporation in the form of Exhibit C to the
Recapitalization Agreement, attached to this proxy statement as Annex A, will
be Sunburst's certificate of incorporation and the bylaw amendments in the
form of Exhibit D to the Recapitalization Agreement, attached to this proxy
statement as Annex A, will become effective, in each case at the effective
time of the recapitalization. The Directors of Nova will be the initial
Directors of Sunburst after the recapitalization. The officers of Sunburst
immediately prior to the recapitalization will be the officers of Sunburst
after the recapitalization, except for Mr. Landry and Mr. Verner.
Representations and Warranties of Sunburst and Nova
Sunburst and Nova make a number of reciprocal representations and
warranties as to, among other things, due incorporation and good standing,
corporate authority to enter into the contemplated transactions, information
supplied for use in this document, absence of conflicts, required consents,
filings with governmental entities, disclosure in required SEC filings and
finders' fees. Representations and warranties made solely by Sunburst relate
to the following items: capitalization, ownership of subsidiaries and equity
investments, delivery of SEC filings, absence of certain changes, absence of
undisclosed material liabilities, compliance with laws and court orders,
inapplicability of state takeover statutes and the amending of Sunburst rights
agreement for the purpose of rendering it inapplicable to the merger.
Representations and warranties made solely by Nova relate to receipt of
commitment letters and other financing matters, the authorized membership
interests in Nova and the continuing stockholders' lack of knowledge of
inaccuracies in Sunburst's representations and warranties.
Many of these representations and warranties will not be deemed breached
unless the breach of the representation or warranty has a material adverse
effect on Sunburst. For purposes of the Recapitalization
47
Agreement, material adverse effect can be one of two things. The first is a
material adverse effect on the condition (financial or otherwise), business,
assets, properties, results of operations or prospects of Sunburst and its
subsidiaries, taken as a whole, or an effect which is materially adverse to
the ability of Sunburst to consummate the transactions contemplated by the
Recapitalization Agreement, other than any material adverse effects resulting
or arising from:
. changes relating to the securities market in general;
. changes in circumstances or conditions affecting the hotel industry in
general;
. changes in general economic conditions; or
. changes resulting from the announcement of the merger.
A material adverse effect can also be an effect that is materially adverse
to the ability of Sunburst to consummate the merger or the other transactions
contemplated by the Recapitalization Agreement, other than effects arising out
of the matters covered in the last three bullet points listed above.
The representations and warranties in the Recapitalization Agreement do not
survive the recapitalization.
Covenants of Sunburst
Interim Operations. Sunburst has agreed to, and to cause each of its
subsidiaries to, conduct its operations according to its ordinary and usual
course of business, consistent with past practice, and use all commercially
reasonable efforts to preserve intact current business organizations, to keep
available the services of current officers and employees, to preserve
relationships with customers, suppliers, licensors, licensees, advertisers,
distributors and others having business dealings with Sunburst or a subsidiary
and to preserve good will.
Subject to certain exceptions, Sunburst has agreed not to, and to cause
each of its subsidiaries not to, without the consent of Nova, which shall not
be unreasonably withheld:
. make capital expenditures that would in the aggregate cause total
capital expenditures for the period from January 1, 2000 to the date of
the merger to exceed the amounts set forth in the most recent version of
the business plan provided to Nova;
. sell, lease, license or otherwise dispose of any subsidiary or any
material amount of assets, securities or property;
. amend its corporate charter/organizational documents, or alter its
corporate structure or its capitalization or the ownership of any
subsidiary;
. declare any dividends; split, combine, reclassify, or alter the terms of
any securities of Sunburst or its subsidiaries;
. encumber capital stock of Sunburst or any subsidiary of Sunburst;
. make any material acquisitions of equity interest or assets;
. incur, assume, guarantee, or modify any additional obligations excluding
certain transactions consistent with Sunburst's and its subsidiaries'
past practices;
. increase compensation or severance payable to any Sunburst Director or
officer or enter into any employment or severance agreement with any new
management employee of Sunburst or its subsidiaries;
. make any changes to Sunburst's accounting methods; or
. take any action which would make any representation or warranty
inaccurate in any material respect or omit to take any action necessary
to prevent any representation or warranty from being materially
inaccurate.
48
Access to Information. Sunburst has agreed that it and its subsidiaries will
give Nova reasonable access to the books and records and other information
concerning the business of Sunburst and its subsidiaries.
Stockholder Meeting; Proxy Material. Sunburst has agreed to take all
commercially reasonable actions and do all things necessary or advisable under
the Recapitalization Agreement and applicable laws to hold a stockholders'
special meeting, to make the appropriate filings with the SEC, to mail the
proxy statements to the stockholders, to obtain the necessary stockholder
approvals, and to comply with all applicable legal requirements.
No Solicitation. Sunburst has agreed not to take the following actions
(other than in connection with the recapitalization):
. seek, initiate, solicit or encourage any individual or entity to make an
acquisition proposal;
. engage in negotiations or discussions concerning an acquisition proposal
with any person or group;
. disclose any non-public information relating to Sunburst or give access
to any of the properties, employees, books or records of Sunburst or its
subsidiaries, in connection with any acquisition proposal; or
. approve or recommend or agree to approve or recommend any acquisition
proposal.
Notwithstanding the foregoing, in response to an unsolicited acquisition
proposal, the Board of Directors may furnish information and participate in
discussions if the special committee in good faith determines after considering
advice of its outside counsel that doing so is required by the Board of
Directors' and special committee's fiduciary duties. Prior to furnishing such
information or participating in such discussions, Sunburst also must notify
Nova of the identity of the entity making the acquisition proposal and of the
terms and conditions of the proposal.
The Recapitalization Agreement defines "acquisition proposal" as an offer or
proposal for a merger or other business combination involving Sunburst and its
subsidiaries for an acquisition or purchase of more than 10% of Sunburst's
voting securities or assets.
Sunburst Special Committee's and Board of Directors' Covenant to
Recommend. The special committee and the Board of Directors have agreed to
recommend the approval and adoption of the Recapitalization Agreement to
Sunburst's stockholders. Either the special committee or the Board of
Directors, however, can withdraw, or modify in a manner adverse to Nova, its
recommendation if the special committee determines in good faith after
consultation with its outside legal counsel that taking such action is required
in the exercise of its respective fiduciary duties to Sunburst's stockholders.
State Takeover Laws. Sunburst will, upon the request of Nova, take all
reasonable steps to render inapplicable and to assist in any challenge by Nova
to the validity or applicability of any state takeover law to the
recapitalization.
Reports. Sunburst has agreed to provide Nova with internal financial
information.
Preferred Stock. Sunburst has agreed to authorize and designate the rights
of the class A convertible preferred stock, which will be the preferred stock
for which the continuing stockholders will exchange their common stock prior to
the effective time of the merger.
Section 16 Matters. Sunburst has agreed to take all steps necessary in order
to have the transactions contemplated by the Recapitalization Agreement exempt
from Section 16(b) of the Exchange Act.
Expenses. If the proposed merger occurs, Sunburst has agreed to pay its own
expenses and Nova's expenses in connection with the recapitalization including,
without limitation, title, survey and environmental
49
costs relating to obtaining financing, as well as costs associated with
obtaining stockholder and regulatory approvals. However:
. if the Recapitalization Agreement is terminated because of a material
failure on the part of Nova to perform its representations or warranties
under the Recapitalization Agreement or the Exchange and Voting
Agreement, Nova will pay all of Sunburst's expenses related to the
transactions and all of its own expenses related to the transactions;
. if the agreement is not completed because financing provided for in the
commitment letter obtained by Nova fails to close, Nova will pay the
lesser of (i) 50% of Sunburst's expenses related to the transactions and
50% of its own expenses related to the transactions or (ii) $700,000;
and
. if the agreement is terminated as a result of a failure to obtain the
stockholder approval required by the Recapitalization Agreement, Nova
will reimburse Sunburst for 10% of Sunburst's expenses related to the
transactions and 10% of its own expenses related to the transactions.
Covenants of Nova
Director and Officer Liability. Nova has agreed that the surviving
corporation will, to the extent provided in the Recapitalization Agreement:
. indemnify and hold harmless the present and former officers and
Directors of Sunburst and each of its subsidiaries for a period of six
years after the merger for acts or omissions occurring at or prior to
the effective time of the merger; and
. provide officers' and Directors' liability insurance coverage for a
period of six years after the effective time for acts or omissions
occurring prior to the merger.
Financing Arrangements. Nova has agreed to use commercially reasonable
efforts to obtain financing sufficient to pay amounts required by the
Recapitalization Agreement for the common stock and to pay other amounts
required to complete the recapitalization.
Covenants of Sunburst and Nova
Commercially Reasonable Efforts. Sunburst and Nova have agreed to use
commercially reasonable efforts to complete the recapitalization, including
cooperating with banks to obtain debt financing and making necessary Hart-
Scott-Rodino filings, if any.
Certain Filings. Sunburst and Nova have agreed:
. to make filings under the Hart-Scott-Rodino Antitrust Improvements Act
of 1976, if necessary; and
. to cooperate with one another in connection with the preparation of the
Sunburst proxy statement and Schedule 13E-3, in making any other
filings, furnishing information required in connection with the
recapitalization or with the Sunburst proxy statement and seeking to
obtain any required actions, consents, approvals or waivers in a timely
manner.
Public Announcements. Nova and Sunburst have agreed to consult with each
other before issuing any press release or making any public statement with
respect to the Recapitalization Agreement or the transactions.
Notices of Certain Events. Nova and Sunburst have agreed to promptly notify
the other of:
. notices or other communication relating to the transactions;
. any litigation commenced or threatened against Sunburst or its
subsidiaries;
. the occurrence or non-occurrence of any fact or event that would
reasonably be likely to cause any representation or warranty to be
untrue or to cause any covenant, condition or agreement not to be
complied with or satisfied; or
. any failure of either party to comply with or satisfy any covenant,
condition or agreement.
50
Confidentiality. Prior to the effectiveness of the recapitalization and
after any termination of the Recapitalization Agreement, each party has agreed
to hold in confidence all confidential documents and information concerning the
other party except information that is required to be disclosed in this proxy
statement and the related Schedule 13E-3 or is otherwise required to be
disclosed by any governmental authority.
Principal Conditions to the Completion of the Recapitalization
Mutual Closing Conditions. Each party's obligation to complete the
recapitalization is subject to the satisfaction of the following conditions:
. approval by holders of at least two-thirds of the total number of votes
(including a majority of the total number of votes that may be cast by
stockholders other than the continuing stockholders) that may be cast by
holders of Sunburst capital stock in the election of directors;
. expiration of the waiting period under the Hart-Scott-Rodino Act in
order to complete the recapitalization and merger;
. absence of legal prohibitions to or restraint upon the completion of the
recapitalization; and
. completion of all requisite actions or filings with any governmental
authority.
Additional Closing Conditions for Nova's Benefit. The obligations of Nova to
complete the recapitalization are subject to the satisfaction of the following
additional conditions, among others:
. Sunburst's performance in all material respects of all of its
obligations under the Recapitalization Agreement;
. the representations and warranties of Sunburst must be true in all
material respects;
. the non-occurrence since the date of the Recapitalization Agreement of
any events that could reasonably be expected to have a material adverse
effect;
. the satisfaction of the conditions to closing under the Heads of
Agreement dated September 20, 2000 between Sunburst and Choice Hotels
International, Inc. and the execution of definitive agreements between
Sunburst and Choice Hotels International, Inc. with respect to matters
covered by the Heads of Agreement with terms satisfactory to Nova;
. the class A preferred shares having been issued to the continuing
stockholders; and
. the number of Sunburst stockholders demanding appraisal rights is not
more than 5% of the outstanding common stock.
Additional Closing Conditions for Sunburst's Benefit. Sunburst's obligation
to complete the recapitalization is subject to the satisfaction of the
following additional conditions:
. Nova's performance in all material respects of all of its obligations
under the Recapitalization Agreement and the Exchange and Voting
Agreement;
. the performance by the continuing stockholders in all material respects
of their obligations under the Exchange and Voting Agreement;
. Nova's representations and warranties must be true in all material
respects; and
. the delivery to Sunburst by Nova of copies of such materials relating to
the solvency of Sunburst after the transactions as are provided to the
lender pursuant to the commitment letter, or, if no such materials are
required, similar materials satisfactory to the special committee.
51
Termination
The Recapitalization Agreement may be terminated and the recapitalization
may be abandoned at any time prior to the effective time of the
recapitalization:
. by mutual written consent;
. by either party, if: (i) the recapitalization has not been completed
before February 28, 2001, but the Recapitalization Agreement may not be
terminated for this reason by a party whose breach of any provision of
the Recapitalization Agreement resulted in the failure of the
recapitalization to be completed by February 28, 2001; (ii) the
completion of the recapitalization is legally prohibited by final and
non-appealable order or by law; or (iii) the Sunburst stockholders fail
to give the required approval to the Recapitalization Agreement and
recapitalization;
. by Nova, (i) if Sunburst breaches or fails to perform any
representation, warranty, covenant or agreement and cannot cure it by
February 28, 2001; or (ii) if the special committee or Board of
Directors (acting through the special committee) of Sunburst (a) shall
have failed to make, or withdrawn, or modified or conditioned in a
manner adverse to Nova, its approval or recommendation of the
Recapitalization Agreement or the recapitalization or (b) shall have
approved or recommended or agreed to approve or recommend any other
acquisition proposal; or
. by Sunburst, (i) if Nova breaches or fails to perform any
representation, warranty, covenant or agreement set forth in the
Recapitalization Agreement or the Exchange and Voting Agreement and
cannot cure it by February 28, 2001; (ii) if any of the continuing
stockholders breaches or fails to perform any representation, warranty,
covenant or agreement under the Exchange and Voting Agreement; or (iii)
following receipt of a bona fide acquisition proposal, only to the
extent that the special committee shall have concluded in good faith
(upon the advice of legal counsel) that such action is required by the
special committee's (and the Board of Directors') fiduciary duties to
the Sunburst stockholders under applicable law.
Amendments; No Waivers. Any provision of the Recapitalization Agreement may
be amended or waived prior to the effective time of the recapitalization merger
if the amendment or waiver is in writing and is signed, in the case of an
amendment, by each party to the Recapitalization Agreement, or in the case of a
waiver, by each party against whom the waiver is to be effective, subject to
applicable law.
Exchange and Voting Agreement
The following is a summary of the material terms of the Exchange and Voting
Agreement.
General
As an inducement to Nova and Sunburst to enter into the Recapitalization
Agreement, the continuing stockholders entered into an Exchange and Voting
Agreement with Nova and Sunburst dated as of September 18, 2000. As of the
record date, the continuing stockholders beneficially owned approximately
48.98% of the outstanding Sunburst common stock.
Voting
Pursuant to the Exchange and Voting Agreement, the continuing stockholders
have agreed, among other things, to vote all Sunburst common stock owned or
subsequently acquired by them to approve and adopt the Recapitalization
Agreement and each other action or agreement related to the Recapitalization
Agreement. The continuing stockholders have also agreed that they will vote
against the approval of any acquisition proposal, reorganization or similar
transaction that would result in a material breach of Sunburst's obligations
under the Recapitalization Agreement or that would frustrate or delay the
merger. The continuing stockholders have agreed not to grant any proxies or
enter into any voting trust or other agreement or arrangement with respect to
the voting of any of their Sunburst common stock.
52
Exchange of Common Stock
Each of the continuing stockholders has agreed to exchange its common stock
for one-tenth of a share of class A preferred stock. The following chart shows
the number of shares of common stock that the continuing stockholders are
exchanging for preferred stock and the number of options that they own.
Owned
Name of Shareholder Shares Options
- ------------------- --------- -------
Realty Investment Company, Inc.(1)............................ 1,189,289 --
The Stewart Bainum Declaration of Trust....................... 2,011,970 --
Dated May 23, 1995(2)
The Jane L. Bainum Declaration of Trust....................... 266,237 --
Dated May 23, 1995(3)
The Barbara J. Bainum Declaration of Trust.................... 669,349 --
Dated December 20, 1996(4)
The Stewart W. Bainum, Jr. Declaration of Trust............... 874,729 --
Dated March 13, 1996(5)
The Bruce Bainum Declaration of Trust......................... 635,457 --
Dated March 13, 1997(6)
The Bruce Bainum Declaration of Trust......................... 31,500 --
Dated April 13, 1997(6)
The Roberta Bainum Irrevocable Grantor Trust(7)............... 655,457 --
Mid Pines Associates Limited Partnership(8)................... 593,209 --
Cambridge Investment Company, LLC(9).......................... 85,000 --
Stewart Bainum(10)............................................ 5,945 529
Stewart W. Bainum, Jr......................................... 33,135 80,001
Barbara J. Bainum............................................. 424 --
James A. MacCutcheon(11)...................................... 303,986 106,253
Kevin P. Hanley(12)........................................... 160,339 --
Pamela M. Williams(13)........................................ 48,622 --
Charles Warczak(14)........................................... 91,272 24,045
Gregory Miller(15)............................................ 113,085 --
--------- -------
Total....................................................... 7,769,005 210,828
========= =======
- --------
(1) Realty Investment Company, Inc., a real estate management and investment
company in which Stewart Bainum, Jr. has shared voting rights; Mr.
Stewart Bainum and his wife, Jane Bainum have shared voting authority;
Bruce Bainum, Declaration of Trust, has voting stock and shared voting
authority; Ms. Roberta Bainum has shared voting authority as a director;
and the Barbara Bainum Declaration of Trust has voting stock and shared
voting authority.
(2) The Stewart Bainum Declaration of Trust Dated May 23, 1995 of which Mr.
Bainum is the sole trustee and beneficiary.
(3) The Jane L. Bainum Declaration of Trust Dated May 23, 1995 of which Ms.
Bainum is the sole trustee and beneficiary.
53
(4) The Barbara Bainum Declaration of Trust Dated December 20, 1996 of which
Ms. Bainum is the sole trustee and beneficiary.
(5) The Stewart W. Bainum, Jr. Declaration of Trust Dated March 13, 1996 of
which Mr. Bainum is the sole trustee and beneficiary.
(6) Mr. Bainum is sole trustee and beneficiary of the trust.
(7) The Roberta Bainum Irrevocable Trust Dated March 13, 1997, in which Mr.
Bruce Bainum is trustee and has sole voting authority.
(8) Mid Pines Associates Limited Partnership, Mr. Bainum Jr. is managing
general partner and has shared voting authority, Ms. Barbara Bainum is a
general partner with shared voting authority; Mr. Bruce Bainum is general
partner and has shared voting authority; and Ms. Roberta Bainum is
general partner and has shared voting authority.
(9) Cambridge Investment Company, LLC, Mr. Stewart Bainum is managing member
with sole authority to vote the shares.
(10) Of the owned shares listed, 1,600 are restricted shares.
(11) Of the owned shares listed, 301,252 are restricted shares.
(12) Of the owned shares listed, 158,895 are restricted shares.
(13) Of the owned shares listed, 47,835 are restricted shares.
(14) Of the owned shares listed, 90,180 are restricted shares.
(15) Of the owned shares listed, 112,029 are restricted shares.
Total number of shares outstanding immediately after the recapitalization
will be approximately 8,395,668 shares of common stock. Each share of class A
preferred stock will be converted into ten shares of common stock of Sunburst
in the merger.
Transfer and Acquisition Restrictions
None of the continuing stockholders may:
. transfer their Sunburst common stock except to other continuing
stockholders;
. acquire additional Sunburst common stock except for options and
restricted stock granted under Sunburst's option plans;
. enter into any voting arrangement or understanding other than under the
Exchange and Voting Agreement, whether by proxy, voting agreement or
otherwise, with respect to any of its owned shares or options; or
. take any action that would make any of its representations or warranties
contained in the Exchange and Voting Agreement untrue or incorrect or
have the effect of preventing or impeding such stockholder from
performing any of its obligations under the Exchange and Voting
Agreement.
Appraisal Rights
The continuing stockholders have irrevocably waived their rights to demand
appraisal of their stock.
Other Covenants
The continuing stockholders and Nova have also agreed to the following:
. the continuing stockholders will enter into the stockholders' agreement
described above under "Special Factors--Arrangements with Continuing
Stockholders"; and
. Nova will not conduct any business activities and will not incur any
liabilities prior to the completion of the merger.
Termination
The Exchange and Voting Agreement terminates upon the termination of the
Recapitalization Agreement or the effective date of the recapitalization.
54
APPRAISAL RIGHTS
Sunburst stockholders who do not vote in favor of the adoption of the
Recapitalization Agreement and who properly demand appraisal of their shares
will be entitled to appraisal rights and to receive cash for their Sunburst
shares in connection with the merger under Section 262 of the General
Corporation Law of the State of Delaware (the "DGCL").
Sunburst stockholders are entitled to appraisal rights under Section 262 of
the DGCL, provided that they comply with the conditions established by Section
262. Under Section 262, where a transaction is to be submitted for approval at
a meeting of stockholders, as in the case of the adoption of the
Recapitalization Agreement by Sunburst's stockholders, the corporation, not
less than 20 days prior to the meeting, must notify each of its stockholders
entitled to appraisal rights that appraisal rights are available and include in
the notice a copy of Section 262. This proxy statement constitutes that notice,
and Section 262 is reprinted in its entirety and attached hereto as Annex B.
If a Sunburst stockholder exercises appraisal rights in connection with the
recapitalization under Section 262, any Sunburst shares with respect to which
such rights have been exercised and perfected will not be converted into shares
in the surviving corporation or into cash, as provided for in the
Recapitalization Agreement, but instead will be converted into the right to
receive a cash payment of the fair value of such shares, exclusive of any
element of value arising from the accomplishment or expectation of the
recapitalization, together with a fair rate of interest, as may be determined
by the Delaware Court of Chancery (the "Court") pursuant to the laws of the
State of Delaware.
This proxy statement is being sent by personal delivery or by mail to all
Sunburst stockholders of record on November 22, 2000 and constitutes notice of
the appraisal rights available to such Sunburst stockholders under Section 262.
The following discussion does not purport to be a complete statement of the
law relating to appraisal rights and is qualified in its entirety by reference
to the full text of Section 262. This discussion and the full text of Section
262 should be reviewed carefully by any holder of Sunburst common stock who
wishes to exercise statutory appraisal rights or who wishes to preserve the
right to do so, as failure to comply with the procedures set forth therein may
result in the loss of appraisal rights.
Sunburst stockholders who follow the procedures in Section 262 will be
entitled to have their Sunburst shares appraised by the Court and to payment of
the "fair value" of such Sunburst shares as of the effective date of the
recapitalization.
A holder of record of shares of Sunburst stock who desires to exercise
appraisal rights must: (i) hold shares of Sunburst common stock on the date of
the making of a demand for appraisal; (ii) continuously hold such shares
through the effective time; (iii) deliver a properly executed written demand
for appraisal to Sunburst prior to the taking of the vote on the
Recapitalization Agreement; (iv) file any necessary petition in the Court, as
more fully described below, within 120 days after the effective date of the
recapitalization; and (v) otherwise satisfy all of the conditions described
more fully below and in Annex B.
A record holder of shares of Sunburst common stock who makes the demand
described below with respect to such shares, who continuously is the record
holder of such shares through the effective date and who otherwise complies
with the statutory requirements of Section 262 will be entitled, if the merger
is consummated, to receive payment of the fair value of his/her shares of
Sunburst as appraised by the Court. All references in Section 262 and in this
summary of appraisal rights to a "stockholder" or "holders of shares of
Sunburst common stock" are to the record holder or record holders of shares of
Sunburst common stock.
A holder of shares of Sunburst common stock wishing to exercise the holder's
appraisal rights must deliver to Sunburst, before the vote on the adoption of
the Recapitalization Agreement at the special meeting, a
55
written demand for the appraisal of their shares and must not vote in favor of
the adoption of the Recapitalization Agreement. A holder of shares of Sunburst
common stock wishing to exercise appraisal rights must hold of record the
shares on the date the written demand for appraisal is made and must continue
to hold the shares of record through the effective time of the merger. A vote
against the adoption of the Recapitalization Agreement will not in and of
itself constitute a written demand for appraisal satisfying the requirements of
Section 262. The demand must reasonably inform Sunburst of the identity of the
holder as well as the intention of the holder to demand an appraisal of "fair
value" of the shares held by the holder.
Only a Sunburst stockholder of record (or his, her or its duly appointed
representative) is entitled to assert appraisal rights for the Sunburst shares
registered in the Sunburst stockholder's name. A demand for appraisal must be
executed by or on behalf of the stockholder of record, fully and correctly, as
such stockholder's name appears on the certificate or certificates representing
the shares of Sunburst common stock. A person having a beneficial interest in
shares of Sunburst common stock that are held of record in the name of another
person, such as a broker, fiduciary or other nominee, must act promptly to
cause the record holder to follow the steps summarized herein properly and in a
timely manner to perfect any appraisal rights. If the shares of Sunburst are
owned of record by a person other than the beneficial owner, including a
broker, fiduciary (such as a trustee, guardian or custodian) or other nominee,
such demand must be executed by or for the record owner. If the shares of
Sunburst are owned of record by more than one person, as in a joint tenancy or
tenancy in common, such demand must be executed by or for all such joint
owners. An authorized agent, including an agent for two or more joint owners,
may execute the demand for appraisal for a stockholder of record; however, the
agent must identify the record owner and expressly disclose the fact that, in
exercising the demand, such person is acting as agent for the record owner. A
record owner, such as a broker, fiduciary or other nominee, who holds shares of
Sunburst common stock as a nominee for others, may exercise appraisal rights
with respect to the shares held for all or less than all beneficial owners of
shares as to which such person is the record owner. In such case, the written
demand must set forth the number of shares covered by such demand. Where the
number of shares is not expressly stated, the demand will be presumed to cover
all shares of Sunburst common stock outstanding in the name of such record
owner. Stockholders who hold their shares of Sunburst common stock in brokerage
accounts or other nominee forms and who wish to exercise appraisal rights are
urged to consult with their brokers to determine the appropriate procedures for
the making of a demand for appraisal by such a nominee.
A stockholder who desires to exercise appraisal rights should mail or
deliver his or her written demand to: Sunburst Hospitality Corporation, 10770
Columbia Pike; Silver Spring, Maryland 20901; Attention: Douglas H. Verner,
Secretary.
Within 10 days after the effective time of the recapitalization, Sunburst
must notify each holder of Sunburst common stock who has complied with Section
262 and who has not voted in favor of the adoption of the Recapitalization
Agreement that the recapitalization has become effective. Within 120 days after
the effective date, but not thereafter, the surviving corporation or any
stockholder who has complied with the required conditions of Section 262 may
file a petition in the Court, with a copy served on the surviving corporation
in the case of a petition filed by a stockholder, demanding a determination of
the fair value of the shares of the dissenting Sunburst stockholders. The
surviving corporation does not currently intend to file an appraisal petition
and stockholders seeking to exercise appraisal rights should not assume that
the surviving corporation will file such a petition or that the surviving
corporation will initiate any negotiations with respect to the fair value of
such shares. Accordingly, stockholders who desire to have their shares
appraised should initiate any petitions necessary for the perfection of their
appraisal rights within the time periods and in the manner prescribed in
Section 262. Within 120 days after the effective time of the merger, any
stockholder who has theretofore complied with the applicable provisions of
Section 262 will be entitled, upon written request, to receive from the
surviving corporation a statement setting forth the aggregate number of shares
of Sunburst not voted in favor of the merger and the aggregate number of shares
of Sunburst common stock with respect to which demands for appraisal were
received by the surviving corporation and the number of holders of such shares.
Such written statement must be mailed within 10 days after the written request
therefore has been
56
received by the surviving corporation, or within 10 days after expiration of
the time for delivery of demands for appraisal under Section 262, whichever is
later.
If a petition for an appraisal is timely filed, and a copy thereof is served
upon Sunburst, Sunburst will then be obligated within 20 days to file with the
Delaware Register in Chancery a duly verified list containing the names and
addresses of all stockholders who have demanded an appraisal of their shares
and with whom agreements as to the value of their shares have not been reached.
After notice to the stockholders as required by the Court, the Court is
empowered to conduct a hearing on the petition to determine those stockholders
who have complied with Section 262 and who have become entitled to appraisal
rights thereunder. The Court may require the holders of shares of Sunburst
common stock who demanded payment for their shares to submit their stock
certificates to the Register in Chancery for notation thereon of the pendency
of the appraisal proceeding; and if any stockholder fails to comply with the
direction, the Court may dismiss the proceedings as to the stockholder.
After determining the holders of the Sunburst common stock entitled to
appraisal, the Court will appraise the shares of Sunburst common stock owned by
such stockholders, determining the fair value of such shares exclusive of any
element of value arising from the accomplishment or expectation of the merger,
together with a fair rate of interest, if any, to be paid upon the amount
determined to be the fair value. In determining fair value, the Court is to
take into account all relevant factors. In Weinberger v. UOP, Inc., the
Delaware Supreme Court discussed the factors that could be considered in
determining fair value in an appraisal proceeding, stating that "proof of value
by any techniques or methods which are generally considered acceptable in the
financial community and otherwise admissible in court" should be considered,
and that "fair price obviously requires consideration of all relevant factors
involving the value of a company." The Delaware Supreme Court stated that in
making this determination of fair value the court must consider market value,
asset value, dividends, earnings prospects, the nature of the enterprise and
any other facts which are known or which can be ascertained as of the date of
the merger and which throw any light on future prospects of the merged
corporation. In Weinberger, the Delaware Supreme Court stated that "elements of
future value, including the nature of the enterprise, which are known or
susceptible of proof as of the date of the merger and not the product of
speculation, may be considered." Section 262, however, provides that fair value
is to be "exclusive of any element of value arising from the accomplishment or
expectation of the merger."
Stockholders considering seeking appraisal should recognize that the fair
value of their shares as determined under Section 262 could be more than, the
same as or less than the shares of common stock or cash to be issued pursuant
to the Recapitalization Agreement to holders of Sunburst common stock if they
do not seek appraisal of their shares. In addition, Delaware courts have
decided that the statutory appraisal remedy, depending on factual
circumstances, may or may not be a stockholder's exclusive remedy. The cost of
the appraisal proceeding may be determined by the Court and taxed against the
parties, as the Court deems equitable in the circumstances. Upon application of
a stockholder of Sunburst, the Court may order that all or a portion of the
expenses incurred by any stockholder in connection with the appraisal
proceeding, including, without limitation, reasonable attorney's fees and the
fees and expenses of experts, be charged pro rata against the value of all
shares of stock entitled to appraisal.
Any holder of shares of Sunburst common stock who has duly demanded
appraisal in compliance with Section 262 will not, after the effective date, be
entitled to vote for any purpose any shares subject to such demand or to
receive payment of dividends or other distributions on such shares, except for
dividends or distributions payable to stockholders of record at a date prior to
the effective time.
At any time within 60 days after the effective time of the Recapitalization
Agreement, any holder of Sunburst common stock will have the right to withdraw
such demand for appraisal and to accept the terms offered in the merger; after
this period, such holder may withdraw such demand for appraisal only with the
written consent of the surviving corporation. In addition, once a petition for
appraisal is filed, the appraisal proceeding may not be dismissed as to any
holder absent court approval. If no petition for appraisal is filed with the
Court within 120 days after the effective time, stockholders' rights to
appraisal will cease, and all
57
holders of shares of Sunburst will be entitled to receive the consideration
from the merger. Inasmuch as the surviving corporation has no obligation to
file such a petition, and has no present intention to do so, any holder of
shares of Sunburst common stock who desires such a petition to be filed is
advised to file it on a timely basis.
Failure to take any required step in connection with the exercise of
appraisal rights may result in termination of such rights. In view of the
complexity of these provisions of the DGCL, stockholders who are considering
exercising their rights under Section 262 of the DGCL should consult with their
legal advisors.
58
SUMMARIZED FINANCIAL DATA FOR SUNBURST
The following table sets forth financial data for Sunburst Hospitality
Corporation. The financial information for Sunburst as of and for each of the
two fiscal years ended December 31, 1998 and December 31, 1999 has been derived
from the audited financial statements of Sunburst. The financial information as
of and for the nine months ended September 30, 1999 and September 30, 2000,
respectively, has been derived from the unaudited financial statements of
Sunburst for such periods. For more financial information, please refer to
Sunburst's Form 10-K for the year ended December 31, 1999 and its Form 10-Q for
the quarter ended September 30, 2000, which are attached as Annexes D and E,
respectively, to this proxy statement.
Year Ended Nine Months Ended
December 31, September 30,
------------------ -----------------------
1998 1999 1999 2000
-------- -------- ----------- -----------
(Unaudited) (Unaudited)
(Amounts in thousands except per share
data.)
Revenue........................... $204,096 $210,036 $162,748 $164,292
Operating Income Before Net Real
Estate Gains..................... 31,271 35,210 31,243 24,151
Net Real Estate Gains (Losses).... (4,264) 1,878 1,546 7,678
Operating Income.................. 27,007 37,088 32,789 31,829
Income before Extraordinary Item
and Change in Accounting......... 3,688 7,307 8,583 7,604
Extraordinary Item, net of income
taxes............................ (308) (772) (772) (315)
Change in Accounting, net of
income taxes..................... -- (559) (599) --
-------- -------- -------- --------
Net Income........................ 3,380 5,936 7,212 7,289
Diluted Earnings before
Extraordinary Item and Change in
Accounting....................... .18 .38 .44 .49
Extraordinary Loss Per Share...... (.01) (.04) (.04) (.02)
Accounting Change................. -- (.03) (.03) --
-------- -------- -------- --------
Diluted Earnings Per Share........ .17 .31 .37 .47
Current Assets.................... 11,384 10,816 14,402 15,864
Non-Current Assets................ 411,127 402,373 400,065 353,151
Current Liabilities............... 32,633 30,096 33,530 34,963
Non-Current Liabilities........... 287,241 300,046 274,445 239,723
Diluted Book Value Per Share
(unaudited)/(1)/................. 5.23 5.61 5.68 5.96
Ratio of Earnings to Fixed Charges
(unaudited)/(2)/................. 1.16 1.28 1.44 1.39
- --------
/(1)/ The diluted book value per share is calculated by dividing total
stockholders' equity by the number of shares of common stock outstanding
for the period presented, including the potential effect of all other
securities that would be dilutive to common stockholders, if exercised.
/(2)/ The ratio of earnings to fixed charges is computed by dividing net income
before interest expense and other fixed charges by total fixed charges,
including interest expense, amortization of debt issuance costs and the
portion of rent expense that is deemed to represent interest.
59
PRO FORMA FINANCIAL INFORMATION
The following pro forma financial information reflects the pending
disposition of ten hotels for a purchase price of approximately $32.5 million,
as described in "Recent Developments." The pro forma financial information is
based on the unaudited condensed consolidated financial statements as of and
for the nine months ended September 30, 2000 and the audited consolidated
financial statements for the year ended December 31, 1999. Our unaudited pro
forma statements of operations reflect the sale of the ten hotels for the year
ended December 31, 1999 and the nine months ended September 30, 2000 as if that
transaction had been completed at the beginning of the periods presented. Our
unaudited pro forma statements of operations presented below include only
income before extraordinary items.
Our unaudited pro forma financial statements do not purport to represent
what our results of operations or financial condition would actually have been
if these sales had in fact occurred at the beginning of the periods presented,
or to project our results of operations or financial condition for any future
period.
Our unaudited pro forma financial statements are based upon available
information and upon assumptions and estimates, some of which are set forth in
the notes to the unaudited pro forma financial statements that we believe are
reasonable under the circumstances. You should read our unaudited pro forma
financial statements and accompanying notes in conjunction with our
consolidated financial statements and "Management's Discussion and Analysis of
Financial Condition and Results of Operations" that are contained in our
filings with the Securities and Exchange Commission.
60
Sunburst Hospitality Corporation
Unaudited Pro Forma Statement of Operations
For the Nine Months Ended September 30, 2000
(In thousands, except per share amounts)
(c,d,e) Pro
Historical Dispositions Forma
---------- ------------ --------
Total Revenues.......................... $164,292 $(10,692)(c) $153,600
-------- -------- --------
Operating Expenses......................
Hotel and Corporate Expenses........... 112,675 (7,357)(c) 105,318
Depreciation and amortization.......... 18,499 (1,350)(c) 17,149
Gains on property dispositions, net of
impairments charges................... (7,678) (7,678)
Recapitalization Costs................. 8,967 8,967
-------- -------- --------
Total operating expenses.............. 132,463 (8,707) 123,756
-------- -------- --------
Operating Income........................ 31,829 (1,985) 29,844
-------- -------- --------
Interest Expense........................ 19,106 (2,358)(d) 16,748
-------- -------- --------
Income Before Income Taxes and
Extraordinary Items.................... 12,723 373 13,096
Income Taxes.......................... 5,119 150 (e) 5,269
-------- -------- --------
Income Before Extraordinary Items....... $ 7,604 $ 223 $ 7,827
======== ======== ========
Diluted Income Before Extraordinary
Items per Share........................ $ 0.49 $ 0.50 (f)
======== ========
The accompanying notes are an integral part of this pro forma statement.
61
Sunburst Hospitality Corporation
Unaudited Pro Forma Statement of Operations
For the Year Ended December 31, 1999
(In thousands, except per share amounts)
(c,d,e)
Historical Dispositions Pro Forma
---------- ------------ ---------
Total Revenues.......................... $210,036 $(12,685)(c) $197,351
-------- -------- --------
Operating Expenses......................
Hotel and Corporate Expenses........... 148,586 (9,622)(c) 138,964
Depreciation and amortization.......... 26,240 (1,397)(c) 24,843
Gains on property dispositions, net of
impairments charges.................... (1,878) (1,878)
-------- -------- --------
Total operating expenses.............. 172,948 (11,019) 161,929
-------- -------- --------
Operating Income........................ 37,088 (1,666) 35,422
-------- -------- --------
Interest Expense........................ 24,677 (2,948)(d) 21,729
-------- -------- --------
Income Before Income Taxes and
Extraordinary Items.................... 12,411 1,282 13,693
526
Income Taxes.......................... 5,104 (e) 5,630
-------- -------- --------
Income before Extraordinary Items....... $ 7,307 $ 756 $ 8,063
======== ======== ========
Diluted Income Before Extraordinary
Items per Share........................ $ 0.38 $ 0.42 (f)
======== ========
The accompanying notes are an integral part of this pro forma statement.
62
Sunburst Hospitality Corporation
Unaudited Pro Forma Balance Sheet
As of September 30, 2000
(In thousands)
(a,b)
Historical Dispositions Pro Forma
---------- ------------ ---------
ASSETS
Real estate, net........................... $297,154 $(38,652)(a) $258,502
Real estate held for sale.................. 49,955 49,955
Receivables, net........................... 12,524 (1,245)(a) 11,279
Other assets............................... 6,042 (261)(a) 5,781
Cash and cash equivalents.................. 3,340 32,500 (a) 3,340
(32,500)(b)
-------- -------- --------
Total assets........................... $369,015 $(40,158) $328,857
======== ======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities
Debt
Senior debt and capital leases........... $ 98,340 $ (2,200)(b) $ 96,140
Subordinated debt........................ 137,051 (30,300)(b) 106,751
-------- -------- --------
235,391 (32,500) 202,891
Accounts payable and accrued expenses...... 34,963 (4,025)(a) 30,938
Deferred income taxes and other
liabilities............................... 4,332 4,332
-------- -------- --------
Total liabilities...................... 274,686 (36,525) 238,161
Total stockholders' equity............. 94,329 (3,633)(a) 90,696
-------- -------- --------
Total liabilities and stockholders'
equity................................ $369,015 $(40,158) $328,857
======== ======== ========
The accompanying notes are an integral part of this pro forma balance sheet.
63
(a) Represents the adjustments to record the pending disposition of the
following ten hotels:
Sleep Inn--Denver, CO Sleep Inn--San Antonio, TX
Sleep Inn--Kansas City, MO Sleep Inn--Houston, TX
Sleep Inn--Raleigh, NC Sleep Inn--Denver Airport, Co
Sleep Inn--Round Rock, TX Sleep Inn--Plano, TX
Sleep Inn--Arlington, TX Sleep Inn--Charlotte, NC
. Record cash proceeds of approximately $32,500,000
. Reduce the carrying value of real estate sold by approximately
$38,652,000
. Eliminate the working capital of the hotels as follows:
. Accounts payable and accrued expenses of $4,025,000
. Receivables of $1,245,000
. Other Assets of $261,000
. Record the reduction of stockholders equity relating to the anticipated
non-recurring loss of $3,633,000 as a result of the disposition.
Sunburst has entered into an agreement to sell nine of the hotels listed above
in a single transaction. The pro forma adjustment includes one hotel that is
under a contingent contract to be sold to the purchaser of the nine hotels. The
tenth hotel has been included in the pro forma adjustment as a result of an
agreement with the purchaser of the nine hotels that it will purchase the tenth
hotel, if that hotel is not sold to another purchaser (under a pending
contract). The one hotel referred to had a net book value of $3,290,000 and had
operating income of $229,000 and $260,000 for the year ended December 31, 1999
and the nine months ended September 30, 2000.
(b) Represents the adjustment to record the use of the proceeds from the
disposition of the ten hotels to repay a portion of the credit facilities.
(c) Represents the adjustment to reduce the historical revenues and operating
expenses for the pending disposition of the ten hotels. The company will
record a non-recurring loss of approximately $3,633,000 that has not been
reflected in the accompanying pro forma statements of operations.
(d) Represents the adjustment to record the reduction of interest expense as a
result of the repayment of the credit facilities in conjunction with the
disposition of the ten hotels.
(e) Represents the adjustment to the income tax provision to reflect the
dispositions using Sunburst's effective tax rate.
(f) Pro forma income before extraordinary items per share is computed by
dividing the pro forma income before extraordinary items by the weighted
average number of common shares outstanding totaling 15,644,000 for the
nine-months ending September 30, 2000 and 19,246,000 for the year ending
December 31, 1999.
64
MARKET FOR SUNBURST'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Common Stock Market Price Information
Sunburst's common stock is traded on the New York Stock Exchange under the
symbol "SNB." The following table shows, for the quarters indicated, the range
of bid prices for Sunburst Hospitality Corporation's common stock as reported
by the New York Stock Exchange.
Sunburst Hospitality
Corporation's Common
Stock
---------------------
High Low
---------- ----------
Fiscal Year ending December 31, 2000
Quarter ended March 31, 2000............................ 5 3/4 4 1/2
Quarter ended June 30, 2000............................. 5 1/8 4 1/8
Quarter ended September 30, 2000........................ 6 15/16 4 3/8
October 1, 2000-December 7, 2000........................ 7 1/8 6 11/16
Fiscal Year ended December 31, 1999
Quarter ended March 31, 1999............................ 5 1/8 3 3/4
Quarter ended June 30, 1999............................. 6 3/16 3 7/8
Quarter ended September 30, 1999........................ 6 3/4 5 5/8
Quarter ended December 31, 1999......................... 6 1/4 4 7/8
Fiscal Year ended December 31, 1998
Quarter ended March 31, 1998............................ 9 15/16 8 1/4
Quarter ended June 30, 1998............................. 9 5 3/8
Quarter ended September 30, 1998........................ 6 7/8 3
Quarter ended December 31, 1998......................... 4 3/4 4 7/16
On September 19, 2000, the last full trading day prior to the public
announcement of the Recapitalization Agreement, the closing price for
Sunburst's common stock on the New York Stock Exchange was $5 5/8. On December
7, 2000, the closing price of the common stock, as reported on the New York
Stock Exchange, was $7 1/8. You are urged to obtain current market quotations
for Sunburst Hospitality Corporation's common stock before making any decision
with respect to the merger.
Dividend Information
On October 15, 1997, Sunburst made a special dividend, consisting of the
distribution to holders of Sunburst's common stock, on a share-for-share
basis, of all of the outstanding shares of the common stock of Choice Hotels
Franchising, Inc. (now known as Choice Hotels International, Inc.). This was
the only dividend paid since November 4, 1996. Sunburst does not anticipate
the payment of any cash dividends on its common stock in the foreseeable
future. Although there are currently no express limitations on the payment of
dividends, payments of dividends on Sunburst's common stock may be subject to
limitations as may be imposed by Sunburst's credit facilities from time to
time. The declaration of dividends will be subject to the discretion of the
Board of Directors.
Following the recapitalization, the ability of Sunburst to pay dividends
will be limited by the maintenance covenants in the senior secured credit
facilities. The commitment letter provides that the term loan facility and the
revolving credit facility will include negative covenants relating to, among
other things limitations on dividends and other payments in respect of capital
stock. See "Special Factors--Financing of the Recapitalization--Covenants."
As of December 5, 2000, there were approximately 1,724 record holders of
Sunburst's common stock.
65
Common Stock Purchase Information
The following table sets forth the common stock purchases by Sunburst over
the last two years. Sunburst has not made any purchases since first quarter
2000, and it did not make any purchases before third quarter 1998.
Per Share
------------------------
Number of Cost of Range
Shares Shares ----------------
Quarter Ended Acquired Acquired Hi Low Average
------------- --------- ----------- ------- -------- -------
September 30, 1998............... 27,111 $ 111,344 $4 3/8 $4 1/16 $4.11
December 31, 1998................ 513,314 2,139,137 4 9/16 3 11/16 4.17
March 31, 1999................... 405,700 1,787,764 4 3/4 4 1/4 4.41
June 30, 1999.................... 106,000 491,270 5 9/16 4 1/4 4.63
September 30, 1999............... 342,494 2,049,847 6 1/2 5 11/16 5.99
December 31, 1999................ 4,515,265 22,882,383 5 7/8 5 5.07
March 31, 2000................... 90,000 461,250 5 1/8 5 1/8 5.13
--------- -----------
Totals......................... 5,999,884 $29,922,995
========= ===========
The following table sets forth stock purchases by the Schedule 13E-3 filing
persons within the last two years. No sales of stock by these persons were made
during the 60 days before this proxy statement.
Purchaser Date # of Shares Price/Share
--------- -------- ----------- -----------
James MacCutcheon.............................. 12/03/98 100 $ 4.00
James MacCutcheon.............................. 12/11/98 2,500 $ 4.00
James MacCutcheon*............................. 9/6/00 19,718 $1.7871
Stewart Bainum*................................ 9/28/00 334 $6.1680
Stewart Bainum, Jr.*........................... 10/2/00 15,000 $1.7871
- --------
* These shares represent purchases made pursuant to the exercise of previously
awarded stock options that were about to expire.
Sunburst and the continuing stockholders have agreed that the continuing
stockholders may, beginning 20 days after the mailing of this proxy statement,
purchase shares of Sunburst common stock in privately negotiated transactions.
66
DIRECTORS AND EXECUTIVE OFFICERS
Directors of Sunburst
The Board of Directors of Sunburst Hospitality Corporation is divided into
three classes--Class I, Class II and Class III. This classification indicates
when each Director's term of office will expire. The term of office for Class I
Directors will expire in 2003. The term of office for Class II Directors will
expire in 2001. The term of office for Class III Directors will expire in 2002.
Set forth below is each Director's name, age, length of service on the Board
of Directors, present principal occupation, recent employment history, and any
other current Directorships.
The business address of each Director is 10770 Columbia Pike, Silver Spring,
Maryland 20901.
Stewart Bainum, Jr., 54, has been Chairman of the Board of Sunburst from
November 1996 to July 1998 and since December 1998. Mr. Bainum was also a
member of the Board of Sunburst's predecessors from 1982 to July 1998, Chairman
of the Board of Choice Hotels International, Inc. from March 1987 to November
1996 and since October 1997. Mr. Bainum has been Chairman of the Board of Manor
Care since September 1998, Chairman of the Board and Chief Executive Officer of
Manor Care and Manor Care Health Services, Inc. from March 1987 to September
1998, Chief Executive Officer of Manor Care since March 1987 and President
since June 1989. He has also been Vice Chairman of the Board of Vitalink since
December 1994; Director of Manor Care since August 1981, of Vitalink since
September 1991 and of MCHS since 1976. Mr. Bainum will continue in his position
as Chairman of the Board and will continue to hold his equity interests in
Sunburst after the merger. See "The Recapitalization and Related Agreements--
Exchange and Voting Agreement."
Paul A. Gould, 55, Managing Director of Allen & Company Incorporated
(investment banking firm) for more than five years. Mr. Gould also held other
positions at Allen & Company Incorporated since 1973. He has been Director of
Sunburst since November 1996. Mr. Gould also serves as a Director of Liberty
Media Corporation and On-Command Corp. Class II Director.
Donald J. Landry, 51, has been Co-Chief Executive Officer since September
20, 2000. He has been President of Sunburst since July 1999 and Vice Chairman
of Sunburst since October 1997. He was Chief Executive Officer from October
1997 to September 2000, President of Choice Hotels International, Inc. from
January 1995 to October 1997 and President of Manor Care Hotel Division from
March 1992 to November 1996. As a result of the merger and pursuant to a new
employment agreement, Mr. Landry will resign as Chief Executive Officer and
Director of Sunburst. All of Mr. Landry's options and restricted stock will be
cashed out in the merger. Class III Director. See "Special Factors--Conflicts
of Interest of Certain Persons in the Recapitalization--Employment and Related
Agreements."
Leland C. Pillsbury, 53, Founder, Chairman and CEO of Thayer Lodging Group,
Inc. (one of the 10 largest private owner/developer of hotels in the U.S.) He
has held those positions with Thayer since 1989. Mr. Pillsbury also has been a
Director of Sunburst since April 1999. Class III Director.
Keith B. Pitts, 42, has been a member of the Board of Sunburst since
November 1997. Executive Vice President, Vanguard Heath Systems from July 1999
to present; Chairman and Chief Executive Officer of the Mariner Post-Acute
Network, Inc. from November 1997 to June 1999; Consultant to Apollo from August
1997 to November 1997; Consultant to Tenet Healthcare Corp. from February 1997
to August 1997; Executive Vice President and Chief Financial Officer of OrNda
Health Corp. from August 1992 until its merger with Tenet in January 1997.
Class I Director.
Carole Y. Prest, 48, has been a member of the Board of Sunburst since
November 1997. Principal, Heidrick & Struggles International, Inc. since August
2000; President, Maridea LLC, a strategy consulting firm, from December 1998 to
present; Senior Vice President, Strategy, Marketing and Product Development for
Manor Care from September 1997 to November 1998; President and Chairman of the
Board, Manor Care
67
Foundation, April 1997 to November 1998; Vice President, Corporate Strategic
Planning, September 1995, through September 1997; Vice President and General
Manager and various other positions at Genrad 1985 through 1994. Director:
Board of Advisors, Integrated Healthcare Networks; Washington, D.C. Board of
Governors, Operation Smile; and Greater Washington Board of Directors,
Arthritis Foundation. Class I Director.
Christine A. Shreve, 42, has been a member of the Board of Sunburst since
June 1998. Ms. Shreve also has served as President, Shreve, Bowersox, P.C., an
independent accounting firm, since 1992. Director: Realty Investment Company.
Class I Director.
Executive Officers of Sunburst
The name, age, title, present principal occupation, business address and
other material occupations, positions, offices and employment of each of the
executive officers of Sunburst are set forth below. Each of the executive
officers listed below except Donald J. Landry, Douglas H. Verner and Gregory D.
Miller, are continuing stockholders. The business address of each executive
officer is 10770 Columbia Pike, Silver Spring, Maryland 20901, unless otherwise
indicated. For a discussion of employment agreements that will be entered into
with certain members of management after the recapitalization. See "Special
Factors--Arrangements with Continuing Stockholders--Employment and Related
Agreements."
Name Age Position
---- --- --------
Donald J. Landry........ 51 Vice Chairman, Co-Chief Executive Officer and President
James A. MacCutcheon.... 48 Co-Chief Executive Officer
Kevin P. Hanley......... 42 Executive Vice President and Chief Operating Officer
Gregory D. Miller....... 47 Senior Vice President, Marketing and Human Resources
Douglas H. Verner....... 46 Senior Vice President, General Counsel & Secretary
Charles G. Warczak, 52 Senior Vice President and Chief Financial Officer and Treasurer
Jr. ...................
Pamela M. Williams...... 45 Vice President, Assistant General Counsel and Assistant Secretary
Donald J. Landry. Mr. Landry has been Co-Chief Executive Officer since
September 20, 2000. He has been President of Sunburst since July 1999 and Vice
Chairman of Sunburst since October 1997. He was Chief Executive Officer from
October 1997 to September 2000, President of Choice Hotels International, Inc.
from January 1995 to October 1997 and President of Manor Care Hotel Division
from March 1992 to November 1996. Mr. Landry has also held various executive
positions with Richfield Hotel Management, Inc. and its predecessors for more
than 16 years, including President of MHM Corporation. As a result of the
merger and pursuant to a new employment agreement, Mr. Landry will resign as
Chief Executive Officer and Director of Sunburst. Mr. Landry will act as Co-
Chief Executive Officer for a period of 60 days beginning September 20, 2000.
See "Special Factors--Arrangements with Continuing Stockholders--Employment and
Related Agreements."
James A. MacCutcheon. Mr. MacCutcheon has been Co-Chief Executive Officer of
Sunburst since September 20, 2000. He was Chief Financial Officer and Treasurer
of Sunburst from November 1996 through September 20, 2000; Executive Vice
President from November 1996 to September 2000; and Senior Vice President,
Chief Financial Officer and Treasurer of Sunburst from September 1993 to
November 1996. Mr. MacCutcheon was also Senior Vice President, Chief Financial
Officer and Treasurer of Manor Care, Inc. from October 1987 through November
1996, Treasurer of Vitalink from September 1992 to January 1997 and a Director
of Vitalink from September 1994 to June 1998. Prior to 1987, Mr. MacCutcheon
was a partner with Arthur Andersen & Co. On September 20, 2000, Mr. MacCutcheon
was elected by the Board of Directors to the position of Co-Chief Executive
Officer and will become President and Chief Executive Officer on November 19,
2000.
68
Kevin P. Hanley. Mr. Hanley has been Executive Vice President and Chief
Operating Officer of Sunburst since September 20, 2000. Before that, he was
Senior Vice President, Development and Extended-Stay of Sunburst from June 1999
to September 2000 and Vice President, Real Estate and Development of Sunburst
from December 1994 to June 1999. Mr. Hanley was also Vice President, Real
Estate and Development of MCHD from December 1994 to November 1996, Executive
Vice President of Hospitality Investment Trust from September 1994 to November
1994, and has held various positions with Motel 6, L.P. since January 1987. On
September 20, 2000, Mr. Hanley was elected by the Board of Directors to the
position of Executive Vice President, Chief Operating Officer.
Gregory D. Miller. Mr. Miller has been Senior Vice President, Marketing and
Human Resources of Sunburst since June 1999 and Senior Vice President, Human
Resources from October 1997 to June 1999. Mr. Miller was also Vice President,
Marketing of MCHS from March 1995 to October 1997.
Douglas H. Verner. Mr. Verner has been Senior Vice President, General
Counsel and Secretary of Sunburst since March 1998. He was also Executive Vice
President, General Counsel and Secretary of Chartwell Leisure Inc. from January
1996 to March 1998 and Senior Vice President, General Counsel and Secretary of
Forte Hotels, Inc. from November 1990 to November 1996. Mr. Verner will resign
effective upon the closing of the transaction.
Charles G. Warczak, Jr. Mr. Warczak has been Senior Vice President, Chief
Financial Officer and Treasurer since September 20, 2000. Before that, Mr.
Warczak was Vice President, Finance and Systems of Sunburst October 1997 to
September 2000, Vice President, Hotel Accounting of Sunburst from March 1997 to
October 1997 and Vice President, Finance and Controller of Sunburst from
November 1996 to March 1997. Mr. Warczak was also Vice President, Finance of
Manor Care from 1992 to November 1996. On September 20, 2000, Mr. Warczak was
elected by the Board of Directors to the position of Senior Vice President,
Chief Financial Officer & Treasurer.
Pamela M. Williams. Ms. Williams has been Vice President, Assistant General
Counsel and Assistant Secretary of Sunburst since October 1997, Senior Attorney
of Sunburst from December 1996 to October 1997 and Attorney from November 1996
to December 1996. Ms. Williams was also Attorney of Manor Care from December
1995 to November 1996 and an Associate at Hogan and Hartson, L.L.P. from August
1988 to December 1995. Ms. Williams will become the Senior Vice President,
General Counsel and Secretary effective upon the closing of the transaction.
Nova Finance Company LLC
Set forth below is the name of each member of Nova, the present principal
occupation and employment of each such member and a brief description of his
principal occupation and business experience during at least the last five
years. Each member of Nova has been a member of Nova since it was formed in
July 2000. Each person listed below is a citizen of the United States. The
business address for Messrs. Bainum and MacCutcheon is 7361 Calhoun Place,
Suite 300, Rockville, MD 20855 and the telephone number at that address is
(301) 592-3803.
Stewart W. Bainum, Jr. Mr. Bainum has been Chairman of the Board of Sunburst
from November 1996 to July 1998 and since December 1998. Mr. Bainum was also a
member of the board of Sunburst's predecessors from 1982 to July 1998, Chairman
of the Board of Choice Hotels International, Inc. from March 1987 to November
1996 and since October 1997. Mr. Bainum has been Chairman of the Board of Manor
Care since September 1998, Chairman of the Board and Chief Executive Officer of
Manor Care and Manor Care Health Services, Inc. ("MCHS") from March 1987 to
September 1998, Chief Executive Officer of Manor Care since March 1987 and
President since June 1989. He has also been Vice Chairman of the Board of
Vitalink Pharmacy Services, Inc. ("Vitalink") since December 1994; Director of
Manor Care since August 1981, of Vitalink since September 1991 and of MCHS
since 1976.
69
James A. MacCutcheon. Mr. MacCutcheon has been Co-Chief Executive Officer of
Sunburst since September 20, 2000, Executive Vice President, Chief Financial
Officer and Treasurer of Sunburst from November 1996 to September 2000 and
Senior Vice President, Chief Financial Officer and Treasurer of Sunburst from
September 1993 to November 1996. Mr. MacCutcheon was also Senior Vice
President, Chief Financial Officer and Treasurer of Manor Care from October
1987 through November 1996, Treasurer of Vitalink from September 1992 to
January 1997 and a Director of Vitalink from September 1994 to June 1998.
70
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Relationship with Manor Care
Stewart Bainum, Jr. is the Chairman of Sunburst's Board of Directors and of
Manor Care's Board of Directors.
Manor Care Lease Agreements
Sunburst was part of Manor Care, Inc. ("Manor Care") until November 1, 1996,
when the stock of Sunburst was distributed as a dividend to Manor Care
stockholders. That distribution is referred to as the Manor Care Spin-off.
In connection with the Manor Care Spin-off, Sunburst and Manor Care entered
into a lease agreement with respect to the complex at 10750 and 10770 Columbia
Pike, Silver Spring, Maryland (the "Silver Spring Complex") at which Sunburst's
principal executive offices were located (the "Silver Spring Lease"). After the
Spin-off, Sunburst remained obligated under the Silver Spring Lease and had
subleased space at 10750 Columbia Pike to Choice Hotels International, Inc.
("Choice") pursuant to a sublease. In June 1998, Manor Care sold the Silver
Spring Complex and Sunburst entered into a new lease with the new owner. The
sublease was terminated.
Sunburst and Manor Care also entered into a sublease agreement with respect
to certain office space in Gaithersburg, Maryland (the "Gaithersburg Lease")
pursuant to which Sunburst was obligated to rent from Manor Care, certain
additional space as such space became available during the 30-month period
following the date of the Manor Care Spin-off. The Gaithersburg lease was
terminated in February 1999.
In addition, at the time of the Manor Care Spin-off, the parties entered
into a sublease agreement with respect to the Comfort Inn N.W., Pikesville,
Maryland, pursuant to which Sunburst subleases the property from Manor Care on
the same terms and conditions that govern Manor Care's rights and interests
under the lease relating to such property. No payments are made to Manor Care
under the sublease.
During the twelve-month period ended December 31, 1999, Sunburst paid to
Manor Care $4,000,000. The $4,000,000 payment consisted of (1) $1,500,000 for
sums due pursuant to the Gaithersburg and Silver Spring Leases for the period
ending February 1999; (2) $1,500,000 under the Corporate Services Agreement for
risk management, benefits, travel, payroll, computer, telephone and procurement
services; and (3) $1,000,000 for the fixed annual consulting fee. In February
1999, Sunburst entered into a release with Manor Care which effectively
terminated the consulting services payment obligation and all other sums that
were due under the Corporate Services Agreement.
Corporate Services Agreement
Sunburst and Manor Care entered into the Corporate Services Agreement (the
"Corporate Services Agreement") which provides for the provision, by Manor
Care, of certain corporate services, including administrative, accounting,
systems and, for a fixed annual fee of $1.0 million, certain consulting
services. The term of the Consulting Services Agreement is 30 months from
November 1, 1996. Sunburst terminated all services except the consulting
services under the Corporate Service Agreement in the first quarter of 1998. In
February 1999, Sunburst entered into a release with Manor Care that effectively
terminated the consulting services payment obligation.
Relationship with Choice
On October 16, 1997, Sunburst distributed as a dividend to its stockholders
the stock of Choice Hotels. That distribution is known as the Choice Spin-off.
In connection with the Choice Spin-off, Sunburst and Choice entered into
certain agreements intended to govern the relationship between the parties
after the Choice Spin-off. In addition, Sunburst is Choice's largest
franchisee. The material terms of certain of these agreements and
71
other arrangements, entered into between Sunburst and Choice, including the
Franchise Agreements with respect to Sunburst's hotels, are described below.
Stewart Bainum, Jr. serves as Chairman of the Boards of Directors of both
Sunburst and Choice. As a result of the Choice Spin-off, Mr. Bainum and certain
other officers and directors of Sunburst and Choice, own shares and/or options
or other right to acquire shares in each of Sunburst and Choice. Appropriate
policies and procedures are followed by the Boards of Directors of Choice and
Sunburst to limit the involvement of the overlapping directors (and, if
appropriate, relevant officers of such companies) in conflict situations,
including requiring them to abstain from voting as directors of either Choice
or Sunburst on certain matters which present a conflict between the two
companies.
Distribution Agreement
In connection with the Choice Spin-off, Sunburst and Choice entered into a
Distribution Agreement which provided for, among other things, the principal
corporate transactions required to effect the Choice Spin-off, the assumption
by Choice of all liabilities relating to its business and the allocation
between Sunburst and Choice of certain other liabilities, certain
indemnification obligations of Sunburst and Choice and certain other agreements
governing the relationship between Sunburst and Choice with respect to or in
consequence of the Choice Spin-off.
Subject to certain exceptions, Choice has agreed to indemnify Sunburst and
its subsidiaries against any loss, liability or expense incurred or suffered by
Sunburst or its subsidiaries arising out of or related to the failure by Choice
to perform or otherwise discharge liabilities allocated to and assumed by
Choice under the Distribution Agreement, and Sunburst has agreed to indemnify
Choice against any loss, liability or expense incurred or suffered by Choice
arising out of or related to the failure by Sunburst to perform or otherwise
discharge the liabilities retained by Sunburst under the Distribution
Agreement. The foregoing cross-indemnities do not apply to indemnification for
tax claims and liabilities, which are addressed in the Tax Sharing Agreement
described below.
To avoid adversely affecting the intended tax consequences of the Choice
Spin-off, each of Choice and Sunburst has agreed to comply in all material
respects with each representation and statement made to any taxing authority in
connection with the IRS tax ruling or any other tax ruling obtained by Choice
and Sunburst in connection with the Choice Spin-off.
Under the Distribution Agreement, each of Choice and Sunburst has been
granted access to certain records and information in the possession of the
other, and it requires the retention of such information in its possession for
specified periods and thereafter requires that each party give the other prior
notice of its intention to dispose of such information. In addition, the
Distribution Agreement provides for the allocation of shared privileges with
respect to certain information and requires each of Choice and Sunburst to
obtain the consent of the other prior to waiving any shared privilege.
In accordance with the Distribution Agreement, Choice agreed to assume and
pay certain liabilities of Sunburst, subject to Choice maintaining a minimum
net worth of $40 million, at the date of the Choice Spin-off. As of December
31, 1997, Sunburst reflected a $19.9 million payable due to Choice on its
consolidated balance sheet plus other accounts payable to Choice of
approximately $5.1 million. In 1998, net payments of approximately $8 million
were paid in cash to Choice. On December 28, 1998, Sunburst and Choice amended
the Strategic Alliance Agreement (defined below). As part of that amendment,
Choice exchanged the remaining $17 million balance in return for, among other
things, the termination of Sunburst's option for the exclusive rights to the
MainStay Suites brand and a commitment by Sunburst to build a total of 25
MainStay Suites.
Strategic Alliance Agreement
At the time of the Choice Spin-off, Choice and Sunburst entered into a
Strategic Alliance Agreement pursuant to which: (i) Sunburst granted a right of
first refusal to Choice to franchise any lodging property that
72
Sunburst develops or acquires and intends to operate under franchise; (ii)
Sunburst has also agreed, barring a material change in market conditions, to
continue to develop Sleep Inns and MainStay Suites hotels so that it will have
opened a total of 14 Sleep Inns and 15 MainStay Suites hotels by October 15,
2001 (48 months after the Distribution Date); (iii) Choice has granted to
Sunburst an option, exercisable under certain circumstances, to purchase the
brand names, marks, franchise agreements and other assets of the MainStay
Suites hotel system; (iv) Choice and Sunburst have agreed to continue to
cooperate with respect to matters of mutual interest, including new product and
concept testing for Choice in hotels owned by Sunburst; and (v) Sunburst has
authorized Choice to negotiate with third party vendors on Sunburst's behalf
for the purchase of certain items. The Strategic Alliance Agreement extends for
a term of 20 years. Either party had the right to terminate the Strategic
Alliance Agreement on its fifth, tenth, and fifteenth anniversaries.
On December 28, 1998, Choice and Sunburst amended the Strategic Alliance
Agreement to: (i) cancel Sunburst's option to acquire the MainStay Suites
system; (ii) reduce or eliminate liquidated damages with respect the
termination of franchise agreements entered into before December 12, 1998
(except for MainStay Suites and Sleep Inn franchise agreements); (iii) cap
liquidated damages for termination of MainStay Suites and Sleep Inn franchise
agreements; (iv) change Sunburst's development obligations to 13 Sleep Inns and
21 MainStay Suites by October 15, 2001; and (v) provide certain other global
amendments to Sunburst's franchise agreements.
On February 29, 2000, Choice and Sunburst again amended the Strategic
Alliance Agreement to (i) clarify that liquidated damages in the event of
termination of the MainStay Suites and Sleep Inn license agreements would be
$100,000; (ii) prevent Sunburst from terminating the MainStay Suites license
agreements before October 15, 2002; (iii) provide Sunburst a credit for
MainStay Suites franchise fees if certain financial performance criteria are
not achieved by Sunburst's MainStay Suites as a group; (iv) terminate the Non-
Competition Agreement (discussed below) between Choice Hotels and Sunburst; (v)
eliminate Choice's right of first refusal on Sunburst hotels; (vi) permit
Sunburst to build non-Choice branded hotels provided that expenditure on those
hotels does not exceed expenditure on the last four MainStay Suites hotels
Sunburst has committed to build; (vii) provide a put/call option for Choice to
acquire three of Sunburst's poorer performing MainStay Suites hotels in 2000 at
a price equal to Sunburst's original cost, with the proceeds used to reduce the
balance of Sunburst's term note to Choice, and (viii) provide for payment in
full of the term note in the event of a change in control of Sunburst.
Amended and Restated Strategic Alliance Agreement
An Amended and Restated Strategic Alliance Agreement will become effective
upon closing of the recapitalization. The Amended and Restated Strategic
Alliance Agreement will provide that, until October 15, 2002, Sunburst shall
give Choice written notice at least fourteen days prior to executing a
franchise application with a third party with respect to the franchising of a
hotel or lodging property. Choice shall have the opportunity to present
Sunburst with a plan to brand the hotel or lodging property with one of its
brands, provided that Sunburst shall have no obligation to enter into an
agreement with Choice to use any of its brands on the hotel or lodging
property. In addition, in the event any Choice-branded Sunburst hotel is sold
prior to October 15, 2002, the property improvement plan for any such hotel
imposed by Choice as a condition for relicensing will be essentially limited to
items necessary to pass Choice's quality assurance review. Accordingly, passing
hotels will be subject to a minimal or no property improvement plan, and
failing hotels will be subject to correcting only those items that caused the
quality assurance review failure.
The Amended and Restated Strategic Alliance Agreement will provide that the
following properties shall be included in the 21 MainStay Suites hotels
comprising the "MainStay quota," notwithstanding Sunburst's transfer of such
hotels:
. the three MainStay Suites properties previously transferred to Choice
pursuant to a put-call agreement between Sunburst and Choice;
. two other MainStay Suites properties identified and as agreed by the
parties; and
73
. any MainStay Suites property sold, transferred or conveyed by Sunburst,
if such property is relicensed by the new owner or transferee as a
MainStay Suites property under market terms acceptable to Choice.
In addition, the Amended and Restated Strategic Alliance Agreement will
provide that if Sunburst completes the construction of any new hotel properties
on or prior to October 15, 2003, the first four (or such lesser number as are
constructed) of such newly constructed hotel properties will be branded with a
Choice brand.
Amendment and Guaranty
In connection with the Choice Spin-off, Choice entered into the Amendment
and Guaranty for the purpose of adding Choice as a party to certain agreements
entered into between Sunburst and Manor Care in connection with the Manor Care
Spin-off and adding Choice as a guarantor of certain payment obligations of
Sunburst to Manor Care pursuant to agreements between Sunburst and Manor Care.
Virtually all these obligations have now been satisfied.
Term Note
In connection with the Choice Spin-off, Choice loaned to Sunburst
approximately $115 million which was used by Sunburst to repay approximately
$96 million outstanding under a pre-existing credit facility and to repay that
portion of the former choice indebtedness under a note to Manor Care allocated
to Sunburst in connection with the Manor Care Spin-off (approximately $37
million).
This loan is represented by the Choice Subordinated Note in an aggregate
principal amount of $139.7 million as of December 4, 2000. The Choice
Subordinated Note matures in October 2002 and accrues interest at a rate equal
to 11% per annum. The Choice Subordinated Note is subordinated to all senior
debt of Sunburst and contains certain restrictive covenants comparable to those
contained in Sunburst's senior credit facility (including restrictions on
Sunburst's ability to make certain investments, incur debt, pay dividends,
dispose of assets and create liens on its assets).
The Choice Subordinated Note will be refinanced in connection with the
recapitalization. See "Special Factors--Financing of the Recapitalization--
Heads of Agreement."
Corporate Services Agreement
In connection with the Choice Spin-Off, Sunburst and Choice entered into a
Corporate Services Agreement, which provides that Choice will provide to
Sunburst certain corporate support services, including human resources,
accounting, tax and computer systems support, and Sunburst will provide to
Choice certain services including asset management and accounts payable
processing. As of March 31, 1999, all services provided by either party under
the Corporate Services Agreement, except for human resources and tax services
provided by Choice, were terminated. During fiscal year 1999, Choice paid
Sunburst $42,165.00 and Sunburst paid Choice $494,004.00 for services under the
Corporate Services Agreement.
Consulting Agreement
In connection with the Choice Spin-Off, Sunburst and Choice entered into a
Consulting Agreement in which Sunburst will provide consulting and advisory
services to Choice related to financial issues affecting Choice. The term of
the agreement commenced October 15, 1997 and terminates on November 1, 2001.
Sunburst is entitled to an annual retainer fee equal to 30% of the annual
compensation (including base salary, incentive bonus and fringe benefits) paid
to James A. MacCutcheon by Sunburst during such period. If Mr. MacCutcheon
ceases to be employed by Sunburst, the agreement can be terminated by either
party, but if terminated by Choice, then Choice shall pay Sunburst a
termination fee equal to 30% of any amount due from Sunburst to Mr. MacCutcheon
under his employment agreement as a result of his separation. During fiscal
year 1999, Choice paid Sunburst $157,726 pursuant to the Consulting Agreement.
74
Tax Sharing Agreement
Choice and Sunburst have entered into a Tax Sharing Agreement for purposes
of allocating tax liabilities from before the Choice Spin-off among Choice and
Sunburst and their respective subsidiaries. In general, Sunburst will be
responsible for (i) filing consolidated federal income tax returns for Sunburst
affiliated group and combined or consolidated state tax returns for any group
that includes a member of Sunburst affiliated group, including in each case
Choice and its subsidiaries, for the periods of time that such companies were
members of the applicable group and (ii) paying the taxes relating to such tax
returns to the applicable taxing authorities (including any subsequent
adjustments resulting from the redetermination of such tax liabilities by the
applicable taxing authorities). Choice will reimburse Sunburst for the portion
of such taxes that relates to Choice and its subsidiaries, as determined based
on their hypothetical separate Sunburst income tax liabilities. Choice and
Sunburst have agreed to cooperate with each other, and to share information, in
preparing such tax returns and in dealing with other tax matters.
Employee Benefits Allocation Agreement
In connection with the Choice Spin-off, Choice and Sunburst entered into an
Employee Benefits and Other Employment Matters Allocation Agreement (the
"Employee Benefits Allocation Agreement"). The Employee Benefits Allocation
Agreement provides for the allocation subsequent to the Choice Spin-off of
employee benefits, as they relate to employees who remained employed by
Sunburst or its subsidiaries ("Sunburst Employees") after the Spin-off and
employees who are employed by Choice or its subsidiaries after the Spin-off
("Choice Employees"). Pursuant to the Employee Benefits Allocation Agreement,
Sunburst will continue sponsorship of the various Sunburst profit sharing
plans, stock plans and health and welfare plans with respect to Sunburst
Employees. Choice has established a number of plans that allow it to provide to
its employees substantially the same benefits currently provided to them as
employees of Sunburst. The Employee Benefits Allocation Agreement provides for
cross-guarantees between Choice and Sunburst with respect to the payment of
benefits under certain plans and for cross-indemnification with respect to
employment-related claim relating to prior to the Choice Spin-off.
The Employee Benefits Allocation Agreement also provided for the adjustment
of outstanding options to purchase shares of Sunburst common stock held by
Sunburst employees, Choice employees and employees of Manor Care who held such
options as a result of the Manor Care Spin-off.
Transitional Service Agreements
In connection with the Choice Spin-Off, Choice and Sunburst entered into a
number of agreements pursuant to which Choice provided certain continuing
services to Sunburst for a transitional period. Such services were provided on
market terms and conditions. The primary transitional services agreements were
an Employee Benefits Administration Agreement and a Tax Administration
Agreement. Pursuant to the Employee Benefits Administration Agreement, Choice
provided certain benefits, compensation and other services. The other services
included benefit plan administration and accounting, COBRA administration,
regulatory compliance and certain fiduciary services. Pursuant to the Tax
Administration Agreement, Choice provided certain sales, use, occupancy, and
personal property tax return administration, audit and appeals services for
Sunburst. All of these service agreements were terminated as of December 31,
1999.
Franchise Agreements
The Clarion, Comfort, Econo Lodge, Sleep Inn, Quality, MainStay Suites and
Rodeway marks are each owned by Choice. Each hotel property owned by Sunburst
is subject to a franchise agreement between Choice and Sunburst, as franchisee
(the "Franchise Agreements"). (The material terms of such agreements are
described below.) Total fees paid to Choice for franchising, royalty, marketing
and reservation fees for fiscal year 1999 were $10.2 million. Choice and
Sunburst will amend the Franchise Agreements at closing of the recapitalization
as described under "Amendments to Franchising Agreements," below.
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Term. Each Franchise Agreement has an initial term of 20 years, except the
agreement for the Rodeway Inn in Tempe, Arizona, which is a year-to-year
agreement. The Rodeway Inn was sold in September 1999. The Franchise Agreements
have varying original dates, from 1982 through 1996. Certain Franchise
Agreements allow for unilateral termination by either party on the 5th, 10th,
or 15th anniversary of the Franchise Agreement. In addition, all franchise
agreements allow for early termination by Sunburst, subject to liquidated
damage provisions, which range from zero dollars to a maximum of $100,000 per
property.
Termination by Sunburst. Sunburst (except with respect to one property as
described below) may terminate a Franchise Agreement if Choice defaults on its
material obligations under such Franchise Agreement and fails to cure such
defaults within 30 days following written notice. The Franchise Agreement with
respect to the Quality Hotel--Arlington (the "Non-Standard Franchise
Agreement") does not allow such a termination.
Termination by Choice. Choice (except with respect to the Non-Standard
Franchise Agreement) may suspend or terminate a Franchise Agreement at any
time, if, among other things, Sunburst (a) fails to submit reports when due;
(b) fails to pay amounts due under such Franchise Agreement; (c) fails to pay
its debts generally as they become due; or (d) receives two or more notices of
default for similar reasons for any 12 month period. Choice (except with
respect to the Non-Standard Franchise Agreement) may terminate a Franchise
Agreement immediately upon notice to Sunburst if, among other things, (a)
certain bankruptcy events occur with respect to Sunburst; (b) Sunburst loses
possession or the right to possession of the Property; (c) Sunburst breaches
transfer restrictions in the related Franchise Agreement; (d) any action is
taken to dissolve or liquidate Sunburst; or (e) there is a threat or danger to
the public health and safety in the continued operation of the Property.
The Non-Standard Franchise Agreement has termination provisions similar to
those in the other Franchise Agreements. Choice may terminate the Non-Standard
Franchise Agreement immediately upon notice to Sunburst if, among other things,
(a) certain bankruptcy events occur with respect to Sunburst; (b) certain
breaches of the related agreements are not remedied; (c) any action is taken to
dissolve or liquidate Sunburst; or (d) legal proceedings against Sunburst are
not dismissed within a certain period of time.
Fees. The Franchise Agreements require the payment of certain fees and
charges, including the following: (a) a royalty fee of between 1.93% to 5.0% of
monthly gross room revenues; (b) a marketing fee of between 0.7% and 2.5% plus
$0.28 per day multiplied by the specified room count; and (c) a reservation fee
of 0.88% to 1.75% of monthly gross room revenues (or 1% of monthly gross room
revenues plus $1.00 per room confirmed through Choice's reservation system).
The marketing fee and the reservation fee are subject to reasonable increases
during the term of the franchise if Choice raises such fees uniformly among all
its franchisees, generally. Late payments (i) will be a breach of the Franchise
Agreement and (ii) will accrue interest from the date of delinquency at a rate
of 1.5% per month or portion thereof.
In December 1998, Sunburst and Choice entered into an agreement which
provides that (i) Sunburst shall pay an application fee of $20,000 on all
future MainStay Suites franchise agreements, and (ii) no royalties, marketing
or reservation fees shall be payable for a period of two years for the next ten
MainStay Suites franchise agreements entered into after the amendment.
Certain Covenants. The Franchise Agreements impose certain affirmative
obligations upon Choice including: (a) to lend the Franchisee an operations
manual; (b) to utilize money collected from marketing and reservation fees to
promote those aspects of the franchise business; and (c) to periodically
inspect the Property. The Franchise Agreements also impose affirmative
obligations upon Sunburst including: (a) to participate in a specified
reservation system; (b) to keep and comply with the up-to-date version of
Choice's rules and regulations for properly running the specified franchise;
(c) to prepare monthly financial and other records; (d) to not interfere with
the franchised mark(s) and Choice's rights thereto; and (e) to maintain certain
specified insurance policies.
Assignments. Sunburst is currently prohibited from directly or indirectly
selling, assigning, transferring, conveying, pledging or mortgaging its
interest in the Franchise Agreement, or any equity interest in such
76
franchise interests without the consent of Choice except that, among other
things, certain percentages of ownership interests in Sunburst may be
transferred without Choice's consent. Choice's consent to such transfers, will
not be given unless, among other things: (a) all monetary obligations due under
the Franchise Agreement are paid to Choice; (b) no defaults under the Franchise
Agreement remain uncured; (c) the transferee agrees in writing to upgrade the
related property to the then-current standards; and (d) the transferee agrees
to remain liable for all obligations under the Franchise Agreement so
transferred.
Choice is permitted to assign all or any part of its rights or obligations
under the Franchise Agreements. However, the Franchise Agreements (with the
exception of the Non-Standard Franchise Agreement) do not permit Choice to
absolve itself from the obligations that it transfers under the Franchise
Agreement. Upon the assignment of Choice's obligations under the Non-Standard
Franchise Agreement, Choice will no longer be liable with respect to the
obligations it so transfers.
Amendments to Franchising Agreements
In connection with the recapitalization, Choice and Sunburst expect to amend
the Franchising Agreements as follows.
Liquidated Damages Provision. The amended Franchising Agreements will
provide that all Franchising Agreements by and between Choice and Sunburst (or
any of their respective predecessors or affiliates), except any Franchising
Agreements related to Mainstay Suites and Sleep Inns or any other hotel owned
by Sunburst that carried a Choice brand which is not sold by Sunburst within
three years from the date such hotel was reflagged with a different non-Choice
brand, which are referred to herein as "reflagged hotels," will be amended such
that any references to liquidated damages are deleted. In addition, so long as
Sunburst is not in default under the Senior Subordinated Discount Notes and
Choice remains the holder of such Notes, any liquidated damages to be paid with
respect to any MainStay Suites hotels, Sleep Inns or reflagged hotel will not
exceed a maximum of $100,000.
Reflagging. The amended Franchising Agreements will provide that Sunburst
will not reflag any of the twenty-one MainStay Suites hotels included in the
MainStay quota or seek termination of any related Franchising Agreement or
allow any other brand to be flagged to any such hotel prior to October 15,
2003; provided, however, Sunburst may prior to October 15, 2003 reflag, or
permit the reflagging of, up to two of these properties and may sell, transfer
or convey any such MainStay Suites hotel if such property is relicensed by the
new owner or transferee as a MainStay Suites hotel under market terms
acceptable to Choice. The amended Franchising Agreements will provide that
after October 15, 2003, Sunburst may reflag any MainStay Suites hotels and
terminate any such Franchising Agreement, and Choice shall waive any claim
against Sunburst for damages caused by such reflagging or termination,
including liquidated damages, if Sunburst gives thirty days prior written
notice to Choice and Sunburst pays $100,000 as a termination fee for each
MainStay Suites hotel, other than the two properties referred to above, that is
to be reflagged or for which the Franchising Agreement is to be terminated.
Other Amendments to Franchising Agreements. The amended Franchising
Agreements will provide that Sunburst shall pay to Choice an application fee of
$20,000 upon execution of any new Franchising Agreement with Choice. In
addition, no royalty, marketing or reservation fees shall be payable for a
period of two years with respect to the first ten Franchising Agreements
entered into by Sunburst after December 28, 1998; and at the end of such
period, the initial fee schedule will commence. These ten Franchising
Agreements shall contain a provision permitting termination by either party
only on the tenth or fifteenth anniversary of the date of the contract.
The amended Franchising Agreements will provide that if Sunburst sells any
property that is the subject of an existing Franchising Agreement with Choice:
. if that property is not past due on any fees and is not failing a
quality assurance review, Choice will enter into a new Franchising
Agreement on customary market terms with the buyer (without addendum or
property improvement plan); and
77
. if that property is not past due on any fees but is failing a quality
assurance review, Choice will enter into a Franchising Agreement on
customary market terms with a property improvement plan containing only
those items necessary to pass such quality assurance review.
Franchise Fee Credits. The amended Franchising Agreements will provide that
Choice shall establish an account to serve as a mechanism for administering the
"shortfall balance." The initial amount credited to the shortfall balance shall
be $2,142,887, which represents the amount by which an agreed upon target
cumulative EBITDA for MainStay Suites hotels subject to the MainStay quota
(excluding properties previously sold to Choice) for the period from October 1,
1996 through December 31, 1999 exceeds the actual cumulative EBITDA for such
period. For each year beginning January 1, 2001 until the shortfall freeze
date, as defined below, the shortfall balance shall be adjusted by 50% of the
amount, if any, by which the target cumulative EBITDA for the preceding year
exceeds the actual cumulative EBITDA for such MainStay Suites hotels for such
year. Each year, on or prior to February 15 of such year, Sunburst shall
determine the actual cumulative EBITDA for the preceding year in a manner
consistent with the calculation of the target cumulative EBITDA and whether an
adjustment is warranted and shall deliver written notice thereof to Choice
together with the monthly operating statements for each applicable hotel. From
and after the earlier of October 15, 2003 and the first year in which no
adjustment is required, i.e., the "shortfall freeze date," no further
adjustments shall be determined and the shortfall balance shall thereafter be
zero.
The shortfall balance, if any, shall be applied by Sunburst as a credit
against royalty, reservation and marketing fees payable to Choice as follows:
. first, to fees payable pursuant to the Franchising Agreements related to
the MainStay Suites hotels subject to the MainStay quota for each month
prior to the tenth anniversary of the date of each such Franchising
Agreement; and
. second, to fees payable pursuant to Franchising Agreements for other
MainStay Suites hotels or for any other brand developed by Choice.
Prior to the shortfall freeze date, any remainder of the shortfall balance
shall carry forward until used. From and after the shortfall freeze date, the
shortfall balance shall be zero.
Non-Competition Agreement
In connection with the Choice Spin-Off, Choice and Sunburst entered into a
non-competition agreement that defines the rights and obligations with respect
to certain businesses to be operated by Choice and Sunburst. Under the non-
competition agreement, Sunburst was prohibited from conducting any business
that competes with the franchise business operated by Choice. Sunburst was also
prohibited from acquiring any entity conducting a business that competes with
Choice. During the term of the non-competition agreement, Choice was prohibited
from conducting any business that competes with the business operated by
Sunburst. Choice was also prohibited from acquiring any entity conducting a
business that competes Sunburst.
On February 29, 2000, the Non-Competition Agreement was terminated.
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BENEFICIAL OWNERSHIP OF SUNBURST COMMON STOCK
The following table sets forth the amount of Sunburst's common stock
beneficially owned by (i) each Director of Sunburst, (ii) Sunburst's chief
executive officer and its other four most highly compensated executive
officers, (iii) all officers and Directors of Sunburst as a group and (iv) all
persons who are known by Sunburst to own beneficially more than 5% of
Sunburst's common stock, as of November 22, 2000. Unless otherwise specified,
the address for each of them is 10770 Columbia Pike, Silver Spring, Maryland,
20901.
Shares of
Common Stock Percent of Shares
Name of Beneficial Owner Beneficially Owned Outstanding(1)
- ------------------------ ------------------ -----------------
Stewart Bainum, Jr.+..................... 2,773,896(2) 17.49%
Paul A. Gould............................ 146,322(3) *
Kevin P. Hanley.......................... 164,405(4) 1.04%
Donald J. Landry......................... 925,973(5) 5.84%
James A. MacCutcheon..................... 441,755(6) 2.79%
Gregory Miller........................... 117,072(7) *
Leland C. Pillsbury...................... 11,865(8) *
Keith B. Pitts........................... 11,634(9) *
Carole Y. Prest.......................... 22,016(10) *
Christine A. Shreve...................... 18,656(11) *
All Directors and Officers as a Group (10
persons)................................ 4,624,260(12) 29.15%
Barbara Bainum+.......................... 2,475,706(13) 15.61%
Bruce Bainum+............................ 3,582,340(14) 22.59%
Stewart Bainum+.......................... 3,584,005(15) 22.60%
Roberta Bainum+.......................... 1,805,933(16) 11.39%
Ronald Baron............................. 1,105,960(17) 6.97%
Eric S. Dobbin........................... 893,650(18) 5.63%
- --------
* Less than 1% of class.
+ The Bainum family and affiliated companies together control approximately
44.59% of Sunburst stock.
(1) Percentages are based on 15,861,483 shares outstanding on November 22,
2000 plus, for each person, the shares which would be issued assuming
that such person exercises all options he or she holds which are
exercisable on such date or become exercisable within 60 days thereafter.
(2) Includes 33,135 shares owned directly by Mr. Bainum, Jr. and 874,729
shares owned directly by the Stewart Bainum, Jr. Declaration of Trust
dated March 13, 1996, the sole trustee and beneficiary of which is the
reporting person. Also includes 1,189,289 shares held directly by Realty
Investment Company, Inc. ("Realty"), a real estate management and
investment company in which Mr. Bainum, Jr. has shared voting authority;
593,209 shares owned by Mid Pines Associates Limited Partnership ("Mid
Pines"), in which Mr. Bainum, Jr. is managing general partner and has
shared voting authority, and 3,533 shares owned by the Foundation for
Maryland's Future, in which Mr. Bainum, Jr. is the sole Director. Also
includes 80,001 shares which Mr. Bainum, Jr. has the right to acquire
pursuant to stock options which are presently exercisable or which become
exercisable within 60 days after the Record Date.
(3) Includes 125,641 shares held directly by Mr. Gould, 15,134 shares of
restricted stock granted under the Non-Employee Director Stock
Compensation Plan to Mr. Gould which are not vested but which Mr. Gould
has the right to vote and 6,147 shares which Mr. Gould has a right to
acquire pursuant to stock options which are currently exercisable or
become exercisable within 60 days of the Record Date.
(4) Includes 5,510 shares held directly by Mr. Hanley and 158,895 shares of
restricted stock of which 30,780 are vested deferred and 128,115 are not
vested, both of which Mr. Hanley has the right to vote.
(5) Includes 2,745 shares owned directly by Mr. Landry and 347,820 shares Mr.
Landry has the right to acquire pursuant to stock options which are
presently exercisable or which become exercisable within 60 days after
the Record Date and 518,605 shares of restricted stock of which 116,517
are vested deferred and 402,088 are not vested, both of which Mr. Landry
has the right to vote. Also includes 3,495 shares which Mr. Landry has
the right to receive on termination of his employment pursuant to the
terms of the 401(k) Plan.
79
(6) Includes 45,068 shares owned directly by Mr. MacCutcheon and 1,084 and
1,167 shares, respectively, which Mr. MacCutcheon has the right to
receive upon termination of his employment pursuant to the 401(k) Plan
and the Non-Qualified Plan. Also includes 75 shares held by minor
children. Beneficial ownership of such shares is disclaimed. Also
includes 93,109 shares Mr. MacCutcheon has the right to acquire pursuant
to stock options which are presently exercisable or which become
exercisable within 60 days after the Record Date and 301,252 shares of
restricted stock of which 71,662 are vested deferred and 229,590 are not
vested, both of which Mr. MacCutcheon has the right to vote.
(7) Includes 4,253 held directly by Mr. Miller and 269 and 521 shares,
respectively, which Mr. Miller has the right to receive upon termination
of his employment pursuant to the terms of the 401(k) Plan and the Non-
Qualified Plan. Also includes 112,029 shares of restricted stock of which
19,695 are vested deferred and 92,334 are not vested, both of which Mr.
Miller has the right to vote.
(8) Consists of 11,865 shares granted under the Non-Employee Director Stock
Compensation Plan which are not vested. Mr. Pillsbury has the right to
vote all 11,865 shares.
(9) Consists of 15,572 restricted shares granted under the Non-Employee
Director Stock Compensation Plan which are not vested. Mr. Pitts has the
right to vote all 15,572 shares. Also includes 1,667 shares Mr. Pitts has
the right to acquire pursuant to stock options which are presently
exercisable or which become exercisable within 60 days after the Record
Date.
(10) Includes 17,322 restricted shares granted under the Non-Employee Director
Stock Compensation Plan which are not vested. Ms. Prest has the right to
vote all 17,322 shares. Also includes 4,694 shares Ms. Prest has the right
to acquire pursuant to stock options which are presently exercisable or
which become exercisable within 60 days after the Record Date.
(11) Includes 1,599 shares held directly by Ms. Shreve and 17,057 restricted
shares granted under the Non-Employee Director stock Compensation Plan
which are not vested. Ms. Shreve has the right to vote all 17,507 shares.
(12) Includes a total of 4,624,260 shares which the officers and Directors
included in the group have the right to acquire pursuant to stock options
which are presently exercisable, or exercisable within 60 days of the
Record Date, and a total of 4,848 shares and 1,688 shares, respectively,
which such Directors and officers have the right to receive upon
termination of their employment with Sunburst pursuant to the terms of the
401(k) Plan and the Non-Qualified Savings Plan.
(13) Includes 424 shares held directly by Ms. Bainum. Also includes 593,209
shares owned by Mid Pines, in which Ms. Bainum is a general partner and
has shared voting authority, 1,189,289 shares owned by Realty in which Ms.
Bainum's trust has voting stock and shared voting authority, 23,435 shares
owned by Commonweal Foundation, in which Ms. Bainum is a Director and has
shared voting authority and 669,349 shares owned directly by Barbara
Bainum Declaration of Trust dated December 20, 1996, the sole trustee and
beneficiary is the reporting person.
(14) Includes 31,500 shares held directly by Mr. Bainum and 635,457 shares
owned directly by the Bruce Bainum Declaration of Trust dated March 13,
1997, the sole trustee and beneficiary is the reporting person. Also
includes 593,209 shares owned by Mid Pines, in which Mr. Bainum is a
general partner and has shared voting authority, 1,189,289 shares owned by
Realty in which Mr. Bainum's trust has voting stock and shared voting
authority, and 23,435 shares owned by Commonweal Foundation, in which Mr.
Bainum is a Director and has shared voting authority. Also includes
655,457 shares owned by the Roberta Bainum Irrevocable Trust in which Mr.
Bainum is the trustee and has sole voting authority.
(15) Includes 5,945 shares held directly by Mr. Bainum and 2,011,970 shares
held directly by the Stewart Bainum Declaration of Trust, dated May 23,
1995, of which Mr. Bainum is the sole trustee and beneficiary, his
interest in 85,000 shares owned by Cambridge Investment, LLC in which Mr.
Bainum is the managing member with sole authority to vote the shares;
1,189,289 shares held directly by Realty, in which Mr. Bainum and his wife
have shared voting authority; and 23,435 shares held by the Commonweal
Foundation of which Mr. Bainum is Chairman of the Board of Directors and
has shared voting authority. Also includes 266,237 shares held by the Jane
L. Bainum Declaration of Trust, the sole trustee and beneficiary of which
is Mr. Bainum's wife, and 529 shares which Mr. Bainum has the right to
acquire pursuant to stock options which are presently exercisable or which
become exercisable within 60 days after the Record Date. Also includes
1,600 shares of restricted stock granted under Sunburst's Non-
80
Employee Director Stock Compensation Plan ("Non-Employee Director Stock
Compensation Plan") to Mr. Bainum which are not vested but which Mr.
Bainum has the right to vote.
(16) Includes 1,189,290 shares held directly by Realty in which Ms. Bainum
has shared voting authority as a Director; 593,209 shares owned by Mid-
Pines in which Ms. Bainum is a general partner and has shared voting
authority; and 23,435 shares owned by Commonweal Foundation of which Ms.
Bainum is a Director and has shared voting authority.
(17) As of December 31, 1999, based on a Schedule 13-D, filed by Mr. Baron
with the Securities and Exchange Commission. Mr. Baron's address is 450
Park Avenue, Suite 2800, New York, New York 10022.
(18) As of December 31, 1999, based on a Schedule 13-G filed by Mr. Dobbin
with the Securities and Exchange Commission. Mr. Dobbin filed on behalf
of Hamilton Partners Limited. Mr. Dobbin's address is 415 Madison
Avenue, New York, New York 10017.
81
STOCKHOLDER PROPOSALS FOR 2001 ANNUAL MEETING
Under Sunburst's bylaws, nominations for director may be made only by the
Board of Directors or a committee of the Board, or by a stockholder entitled to
vote who has delivered notice to Sunburst not less than 60, nor more than 90,
days before the first anniversary of the preceding year's annual meeting,
unless the meeting is advanced by more than 30 days. If the recapitalization is
not completed, the deadline for submitting stockholder nominations for the 2001
Sunburst annual meeting will be March 10, 2001.
The bylaws also provide that no business may be brought before an annual
meeting except as specified in the notice of meeting (which includes
stockholder proposals that Sunburst is required to set forth in its proxy
statement under Commission Rule 14a-8) or as otherwise brought before the
meeting by or at the direction of the board or by a stockholder entitled to
vote who has delivered notice to Sunburst (containing certain information
specified in the bylaws) within the time limits described above for a
nomination for the election of a director. These requirements are separate and
apart from, and in addition to, the Commission's requirements that a
stockholder must comply with in order to have a stockholder proposal included
in Sunburst's proxy statement under Commission Rule 14a-8.
If the recapitalization is not completed, stockholder proposals intended to
be presented at Sunburst's 2001 annual meeting of Stockholders must be received
by Sunburst's corporate secretary no later than March 10, 2001. Those proposals
must meet the requirements set forth in the rules and regulations of the
Commission in order to be eligible for inclusion in Sunburst's 2001 proxy
materials.
OTHER MATTERS
The Board of Directors does not presently know of any matters to be
presented for consideration at the special meeting. If other matters are
presented, the proxies named in the accompanying proxy will have discretionary
authority to vote in accordance with their best judgment.
82
WHERE YOU CAN FIND MORE INFORMATION
This proxy statement provides you with summary information about the
proposed recapitalization. In addition, attached hereto as Annex A is a copy of
the Recapitalization Agreement and the discussion contained in this proxy
statement is qualified in its entirety by the terms of the Recapitalization
Agreement. In addition to the other attachments, we encourage you to review the
Recapitalization Agreement and the Annexes carefully.
Sunburst has attached as Annexes to this proxy statement its Annual Report
on Form 10-K for the fiscal year ended December 31, 1999 and its Quarterly
Report for the quarter ended September 30, 2000. Please refer to Annexes D and
E.
If you need additional information to make a decision on whether to consent,
you may request such information from Douglas H. Verner of Sunburst. No other
person has been authorized to give any information or to make any
representations not contained in this proxy statement in connection with the
matters described in this proxy statement. You should not rely on any
information from other sources as having been authorized by Sunburst or Nova.
The delivery of this proxy statement shall not, under any circumstances, create
any implication that the information herein is correct as of any time
subsequent to the date hereof.
All information contained herein relating to Nova, its management and
stockholders has been supplied by Nova. All information contained herein
relating to Sunburst, its management and stockholders, federal income tax
considerations for Sunburst stockholders and Sunburst stockholders' appraisal
rights have been supplied by Sunburst.
83
ANNEX A
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
RECAPITALIZATION AGREEMENT
dated as of
September 20, 2000
between
SUNBURST HOSPITALITY CORPORATION
and
NOVA FINANCE COMPANY LLC
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
TABLE OF CONTENTS
Page
----
ARTICLE 1
Definitions
Section 1.01. Definitions................................................ A-2
ARTICLE 2
The Merger
Section 2.01. The Merger................................................. A-5
Section 2.02. Effective Time............................................. A-5
Section 2.03. Effect of the Merger....................................... A-5
Section 2.04. Effect on Securities, Etc. ................................ A-5
Section 2.05. Dissenting Shares.......................................... A-6
Section 2.06. Treatment of Options and Restricted Stock.................. A-6
Section 2.07. Surrender of Shares........................................ A-7
Section 2.08. Lost, Stolen or Destroyed Certificates..................... A-8
Section 2.09. Further Action............................................. A-8
ARTICLE 3
The Surviving Corporation
Section 3.01. Certificate of Incorporation; By-Laws...................... A-9
Section 3.02. Directors and Officers..................................... A-9
ARTICLE 4
Representations and Warranties of the Company
Section 4.01. Corporate Existence and Power.............................. A-9
Section 4.02. Corporate Authorization.................................... A-9
Section 4.03. Governmental Authorization................................. A-10
Section 4.04. Non-Contravention.......................................... A-10
Section 4.05. Finders' Fees.............................................. A-10
Section 4.06. Antitakeover Statutes and Rights Agreement................. A-10
Section 4.07. Capitalization............................................. A-11
Section 4.08. Subsidiaries; Equity Investments........................... A-11
Section 4.09. Disclosure Documents....................................... A-12
Section 4.10. Absence of Material Adverse Effect......................... A-12
ARTICLE 5
Representations and Warranties of Merger Subsidiary
Section 5.01. Existence and Power........................................ A-12
Section 5.02. Authorization.............................................. A-12
Section 5.03. Governmental Authorization................................. A-12
Section 5.04. Non-Contravention.......................................... A-13
Section 5.05. Membership Interests....................................... A-13
Section 5.06. Finders' Fees.............................................. A-13
Section 5.07. Disclosure Documents....................................... A-13
Section 5.08. Financing.................................................. A-13
Section 5.09. Merger Subsidiary's Representations........................ A-13
i
Page
----
ARTICLE 6
Covenants of the Company
Section 6.01. Conduct of the Company.................................... A-14
Section 6.02. Access to Information..................................... A-15
Section 6.03. Stockholder Meeting; Proxy Material....................... A-16
Section 6.04. No Solicitation........................................... A-16
Section 6.05. State Takeover Laws....................................... A-16
Section 6.06. Reports................................................... A-16
Section 6.07. Issuance of Class A Preferred Stock....................... A-17
Section 6.08. Section 16 Matters........................................ A-17
Section 6.09. Expenses.................................................. A-17
ARTICLE 7
Covenants of Merger Subsidiary
Section 7.01. Director and Officer Liability............................ A-18
Section 7.02. Financing Arrangements.................................... A-18
ARTICLE 8
Covenants of Merger Subsidiary and the Company
Section 8.01. Commercially Reasonable Efforts........................... A-19
Section 8.02. Certain Filings........................................... A-19
Section 8.03. Public Announcements...................................... A-19
Section 8.04. Notices of Certain Events................................. A-19
Section 8.05. Confidentiality........................................... A-20
ARTICLE 9
Conditions to the Merger
Section 9.01. Conditions to Obligations of Each Party................... A-20
Section 9.02. Conditions to the Obligations of Merger Subsidiary........ A-20
Section 9.03. Conditions to the Obligations of the Company.............. A-21
ARTICLE 10
Termination
Section 10.01. Termination............................................... A-21
Section 10.02. Effect of Termination..................................... A-22
ii
Page
----
ARTICLE 11
Miscellaneous
Section 11.01. Notices................................................... A-22
Section 11.02. Survival of Representations and Warranties................ A-23
Section 11.03. Amendments; No Waivers.................................... A-23
Section 11.04. Successors and Assigns.................................... A-23
Section 11.05. Governing Law............................................. A-23
Section 11.06. Jurisdiction.............................................. A-24
Section 11.07. Waiver of Jury Trial...................................... A-24
Section 11.08. Counterparts; Effectiveness; Enforcement.................. A-24
Section 11.09. Entire Agreement.......................................... A-24
Section 11.10. Captions.................................................. A-24
Section 11.11. Severability.............................................. A-24
Section 11.12. Specific Performance...................................... A-24
EXHIBITS
Exhibit A --Exchange and Voting Agreement
Exhibit B --Form of Certificate of Merger
--Form of Amended Restated Certificate of Incorporation of
Exhibit C Surviving Corporation
Exhibit D --Form of Amended By-Laws
--Form of Certificate of Designation of Class A Preferred
Exhibit E Stock
SCHEDULES
Schedule A --Continuing Stockholders
iii
RECAPITALIZATION AGREEMENT
RECAPITALIZATION AGREEMENT dated as of September 20, 2000 between Sunburst
Hospitality Corporation, a Delaware corporation (the "Company"), and Nova
Finance Company LLC, a Delaware limited liability company ("Merger
Subsidiary").
W I T N E S S E T H :
WHEREAS, the members of Merger Subsidiary seek to acquire a controlling
interest in the Company through a merger, to be accounted for as a
recapitalization under generally accepted accounting principles, in which
Merger Subsidiary will merge with and into the Company, with the shares of the
Company being converted into the right to receive the Merger Consideration (as
defined below), subject to certain exceptions described in this Agreement (the
"Merger"); and
WHEREAS, a Special Committee (as defined herein) of the board of directors
of the Company (the "Board of Directors") has (i) approved the Merger (as
defined herein), (ii) has recommended the approval of the Merger by the Board
of Directors, (iii) has determined that the Merger is advisable to and in the
best interests of the holders of the Company's capital stock (the "Company
Stockholders"), other than the Continuing Stockholders (as defined herein),
(iv) has determined that the Merger Consideration (as defined herein) is fair
to the Company Stockholders, other than the Continuing Stockholders, and (v)
has approved and recommended the approval of this Agreement to the Board of
Directors; and
WHEREAS, the Board of Directors, subsequent to the recommendation of the
Special Committee, has approved the Merger and this Agreement and determined
that it is advisable and in the best interests of the Company Stockholders,
other than the Continuing Stockholders, for the Company to consummate the
Merger and the other transactions contemplated by this Agreement (collectively,
the "Transactions"), upon the terms and subject to the conditions set forth
herein; and
WHEREAS, as an inducement to the parties to enter into this Agreement, the
Continuing Stockholders have entered into an Exchange and Voting Agreement in
substantially the form attached hereto as Exhibit A (the "Exchange and Voting
Agreement"), whereby they have agreed to exchange certain Shares (as defined
herein) owned by them immediately prior to the Effective Time (as defined
herein) for newly issued shares of Class A Preferred Stock, par value $0.01 per
share and liquidation preference $1.00 per share, of the Company ("Class A
Preferred Stock"), and they have agreed to vote their Shares in favor of the
Transactions; and
WHEREAS, the members and managers of Merger Subsidiary have approved this
Agreement and the Merger in accordance with the applicable provisions of the
Limited Liability Company Act of the State of Delaware (the "DLLCA") and upon
the terms and subject to the conditions set forth herein.
NOW, THEREFORE, in consideration of the foregoing and the mutual promises
herein made, and in consideration of the representations, warranties and
covenants herein contained, the parties hereto hereby agree as follows:
A-1
ARTICLE 1
Definitions
Section 1.01. Definitions. (a) The following terms, as used herein, have
the following meanings:
"Acquisition Proposal" means any offer or proposal for, or any indication
of interest in, (i) any acquisition or purchase of 10% or more of the
consolidated assets of the Company and its Subsidiaries, (ii) any acquisition
or purchase of an equity interest in the Company representing in excess of 10%
of the power to vote for the election of a majority of the directors of the
Company, or any tender offer or exchange offer for equity securities of the
Company as a result of which the offeror would hold such an equity interest in
the Company or (iii) any merger, consolidation, business combination, sale of
substantially all assets, recapitalization, liquidation, dissolution or
similar transaction involving (a) the Company or (b) any of its Subsidiaries
whose assets, individually or in the aggregate, constitute more than 10% of
the consolidated assets of the Company and its Subsidiaries, in each case
other than the Transactions.
"Affiliate" means, with respect to any Person, any other Person directly or
indirectly controlling, controlled by, or under common control with such
Person.
"Business Day" means a day other than Saturday, Sunday or other day on
which commercial banks in New York, New York are authorized or required by law
to close.
"Code" means the Internal Revenue Code of 1986, as amended.
"Common Stock" means the series of common stock, par value $0.01 per share,
of the Company designated as "Common Stock."
"Continuing Stockholder Exchange Shares" has the meaning specified in the
Exchange and Voting Agreement.
"Continuing Stockholders" means the shareholders of the Company identified
on Schedule A hereto.
"Exchange Date" has the meaning specified in the Exchange and Voting
Agreement.
"Governmental Authority" means any federal, state or local government or
any court, administrative agency or commission or other governmental or
regulatory agency, authority or official, in each case, whether domestic,
foreign or supranational.
"HSR Act" means the Hart-Scott-Rodino Antitrust Improvements Act of 1976,
as amended, and the rules and regulations promulgated thereunder.
"Lien" means, with respect to any property or asset, any mortgage, deed of
trust, deed to secure debt, lien, assignment, pledge, charge, security
interest, claim, levy, purchase option, call, right of first refusal,
preemptive or similar right of any Person or other encumbrance of any kind,
whether or not filed, recorded or otherwise perfected under applicable law
(including, without limitation, any conditional sale or other title retention
agreement, any lease in the nature thereof, any option or other agreement to
sell or give a lien or security interest and any filing of or agreement to
file a financing statement under the Uniform Commercial Code (or equivalent
statutes) of any jurisdiction).
"Material Adverse Effect" means either (i) a material adverse effect on the
condition (financial or otherwise), business, assets, properties, results of
operations or prospects of the Company and its Subsidiaries, taken as a whole,
or (ii) an effect which is materially adverse to the ability of the Company to
consummate the Transactions, other than (A) effects or changes relating to (x)
the securities markets in general, (y) conditions in
A-2
the Company's industry in general, or (z) general economic conditions, or (B)
effects or changes resulting from the announcement of the Transactions.
"1934 Act" means the Securities Exchange Act of 1934, as amended, and the
rules and regulations promulgated thereunder.
"Option Plans" means, collectively, the Company's 1996 Long-Term Incentive
Plan, 1997 Non-Employee Director Stock Compensation Plan and Non-Employee
Director Stock Option and Deferred Compensation Plan.
"Person" means an individual, corporation, partnership, limited liability
company, association, trust or other entity or organization, including a
Governmental Authority.
"Rights" means the rights granted under the Rights Agreement.
"Rights Agreement" means the Rights Agreement between the Company and
ChaseMellon Shareholder Services, L.L.C., as Rights Agent, dated February 23,
1998.
"SEC" means the Securities and Exchange Commission.
"Shares" means shares of Common Stock.
"Special Committee" means the Special Committee of the Board of Directors
formed to, among other things, evaluate the Transactions.
"Subsidiary" means, with respect to any Person, any corporation,
partnership, association, limited liability company or other organization,
whether incorporated or unincorporated, of which the securities or other
ownership interests having ordinary voting power to elect a majority of the
board of directors or other persons performing similar functions with respect
to such corporation, partnership, association, limited liability company or
other organization are at any time directly or indirectly owned or controlled
by such Person or by any one or more of its Subsidiaries, or by such Person and
one or more of its Subsidiaries.
"Surviving Corporation Common Shares" means the common stock, par value
$0.01 per share, of the Surviving Corporation.
Any reference in this Agreement to a statute shall be to such statute, as
amended from time to time, and to the rules and regulations promulgated
thereunder.
A-3
(b) Each of the following terms is defined in the Section set forth opposite
such term:
Term Section
Bank............................................................. 5.07
Board of Directors............................................... Recitals
Certificate of Merger............................................ 2.02
Class A Converted Shares......................................... 2.04
Class A Merger Consideration..................................... 2.04
Class A Preferred Stock.......................................... Recitals
Commitment Letter................................................ 5.07
Company.......................................................... Recitals
Company Expenses................................................. 6.09
Company Proxy Statement.......................................... 4.09
Company Representatives.......................................... 6.02
Company SEC Documents............................................ 4.07
Company Securities............................................... 4.05
Company Stockholder Meeting...................................... 6.03
Company Stockholders............................................. Recitals
Company Subsidiary Securities.................................... 4.06
DGCL............................................................. 2.01
DLLCA............................................................ Recitals
Dissenting Shares................................................ 2.05
DOJ.............................................................. 8.01
Effective Time................................................... 2.02
End Date......................................................... 10.01
Exchange Agent................................................... 2.07
Exchange and Voting Agreement.................................... Recitals
Converted Share.................................................. 2.04
FTC.............................................................. 8.01
GAAP............................................................. 6.01
Indemnified Person............................................... 7.01
Merger........................................................... Recitals
Merger Consideration............................................. 2.04
Merger Subsidiary................................................ Recitals
Merger Subsidiary Common Shares.................................. 2.04
Merger Subsidiary Representatives................................ 6.02
Option........................................................... 2.06
Preferred Stock.................................................. 4.05
Restricted Stock................................................. 2.06
Schedule 13E-3................................................... 4.09
Series A Preferred Stock......................................... 2.04
Surviving Corporation............................................ 2.01
Title, Survey and Environmental Costs............................ 6.09
Transactions..................................................... Recitals
A-4
ARTICLE 2
The Merger
Section 2.01. The Merger. At the Effective Time, and subject to and upon the
terms and conditions of this Agreement, the General Corporation Law of the
State of Delaware (the "DGCL"), and the DLLCA, Merger Subsidiary shall be
merged with and into the Company, the separate existence of Merger Subsidiary
shall cease, and the Company shall continue as the surviving corporation
(hereinafter sometimes referred to as the "Surviving Corporation").
Section 2.02. Effective Time. Unless this Agreement shall have been
terminated and the transactions herein contemplated shall have been abandoned
pursuant to Section 10.01, as promptly as practicable (and in any event within
two Business Days) after the satisfaction or waiver of the conditions set forth
in Article 9 hereof, the parties hereto shall cause the Merger to be
consummated by filing a certificate of merger as contemplated by the DGCL and
the DLLCA (the "Certificate of Merger") in the form of Exhibit B attached
hereto, together with any required related certificates, with the Secretary of
State of the State of Delaware, in such form as required by, and executed in
accordance with the relevant provisions of, the DGCL and the DLLCA. The Merger
shall become effective at the time of such filing or at such later time
specified in the Certificate of Merger (the "Effective Time"). Prior to such
filing, a closing shall be held at such time as may be agreed upon by Merger
Subsidiary and the Company, at the offices of Cahill Gordon & Reindel, 80 Pine
Street, New York, New York 10005, unless another place is agreed to in writing
by the parties hereto, for the purpose of confirming the satisfaction or
waiver, as the case may be, of the conditions set forth in Article 9 hereof.
Section 2.03. Effect of the Merger. At the Effective Time, the effect of the
Merger shall be as provided in this Agreement, the Certificate of Merger and
the applicable provisions of the DGCL and the DLLCA.
Section 2.04. Effect on Securities, Etc.
(a) Capital Stock of Merger Subsidiary. At the Effective Time, each
membership interest of Merger Subsidiary ("Merger Subsidiary Common Shares")
issued and outstanding immediately prior to the Effective Time shall be
converted into one validly issued, fully paid and non-assessable Surviving
Corporation Common Share.
(b) Cancellation of Treasury Stock. Each Share that is owned by the Company
shall automatically be canceled and retired and shall cease to exist, and no
cash or other consideration shall be delivered or deliverable in exchange
therefor.
(c) Conversion of Shares. Each Share issued and outstanding immediately
prior to the Effective Time (other than (x) Shares constituting Restricted
Stock, which will be treated as provided in Section 2.06(b), (y) Dissenting
Shares and (z) Shares owned by any Subsidiary of the Company) (each of such
Shares, other than Shares referred to in clauses (x), (y) and (z), a "Converted
Share") shall, by virtue of the Merger, be converted into the right to receive
from the Surviving Corporation after the Merger cash in an amount equal to (i)
$7.375 (the "Merger Consideration"). Each such Converted Share shall no longer
be outstanding, shall automatically be canceled and retired and shall cease to
exist, and each holder of a certificate formerly representing any such
Converted Shares shall, to the extent such certificate formerly represented
such Converted Shares, cease to have any rights with respect thereto, except
the right to receive the Merger Consideration applicable thereto, upon
surrender of such certificate in accordance with Section 2.07 hereof.
(d) Conversion of Class A Preferred Stock. Each share of the Company's Class
A Preferred Stock issued and outstanding immediately prior to the Effective
Time (the "Class A Converted Shares") shall, by virtue of the Merger, be
converted into ten Surviving Corporation Common Shares (with fractional Class A
Converted Shares converted into that number of Surviving Corporation Common
Shares equal to the product of (i) such
A-5
fraction of a Class A Converted Share and (ii) ten) (the "Class A Merger
Consideration"). Each such Class A Converted Share (or fractional Class A
Converted Share) shall no longer be outstanding, shall automatically be
canceled and retired and shall cease to exist, and each such holder of a
certificate formerly representing any such Class A Converted Shares (or
fractional Class A Converted Share) shall, to the extent such certificate
formerly represented such Class A Converted Shares (or fractional Class A
Converted Share), cease to have any rights with respect thereto, except the
right to receive the Class A Merger Consideration applicable thereto, upon
surrender of such certificate in accordance with Section 2.07 hereof.
Section 2.05. Dissenting Shares. (a) Notwithstanding any provision of this
Agreement to the contrary, any Shares or Class A Preferred Stock issued and
outstanding immediately prior to the Effective Time, and held by a holder who
has the right to demand payment for and any appraisal of such shares in
accordance with Section 262 of the DGCL (or any successor provision), who
perfects his demand for the appraisal of the fair value of his Shares or Class
A Preferred Stock in accordance with the DGCL and who, as of the Effective
Time, has neither effectively withdrawn nor lost his right to make such demand
(such Shares or Class A Preferred Stock, the "Dissenting Shares"), shall not be
converted into or represent a right to receive the consideration for his Shares
or Class A Preferred Stock specified in Section 2.04, but the holder thereof
shall be entitled to only such rights as are granted by the DGCL.
(b) Notwithstanding the provisions of Section 2.05(a), if any holder of
Dissenting Shares effectively withdraws or loses (through failure to perfect or
otherwise) his right to make such demand, then as of the Effective Time or the
occurrence of such event, whichever occurs later, such dissenting holder's
Shares or Class A Preferred Stock shall thereafter represent only the right to
receive the consideration for Shares or Class A Preferred Stock specified in
Section 2.04, without interest thereon, upon surrender of the certificates
representing such Shares or Class A Preferred Stock.
(c) The Company shall give Merger Subsidiary, prior to the Effective Time,
(i) prompt notice of any written demands for appraisal of the fair value of any
Shares or Class A Preferred Stock, withdrawals of such demands and any other
instruments served pursuant to the DGCL received by the Company after the date
hereof and (ii) the opportunity to direct all negotiations and proceedings with
respect to demands for appraisal or the payment of the fair cash value of any
such Shares or Class A Preferred Stock under the DGCL. The Company shall not
voluntarily make any payment with respect to any demands for appraisal or the
payment of the fair cash value of any Shares or Class A Preferred Stock and
shall not, except with the prior written consent of Merger Subsidiary, settle
or offer to settle any such demands.
Section 2.06. Treatment of Options and Restricted Stock.
(a) At or immediately prior to the Effective Time, each outstanding stock
option (each, an "Option") to purchase shares granted under any of the Option
Plans held by any person other than a Continuing Stockholder, whether or not
vested, shall be cancelled, and holders of such Options with an exercise price
below the Merger Consideration shall receive from the Surviving Corporation
(subject to any applicable withholding taxes) an amount per Option equal to the
Merger Consideration less the exercise price for such Option. Options held by
Continuing Stockholders shall not be affected or modified pursuant to this
Agreement, but shall be subject to the provisions of the stockholder agreement
contemplated by the Exchange and Voting Agreement.
(b) Each share of restricted stock granted under any of the Option Plans
("Restricted Stock") held by any person other than a Continuing Stockholder or
an individual who is not offered continuing employment shall be converted into
the right to receive an amount equal to the Merger Consideration and,
notwithstanding the existing restrictions with respect to such Restricted
Stock, such restrictions with respect to 50% of such amounts shall lapse on the
first anniversary of the Effective Time and such restrictions with respect to
the remaining 50% of such amounts shall lapse on the second anniversary of the
Effective Time. Such amounts shall bear interest from the Effective Time to the
date of payment at the simple annual rate equal to the rate for U.S. Treasury
Notes with a one year maturity as of the Effective Time, which rate shall be
reset monthly on the
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one-month anniversary to the Effective Time. Restricted Stock held by
Continuing Stockholders which shall have been exchanged for Class A Preferred
Stock pursuant to the Exchange and Voting Agreement, shall be converted into
the right to receive the Class A Merger Consideration pursuant to Section
2.04(d) and shall be subject to the provisions of the stockholders agreement
contemplated by the Exchange and Voting Agreement. Restricted Stock held by an
individual who is not offered continuing employment shall have their Restricted
Stock accelerated and paid out on the Closing Date.
(c) Prior to the Effective Time, the Board of Directors and (i) the Key
Executive Stock Option Plan Committee shall have taken all necessary action
with respect to the Option Plans to give effect to the provisions of this
Section 2.06(a) and (b) and (ii) shall not have taken any action to determine
that the Transactions constitute a "change of control" under any of the Option
Plans.
Section 2.07. Surrender of Shares. (a) Prior to the Effective Time, Merger
Subsidiary shall appoint a bank or trust company which is reasonably
satisfactory to the Company to act as the exchange agent (the "Exchange Agent")
for the payment of the Merger Consideration. All of the fees and expenses of
the Exchange Agent shall be borne by the Surviving Corporation. The Surviving
Corporation will serve in the capacity of exchange agent with respect to the
Class A Merger Consideration and will, at the Effective Time, upon receipt of
the stock certificates for Class A Converted Shares duly endorsed and in form
for transfer with accompanying stock powers duly executed in blank, exchange
such stock certificates for new stock certificates representing the Class A
Merger Consideration in accordance with Section 2.04(d).
(b) At or prior to the Effective Time, there will be deposited with the
Exchange Agent cash in an amount equal to the aggregate Merger Consideration
(in an amount equal to the number of Converted Shares multiplied by the Merger
Consideration) in immediately available funds. The Exchange Agent shall invest
the funds as directed by the Surviving Corporation on a daily basis. Any
interest and other income resulting from such investments shall be paid to the
Surviving Corporation.
(c) Promptly following the Effective Time, the Surviving Corporation shall
instruct the Exchange Agent to mail to each holder of record as of immediately
prior to the Effective Time of a certificate representing Converted Shares
converted upon the Merger pursuant to this Agreement (i) a letter of
transmittal (which shall specify that delivery shall be effected, and risk of
loss and title to the certificates shall pass, only upon delivery of the
certificates to the Exchange Agent and shall be in such form and have such
other provisions as the Surviving Corporation may reasonably specify) and (ii)
instructions for use in effecting the surrender of the certificates. The
Exchange Agent shall accept such certificates upon compliance with such
reasonable terms and conditions as the Exchange Agent may impose to effect an
orderly exchange thereof in accordance with normal exchange practices. Each
holder of a certificate or certificates representing Converted Shares converted
upon the Merger pursuant to this Agreement may thereafter surrender such
certificate or certificates to the Exchange Agent, as agent for such holder, to
effect the surrender of such certificate or certificates on such holder's
behalf for a period ending three months after the Effective Time. Upon the due
surrender of certificates representing Converted Shares, the Surviving
Corporation shall cause the Exchange Agent to pay the holder of such
certificates in exchange therefor the Merger Consideration multiplied by the
number of Converted Shares formerly represented by such certificate that have
been so converted. Until so surrendered, each such certificate shall represent
solely the right to receive the Merger Consideration.
(d) If any payment or issuance in respect of Shares or Class A Preferred
Stock under this Section 2.07 is to be made to a Person other than the Person
in whose name a surrendered certificate is registered, it shall be a condition
to such payment or issuance that the certificate so surrendered shall be
properly endorsed or shall be otherwise in proper form for transfer and that
the Person requesting such payment or issuance shall have paid any transfer and
other taxes required by reason of such payment or issuance in a name other than
that of the registered holder of the certificate or instrument surrendered or
shall have established to the satisfaction of the Surviving Corporation or the
Exchange Agent that such tax either has been paid or is not payable.
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(e) At and after the Effective Time, no further transfer of Shares or Class
A Preferred Stock which have been converted pursuant to Section 2.04 of this
Agreement shall be made, other than transfers of such securities that have
occurred prior to the Effective Time. In the event that, after the Effective
Time, certificates representing Shares or Class A Preferred Stock which have
been converted pursuant to Section 2.04 of this Agreement are presented to the
Surviving Corporation, they shall be canceled and exchanged in the manner
contemplated by Section 2.04 and as provided in this Section 2.07.
(f) The Merger Consideration paid in the Merger shall be paid in full to the
holder of Shares without interest thereon, and shall be subject to reduction
only for any applicable United States federal or other withholding or stock
transfer taxes payable by such holder.
(g) Promptly following the date which is three months after the Effective
Time, the Exchange Agent shall deliver to the Surviving Corporation all cash,
certificates and other documents in its possession relating to the
Transactions, and the Exchange Agent's duties shall terminate. Thereafter, each
holder of a certificate representing Shares may surrender such certificate to
the Surviving Corporation and (subject to any applicable abandoned property,
escheat or similar law) receive in consideration therefor the consideration due
to such holder pursuant to Section 2.04 of this Agreement, without any interest
thereon.
(h) None of Merger Subsidiary, the Surviving Corporation or the Exchange
Agent shall be liable to any holder of Shares or Class A Preferred Stock for
any cash or securities delivered to a public official pursuant to any abandoned
property, escheat or similar law, rule, regulation, statute, order, judgment or
decree.
Section 2.08. Lost, Stolen or Destroyed Certificates. In the event any
certificates representing Shares or Class A Preferred Stock shall have been
lost, stolen or destroyed, the Exchange Agent or the Surviving Corporation, as
applicable, shall deliver the Merger Consideration or Class A Merger
Consideration, as the case may be, pursuant to Section 2.04 hereof in exchange
for such lost, stolen or destroyed certificates upon the making of an affidavit
of that fact by the holder thereof; provided, however, that the Surviving
Corporation may, in its discretion and as a condition precedent to the issuance
thereof, require the owner of such lost, stolen or destroyed certificates to
deliver an indemnity against any claim that may be made against the Surviving
Corporation or the Exchange Agent with respect to the certificates alleged to
have been lost, stolen or destroyed.
Section 2.09. Further Action. If, at any time after the Effective Time, any
further action is necessary or desirable to carry out the purposes of this
Agreement and to put the Surviving Corporation in possession of all assets and
property of every description and every interest, wherever located, and the
rights, privileges, immunities, powers, franchises and authority, of a public
as well as of a private nature, of the Company and Merger Subsidiary, the
officers and directors of the Surviving Corporation are fully authorized in the
name of their respective corporations immediately prior to the Effective Time
or otherwise to take, and will take, all such lawful and necessary action.
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ARTICLE 3
The Surviving Corporation
Section 3.01. Certificate of Incorporation; By-Laws.
(a) Certificate of Incorporation. The amended and restated certificate of
incorporation of the Company, as changed and as set forth on Exhibit C hereto,
shall from and after the Effective Time be the amended and restated certificate
of incorporation of the Surviving Corporation until thereafter amended as
provided by the DGCL and such restated certificate of incorporation.
(b) By-Laws. The by-laws of the Company, as changed and as set forth on
Exhibit D hereto, shall be the by-laws of the Surviving Corporation until
thereafter amended as provided in its amended and restated certificate of
incorporation and by the DGCL.
Section 3.02. Directors and Officers. (a) The directors of Merger Subsidiary
immediately prior to the Effective Time shall be the initial directors of the
Surviving Corporation, and the Board of Directors will approve, prior to the
Merger, the directors of Merger Subsidiary as the directors of the Surviving
Corporation.
(b) The officers of the Company immediately prior to the Effective Time
shall be the initial officers of the Surviving Corporation, in each case until
their respective successors are duly elected or appointed or until their
earlier resignation, removal from office or death.
ARTICLE 4
Representations and Warranties of the Company
The Company represents and warrants to Merger Subsidiary that, except as set
forth in the section or subsection of the disclosure schedule delivered by the
Company to Merger Subsidiary immediately prior to execution of this Agreement
corresponding to the relevant section or subsection of this Article 4:
Section 4.01. Corporate Existence and Power. The Company is a corporation
duly incorporated, validly existing and in good standing under the laws of the
State of Delaware and has all corporate powers and all governmental licenses,
authorizations, permits, consents and approvals required to own or lease and
operate its properties and assets and to carry on its business as now
conducted, except for those licenses, authorizations, permits, consents and
approvals the absence of which have not had and would not have, individually or
in the aggregate, a Material Adverse Effect. The Company is duly qualified to
do business as a foreign corporation and is in good standing in each
jurisdiction where such qualification is necessary, except for those
jurisdictions where failure to be so qualified have not had and would not have,
individually or in the aggregate, a Material Adverse Effect.
Section 4.02. Corporate Authorization. (a) The execution, delivery and
performance by the Company of this Agreement and the consummation by the
Company of the Transactions are within the Company's corporate powers and,
except for the required approval of the Company Stockholders in connection with
the consummation of the Merger, have been duly authorized by all necessary
corporate action on the part of the Company. The affirmative vote of the
holders of not less than two-thirds of the total number of votes that may be
cast by holders of capital stock of the Company in the election of directors is
the only vote of the holders of the Company's capital stock required under the
DGCL and the Company's amended and restated certificate of incorporation and
by-laws in connection with the consummation of the Merger. The Company and
Merger Subsidiary, however, have agreed that the vote necessary to approve the
Merger shall be such two-thirds vote including a majority of the total number
of votes that may be cast by holders (other than Continuing Stockholders) of
capital stock of the Company. This Agreement constitutes a valid and binding
agreement of the Company.
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(b) The Special Committee has received the opinion of Salomon Smith
Barney Inc. to the effect that, as of the date of this Agreement, the Merger
Consideration is fair, from a financial point of view, to the holders of Shares
(other than the Merger Subsidiary, Continuing Stockholders and their respective
affiliates).
(c) At a meeting duly called and held, the Special Committee has
unanimously determined that this Agreement and the Transactions are advisable
and fair to and in the best interests of the Company Stockholders (other than
the Continuing Stockholders) and resolved to recommend that the Board of
Directors approve and declare advisable this Agreement and the Transactions.
(d) At a meeting duly called and held, the Board of Directors, subsequent
to the unanimous recommendation of the Special Committee, approved the Merger
and this Agreement, determined that it is advisable and in the best interests
of Company Stockholders (other than Continuing Stockholders) to consummate the
Merger and the other Transactions, and resolved to recommend approval of the
Merger and this Agreement by Company Stockholders.
Section 4.03. Governmental Authorization. The execution, delivery and
performance by the Company of this Agreement and the consummation by the
Company of the Transactions require no action by or in respect of, or filing
with, or notification or reporting to, any Governmental Authority, other than
(i) the filing of the Certificate of Merger with the Secretary of State of the
State of Delaware and appropriate documents with the relevant authorities of
other states in which the Company is qualified to do business, (ii) compliance
with any applicable requirements of the HSR Act and (iii) compliance with any
applicable requirements of the 1934 Act and any other applicable securities
laws, whether state or foreign except for those failures to comply that would
not reasonably be expected to have, individually or in the aggregate, a
Material Adverse Effect.
Section 4.04. Non-Contravention. The execution, delivery and performance by
the Company of this Agreement and the consummation of the Transactions do not
and will not (i) contravene, conflict with, or result in any violation or
breach of any provision of the amended and restated certificate of
incorporation or by-laws of the Company, (ii) assuming compliance with the
matters referred to in Section 4.02 and 4.03 hereof, contravene, conflict with
or result in a violation or breach of any provision of any applicable law,
statute, ordinance, rule, regulation, judgment, injunction, order, or decree,
(iii) require any consent or other action by any Person under, constitute a
default under, or cause or permit the termination, cancellation, acceleration
or other change of any right or obligation or the loss of any benefit to which
the Company or any of its Subsidiaries is entitled under any provision of any
agreement or other instrument binding upon the Company or any of its
Subsidiaries or any license, franchise, permit, certificate, approval or other
similar authorization affecting, or relating in any way to, the assets,
properties or business of the Company and its Subsidiaries or (iv) result in
the creation or imposition of any Lien on any asset or property of the Company
or any of its Subsidiaries, except for such failures to obtain any such consent
or other conflicts, violations, breaches, actions, defaults, terminations,
cancellations, accelerations, changes, losses or Liens referred to above that
have not had and would not reasonably be expected to have, individually or in
the aggregate, a Material Adverse Effect.
Section 4.05. Finders' Fees. Except for Salomon Smith Barney Inc., copies of
whose engagement agreement have been provided to Merger Subsidiary, there is no
investment banker, broker, finder or other intermediary that has been retained
by or is authorized to act on behalf of the Company or any of its Subsidiaries
who might be entitled to any fee or commission from the Company or any of its
Affiliates in connection with the Transactions.
Section 4.06. Antitakeover Statutes and Rights Agreement. (a) The Company
has validly elected not to be, and is not, governed by the restrictions on
"business combinations" contained in Section 203 of the DGCL, and, accordingly,
neither the restrictions of such Section nor any other antitakeover or similar
statute or regulation applies or purports to apply to any such Transactions.
(b) The Company has taken all action necessary to render the Rights
issued pursuant to the terms of the Rights Agreement inapplicable to the
Merger, this Agreement, and the Transactions. Prior to the Effective
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Time, the Rights Agreement will be amended such that it will expire and all
Rights will be canceled immediately prior to the Effective Time and the Rights
Agreement will have no force or effect on or after the Effective Time.
Section 4.07. Capitalization. (a) The authorized capital stock of the
Company consists of 60,000,000 shares of common stock, par value $0.01 per
share, of which 25,000,000 shares have been designated as Common Stock, and
5,000,000 shares, par value $1.00 per share, of preferred stock (the
"Preferred Stock"). As of the close of business on September 19, 2000, (i)
15,834,543 shares of Common Stock (and 15,854,543 related Rights) were issued
and outstanding, (ii) no shares of Preferred Stock were issued or outstanding,
and (iii) 7,437,707 shares of Common Stock were held by the Company in its
treasury. All outstanding shares of Common Stock have been duly authorized and
validly issued and are fully paid and nonassessable.
(b) As of the date hereof, 300,000 shares of Preferred Stock have been
designated as Series A Junior Participating Preferred and are reserved for
issuance pursuant to the Rights.
(c) As of the date hereof:
(i) 3,956,666 Shares were reserved for issuance pursuant to options
granted under the Option Plans, of which 1,158,737 were outstanding and
903,984 are vested and exercisable as of the date hereof without regard to
any "change of control" trigger in an Option Plan or option agreement
governing such Options; and
(ii) 1,347,178 Shares of Restricted Stock were the subject of awards
under the Option Plans, of which 295,271 are vested deferred Shares.
(d) Except as set forth in this Section 4.07(d) or as contemplated by
Section 6.07, there are no outstanding (i) shares of capital stock or voting
securities of the Company, (ii) securities of the Company convertible into or
exchangeable for shares of capital stock or voting securities of the Company,
(iii) options or other rights to acquire from the Company, or other obligation
of the Company to issue, any capital stock, voting securities or securities
convertible into, exercisable for or exchangeable for capital stock or voting
securities of the Company or (iv) stock appreciation, phantom stock or similar
rights with respect to the Company (the items in clauses (i), (ii), (iii) and
(iv) being referred to collectively as the "Company Securities"). There are no
outstanding obligations of the Company or any of its Subsidiaries to
repurchase, redeem or otherwise acquire any of the Company Securities. A list
of the holders of Options, the number of Options held by each such holder, the
exercise prices, the date of grant and vesting schedule of each such Option
are set forth in Section 4.07(d) of the Company's disclosure schedule. A list
of the holders of Restricted Stock, the number of Shares of Restricted Stock
held by each such holder and the date of grant and vesting schedule thereof is
set forth in Section 4.07(d) of the Company's disclosure schedule. A list of
the persons entitled to deferred Restricted Stock, the number of Shares of
deferred Restricted Stock to which each such person is entitled and the date
or dates on which payment of the Shares is scheduled to be made is set forth
in Section 4.07(d) of the Company's disclosure schedule.
Section 4.08. Subsidiaries; Equity Investments. (a) Each Subsidiary of the
Company is a corporation duly incorporated, validly existing and in good
standing under the laws of its jurisdiction of incorporation and has all
corporate powers and all governmental licenses, authorizations, permits,
consents and approvals required to own or lease and operate its properties and
assets and to carry on its business as now conducted, except for those
licenses, authorizations, permits, consents and approvals the absence of which
has not had and would not have, individually or in the aggregate, a Material
Adverse Effect. Each such Subsidiary is duly qualified to do business as a
foreign corporation and is in good standing in each jurisdiction where such
qualification is necessary, except for those jurisdictions where the failure
to be so qualified has not had and would not have, individually or in the
aggregate, a Material Adverse Effect.
(b) All of the outstanding capital stock of, or other voting securities or
ownership interests in, each Subsidiary of the Company is owned by the
Company, directly or indirectly, free and clear of any Lien and free of any
other limitation or restriction (including any restriction on the right to
vote, sell or otherwise dispose of
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such capital stock or other voting securities or ownership interests). All of
the outstanding shares of capital stock of each Subsidiary of the Company have
been validly issued and are fully paid and non-assessable. There are no
outstanding (i) securities of the Company or any of its Subsidiaries
convertible into or exchangeable for shares of capital stock or other voting
securities or ownership interests in any Subsidiary of the Company, (ii)
options or other rights to acquire from the Company or any of its Subsidiaries,
or other obligation of the Company or any of its Subsidiaries to issue, any
capital stock or other voting securities or ownership interests in, or any
securities convertible into or exchangeable for any capital stock or other
voting securities or ownership interests in, any Subsidiary of the Company or
(iii) stock appreciation, phantom stock or similar rights with respect to any
Subsidiary of the Company (the items in clauses (i), (ii) and (iii) being
referred to collectively as the "Company Subsidiary Securities"). There are no
outstanding obligations of the Company or any of its Subsidiaries to
repurchase, redeem or otherwise acquire any of the Company Subsidiary
Securities.
Section 4.09. Disclosure Documents. (i) The proxy statement of the Company
to be filed with the SEC in connection with the Merger (the "Company Proxy
Statement") and any amendments or supplements thereto and (ii) the statement on
Schedule 13E-3 to be filed by the Company concurrently with the filing of the
Company Proxy Statement (such statement, as amended or supplemented, is
referred to herein as the "Schedule 13E-3") and any amendments or supplements
thereto will each, when filed, comply as to form in all material respects with
the applicable requirements of the 1934 Act. At the time the Company Proxy
Statement or any amendment or supplement thereto is first mailed to Company
Stockholders, and at the time such stockholders vote on the adoption of this
Agreement, the Company Proxy Statement, as supplemented or amended, if
applicable, will not contain any untrue statement of a material fact or omit to
state any material fact necessary in order to make the statements made therein,
in the light of the circumstances under which they were made, not misleading.
The Schedule 13E-3 will not contain any untrue statement of a material fact or
omit to state a material fact required to be stated therein or necessary in
order to make the statements therein, in the light of the circumstances under
which they were made, not misleading. The representations and warranties
contained in this Section 4.09 will not apply to statements or omissions
included in the Company Proxy Statement or the Schedule 13E-3 based upon
information furnished in writing to the Company by or on behalf of Merger
Subsidiary for use therein.
Section 4.10. Absence of Material Adverse Effect. As of the date of this
Agreement, since June 30, 2000, there has not been any event, occurrence,
development or state of circumstances or facts that has or could reasonably be
expected to have, individually or in the aggregate, a Material Adverse Effect.
ARTICLE 5
Representations and Warranties of Merger Subsidiary
Merger Subsidiary represents and warrants to the Company that:
Section 5.01. Existence and Power. Merger Subsidiary is a limited liability
company duly formed, validly existing and in good standing under the laws of
Delaware and has all limited liability company powers and all governmental
licenses, authorizations, permits, consents and approvals required to carry on
its business as now conducted. Merger Subsidiary was formed solely for the
purpose of engaging in the Transactions. Since the date of its formation,
Merger Subsidiary has not engaged in any activities other than in connection
with or as contemplated by this Agreement. Merger Subsidiary has no
Subsidiaries.
Section 5.02. Authorization. The execution, delivery and performance by
Merger Subsidiary of this Agreement and the consummation by Merger Subsidiary
of the Transactions are within the limited liability company powers of Merger
Subsidiary and have been duly authorized by all necessary limited liability
company action. This Agreement constitutes a valid and binding agreement of
Merger Subsidiary.
Section 5.03. Governmental Authorization. The execution, delivery and
performance by Merger Subsidiary of this Agreement and the consummation by
Merger Subsidiary of the Transactions require no
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action by or in respect of, or filing with, or notification or reporting to,
any Governmental Authority other than (i) the filing of the Certificate of
Merger with the Secretary of State of the State of Delaware, (ii) compliance
with any applicable requirements of the HSR Act, (iii) compliance with any
applicable requirements of the 1934 Act and any other securities laws, whether
state or foreign and (iv) any actions or filings the absence of which could not
materially impair the ability of Merger Subsidiary to consummate the
Transactions.
Section 5.04. Non-Contravention. The execution, delivery and performance by
Merger Subsidiary of this Agreement and the consummation by Merger Subsidiary
of the Transactions do not and will not (i) contravene, conflict with, or
result in any violation or breach of any provision of any limited liability
company agreement or organizational document of Merger Subsidiary, (ii)
assuming compliance with the matters referred to in Section 5.03 hereof,
contravene, conflict with or result in a violation or breach of any provision
of any law, rule, regulation, judgment, injunction, order or decree, (iii)
require any consent or other action by any Person under, constitute a default
under, or cause or permit the termination, cancellation, acceleration or other
change of any right or obligation or the loss of any benefit to which Merger
Subsidiary is entitled under any provision of any agreement or other instrument
binding upon Merger Subsidiary or any license, franchise, permit, certificate,
approval or other similar authorization affecting, or relating in any way to,
the assets or business of Merger Subsidiary or (iv) result in the creation or
imposition of any Lien on any asset of Merger Subsidiary, except for such
failures to obtain any such consent or other action, defaults, terminations,
cancellations, accelerations, changes, losses or Liens referred to in clauses
(iii) and (iv) that could not materially impair the ability of Merger
Subsidiary to consummate the Transactions.
Section 5.05. Membership Interests. The authorized membership interests of
the Merger Subsidiary consists of 100 membership interests.
Section 5.06. Finders' Fees. Except for Chase Securities Inc., there is no
investment banker, broker, finder or other intermediary that has been retained
by or is authorized to act on behalf of Merger Subsidiary who might be entitled
to any fee or commission from the Company.
Section 5.07. Disclosure Documents. None of the information provided in
writing by Merger Subsidiary for inclusion (i) in the Company Proxy Statement
or any amendment or supplement thereto, at the time the Company Proxy Statement
or any amendment or supplement thereto is first mailed to the Company
Stockholders and at the time the Company Stockholders vote on adoption of this
Agreement or (ii) in the Schedule 13E-3 will contain any untrue statement of a
material fact or omit to state any material fact necessary in order to make the
statements made therein, in the light of the circumstances under which they
were made, not misleading.
Section 5.08. Financing. Merger Subsidiary has received and furnished copies
to the Company of (i) a commitment letter to provide financing to the Company
(including the Summary of Terms and Conditions annexed thereto, the "Commitment
Letter") with The Chase Manhattan Bank (the "Bank") dated as of September 18,
2000. As of the date hereof (i) the Commitment Letter has not been withdrawn
and is in full force and effect and (ii) Merger Subsidiary has no reason to
believe that any of the conditions set forth in the Commitment Letter will not
be satisfied.
Section 5.09. Merger Subsidiary's Representations. Merger Subsidiary
acknowledges that prior to the date hereof, none of the officers or directors
of the Company who are Continuing Stockholders has any knowledge of any
representation or warranty of the Company being untrue or inaccurate in any
material respect. If a manager of Merger Subsidiary or any of the Continuing
Stockholders had knowledge prior to the execution of this Agreement of any
breach by the Company of any representation, warranty, covenant, agreement or
condition of this Agreement, such breach shall not be deemed to be a breach of
this Agreement for any purpose hereunder, and neither Merger Subsidiary nor any
Continuing Stockholder shall have any claim or recourse against the Company,
its Subsidiaries, and each of their respective officers, directors, employees,
counsel advisors and representatives (collectively, the "Company
Representatives") with respect to such breach.
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ARTICLE 6
Covenants of the Company
The Company covenants that, except as set forth in the section or subsection
of the disclosure schedule delivered by the Company to Merger Subsidiary
immediately prior to execution of this Agreement corresponding to the relevant
section or subsection of this Article 6:
Section 6.01. Conduct of the Company. Except as expressly provided in this
Agreement or as expressly agreed to in writing by Merger Subsidiary, during the
period from the date of this Agreement to the Effective Time, the Company
shall, and shall cause each of its Subsidiaries to, conduct its operations
according to its ordinary and usual course of business and consistent with past
practice and use all commercially reasonable efforts to preserve intact their
current business organizations, keep available the services of their current
officers and employees and preserve their relationships with customers,
suppliers, licensors, licensees, advertisers, distributors and others having
business dealings with them and to preserve goodwill. Without limiting the
generality of the foregoing, and except as otherwise expressly provided in this
Agreement, prior to the Effective Time, the Company shall not, and shall cause
its Subsidiaries not to, without the consent of Merger Subsidiary, which shall
not be unreasonably withheld:
(a) expend funds for capital expenditures that in the aggregate would
cause total capital expenditures for the period from January 1, 2000 to the
Effective Time to exceed the amounts set forth in the most recent version
of the business plan previously provided to Merger Subsidiary;
(b) sell, lease, license or otherwise dispose of any capital stock of
any Subsidiary, any hotels or any material amount of other assets,
securities or property of the Company and its Subsidiaries, taken as a
whole, except pursuant to existing contracts or commitments;
(c) amend or change through merger, recapitalization or otherwise, its
certificate of incorporation, by-laws or equivalent organizational
documents or alter through merger, liquidation, reorganization,
restructuring or in any other fashion the corporate structure or ownership
of any Subsidiary of the Company; combine or reclassify any of its capital
stock or issue or authorize the issuance of any other securities in respect
of, in lieu of or in substitution for shares of its capital stock;
(d) except for issuances of Shares upon exercise of presently
outstanding Options, authorize for issuance, issue, deliver, sell or agree
or commit to issue, sell or deliver (whether through the issuance or
granting of options, warrants, commitments, subscriptions, rights to
purchase or otherwise), pledge or otherwise encumber any shares of its
capital stock or the capital stock of any of its Subsidiaries, any other
voting securities or any securities convertible into, or any rights,
warrants or options to acquire, any such shares, voting securities or
convertible securities or any other securities or equity equivalents
(including without limitation stock appreciation rights);
(e) (i) declare, set aside, make or pay any dividend or other
distribution (whether in cash, stock or property or any combination
thereof) in respect of any of its capital stock, except that a wholly-owned
Subsidiary of the Company may declare and pay a dividend, or make advances,
to the Company or another wholly-owned Subsidiary of the Company, (ii)
split, combine or reclassify any of its capital stock or issue or authorize
or propose the issuance of any other securities in respect of, in lieu of
or in substitution for shares of its capital stock, or (iii) except as
required by the terms of any security as in effect on the date hereof and
as set forth in Section 6.01(e) of the Company's disclosure schedule, amend
the terms or change the period of exercisability of, purchase, repurchase,
redeem or otherwise acquire any of the Company's securities, including
shares of Company Common Stock, or any option, warrant or right, directly
or indirectly, to acquire any such securities;
(f) make or agree to make any acquisition of any equity interest
(whether through a purchase of stock, establishment of a joint venture or
otherwise), property or asset which is material to the Company and its
Subsidiaries, taken as a whole, except for (i) purchases of inventory and
supplies in the ordinary course of business or (ii) pursuant to purchase
orders entered into in the ordinary course of business;
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(g) (i) (A) incur any indebtedness for borrowed money, except for
borrowings and reborrowings not in excess of $20.0 million and borrowings
and reborrowings under the Company's existing credit facilities and
intercompany indebtedness, (B) issue or sell any debt securities (except
intercompany debt securities) or warrants or other rights to acquire any
debt securities of the Company or any of its Subsidiaries, (C) make any
loans, advances (other than to employees of and consultants to the Company
for travel and other reasonable and customary expenses incurred in the
ordinary course of business consistent with past practice) or capital
contributions to, or investments in, any other Person, other than to the
Company or any direct or indirect Subsidiary of the Company or (D) assume,
guarantee (other than guarantees of obligations of the Company's
Subsidiaries entered into in the ordinary course of business consistent
with past practice) or endorse, or otherwise as an accommodation become
responsible for, the obligations of any Person (other than obligations of
Subsidiaries and the endorsements of negotiable instruments for collection
in the ordinary course of business consistent with past practice), or (ii)
enter into or materially amend any contract, agreement, commitment or
arrangement to effect any of the transactions prohibited by this Section
6.01(g);
(h) increase the compensation or severance payable or to become payable
to its directors or officers or enter into any employment or severance
agreement with any new management employee of the Company or any of its
Subsidiaries, except for an agreement entered into in the ordinary course
of business consistent with past practice and providing for annual base
compensation not to exceed $450,000;
(i) adopt or amend (except as may be required by law) any bonus, profit
sharing, compensation, stock option, pension, retirement, deferred
compensation, employment or other employee benefit plan, agreement, trust,
fund or other arrangement for the benefit or welfare of any employee,
director or former director or employee or, other than increases for
individuals (other than officers and directors) in the ordinary course of
business consistent with past practice, increase the compensation or fringe
benefits of any director, employee or former director or employee or pay
any benefit not required by any existing plan, arrangement or agreement;
(j) take any action to change any method of accounting, method of tax
accounting or accounting principles or practice by the Company or any of
its Subsidiaries, except for any such change required by reason of a
concurrent change in generally accepted accounting principles ("GAAP"),
Regulation S-X under the 1934 Act or other applicable law or regulation;
(k) (i) take any action that would make any representation and warranty
of the Company hereunder inaccurate in any material respect at, or as of
any time prior to, the Effective Time or (ii) omit to take any action
necessary to prevent any such representation or warranty from being
materially inaccurate in any respect at any such time; or
(l) authorize, or commit or agree to take, any of the foregoing actions.
Notwithstanding anything to the contrary in this Section 6.01, the Company
shall not be in breach of its obligations under this Section 6.01 if the
action alleged to violate this Section 6.01 was approved in advance in
writing by the Special Committee.
Section 6.02. Access to Information. From the date of this Agreement until
the Effective Time, the Company shall, and shall cause its Subsidiaries, and
each of the Company Representatives to, give Merger Subsidiary and its members,
managers, employees, counsel, advisors, representatives (collectively, the
"Merger Subsidiary Representatives") and representatives of financing sources
identified by Merger Subsidiary reasonable access, upon reasonable notice and
during normal business hours, to the offices and other facilities and to the
books and records of the Company and its Subsidiaries and will cause the
Company Representatives and the Company's Subsidiaries to furnish Merger
Subsidiary and the Merger Subsidiary Representatives and representatives of
financing sources identified by Merger Subsidiary with such financial and
operating data and such other information with respect to the properties,
assets, business and operations of the Company and its Subsidiaries as Merger
Subsidiary and representatives of financing sources identified by Merger
Subsidiary may from time to time reasonably request.
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Section 6.03. Stockholder Meeting; Proxy Material. The Company shall cause a
meeting of the Company Stockholders (the "Company Stockholder Meeting") to be
duly called and held as soon as reasonably practicable for the purpose of
voting on the adoption of this Agreement and the Merger. Subject to Section
6.04 hereof, the Board of Directors and the Special Committee shall recommend
adoption of this Agreement and the Merger by the Company Stockholders. In
connection with such meeting, the Company will (i) promptly prepare and file
with the SEC, use all commercially reasonable efforts to have cleared by the
SEC and thereafter mail to the Company Stockholders as promptly as practicable
the Company Proxy Statement and all other proxy materials for such meeting,
(ii) subject to Section 6.04, use all commercially reasonable efforts to obtain
the necessary approvals by the Company Stockholders of this Agreement and the
Transactions and (iii) otherwise comply with all legal requirements applicable
to such meeting.
Section 6.04. No Solicitation. (a) The Company agrees that it will not,
directly or indirectly through any officer, Subsidiary, Affiliate, director,
employee, stockholder, representative, agent or other Person, (i) seek,
initiate, solicit or encourage any Person to make an Acquisition Proposal, (ii)
engage in negotiations or discussions concerning an Acquisition Proposal with
any Person or group, (iii) disclose any non-public information relating to the
Company or give access to the properties, employees, books or records of the
Company or any of its Subsidiaries to any Person or group in connection with
any Acquisition Proposal or (iv) approve or recommend or agree to approve or
recommend any Acquisition Proposal; provided that nothing herein shall prevent
the Special Committee or the Board of Directors (acting through the Special
Committee) (either directly or indirectly through advisors, agents or other
intermediaries) from (a) furnishing information in writing or orally pursuant
to a customary confidentiality agreement concerning the Company and its
businesses, properties or assets to any Person (a "Third Party") in response to
any unsolicited inquiry, proposal or offer, (b) engaging in discussions or
negotiations with such a Third Party that has made such inquiry, proposal or
offer, (c) following receipt of a bona fide Acquisition Proposal, taking and
disclosing to its stockholders a position contemplated by Rules 14d-9 and 14e-
2(a) under the 1934 Act or otherwise making disclosure to its stockholders, (d)
following receipt of a bona fide Acquisition Proposal, failing to make or
withdrawing or modifying its recommendation referred to in Section 4.02 hereof,
and/or (e) terminating this Agreement but in each case referred to in clauses
(a) through (e), only to the extent that the Special Committee shall have
concluded in good faith (upon the advice of legal counsel) that such action is
required by the Special Committee's (and the Board of Directors') fiduciary
duties to the stockholders of the Company under applicable law.
(b) The Company shall notify Merger Subsidiary in writing promptly (but in
no event later than the end of the Business Day following receipt thereof) of
the receipt of, or of any change to or modification of, any Acquisition
Proposal (including a copy thereof if in writing), the terms and conditions of
such Acquisition Proposal and the identity of the Person making it.
(c) The Company shall, and shall cause its Subsidiaries and the advisors,
employees and other agents of the Company and any of its Subsidiaries to, cease
immediately and cause to be terminated any and all existing activities,
discussions or negotiations, if any, with any Third Party conducted prior to
the date hereof with respect to any Acquisition Proposal; provided, however,
that nothing in this paragraph 6.04(c) shall prohibit the Company from taking
any of the actions permitted by the proviso in paragraph 6.04(a) hereof with a
Third Party with whom the Company has had discussions prior to the date of this
Agreement so long as the Third Party initiates such actions after termination
by the Company of any existing activities, discussions or negotiations.
Section 6.05. State Takeover Laws. The Company shall, upon the request of
Merger Subsidiary, take all reasonable steps to render inapplicable and to
assist in any challenge by Merger Subsidiary to the validity or applicability
to the Transactions, including the Merger, of any state takeover law.
Section 6.06. Reports. From the date of this Agreement, the Company shall
provide Merger Subsidiary with monthly financial statements in the existing
reporting format (balance sheet, cash flow
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statement, income statement and, if available, notes thereto), broken out by
property, no later than the tenth Business Day following the end of each
calendar month following the date of this Agreement; provided that for calendar
months that are also the end of a calendar quarter, the Company may provide
such financial information to Merger Subsidiary on the same date such
information is publicly released in accordance with the past practice of the
Company.
Section 6.07. Issuance of Class A Preferred Stock. Promptly after the date
hereof, the Company shall file with the Secretary of State of the State of
Delaware a certificate of designation having the terms set forth as Exhibit E
attached hereto establishing and designating 797,441 shares of Class A
Preferred Stock. Upon the surrender of each Continuing Stockholder Exchange
Share on the Exchange Date (which will be the same day as the Effective Time
occurs) in accordance with the Exchange and Voting Agreement, the Company shall
promptly on such date issue one-tenth of a share of Class A Preferred Stock,
without additional consideration therefor to the holder thereof, and such
shares of Class A Preferred Stock shall be validly issued, fully paid and
nonassessable. The Shares so exchanged for Class A Preferred Stock shall be
treasury shares.
Section 6.08. Section 16 Matters. The Company shall take all such steps as
may be required to cause the Transactions and any other dispositions of equity
securities of the Company (including derivative securities) in connection with
this Agreement by each officer and director who is subject to Section 16 of the
1934 Act to be exempt from Section 16(b) of the 1934 Act, including, without
limitation, such steps to be taken in accordance with the No-Action Letter
dated January 12, 1999, issued by the SEC to Skadden, Arps, Slate, Meagher &
Flom LLP.
Section 6.09. Expenses; Real Property Surveys and Title Insurance. (a) The
Company shall pay all costs and expenses it incurs in connection with this
Agreement, including, without limitation, Title, Survey and Environmental
Costs, costs incurred in the preparation, printing, mailing and filing of the
proxy statement and filing for all necessary regulatory approvals and the fees
and expenses of Counsel to the Company and the Special Committee ("Company
Expenses"); provided, however, that if this Agreement is terminated pursuant to
Section 10.01(f) hereof, Merger Subsidiary will pay or reimburse the Company,
as the case may be, for all of the Company Expenses; provided, further,
however, that if this Agreement is terminated as a result of the failure of the
Bank to provide the financing under the Commitment Letter, Merger Subsidiary
will pay or reimburse the Company, as the case may be, for fifty percent (50%)
of the Company Expenses, but not to exceed seven hundred thousand dollars
($700,000) in the aggregate; and provided, further, however, that if this
Agreement is terminated pursuant to Section 10.01(b)(iii) hereof, Merger
Subsidiary shall pay or reimburse the Company, as the case may be, for ten
percent (10%) of the Company Expenses.
(b) At the earlier of the Effective Time or termination of this Agreement,
the Company shall pay or reimburse all fees and expenses of Merger Subsidiary
(including, without limitation, expenses payable to all banks, investment
banking firms and other financial institutions (which shall include, without
limitation, fees and expenses of such banks', firms' and institutions' legal
counsel), and all fees and expenses of counsel, accountants, financial
printers, experts and consultants to Merger Subsidiary and its affiliates),
whether incurred prior to, on or after the date hereof, in connection with the
Transactions and the other matters contemplated by this Agreement and the
financing thereof (such fees and expenses being referred to herein as "Merger
Subsidiary Expenses"); provided, however, that no such expenses shall be
payable or reimbursable by the Company if this Agreement is terminated pursuant
to Section 10.01(f) hereof; provided, further, however, that if this Agreement
is terminated as a result of the failure of the Bank to provide the financing
under the Commitment Letter, Merger Subsidiary will pay or reimburse the
Company, as the case may be, for fifty percent (50%) of the Merger Subsidiary
Expenses; and provided, further, however, that if this Agreement is terminated
pursuant to Section 10.01(b)(iii) hereof, Merger Subsidiary shall pay or
reimburse the Company, as the case may be, for ten percent (10%) of the Merger
Subsidiary Expenses. Merger Subsidiary has provided the Company with copies of
all existing agreements under which Merger Subsidiary Expenses (other than
those of counsel to Merger Subsidiary) may be payable or reimbursable by the
Company. Merger Subsidiary will not enter into any additional agreements under
which Merger Subsidiary Expenses may be payable or reimbursable
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by the Company without the approval of the Special Committee, which approval
shall not be unreasonably withheld.
(c) Prior to the Effective Time, the Company shall, at its sole cost and
expense deliver to Merger Subsidiary and the Bank (i) a title insurance policy
or commitment issued by a title insurance company reasonably satisfactory to
Merger Subsidiary with respect to each owned real property and material leased
real property of the Company and its Subsidiaries in form and substance
reasonably satisfactory to Merger Subsidiary, (ii) a current property survey
with respect to each such owned real property and material leased real
property, in each case, in such form as shall be required by the title
insurance company to omit the so called standard survey exceptions from the
title insurance policies or commitments issued at the Effective Time and (iii)
such environmental and engineering reports as Merger Subsidiary shall
reasonably request. The Company and its Subsidiaries shall, at or prior to the
Effective Time, deliver or cause to be delivered such affidavits, certificates,
instruments and information as shall be reasonably required to induce the title
insurance company to issue the title insurance policies or commitments
contemplated in the immediately preceding sentence (1) free of any exceptions
for (A) rights of parties in possession other than the insured, (B) rights of
first refusal or options to purchase, (C) Liens or rights to Liens for
services, materials or labor and (D) taxes, general and special assessments,
supplemental taxes and assessments other than those that are not yet due and
payable and (2) together with endorsements regarding access, non-imputation,
contiguity and so-called comprehensive and extended coverage. The Company's
costs and expenses in complying with this Section 6.09(c) are referred to
herein as "Title, Survey and Environmental Costs."
ARTICLE 7
Covenants of Merger Subsidiary
Section 7.01. Director and Officer Liability. The Surviving Corporation
hereby agrees to do the following:
(a) For six years after the Effective Time, the Surviving Corporation
shall indemnify and hold harmless the present and former officers and
directors of the Company and each of its Subsidiaries (each an "Indemnified
Person") in respect of acts or omissions occurring at or prior to the
Effective Time to the fullest extent permitted by the DGCL or any other
applicable laws or provided under the Company's amended and restated
certificate of incorporation and by-laws in effect on the date hereof;
provided that such indemnification shall be subject to any limitation
imposed from time to time under applicable law.
(b) For six years after the Effective Time, the Surviving Corporation
shall provide officers' and directors' liability insurance in respect of
acts or omissions occurring prior to the Effective Time covering each such
Indemnified Person currently covered by the Company's officers' and
directors' liability insurance policy on terms with respect to coverage and
amount no less favorable than those of such policy in effect on the date
hereof; provided that the Surviving Corporation shall not be obligated to
make annual premium payments for such insurance to the extent such annual
premiums exceed 200% of the annual premiums paid as of the date hereof by
the Company for such insurance; and provided, further, that if the premiums
with respect to such insurance exceed 200% of the annual premiums paid as
of the date hereof by the Company for such insurance, the Surviving
Corporation shall be obligated to obtain such insurance with the maximum
coverage as can be obtained at an annual premium equal to 200% of the
annual premiums paid by the Company as of the date hereof.
(c) The rights of each Indemnified Person under this Section 7.01 shall
be in addition to any rights such Person may have under the restated
certificate of incorporation or by-laws of the Company or any of its
Subsidiaries, or under the DGCL or any other applicable laws or under any
agreement of any Indemnified Person with the Company or any of its
Subsidiaries. These rights shall survive consummation of the Merger and are
intended to benefit, and shall be enforceable by, each Indemnified Person.
Section 7.02. Financing Arrangements. Merger Subsidiary shall use its
commercially reasonable efforts to obtain the financing contemplated by the
Commitment Letter.
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ARTICLE 8
Covenants of Merger Subsidiary and the Company
Section 8.01. Commercially Reasonable Efforts. (a) Subject to the terms and
conditions of this Agreement and to the fiduciary duties of the Board of
Directors under applicable law (as determined by such directors in good faith),
the Company and Merger Subsidiary will use commercially reasonable efforts to
take, or cause to be taken, all actions and to do, or cause to be done, all
things necessary, proper or advisable under applicable laws and regulations to
consummate the Transactions, including, to assist Merger Subsidiary and will
use commercially reasonable efforts to cooperate in all respects with Merger
Subsidiary and the Bank and other lenders in order for Merger Subsidiary to
establish its contemplated debt financing arrangements under the Commitment
Letter or otherwise. The Company shall sign, no later than the date hereof, the
Chase side letter relating to the indemnification of the Bank and Chase
Securities, Inc. In furtherance and not in limitation of the foregoing, the
Company and Merger Subsidiary agree to make, if required, an appropriate filing
of a Notification and Report Form pursuant to the HSR Act with respect to the
Transactions as promptly as practicable and in any event within ten Business
Days of the date hereof and to supply as promptly as practicable any additional
information and documentary material that may be requested pursuant to the HSR
Act and to take all other actions necessary to cause the expiration or
termination of the applicable waiting periods under the HSR Act as soon as
practicable.
(b) Each of Merger Subsidiary and the Company shall use all commercially
reasonable efforts to (i) cooperate in all respects with each other in
connection with any filing or submission and in connection with any
investigation or other inquiry, including any proceeding initiated by a private
party, (ii) keep the other party informed in all material respects of any
material communication received by such party from, or given by such party to,
the Federal Trade Commission (the "FTC"), the Antitrust Division of the
Department of Justice (the "DOJ") or any other Governmental Authority and of
any material communication received or given in connection with any proceeding
by a private party, in each case regarding any of the Transactions and (iii)
permit the other party to review any material communication given by it to, and
consult with each other in advance of any meeting or conference with, the FTC,
the DOJ or any such other Governmental Authority or, in connection with any
proceeding by a private party, with any other Person.
Section 8.02. Certain Filings. The Company and Merger Subsidiary shall
cooperate with one another (i) in connection with the preparation of the
Company Proxy Statement and the Schedule 13E-3, (ii) in determining whether any
action by or in respect of, or filing with, any Governmental Authority is
required, or any actions, consents, approvals or waivers are required to be
obtained from parties to any material contracts, in connection with the
consummation of the Transactions, and (iii) in taking such actions or making
any such filings, furnishing information required in connection therewith or
with the Company Proxy Statement and the Schedule 13E-3 and seeking timely to
obtain any such actions, consents, approvals or waivers.
Section 8.03. Public Announcements. Merger Subsidiary and the Company will
consult with each other before issuing any press release or making any public
statement with respect to this Agreement or the Transactions and, except as may
be required by applicable law or any listing agreement with any national
securities exchange, will not issue any such press release or make any such
public statement prior to such consultation.
Section 8.04. Notices of Certain Events. Each of the Company and Merger
Subsidiary shall promptly notify the other of:
(a) any notice or other communication from any Person alleging that the
consent of such Person is or may be required in connection with the
Transactions;
(b) any notice or other communication from any Governmental Authority in
connection with the Transactions;
A-19
(c) any actions, suits, claims, investigations or proceedings commenced
or, to its knowledge, threatened against, relating to or involving or
otherwise affecting the Company or any of its Subsidiaries or that relate
to the consummation of the Transactions;
(d) the occurrence or non-occurrence of any fact or event which would be
reasonably likely:
(i) to cause any representation or warranty contained in this
Agreement to be untrue or inaccurate in any material respect at any time
from the date hereof to the Effective Time, or
(ii) to cause any covenant, condition or agreement under this
Agreement not to be complied with or satisfied; and
(e) any failure of the Company or Merger Subsidiary, as the case may be,
to comply with or satisfy any covenant, condition or agreement to be
complied with or satisfied by it hereunder; provided, however, that no such
notification shall affect the representations or warranties of any party or
the conditions to the obligations of any party hereunder.
Section 8.05. Confidentiality. Prior to the Effective Time and after any
termination of this Agreement, each of Merger Subsidiary and the Company will
hold, and will use all commercially reasonable efforts to cause its officers,
directors, employees, accountants, counsel, consultants, advisors and agents
to hold, in confidence, all confidential documents and information concerning
the other party furnished to it or its Affiliates in connection with the
Transactions except information that is required to be disclosed in the
Company Proxy Statement and the Schedule 13E-3 or is otherwise required to be
disclosed to any Governmental Authority.
ARTICLE 9
Conditions to the Merger
Section 9.01. Conditions to Obligations of Each Party. The obligations of
the Company and Merger Subsidiary to consummate the Merger are subject to the
satisfaction of the following conditions:
(a) this Agreement and the Merger shall have been approved at the
Company Stockholder Meeting by the holders of not less than two-thirds of
the total number of votes (including a majority of the total number of
votes that may be cast by holders other than the Continuing Stockholders)
that may be cast by holders of capital stock of the Company in the election
of directors;
(b) any applicable waiting period under the HSR Act relating to the
Transactions shall have expired;
(c) no provision of any applicable law or regulation and no judgment,
injunction, order or decree shall prohibit the consummation of the Merger;
and
(d) all actions by or in respect of, or filings with, any Governmental
Authority required to permit the consummation of the Merger, shall have
been taken, made or obtained.
Section 9.02. Conditions to the Obligations of Merger Subsidiary. The
obligations of Merger Subsidiary to consummate the Merger are subject to the
satisfaction of the following further conditions:
(a) (i) the Company shall have performed in all material respects all of
its obligations hereunder required to be performed by it at or prior to the
Effective Time, (ii) the representations and warranties of the Company
contained in this Agreement and in any certificate or other writing
delivered by the Company pursuant hereto (without regard to any
qualification with respect to materiality or to having a Material Adverse
Effect) shall be true in all material respects at and as of the Effective
Time as if made at and as of such time, (iii) since the date of this
Agreement, there has not been any event, occurrence, development or state
of circumstances or facts that has or could reasonably be expected to have,
individually or in the aggregate, a Material Adverse Effect, and (iv)
Merger Subsidiary shall have received a certificate signed by a duly
authorized officer of the Company to the foregoing effect;
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(b) all conditions to closing under the Heads of Agreement dated
September 20, 2000 between the Company and Choice Hotels International,
Inc. shall have been satisfied and the Company shall have entered into
definitive agreements with Choice Hotels International, Inc. with respect
to the matters covered by the Heads of Agreement, the terms of which are
satisfactory to Merger Subsidiary;
(c) the Class A Preferred Stock shall have been issued prior to the
Effective Time to the Continuing Stockholders in accordance with the terms
of this Agreement and the Exchange and Voting Agreement; and
(d) the total number of Dissenting Shares shall not exceed 5% of the
Shares outstanding immediately prior to the exchange contemplated by the
Exchange and Voting Agreement.
Section 9.03. Conditions to the Obligations of the Company. The obligations
of the Company to consummate the Merger are subject to the satisfaction of the
following further conditions:
(a) (i) Merger Subsidiary shall have performed in all material respects
all of its obligations hereunder and under the Exchange and Voting
Agreement required to be performed by it at or prior to the Effective Time,
(ii) the representations and warranties of Merger Subsidiary contained in
this Agreement and in any certificate or other writing delivered by Merger
Subsidiary pursuant hereto (without regard to any qualification with
respect to materiality or to having a Material Adverse Effect) shall be
true in all material respects at and as of the Effective Time as if made at
and as of such time, and (iii) the Company shall have received a
certificate signed by a duly authorized manager of Merger Subsidiary to the
foregoing effect.
(b) The Continuing Shareholders shall have performed in all material
respects all of their obligations under the Exchange and Voting Agreement
required to be performed by them at or prior to the Effective Time.
(c) Merger Subsidiary shall have delivered to the Company copies of such
certificates or such other similar materials relating to the solvency of
the Company after giving effect to the Transactions and the financing
contemplated by the Commitment Letter as shall have been delivered to the
lender providing the Commitment Letter and the Stockholders and the Company
may rely on such certificates or other materials with the same effect as if
they had been issued to the Company and the Stockholders. If the lender
does not require such information, Merger Subsidiary shall be required to
deliver to the Company a certificate or such similar materials in form and
substance satisfactory to the Special Committee from the Company's Chief
Financial Officer relating to the solvency after giving effect to the
Transactions and the financing described herein.
ARTICLE 10
Termination
Section 10.01. Termination. This Agreement may be terminated and the Merger
may be abandoned at any time prior to the Effective Time (notwithstanding any
approval of this Agreement by the Company Stockholders):
(a) By mutual written agreement of the Company and Merger Subsidiary;
(b) by either the Company or Merger Subsidiary, if:
(i) the Merger has not been consummated on or before February 28,
2001 (the "End Date"), provided that the right to terminate this
Agreement pursuant to this Section 10.01(b)(i) shall not be available
to any party whose breach of any provision of this Agreement results in
the failure of the Merger to be consummated by such time;
(ii) there shall be any law or regulation that makes consummation of
the Merger illegal or otherwise prohibited or any judgment, injunction,
order or decree of any Governmental Authority having competent
jurisdiction enjoining Company or Merger Subsidiary from consummating
the Merger is entered and such judgment, injunction, order or decree
shall have become final and nonappealable; or
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(iii) this Agreement and the Merger shall not have been adopted in
accordance with this Agreement by the Company Stockholders at the
Company Stockholder Meeting (or any adjournment thereof);
(c) by Merger Subsidiary if the Special Committee or Board of Directors
(acting through the Special Committee) (i) shall have failed to make, or
withdrawn, or modified or conditioned in a manner adverse to Merger
Subsidiary, its approval or recommendation of this Agreement or the Merger
or (ii) shall have approved or recommended or agreed to approve or
recommend any Acquisition Proposal;
(d) by the Special Committee or the Board (acting through the Special
Committee) as provided in Section 6.04;
(e) by Merger Subsidiary, if a breach of or failure to perform any
representation, warranty, covenant or agreement on the part of the Company
set forth in this Agreement shall have occurred that would cause the
condition set forth in Section 9.02(a) hereof not to be satisfied, and such
condition is incapable of being satisfied by the End Date; or
(f) by the Company, if a breach of or failure to perform any
representation, warranty, covenant or agreement on the part of the Merger
Subsidiary set forth in this Agreement or the Exchange and Voting
Agreement, or if a breach of or failure to perform any representation,
warranty, covenant or agreement on the part of the Continuing Shareholders
under the Exchange and Voting Agreement shall have occurred that would
cause the condition set forth in Section 9.03(a) or (b) hereof not to be
satisfied, and such condition is incapable of being satisfied by the End
Date.
The party desiring to terminate this Agreement pursuant to this Section
10.01 (other than pursuant to Section 10.01(a)) shall give notice of such
termination to the other party.
Section 10.02. Effect of Termination. If this Agreement is terminated
pursuant to Section 10.01 hereof, this Agreement shall become void and of no
effect without liability of any party (or any stockholder, member, manager,
director, officer, employee, agent, consultant or representative of such party)
to the other party hereto. The provisions of Sections 8.05, 11.04, 11.06, 11.07
and 11.08 shall survive any termination hereof pursuant to Section 10.01.
ARTICLE 11
Miscellaneous
Section 11.01. Notices. All notices, requests and other communications to
any party hereunder shall be in writing (including facsimile or electronic
transmission with confirmed receipt) and shall be given,
if to Merger Subsidiary, to:
Nova Finance Company LLC
10770 Columbia Pike
Silver Spring, MD 20901
Fax: (301) 592-3991
Attn: James A. MacCutcheon
with a copy to:
Cahill Gordon & Reindel
80 Pine Street
New York, New York 10005
Fax: (212) 269-5420
Attn: W. Leslie Duffy, Esq.
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if to the Company, to:
Sunburst Hospitality Corporation
10770 Columbia Pike
Silver Spring, MD 20901
Fax: (301) 592-3830
Attn: General Counsel
and to:
The Special Committee of the Company
c/o Allen & Company, Inc.
711 Fifth Avenue
New York, NY 10022
Fax: (212) 832-6878
Attn: Paul A. Gould
with a copy to:
Wilmer, Cutler & Pickering
2445 M Street, N.W.
Washington, DC 20037-1420
Fax: (202) 663-6363
Attn: Richard W. Cass, Esq.
or such other address or facsimile number as such party may hereafter specify
for the purpose by notice to the other parties hereto. All such notices,
requests and other communications shall be deemed received on the date of
receipt by the recipient thereof if received prior to 5:00 p.m., and such day
is a Business Day, in the place of receipt. Otherwise, any such notice, request
or communication shall be deemed not to have been received until the next
succeeding Business Day in the place of receipt.
Section 11.02. Survival of Representations and Warranties. The
representations and warranties and agreements contained herein and in any
certificate or other writing delivered pursuant hereto shall not survive the
Effective Time or the termination of this Agreement, except for the agreements
set forth in Sections 6.09, 7.01, 8.05, 10.02, 11.04, 11.06, 11.07 and 11.08
which shall survive the Effective Time or the termination of this Agreement
regardless of any investigation made by or on behalf of the Company or Merger
Subsidiary or any of their respective officers or directors.
Section 11.03. Amendments; No Waivers. (a) Any provision of this Agreement
may be amended or waived prior to the Effective Time if, but only if, such
amendment or waiver is in writing and is signed, in the case of an amendment,
by each party to this Agreement or, in the case of a waiver, by each party
against whom the waiver is to be effective.
(b) No failure or delay by any party in exercising any right, power or
privilege hereunder shall operate as a waiver thereof nor shall any single or
partial exercise thereof preclude any other or further exercise thereof or the
exercise of any other right, power or privilege. The rights and remedies herein
provided shall be cumulative and not exclusive of any rights or remedies
provided by law.
Section 11.04. Successors and Assigns. The provisions of this Agreement
shall be binding upon and inure to the benefit of the parties hereto and their
respective successors and assigns; provided that no party may assign, delegate
or otherwise transfer any of its rights or obligations under this Agreement
without the consent of each other party hereto.
Section 11.05. Governing Law. The validity, construction and effect of this
Agreement shall be governed by and construed and enforced in accordance with
the laws of the State of Delaware, without giving effect to the principles of
conflicts of law of such state.
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Section 11.06. Jurisdiction. Any suit, action or proceeding seeking to
enforce any provision of, or based on any matter arising out of or in
connection with, this Agreement or the Transactions shall be brought in any
federal court located in the State of Delaware or any Delaware state court, and
each of the parties hereby consents to the jurisdiction of such courts (and of
the appropriate appellate courts therefrom) in any such suit, action or
proceeding and irrevocably waives, to the fullest extent permitted by law, any
objection that it may now or hereafter have to the laying of the venue of any
such suit, action or proceeding in any such court or that any such suit, action
or proceeding brought in any such court has been brought in an inconvenient
forum. Process in any such suit, action or proceeding may be served on any
party anywhere in the world, whether within or without the jurisdiction of any
such court. Without limiting the foregoing, each party agrees that service of
process on such party as provided in Section 11.01 hereof shall be deemed
effective service of process on such party.
Section 11.07. WAIVER OF JURY TRIAL. EACH OF THE PARTIES HERETO HEREBY
IRREVOCABLY WAIVES ANY AND ALL RIGHT TO TRIAL BY JURY IN ANY LEGAL PROCEEDING
ARISING OUT OF OR RELATED TO THIS AGREEMENT OR THE TRANSACTIONS.
Section 11.08. Counterparts; Effectiveness; Enforcement. This Agreement may
be signed in any number of counterparts, each of which shall be an original,
with the same effect as if the signatures thereto and hereto were upon the same
instrument. This Agreement shall become effective when each party hereto shall
have received counterparts hereof signed by all of the other parties hereto.
Except as provided in Section 7.01, no provision of this Agreement is intended
to confer any rights, benefits, remedies, obligations or liabilities hereunder
upon any Person other than the parties hereto and their respective successors
and assigns. Notwithstanding any of the terms or provisions of this Agreement,
(a) the Company agrees that neither it nor any person acting on its behalf may
assert any claim or cause of action against any of the Continuing Stockholders
or any of their respective affiliates (other than Merger Subsidiary), agents,
officers or employees in connection with or arising out of this Agreement or
the transactions contemplated hereby and (b) Merger Subsidiary agrees that its
sole remedy for any damages arising out of any breach of this Agreement by the
Company shall be limited to the payment or reimbursement of Merger Subsidiary
Expenses as provided in Section 6.09 hereof.
Section 11.09. Entire Agreement. This Agreement (including the exhibits and
schedules referred to herein) constitutes the entire agreement between the
parties with respect to the subject matter of this Agreement and supersedes
agreements and understandings, both oral and written, between the parties with
respect to the subject matter of this Agreement. Exhibits referred to herein
are incorporated by reference herein and shall constitute a part of this
Agreement.
Section 11.10. Captions. The captions herein are included for convenience of
reference only and shall be ignored in the construction or interpretation
hereof.
Section 11.11. Severability. If any term, provision, covenant or restriction
of this Agreement is held by a court of competent jurisdiction or other
authority to be invalid, void or unenforceable, the remainder of the terms,
provisions, covenants and restrictions of this Agreement shall remain in full
force and effect and shall in no way be affected, impaired or invalidated. Upon
such a determination, the parties shall negotiate in good faith to modify this
Agreement so as to effect the original intent of the parties as closely as
possible in an acceptable manner so that the Transactions be consummated as
originally contemplated to the fullest extent possible.
Section 11.12. Specific Performance. The parties hereto agree that
irreparable damage would occur if any provision of this Agreement were not
performed in accordance with the terms hereof and that the parties shall be
entitled to an injunction or injunctions to prevent breaches of this Agreement
or to enforce specifically the performance of the terms and provisions hereof
in any federal court located in the State of Delaware or any Delaware state
court, in addition to any other remedy to which they are entitled at law or in
equity.
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IN WITNESS WHEREOF, the parties hereto have caused this Agreement to be duly
executed by their respective authorized officers as of the day and year first
above written.
Sunburst Hospitality Corporation
/s/ Douglas H. Verner
By: _________________________________
Name: Douglas H. Verner
Title: Senior Vice President
Nova Finance Company LLC
/s/ James A. MacCutcheon
By: _________________________________
Name: James A. MacCutcheon
Title: Director
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ANNEX B
GENERAL CORPORATION LAW OF THE STATE OF DELAWARE
Section 262. Appraisal Rights.
(a) Any stockholder of a corporation of this State who holds shares of stock
on the date of the making of a demand pursuant to subsection (d) of this
section with respect to such shares, who continuously holds such shares through
the effective date of the merger or consolidation, who has otherwise complied
with subsection (d) of this section and who has neither voted in favor of the
merger or consolidation nor consented thereto in writing pursuant to ((S)) 228
of this title shall be entitled to an appraisal by the Court of Chancery of the
fair value of the stockholder's shares of stock under the circumstances
described in subsections (b) and (c) of this section. As used in this section,
the word "stockholder" means a holder of record of stock in a stock corporation
and also a member of record of a nonstock corporation; the words "stock" and
"share" mean and include what is ordinarily meant by those words and also
membership or membership interest of a member of a nonstock corporation; and
the words "depository receipt" mean a receipt or other instrument issued by a
depository representing an interest in one (1) or more shares, or fractions
thereof, solely of stock of a corporation, which stock is deposited with the
depository.
(b) Appraisal rights shall be available for the shares of any class or
series of stock of a constituent corporation in a merger or consolidation to be
effected pursuant to ((S)) 251 (other than a merger effected pursuant to ((S))
251(g) of this title), ((S)) 252, ((S)) 254, ((S)) 257, ((S)) 258, ((S)) 263 or
((S)) 264 of this title:
(1) Provided, however, that no appraisal rights under this section shall
be available for the shares of any class or series of stock, which stock,
or depository receipts in respect thereof, at the record date fixed to
determine the stockholders entitled to receive notice of and to vote at the
meeting of stockholders to act upon the agreement of merger or
consolidation, were either (i) listed on a national securities exchange or
designated as a national market system security on an interdealer quotation
system by the National Association of Securities Dealers, Inc. or (ii) held
of record by more than 2,000 holders; and further provided that no
appraisal rights shall be available for any shares of stock of the
constituent corporation surviving a merger if the merger did not require
for its approval the vote of the stockholders of the surviving corporation
as provided in subsection (f) of ((S)) 251 of this title.
(2) Notwithstanding paragraph (1) of this subsection, appraisal rights
under this section shall be available for the shares of any class or series
of stock of a constituent corporation if the holders thereof are required
by the terms of an agreement of merger or consolidation pursuant to
((S))((S)) 251, 252, 254, 257, 258, 263 and 264 of this title to accept for
such stock anything except:
a. Shares of stock of the corporation surviving or resulting from
such merger or consolidation, or depository receipts in respect
thereof;
b. Shares of stock of any other corporation, or depository receipts
in respect thereof, which shares of stock (or depository receipts in
respect thereof) or depository receipts at the effective date of the
merger or consolidation will be either listed on a national securities
exchange or designated as a national market system security on an
interdealer quotation system by the National Association of Securities
Dealers, Inc. or held of record by more than 2,000 holders;
c. Cash in lieu of fractional shares or fractional depository
receipts described in the foregoing subparagraphs a. and b. of this
paragraph; or
d. Any combination of the shares of stock, depository receipts and
cash in lieu of fractional shares or fractional depository receipts
described in the foregoing subparagraphs a, b and c of this paragraph.
(3) In the event all of the stock of a subsidiary Delaware corporation
party to a merger effected under ((S)) 253 of this title is not owned by
the parent corporation immediately prior to the merger, appraisal rights
shall be available for the shares of the subsidiary Delaware corporation.
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(c) Any corporation may provide in its certificate of incorporation that
appraisal rights under this section shall be available for the shares of any
class or series of its stock as a result of an amendment to its certificate of
incorporation, any merger or consolidation in which the corporation is a
constituent corporation or the sale of all or substantially all of the assets
of the corporation. If the certificate of incorporation contains such a
provision, the procedures of this section, including those set forth in
subsections (d) and (e) of this section, shall apply as nearly as is
practicable.
(d) Appraisal rights shall be perfected as follows:
(1) If a proposed merger or consolidation for which appraisal rights are
provided under this section is to be submitted for approval at a meeting of
stockholders, the corporation, not less than 20 days prior to the meeting,
shall notify each of its stockholders who was such on the record date for
such meeting with respect to shares for which appraisal rights are
available pursuant to subsections (b) or (c) hereof that appraisal rights
are available for any or all of the shares of the constituent corporations,
and shall include in such notice a copy of this section. Each stockholder
electing to demand the appraisal of such stockholder's shares shall deliver
to the corporation, before the taking of the vote on the merger or
consolidation, a written demand for appraisal of such stockholder's shares.
Such demand will be sufficient if it reasonably informs the corporation of
the identity of the stockholder and that the stockholder intends thereby to
demand the appraisal of such stockholder's shares. A proxy or vote against
the merger or consolidation shall not constitute such a demand. A
stockholder electing to take such action must do so by a separate written
demand as herein provided. Within 10 days after the effective date of such
merger or consolidation, the surviving or resulting corporation shall
notify each stockholder of each constituent corporation who has complied
with this subsection and has not voted in favor of or consented to the
merger or consolidation of the date that the merger or consolidation has
become effective; or
(2) If the merger or consolidation was approved pursuant to ((S)) 228 or
((S)) 253 of this title, each constituent corporation, either before the
effective date of the merger or consolidation or within ten (10) days
thereafter, shall notify each of the holders of any class or series of
stock of such constituent corporation who are entitled to appraisal rights
of the approval of the merger or consolidation and that appraisal rights
are available for any or all shares of such class or series of stock of
such constituent corporation, and shall include in such notice a copy of
this section; provided that, if the notice is given on or after the
effective date of the merger or consolidation, such notice shall be given
by the surviving or resulting corporation to all such holders of any class
or series of stock of a constituent corporation that are entitled to
appraisal rights. Such notice may, and, if given on or after the effective
date of the merger or consolidation, shall, also notify such stockholders
of the effective date of the merger or consolidation. Any stockholder
entitled to appraisal rights may, within 20 days after the date of mailing
of such notice, demand in writing from the surviving or resulting
corporation the appraisal of such holder's shares. Such demand will be
sufficient if it reasonably informs the corporation of the identity of the
stockholder and that the stockholder intends thereby to demand the
appraisal of such holder's shares. If such notice did not notify
stockholders of the effective date of the merger or consolidation, either
(i) each such constituent corporation shall send a second notice before the
effective date of the merger or consolidation notifying each of the holders
of any class or series of stock of such constituent corporation that are
entitled to appraisal rights of the effective date of the merger or
consolidation or (ii) the surviving or resulting corporation shall send
such a second notice to all such holders on or within 10 days after such
effective date; provided, however, that if such second notice is sent more
than 20 days following the sending of the first notice, such second notice
need only be sent to each stockholder who is entitled to appraisal rights
and who has demanded appraisal of such holder's shares in accordance with
this subsection. An affidavit of the secretary or assistant secretary or of
the transfer agent of the corporation that is required to give either
notice that such notice has been given shall, in the absence of fraud, be
prima facie evidence of the facts stated therein. For purposes of
determining the stockholders entitled to receive either notice, each
constituent corporation may fix, in advance, a record date that shall be
not more than 10 days prior to the date the notice is given, provided, that
if the notice is given on or after the effective date of the merger or
consolidation, the record date shall be such effective date. If no record
date is fixed and the notice is given
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prior to the effective date, the record date shall be the close of business
on the day next preceding the day on which the notice is given.
(e) Within 120 days after the effective date of the merger or consolidation,
the surviving or resulting corporation or any stockholder who has complied with
subsections (a) and (d) hereof and who is otherwise entitled to appraisal
rights, may file a petition in the Court of Chancery demanding a determination
of the value of the stock of all such stockholders. Notwithstanding the
foregoing, at any time within 60 days after the effective date of the merger or
consolidation, any stockholder shall have the right to withdraw such
stockholder's demand for appraisal and to accept the terms offered upon the
merger or consolidation. Within 120 days after the effective date of the merger
or consolidation, any stockholder who has complied with the requirements of
subsections (a) and (d) hereof, upon written request, shall be entitled to
receive from the corporation surviving the merger or resulting from the
consolidation a statement setting forth the aggregate number of shares not
voted in favor of the merger or consolidation and with respect to which demands
for appraisal have been received and the aggregate number of holders of such
shares. Such written statement shall be mailed to the stockholder within 10
days after such stockholder's written request for such a statement is received
by the surviving or resulting corporation or within 10 days after expiration of
the period for delivery of demands for appraisal under subsection (d) hereof,
whichever is later.
(f) Upon the filing of any such petition by a stockholder, service of a copy
thereof shall be made upon the surviving or resulting corporation, which shall
within 20 days after such service file in the office of the Register in
Chancery in which the petition was filed a duly verified list containing the
names and addresses of all stockholders who have demanded payment for their
shares and with whom agreements as to the value of their shares have not been
reached by the surviving or resulting corporation. If the petition shall be
filed by the surviving or resulting corporation, the petition shall be
accompanied by such a duly verified list. The Register in Chancery, if so
ordered by the Court, shall give notice of the time and place fixed for the
hearing of such petition by registered or certified mail to the surviving or
resulting corporation and to the stockholders shown on the list at the
addresses therein stated. Such notice shall also be given by 1 or more
publications at least 1 week before the day of the hearing, in a newspaper of
general circulation published in the City of Wilmington, Delaware or such
publication as the Court deems advisable. The forms of the notices by mail and
by publication shall be approved by the Court, and the costs thereof shall be
borne by the surviving or resulting corporation.
(g) At the hearing on such petition, the Court shall determine the
stockholders who have complied with this section and who have become entitled
to appraisal rights. The Court may require the stockholders who have demanded
an appraisal for their shares and who hold stock represented by certificates to
submit their certificates of stock to the Register in Chancery for notation
thereon of the pendency of the appraisal proceedings; and if any stockholder
fails to comply with such direction, the Court may dismiss the proceedings as
to such stockholder.
(h) After determining the stockholders entitled to an appraisal, the Court
shall appraise the shares, determining their fair value exclusive of any
element of value arising from the accomplishment or expectation of the merger
or consolidation, together with a fair rate of interest, if any, to be paid
upon the amount determined to be the fair value. In determining such fair
value, the Court shall take into account all relevant factors. In determining
the fair rate of interest, the Court may consider all relevant factors,
including the rate of interest which the surviving or resulting corporation
would have had to pay to borrow money during the pendency of the proceeding.
Upon application by the surviving or resulting corporation or by any
stockholder entitled to participate in the appraisal proceeding, the Court may,
in its discretion, permit discovery or other pretrial proceedings and may
proceed to trial upon the appraisal prior to the final determination of the
stockholder entitled to an appraisal. Any stockholder whose name appears on the
list filed by the surviving or resulting corporation pursuant to subsection (f)
of this section and who has submitted such stockholder's certificates of stock
to the Register in Chancery, if such is required, may participate fully in all
proceedings until it is finally determined that such stockholder is not
entitled to appraisal rights under this section.
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(i) The Court shall direct the payment of the fair value of the shares,
together with interest, if any, by the surviving or resulting corporation to
the stockholders entitled thereto. Interest may be simple or compound, as the
Court may direct. Payment shall be so made to each such stockholder, in the
case of holders of uncertificated stock forthwith, and the case of holders of
shares represented by certificates upon the surrender to the corporation of the
certificates representing such stock. The Court's decree may be enforced as
other decrees in the Court of Chancery may be enforced, whether such surviving
or resulting corporation be a corporation of this State or of any state.
(j) The costs of the proceeding may be determined by the Court and taxed
upon the parties as the Court deems equitable in the circumstances. Upon
application of a stockholder, the Court may order all or a portion of the
expenses incurred by any stockholder in connection with the appraisal
proceeding, including, without limitation, reasonable attorney's fees and the
fees and expenses of experts, to be charged pro rata against the value of all
the shares entitled to an appraisal.
(k) From and after the effective date of the merger or consolidation, no
stockholder who has demanded appraisal rights as provided in subsection (d) of
this section shall be entitled to vote such stock for any purpose or to receive
payment of dividends or other distributions on the stock (except dividends or
other distributions payable to stockholders of record at a date which is prior
to the effective date of the merger or consolidation); provided, however, that
if no petition for an appraisal shall be filed within the time provided in
subsection (e) of this section, or if such stockholder shall deliver to the
surviving or resulting corporation a written withdrawal of such stockholder's
demand for an appraisal and an acceptance of the merger or consolidation,
either within 60 days after the effective date of the merger or consolidation
as provided in subsection (e) of this section or thereafter with the written
approval of the corporation, then the right of such stockholder to an appraisal
shall cease. Notwithstanding the foregoing, no appraisal proceeding in the
Court of Chancery shall be dismissed as to any stockholder without the approval
of the Court, and such approval may be conditioned upon such terms as the Court
deems just.
(l) The shares of the surviving or resulting corporation to which the shares
of such objecting stockholders would have been converted had they assented to
the merger or consolidation shall have the status of authorized and unissued
shares of the surviving or resulting corporation.
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ANNEX C
[LETTERHEAD OF SALOMON SMITH BARNEY INC.]
September 20, 2000
The Special Committee of the Board of Directors
Sunburst Hospitality Corporation
10770 Columbia Pike
Silver Spring, Maryland 20901
Members of the Special Committee of the Board of Directors:
You have requested our opinion as to the fairness, from a financial point of
view, to the holders of the common stock of Sunburst Hospitality Corporation
("Sunburst"), other than Nova Finance Company LLC ("Merger Sub"), the Continuing
Stockholders (defined below) and their respective affiliates, of the Merger
Consideration (defined below) to be received by such holders pursuant to the
terms and subject to the conditions set forth in the Recapitalization Agreement,
dated as of September 20, 2000 (the "Agreement"), between Sunburst and Merger
Sub. As more fully described in the Recapitalization Agreement, (i) Merger Sub
will be merged with and into Sunburst (the "Merger") and (ii) each outstanding
share of the common stock, par value $0.01 per share, of Sunburst ("Sunburst
Common Stock"), other than shares of Sunburst Common Stock held by affiliates of
Sunburst who have entered into an exchange and voting agreement in connection
with the Merger (the "Continuing Stockholders"), will be converted into the
right to receive $7.375 in cash (the "Merger Consideration").
In arriving at our opinion, we reviewed the Recapitalization Agreement and
certain related documents, and held discussions with certain senior officers,
directors and other representatives and advisors of Sunburst concerning the
business, operations and prospects of Sunburst. We examined certain publicly
available business and financial information relating to Sunburst as well as
certain financial forecasts and other information and data for Sunburst,
including third party appraisals of certain of Sunburst's leasehold interests,
which were provided to or otherwise discussed with us by the management of
Sunburst. We reviewed the financial terms of the Merger as set forth in the
Recapitalization Agreement in relation to, among other things: current and
historical market prices and trading volumes of Sunburst Common Stock; the
historical and projected earnings and other operating data of Sunburst; and the
financial condition and capitalization of Sunburst. We analyzed certain
financial, stock market and other publicly available information relating to the
businesses of other companies whose operations we considered relevant in
evaluating those of Sunburst. In addition to the foregoing, we conducted such
other analyses and examinations and considered such other financial, economic
and market criteria as we deemed appropriate in arriving at our opinion.
In rendering our opinion, we have assumed and relied, without independent
verification, upon the accuracy and completeness of all financial and other
information and data publicly available or furnished to or otherwise reviewed by
or discussed with us. With respect to financial forecasts and other information
and data provided to or otherwise reviewed by or discussed with us, including
information relating to certain asset sales expected by the management of
Sunburst to be completed prior to consummation of the Merger, we have been
advised by the management of Sunburst that such forecasts and other information
and data were reasonably prepared on bases reflecting the best currently
available estimates and judgments of the management of Sunburst as to the future
financial performance of Sunburst. With respect to third party appraisals
provided to or otherwise reviewed by or discussed with us, we have assumed, with
your consent, that such appraisals also were prepared on bases reflecting the
best currently available estimates and judgments of the preparers thereof as to
the matters covered thereby. We have not made or, with the
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The Special Committee of the Board of Directors
Sunburst Hospitality Corporation
September 20, 2000
Page 2
exception of certain third party appraisals provided to us by the management of
Sunburst, been provided with an independent evaluation or appraisal of the
assets or liabilities (contingent or otherwise) of Sunburst nor have we made any
physical inspection of the properties or assets of Sunburst. In connection with
our engagement, we were not requested to, and we did not, solicit third party
indications of interest in the possible acquisition of all or a part of
Sunburst. We have been advised by representatives of Sunburst, however, and have
taken into account for purposes of our opinion, that Sunburst has held
discussions from time to time in the past with third parties regarding a
possible business combination or similar transaction involving Sunburst. We
express no view as to, and our opinion does not address, the relative merits of
the Merger as compared to any alternative business strategies that might exist
for Sunburst or the effect of any other transaction in which Sunburst might
engage. Our opinion is necessarily based upon information available to us, and
financial, stock market and other conditions and circumstances existing and
disclosed to us, as of the date hereof.
Salomon Smith Barney Inc. has acted as financial advisor to the Special
Committee in connection with the proposed Merger and will receive a fee for such
services, a significant portion of which is contingent upon the consummation of
the Merger. We also will receive a fee upon delivery of this opinion. We have in
the past provided investment banking services to Sunburst unrelated to the
proposed Merger, for which services we have received compensation. In the
ordinary course of our business, we and our affiliates may actively trade or
hold the securities of Sunburst and its affiliates for our own account or for
the account of our customers and, accordingly, may at any time hold a long or
short position in such securities. In addition, we and our affiliates (including
Citigroup Inc. and its affiliates) may maintain relationships with Merger Sub,
Sunburst and their respective affiliates.
Our advisory services and the opinion expressed herein are provided for the
information of the Special Committee in its evaluation of the proposed Merger,
and our opinion is not intended to be and does not constitute a recommendation
to any stockholder as to how such stockholder should vote on any matters
relating to the proposed Merger.
Based upon and subject to the foregoing, our experience as investment bankers,
our work as described above and other factors we deemed relevant, we are of the
opinion that, as of the date hereof, the Merger Consideration is fair, from a
financial point of view, to the holders of Sunburst Common Stock (other than
Merger Sub, the Continuing Stockholders and their respective affiliates).
Very truly yours,
/s/ SALOMON SMITH BARNEY INC.
SALOMON SMITH BARNEY INC.
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ANNEX D
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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
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FORM 10-K
FOR ANNUAL AND TRANSITION REPORTS
PURSUANT TO SECTIONS 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 [NO FEE REQUIRED, EFFECTIVE OCTOBER 7, 1996].
For the fiscal year ended December 31, 1999
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 [NO FEE REQUIRED].
For the transition period from to
Commission file number 001-11915
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SUNBURST HOSPITALITY CORPORATION
(Exact Name of Registrant as Specified in Its Charter)
DELAWARE 52-1985619
(State or Other Jurisdiction (I.R.S. Employer
of Incorporation or Organization) Identification No.)
10770 Columbia Pike, Silver Spring, Maryland 20901
(Address of Principal Executive Offices) ZipCode
Registrant's telephone number, including area code (301) 592-3800
Securities registered pursuant to Section 12(b) of the Act:
Title of Each Class Name of Each Exchange on Which Registered
------------------- -----------------------------------------
Common Stock, Par Value $.01 per share New York Stock Exchange
Securities registered pursuant to Section 12(g) of the Act:
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(Title of Class)
-------------------------------------------------
(Title of Class)
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed in Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months as 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 [_]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of the Form 10-K or any amendment to this
Form 10-K.
The aggregate market value of voting stock of Sunburst Hospitality
Corporation held by non-affiliates was $29,673,343 as of March 27, 2000 based
upon a closing price of $4.50 per share.
APPLICABLE ONLY TO REGISTRANTS INVOLVED IN BANKRUPTCY
PROCEEDINGS DURING THE PRECEDING FIVE YEARS:
Indicate by check mark whether the registrant has filed all documents and
reports required to be filed by Section 12, 13 or 15(d) of the Securities
Exchange Act of 1934 subsequent to the distribution of securities under a plan
confirmed by a court. Yes [_] No [_]
(APPLICABLE ONLY TO CORPORATE REGISTRANTS)
The number of shares outstanding of Sunburst Hospitality Corporation's
common stock at March 27, 2000 was 15,358,837.
DOCUMENTS INCORPORATED BY REFERENCE.
PART III Proxy Statement dated April 10, 2000.
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D-1
PART I
Item 1. Business
Sunburst Hospitality Corporation ("Sunburst" or the "Company") owns and
operates hotels in one of four principal categories within the lodging industry:
extended-stay, traditional all-suites, full service and limited service. As of
March 1, 2000, the Sunburst portfolio included 83 hotels open with 11,365 rooms
in 27 States and 3 hotels under construction or in development. Each hotel is
branded with a Choice Hotels International, Inc. ("Choice") brand. Sunburst is
Choice's largest franchisee. The Company is in the process of converting its
Miami Springs Comfort Inn hotel to a Holiday Inn Express and expects to complete
the conversion in June 2000. Twenty-eight of the 83 hotels, with a net book
value of $124.9 million at December 31, 1999, serve as collateral for the
Company's multi-class mortgage pass-through certificates.
Sunburst has a successful record of managing ahead of industry cycles.
Prior to an industry downturn in the late 1980s, the Company was able to
liquidate a substantial portion of its existing hotel portfolio. Then in 1992,
the Company began to opportunistically acquire hotels at prices well below their
replacement cost. All of these hotels have benefited from a significant
investment of capital used to renovate and upgrade the properties. The hotels
have also benefited from the installation of professional management and
marketing systems. In the past four years the Company has responded to changing
industry cycles by shifting its development strategy to the new construction of
mid-market, all-suite extended-stay hotels and has opened 21 such hotels, all
branded MainStay Suites.
Sunburst's strategy is to: (i) actively manage the Company's existing
portfolio and optimize performance by applying proven operating systems and
procedures, (ii) sell hotels projected to underperform and redeploying capital
into higher yielding assets; (iii) develop extended-stay hotels to capitalize on
the positive fundamentals of the extended-stay opportunity; and (iv) selectively
pursue development and repositioning opportunities.
Historical Acquisition Strategy
The primary focus of Sunburst from 1992 through 1996 was the
acquisition of hotels. During this period many hotels were facing financial
hardship, creating an opportunity for Sunburst to acquire properties at prices
well below replacement cost. Sunburst's strategy was to acquire and renovate the
hotels, install professional management and marketing systems, and in some cases
reposition the hotels to a different brand or service level. Between 1992 and
1997, Sunburst acquired 55 hotels, containing 7,809 rooms, for an aggregate
purchase price of $187.7 million. Approximately $95.6 million was spent on
additional capital improvements to those hotels. The total investment basis in
the 55 acquired hotels is approximately 60% of the estimated replacement value
of the hotels at their respective dates of acquisition.
The Company believes that there are currently limited opportunities to
acquire hotels at a substantial discount to replacement value. As a result, no
hotels have been acquired by the Company since February 1997. The Company will
evaluate acquisitions on an opportunistic basis when it believes that long-term
value can be created.
Hotel Development
The Company's recent strategy to concentrate on the development of
mid-market, extended-stay hotels is intended to capitalize on the demand/supply
imbalance in that niche. Historically, these hotels have produced higher than
average returns on investment and management believes that demand in this
segment significantly exceeds supply.
D-2
Sunburst's focus on external development is geared to capitalize on the
under-served, high-growth, mid-priced extended-stay all-suite segment, and the
development of other high-quality, consumer-focused hotels.
The following is a list of new hotels developed by Sunburst
since 1994 or under development as of March 1, 2000.
Year of Opening
---------------
Market Brand
- ------ -----
Dallas/Plano, TX................................................ Sleep Inn 1994
San Antonio, TX................................................. Sleep Inn 1995
Baton Rouge, LA................................................. Sleep Inn 1996
Houston/Airport, TX............................................. Sleep Inn 1996
Austin/Round Rock, TX........................................... Sleep Inn 1996
Dallas/Plano, TX................................................ MainStay Suites 1996
Raleigh, NC..................................................... Sleep Inn 1997
Dallas/Arlington, TX............................................ Sleep Inn 1997
Kansas City/Airport, MO......................................... Sleep Inn 1997
Charlotte, NC................................................... Sleep Inn 1997
Rockville, MD................................................... Sleep Inn 1997
Providence/Airport, RI.......................................... MainStay Suites 1997
Cincinnati/Blue Ash, OH ........................................ MainStay Suites 1997
Kansas City/Airport, MO......................................... MainStay Suites 1998
Indianapolis, IN................................................ MainStay Suites 1998
Louisville, KY.................................................. MainStay Suites 1998
Greenville, SC.................................................. MainStay Suites 1998
Denver/Airport, CO.............................................. Sleep Inn 1998
Orlando/Lake Mary, FL ......................................... MainStay Suites 1998
Denver/Tech Center, CO ......................................... MainStay Suites 1999
Jacksonville, FL ............................................... MainStay Suites 1998
Nashville, Brentwood, TN ....................................... MainStay Suites 1998
Miami/Airport, FL ............................................. MainStay Suites 1998
Pittsburgh/Airport, PA ........................................ MainStay Suites 1998
Fishkill/Poughkeepsie, NY ...................................... MainStay Suites 1998
Denver/Tech Center, CO ........................................ Sleep Inn 1999
Tempe, AZ ...................................................... MainStay Suites 1999
Miami/Airport, FL .............................................. Sleep Inn 1999
Annapolis, MD .................................................. MainStay Suites 1999
Peabody, MA .................................................... MainStay Suites 1999
Raleigh, NC .................................................... MainStay Suites 1999
North Charleston, SC ........................................... MainStay Suites 1999
Malvern, PA .................................................... MainStay Suites 1999
Secaucus, NJ ................................................... MainStay Suites 2000
Mt. Laurel, NJ (1) ............................................. MainStay Suites 2000
Schaumberg, IL (1).............................................. MainStay Suites 2001
Bedford, MA (1)................................................. MainStay Suites 2001
__________
(1) Hotel under development at December 31, 1999.
Sunburst's focus on developing the mid-market, extended-stay product is
based on statistics indicating the demand/supply imbalance. According to various
industry studies, demand in the extended-stay market is strong, yet supply is
limited, particularly in the mid-price segment. Industry sources define
extended-stay as stays of five or more nights and reported that demand
accommodated in extended-stay
D-3
hotels grew faster than supply in 1999. By applying its hotel real estate
development expertise, Sunburst is targeting markets with ideal conditions for
the extended-stay product and building MainStay Suites hotels.
The MainStay Suites brand, which was created by the Company in
conjunction with Choice Hotels International, Inc, has a unique product design
and service package which enhance property level appeal, productivity and
profitability. Among the MainStay brand's most unique features are the automated
check-in kiosk (which allows guests to check in and out without assistance from
an employee) and the optional daily light touch housekeeping (full housekeeping
just every five days). These features enable MainStay Suites hotels to operate
with fewer full time equivalent employees than a similar limited service hotel.
Sunburst anticipates that its extended-stay projects can produce
stabilized, unleveraged pre-tax property level returns on investment of
approximately 15%. This belief is supported by the Company's experience at the
MainStay Suites hotels that are nearing stabilization. Projections are based on
rate and occupancy forecasts generated internally by the Company and by external
feasibility consultants, as well as internal operating guidelines, land cost and
projected construction costs. The ultimate returns will, however, be impacted by
a number of factors, including the extent of new competitive supply in each
market, and there can be no assurance that projected returns will be achieved or
that actual results will not differ materially. (See Item 7. Management's
Discussion and Analysis of Financial Condition and Results of Operations --
Forward Looking Statements, below.)
Each of the Company's MainStay Suites hotels averages approximately 100
suites and are developed on 2.5 to 3.0 acres of land in suburban office parks or
locations in close proximity to major employers, restaurants and retail
amenities. MainStay Suites feature high quality, interior corridor building
construction with amenities and features provided in direct response to consumer
demand. The suites feature bedroom areas, a living room area with a pull-out
couch or recliner, private bathroom and fully furnished kitchen. The kitchen
includes a full-size refrigerator, dishwasher, microwave, stove, coffee maker,
toaster and all cooking utensils. Each suite also features an over-sized counter
which serves as an eating area and work center, along with two ergonomic chairs.
Suite alternatives include a studio suite or one-bedroom suite. Each suite
includes two direct dial phone lines with data ports, voice mail and other
automated phone services.
Hotel Dispositions
During 1999, the Company sold eleven hotels for $37.0 million. At
December 31, 1999, the Company had an additional seven hotels, with a total net
book value of $34.5 million, being marketed for sale. The Company anticipates
closing on the sale of these hotels during 2000. The Company has sold one hotel
since December 31, 1999.
Operations
Sunburst's owned and managed hotels typically operate under one of the
Choice brand names. Sunburst's hotels take advantage of the same systems and
services available to Choice franchisees with respect to a particular brand. The
hotels participate in Choice's central reservation system, marketing and
advertising efforts and volume purchasing discounts and are subject to Choice's
same quality assurance program. In addition, Sunburst has instituted the
following systems in the hotels it operates.
. Yield Management. An automated yield management system allows each
property's management to take advantage of the supply and demand conditions
in the local marketplace. The automated system performs calculations and
suggests pricing strategies to the local hotel management. The system
continuously updates information based on the availability of room supply,
reservation volume and projected demand and stay patterns within each
hotel.
D-4
. Training. Sunburst has developed a training system for all guest services
representatives that teaches the basic sales techniques. A computerized
guest comment system solicits the comments of guests and the experiences
they had at the hotel while providing management with immediate guest
feedback.
. E-Commerce. Sunburst has several electronic commerce initiatives aimed at
producing incremental revenue and improving productivity. Approximately
1.6% of the Company's room revenue were booked through Internet sites and
the Company expects that to increase to at least 3% in 2000. The Company
also expects to install an Internet-based procurement system in 2000 which
is expected to reduce the overall cost of purchasing various supplies.
. Information Systems. Each of the Sunburst-operated hotels has a
computerized front desk and accounting system and all units are connected
to Sunburst's own wide area network. These systems allow key financial
indicators (such as daily occupancy and revenue) to be immediately gathered
from each hotel and electronically transmitted to the key operating
officers and managers of Sunburst. Instant access to information allows
management to quickly spot trends and make corrections and changes where
necessary. The system also allows for cost savings in the accounting and
bookkeeping departments of each hotel.
. Time and Attendance System. Sunburst hotels maintain labor scheduling and
automated time and attendance systems that are tied into a central payroll
system at the corporate headquarters. This computerized method of
scheduling and tracking time provides for scheduling based on up-to-date
occupancy projections and allows management to make quick decisions on
controlling labor costs.
. Capital Reinvestment Program. Each of Sunburst's hotels completes a
detailed capital spending budget annually. The hotels spend on average
5%-7% of total revenues on capital improvements annually. This reinvestment
allows the hotels to maintain a competitive advantage in the local markets.
. Annual Business Planning Process. Each hotel prepares a zero-based annual
business plan which incorporates historical performance and market
conditions. The plan, which is reviewed and approved by senior management,
provides detailed strategies in the key operating areas of marketing, guest
services and food and beverage. The annual plan serves as a fundamental
measurement of management's performance.
The Hotel Properties
Sunburst's hotel properties serve four categories of the lodging
industry; traditional all-suite, extended-stay, full service and limited
service.
ALL SUITE HOTELS
All-Suite Hotels. Sunburst has five hotels in the traditional all-suite
segment. Sunburst's all-suite hotel properties compete in the mid-price and
upscale price segments.
Brand Number of Hotels Number of Rooms Price Segment
----- ---------------- --------------- -------------
Quality Suites................................. 3 345 upscale
Comfort Suites................................. 2 232 mid-price
D-5
EXTENDED-STAY HOTELS
Extended-Stay Hotels. Sunburst has 21 hotels with another 3 under
construction or in development in the extended-stay segment. All are branded
MainStay Suites and compete in the mid-price price segment.
Brand Number of Hotels Number of Rooms Price Segment
- ----- ---------------- --------------- -------------
MainStay Suites........................................ 21 2,054 mid-price
FULL SERVICE HOTELS
Full Service Hotels. Sunburst has 16 hotels in the full service
segment. Sunburst's full service hotels compete in the mid-price and upscale
price segments. The table below identifies Sunburst's full service hotels by
brand and price segment.
Brand Number of Hotels Number of Rooms Price Segment
- ----- ---------------- --------------- -------------
Clarion Hotel & Inns................................... 11 2,126 upscale
Quality Hotel & Inns................................... 5 1,327 mid-price
LIMITED SERVICE HOTELS
Limited Service Hotels. Sunburst has 41 hotels in the limited service
segment open. Sunburst's limited service hotel properties compete in the
mid-price price segments. The table below identifies Sunburst's limited service
hotels by brand and price segment.
Brand Number of Hotels Number of Rooms Price Segment
- ----- ---------------- --------------- -------------
Comfort Inns........................................... 22 3,173 mid-price
Quality Inns........................................... 6 661 mid-price
Sleep Inns............................................. 13 1,447 mid-price
Franchise and Strategic Alliance Agreements
Each Franchise Agreement with Choice Hotels International, Inc. has an
initial term of twenty years. The Franchise Agreements have varying original
dates, from 1982 through 1998. Certain Franchise Agreements allow for unilateral
termination by either party on the 5th, 10th, or 15th anniversary of the
Franchise Agreement. Sunburst's Franchise Agreements with Choice allow for early
termination by Sunburst, subject to liquidated damage provisions which range
from zero dollars to a maximum of $100,000 per property.
The Franchise Agreements require the payment of certain fees and
charges, including the following: (a) a royalty fee of between 1.93% to 5.0% of
monthly gross room revenues; (b) a marketing fee of between 0.7% and 2.5% plus
$0.28 per day multiplied by the specified room count; and (c) a reservation fee
of 0.88% to 1.75% of monthly gross room revenues (or 1% of monthly gross room
revenues plus $1.00 per room confirmed through Choice's reservation system). The
marketing fee and the reservation fee are subject to reasonable increases during
the term of the franchise if Choice raises such fees uniformly among all its
franchisees, generally. Late payments (i) will be a breach of the Franchise
Agreement and (ii) will accrue interest from the date of delinquency at a rate
of 1.5% per month or portion thereof.
At the time of the Spin-off and as subsequently amended, Choice and the
Company entered into a Strategic Alliance Agreement pursuant to which: (i)
requires the Company to give Choice two weeks notice of the filing of a hotel
franchise application with any competitor of Choice; (ii) the Company has also
agreed, barring a material change in market conditions, to continue to develop
MainStay Suites hotels so that it will have opened a total 25 MainStay Suites
hotels by October 15, 2001; (iii) Choice will provide certain credits against
MainStay Suites franchise fees otherwise payable by the Company if certain
financial performance goals for those hotels are not achieved; (iv) Choice and
the Company have agreed to
D-6
continue to cooperate with respect to matters of mutual interest, including new
product and concept testing for Choice in hotels owned by the Company; and (v)
the Company has authorized Choice, on a non-exclusive basis, to negotiate with
third-party vendors on the Company's behalf for the purchase of certain items.
The Strategic Alliance Agreement expires on October 15, 2002.
Competition
The Company is a leading owner and operator of hotels in the United
States. Competition in the United States lodging industry is generally based on
convenience of location, price, range of services and guest amenities offered,
plus the quality of customer service and overall product. Newer, recently
constructed hotels compete effectively against older hotels if such hotels are
not refurbished on a regular basis. The effect of local economic conditions on
the Company's results is reduced by the Company's geographic diversity of its
properties, which are located in 27 States, as well as its range of products and
room rates.
Seasonality
The Company's principal sources of revenue are revenues generated by
its properties. The Company experiences seasonal revenue patterns similar to
those of the lodging industry in general. This seasonality can be expected to
cause quarterly fluctuations in the Company's revenues, profit margins and net
income.
Regulation and Environmental Matters
The Company's hotels are subject to numerous federal, state and local
government regulations, including those pertaining to the preparation and sale
of food and beverages (such as health and liquor license laws), building and
zoning requirements and laws governing a hotel owner's relationship with
employees, including minimum wage requirements, overtime, working conditions and
work permit requirements. While the Company's operations have not been
materially affected by such regulations, the Company cannot predict the effect
of future regulations or legislation.
The hotel properties are subject to environmental regulations under
Federal, state and local laws. Certain of these laws may require a current or
previous owner or operator of real estate to clean up designated hazardous or
toxic substances or petroleum product releases affecting the property. In
addition, the owner or operator may be held liable to a governmental entity or
to third parties for damages or costs incurred by such parties in connection
with the contamination. The Company does not believe that it is subject to any
material environmental liability.
Employees
At December 31, 1999, Sunburst employed approximately 3,500 employees.
As is typical in the lodging industry, the Company experiences high rates of
employee turnover. Less than 5% of the Company's employees are represented by
unions. All of the Company's union employees are employed at Comfort Inn by the
Bay, San Francisco, California. The Company considers its relations with its
employees to be good.
D-7
Item 2. Properties
The following chart lists by market segment Sunburst's hotels
at March 1, 2000.
Year
No. of Constructed/Last
Hotel Market Rooms Major Renovation
- ----- ------ ------ ----------------
Traditional All-Suite
Upscale
Quality Suites Deerfield..................... Fort Lauderdale, Florida 107 1991/1995
Quality Suites............................... Raleigh, North Carolina 114 1988/1994
Quality Suites Shady Grove................... Rockville, Maryland 124 1978/1996
Mid-Price
Comfort Suites Haverhill..................... Boston, Massachusetts 131 1989/1997
Comfort Suites Deerfield..................... Fort Lauderdale, Florida 101 1991/1995
Extended-Stay
Mid-Price
MainStay Suites Plano........................ Dallas, Texas 96 1996
MainStay Suites Warwick...................... Providence, Rhode Island 94 1997
MainStay Suites Blue Ash..................... Cincinnati, Ohio 100 1997
MainStay Suites Airport...................... Kansas City, Missouri 88 1998
MainStay Suites Northwest.................... Indianapolis, Indiana 88 1997
MainStay Suites Louisville................... Louisville, Kentucky 100 1998
MainStay Suites Tech Center.................. Denver, Colorado 100 1998
MainStay Suites Lake Mary.................... Orlando, Florida 100 1998
MainStay Suites South Pointe................. Jacksonville, Florida 100 1998
MainStay Suites Greenville................... Greenville, South Carolina 100 1998
MainStay Suites Brentwood.................... Nashville, Tennessee 100 1998
MainStay Suites Miami Springs................ Miami Springs, Florida 102 1998
MainStay Suites Fishkill..................... Fishkill, New York 106 1998
MainStay Suites Annapolis.................... Annapolis, Maryland 97 1999
MainStay Suites Pittsburgh................... Pittsburgh, Pennsylvania 100 1998
MainStay Suites Raleigh...................... Raleigh, North Carolina 88 1999
MainStay Suites Tempe ....................... Tempe, Arizona 94 1999
MainStay Suites Peabody ..................... Peabody, Massachusetts 94 1999
MainStay Suites King of Prussia ............. Malvern, PA 78 1999
MainStay Suites N. Charleston................ Charleston, SC 97 1999
MainStay Suites Secaucus..................... Secaucus, NJ 132 2000
Full Service
Upscale
Clarion Hotel Baltimore...................... Baltimore, Maryland 103 1927/1996
Clarion Hotel Worthington.................... Columbus, Ohio 231 1975/1996
Clarion Hotel Richardson..................... Dallas, Texas 296 1982/1995
Clarion on the Lake.......................... Hot Springs, Arkansas 151 1965/1997
Clarion Hotel Miami Airport.................. Miami, Florida 109 1970/1996
Clarion Hotel Hollywood Beach................ Miami-Ft. Lauderdale, Florida 309 1972/1996
Clarion Hotel................................ Mobile, Alabama 251 1979/1994
Clarion Hotel Virginia Beach................. Norfolk-Virginia Beach, Virginia 149 1985/1995
Clarion Hotel Roanoke........................ Roanoke, Virginia 154 1981/1997
Clarion Hotel Springfield.................... Springfield, Missouri 199 1974/1997
Clarion Hotel................................ Charlotte, North Carolina 174 1974/1997
D-8
Mid-Price
Quality Inn South Point...................... Jacksonville, Florida 184 1988/1994
Quality Hotel Airport........................ Los Angeles, California 278 1971/1994
Quality Hotel Maingate Anaheim(1)............ Los Angeles, California 284 1970/1995
Quality Inn & Suites Hampton................. Norfolk-Virginia Beach, Virginia 189 1972/1995
Quality Hotel Arlington...................... Washington, DC 392 1962/1997
Limited Service
Mid-Price
Comfort Inn Albuquerque...................... Albuquerque, New Mexico 118 1985/1996
Quality Inn Anderson......................... Anderson, South Carolina 121 1988/1995
Comfort Inn N.W. Pikesville(2)............... Baltimore, Maryland 190 1964/1994
Comfort Inn University....................... Baton Rouge, Louisiana 150 1972/1994
Comfort Inn Danvers.......................... Boston, Massachusetts 140 1972/1997
Comfort Inn Brooklyn......................... Brooklyn, New York 70 1926/1997
Comfort Inn Canton........................... Canton, Ohio 124 1989/1994
Comfort Inn Charlotte........................ Charlotte, North Carolina 150 1985/1996
Quality Inn & Suites--Crown Point............. Charlotte, North Carolina 100 1988/1996
Comfort Inn Middleburg Heights............... Cleveland, Ohio 136 1989
Quality Inn Plymouth......................... Detroit, Michigan 123 1989/1996
Comfort Inn Deerfield Beach.................. Fort Lauderdale, Florida 69 1975/1997
Comfort Inn Hershey.......................... Hershey, Pennsylvania 125 1990/1997
Comfort Inn Hilton Head...................... Hilton Head, South Carolina 150 1988/1996
Quality Inn & Suites Indianapolis............ Indianapolis, Indiana 116 1982/1996
Comfort Inn Collierville..................... Memphis, Tennessee 95 1984/1996
Comfort Inn & Suites, Miami Springs.......... Miami, Florida 165 1970/1996
Comfort Inn Miami Springs.................... Miami, Florida 110 1986/1996
Comfort Inn Miami Beach...................... Miami, Florida 153 1952/1997
Comfort Inn--Lee Road........................ Orlando, Florida 145 1985/1994
Comfort Inn Portland......................... Portland, Maine 127 1984/1996
Quality Inn Richmond......................... Richmond, Virginia 193 1985/1997
Quality Inn Midvalley........................ Salt Lake City, Utah 131 1972/1995
Comfort Inn by the Bay(1).................... San Francisco, California 138 1971/1996
Comfort Inn Westport......................... St. Louis, Missouri 169 1971/1995
Comfort Inn Tyson's.......................... Washington, DC 250 1982/1995
Comfort Inn West Palm Beach.................. West Palm Beach, Florida 162 1974/1995
Comfort Inn Wichita.......................... Wichita, Kansas 114 1985/1997
Sleep Inn Round Rock......................... Austin, Texas 107 1996
Sleep Inn Six Flags.......................... Dallas-Fort Worth, Texas 124 1997
Sleep Inn Baton Rouge........................ Baton Rouge, Louisiana 101 1996
Sleep Inn Plano.............................. Dallas, Texas 102 1994
Sleep Inn Intercontinental................... Houston, Texas 107 1996
Sleep Inn Raleigh............................ Raleigh, North Carolina 107 1996
Sleep Inn San Antonio........................ San Antonio, Texas 107 1995
Sleep Inn University......................... Charlotte, North Carolina 121 1997
Sleep Inn Airport............................ Kansas City, Missouri 107 1997
Sleep Inn Rockville.......................... Washington, DC 107 1997
Sleep Inn Airport............................ Denver, Colorado 119 1998
Sleep Inn Denver Tech........................ Denver, Colorado 119 1999
Sleep Inn Miami Airport...................... Miami Springs, Florida 119 1999
(1) Leased property
(2) Hotel on leased land
D-9
The following chart shows operating statistics for all of Sunburst's
owned and managed hotels presented by market segment for the three fiscal years
ended May 31, 1997, the seven months ended December 31, 1997, and the twelve
months ended December 31, 1998 and 1999.
FY 1995 FY 1996 FY 1997
---------------------------------- ---------------------------------- ----------------------------------
ADR(2) Occupancy(3) RevPAR(4) ADR(2) Occupancy(3) RevPAR(4) ADR(2) Occupancy(3) RevPAR(4)
------- ------------ --------- ------ ----------- --------- ------- ----------- ---------
Traditional
All-Suite......... $58.74 61.34% $36.03 $64.70 69.00% $44.65 $70.55 73.42% 51.80%
Extended-Stay..... - - - - - - 57.09 65.55 37.42
Full Service...... 54.04 65.43 35.36 58.85 65.41 38.49 63.25 67.05 42.41
Limited Service... 48.39 69.15 33.46 53.36 67.11 35.81 56.39 69.23 39.04
All Hotels........ 51.28 67.10 34.40 55.97 66.61 37.28 59.60 68.69 40.94
Seven months ended
December 31, 1997(1) Year ended December 31, 1998 Year ended December 31, 1999
---------------------------------- --------------------------------- -----------------------------------
ADR(2) Occupancy(3) RevPAR(4) ADR(2) Occupancy(3) RevPAR(4) ADR(2) Occupancy(3) RevPAR(4)
------ ------------ -------- ------ ------------ --------- ------ ------------ --------
Traditional
All-Suite......... $70.03 72.05% $50.45 $75.27 72.65% $54.69 $76.96 70.76% $54.45
Extended-Stay..... 61.57 48.64 29.95 56.03 57.17 32.04 57.82 70.24 40.62
Full Service...... 65.23 66.46 43.35 67.69 66.81 45.23 69.37 65.01 45.09
Limited Service... 59.11 68.01 40.20 59.98 67.36 40.40 63.40 66.95 42.45
All Hotels........ 61.81 67.41 41.67 62.90 66.57 41.87 64.22 66.80 42.88
_______________________________________
(1) The information provided in the table above for the seven months ended
December 31, 1997 is not representative of a full fiscal year due to
the seasonality of the hotel industry.
(2) Average Daily Rate ("ADR") is determined by dividing room revenue by
the number of rooms occupied on a daily basis for the applicable
period.
(3) Occupancy is determined by dividing the number of guest rooms occupied
on a daily basis by the total number of guest rooms available for the
period.
(4) Revenue Per Available Room ("RevPAR") is calculated by multiplying the
percentage of occupied rooms by the average daily room rate realized.
Seven Months
Ended Year Ended Year Ended
Fiscal Year Ended May 31, December 31, December 31, December 31,
1995 1996 1997 1997 (1) 1998 1999
------------ ------------ ------------ ------------- ------------- ---------------
Number of properties, end of period....... 48 65 71 76 86 83
Number of rooms, end of period............ 7,941 9,713 10,330 10,885 11,910 11,351
Average occupancy percentage.............. 67.10% 66.61% 68.70% 67.41% 66.57% 66.80%
Average daily room rate (ADR)............. $51.28 $55.97 $59.62 $ 61.81 $ 62.90 $ 64.22
RevPAR.................................... $34.40 $37.28 $40.96 $ 41.67 $ 41.87 $ 42.88
- --------------------------------------------------------------------------------------------------------------------------------
___________________________________________
(1) The information provided in the table above for the seven months ended
December 31, 1997 is not representative of a full fiscal year due to the
seasonality of the hotel industry.
D-10
Item 3. Legal Proceedings
The Company is not a party to any litigation, other than routine
litigation incidental to its business. None of such litigation, either
individually or in the aggregate, is expected to be material to the business,
financial condition or results of operations of the Company.
Item 4. Submission of Matters to a Vote of Security Holders
No matters were submitted to a vote of security holders during the
fourth quarter of the fiscal year ended December 31, 1999.
Executive Officers Of Sunburst Hospitality Corporation
The name, age, title, present principal occupation, business address
and other material occupations, positions, offices and employment of each of the
executive officers of Sunburst are set forth below. The business address of each
executive officer is 10770 Columbia Pike, Silver Spring, Maryland 20901, unless
otherwise indicated.
Name Age Position
- ---- --- --------
Stewart Bainum, Jr................ 55 Chairman of the Board of Directors
Donald J. Landry.................. 51 Vice Chairman, Chief Executive Officer and President
James A. MacCutcheon.............. 47 Executive Vice President, Chief Financial Officer and Treasurer
Kevin P. Hanley................... 42 Senior Vice President, Development and Extended-Stay
Gregory D. Miller................. 45 Senior Vice President, Marketing and Human Resources
Douglas H. Verner................. 46 Senior Vice President, General Counsel & Secretary
Charles G. Warczak, Jr............ 52 Vice President, Finance and Systems
Pamela M. Williams................ 44 Vice President, Assistant General Counsel and Assistant Secretary
Stewart Bainum, Jr., Chairman of the Board of the Company since December 1998
and from November 1996 to July 1998; Chairman of the Board of Choice from March
1987 to November 1996 and since October 1997; Chairman of the Board and Chief
Executive Officer of Manor Care, Inc. from March 1987 through September 1998;
Chairman of the Board of HCR/Manor Care since September 1998; Vice Chairman of
the Board of Manor Care and subsidiaries from June 1982 to March 1987; Director
of Manor Care since August 1981, of Vitalink from September 1991 through June
1998; President of MCHS from May 1990 to May 1991; Chairman of the Board and
Chief Executive Officer of Vitalink from September 1991 to February 1995 and
President and Chief Executive Officer from March 1987 to September 1991.
Donald J Landry. Chief Executive Officer, President and Vice Chairman of the
Company since July 1999; Chief Executive Officer and Vice Chairman of the
Company since October 1997; President of the Company from January 1995 to
October 1997; President of Manor Care Hotel Division ("MCHD") from March 1992 to
November 1996; various executive positions with Richfield Hotel Management, Inc.
and its predecessors for more than 20 years, including President of MHM
Corporation.
James A. MacCutcheon. Executive Vice President, Chief Financial Officer and
Treasurer of the Company since November 1996; Senior Vice President, Chief
Financial Officer and Treasurer of the Company from September 1993 to November
1996; Senior Vice President, Chief Financial Officer and Treasurer of Manor Care
from October 1987 through November 1996; Treasurer of Vitalink from September
1992 to January 1997 and a Director of Vitalink from September 1994 to June
1998.
Kevin P. Hanley. Senior Vice President, Development and Extended Stay of the
Company since June 1999; Vice President, Real Estate and Development of the
Company from December 1994 to June 1999; Vice President, Real Estate and
Development of MCHD from December 1994 to November 1996; Executive Vice
President of Hospitality Investment Trust from September 1994 to November 1994;
Senior Vice President; Development and
D-11
Acquisitions of Motel 6, L.P. from May 1992 to September 1994; various other
positions with Motel 6, L.P. since January 1987.
Gregory D. Miller. Senior Vice President, Marketing and Human Resources of the
Company since June 1999, Senior Vice President, Human Resources from October
1997 to June 1999; Vice President, Marketing of MCHS from March 1995 to October
1997; Vice President, Strategic Planning of Manor Care from May 1992 to
September 1995.
Douglas H. Verner. Senior Vice President, General Counsel and Secretary of the
Company since March 1998; Executive Vice President, General Counsel and
Secretary of Chartwell Leisure from January 1996 to March 1998; Senior Vice
President, General Counsel and Secretary of Forte Hotels, Inc. from November
1990 to November 1996.
Charles G. Warczak, Jr. Vice President, Finance and Systems of the Company since
October 1997; Vice President, Hotel Accounting of the Company from March 1997 to
October 1997; Vice President, Finance and Controller of the Company from
November 1996 to March 1997; Vice President, Finance of Manor Care from 1992 to
November 1996.
Pamela M. Williams. Vice President, Assistant General Counsel and Assistant
Secretary of the Company since October 1997; Senior Attorney of the Company from
December 1996 to October 1997, Attorney from November 1996 to December 1996;
Attorney of Manor Care from December 1995 to November 1996; Associate of Hogan
and Hartson, L.L.P. from August 1988 to December 1995.
D-12
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters
The shares of Sunburst's Common Stock are listed and traded on the New
York Stock Exchange. The following table sets forth the high and low sales
prices of Sunburst's Common Stock since it began trading on November 4, 1996:
High Low
FISCAL YEAR ENDED MAY 31, 1997
November 4 - November 30, 1996 $ 16 $13 3/4
Quarter ended February 28, 1997 17 5/8 15
Quarter ended May 31, 1997 15 7/8 12 3/4
TRANSITION PERIOD ENDED DECEMBER 31, 1997 (1)
Quarter ended August 30, 1997 19 5/16 15 1/2
Quarter ended November 30, 1997 (2)
Prior to October 15, 1997 20 3/8 18 3/4
October 15, 1997 through November 30, 1997 11 5/8 9 1/8
December 1, 1997 - December 31, 1997 10 1/4 8 5/8
FISCAL YEAR ENDED DECEMBER 31, 1998
Quarter ended March 31, 1998 9 15/16 8 1/4
Quarter ended June 30, 1998 9 5 3/8
Quarter ended September 30, 1998 6 7/8 3
Quarter ended December 31, 1998 4 3/4 4 7/16
FISCAL YEAR ENDED DECEMBER 31, 1999
Quarter ended March 31, 1999 5 1/8 3 3/4
Quarter ended June 30, 1999 6 3/16 3 7/8
Quarter ended September 30, 1999 6 3/4 5 5/8
Quarter ended December 31, 1999 6 1/4 4 7/8
- -------------
(1) On September 16, 1997, the Company changed its fiscal year-end from May 31
to December 31. The Company elected to continue reporting its operations
pursuant to its historical fiscal quarters during the transition period ended
December 31, 1997.
(2) On October 15, 1997, the Company spun off the Choice Franchising Business
through a special dividend to the Company's shareholders of all of the common
stock of Choice and effected a one-for-three reverse stock split. The stock
prices for the quarter ended November 30, 1997 have not been adjusted to give
effect to the substantially simultaneous spin-off of Choice and the reverse
stock split. Accordingly, the high and low sales prices are presented for both
the period prior to and after the Choice Spin-Off and the reverse stock split.
On October 15, 1997, the Company made a special dividend, consisting of
the distribution to holders of the Company's common stock, on a share-for-share
basis, of all of the outstanding shares of the common stock of Choice Hotels
Franchising, Inc. (now known as Choice Hotels International, Inc.). This was the
only dividend paid since November 4, 1996. The Company does not anticipate the
payment of any cash dividends on its common stock in the foreseeable future.
Payments of dividends on Company common stock may be subject to limitations as
may be imposed by the Company's credit facilities from time to time. The
declaration of dividends will be subject to the discretion of the Board of
Directors.
As of March 20, 2000, there were approximately 7,631 holders of the
Company's common stock.
D-13
Item 6. Selected Financial Data
For the year For the year For the seven
ended ended months ended For the fiscal year ended
December 31, December 31, December 31, May 31,
-----------------------------------
1999 1998 1997 1997 1996 1995
------------ ------------ ------------- ---------- --------- ----------
Statement of Income Data
Total revenues $ 210,036 $ 204,096 $ 114,553 $ 185,753 $ 154,625 $ 114,514
Hotel operating expenses 138,181 131,881 77,134 129,699 114,403 87,588
Corporate expense 10,405 13,961 8,244 7,691 8,026 6,038
------------ ------------ ------------ ---------- --------- ----------
Recurring EBITDA 61,450 58,254 29,175 48,363 32,196 20,888
Provision for asset impairment/ (net gains
on property dispositions) (1,878) 4,264 5,119 - 24,595 -
Depreciation and amortization
26,240 26,983 14,246 20,632 16,636 12,513
Interest expense 24,677 20,756 10,138 15,891 12,839 9,155
------------ ------------ ------------ ---------- --------- ----------
Income/(loss) from continuing operations
before income taxes 12,411 6,251 (328) 11,840 (21,874) (780)
Income taxes 5,104 2,563 (44) 5,035 (8,523) (323)
------------ ------------ ------------ ---------- --------- ----------
Income/(loss) from continuing operations 7,307 3,688 (284) 6,805 (13,351) (457)
Discontinued operations (1) - - 16,369 35,219 21,809 17,268
------------ ------------ ------------ ---------- --------- ----------
Net income before extraordinary loss and
cumulative effect of a change in accounting
principle 7,307 3,688 16,085 42,024 8,458 16,811
Extraordinary loss from early debt
redemption, net of $476, $201 and $747 tax benefit,
respectively (772) (308) - (1,144) - -
Cumulative effect of a change in accounting,
principle net of $421 tax benefit (599) - - - - -
------------ ------------ ------------ ---------- --------- ----------
Net income $ 5,936 $ 3,380 $ 16,085 $ 40,880 $ 8,458 $ 16,811
Basic earnings per share data
From continuing operations $ 0.38 $ 0.18 $ (0.01) $ 0.32 $ (0.64) $ (0.02)
From discontinued operations - - 0.82 1.69 1.05 0.83
From extraordinary items (0.04) (0.01) - (0.05) - -
From cumulative effect of a change in
accounting principle (0.03) - - - - -
------------ ------------ ------------ ---------- --------- ----------
Net income $ 0.31 $ 0.17 $ 0.81 $ 1.96 $ 0.41 $ 0.81
============ ============ ============ ========== ========= ==========
Diluted earnings per share data
From continuing operations $ 0.38 $ 0.18 $ (0.01) $ 0.32 $ (0.64) $ (0.02)
From discontinued operations
- - 0.82 1.66 1.05 0.83
From extraordinary items
(0.04) (0.01) - (0.05) - -
From cumulative effect of a change in
accounting principle (0.03) - - - - -
------------ ------------ ------------ ---------- --------- ----------
Net income $ 0.31 $ 0.17 $ 0.81 $ 1.93 $ 0.41 $ 0.81
============ ============ ============ ========== ========= ==========
Weighted average common shares outstanding (2) 19,036 19,956 19,979 20,893 20,876 20,827
============ ============= ============ =========== ========= ==========
D-14
1) Discontinued operations represents the income of the discontinued
franchising business less applicable income taxes of $11,825, $25,165,
$15,923, and $13,467, respectively.
2) Weighted average common shares outstanding represents the weighted average
common shares outstanding of the Company's parent Manor Care, Inc. for
fiscal years 1995 and 1996. Fiscal year 1997 represents the weighted
average common shares of Manor Care, Inc. for the period through November
1, 1997. The period following November 1, 1997 represents the weighted
average common shares of the Company. Fiscal year 1995 through 1997 have
been adjusted for the one-for-three reverse stock split.
As of December 31, As of May 31,
----------------------------------------- ------------------------------------
1999 1998 1997 1997 1996 1995
------------- ------------- ------------- ----------- ---------- -----------
Balance Sheet Data
Total assets 413,189 422,511 400,983 426,429 328,311 254,229
Notes payable to Manor Care, Inc. - - - 37,022 147,023 119,823
Total debt 293,663 281,189 248,120 260,369 163,497 137,122
Total liabilities 330,142 319,874 311,676 301,942 180,752 188,400
Equity or investments and advances
from Parent 83,047 102,637 89,307 124,487 147,559 65,829
D-15
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
The Company owned and operated 83 hotels with 11,351 rooms in 26 states
at December 31, 1999. The hotels are under the brand names Comfort, Clarion,
Sleep, Quality and MainStay Suites. The Company's continuing business consists
primarily of guest room revenue, meeting room revenue, and food and beverage
revenue from owned and operated hotels.
Comparison of Calendar Year 1999 and Calendar Year 1998
- -------------------------------------------------------
The following tables present calendar quarter and full calendar year
information showing the results of operations of the Company's ongoing hotel
operations for 1999 and 1998 (in thousands, unaudited).
Quarter Ending
------------------------------------------------
March 31 June 30 September 30 December 31
------------------------------------------------
Year ended December 31, 1999
Revenue $50,272 $55,706 $56,771 $47,287
Recurring EBITDA (1) 14,831 18,133 17,852 10,634
Year ended December 31, 1998
Revenue $46,139 $54,440 $56,320 $47,197
Recurring EBITDA (1) 12,549 16,518 16,719 12,468
________________________
(1) Recurring EBITDA consists of the sum of net income (loss), interest expense,
income taxes, and depreciation and amortization and non-recurring charges for
the Company's ongoing operations. EBITDA is presented because such data is used
by certain investors to determine the Company's ability to meet debt service,
fund capital expenditures and expand its business. The Company considers EBITDA
to be an indicative measure of operating performance particularly due to the
large amount of depreciation and amortization. Such information should not be
considered an alternative to net income, operating income, cash flow from
operations or any other operating or liquidity performance measure prescribed by
GAAP. Cash expenditures (including nondiscretionary expenditures) for various
long-term assets, interest expense and income taxes have been, and will be,
incurred which are not reflected in the EBITDA presentation and therefore EBITDA
does not represent funds available for management's discretionary use.
Year ending
December 31,
---------------------------
1999 1998
---------------------------
Revenues
Rooms $184,833 $178,755
Food and beverage 17,153 17,247
Other 8,050 8,094
--------------------------
Total revenues 210,036 204,096
--------------------------
Hotel operating expenses 138,181 131,881
Corporate expense 10,405 13,961
--------------------------
Recurring EBITDA 61,450 58,254
--------------------------
(Net gains on property dispositions)/
provision for asset impairment (1,878) 4,264
Depreciation and amortization 26,240 26,983
Interest expense 24,677 20,756
--------------------------
D-16
Income from continuing operations before
income taxes 12,411 6,251
Income taxes 5,104 2,563
-----------------------
Income from continuing operations $7,307 $3,688
=======================
Basic earnings per share from continuing operations $ 0.38 $ 0.18
=======================
Total revenues increased from $204.1 million in 1998 to $210.0 million
in 1999, an increase of 2.9%. The Company utilizes Revenue per Available Room
("RevPAR"), which is calculated by multiplying the percentage of occupied rooms
by the average daily room rate realized, as a measure of the operating
performance of its hotels. RevPAR for those properties opened at least one year
remained consistent with prior year. RevPAR for the extended-stay portfolio
increased a full 26%, as these newly-developed hotels continued to ramp up. With
the growth in its REVPAR and an increase from 13 to 20 open extended-stay
hotels, extended-stay revenue increased from $12.3 million in 1998 to $25.1
million in 1999. This increase in revenue was largely offset by the sale of
eleven hotels.
Corporate expense amounted to $10.4 million, a decrease of
approximately $3.6 million or 25.5% from the prior year. Corporate expense
amounted to 4.9% of revenues during 1999 as compared to 6.8% during 1998. A
number of initiatives to reduce overhead resulted in the overall cost reduction.
Initiatives included corporate level staffing reductions, consolidation of
office space, sub-leasing of excess office space and termination of various
service agreements with formerly affiliated entities.
Recurring earnings before interest, taxes, depreciation and amortization
("Recurring EBITDA") increased 5.5%, to $61.5 million in 1999 from $58.3 million
in 1998. Recurring EBITDA margin for 1999 was 29.3% as compared to 28.5% in
1998.
Included in net gains on property dispositions and provision for asset
impairment were $1.9 million of pre-tax net gains on sales of eleven hotels in
1999 and a pre-tax charge of approximately $4.3 million against earnings in 1998
to reduce several hotels being marketed for sale to estimated net realizable
value, net of disposition costs.
Interest expense increased 18.9% to $24.7 million in 1999 from $20.8 million in
1998. The increase is principally the result of additional borrowings associated
with the Company's development of hotels as well as an increase in the effective
rate utilized to accrue interest on the subordinated note payable to Choice. The
Choice note's effective rate is 10.6% if outstanding through maturity in 2002.
Income from continuing operations of $7.3 million, increased 98% from
$3.7 million in 1998.
Comparison of Calendar Year 1998 and Calendar Year 1997 (Domestic Hotels)
- -------------------------------------------------------------------------
The following tables present calendar quarter and full calendar year
information showing the results of operations of the Company's ongoing domestic
hotel operations for 1998 and 1997 (in thousands, unaudited).
Quarter Ending
----------------------------------------------------------------------
March 31 June 30 September 30 December 31
----------------------------------------------------------------------
Year ended December 31, 1998
Domestic Revenue $46,139 $54,440 $56,320 $47,197
Recurring Domestic EBITDA (2) 12,549 16,518 16,719 12,468
D-17
Year ended December 31, 1997
Domestic Revenue $41,258 $46,982 $49,052 $42,760
Recurring Domestic EBITDA (2) 11,793 15,484 14,092 8,413
____________________________
(2) Recurring domestic EBITDA consists of the sum of net income (loss), interest
expense, income taxes, and depreciation and amortization and non-recurring
charges for the Company's ongoing domestic operations. EBITDA is presented
because such data is used by certain investors to determine the Company's
ability to meet debt service, fund capital expenditures and expand its business.
The Company considers EBITDA to be an indicative measure of operating
performance particularly due to the large amount of depreciation and
amortization. Such information should not be considered an alternative to net
income, operating income, cash flow from operations or any other operating or
liquidity performance measure prescribed by GAAP. Cash expenditures (including
nondiscretionary expenditures) for various long-term assets, interest expense
and income taxes have been, and will be, incurred which are not reflected in the
EBITDA presentation and therefore EBITDA does not represent funds available for
management's discretionary use.
Year ending
December 31,
-----------------------------
1998 1997
-----------------------------
Revenues
Rooms $178,755 $ 157,380
Food and beverage 17,247 14,991
Other 8,094 7,681
-----------------------------
Total revenues 204,096 180,052
-----------------------------
Hotel operating expenses 131,881 119,190
Corporate expense 13,961 11,079
-----------------------------
Recurring EBITDA 58,254 49,783
-----------------------------
Provision for asset impairment and other
non-recurring charges 4,264 5,119
Depreciation and amortization 26,983 22,372
Interest expense 20,756 16,461
-----------------------------
Income from continuing operations before
income taxes 6,251 5,831
Income taxes 2,563 2,537
-----------------------------
Income from continuing operations $ 3,688 $ 3,294
=============================
Basic earnings per share from continuing
operations $ 0.18 $ 0.16
=============================
Hotel revenues increased from $180.1 million in calendar 1997 to $204.1
million in 1998, an increase of 13.3%. Increases in revenue were the result of
an increase in the size of the Company's portfolio and improved RevPAR. The
portfolio increased from 76 hotels at December 31, 1997 to 86 hotels at December
31,1998, an increase of 9.4% in the number of rooms. Gross operating margin
(operating income before corporate expense, depreciation and amortization and
non-recurring charges) increased from 21.4% in 1997 to 22.0% in 1998.
Food and beverage ("F&B") revenues increased 15.1% and F&B operating
margins increased from 20.1% to 23.6% as a result of an increased focus on
improving F&B operating margins.
The increase in depreciation expense from 1997 to 1998 is the result of
the growth in the portfolio. While two, older limited service hotels were sold
during 1998, the Company opened 12 newly-constructed hotels.
D-18
Calendar year 1998 represented the first full year operating as a
separate, stand-alone company and, accordingly, general corporate expense
increased from 6.2% of revenues to 6.8% of revenues in 1998. Recurring domestic
EBITDA increased 17% to $58.3 million in 1998 from $49.8 million in 1997.
Recurring domestic EBITDA margin for 1998 was 28.5% as compared to 27.7% in
1997.
Included in provision for asset impairment and other non-recurring
charges in 1998 were non-cash write-downs of approximately $4 million (pre-tax)
to reduce several hotels being marketed for sale to estimated net realizable
value, net of disposition costs. In 1997, non-recurring loss provisions of
approximately $5 million (pre-tax) were recorded in order to reserve for various
items related to the Manor Care and Choice spin-offs.
Interest expense increased from $16.5 million to $20.8 million in
1998, an increase of 26.1%. The increase results from an increased amount of
debt outstanding over the respective periods. The Company's debt has increased
over the period to fund the development of hotels.
Income from continuing operations of $3.7 million, increased 12% from
$3.3 million in 1997.
Not reflected in the above discussion are the European hotel
operations which were spun-off to shareholders along with the discontinued
franchise business. In 1997, European hotel operations contributed $7.0 million
of revenue and $0.40 in EBITDA, through the spin-off date in October, 1997.
Liquidity and Capital Resources
- -------------------------------
The Company maintains an $80 million committed line of credit with a
group of four banks to support on-going operations and to fulfill capital
requirements. The Credit Facility expires in October 2000. Availability under
that line of credit is a function of trailing cash flow, but amounted to the
full $80.0 million at December 31, 1999. Borrowings under the line amounted to
$51 million at December 31, 1999. The Company is currently negotiating a one
year extension of the bank facility, which will include a reduction in the
commitment to $60 million.
At the distribution date, the Company owed Choice $115.0 million in the
form of a pay-in-kind subordinated note with a five year maturity. The note
provides financial flexibility due to the fact that accrued interest is not
payable until maturity.
On April 23, 1997, the Company, through its indirect subsidiary, First
Choice Properties, completed an offering of $117.5 million multi-class mortgage
pass-through certificates (the "CMBS debt"). This CMBS debt is non-recourse and
is collateralized by 28 hotel properties with a net book value of $124.9 million
owned by the Company. The CMBS debt carries a 7.8% blended weighted average
interest rate and has a final maturity of May 5, 2012. The hotel properties so
collateralized reported EBITDA of $29.7 million for calendar year 1999. The
Company used the proceeds to repay debt payable to its former parent, Manor
Care, Inc.
The Company intends to develop MainStay Suites, a mid-priced extended-
stay hotel product. At December 31, 1999, 20 MainStay Suites were open and
operating with another four hotels under development. The cost to develop a
MainStay Suites hotel approximates $5.5 to $6.0 million. In order for the
Company to continue on a long-term basis a development program, additional
capital will be required.
The Company's objective is to reduce its overall leverage while
continuing to grow through development. The Company continuously evaluates its
existing portfolio and seeks to sell hotels that have limited upside potential
or that are projected to under-perform in order to redeploy capital into higher
yielding assets. The Company identified eleven such hotels that were sold in
1999 for total proceeds of $37.0 million. As of December 31, 1999, an additional
seven hotels are being marketed for sale in 2000. Proceeds from asset sales in
1999 were used to purchase shares for Treasury and reduce debt, including $9.2
million of CMBS debt which resulted in a pre-payment penalty of $772,000, after
tax.
D-19
Net cash provided by continuing operating activities was $45.4 million
for the year ended December 31, 1999, as compared to $35.3 million, for the year
ended December 31, 1998.
The Company's Board of Directors authorized Treasury share purchase
programs aggregating six million shares. As of December 31, 1999, 5,911,366
shares were purchased at an aggregate cost of $29.6 million. The program was
completed in January 2000. The Company does not anticipate expanding the
Treasury share purchase program, at least until such time as additional
financing is arranged.
At December 31, 1999, the Company's debt to book capitalization
amounted to 78.0% and debt to market capitalization was 77.9%. Debt to recurring
EBITDA amounted to 4.8:1 and recurring EBITDA to interest was 2.4:1 for calendar
year 1999. Senior debt to recurring EBITDA was 2.4:1 for 1999 and recurring
EBITDA to cash interest was 5.9:1 for calendar year 1999.
While operating cash flow, credit available under the Company's bank
facility and proceeds from the sale of hotels are expected to be adequate to
fund operations and committed construction projects, accessing additional
capital is imperative in order for the Company to expand its development and
growth plans. Also, given the relatively short maturities of the note payable to
Choice and the near term expiration of the bank facility, refinancing or
extending maturities is an imperative. If the Company is unsuccessful in
arranging for an extension of its bank facility which otherwise expires October
15, 2000, alternative sources of capital will have to be identified and accessed
during 2000.
Excluding development, recurring capital expenditures required to
maintain operating assets in the appropriate condition are estimated to be
approximately $15 million per year. Planned capital expenditures for the
development of hotels in 2000 are projected to be approximately $20 million.
Seasonality
- -----------
Demand at many of the hotels is affected by recurring seasonal
patterns, depending upon the location of the hotel. Accordingly, the Company's
operations are seasonal in nature, with lower revenue and operating profit in
November through February and higher revenue and operating profit in March
through October.
Inflation
- ---------
Inflation has not had a material effect on the revenues or operating
results of the Company during the year ended December 31, 1999 or 1998.
Forward Looking Statements
- --------------------------
Management's Discussion and Analysis, as well as other parts of this
Annual Report on Form 10-K, contain information based on management's beliefs
and forward-looking statements that involve a number of risks, uncertainties and
assumptions. There can be no assurances that actual results will not materially
differ from the forward-looking statements as a result of various factors,
including, but not limited to: the Company's substantial leverage and its plan
to realize cash proceeds through leveraging its remaining assets; its plans to
make selected strategic investments and acquisitions and develop new hotels; its
success in implementing its business strategy, including its success in
arranging financing where required; competition; government regulation; and
general economic and business conditions. The Company's intentions with respect
to the development of MainStay Suites and other new hotels is subject to: the
Company's ability to access sufficient capital to continue such development; the
acceptance of and demand for such products by the consumer and competition.
D-20
Item 8. Financial Statements and Supplementary Data
Page
----
Report of Independent Public Accountants....................................................... 22
Consolidated Balance Sheets.................................................................... 23
Consolidated Statements of Income.............................................................. 24
Consolidated Statements of Cash Flows.......................................................... 25
Consolidated Statements of Stockholders' Equity and Comprehensive Income....................... 26
Notes to Consolidated Financial Statements .................................................... 27
D-21
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Stockholders of Sunburst Hospitality Corporation:
We have audited the accompanying consolidated balance sheets of
Sunburst Hospitality Corporation and subsidiaries (the "Company" formerly Choice
Hotels International, Inc., see Basis of Presentation) as of December 31, 1999
and 1998, the related consolidated statements of income, stockholders' equity
and comprehensive income and cash flows for the years ended December 31, 1999
and 1998, the seven months ended December 31, 1997 and the fiscal year ended May
31, 1997. These financial statements and the schedules referred to below are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements and schedules based on our audits.
We conducted our audits in accordance with auditing standards
generally accepted in the United States. Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above present
fairly, in all material respects, the financial position of Sunburst Hospitality
Corporation and subsidiaries as of December 31, 1999 and 1998, and the results
of their operations and their cash flows for the years ended December 31, 1999
and 1998, the seven months ended December 31, 1997 and the fiscal year ended May
31, 1997, in conformity with accounting principles generally accepted in the
United States.
Our audit was made for the purpose of forming an opinion on the basic
financial statements taken as a whole. The schedules listed in the index at Item
14(a)(2) are presented for purposes of complying with the Securities and
Exchange Commission rules and are not part of the basic financial statements.
These schedules have been subjected to the auditing procedures applied in our
audit of the basic financial statements and, in our opinion, fairly state in all
material respects the financial data required to be set forth therein in
relation to the basic financial statements taken as a whole.
Arthur Andersen LLP
Vienna, Virginia
February 16, 2000
D-22
SUNBURST HOSPITALITY CORPORATION
CONSOLIDATED BALANCE SHEETS
(In thousands, except share amounts)
As of
-----------------------------------
December 31, December 31,
1999 1998
--------------- ----------------
ASSETS
Real estate, net $ 359,258 $ 363,023
Real estate held for sale 34,498 37,122
Receivables (net of allowance for doubtful
accounts of $500 and $611, respectively) 7,851 7,271
Other assets 8,617 10,982
Cash and cash equivalents 2,965 4,113
--------------- ----------------
Total assets $ 413,189 $ 422,511
=============== ================
LIABILITIES AND STOCKHOLDERS' EQUITY
LIABILITIES
Debt
Senior debt and capital leases $ 151,807 $ 153,341
Subordinated debt 141,856 127,848
--------------- ----------------
293,663 281,189
Accounts payable and accrued expenses 30,096 32,633
Deferred income taxes ($5,368 and $1,352, respectively) and
other liabilities 6,383 6,052
--------------- ----------------
Total liabilities 330,142 319,874
--------------- ----------------
STOCKHOLDERS' EQUITY
Common stock (60,000,000 authorized, at $0.01 par value,
22,148,313 and 21,545,305 issued and 14,808,060 and 19,606,006
outstanding at December 31, 1999 and 1998, respectively) 245 244
Additional paid-in-capital 173,363 171,462
Treasury stock (7,340,253 and 1,939,299 shares, respectively) (93,284) (65,856)
Retained earnings (deficit) 2,723 (3,213)
--------------- ----------------
Total stockholders' equity 83,047 102,637
--------------- ----------------
Total liabilities and stockholders' equity $ 413,189 $ 422,511
=============== ================
The accompanying notes are an integral part of these consolidated balance
sheets.
D-23
SUNBURST HOSPITALITY CORPORATION
CONSOLIDATED STATEMENTS OF INCOME
(In thousands, except per share amounts)
For the seven For the fiscal
For the year For the year months year
ended ended ended ended
December 31, December 31, December 31, May 31,
1999 1998 1997 1997
---------------- --------------- --------------- --------------
REVENUES
Rooms $ 184,833 $ 178,755 $ 100,670 $ 165,239
Food and beverage 17,153 17,247 9,231 13,356
Other 8,050 8,094 4,652 7,158
---------------- --------------- --------------- -------------
Total revenues 210,036 204,096 114,553 185,753
---------------- --------------- --------------- -------------
OPERATING EXPENSES
Departmental expenses
Rooms 52,932 51,227 33,484 58,502
Food and beverage 12,935 13,183 7,319 10,887
Other 3,631 3,056 1,530 2,674
Undistributed operating expenses 68,683 64,415 34,801 57,636
Depreciation and amortization 26,240 26,983 14,246 20,632
Corporate 10,405 13,961 8,244 7,691
(Net gains on property dispositions)/ provision for
asset impairment and non-recurring charges (1,878) 4,264 5,119 -
---------------- --------------- --------------- -------------
Total operating expenses 172,948 177,089 104,743 158,022
---------------- --------------- --------------- -------------
OPERATING INCOME 37,088 27,007 9,810 27,731
---------------- --------------- --------------- -------------
INTEREST EXPENSE 24,677 20,756 10,138 15,891
---------------- --------------- --------------- -------------
INCOME (LOSS) FROM CONTINUING
OPERATIONS BEFORE INCOME TAXES 12,411 6,251 (328) 11,840
Income taxes 5,104 2,563 (44) 5,035
---------------- --------------- --------------- -------------
INCOME (LOSS) FROM CONTINUING OPERATIONS 7,307 3,688 (284) 6,805
DISCONTINUED OPERATIONS: Income from operations
of discontinued franchising business (less applicable
income taxes of $0, $0, $11,825, and $25,165,
respectively) - - 16,369 35,219
---------------- --------------- --------------- -------------
INCOME BEFORE EXTRAORDINARY ITEM AND
CUMULATIVE EFFECT OF A CHANGE IN ACCOUNTING
PRINCIPLE 7,307 3,688 16,085 42,024
EXTRAORDINARY ITEM -- Loss from early extinguishment
of debt (net of $476, $201, and $747 tax benefit) 772 308 - 1,144
CUMULATIVE EFFECT OF A CHANGE IN ACCOUNTING
PRINCIPLE - (net of $421 tax benefit) 599 - - -
---------------- --------------- --------------- -------------
NET INCOME $ 5,936 $ 3,380 $ 16,085 $ 40,880
================ =============== =============== =============
Basic earnings per share
- ------------------------
From continuing operations $ 0.38 $ 0.18 $ (0.01) $ 0.32
From discontinued operations - - 0.82 1.69
From extraordinary item (0.04) (0.01) - (0.05)
From cumulative effect of a change in accounting
principle (0.03) - - -
---------------- --------------- --------------- ------------
Earnings per share $ 0.31 $ 0.17 $ 0.81 $ 1.96
================ =============== =============== ============
Diluted earnings per share
- --------------------------
From continuing operations $ 0.38 $ 0.18 $ (0.01) $ 0.32
From discontinued operations - - 0.82 1.66
From extraordinary item (0.04) (0.01) - (0.05)
From cumulative effect of a change in accounting
principle (0.03) - - -
---------------- --------------- --------------- -------------
Earnings per share $ 0.31 $ 0.17 $ 0.81 $ 1.93
================ =============== =============== =============
The accompanying notes are an integral part of these consolidated statements of
income.
D-24
SUNBURST HOSPITALITY CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
For the year For the year For the seven For the fiscal
ended ended months ended year ended
December 31, December 31, December 31, May 31,
Cash Flows From Operating Activities 1999 1998 1997 1997
-------------- -------------- ------------- ------------
Income (loss) from continuing operations before extraordinary item
and cumulative effect of a change in accounting principle $ 7,307 $ 3,688 $ (284) $ 6,805
Reconciliation of net income (loss) to net cash
provided by operating activities:
Depreciation and amortization 26,240 26,983 14,246 20,632
Amortization of deferred financing fees 287 244 248 -
Amortization of debt discount 1,543 1,921 528 29
Accrued interest on Choice Hotels International, Inc. note 12,646 8,808 2,648 -
Provision for bad debts, net 531 424 247 560
Increase in deferred taxes 4,016 466 695 2,920
(Gain) loss on sale of property (1,878) (65) - 220
Provision for asset impairment and other non-recurring charges - 3,983 5,119 -
Change in assets and liabilities:
Change in receivables (1,111) (1,434) (152) (1,686)
Change in other assets 4,167 (2,351) (357) (3,963)
Change in accounts payable, accrued expenses and other
liabilities (6,222) (790) (9,323) 17,391
Change in payable to Choice Hotels International, Inc. - (8,601) 10,066 -
Change in current taxes receivable (2,089) 2,018 (2,310) (483)
-------------- -------------- -------------- ------------
Net cash provided by continuing operations 45,437 35,294 21,371 42,425
Net cash provided by discontinued operations - - 20,876 44,833
-------------- -------------- -------------- ------------
Net cash provided by operating activities 45,437 35,294 42,247 87,258
-------------- -------------- -------------- ------------
Cash Flows From Investing Activities
Investment in property and equipment (54,923) (60,476) (61,460) (75,523)
Acquisition of operating hotels - - - (5,550)
Distribution of Choice - - (4,166) -
Proceeds from sale of property and equipment 36,950 5,864 170 2,522
-------------- -------------- -------------- ------------
Net cash utilized by continuing operations (17,973) (54,612) (65,456) (78,551)
Net cash utilized by discontinued operations - - (118,474) (15,864)
-------------- -------------- -------------- ------------
Net cash utilized by investing activities (17,973) (54,612) (183,930) (94,415)
-------------- -------------- -------------- ------------
Cash Flows From Financing Activities
Proceeds from mortgages and other long term debt 10,000 25,000 16,023 208,000
Proceeds from note payable to Choice Hotels
International, Inc. - - 115,000 -
Principal payments of debt (11,715) (5,256) (92,171) (1,157)
Principal payments on notes payable to Manor Care, Inc. - - (37,022) (110,000)
Payment of financing fees - - - (3,959)
Payment of prepayment penalty (772) (439) - (1,891)
Proceeds from issuance of common stock 1,303 359 1,153 3,410
Purchases of treasury stock (27,428) (2,141) (10,554) (53,150)
Payable to Choice Hotels International, Inc. for net worth
guarantee - - 15,000 -
Advances to Manor Care, Inc., net - - - (9,971)
-------------- -------------- -------------- ------------
Net cash (utilized by) provided by continuing operations
(28,612) 17,523 7,429 31,282
Net cash provided by (utilized by) discontinued operations - - 129,337 (17,839)
-------------- -------------- -------------- ------------
Net cash (utilized by) provided by financing activities
(28,612) 17,523 136,766 13,443
-------------- -------------- -------------- ------------
Net change in cash and cash equivalents (1,148) (1,795) (4,917) 6,286
Cash and cash equivalents at beginning of period 4,113 5,908 10,825 4,539
-------------- -------------- -------------- ------------
Cash and cash equivalents at end of period $ 2,965 $ 4,113 $ 5,908 $ 10,825
============== ============== ============== ============
Cash and cash equivalents of continuing operations $ 2,965 $ 4,113 $ 5,908 $ 7,033
Cash and cash equivalents of discontinued operations $ - $ - $ - $ 3,792
The accompanying notes are an integral part of these consolidated
statements of cash flows.
D-25
SUNBURST HOSPITALITY CORPORATION
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY AND COMPREHENSIVE INCOME
(In thousands, except shares)
Accumulated
Additional Other
Common Stock Paid-in- Comprehensive Retained Treasury Comprehensive
---------------------
Shares Amount Capital Income Earnings Stock Income
----------- --------- ----------- ------------- ----------- ----------- -------------
Distribution from Manor Care, Inc. 63,081,129 $ 631 $ 162,512 $ (1,750) $ - $ - $ -
Net income 40,880 40,880
Transfer of net income to Manor Care,
Inc. (23,805)
Exercise of stock options 781,542 8 4,651
Translation adjustment (5,268) (5,268)
-------------
Comprehensive income $ 35,612
=============
Treasury purchases (3,697,724) (53,372)
----------- -------- ----------- ---------- --------- --------
Balance, May 31, 1997 60,164,947 $ 639 $ 167,163 $ (7,018) $ 17,075 $(53,372)
----------- -------- ----------- ---------- --------- --------
Net income $ 16,085 $ 16,085
Adjustment to Nov. 1, 1996
distribution from Care Inc. (1,044)
Exercise of stock options 202,386 2 1,910
Issuance of stock 13,786 65
Treasury purchases (588,931) (10,554)
Translation adjustment (1,644) (1,644)
-------------
Comprehensive Income $ 14,441
=============
Distribution of Franchising 8,662 (48,662)
One-for-three reverse stock split on
October 15, 1997 (39,845,146) (398) 398
----------- -------- ----------- ---------- --------- --------
Balance, December 31, 1997 19,947,042 $ 243 $ 169,536 $ - $ (16,546) $ (63,926)
----------- -------- ----------- ---------- --------- --------
Net income 3,380
Sale of MainStay brand option to
Choice Hotels International, Inc. 9,953
Exercise of stock options 79,414 1 1,926
Issuance of stock 89,962 216
Treasury purchases (510,412) (2,146)
----------- -------- ----------- ---------- --------- --------
Balance, December 31, 1998 19,606,006 $ 244 $ 171,462 $ - $ (3,213) $ (65,856)
----------- -------- ----------- ---------- --------- --------
Net income 5,936
Exercise of stock options 105,663 1 1,388
Issuance of stock 497,345 513
Treasury purchases (5,400,954) (27,428)
----------- -------- ----------- ---------- --------- --------
Balance, December 31, 1999 14,808,060 $ 245 $ 173,363 $ - $ 2,723 $ (93,284)
=========== ======== =========== ========== ========= ========
The accompanying notes are an integral part of these consolidated
statements of stockholders' equity and comprehensive income.
D-26
SUNBURST HOSPITALITY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - DECEMBER 31, 1999 AND 1998
1. Summary of Significant Accounting Policies
Basis of Presentation
On March 7, 1996, Manor Care, Inc. ("Manor Care") announced its intention to
proceed with the separation of its lodging business from its health care
business through a spin-off of its lodging business (the "Manor Care
Distribution"). On September 30, 1996, the Board of Directors of Manor Care
declared a special dividend to its shareholders of one share of common stock of
Choice Hotels International Inc. (the "Company") for each share of Manor Care
stock, and the Board of Directors set the Record Date and the Distribution Date.
The Manor Care Distribution was made on November 1, 1996 to holders of record of
Manor Care's common stock on October 10, 1996.
The Manor Care Distribution separated the lodging and health care businesses of
Manor Care into two public corporations. At that time, the operations of the
Company consisted principally of the hotel franchise operations and the owned
and managed domestic and European hotel operations formerly conducted by Manor
Care directly or through its subsidiaries (the "Lodging Business").
On November 1, 1996, concurrent with the Manor Care Distribution, the Company
changed its name from Choice Hotels Holdings, Inc. to Choice Hotels
International, Inc. and the Company's franchising subsidiary, formerly named
Choice Hotels International, Inc., changed its name to Choice Hotels
Franchising, Inc. ("Choice").
On April 29, 1997, the Company's Board of Directors announced its intention to
separate the Company's franchising business from its owned, domestic hotel
business. On September 16, 1997 the Board of Directors and shareholders of the
Company approved the separation of the businesses through a Spin-off of the
franchising business, along with the Company's European hotel and franchising
operations, to its shareholders (the "Distribution"). The Board of Directors set
October 15, 1997 as the date of distribution and on that date, Company
shareholders received one share in Choice (renamed "Choice Hotels International,
Inc.") for every share of Company stock held on October 7, 1997 (the date of
record). Concurrent with the October 15, 1997 distribution date, the Company
changed its name to Sunburst Hospitality Corporation and effected a one-for-
three reverse stock split of its common stock.
In connection with the Spin-off of the franchising business, the Company has
presented the franchising business as a discontinued operation in the
accompanying consolidated financial statements. Although the Company's European
hotel operations were distributed to shareholders along with the franchising
business, generally accepted accounting principles do not permit presenting this
operation as discontinued. Therefore, the European hotel operations are included
in continuing operations. The following tables illustrate the impact of the
European hotel operations on the continuing operations of the Company (in
thousands).
Seven months ended Domestic hotel European hotel Continuing
December 31, 1997 operations operations operations
- -----------------------------------------------------------------------------------------------
Revenues $107,574 $ 6,979 $114,553
Operating expenses 98,169 6,574 104,743
--------------------------------------------------------
Operating income 9,405 405 9,810
--------------------------------------------------------
Interest expense 9,800 338 10,138
--------------------------------------------------------
Pretax (loss) income (395) 67 (328
Income tax (benefit) expense (71) 27 (44)
--------------------------------------------------------
Net (loss) income from
continuing operations $ (324) $ 40 $ (284)
========================================================
D-27
Fiscal year ending Domestic hotel European hotel Continuing
May 31, 1997 operations operations operations
- --------------------------------------- -------------------- ------------------ ---------------
Revenues $168,016 $ 17,737 $185,753
Operating expenses 140,468 17,554 158,022
-------------------------------------------------------
Operating income 27,548 183 27,731
-------------------------------------------------------
Interest expense 14,899 992 15,891
-------------------------------------------------------
Pretax income (loss) 12,649 (809) 11,840
Income tax expense (benefit) 5,355 (320) 5,035
-------------------------------------------------------
Net income (loss) from
continuing operations $ 7,294 $ (489) $ 6,805
=======================================================
Fiscal Year
In October 1997, the Company changed its fiscal year end from May 31 to December
31. Therefore, the period ending December 31, 1997 includes seven months of
operations. The following table presents the Company's results of operations for
the full calendar year 1997 (unaudited, in thousands, except per share data).
Calendar Year 1997
--------------------------------------------------------
(Unaudited)
Domestic hotel European hotel Continuing
operations operations operations
----------------- ----------------- -----------------
Revenues $180,052 $13,741 $ 193,793
Operating expenses 135,388 12,401 147,789
Depreciation and amortization 22,142 1,399 23,541
-------------------------------------------------------
Operating income (loss) 22,522 (59) 22,463
Interest expense 16,461 724 17,185
-------------------------------------------------------
Pretax income (loss) from
continuing operations 6,061 (783) 5,278
Income tax expense (benefit) 2,629 (310) 2,319
-------------------------------------------------------
Income (loss) from continuing
operations $ 3,432 $ (473) $ 2,959
=======================================================
Earnings (loss) per share:
Basic $ 0.17 $ (0.02) $ 0.15
=======================================================
Cash and Cash Equivalents
The Company considers all highly liquid investments with a maturity of three
months or less at the date of purchase to be cash equivalents.
Pre-opening Costs
In April 1998, the American Institute of Certified Public Accountants issued
Statement of Position No. 98-5, "Reporting on the Costs of Start-up
Activities" (the "SOP"). The SOP was adopted by the Company effective January 1,
1999 and required that costs related to start-up activities be expensed as
incurred. Initial application of the SOP is reported as a cumulative effect of a
change in accounting principle for the year ended December 31, 1999. Prior to
the adoption of the SOP, pre-opening costs of an operating nature incurred were
deferred and amortized over two years for hotels opened prior to November 1,
1996 and one year for hotels opened after that date. Such costs, which were
included in other assets, amounted to $724,000, net of accumulated amortization,
at December 31, 1998.
If the Company would have adopted this SOP on January 1, 1998, the effect would
have been to increase income from continuing operations by approximately
$274,000 for the year ended December 31, 1998, and to decrease net
D-28
income for the year by approximately $420,000, as a result of a charge for the
cumulative effect of a change in accounting principle of $694,000 (net of
taxes).
Real Estate
The components of real estate are as follows:
December 31, December 31,
1999 1998
---------------- -------------
Land $ 61,397 $ 56,007
Buildings 295,414 281,821
Furniture, fixtures and equipment 87,016 77,127
Hotels under construction 14,100 31,962
---------------- -------------
457,927 446,917
Less: accumulated depreciation (98,669) (83,894)
---------------- -------------
$ 359,258 $ 363,023
================ =============
Depreciation has been computed for financial reporting purposes using the
straight-line method. A summary of the ranges of estimated useful lives upon
which depreciation rates have been based follows:
Building and improvements 10-40 years
Furniture, fixtures and equipment 3-20 years
Self-Insurance Program
Prior to the Manor Care Distribution, the Company participated in Manor Care's
self-insurance program for certain levels of general and professional liability,
automobile liability and workers' compensation coverage. All self-insurance
liabilities through November 1, 1996, were assumed by Manor Care.
Subsequent to the Manor Care distribution, the Company has maintained its own
insurance program, which includes certain levels of retained risk. Estimated
costs are accrued at present values based on actuarial projections for known and
anticipated claims.
Impairment Policy
The Company evaluates the recoverability of long-lived assets whenever events or
changes in circumstances indicate that the carrying amount of an asset may not
be recoverable. Recoverability is measured based on net, undiscounted expected
cash flows. Assets are considered to be impaired if the undiscounted expected
cash flows are less than the carrying amount of the assets. Impairment charges
are recorded based upon the difference between the carrying value of the asset
and fair value. Real estate held for sale is recorded based on its estimated
fair value less cost to sell.
Capitalization Policies
The Company capitalizes interest costs and property taxes incurred during the
construction of capital assets. The Company capitalized $1.3 million and $2.4
million in interest costs for the years ended December 31, 1999 and 1998,
respectively. Maintenance, repairs and minor replacements are charged to expense
as incurred.
Impact of New Accounting Pronouncements
The Company is required to adopt Statement of Financial Accounting Standard
("SFAS") No. 133, "Accounting for Derivative Instruments and Hedging
Activities," in 2000. As the Company does not routinely use derivative
instruments, the standard will not have a material impact on the consolidated
financial statements of the Company.
D-29
Stock-based Compensation
The Company has elected to follow Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees," ("APB 25") and related
interpretations in accounting for its employee stock options. Under APB 25,
because the exercise price of employee stock options equals the market price of
the underlying stock on the date of grant, no compensation expense is recorded.
In the event the stock options are issued at an exercise price below the market
price, compensation expense is recorded ratably over the vesting period for the
options issued at a discount. Statement of Financial Accounting Standards No.
123, "Accounting for Stock-Based Compensation" ("SFAS No. 123"), requires the
Company to make certain disclosures as if the fair value based method of
accounting had been applied to the Company's stock option grants (see Note 9).
Reclassifications
Certain amounts previously presented have been reclassified to conform to the
December 31, 1999 presentation.
Use of Estimates
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities, disclosure of contingent
assets and liabilities at the date of the financial statements and the reported
amounts of revenues and expenses during the reporting period. Actual results
could differ from these estimates.
Income Taxes
The Company was included in the consolidated Federal income tax returns of Manor
Care prior to the Manor Care Distribution. Subsequent to November 1, 1996, the
Company is a separate taxpayer and files its own tax returns. The income tax
provision included in these consolidated statements reflects the historical
income tax provision and temporary differences attributable to the operations of
the Company on a separate return basis. Deferred taxes are recorded for the tax
effect of temporary differences between book and tax income.
Income before income taxes from continuing operations was derived from the
following (in thousands):
For the year For the year For the seven For the fiscal
ended ended months ended year ended
December 31, December 31, December 31, May 31,
1999 1998 1997 1997
----------------- ---------------- ------------------ ----------------
Income (loss) from continuing
operations before income taxes
Domestic operations $ 12,411 $ 6,251 $ (395) $ 12,649
Foreign operations - - 67 (809)
---------------- --------------- ----------------- ---------------
Income (loss) before income taxes $ 12,411 $ 6,251 $ (328) $ 11,840
================ =============== ================= ===============
The provision for income taxes for continuing operations (in thousands):
For the year For the year For the seven For the fiscal
ended ended months ended year ended
December 31, December 31, December 31, May 31,
1999 1998 1997 1997
---------------- ---------------- ---------------- ---------------
Current tax expense (benefit)
Federal $ 210 $ 1,723 $ 621 $ 2,583
Foreign operations - - 27 (320)
State 468 386 134 292
D-30
Deferred tax expense (benefit)
Federal 3,989 371 (680) 2,048
Foreign operations - - - -
State 437 83 (146) 432
---------------- ---------------- --------------- ---------------
$ 5,104 $ 2,563 $ (44) $ 5,035
================ ================ =============== ===============
Deferred tax liabilities were composed of the following (in thousands):
December 31,
1999 1998
------------- -------------
Depreciation and amortization $ (8,372) $ (2,667)
Accrued expenses 3,493 2,428
Other (489) (1,113)
----------- -----------
Net deferred tax liability $ (5,368) $ (1,352)
=========== ===========
A reconciliation of income tax expense (benefit) at the statutory rate to income
tax expense included in the accompanying consolidated statements follows (in
thousands, except Statutory Federal income tax rate):
For the year For the year For the seven For the fiscal
ended ended months ended year ended
December 31, December 31, December 31, May 31,
1999 1998 1997 1997
----------------- ----------------- ------------------ ----------------
Statutory Federal income tax rate 35% 35% 35% 35%
Federal taxes at statutory rate $ 4,344 $ 2,188 $ (115) $ 4,144
State income taxes, net of Federal tax benefit 588 305 (4) 573
Other 172 70 75 318
---------------- ---------------- ---------------- ---------------
Income tax expense (benefit) $ 5,104 $ 2,563 $ (44) $ 5,035
================ ================ ================ ===============
Cash paid for state income taxes was $972,000, $1,262,000, $486,000 and $805,000
for the years ended December 31, 1999 and 1998, the seven months ending December
31, 1997 and the fiscal year ending May 31, 1997, respectively. The Company paid
Federal income taxes of $4,650,000 and $2,055,000 for the years ended December
31, 1999 and 1998, respectively. At December 31, 1999, the Company had an income
tax receivable of $2.1 million.
2. Accrued Expenses
Accrued expenses were as follows (in thousands):
December 31,
-------------------------------
1999 1998
------------ -------------
Payroll $ 4,887 $ 5,534
Taxes, other than income 4,108 4,331
Other 6,415 6,354
------------ -------------
$ 15,410 $ 16,219
============ =============
D-31
3. Long-Term Debt and Notes Payable
Debt consisted of the following at December 31, 1999 and 1998 (in thousands):
December 31,
------------------------------------
1999 1998
------------------ ----------------
$80.0 million revolving Credit Facility with an
average rate of 7.96% and 7.68% at December 31,
1999 and 1998, respectively $ 51,000 $ 41,000
Multi-class mortgage pass-through certificates
with a blended weighted average rate of 7.8% at
December 31, 1999 and 1998 98,821 110,913
Note payable to Choice Hotels International with an
effective rate of 10.60% at December 31, 1999 and
1998 141,856 127,849
Capital lease obligations 1,986 1,427
----------------- ---------------
Total indebtedness $ 293,663 $ 281,189
================= ===============
Maturities of debt at December 31, 1999 were as follows (in thousands):
Subordinated Capital
Year Senior Debt Debt Leases Total
- ---- ----------- ---- ------- -----
2000 $ 54,144 $ - $ 730 $ 54,874
2001 3,397 - 1,006 4,403
2002 3,670 141,856 250 145,776
2003 3,964 - - 3,964
2004 4,282 - - 4,282
Thereafter 80,364 - - 80,364
-------------- -------------- ------------- --------------
Total $ 149,821 $ 141,856 $ 1,986 $ 293,663
============== ============== ============= ==============
On April 23, 1997 the Company, through its indirect subsidiary First Choice
Properties Corporation, completed an offering of $117.5 million multi-class
mortgage pass through certificates (collectively, "the CMBS debt"). The CMBS
debt, which carries a blended, weighted average interest rate of 7.8% and has a
final maturity of May 5, 2012, contain customary covenants with respect to,
among other things, limits on levels of indebtedness, liens, certain
investments, transactions with affiliates, asset sales, mergers, consolidations,
and transfers of cash to affiliates. Restricted net assets related to the CMBS
debt were $27.5 million and $31.3 million as of December 31, 1999 and 1998,
respectively. The Company had $1.9 million and $2.2 million in escrow at
December 31, 1999 and 1998, respectively, related to the CMBS debt. The escrow,
which is included in other assets, is for property taxes, insurance and capital
expenditures of the properties collateralizing the CMBS debt. The CMBS debt is
non-recourse and is collateralized by 28 hotels owned by the Company. The
offering's net proceeds of $110 million were used to prepay a portion of a loan
from Manor Care. The prepayment resulted in an extraordinary loss from early
debt redemption of $1.1 million, net of taxes, in the fiscal year ended May 31,
1997. During 1998, the sale of one of the collateralized hotels resulted in a
prepayment of CMBS debt in the amount of $2.2 million and a prepayment penalty.
During 1999, the sale of five collateralized hotels resulted in a prepayment of
CMBS debt in the amount of $9.2 million and a prepayment penalty. These
prepayments resulted in extraordinary losses of $772,000 and $308,000, net of
tax, for the years ended December 31, 1999 and 1998, respectively.
D-32
In conjunction with the April 1997 issuance of the CMBS debt, the Company
entered into a series of interest rate swap agreements having a total notional
principal amount of $50.0 million. The agreements were terminated concurrent
with the pricing of the mortgage securities, resulting in a $862,000 gain. The
gain has been deferred and is being amortized over the life of the mortgage
securities as an offset to interest expense.
The Company entered into two debt facilities in October 1997 in connection with
the distribution: (i) a $80.0 million revolving Credit Facility (the "October
1997 Credit Facility"); and (ii) a $115.0 million pay-in-kind note payable to
Choice (the "Choice Note"). Proceeds from the new debt were used to repay the
Company's remaining portion of the loan from Manor Care and the outstanding
balance of its revolving Credit Facility, and for advances previously made by
Choice to the Company. The unused portion of the October 1997 Credit Facility
will be used by the Company for working capital, capital expenditures and
acquisitions.
The October 1997 Credit Facility expires in October 2000 and includes customary
financial and other covenants that will require the maintenance of certain
ratios including maximum leverage, minimum net worth and interest coverage.
Additional covenants restrict the Company's ability to make certain investments,
repurchase stock, incur debt, and dispose of assets. Availability under the
October 1997 Credit Facility is a function of trailing cash flow. At the
Company's option, the interest rate may be based on LIBOR, a certificate of
deposit rate or an alternate base rate (as defined), plus a facility fee. The
rate is determined based on the Company's consolidated leverage ratio at the
time of borrowing. At December 31, 1999, the Company had the full $80.0 million
of availability under the October 1997 Credit Facility, resulting in excess
borrowing capacity of $29.0 million. The Company and the banks participating in
the October 1997 Credit Facility have entered into negotiations to extend its
expiration date.
The Choice Note has a maturity of five years from October 1997 and accrues
simple interest at a rate equal to 500 basis points above the interest rate on a
five-year U.S. Treasury Note, resulting in an effective rate of 8.8% through
December 28, 1998. In December 1998, the Choice Note terms were amended
providing that the Choice Note will accrue interest at a rate of 11.0% per annum
compounded daily on principal and unpaid interest beginning on October 15, 2000.
As a result of the amendment, the Company began accruing interest at the
effective rate of the note of 10.6%. The Choice Note contains restrictive
covenants that restrict or limit the ability of the Company to merge or
consolidate with any other person or entity unless the Company is the surviving
entity, or sell, assign, transfer, lease, convey or otherwise dispose of all or
substantially all of the assets of the Company.
Cash paid for interest was $12.8 million, $9.9 million, $10.7 million, and $14.8
million for the years ended December 31, 1999 and 1998, the seven months ended
December 31, 1997 and fiscal year ended May 31, 1997, respectively. At December
31, 1999 and 1998, real estate property with a net book value of $124.9 million
and $138.6 million, respectively, was pledged or mortgaged as collateral.
4. Leases
The Company operates certain property and equipment under leases that expire at
various dates through 2014. Future minimum lease payments are as follows (in
thousands):
Operating Capital
Leases Leases
------------- -------------
2000 $ 1,231 $ 825
2001 1,258 1,173
2002 1,103 250
2003 825 -
2004 850 -
Thereafter 21,417 -
------------ ------------
Total minimum lease payments $ 26,684 2,248
============
Less: interest (262)
------------
Present value of lease payments $ 1,986
============
D-33
Rental expense under non-cancelable operating leases was $789,000, $1.9 million,
$1.9 million and $329,000 in the years ended December 31, 1999 and 1998, the
seven months ended December 31, 1997, and the fiscal year 1997, respectively.
For the year ended December 31, 1998 and the seven months ended December 31,
1997, the Company paid $2.5 million and $2.9 million, respectively, to Manor
Care for office rent, of which Choice reimbursed the Company $1.0 million each
of the respective years for its portion of the total space occupied. In February
1999, the Company entered into a release agreement with Manor Care which
effectively terminated all inter-company service, consulting and lease
agreements.
5. Acquisitions and Divestitures
During 1999, the Company sold eleven hotels containing 1,343 rooms for $37
million. During 1998, the Company sold two hotels containing 193 rooms for $4.5
million and two parcels of unimproved land for $1.6 million. During fiscal year
1997, the Company acquired two hotels containing 324 rooms for $10.7 million and
disposed of one hotel containing 153 rooms for $2.5 million.
In addition to the eleven hotels sold in 1999, the Company has seven hotels that
are currently being marketed for sale with a carrying value of $34.5 million as
of December 31, 1999. The Company anticipates the sale of the properties to be
completed during 2000. In accordance with Statement of Financial Accounting
Standards No. 121 ("SFAS No. 121"), "Accounting for the Impairment of Long-Lived
Assets and for Long-Lived Assets to Be Disposed Of," the Company has
discontinued depreciating these assets while they are held for sale. In
addition, SFAS No. 121 requires that assets held for sale be reported at the
lower of the carrying amount or the fair value less costs to sell. At December
31, 1999, the assets held for sale are reported at the lower of the carrying
amount or the fair value less costs to sell. The seven hotels held for sale
reported total revenues of $23.7 million for the year ended December 31, 1999.
Income from operations before interest, taxes, depreciation and amortization and
allocations for corporate expenses of the seven hotels was $5.3 million for the
year ended December 31, 1999.
6. Discontinued Operations
The revenues, income from discontinued hotel franchise operations before income
taxes, and net income from discontinued hotel franchise operations were as
follows (in thousands):
Seven months Fiscal year
ended ended
December 31, May 31,
1997 1997
-------------- -------------
Revenue $ 112,286 $ 249,822
Expenses 84,092 189,438
-------------- -------------
Income from discontinued
operations before income taxes 28,194 60,384
Income taxes 11,825 25,165
-------------- -------------
Net income from discontinued
Operations $16,369 $35,219
============== =============
Net income from discontinued hotel franchise operations for the seven months
ended December 31, 1997 includes the results of operations of the franchising
business through October 15, 1997 and costs associated with the distribution of
$1.9 million (net of taxes).
7. Commitments and Contingencies
The Company is a defendant in a number of lawsuits arising in the ordinary
course of business. In the opinion of management and legal counsel, the ultimate
outcome of such litigation will not have a material adverse effect on the
Company's business, financial position, or results of operations.
D-34
8. Pension, Profit Sharing and Incentive Plans
Bonuses accrued for key executives of the Company under incentive compensation
plans were $1.1 million, $1.1 million, $357,000 and $200,000 for the years ended
December 31, 1999 and 1998, the seven months ended December 31, 1997 and in
fiscal year ended May 31, 1997, respectively.
Employees participate in retirement plans sponsored by the Company, and prior to
the Manor Care Distribution, employees participated in retirement plans
sponsored by Manor Care. Costs allocated to the Company were based on the size
of its payroll relative to the sponsor's payroll. Retirement costs were
approximately $111,000, $506,000, $217,000 and $800,000 for the years ended
December 31, 1999 and 1998, the seven months ended December 31, 1997 and fiscal
year ended May 31, 1997, respectively.
9. Capital Stock
On December 8, 1999, the Company's Board of Directors approved a plan for the
Company to repurchase up to 3.5 million shares of common stock. The 3.5 million
shares approved is in addition to the 2.5 million shares approved by the
Company's Board of Directors on September 16, 1998. During the year ended
December 31, 1999, the Company repurchased 5.4 million shares of its common
stock at a total cost of $27.4 million. During the year ended December 31, 1998,
the Company repurchased 510,412 shares of its common stock at a total cost of
$2.1 million.
On February 23, 1998, the Board of Directors adopted a shareholder rights plan
under which a dividend of one preferred stock purchase right will be distributed
for each outstanding share of the Company's common stock to shareholders of
record on April 3, 1998. Each right will, upon exercise, entitle the holder to
buy 1/100th of a share of a newly issued series of junior participating
preferred stock of the Company at an exercise price of $50 per share. The rights
are exercisable, subject to certain exceptions, after a person or group acquires
beneficial ownership of 10% or more of the Company's common stock (such a person
or group, an "Acquiring Person"), or begins a tender or exchange offer that
would result in a person or group becoming an Acquiring Person. The rights are
non-voting and expire on January 31, 2008, unless exercised or previously
redeemed by the Company for $.001 each. If the Company is involved in a merger
or certain other business combinations not approved by the Board of Directors,
each right will entitle its holder, other than the acquiring person or group, to
purchase common stock of either the Company or the acquirer having a value of
twice the exercise price of the right.
At December 31, 1999, the Company had 254,062 shares authorized under its stock
option program. Stock options may be granted to officers, key employees and non-
employee directors with an exercise price not less than the fair market value of
the common stock on the date of grant.
Option activity under the above plans is as follows:
Number of Weighted
Shares Option Price
----------------- ----------------
Outstanding at May 31, 1997 4,949,032 $3.02
Adjustment as a result of the Distribution (2,687,141)
Granted 552,441 8.04
Exercised (202,386) 2.03
Cancelled (30,241) 4.94
---------------- ----------------
Outstanding at December 31, 1997 2,581,705 5.67
Granted 442,536 6.57
Exercised (79,414) 1.80
Cancelled (114,458) 7.29
---------------- ----------------
Outstanding at December 31, 1998 2,830,369 5.88
Granted 10,000 5.00
Exercised (105,663) 1.80
Cancelled (154,325) 6.92
---------------- ----------------
Outstanding at December 31, 1999 2,580,381 $5.99
================ ================
D-35
In connection with the Distribution, the outstanding options held by current and
former employees of the Company as of October 15, 1997 were redenominated in
both Company and Choice stock, and the number and exercise prices of the options
were adjusted based on the relative trading prices of shares of the common stock
of the two companies to retain the intrinsic value of the options. The option
prices for the period prior to May 31, 1997 in the table above have been
adjusted for the reverse stock split.
The following table provides information on the exercise prices of options
outstanding at December 31, 1999:
Number of Weighted Weighted Average Number of
Exercise Price Options Average Contractual Life Options Currently
Range Outstanding Exercise Price (in years) Exercisable
----- ----------- -------------- ---------- -----------
$ 1.79 to $ 2.00 69,323 $1.79 .69 69,323
2.01 to 3.50 329,655 2.75 1.89 262,335
3.51 to 5.50 400,374 4.35 3.79 225,950
5.51 to 8.50 1,672,430 6.98 6.98 811,193
8.51 to 10.00 108,599 9.23 7.72 35,676
--------------- -----------------
2,580,381 1,404,477
=============== =================
Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based
Compensation," ("SFAS No. 123"), requires companies to provide additional
disclosures about employee stock-based compensation plans based on a fair value
based method of accounting. As permitted by this accounting standard, the
Company continues to account for these plans under Accounting Principles Board
Opinion 25, under which no compensation cost has been recognized.
For the purpose of these disclosures required by SFAS No. 123, compensation cost
for the Company's stock option plan was determined based on the fair value at
the grant dates for awards under those plans. The fair value of each option
grant has been estimated on the date of grant using an option-pricing model. For
the years ended December 31, 1999 and 1998, the Company assumed a risk free
interest rate of 6.4% and 4.7%, respectively, expected volatility of 38.2% and
34.5%, respectively, a dividend yield of 0% and expected lives of ten years from
the date of grant. The weighted average fair value per option granted during the
year ended December 31, 1999 and 1998 was $2.66 and $4.16, respectively. If
options had been reported as compensation expense based on their fair value pro
forma, net income and earnings per share would have been as follows for the
years ended December 31, 1999 and 1998.
For the year ended For the year ended
December 31, 1999 December 31, 1998
-------------------------------------------
Net income:
As reported $ 5,936 $ 3,380
Pro forma $ 4,905 $ 2,352
Earnings per share:
Basic, as reported $ 0.31 $ 0.17
Basic, pro forma $ 0.26 $ 0.12
Diluted, as reported $ 0.31 $ 0.17
Diluted, pro forma $ 0.25 $ 0.12
10. Earnings Per Share from Continuing Operations
The following table illustrates the reconciliation of income from continuing
operations and number of shares used in the calculation of basic and diluted
earnings per share from continuing operations (in thousands, except per share
amounts).
D-36
For the seven For the fiscal
months ended year ended
December 31, December 31, December 31, May 31,
1999 1998 1997 1997
----------------- ---------------- ----------------- ----------------
Computation of basic earnings per share from
continuing operations:
Income from continuing operations before
extraordinary item and cumulative effect of
a change in accounting principle $ 7,307 $ 3,688 $ (284) $ 6,805
Weighted average shares outstanding 19,036 19,956 19,979 20,893
---------------- --------------- ---------------- ---------------
Basic earnings per share from continuing
operations $ 0.38 $ 0.18 $ (0.01) $ 0.32
================ =============== ================ ===============
Computation of diluted earnings per share from
continuing operations:
Income from continuing operations before
extraordinary item and cumulative effect of
a change in accounting principle $ 7,307 $ 3,688 $ (284) $ 6,805
Weighted average shares outstanding 19,036 19,956 19,979 20,893
Effect of dilutive securities:
Employee stock option plan 210 320 1,052 298
---------------- --------------- ---------------- ---------------
Shares for diluted earnings per share 19,246 20,276 21,031 21,191
---------------- --------------- ---------------- ---------------
Diluted earnings per share from continuing
operations $ 0.38 $ 0.18 $ (0.01) $ 0.32
================ =============== ================ ===============
The effect of dilutive securities is computed using the treasury stock method
and average market prices during the period.
Certain options to purchase common stock were not included in the computation of
diluted earnings per share because the exercise price of the options exceeded
the average market price of the common shares for the period. The following
table summarizes such options.
December 31, December 31,
1999 1998
------------- -------------
Number of shares (in thousands) 1,834 1,734
Weighted average exercise price $ 7.08 $ 7.28
Earnings per common share is computed by dividing net income by the weighted
average number of common shares outstanding. The weighted average number of
common shares outstanding is after giving effect to the one for three reverse
stock split. Because the Company's continuing operations had a net loss for the
seven months ended December 31, 1997, diluted earnings per share was not
calculated as any potentially dilutive securities would have an anti-dilutive
effect on earnings per share from continuing operations.
11. Relationship with Manor Care
The Company entered into various agreements in connection with the Manor Care
Distribution which provided for various service, consulting and lease
arrangements and tax sharing commitments. For the year ended December 31, 1998,
the Company incurred $1.3 million in rent expense for office space leased from
Manor Care and $2.0 million in corporate expense for corporate services provided
by Manor Care. In February 1999, the Company entered into a release agreement
with Manor Care which effectively terminated all inter-company service,
consulting and lease agreements.
D-37
12. Relationship with Choice Hotels International, Inc.
For purposes of providing an orderly transition after the Distribution, the
Company and Choice entered into various agreements, including, among others, a
Distribution Agreement, a Tax Sharing Agreement, a Corporate Services Agreement
and an Employee Benefits Allocation Agreement. Effective as of October 15, 1997,
these agreements provide, among other things, that the Company (i) would receive
and/or provide certain corporate and support services, such as accounting, tax
and computer systems support, (ii) would adjust outstanding options to purchase
shares of Company common stock held by Company employees, Choice employees, and
employees of Manor Care, (iii) is responsible for filing and paying the related
taxes on consolidated Federal tax returns and consolidated or combined state tax
returns for itself and any of its affiliates (including Choice) for the periods
of time that the affiliates were members of the consolidated group, (iv) would
be reimbursed by Choice for the portion of income taxes paid that relate to
Choice and its subsidiaries, (v) would enter into a five-year loan agreement
with Choice for $115.0 million at an interest rate of 500 basis points over the
interest rate of a five-year U.S. Treasury Note, and (vi) guarantees that Choice
would, at the date of distribution, have a specified level of net worth. At
December 31, 1997, approximately $25 million of liabilities were due to Choice
that related to the net worth guarantee. This liability related to the net worth
guarantee and the reimbursement of various expenses subsequent to the
distribution date.
On December 28, 1998, the Company and Choice entered into an agreement to amend
a prior strategic alliance agreement and amend the Choice Note. The amendment
provided for, among other things, (i) the elimination of the Company's option to
purchase the MainStay Suites Hotel system from Choice in exchange for the
satisfaction of $16.5 million of the remaining $19.5 million payable to Choice;
(ii) waiver of liquidated damage provisions on all franchising agreements
entered into prior to December 28, 1998 (excluding MainStay Suites or Sleep
Inns) and limitation of liquidated damages on all other franchise agreements to
$100,000; (iii) commitment by the Company to develop a total of 25 MainStay
Suites hotels by October 2001; (iv) an increase in the effective interest rate
of the Note during its final two years and (v) credits for royalty, marketing
and reservation fees. During 1999, the Company recorded $1.9 million of credits
against franchise fees, which are favorably impacting undistributed operating
expenses. In conjunction with this agreement, the Company paid the remaining
$3.0 million due to Choice for the net worth guarantee. The satisfaction of the
Choice payable, net of tax, is reflected as a credit to equity, during 1998, as
an adjustment to the accounting for the Distribution.
The Company operates substantially all of its hotels pursuant to franchise
agreements with Choice. Total fees paid to Choice included in the accompanying
consolidated financial statements for franchising marketing, reservation and
royalty fees are $10.2 million, $11.5 million, $6.2 million and $9.5 million for
the years ended December 31, 1999 and 1998, the seven months ended December 31,
1997 and the fiscal year ended May 31, 1997.
13. Fair Value of Financial Instruments
The balance sheet carrying amount of cash and cash equivalents and receivables
approximate fair value due to the short term nature of these items. Mortgages
and other long-term debt consist of bank loans and mortgages. The interest rate
on the October 1997 Credit Facility adjusts frequently based on market rates;
accordingly, the carrying amount is equivalent to fair value. At December 31,
1999, the fair value of the Choice Note and the mortgage securities is $135.0
million and $98.9 million, respectively, based on rates for similarly structured
instruments. At December 31, 1998, the carrying amount of the Choice note and
the mortgage securities approximated fair value.
14. Provision for Asset Impairment and Other Non-Recurring Charges
The Company recognized a provision for asset impairment and other non-recurring
charges of $4.3 million (pre-tax) in the year ended December 31, 1998. Included
in the provision is a $4.0 million asset impairment charge related to certain
hotels held for sale and $300,000 in non-recurring charges. Non-recurring
charges includes a restructuring charge of $146,000 to account for a reduction
in force at the Company's corporate headquarters. The restructuring charge
includes transition pay and benefits of the twelve employees terminated.
Benefits totaling $109,000 have been paid and charged against the liability
through December 31, 1998. There was no provision for asset impairment or other
non-recurring charges recorded during the year ended December 31, 1999.
D-38
15. Geographic and Business Segment Information
The Company operates in one business segment, hotel ownership. The Company's
hotels are operated under Choice Hotels International, Inc. brands, contain an
average of 140 rooms, and supply other amenities such as meeting space, a
variety of restaurants and lounges, gifts shops and swimming pools. They are
typically located in suburban locations. The Company evaluates the performance
of its segment based primarily on operating profit before depreciation,
corporate expenses, and interest expense.
The following table presents segmented financial information, (in
thousands):
For the year ended December 31, 1999
---------------------------------------------------------------
Hotels Corporate & Other Consolidated
---------------------------------------------------------------
Revenues........................................ $209,986 $ 50 $ 210,036
Operating income................................ 34,086 3,002 37,088
Interest expense................................ - 24,677 24,677
Depreciation and amortization................... - 26,240 26,240
Capital expenditures............................ - 54,923 54,923
Total assets.................................... 406,750 6,439 413,189
For the Year Ended December 31, 1998
---------------------------------------------------------------
Hotels Corporate & Other Consolidated
---------------------------------------------------------------
Revenues........................................ $203,822 $ 274 $ 204,096
Operating income................................ 33,636 (6,629) 27,007
Interest expense................................ - 20,756 20,756
Depreciation and amortization................... - 26,983 26,983
Capital expenditures............................ - 60,476 60,476
Total assets.................................... 419,661 2,850 422,511
16. Summary of Quarterly Results (unaudited)
Operating Net Income Basic Diluted
Quarters ended Revenues (1) Income (2) (loss) EPS EPS
---------------------------------------------------------------------
(in thousands, except per share data)
1999
March 31, 1999 $ 50,272 $ 8,610 $ 811 $ 0.04 $ 0.04
June 30, 1999 55,706 11,687 2,889 0.15 0.15
September 30, 1999 56,771 12,711 3,512 0.19 0.18
December 31, 1999 47,287 4,080 (1,276) (0.07) (0.07)
1998
March 31, 1998 $ 46,139 $ 6,181 $ 708 $ 0.04 $ 0.03
June 30, 1998 54,440 9,271 2,358 0.12 0.12
September 30, 1998 56,320 6,315 448 0.02 0.02
December 31, 1998 47,197 5,240 (134) (0.01) (0.01)
(1) Revenues reflect revenues from continuing operations.
(2) Operating income reflects income from continuing operations before interest
expense, income taxes and extraordinary items.
D-39
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure
Not applicable.
PART III
Item 10. Directors and Executive Officers of the Registrant
The required information on directors is included on pages 6-8 of the
Proxy Statement dated April 10, 2000 and is incorporated herein by reference.
The required information on executive officers is set forth in Part I of this
Form 10-K under an unnumbered item captioned "Executive Officers of Sunburst
Hospitality Corporation."
Item 11. Executive Compensation.
The required information is included on pages 7-14 of the Proxy
Statement dated April 10, 2000 and is incorporated herein by reference.
Item 12. Security Ownership of Certain Beneficial Owners and Management.
The required information is included on pages 5-7 of the Proxy
Statement dated April 10, 2000 and is incorporated herein by reference.
Item 13. Certain Relationships and Related Transactions.
The required information is included on pages 14-20 of the Proxy
Statement dated April 10, 2000 and is incorporated herein by reference.
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K
(a) List of Documents Filed as Part of this Report
1. Financial Statements
The Consolidated Financial Statements filed with this Form
10-K are listed in Item 8 above.
2. Financial Statement Schedules
The following reports are filed herewith on the pages indicated:
Schedule I: Condensed Financial Information..................... p.44
Schedule III: Real Estate and Accumulated Depreciation........... p.48
All other schedules are not applicable.
3. Exhibits
3.01 Restated Certificate of Incorporation of the Registrant*
3.02 Amendments to Restated Certificate of Incorporation*
D-40
3.03 By-laws of the Registrant*
4.01 Common Stock Certificate*
4.02 Competitive Advance and Multi-Company Facility Agreement
between the Registrant and Chase Manhattan Bank dated October
15, 1997 *****
4.03 Subordinated Note due October 15, 2002 by the Registrant
payable to Choice Hotels International, Inc.***
4.05 Promissory Note dated April 22, 1997 by and between First
Choice Properties Corp in favor of QI Capital Corp in the
principal amount of $117,500,000****
4.06 Loan Agreement dated as of April 22, 1997 by and between First
Choice Properties Corp and QI Capital Corp.****
10.01 Distribution Agreement, dated October 31, 1996, between Manor
Care, Inc. and the Registrant*
10.02 Corporate Services Agreement between Manor Care, Inc. and the
Registrant*
10.03 Office Lease between Manor Care, Inc. and the Registrant*
10.04 Office Lease between Manor Care, Inc. and the Registrant*
10.05 Strategic Alliance Agreement dated as of October 15, 1997 by
and between the Registrant and Choice Hotels Franchising, Inc.
(renamed Choice Hotels International, Inc.)**
10.06 Non-Competition Agreement dated as of October 15, 1997 by and
between the Registrant and Choice Hotels Franchising, Inc.
(renamed Choice Hotels International, Inc.)**
10.07 Amended and Restated Agreement dated as of October 15, 1997 by
and between the Registrant and Stewart Bainum, Jr.**
10.08 Employment Agreement between the Registrant and James A.
MacCutcheon*
10.09 Supplemental Executive Retirement Plan*
10.10 Non-Employee Director Stock Option and Deferred Compensation
Stock Purchase Plan*
10.11 1996 Non-Employee Director Stock Compensation Plan*
10.12 1996 Long-Term Incentive Plan*
10.13 Pikesville Sublease between Manor Care, Inc. and the
Registrant*
10.14 Employee Benefits and Other Employment Matters Allocation
Agreement between Manor Care, Inc. and the Registrant*
10.15 Distribution Agreement dated as of October 15, 1997 by and
between Registrant and Choice Hotels Franchising, Inc. (renamed
Choice Hotels International, Inc.)**
10.16 Employee Benefits Allocation Agreement dated as of October 15,
1997 by and between the Registrant and Choice Hotels
Franchising , Inc. (renamed Choice Hotels International,
Inc.)**
10.17 Employee Benefits Allocation Agreement dated as of October 15,
1997 by and between the Registrant and Choice Hotels
Franchising, Inc. (renamed Choice Hotels International, Inc.)**
10.18 Tax Administration Agreement dated as of October 15, 1997 by
and between the Registrant and Choice Hotels Franchising, Inc.
(renamed Choice Hotels International, Inc.)**
10.19 Tax Sharing Agreement dated as of October 15, 1997 by and
between the Registrant and Choice Hotels Franchising, Inc.
(renamed Choice Hotels International, Inc.)**
10.20 Office Sublease dated as of October 15, 1997 by and between the
Registrant and Choice Hotels Franchising, Inc. (renamed Choice
Hotels International, Inc.)**
10.21 Corporate Services Agreement dated as of October 15, 1997 by
and between the Registrant and Choice Hotels Franchising, Inc.
(renamed Choice Hotels International, Inc.)**
10.22 Omnibus Agreement and Guaranty dated as of October 15, 1997 by
and among the Registrant, Choice Hotels Franchising, Inc.
(renamed Choice Hotels International, Inc.) and Manor Care,
Inc. **
10.23 The Rights Agreement dated February 23, 1998 by and between the
Registrant and Chase Mellon Shareholder Services, L.L.C., as
Rights Agents*****
10.24 Omnibus Amendment Agreement dated as of December 29, 1998 by
and among Registrant and Choice Hotels International,
Inc.******
D-41
10.25 Second Omnibus Amendment Agreement dates as of February 29,
2000 by and among Registrant and Choice Hotels International,
Inc.
21.01 Subsidiaries of the Registrant
23.01 Consent of Arthur Andersen L.L.P.
27.01 Financial Data Schedule
99.01 Proxy Statement dated April 10, 2000 (information
incorporated by reference)
_____________
* Incorporated by reference to the Company's Registration Statement on Form
10, File No. 001-11915.
** Incorporated by reference to the Company's 8-K dated October 15, 1997,
filed October 29, 1997.
*** Incorporated by reference to the Company's 8-K dated October 15, 1997,
filed December 17, 1997.
**** Incorporated by reference to the Company's Registration Form 10-K for the
fiscal year ended May 31, 1997, filed August 15, 1997.
***** Incorporated by reference to the Company's 8-K dated February 23, 1998,
filed March 11, 1998. ****** Incorporated by reference to Company's 8-K
dated December 29, 1998, filed December 31, 1998.
(b) Reports on Form 8-K.
None
D-42
SIGNATURES
Pursuant to the requirements of Section 13 and 15(d) 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.
Dated: March 29, 2000 SUNBURST HOSPITALITY CORPORATION
By: /s/ James A. MacCutcheon
-----------------------------------
James A. MacCutcheon
Executive Vice President,
Chief Financial Officer and Treasurer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the registrant and
in the capacities and on the dated indicated.
Signature Title Date
--------- ----- ----
/s/ Stewart Bainum, Jr. Chairman March 29, 2000
- ------------------------------
Stewart Bainum, Jr.
/s/ Donald J. Landry Vice Chairman, Chief Executive March 29, 2000
- ------------------------------
Donald J. Landry Officer and President
/s/ Paul A. Gould Director March 29, 2000
- ------------------------------
Paul A. Gould
/s/ Leland C. Pillsbury Director March 29,2000
- ------------------------------
Leland C. Pillsbury
/s/ Keith B. Pitts Director March 29, 2000
- ------------------------------
Keith B. Pitts
/s/ Carole Y. Prest Director March 29, 2000
- ------------------------------
Carole Y. Prest
/s/ Christine A. Shreve Director March 29, 2000
- ------------------------------
Christine A. Shreve
/s/ Charles G. Warczak, Jr. Vice President, Finance and March 29, 2000
- ------------------------------
Charles G. Warczak, Jr. Systems (Chief Accounting
Officer)
D-43
SCHEDULE I
Page 1 of 4
SUNBURST HOSPITALITY CORPORATION
CONDENSED FINANCIAL INFORMATION OF REGISTRANT
BALANCE SHEETS
(In thousands)
December 31, December 31,
1999 1998
--------------- ---------------
ASSETS
Real estate, net $ 244,983 $ 253,812
Real estate held for sale 23,861 7,698
Receivables, net 4,911 4,620
Net investment in restricted subsidiaries 27,547 31,342
Other assets 3,831 4,914
Cash and cash equivalents 2,243 3,576
--------------- ---------------
Total assets $ 307,376 $ 305,962
=============== ===============
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities
Debt $ 194,842 $ 170,292
Accounts payable and accrued expenses 22,537 26,981
Other liabilities 6,950 6,052
--------------- ---------------
Total liabilities 224,329 203,325
--------------- ---------------
Stockholders' Equity
Common stock 245 244
Additional paid-in-capital 173,363 171,462
Retained earnings 2,723 (3,213)
Treasury stock, at cost (93,284) (65,856)
--------------- ---------------
Total stockholders' equity 83,047 102,637
--------------- ---------------
Total liabilities and stockholders' equity $ 307,376 $ 305,962
=============== ===============
See accompanying notes to condensed financial statements.
D-44
SCHEDULE I
Page 2 of 4
SUNBURST HOSPITALITY CORPORATION
CONDENSED FINANCIAL INFORMATION OF REGISTRANT
STATEMENTS OF INCOME
(In thousands)
For the year For the year For the year For the seven
ended ended ended months ended
December 31, December 31, December 31, May 31,
1999 1998 1997 1997
----------------- ----------------- ---------------- ---------------
Revenues $ 116,959 $ 104,494 $ 55,487 $ 87,262
Operating expenses 79,460 82,480 44,506 69,780
(Net gains on property
dispositions)/provision for asset
impairment and other non-recurring charges (1,878) 4,264 5,119 -
Depreciation and amortization 16,560 17,118 8,561 10,988
Interest expense 16,402 11,549 4,580 6,484
---------------- ---------------- -------------- ---------------
Total expenses 110,544 115,411 62,766 87,252
---------------- ---------------- -------------- ---------------
Income (loss) before income taxes and equity
in earnings of restricted subsidiaries 6,415 (10,917) (7,279) 10
Equity in earnings of restricted subsidiaries 5,996 17,168 6,951 11,830
Income tax (benefit) expense 5,104 2,563 (44) 5,035
---------------- ---------------- -------------- ---------------
Income (loss) from continuing operations 7,307 3,688 (284) 6,805
Income from discontinued operations, net of tax - - 16,369 35,219
---------------- ---------------- ------------- ---------------
Net income before extraordinary item 7,307 3,688 16,085 42,024
Extraordinary item -- loss from early
extinguishment of debt (net of tax) 772 308 - 1,144
Cumulative effect of a change in accounting
principle 599 - - -
---------------- ---------------- -------------- ---------------
Net income $ 5,936 $ 3,380 $ 16,085 $ 40,880
================ ================ ============== ===============
See accompanying notes to condensed financial statements.
D-45
SCHEDULE I
Page 3 of 4
SUNBURST HOSPITALITY CORPORATION
CONDENSED FINANCIAL INFORMATION OF REGISTRANT
STATEMENTS OF CASH FLOWS
(In thousands)
For the year For the year For the year For the seven
ended Ended ended months ended
December 31, December 31, December 31, May 31,
1999 1998 1997 1997
---------------- -------------- -------------- --------------
Net cash provided by continuing operations $ 30,467 $ 27,411 $ 2,316 $ 20,282
Net cash provided by discontinued operations - - 20,876 46,724
---------------- -------------- -------------- --------------
Net cash provided from operating activities 30,467 27,411 23,192 67,006
---------------- -------------- -------------- --------------
Cash flows from investing activities
Investment in property and equipment (38,218) (52,735) (51,213) (60,641)
Acquisition of operating hotel - - - (5,550)
Distribution of Franchising segment - - (4,166) -
---------------- -------------- -------------- --------------
Net cash utilized by continuing operations (38,218) (52,735) (55,379) (66,191)
Net cash utilized by discontinued operations - - (118,474) (15,864)
---------------- -------------- -------------- --------------
Net cash utilized by investing activities (38,218) (52,735) (173,853) (82,055)
---------------- -------------- -------------- --------------
Cash flows from financing activities
Proceeds from mortgages and other long term debt 10,000 25,000 16,023 90,500
Principal payments of debt - (2,238) (90,694) (951)
Repayment of notes payable to Manor Care, Inc. - - (37,022) -
Proceeds from note payable to Choice
Hotels International - - 115,000 -
Proceeds from issuance of common stock 1,303 359 1,153 3,410
Purchases of treasury stock (27,428) (2,141) (10,554) (53,150)
Payable to Choice Hotels International, Inc. for net
worth guarantee - - 15,000 -
Advances from restricted subsidiaries 22,543 3,572 6,503 11,028
Advances to Manor Care, Inc., net - - - (9,971)
---------------- -------------- -------------- --------------
Net cash provided by continuing operations 6,418 24,552 15,409 40,866
Net cash provided by (utilized by) discontinued
operations - - 129,337 (19,730)
---------------- -------------- -------------- --------------
Net cash provided by financing activities 6,418 24,552 144,746 21,136
---------------- -------------- -------------- --------------
Net change in cash and cash equivalents (1,333) (772) (5,915) 6,087
Cash and cash equivalents at beginning of period 3,576 4,348 10,263 4,176
---------------- -------------- -------------- --------------
Cash and cash equivalents at end of period $ 2,243 $ 3,576 $ 4,348 $ 10,263
================ ============== ============== ==============
Cash and cash equivalents of continuing operations $ 2,243 $ 3,576 $ 4,348 $ 6,471
Cash and cash equivalents of discontinued operations $ - $ - $ - $ 3,791
See accompanying notes to condensed financial statements.
D-46
SCHEDULE I
Page 4 of 4
SUNBURST HOSPITALITY CORPORATION
CONDENSED FINANCIAL INFORMATION OF REGISTRANT
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
A. Basis of Presentation
The accompanying condensed financial information of Sunburst Hospitality
Corporation (the "Parent Company") presents the financial condition, results of
operations and cash flows of the Parent Company with the investment in and
operations of its restricted subsidiary, First Choice Properties Corporation
("First Choice") on the equity method of accounting. Pursuant to the rules and
regulations of the Securities and Exchange Commission, the condensed financial
statements of the registrant do not include all of the information and notes
normally included with financial statements prepared in accordance with
generally accepted accounting principles and the statements should therefore be
read in conjunction with the consolidated financial statements and notes thereto
included in this Form 10-K.
As more fully described in the notes to the Parent Company's consolidated
financial statements, the Parent Company distributed its franchising business to
its shareholders on October 15, 1997 (distribution date). The accompanying
condensed financial information has been stated to reflect the franchising
business as discontinued operations through the distribution date.
In April 1997, First Choice, an indirect, wholly-owned subsidiary of the Parent
Company issued $117.5 million multi-class mortgage pass-through certificates
(collectively, "the mortgage securities"). The mortgage securities are non-
recourse and collateralized by 28 hotels owned by First Choice. The mortgage
securities bear a blended weighted average interest rate of 7.8% and have a
final maturity of May 5, 2012.
The mortgage securities contain customary covenants with respect to, among other
things, limits on the incurrence of debt, liens, certain investments,
transactions with affiliates, asset sales, mergers, and consolidations and
transfer of cash to affiliates.
The accompanying condensed financial statements present the debt of First Choice
as a component of net investment in restricted subsidiaries. Prior to the April
1997 issuance of the mortgage securities, the financial statements include the
push down effect of $110 million in Manor Care notes payable, as the April 1997
proceeds of the mortgage securities were used to repay the Manor Care notes
payable.
B. Debt
Aggregate debt maturities at December 31, 1999, are (in thousands):
2000 $51,730
2001 1,006
2002 142,106
------------
Total $194,842
============
C. Dividends
First Choice has never paid dividends to the Parent Company.
D-47
SCHEDULE III
Page 1 of 2
SUNBURST HOSPITALITY CORPORATION
REAL ESTATE AND ACCUMULATED DEPRECIATION
DECEMBER 31, 1999
(In thousands)
Initial cost to Company Subsequent Gross Amount at December 31, 1999
------------------------- ---------------------------------------
Building and Capitalized Asset Buildings and
Description Encumbrances Land Improvements Costs Writedowns Land Improvements Total
- -------------- --------------------------------------- ------------ ------------ --------- --------------- ----------
All properties,
each less than
5% of total $ 98,821 $ 51,275 $ 224,206 $ 85,630 $ (4,300) $ 61,397 $ 295,414 $ 356,811
Accumulated Date of Date Depreciable
Description Depreciation Construction Acquired Life
- -------------- -------------- -------------- ----------- --------------
All properties,
each less than
5% of total $ 62,484 Various Various Various
See accompanying notes to condensed financial statements.
D-48
SCHEDULE III
Page 2 of 2
SUNBURST HOSPITALITY CORPORATION
REAL ESTATE AND ACCUMULATED DEPRECIATION
DECEMBER 31, 1999
(In thousands)
(A) The change in total cost of properties for the calendar years ended December
31, 1999 and 1998, the seven months ended December 31, 1997 and fiscal year
ended May 31, 1997 is as follows:
Balance at May 31, 1996 $ 248,736
Additions:
Acquisitions 21,278
Capital expenditures 16,363
Transfers from construction-in-progress 3,831
Deductions:
Dispositions and other (7,008)
-----------
Balance at May 31, 1997 283,200
Additions:
Acquisitions -
Capital expenditures 22,562
Transfer from construction-in-progress 19,772
Deductions:
Dispositions and other (170)
-----------
Balance at December 31, 1997 325,364
Additions:
Acquisitions -
Capital expenditures 6,478
Transfer from construction-in-progress 48,930
Deductions:
Dispositions and other (42,944)
----------
Balance at December 31, 1998 337,828
Acquisitions -
Capital expenditures 13,540
Transfer from construction-in-progress 86,790
Deductions:
Dispositions and other (81,347)
----------
Balance at December 31, 1999 $ 356,811
==========
(B) The change in accumulated depreciation and amortization for the calendar
years ended December 31, 1999 and 1998, the seven months ended December 31,
1997, and fiscal year ended May 31, 1997 is as follows:
Balance at May 31, 1996 $ 29,817
Depreciation and amortization 8,992
Disposals (2,145)
----------
Balance at May 31, 1997 36,664
Depreciation and amortization 7,247
----------
Balance at December 31, 1997 43,911
Depreciation and amortization 16,154
Disposals (4,987)
----------
Balance at December 31, 1998 55,078
Depreciation and amortization 12,442
Disposals (5,036)
----------
Balance at December 31, 1999 $ 62,484
==========
D-49
(C) The total cost of properties excludes construction-in-progress and European
hotels, which were distributed on October 15, 1997 with Franchising.
(D) The aggregate cost of properties for Federal income tax purposes is
approximately $357 million at December 31, 1999.
D-50
ANNEX E
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTER ENDED SEPTEMBER 30, 2000 COMMISSION FILE NO. 1-11915
SUNBURST HOSPITALITY CORPORATION
10770 COLUMBIA PIKE SILVER SPRING, MD. 20901
(301) 592-3800
Delaware 53-1985619
(STATE OF INCORPORATION) (I.R.S. EMPLOYER
IDENTIFICATION NUMBER)
___________________________________
(Former name, if changed since last report)
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, and (2) has been subject to such filing requirements
for the past 90 days.
Yes X No __
-
SHARES OUTSTANDING
CLASS AT SEPTEMBER 30, 2000
----- ---------------------
Common Stock, $0.01
par value per share 15,839,281
----------
================================================================================
E-1
SUNBURST HOSPITALITY CORPORATION
INDEX
-----
PAGE NO.
-------
PART I. FINANCIAL INFORMATION:
Condensed Consolidated Balance Sheets -
September 30, 2000 (Unaudited) and December 31, 1999 3
Condensed Consolidated Statements of Income -
Three and nine months ended September 30, 2000 and 1999 (Unaudited) 4
Condensed Consolidated Statements of Cash Flows -
Nine months ended September 30, 2000 and 1999 (Unaudited) 5
Notes to Condensed Consolidated Financial Statements (Unaudited) 6
Management's Discussion and Analysis of Operations and
Financial Condition 9
PART II. OTHER INFORMATION 14
E-2
SUNBURST HOSPITALITY CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands)
As of
------------------------------
September 30, December 31,
2000 1999
------------- ------------
(Unaudited)
ASSETS
Real estate, net $ 297,154 $ 359,258
Real estate held for sale 49,955 34,498
Receivables (net of allowance for doubtful
accounts of $577 and $500, respectively) 12,524 7,851
Other assets 6,042 8,617
Cash and cash equivalents 3,340 2,965
------------- ------------
Total assets $ 369,015 $ 413,189
============= ============
LIABILITIES AND STOCKHOLDERS' EQUITY
LIABILITIES
Debt
Senior debt and capital leases $ 98,340 $ 151,807
Subordinated debt 137,051 141,856
------------- ------------
235,391 293,663
Accounts payable and accrued expenses 34,963 30,096
Deferred income taxes ($3,890 and $5,368, respectively) and other
Liabilities 4,332 6,383
------------- ------------
Total liabilities 274,686 330,142
Total stockholders' equity 94,329 83,047
------------- ------------
Total liabilities and stockholders' equity $ 369,015 $ 413,189
============= ============
The accompanying notes are an integral part of these Condensed Consolidated
E-3
SUNBURST HOSPITALITY CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(In thousands, except per share amounts)
(Unaudited)
For the three months ended For the nine months ended
September 30, September 30,
-------------------------- -------------------------
2000 1999 2000 1999
---------- ---------- ---------- ----------
REVENUES
Rooms $ 50,224 $ 50,689 $ 144,644 $ 144,081
Food and beverage 4,226 3,965 13,286 12,465
Other 2,109 2,117 6,362 6,202
---------- ---------- ---------- ----------
Total revenues 56,559 56,771 164,292 162,748
---------- ---------- ---------- ----------
OPERATING EXPENSES
Departmental expenses 16,968 18,318 50,785 52,653
Undistributed operating expenses 17,626 18,089 52,369 51,639
Depreciation and amortization 5,762 6,756 18,499 19,572
Corporate 2,966 2,512 9,521 7,641
Gains on property dispositions, net of impairment charges (39) (1,546) (7,678) (1,546)
Recapitalization Costs 8,967 - 8,967 -
---------- ---------- ---------- ----------
Total operating expenses 52,250 44,129 132,463 129,959
---------- ---------- ---------- ----------
OPERATING INCOME 4,309 12,642 31,829 32,789
---------- ---------- ---------- ----------
INTEREST EXPENSE 5,936 6,064 19,106 18,298
---------- ---------- ---------- ----------
INCOME(LOSS) BEFORE INCOME TAXES, EXTRAORDINARY
ITEMS AND CUMULATIVE EFFECT OF A CHANGE IN
ACCOUNTING PRINCIPLE (1,627) 6,578 12,723 14,491
Income taxes (985) 2,727 5,119 5,908
---------- ---------- ---------- ----------
INCOME(LOSS) BEFORE EXTRAORDINARY ITEMS AND
CUMULATIVE EFFECT OF A CHANGE IN ACCOUNTING
PRINCIPLE (642) 3,851 7,604 8,583
EXTRAORDINARY ITEMS - Loss from early extinguishments of
debt (net of $91, $221, $207 and $476 tax benefit, respectively) 139 339 315 772
CUMULATIVE EFFECT OF A CHANGE IN ACCOUNTING
PRINCIPLE - (net of $421 tax benefit) - - - 599
---------- ---------- ---------- ----------
NET INCOME (LOSS) $ (781) $ 3,512 $ 7,289 $ 7,212
========== ========== ========== ==========
Basic earnings per share
- ------------------------
Income(loss) before extraordinary item and cumulative effect of a
change in accounting principle $ (0.04) $ 0.20 $ 0.49 $ 0.44
Extraordinary item (0.01) (0.01) (0.02) (0.04)
Cumulative effect of a change in accounting principle - - - (0.03)
---------- ---------- ---------- ----------
Net income(loss) $ (0.05) $ 0.19 $ 0.47 $ 0.37
========== ========== ========== ==========
Diluted earnings per share
- --------------------------
Income(loss) before extraordinary item and cumulative effect
of a change in accounting principle $ (0.04) $ 0.20 $ 0.49 $ 0.44
Extraordinary item (0.01) (0.02) (0.02) (0.04)
---------- ---------- ---------- ----------
Cumulative effect of a change in accounting principle - - - (0.03)
Net income(loss) $ (0.05) $ 0.18 $ 0.47 $ 0.37
========== ========== ========== ==========
The accompanying notes are an integral part of these Condensed Consolidated
Statements of Income.
E-4
SUNBURST HOSPITALITY CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
For the nine months ended September 30,
---------------------------------------
2000 1999
---------- ----------
Cash Flows From Operating Activities
Income before extraordinary items and cumulative effect of a change
in accounting principle $ 7,604 $ 8,583
Adjustments to reconcile income before extraordinary item and cumulative
effect of a change in accounting principle to net cash provided
by operating activities:
Depreciation and amortization 18,499 19,572
Other non-cash items 10,432 9,468
Changes in assets and liabilities 5,395 (510)
---------- ----------
Net cash provided by operating activities 41,930 37,113
---------- ----------
Cash Flows From Investing Activities
Investment in property and equipment (25,585) (42,363)
Proceeds from sale of property and equipment 53,733 32,650
---------- ----------
Net cash provided by (utilized in) investing activities 28,148 (9,713)
---------- ----------
Cash Flows From Financing Activities
Net repayment of debt (69,784) (22,710)
Proceeds from issuance of stock 573 79
Purchases of treasury stock (492) (4,495)
---------- ----------
Net cash utilized in financing activities (69,703) (27,126)
---------- ----------
Increase in cash and cash equivalents 375 274
Cash and cash equivalents at beginning of period 2,965 4,113
---------- ----------
Cash and cash equivalents at end of period $ 3,340 $ 4,387
========== ==========
The accompanying notes are an integral part of these Condensed Consolidated
Statements of Cash Flows.
E-5
SUNBURST HOSPITALITY CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2000
(Unaudited)
The accompanying condensed consolidated financial statements of Sunburst
Hospitality Corporation and subsidiaries (the "Company") have been prepared by
the Company without audit. Certain information and footnote disclosures normally
included in financial statements presented in accordance with generally accepted
accounting principles have been condensed or omitted. The Company believes the
disclosures made are adequate to make the information presented not misleading.
The condensed consolidated financial statements should be read in conjunction
with the Company's consolidated financial statements for the year ended December
31, 1999 and notes thereto included in the Company's Form 10-K, dated March 30,
2000.
In the opinion of the Company, the accompanying unaudited condensed consolidated
financial statements reflect all adjustments (which include only normal
recurring adjustments) necessary to present fairly the financial position of the
Company as of September 30, 2000, the results of operations for the three and
nine months ended September 30, 2000 and 1999, respectively, and cash flows for
the nine months ended September 30, 2000 and 1999, respectively. Interim results
are not necessarily indicative of full year performance because of the impact of
seasonal and short-term variations.
The following table illustrates the reconciliation of net income (loss) and
number of shares used in the basic and diluted earnings per share ("EPS")
calculations (in thousands, except per share data).
For the three months ended For the nine months ended
September 30, September 30,
--------------------------------------------------------
2000 1999 2000 1999
--------------------------------------------------------
Income(loss) before extraordinary items and
cumulative effect of a change in accounting principle $ (642) $ 3,851 $ 7,604 $ 8,583
Weighted average shares 15,822 18,929 15,497 19,346
--------------------------------------------------------
Basic EPS before extraordinary items and cumulative
effect of a change in accounting principle $ (0.04) $ 0.20 $ 0.49 $ 0.44
========================================================
Shares for basic EPS 15,822 18,929 15,497 19,346
Effect of dilutive securities 174 261 147 207
--------------------------------------------------------
Shares for diluted EPS 15,996 19,190 15,644 19,553
--------------------------------------------------------
Diluted EPS before extraordinary items and cumulative
effect of a change in accounting principle $ (0.04) $ 0.20 $ 0.49 $ 0.44
========================================================
The effect of dilutive securities is computed using the treasury stock method
and average market prices during the period. Certain options to purchase common
stock were not included in the computation of diluted earnings per share because
the exercise price of the options exceeded the average market price of the
common shares for the period. In February, 2000, the Board of Directors
authorized the Company, through March 16, 2000, to offer current employees the
opportunity to terminate stock options with a strike price of $5.25 (the then
current fair market price) or higher, and replace the terminated options with an
award of restricted stock based upon a Black-Scholes valuation of the stock
options terminated. At the expiration of the offer, 1,300,994 shares under
option with an average strike price of $7.00, were, accordingly, terminated and
638,355 shares of restricted stock were issued. The Company recorded non-cash
compensation expenses of $239,000 and $611,000 for the three and nine months
ended September 30, 2000 relating to this transaction.
E-6
As of September 30, 2000, the Company owned and managed 75 hotels with 10,329
rooms in 25 states under the following brand names: Comfort, Clarion, Sleep,
Quality, MainStay and Holiday Inn Express.
At September 30, 2000, the Company has eight hotels with 1,554 rooms that are
currently being marketed for sale with a carrying value of $50.0 million. In
accordance with Statement of Financial Accounting Standards No. 121 ("SFAS No.
121"), "Accounting for the Impairment of Long-Lived Assets and for Long-Lived
Assets to Be Disposed Of," the Company has discontinued depreciating these
assets while they are held for sale. In addition, SFAS No. 121 requires that
assets held for sale be reported at the lower of the carrying amount or fair
value less costs to sell. In accordance with SFAS No. 121, the Company recorded
an impairment charge of $650,000 and $2.6 million for the three and nine months
ended September 30, 2000, to write certain properties down to their fair value
less cost to sell. The eight hotels held for sale reported total revenues of
$9.6 million and $27.5 million for the three and nine months ended September 30,
2000, and $9.3 million and $26.4 million for the three and nine months ended
September 30, 1999, respectively. Income from operations before interest, taxes,
depreciation and amortization and allocations for corporate expenses of the
eight hotels was $2.3 million and $6.0 million for the three and nine months
ended September 30, 2000, $2.3 million and $5.8 million for the three and nine
months ended September 30, 1999, respectively. The eight hotels held for sale
reported total revenues of $36.0 million, income before income taxes,
extraordinary items and cumulative effect of a change in accounting principle of
$1.2 million and EBITDA of $9.3 million over the last twelve months.
During the nine months ended September 30, 2000, the Company sold 6 hotels (859
rooms) for total proceeds of approximately $34.8 million. The company recorded
net gains from these dispositions of approximately $8.6 million during the
current year. In addition, the Company sold four land parcels for total proceeds
of approximately $2.6 million, which resulted in net gains of approximately
$400,000 for the nine months ended September 30, 2000. Subsequent to the third
quarter ended September 30, 2000, the Company sold one hotel for total proceeds
of $17.3 million and a net gain of approximately $8.0 million.
On March 27, 2000, the Company entered into a Put/Call Agreement with Choice
Hotels International, Inc. which provided an option for Choice to acquire three
of Sunburst's MainStay Suites hotels in 2000 at a price equal to Sunburst's
original cost, with the proceeds used to reduce the balance of Sunburst's term
note to Choice. On September 1, 2000, Choice acquired the three Sunburst
MainStay Suites. Proceeds of $16.3 million were used to reduce the balance of
Sunburst's term note to Choice.
At the time of the Choice Spin-off and as subsequently amended, Choice and the
Company entered into a Strategic Alliance Agreement pursuant to which: (i)
requires the Company to give Choice two weeks notice of the filing of a hotel
franchise application with any competitor of Choice; (ii) the Company has also
agreed, barring a material change in market conditions, to continue to develop
MainStay Suites hotels so that it will have opened a total of 25 MainStay Suites
hotels by October 15, 2001; (iii) Choice will provide certain credits against
MainStay Suites franchise fees otherwise payable by the Company if certain
financial performance goals for those hotels are not achieved; (iv) provided a
put/call option for Choice to acquire three of Sunburst's MainStay Suites hotels
in 2000 at a price equal to Sunburst's original cost, with the proceeds used to
reduce the balance of Sunburst's term note to Choice; (v) Choice and the Company
have agreed to continue to cooperate with respect to matters of mutual interest,
including new product and concept testing for Choice in hotels owned by the
Company; and (vi) the Company has authorized Choice, on a non-exclusive basis,
to negotiate with third-party vendors on the Company's behalf for the purchase
of certain items. The Strategic Alliance Agreement expires on October 15, 2002.
On September 20, 2000 the Company announced that it had entered into a
definitive agreement to be acquired by a group of Sunburst's existing
shareholders and management. The transaction, which is structured as a
recapitalization and is subject to shareholder approval, provides for the
acquisition of all outstanding publicly held shares of common stock of Sunburst
at a price of $7.375 per share in cash. The agreement was unanimously approved
by Sunburst's Board of Directors acting upon the unanimous recommendation of a
Special Committee of the Board of Directors, comprised of directors who are not
E-7
SUNBURST HOSPITALITY CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF OPERATIONS AND FINANCIAL CONDITION
SEPTEMBER 30, 2000
affiliated with the group of purchasing stockholders. Salomon Smith Barney
served as the financial advisor to the Special Committee. The agreement is
conditioned upon approval of the holders of two-thirds of all outstanding shares
of Sunburst and the approval by a majority of the shares that are not held by
members of the group of purchasing stockholders. The acquiring group has
arranged financing for the transaction through The Chase Manhattan Bank. The
transaction is expected to be treated as a recapitalization for accounting
purposes, as Sunburst will not meet the requirements for a new accounting basis
as a result of the interests of the continuing stockholders. A recapitalization
is a transaction structured to transfer the controlling interest of an operating
entity to a new investor, with some owners also retaining an ownership interest.
A recapitalization results in no change in accounting basis of the assets or
liabilities presented in the stand-alone financial statements of the operating
entity. The consideration paid for the shares is accounted for as a reduction in
equity. Additional information relating to this announcement can be obtained in
the Preliminary Proxy Statement on Schedule 14A filed with the Securities
Exchange Commission on October 6, 2000.
E-8
SUNBURST HOSPITALITY CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF OPERATIONS AND FINANCIAL CONDITION
SEPTEMBER 30, 2000
The Company is a national owner and operator of hotel properties with a
portfolio at September 30, 2000 of 75 hotels (10,329 rooms) in a total of 25
states. The Company operates its hotels under the following brands: MainStay,
Comfort, Quality, Clarion, Sleep and Holiday Inn Express. The Company's
continuing business consists primarily of guest room revenue, meeting room
revenue, and food and beverage revenue from owned and operated hotels.
COMPARISON OF RESULTS FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2000 and 1999:
- -----------------------------------------------------------------------------
Total revenues for the three months ended September 30, 2000 decreased 0.4% to
$56.6 million, compared to $56.8 million in the prior year. While the number of
rooms decreased 8.9% to 10,329 at September 30, 2000 from 11,340 at September
30, 1999, revenue per available room for the entire portfolio increased 9.4%.
The Company's portfolio of recently developed, mid-priced, extended-stay hotels
reported a revenue increase of 29.7% to $9.8 million in the third quarter of
2000, from $7.6 million in the third quarter of the prior year. This increase in
revenue was largely offset by the sale of 10 lower-margin hotels since the end
of the third quarter in 1999.
Same store properties opened at least one year reported an occupancy increase to
74.1% in the third quarter of 2000 from 73.7% in the third quarter of the prior
year and increased average daily rates to $69.24 from $67.90. This resulted in
an increase in RevPar of 2.4% on a "same store" basis.
Hotel operating profit increased to 38.8% in the third quarter 2000 from 35.9%
in the prior year. Notwithstanding the tight labor markets within which the
company operates, various cost control measures enabled the Company to hold most
operating cost increases below the rate of total revenue increases. In addition,
operating margins benefit as the Company opens and ramps-up newly developed,
mid-priced extended stay hotels, which operate at higher margins than the
Company's traditional hotels and as the Company has sold lower margin
properties.
Recurring earnings before gains, losses on property transactions,
recapitalization costs, interest, taxes, depreciation and amortization
("Recurring EBITDA") increased to $19.0 million in the third quarter of 2000
from $17.9 million in the third quarter of the prior year. Recurring EBITDA is
presented because such data is used by certain investors to determine the
Company's ability to meet debt service, fund capital expenditures and expand its
business. The Company considers recurring EBITDA to be an indicative measure of
the operating performance particularly due to the large amount of depreciation
and amortization recorded on the Company's real estate. Such information should
not be considered an alternative to net income, operating income, cash flow from
operations or any other operating or liquidity performance measure defined by
generally accepted accounting principles. Cash expenditures incurred (including
nondiscretionary expenditures) for various long-term assets, interest expense
and income taxes have been, and will be, incurred which are not reflected in the
recurring EBITDA presentation and therefore recurring EBITDA does not represent
funds available for management's discretionary use. The items excluded from the
calculation of recurring EBITDA are significant components in understanding and
assessing the Company's results of operations. Recurring EBITDA presented by the
Company may not necessarily be comparable to recurring EBITDA defined and
presented by other companies.
The following schedule is a reconciliation of recurring EBITDA to income (loss)
from continuing operations (in thousands):
E-9
For the three months ended
September 30,
2000 1999
---------- ----------
Recurring EBITDA $ 18,999 $ 17,852
Gains on property dispositions, net of impairments 39 1,546
Recapitalization costs (8,967) -
Interest expense (5,936) (6,064)
Income taxes 985 (2,727)
Depreciation and amortization (5,762) (6,756)
---------- ----------
Income (loss) from continuing operations before extraordinary
items and cumulative effect of a change in accounting principle $ (642) $ 3,851
========== ==========
During the quarter ended September 30, 2000, the Company announced a
recapitalization transaction, which remains subject to shareholder approval. As
a result of that transaction, the Company recorded a charge of $9.0 million in
the quarter. Included in that charge were $8.4 million in termination costs
associated with personnel changes made involving eight corporate employees, of
which $4.7 million related to non-cash compensation expenses from the
acceleration of vesting of stock options and restricted stock grants held by
certain of these employees.
Interest expense decreased 2.1% to $5.9 million in the third quarter of 2000
from $6.1 million in the third quarter of the prior year. The decrease is
principally the result of a reduction in borrowings.
Depreciation expense decreased 14.7% to $5.8 million in the current quarter from
$6.8 million in the third quarter of the prior year. The increased depreciation
expense associated with newly developed hotels was offset by a decline in
depreciation expense relative to hotels held for sale. In accordance with
Statement of Financial Accounting Standards No. 121, the Company discontinued
depreciating those assets while they are held for sale. The eight hotels held
for sale at September 30, 2000, have been reported at the lower of the carrying
amount or fair value less cost of sale. The eight hotels held for sale have a
combined book value of $50.0 million at September 30, 2000.
Income (loss) before income taxes, extraordinary items and cumulative effect of
a change in accounting principle decreased $8.2 million to a loss of $1.6
million in the third quarter of 2000 from a gain of $6.6 million in the third
quarter of the prior year. The decrease results from the $9.0 million in
expenses associated with the recapitalization announcement made on September 20,
2000. After the effect of an extraordinary loss from early debt redemption and
cumulative effect of a change in accounting principle, the Company reported a
decrease of $4.3 million in net income to a loss of $781,000 for the third
quarter of 2000 from a gain of $3.5 million during the prior year's third
quarter. The extraordinary loss from early debt redemption during the current
quarter of $139,000 (net of $91,000 tax benefit) and third quarter of 1999 of
$339,000 (net of $221,000 tax benefit) related to the early redemption of debt
collateralized by one property sold during the third quarter of 2000 and two
properties sold during the second quarter of 1999.
COMPARISON OF RESULTS FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2000 and 1999:
- ----------------------------------------------------------------------------
Total revenue for the nine months ended September 30, 2000 increased 1.0% to
$164.3 million, compared to $162.7 million in the prior year. While the number
of rooms decreased 8.9% to 10,329 at September 30, 2000 from 11,340 at September
30,1999 revenue per available room for the entire portfolio increased 8.1%. Same
store properties opened at least one year reported an occupancy increase to
71.0% for nine months ended September 30, 2000 from 69.6% for the nine months
ended September 30, 1999 and increased average daily rates to $67.62 from
$66.88.
E-10
For the nine months ended September 30, 2000, hotel operating profit increased
to 37.2% from 35.9% in the prior year. Interest expense increased $808,000 or
4.4% to $19.1 million for the nine months ended September 30, 2000 from $18.3
million for the prior year as a result of increased short-term rates associated
with the floating rate bank debt. Depreciation expense decreased 5.6% to $18.5
million for the first nine months of 2000 from $19.6 million in the prior year.
The decline in depreciation expense is primarily a result of the discontinuance
of depreciation on the hotels that were held for sale during the nine month
period offset by the additional depreciation expense associated with newly
developed hotels.
Recurring earnings before gains, losses on property transactions,
recapitalization costs, interest, taxes, depreciation and amortization
("Recurring EBITDA") increased 1.6% to $51.6 million for the nine months ended
September 30, 2000 from $50.8 million for the same period in the prior year.
The following schedule is a reconciliation of recurring EBITDA to income from
continuing operations (in thousands):
For the nine months ended
September 30,
1999 1998
---------- ----------
Recurring EBITDA $ 51,617 $ 50,815
Gains on property dispositions, net of impairments 7,678 1,546
Recapitalization costs (8,967) -
Interest expense (19,106) (18,298)
Income taxes (5,119) (5,908)
Depreciation and amortization (18,499) (19,572)
---------- ----------
Income from continuing operations before extraordinary items
and cumulative effect of a change in accounting principle $ 7,604 $ 8,583
========== ==========
For the year ended
---------------------------
December 31, December 31,
1999 1998
------------ ------------
Recurring EBITDA $ 61,450 $ 58,254
Net gains on property dispositions/ provision for asset
impairment and non-recurring charges 1,878 (4,264)
Interest expense (24,677) (20,756)
Income taxes (5,104) (2,563)
Depreciation and amortization (26,240) (26,983)
------------ ------------
Income from continuing operations before extraordinary items
and cumulative effect of a change in accounting principle $ 7,307 $ 3,688
============ ============
Income before income taxes, extraordinary item and cumulative effect of a change
in accounting principle decreased $1.8 million to $12.7 million for the nine
months ended September 30, 2000 from $14.5 million in the prior year. The
decrease results from the $9.0 million in Recapitalization Costs which were
partially offset by the $7.7 million gain from the sale of assets for the nine
months ended September 30, 2000 compared to the $1.5 million gain from the sale
of assets for the nine months ended the prior year. After the effect of an
extraordinary loss from early debt redemption and cumulative effect of a change
in accounting principle, the Company reported a slight increase in net income to
E-11
$7.3 million for the nine months ended September 30, 2000 from $7.2 million
during the prior year. The extraordinary loss from early debt redemption during
the first nine months of the current year of $315,000 (net of $207,000 tax
benefit) and the prior year of $772,000 (net of $476,000 tax benefit) related to
the early redemption of debt collateralized by two properties sold during the
first nine months of 2000 and five properties sold during the same period of
1999, respectively.
On January 1, 1999 the Company adopted the AICPA Accounting Standards Executive
Committee's Statement of Position 98-5, "Reporting on the Cost of Start-Up
Activities" ("SOP 98-5"). In accordance with that new accounting pronouncement,
the Company wrote off the unamortized balance of deferred pre-opening costs on
its balance sheet at January 1, 1999 and recorded an after-tax charge of
$599,000 (net of $421,000 tax benefit) for the cumulative effect of that change
in accounting principle. Beginning January 1, 1999, pre-opening costs associated
with properties under construction are expensed as incurred.
Liquidity and Capital Resources:
- --------------------------------
The Company has maintained an $80 million committed line of credit with a group
of banks to support ongoing operations and to fulfill capital requirements.
On October 15, 2000 the Credit Facility was reduced to $25 million and extended
to February 2001. Borrowings under the line amounted to $7 million at September
30, 2000 compared to $51 million at December 31, 1999.
At September 30, 2000, the Company has $235.4 million of long-term debt
outstanding. The $137.1 million of subordinated debt payable to Choice Hotels
International, Inc. matures in October 2002. The Choice note provides additional
financial flexibility, as interest is not payable until maturity. The
Recapitalization agreement announced on September 20, 2000, subject to approval
by the Company's shareholders, would constitute a default, if approved, under
the Subordinated Note. Sunburst and Choice have, subject to the recapitalization
being approved by the Company's shareholders, entered into an agreement pursuant
to which Sunburst will repay this indebtedness in part and incur new
indebtedness to Choice for the remaining amount. If the Company is not
successful in seeking alternative sources of funding or approval of the
Recapitalization Agreement, long term financing will be sought to pay the Choice
debt. If adequate financing cannot be obtained, continued sales of assets will
be necessary to meet this obligation.
On September 1, 2000, Choice acquired three of Sunburst's MainStay Suites hotels
pursuant to a previously executed put/call agreement. Proceeds of $16.3 million
were used to reduce the balance of Sunburst's term note to Choice. The three
hotel put/call hotels reported total revenues of $4.4 million, loss before
income taxes, extraordinary items and cumulative effect of a change in
accounting principle of $435,000 and EBITDA of $1.7 million over the last twelve
months.
The Company reported an increase in cash and cash equivalents of $375,000 during
the nine months ended September 30, 2000. Cash from operations was $41.9 million
for the nine months ended September 30, 2000 compared to $37.1 million for the
same period the prior year. Cash from investing activities was $28.1 million
through the third quarter of 2000 compared to cash used in investing activities
of $9.7 million through the third quarter of 1999. Cash utilized in financing
activities for the nine months ended September 30, 2000 was $69.7 million
compared to $27.1 million for the same period the prior year. The increase in
cash from investing activities and the increase in cash utilized for financing
activities was a result of the Company's program to dispose of assets that do
not meet the Company's criteria for long-term retention to repay debt.
The Company's objective is to reduce its overall leverage. The Company
continuously evaluates its existing portfolio and seeks to sell hotels that have
limited upside potential, or that are projected to under-perform, in order to
reduce debt and redeploy capital to higher yielding opportunities. The Company
has identified eight such properties that as of September 30, 2000 are being
marketed for sale. During the quarter ended September 30, 2000, the Company sold
one hotel for total proceeds of $3.0 million. The six hotels sold during 2000
reported last twelve months revenue of $12.8 million, loss before income taxes,
extraordinary items and cumulative effect of a change in accounting principle of
$266,000 and EBITDA of $2.7 million.
E-12
The Company's Board of Directors authorized a Treasury share purchase program
aggregating six million shares. The program was completed in January, 2000 and
six million shares have been purchased at an aggregate cost of $30 million, or
$5.00 per share. The Company does not anticipate expanding the Treasury share
purchase program, at least until such time as additional financing is arranged.
At September 30, 2000, the Company's debt to book capitalization amounted to
71.4% and debt to market capitalization was 68.8%.
Debt analysis for nine months Ratio of Ratio of
ended September 30, 2000 debt to senior debt to
- ------------------------------ --------- --------------
Recurring EBITDA 4.6X 1.9X
Net income 32.3X 13.5X
Cash flows from operating activities 5.6X 2.3X
Ratio analysis for nine months Ratio of Ratio of
ended September 30, 2000 recurring EBITDA to net income to
- --------------------------------- ------------------- -------------
Fixed charges 5.0X 0.7X
Cash interest 6.5X 0.9X
While operating cash flow, credit available under the Company's bank facility
and proceeds from the sale of hotels are expected to be adequate to fund
operations, accessing additional capital is imperative in order for the Company
to implement development and growth plans. Also, given the relatively short
maturities of the note payable to Choice and the near term expiration of the
bank facility, refinancing or extending maturities is an imperative. If the
Company is unsuccessful in completing planned asset sales, approval of the
Recapitalization Agreement, or otherwise arranging for an extension of its bank
facility which otherwise expires February 12, 2001, alternative sources of
capital will have to be identified and accessed.
FORWARD-LOOKING STATEMENTS
- --------------------------
The statements contained in this document that are not historical facts are
forward-looking statements within the meaning of the Private Securities
Litigation Reform Act of 1995.
A number of important factors could cause the Company's actual results for
future periods to differ materially from those expressed in any forward-looking
statements made by, or on behalf of the Company.
Certain statements contained in this Form 10-Q, including those in the
section entitled "Management's Discussion and Analysis of Operating Results and
Financial Condition," contain forward-looking information that involves risk and
uncertainties. Actual future results and trends may differ materially depending
on a variety of factors discussed in the "Risk Factors" section included in the
Company's SEC filings, including (a) the Company's success in implementing its
business strategy, including its success in arranging financing where required
and (b) the nature and extent of future competition, and political, economic and
demographic developments in regions where the Company does business or in the
future may do business.
Readers are cautioned not to place undue reliance on these forward-looking
statements, which speak only as of the date hereof. The Company undertakes no
obligation to revise or update these forward-looking statements.
E-13
PART II OTHER INFORMATION
-------------------------
ITEM 1. LEGAL PROCEEDINGS
The Company is subject to certain legal proceedings relating to the proposed
recapitalization plan. The details of these proceedings are presented in the
Preliminary Proxy Statement on Schedule 14A filed with the Securities Exchange
Commission on October 6, 2000. The Company is party to other routine litigation
incidental to the business of the Company. None of such routine litigation,
either individually or in the aggregate, is expected to be material to the
business, financial condition or results of operations of the Company.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
Exhibit 27.01 - Financial Data Schedule - September 30, 2000
(b) The following reports were filed pertaining to the quarter ended September
30, 2000.
None
E-14
SIGNATURE
Pursuant to the requirements of the Securities Act of 1934, the Registrant has
duly caused this report to be signed on its behalf by the undersigned thereunto
duly authorized.
SUNBURST HOSPITALITY CORPORATION
Date: November 13, 2000 /s/ Charles Warczak
----------------------------
By: Charles Warczak
Senior Vice President,
Chief Financial Officer and
Treasurer
E-15
SUNBURST HOSPITALITY CORPORATION
Special Meeting of Stockholders -- January 4, 2001
This Proxy is Solicited on Behalf of the Board of Directors
The undersigned hereby appoints Leland C. Pillsbury and Carole Y. Prest as
Proxies, each with the power to appoint their substitute, to act alone, and to
represent and vote, as designated on the reverse side, all shares of Common
Stock of Sunburst Hospitality Corporation ("Sunburst") held of record by the
undersigned, as of 5:00 p.m. E.S.T. on November 22, 2000 at the Special Meeting
of Stockholders to be held on January 4, 2001 at the Quality Suites Hotel,
3 Research Court, Rockville, Maryland 20850 ((301) 840-0200) at 10:30 a.m.
E.S.T., or any adjournments or postponements thereof, and in the Proxies'
discretion, upon such other business, as may properly come before the Special
Meeting.
The shares represented hereby will be voted in accordance with the
specifications made on the reverse side or, IF NO SPECIFICATION IS MADE, THEY
WILL BE VOTED FOR THE PROPOSAL SET FORTH ON THE REVERSE SIDE.
---
(Continued on reverse side)
Please date, sign and mail your
proxy card back as soon as possible
Special Meeting of Stockholders
SUNBURST HOSPITALITY CORPORATION
January 4, 2001
| Please Detach and Mail in the Envelope Provided |
V V
[ X ] Please mark your votes as in this example
FOR AGAINST ABSTAIN
1. Approval and adoption of the Recapitalization [ ] [ ] [ ]
Agreement and the related merger
If you plan to attend the Special Meeting [ ]
of Stockholders, please mark the following box
and promptly return your Proxy Card
_____________________________ _____________________________ Date _______ 2000
Signature Signature if held jointly
NOTE: Please sign exactly as your name appears on this proxy card. If stock is
held jointly, both should sign. When signing as attorney, executor, trustee or
guardian, please give your full title.