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 MARCH 31, 1998 COMMISSION FILE NO. 1-11915
CHOICE HOTELS INTERNATIONAL, INC.
10750 COLUMBIA PIKE
SILVER SPRING, MD. 20901
(301) 979-5000
Delaware 52-1209792
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(STATE OF INCORPORATION) (I.R.S. EMPLOYER
IDENTIFICATION NUMBER)
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(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
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SHARES OUTSTANDING
CLASS AT MARCH 31, 1998
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Common Stock, $0.01
par value per share 59,811,486
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CHOICE HOTELS INTERNATIONAL, INC.
INDEX
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PAGE NO.
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PART I. FINANCIAL INFORMATION:
Consolidated Balance Sheets -
March 31, 1998 (Unaudited) and December 31, 1997 3
Consolidated Statements of Income -
Three months ended March 31, 1998 and March 31, 1997
(Unaudited) 5
Consolidated Statements of Cash Flows -
Three months ended March 31, 1998 and March 31, 1997 (Unaudited) 6
Notes to Consolidated Financial Statements (Unaudited) 7
Management's Discussion and Analysis of Results of
Operations and Financial Condition 8
PART II. OTHER INFORMATION AND SIGNATURE 11
PART I. FINANCIAL INFORMATION
CHOICE HOTELS INTERNATIONAL, INC.
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
MARCH 31, DECEMBER 31,
ASSETS 1998 1997
------------ --------
(UNAUDITED)
CURRENT ASSETS
Cash and cash equivalents $ 6,489 $ 10,282
Receivables (net of allowance
for doubtful accounts of
$7,006 and $7,608, respectively) 25,520 28,347
Other 6,754 3,446
Receivable from Sunburst Hospitality 19,921 25,066
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Total current assets 58,684 67,141
PROPERTY AND EQUIPMENT, AT COST, NET OF
ACCUMULATED DEPRECIATION 37,343 37,040
GOODWILL, NET OF ACCUMULATED AMORTIZATION 68,440 68,792
FRANCHISE RIGHTS, NET OF ACCUMULATED
AMORTIZATION 48,214 48,819
INVESTMENT IN FRIENDLY HOTELS, PLC 43,826 17,011
OTHER ASSETS 8,508 9,286
ASSETS HELD FOR SALE -- 10,752
NOTE RECEIVABLE FROM SUNBURST HOSPITALITY 119,715 117,447
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Total assets $384,730 $376,288
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The accompanying notes are an integral part of these consolidated balance
sheets.
CHOICE HOTELS INTERNATIONAL, INC.
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
March 31, December 31,
1998 1997
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(UNAUDITED)
LIABILITIES & SHAREHOLDERS' EQUITY
CURRENT LIABILITIES
Current portion of long-term debt $ 15,041 $ 15,041
Accounts payable 14,982 26,452
Accrued expenses 19,024 10,595
Income taxes payable 7,594 6,007
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Total current liabilities 56,641 58,095
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MORTGAGES AND OTHER LONG-TERM DEBT 259,469 267,780
DEFERRED INCOME TAXES AND OTHER
LIABILITIES 5,698 1,155
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Total liabilities 321,808 327,030
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SHAREHOLDERS' EQUITY
Common stock, $.01 par value 603 598
Additional paid-in capital 51,092 47,907
Cumulative translation adjustment 1,358 (8,316)
Treasury stock (7,535) (189)
Retained earnings 17,404 9,258
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Total shareholders' equity 62,922 49,258
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Total liabilities & shareholders' equity $384,730 $376,288
======== ========
The accompanying notes are an integral part of these consolidated balance
sheets.
CHOICE HOTELS INTERNATIONAL, INC.
CONSOLIDATED STATEMENTS OF INCOME
(UNAUDITED, IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
Three Months Ended
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March 31, March 31,
1998 1997
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(Unaudited)
REVENUES
Royalty fees $20,844 $18,258
Marketing and reservation fees 23,506 20,436
Product sales 5,156 6,414
Initial franchise fees and relicensing fees 3,414 4,184
Other, including partner service revenue 2,659 3,539
European hotel operations 1,098 3,733
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Total revenues 56,677 56,564
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OPERATING EXPENSES
Marketing and reservations 22,357 20,287
Selling, general and administrative 11,351 11,214
Product cost of sales 4,730 6,161
Depreciation and amortization 2,973 2,564
European hotel operations 1,133 3,681
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Total operating expenses 42,544 43,907
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OPERATING INCOME 14,133 12,657
OTHER
Interest expense 4,658 2,866
Interest and dividend income (2,720) -
Gain from sale of investments (1,766) -
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Total other 172 2,866
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INCOME BEFORE INCOME TAXES 13,961 9,791
INCOME TAXES 5,815 4,078
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NET INCOME $ 8,146 $ 5,713
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WEIGHTED AVERAGE SHARES OUTSTANDING 59,742 63,105
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SHARES FOR DILUTED EARNINGS PER SHARE 60,970 63,105
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BASIC EARNINGS PER SHARE $0.14 $0.09
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DILUTED EARNINGS PER SHARE $0.13 $0.09
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The accompanying notes are an integral part of these consolidated statements of
income.
CHOICE HOTELS INTERNATIONAL, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED, IN THOUSANDS)
Three Months Ended
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March 31, March 31,
1998 1997
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(Unaudited)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 8,146 $ 5,713
Reconciliation of net income to net cash provided by
operating activities:
Depreciation and amortization 2,973 2,564
Provision for bad debts 553 638
Increase in deferred taxes and other 2,212 -
Non cash interest and dividend income (2,720) -
Changes in assets and liabilities:
Change in receivables 2,275 715
Change in other current assets (3,307) (1,606)
Change in current liabilities (3,052) 133
Change in income taxes payable 1,587 (376)
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NET CASH PROVIDED BY OPERATING ACTIVITIES 8,667 7,781
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CASH FLOW FROM INVESTING ACTIVITIES:
Investment in property and equipment (2,320) (6,515)
Repayments of Sunburst Hospitality advances,net 5,145 -
Other items, net (1,325) -
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NET CASH PROVIDED BY (UTILIZED BY)
INVESTING ACTIVITIES 1,500 (6,515)
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CASH FLOW FROM FINANCING ACTIVITIES:
Principal payments of debt (9,061) -
Purchase of treasury stock (7,347) -
Proceeds from issuance of common stock 2,448 -
Transfers to Parent, net - (1,045)
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NET CASH UTILIZED BY FINANCING ACTIVITIES (13,960) (1,045)
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Net change in cash and cash equivalents (3,793) 221
Cash and cash equivalents, beginning of period 10,282 2,973
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CASH AND CASH EQUIVALENTS, END OF PERIOD $ 6,489 $ 3,194
======== ========
The accompanying notes are an integral part of these consolidated statements of
cash flows.
CHOICE HOTELS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. The accompanying consolidated financial statements of Choice Hotels
International, Inc. (the "Company") and subsidiaries 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 consolidated financial statements should be read in conjunction with the
consolidated financial statements for the stub year ended December 31, 1997 and
notes thereto included in the Company's Form 10-K, dated March 31, 1998. In the
opinion of management, all adjustments (which include any normal recurring
adjustments) considered necessary for a fair presentation have been included.
Interim results are not necessarily indicative of fiscal year performance
because of seasonal and short-term variations. All intercompany transactions
and balances between Choice Hotels International, Inc. and its subsidiaries have
been eliminated. Certain reclassifications have been made to the prior year
amounts to conform to current period presentation.
2. In January 1998, the Company completed a transaction with Friendly Hotels,
PLC ("Friendly")in which Friendly assumed the master franchise rights for
Choice's Comfort, Quality and Clarion brand hotels throughout Europe (with the
exception of Scandinavia) for the next 10 years. In exchange, the Company will
receive from Friendly $8.0 million, payable in eight equal annual installments.
As part of the transaction, Friendly acquired European hotels currently owned by
the Company for a total consideration of approximately $26.2 million in
convertible preferred shares and cash. In exchange for 10 hotels in France, two
in Germany and one in the United Kingdom, the Company received $22.2 million in
new unlisted 5.75 percent convertible preferred shares in Friendly at par,
convertible into one new Friendly ordinary share for every 150p nominal of the
preferred convertible shares. In addition, Friendly will pay the Company
deferred compensation of $4.0 million in cash, payable by the fifth anniversary
of completion or sooner dependent on the level of future profits of the hotels
acquired. The European hotels included in this transaction have a carrying
value, which includes a cumulative translation adjustment of $(6.6) million,
totaling approximately $19.9 million. At March 31, 1998, a net deferred gain of
$2.3 million is reflected in deferred income taxes and other liabilities in the
accompanying consolidated balance sheets.
3. In May 1998, the Company consummated a $100 million senior unsecured note
offering (the "Notes"), bearing a coupon rate of 7.125%. The Notes will mature
on May 1, 2008, with interest on the Notes to be paid semi-annually. The
Company has used the net proceeds from the offering of approximately $99 million
to repay amounts outstanding under the Company's $300 million revolving credit
facility.
4. During the three months ended March 31, 1998, the Company's comprehensive
income (consisting of net income plus foreign currency translation adjustments)
exceeded net income by approximately $9.7 million.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF OPERATIONS AND FINANCIAL CONDITION
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The principal factors that affect the Company's results are: (i) growth in the
number of hotels under franchise, (ii) occupancy and room rates achieved by the
hotels under franchise, (iii) the number and relative mix of franchised hotels,
and (iv) the Company's ability to manage costs. The number of rooms at
franchised properties and occupancy and room rates at those properties
significantly affect the Company's results because franchise royalty fees are
based upon room revenues at franchised hotels. The variable overhead costs
associated with franchise system growth are substantially less than incremental
royalty fees generated from new franchisees; therefore, the Company is able to
capture a significant portion of those royalty fees as operating income.
The Company reported net income of $8.1 million, or $0.13 per diluted share, for
the first quarter ended March 31, 1998, compared to net income for the same
period of 1997 of $5.7 million, or $0.09 per diluted share. The $0.13 per share
includes approximately $0.01 resulting from a one time sale of certain
investments held by the Company. Exclusive of this one time gain, diluted
earnings per share increased 33.3% to $0.12 per share from $0.09 per share. The
increase in net income for the period is primarily attributable to an increase
in franchise revenue as a direct result of the addition of new licensees to the
franchise system and improvements in the operating performance of franchised
hotels.
Franchise Revenues
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In operating the franchise business, the Company collects marketing and
reservation fees and assessments from its franchisees. The Company is
contractually obligated to disburse these fees for marketing and reservation
activities to be provided on behalf of its franchisees. The Company also
provides certain services to its franchisees, specifically a group purchasing
program, where the Company utilizes bulk purchasing power to obtain favorable
pricing from third-party vendors for franchisees. This program is provided to
the franchisees as a service and is not designed to be a major component of the
Company's profitability. Management therefore analyzes its franchise business
based on revenues net of marketing and reservation fees and product sales ("net
franchise revenues").
Net franchise revenues include royalty fees, initial franchise fees and
relicensing fees earned on contracts signed and other revenues, including
partner service revenue. Net franchise revenues are dependent upon growth in
the number of franchised properties as well as the underlying performance of the
franchised hotels for continued growth. The key industry standard for measuring
hotel operating performance is revenue per available room, ("RevPAR"), which is
calculated by multiplying the percentage of occupied rooms by the average daily
room rate realized.
The Company's net franchise revenues were $26.9 million for the three months
ended March 31, 1998 and $26.0 million for the three months ended March 31,
1997.
Total net franchise revenues are computed as follows:
(In millions)
March 31, 1998 March 31, 1997
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Total Franchise revenues $ 55.6 $ 52.8
Less: Marketing and reservation fees (23.5) (20.4)
Product sales (5.2) (6.4)
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Total net franchise revenues $ 26.9 $ 26.0
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Royalties increased $2.5 million to $20.8 million in 1998 from $18.3 million in
1997, an increase of 13.7%. The increase in royalties is attributable to a net
increase of 232 franchisees during the period representing an additional 15,199
rooms added to the system, an improvement in domestic RevPAR of 4.1% and an
increase in the effective royalty rate of the domestic hotel system to 3.47%
from 3.42%. Initial fee and relicensing fee revenue generated from domestic
franchise contracts signed decreased to $3.4 million from $4.2 million in 1997.
Total franchise agreements signed in the first quarter of 1998 were 170, as
compared to 182 for the first quarter of 1997. The total number of hotels under
development, increased to 4,400 from 4,089 an increase of 7.6% for the period
ending March 31, 1998. This represents an increase in the number of rooms open
and under development of 6.5% from 350,065 as of March 31, 1997 to 372,933 as of
March 31, 1998.
Franchise Expenses
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The cost to operate the franchising business is reflected in selling, general
and administrative costs. Selling, general and administrative expenses remained
stable between years. As a percentage of total net franchising revenues, total
franchising selling, general and administrative expenses declined to 42.4% for
the first quarter of 1998 as compared to 43.1% for 1997. The improvement in the
franchising margins relates to the economies of scale generated from operating a
larger franchisee base, cost control initiatives and improvements in franchised
hotel performance.
Product Sales
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Sales made to franchisees through the Company's group purchasing program
decreased $1.2 million (or 18.8%) to $5.2 million for the three months ended
March 31, 1998 from $6.4 million at March 31, 1997 due to the elimination of
catalog sales. The group purchasing program utilizes bulk purchases to obtain
favorable pricing from third party vendors for franchisees ordering similar
products. The Company acts as a "clearing-house" between the franchisee and the
vendor, and orders are shipped directly to the franchisee.
Similarly, product cost of sales decreased $1.5 million (or 24.2%) for the three
months ended March 31, 1998. The product services margins increased for the
three months ended March 31, 1998 to 9.6% from 3.1% at March 31, 1997. This
purchasing program is provided to the franchisees as a service and is not
expected to be a major component of the Company's profitability.
Other
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For the three months ended March 31, 1998, the Company recognized approximately
$452,000 in dividend income from its investment in Friendly and approximately
$2.2 million of interest income from its subordinated term note to Sunburst
Hospitality, Inc. During the first quarter of 1998, the Company recognized
approximately $1.8 million from the sale of certain investments.
LIQUIDITY AND CAPITAL RESOURCES
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Net cash provided by operating activities was $8.7 million for the first quarter
of 1998, an increase of approximately $900,000 from $7.8 million for the first
quarter of 1997. The increase is attributable to the improvement in net income.
At March 31, 1998, the total long-term debt outstanding for the Company was
$274.5 million.
In May 1998, the Company consummated a $100 million senior unsecured note
offering (the "Notes"), bearing a coupon rate of 7.125%. The Notes will mature
on May 1, 2008, with interest on the Notes to be paid semi-annually. The Company
has used the net proceeds from the offering of approximately $99 million to
repay amounts outstanding under the Company's $300 million revolving credit
facility.
The Company believes that cash flow from operations and available financing
capacity is adequate to meet the expected operating, investing, financing and
debt service requirements for the business for the immediate future.
FORWARD-LOOKING STATEMENTS
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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 the nature and extent of future competition,
and political, economic and demographic developments in countries 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.
PART II OTHER INFORMATION
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ITEM 1. LEGAL PROCEEDINGS
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The Company is not party to any litigation, other than routine litigation
incidental to the business of the Company. 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 6. EXHIBITS AND REPORTS ON FORM 8-K
--------------------------------
(a) Exhibits
Exhibit 4.01 - Indenture dated April 1, 1998 between Choice Hotels
International, Inc. and Marine Midland Bank, as trustee.
Exhibit 4.02 - Registration Agreement dated April 28, 1998 between Choice
Hotels International, Inc. and Salomon Brothers Inc., Bear Stearns & Co.
Inc. and Lehman Brothers Inc.
Exhibit 10.1 - Employment Agreement dated April 13, 1998 between Choice
Hotels International, Inc. and Mark Wells.
Exhibit 10.2 - Employment Agreement dated April 29, 1998 between Choice
Hotels International, Inc. and Michael J. DeSantis.
Exhibit 27.01 - Financial Data Schedule - March 31, 1998
(b) The following reports were filed pertaining to the quarter ended March 31,
1998.
Form 8-K dated March 11, 1998 - Announcement of the adoption of a
Shareholders Rights Plan by the Company's Board of Directors.
Form 8-K dated March 30, 1998 - Presentation of each calendar quarter 1997
results and calendarized 1997 annual results.
Form 8-K/A dated April 28, 1998 - Revised presentation of each calendar
quarter 1997 results, calendarized 1997 and 1996 annual results.
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.
CHOICE HOTELS INTERNATIONAL, INC.
Date: May 15, 1998 /s/ Donald H. Dempsey
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By: Donald H. Dempsey
Executive Vice President &
Chief Financial Officer