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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
FOR ANNUAL AND TRANSITION REPORTS PURSUANT TO SECTION 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 FOR THE FISCAL YEAR ENDED
JANUARY 3, 1998
OR
[ ] TRANSITION PERIOD REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM TO
COMMISSION FILE NUMBER 1-14058
RED ROOF INNS, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 31-1393666
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(State incorporation) (I.R.S. Employer Identification No.)
4355 DAVIDSON ROAD 43026-2491
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (614) 876-3200
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
Name of each exchange
Title of each class on which registered
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COMMON STOCK, NEW YORK STOCK EXCHANGE
$.01 PAR VALUE
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
NONE
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Registration 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 this Form 10-K or any
amendments to this Form 10-K. [X]
NUMBER OF SHARES OF COMMON STOCK OUTSTANDING WAS 27,658,560 AT FEBRUARY 27,
1998.
BASED ON THE CLOSING SALES PRICE OF FEBRUARY 27, 1998, THE AGGREGATE MARKET
VALUE OF THE STOCK HELD BY NON-AFFILIATES OF THE REGISTRANT WAS $166,080,049
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the following documents are incorporated by reference into the
designated parts of this Form 10-K: definitive Proxy Statement, dated on or
about March 27, 1998 relating to Registrant's 1998 Annual Meeting of
Stockholders (in Part III), which Registrant intends to file not later than 120
days after the end of the fiscal year covered by this Form 10-K.
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Unless the context otherwise requires, the "Company," "Red Roof" or "Red Roof
Inns" refers to Red Roof Inns, Inc., a Delaware corporation and the surviving
corporation of the merger (the "Merger") in December 1993 with Red Roof Inns,
Inc., an Ohio corporation (the "Predecessor Company"), and includes the
Predecessor Company prior to the Merger and any subsidiaries of Red Roof Inns,
Inc. from time to time.
Unless otherwise indicated, inn data presented in this report is based on 223
inns (the "Comparable Inns") that the Company owned and operated at the
beginning of the 1997 fiscal year following four successive quarters as open,
operating, fully renovated or constructed properties based on a 52 week
comparison. Management believes that the remaining company operated inns
acquired or constructed (the "Inns in Stabilization") have not been operated by
the Company for a sufficient period to provide meaningful period-to-period
comparisons. Included in the Inns in Stabilization are acquired inns that
underwent renovation causing rooms to be out of service. Therefore, the average
daily room rates and occupancies for these inns are not comparable to stabilized
Red Roof inns. Both acquired and newly constructed inns historically begin with
lower occupancy and average daily room rates which should improve over time as
these inns implement the Company's operating policies and procedures and become
integrated into the Company's central reservation system.
Red Roof Inns operates in the economy chain scale segment ("economy chain
segment") of the lodging industry as defined by Smith Travel Research ("STR"), a
leading industry research firm. STR categorizes lodging properties into the
following chain scale segments based upon average daily rates: upper upscale,
upscale, mid-scale with food beverage, mid-scale without food and beverage,
economy and independents.
PART I
ITEM 1. BUSINESS
GENERAL
Red Roof Inns is the largest owner/operator of economy chain segment hotels in
the United States, with 259 inns (including 5 franchised inns) containing more
than 29,600 rooms (including 541 franchised rooms) in 35 states, located
primarily throughout the Midwest, East, South and Gulf Coast regions. Red Roof's
hotels are designed to attract both the business and leisure traveler seeking
room quality and inn locations that are generally comparable to those of
mid-price hotels, but at lower average room rates. By not providing
full-service, management-intensive facilities and services, such as in-house
restaurants or cocktail lounges, banquet centers, conference rooms, room
service, recreational facilities or other services and facilities that the
Company's targeted customers do not typically value, Red Roof is able to deliver
a product that addresses its customers' needs and price expectations. In
general, Red Roof's guests are evenly divided between business and leisure
travelers.
According to STR, Red Roof has one of the highest occupancy rates in the economy
chain segment of the lodging industry. The Company's Comparable Inns had an
average occupancy percentage of 71.0% and an average daily room rate ("ADR") of
$47.49 for 1997. Comparable Inn revenue per available room ("REVPAR") over the
past four years has grown at a compound annual rate of 2.9% to $33.72 for 1997.
In 1997, the Company's chainwide occupancy of 69.6% exceeded the economy chain
segment average occupancy of 58.1% by 11.5 percentage points and chainwide
REVPAR of $33.39 was 32.4% higher than the economy chain segment average of
$25.21.
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The following table sets forth certain data for the Company's Comparable Inns
for the years indicated:
Number Average
of Inns Occupancy (1) ADR (2) REVPAR (3)
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Fiscal Year
1993 210 79.6% $37.80 $30.09
1994 210 79.1 40.12 31.73
1995 210 77.3 42.71 33.01
1996 223 74.2 44.98 33.38
1997 223 71.0 47.49 33.72
1993-97 Compound Annual Growth Rate (2.8)% 5.9% 2.9%
(1) Average occupancy percentage represents total rooms occupied divided by
total available rooms. Total available rooms represents the number of rooms
available multiplied by the number of days in the reporting period.
(2) ADR represents total room revenues (before allowances) divided by the total
number of rooms occupied.
(3) REVPAR represents the average occupancy percentage multiplied by the average
daily room rate for the reporting period.
In 1997, the Company's Comparable Inns REVPAR increased by 1.0% over 1996 due to
a 5.6% increase in ADR and a 3.2 percentage point decline in the average
occupancy percentage. The Company's ADR remained lower than the average for the
economy chain segment overall in 1997, which provides the Company with the
flexibility to increase rates, as appropriate. In addition, for the four year
period from 1993 through 1997, the Company increased operating income at a
compound annual growth rate of 7.2% (10.1%, excluding special charges). These
increases in operating income were achieved by increasing REVPAR and controlling
costs.
Red Roof Inns is a price value leader in the economy chain segment and operates
under the philosophy of offering inn locations and room quality comparable to
many mid-priced hotels but at substantially lower room rates. Management
believes that the customers' perception of value is dependent on three
components: price, location and consistent quality. Guests who travel in the
economy chain segment do so to save money. Red Roof Inns is able to maintain its
low prices as a result of a consistent company-wide emphasis on cost control.
Red Roof's inns are generally located near interstate highways, major traffic
arteries or major destination areas such as airports, business districts,
universities, hospitals or convention centers. All locations are
well-constructed and maintained and are attractively landscaped to enhance their
appearance. In addition, the Company strives to deliver a consistent guest
experience throughout the chain by following a chainwide set of operating,
marketing and hospitality standards. The Company's success in providing customer
value is demonstrated by its consistently high occupancy levels compared to the
average for the economy chain segment.
The Company believes that it has achieved significant brand awareness as a
result of its ability to provide high-quality, well-located accommodations and
superior value, together with its national advertising campaign featuring
actor/comedian Martin Mull. This brand awareness and reputation for price,
quality and value have consistently placed Red Roof Inns among the leaders in
the economy chain segment in terms of occupancy, rates and REVPAR, according to
STR. In addition, the brand name has earned the Company a strong following of
loyal guests. In 1997, Red Roof ranked second among economy segment chains for
repeat guests based upon survey results from a national travel market research
firm. Management believes that the Company's brand identity provides it with a
significant advantage over independent hotel operators and other economy segment
chains. Together with its operational expertise, this enhances the performance
of existing and newly constructed and acquired properties. Management is
expanding the chain on a national basis through franchising and hotel
development.
The Company promotes and operates its own reservation center and toll-free
number (1-800-THE-ROOF) to accept reservations. During 1997, the Company handled
approximately 2.7 million calls through the toll-free number, of which
approximately 41% were converted to reservations, contributing to the Company's
high level of occupancy. Management believes that its leadership in occupancy
provides it with increased flexibility to set room pricing under various
economic conditions.
The Company has operated its hotels since its first hotel opened in 1973. Red
Roof's management has substantial experience in the lodging industry. On
average, senior management has approximately 18 years experience in the lodging
industry and is supported by operational and administrative vice presidents with
an average of 16 years experience and on-site general managers with an average
of
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seven years experience. Each Red Roof inn is operated as an individual profit
center by a general manager who oversees all day-to-day operating activities and
implements rate, occupancy and cost containment strategies. Management believes
this structure reduces operating costs while creating incentives to maximize
REVPAR and enhance operating margins by adapting room rates to prevailing market
conditions at individual inns.
STRATEGY
The Company's strategy is to increase cash flow and earnings by (i) increasing
REVPAR while controlling costs, (ii) becoming more fee intensive through
franchising and partner programs and (iii) increasing the number of inns the
Company owns and operates through selective new construction and acquisitions.
INCREASE REVPAR. The Company intends to increase cash flow and earnings through
REVPAR increases, primarily by moderate increases in ADR and maintaining or
increasing the Company's strong occupancy levels. The Company believes that
increases in REVPAR will be achieved as a result of its chainwide inn renewal
program ("Project BIG RED"), which was substantially completed in 1997, and
through the implementation of an automated revenue management system as
described below. The Company also believes that it will be able to increase
REVPAR by stimulating room demand through effective advertising and promotion
programs.
- PROJECT BIG RED -- In the fourth quarter of 1996, the Company
commenced Project BIG RED, a chainwide property renewal program
that refurbished and enhanced both the interior decor and exterior
appearance of approximately 85% of the Company's inns as well as
provided additional room amenities and services for guests. The
property renewal program was substantially completed during the
fourth quarter of 1997. Project BIG RED gave the rooms a more
modern, residential feel with new carpet, wallcovering, furniture,
bedspreads and drapes. A brighter paint shade, new signs, improved
lighting and additional landscaping enhanced the exterior appeal of
the inns and highlighted the properties for approaching travelers.
The program also provided additional amenities to all rooms, which
management believes will reinforce Red Roof Inns' position as a
price value leader in the economy chain segment. The program added
features to the Company's business king rooms that better address
the needs of the business traveler. Management believes that
Project BIG RED will reinforce with the customer the Company's
commitment to providing high value and service at reasonable
prices, further strengthen the Company's competitive position
versus its economy chain segment competitors and enhance revenues
by allowing the Company to increase ADR and REVPAR.
The Company recently decided to expand the program to refurbish the
remaining 15% of the Company's inns and replace all remaining
furniture that does not meet current decor standards. This program
commenced in the fourth quarter of 1997 and is expected to be
completed in the second quarter of 1998. The total cost for Project
BIG RED, including the program expansion, is expected to
approximate $68 million. The Company recognized total charges to
earnings of $24.5 million related to early asset retirements and
other charges associated with Project BIG RED. The Company
recognized $10.4 million of these charges ($7.8 million related to
early asset retirements) in the fourth quarter of 1996 and $14.1
million ($2.4 million related to early asset retirements)
throughout 1997. See "Item 8. Financial Statements and
Supplementary Data -- Note 10 to the Consolidated Financial
Statements."
- REVENUE MANAGEMENT SYSTEM -- In 1996, the Company contracted with
Aeronomics, Inc., a leader in automated yield management systems
for the hotel and airline industries, to develop and implement a
fully automated revenue management system. The system is linked to
both the central reservation system and the individual property
management system, providing real-time information. The system is
essentially an inventory control system that will enable the
Company to better manage both occupancy and rate by analyzing
historical data, trends and current reservation activity to
forecast future trends. Inn managers will use the system to foresee
peak occupancy days and predict cancellations, no-shows, stay-overs
and walk-in traffic which will enable them to adjust room rates and
better manage both lengths of stay and discount business.
Management expects the revenue management system to be fully
implemented in the second quarter of 1998. Based upon an analysis
completed by Aeronomics, Inc., management believes that
implementation of the automated yield management system has the
potential to increase revenues one to four percent.
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FEE BASED INCOME. The Company intends to increase cash flow and earnings through
the development of fee based income. By becoming more fee intensive, the Company
expects to increase the stability of its revenue and income streams, become less
vulnerable to changing conditions in the lodging industry or changes in factors
which directly influence the operation of its inns and utilize less of its
capital. The Company believes that it will generate fee based income from both
its franchising programs and its partner marketing programs.
- FRANCHISING -- In the fall of 1996, the Company began a program
to offer Red Roof franchises to qualified franchisees. The
franchising program is focused on developing relationships with
experienced, high quality hotel owners who will develop new Red
Roof inns and/or convert existing hotels to the Red Roof name. The
Company believes that this strategy will allow it to continue to
expand the Red Roof brand nationally without requiring significant
investment and increase revenues and cash flow while maintaining
consistent quality across the entire chain. Franchise applicants
are evaluated on hotel operating expertise and financial stability.
Franchise conversion properties and developed hotel construction
plans are reviewed for adherence to Company standards. In addition,
the Company reviews the competitive market environment of each
proposed franchised hotel. Approved applicants are granted the
right to use the Red Roof Inn name, obtain reservations through the
Company's central reservation system and use the Company's inn
designs, operating systems and procedures. In return for this
right, the franchisees pay an initial fee and ongoing royalty,
marketing and reservation fees to the Company. These ongoing fees
are based on a percentage of gross room revenues at the franchised
properties. The total amount of fees collected by the Company will
vary depending on the total revenues generated by all of its
franchisees. The Company's franchise fee structure contains a
unique provision that allows a franchisee to earn a discount to the
royalty fee by achieving high levels of customer satisfaction, as
measured by an independent survey conducted by a market research
firm. The Company believes that this provision provides it with a
competitive advantage in attracting high quality franchisees. The
Company also believes that its franchises are attractive because of
its superior occupancy, attractive operating margins, newly
designed buildings with interior corridors and high percentage of
rentable space, significant open territories in the Red Roof Inns
system, consistency of the Company's product and service, and the
development, operational, reservations and marketing support
provided by the Company's experience as an owner/operator.
The Company believes its franchise strategy will enable it to
penetrate major and secondary markets nationwide without requiring
a significant capital investment. The franchise program should
enable the Company to increase its revenues, cash flow and earnings
while maintaining its consistent quality across the entire chain.
As of January 3, 1998, the Company had five franchised inns open,
six franchised inns under construction or conversion and projected
to open in 1998 and 11 additional executed franchise agreements.
- PARTNERSHIP MARKETING -- In 1997, the Company initiated a
partnership marketing program through which the Company formed
alliances with other well-known consumer product and service
companies in order to offer its guests additional value-added
services. The Company actively promotes its partners' products or
services either at the inns or through the central reservation
center in exchange for fees from the partner companies. The Company
believes that its strong following of loyal guests and reputation
for value, quality and service make it an attractive partner and
allow it to create alliances with high quality companies that will
further enhance the attractiveness of Red Roof Inns to its guests.
Management believes that this strategy generates increased revenue
and cash flow while providing additional value-added services to
the Company's guests.
HOTEL DEVELOPMENT. The Company continues to expand through both the construction
of new inns and the acquisition of existing inns in key markets. The Company
evaluates expansion opportunities within existing markets, as well as selected
regions of the country where the Company has not historically had a substantial
presence. The Company's current development and acquisition strategy is focused
on locating a select number of high visibility properties in key strategic
locations, such as in central business districts of major cities or near major
airports. In addition to the foregoing, the Company may consider, under
appropriate circumstances, the acquisition of local or regional chains. The
Company believes that it has a strong corporate infrastructure to accommodate
significant inn expansion, including an experienced development, acquisition and
finance team, an effective central reservation system, a well-developed property
management system and an extensive management training program.
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In 1996, the Company introduced a new building design featuring all interior
corridors, regionally based decor packages and new bathroom designs. This new
building design offers approximately 77% rentable space.
Since the Merger, the Company has purchased 29 development sites (three under
long term lease agreements) located in Arizona, Florida, Georgia, New York,
North Carolina, Ohio, Tennessee and Texas. The Company estimates that ultimately
it will construct a total of approximately 3,933 rooms on these development
sites. A total of 17 developed inns consisting of 2,253 rooms were open as of
January 3, 1998.
As the Company pursues its development strategy, acquisitions of existing inns
will be targeted in those markets where there are no suitable development sites
that meet the Company's stringent standards for location, visibility,
accessibility, performance and cost. Since the Merger, the Company has acquired
28 inns (one under a long term lease agreement) consisting of 3,800 rooms (after
conversion and room additions) located in Alabama, Arizona, California,
Colorado, Connecticut, Florida, Maryland, Massachusetts, Mississippi, New
Jersey, North Carolina, South Carolina, Texas, Virginia and Washington, D.C. A
total of 27 acquired inns with 3,498 rooms were open as of January 3, 1998.
Certain of the acquired inns differ from the Company's existing inns in terms of
construction, number of rooms, room size, building configuration, signage and
decor and in other respects. See "Item 2. Properties." Each acquired inn
receives Red Roof signage, installation of computer hardware to accommodate
electronic processing of reservations and the transmission of financial and
other data to the corporate offices in suburban Columbus, Ohio, as well as lobby
modifications designed to support operational practices and procedures. In
addition, the Company makes capital improvements, where needed, to guest rooms
and guest-sensitive areas to ensure that each acquired property adheres to Red
Roof's stringent operating standards. See "Item 7. Management's Discussion and
Analysis of Results of Operations and Financial Condition -- Capital Resources
and Liquidity -- Capital Expenditures." Although acquired properties, after
conversion, differ in certain respects from existing inns, the renovated
properties offer quality accommodations and service consistent with Red Roof's
brand name identity.
In evaluating expansion opportunities, the Company generally reviews the
competitive environment of the market, including room supply, room demand,
average daily room rates and local market wages. The Company also evaluates
demand generators such as area businesses, conference centers, airports,
universities, hospitals, theme parks, and other business and leisure
attractions. Each potential development site and inn acquisition is evaluated
for accessibility, visibility and restrictive local ordinances. In addition, the
Company's evaluation of a potential inn acquisition includes an extensive review
of its historical operating and financial results and the estimated cost of
converting the facility to Red Roof's standards of quality. Each anticipated
development site and inn acquisition also must have the potential to meet a
stipulated minimum return based on the Company's investment criteria.
LODGING INDUSTRY
The lodging industry as a whole is continuing to experience favorable operating
conditions. Though the rate of growth in supply of hotel rooms is currently
exceeding the rate of growth in demand, ADR and REVPAR have continued to
increase. The economy chain segment, where the Company operates, has experienced
a greater rate of supply growth than the industry as a whole. As a result,
occupancy levels for the segment have been declining. However, the segment has
continued to increase rate and has achieved moderate increases in REVPAR. Red
Roof Inns has one of the highest occupancy levels in the economy chain segment
and has consistently outperformed the segment in REVPAR.
COMPETITION
Small chains and independent hotels represent approximately one third of the
supply of rooms in the hotel industry. Direct competitors of Red Roof include
national chains which operate in the economy segment, as defined by STR, such as
Super 8 Motels, Motel 6, and Days Inns and regional chains such as Budgetel and
Susse Chalet. In certain locations, the Company's inns also compete with
mid-scale properties, such as Comfort Inns, Fairfield Inns, Holiday Inn Express,
LaQuinta Inns and Hampton Inns. There is no single competitor or group of
competitors of Red Roof that is dominant in the lodging industry. However, some
of Red Roof's competitors have a larger network of locations and greater
resources than Red Roof.
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Each Red Roof inn competes in its market area on the basis of price, location
and quality with major national lodging chains, regional brands and privately
owned hotels. The Company is firmly established in most of its markets and many
of its inns are in locations superior to those available for development today.
Red Roof's inns are consistently well maintained, attractively landscaped and
competitively priced to appeal to both business and leisure travelers.
OPERATIONS
The Company's hotels are managed from its corporate office in suburban Columbus,
Ohio. Centralized corporate functions include marketing, sales, reservations,
treasury, accounting, financial reporting, information systems, purchasing,
repairs and maintenance, legal, human resources and managerial training. The
corporate staff monitors inn-level consistency with standards for guest service
through a guest satisfaction survey program, which is conducted by an
independent market research company, and its corporate office customer service
department. The corporate staff also monitors standards for maintenance and
appearance through an experienced design and construction staff.
Each Company owned inn is operated as an individual profit center, with a
general manager who oversees all day-to-day operating activities. Red Roof's
managers devote their attention to assuring friendly guest service and clean,
well-maintained rooms, consistent with chainwide standards. Their
responsibilities also include recruiting, training and supervising the inn's
staff. A typical inn has approximately 20 employees, including the general
manager, housekeepers, laundry attendants, skilled and general maintenance
persons and front desk guest services representatives, including a night
auditor. Each general manager reports to one of 16 district operations vice
presidents, who in turn report to senior management.
Red Roof's general managers receive a four week training program that emphasizes
operations, hospitality, rate management, legal issues, interviewing, employee
relations, training and budgeting prior to assuming responsibility at an inn.
The Company has managers who assist the general managers at certain inns,
providing a pool of experienced candidates to fill its needs for general
managers.
The Company uses target-driven operational budgets prepared by the general
managers that are implemented after review with senior management. Rates charged
by Red Roof are continually reviewed by the inn managers, rate analysts and
operations vice presidents so that they can be appropriately adapted to the
prevailing market conditions at each inn. In addition, implementation of the
fully automated revenue management system will enable inn managers to monitor
rates in relation to peak demand periods. Each general manager can earn
financial incentives based upon achieving favorable results in comparison to the
revenue and profit budgets along with guest satisfaction surveys for their
respective property. Management believes this incentive program increases the
general manager's focus on operating efficient, well maintained, profitable
hotels.
Each inn has property management software and hardware which is used for the
exchange of daily reservations, room rate changes, occupancy, payroll, credit
card authorizations and other financial data with the corporate office.
Management believes that this system has enhanced its ability to monitor and
maximize revenues and profitability of the inns. Data is transmitted to and from
the corporate office using the Company's computer network, which allows for high
capacity data communications volume and real-time information.
SALES AND MARKETING
In general, Red Roof's guests are evenly divided between leisure travelers and
business travelers. Leisure travelers served by the Company are typically en
route by car to another destination or attending a nearby special event or
attraction. The Company also serves business travelers, many of whom travel on a
per diem or pay their own expenses. Leisure demand is highest on Friday and
Saturday nights with business demand highest on Monday through Thursday nights.
Red Roof's national advertising campaigns, featuring actor/comedian Martin Mull,
emphasize the consistency and value associated with its inns. The Company
markets through national and local market cable and network television, radio,
newspapers, other print media and its own Web site. The Company focuses its
television and radio advertising on specific programs, during certain months of
the year and times of the day for maximum impact. In addition, the Company
utilizes billboard advertisements located along interstate highways near many of
its inns.
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The Company utilizes its own central reservation center and toll-free number
(1-800-THE-ROOF) to accept reservations. During 1997, the reservation center
handled approximately 2.7 million calls through the toll-free number, of which
approximately 41% were converted to reservations. The reservation system
provides reservation agents with information about inn locations, available
rooms and prices in order to assist customers in reserving rooms. The agents are
trained in telephone sales and cross-selling techniques. Through its computer
network, the Company continually updates the number of rooms sold at a property,
permitting the sale of all available rooms through either the inn or the
reservation center. The Company has special reservation agents for large group
sales, motor coach sales and special event bookings. Management estimates that
approximately three-fourths of room sales are to customers who have made a
reservation through the central reservation center or by calling an inn
directly.
The Company offers a number of marketing programs aimed at creating customer
loyalty. The Company promotes a "RediCard" program which provides its members
with express reservation and check-in. Additional amenities include a USA Today
newspaper delivered to the member's room, personal check cashing, pay-by-check
privileges and a newsletter offering various discounts and coupons. The RediCard
programs improve the administrative efficiency of the reservation agents and
front desk staff by providing a personal profile of the member. This includes
information such as room type preference, smoking or non-smoking rooms and
preferred method of payment. The Company currently has more than 416,000 active
RediCard members. In addition, the Company seeks to ally itself with national
travel and consumer organizations, such as AAA, to offer special rates or
promotions to the organizations customers including discounted rates to senior
citizens.
The Company's corporate sales group increases room sales through the inclusion
of Red Roof's inns in approved or preferred lodging lists of corporate travel
managers and travel agencies on a national basis. The Company increased the
number of regional sales representatives from eight in 1996 to 17 in 1997 and
has hired six additional sales representatives subsequent to year end. The sales
representatives conduct sales programs to develop local corporate contacts and
encourage local companies to utilize the inns. These sales efforts include
developing brand loyalty through programs such as RediCard and Volume Plan Plus,
a plan which provides for negotiated rates based on the volume of room nights
per year that a company can offer Red Roof.
The Company is developing a database management system to track its guests
spending habits and travel patterns. This system, coupled with other corporate
programs, will enable the Company to effectively market its product toward its
frequent guests. In addition, the system will identify potential guests for
under utilized markets and hotels, identify frequent guests by market area for
new inns and franchisees and enhance its guest loyalty program. Management
anticipates the program to be fully implemented in the third quarter of 1998 and
believes the program will increase guest loyalty, retention and repeat business
resulting in increased market share.
ENVIRONMENTAL CONSIDERATIONS
A limited number of the Company's properties contained underground storage tanks
that were used to store petroleum products prior to the purchase of such
properties by the Company. The Company removed those tanks prior to construction
of its inns on those properties. In addition, five Red Roof properties currently
contain underground or above-ground storage tanks that are used to store propane
for use at those properties. A substantial number of the Red Roof properties are
also adjacent to or near properties (mostly service stations, but including some
landfills and industrial operations) that contain or have contained storage
tanks or that have engaged or may in the future engage in activities that may
release petroleum products or other hazardous or toxic substances into the soil
or groundwater.
Most of the Company's properties have not been tested for the presence of
hazardous substances. The Company is aware of three Red Roof properties that
were developed with the use of landfill that has been found to contain hazardous
substances. With respect to two of these properties, the Company has determined
that no notification or remediation is required under current laws and
regulations. With respect to the third of these properties, in exchange for the
Company retaining certain institutional controls, state regulatory authorities
have issued a "No Further Action" letter.
Based on its present knowledge and currently applicable laws and regulations,
the Company does not believe that environmental matters are likely to have a
material adverse effect on the Company's business, assets, financial condition,
or results of operations. However, due to the absence of complete information,
possible future changes in laws and regulations, and other factors, no assurance
can be given that environmental matters will not ultimately have a material
adverse impact on the Company's business, assets, financial condition or results
of operations.
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EMPLOYEES
As of January 3, 1998, Red Roof employed approximately 5,800 persons, of whom
approximately 90% are compensated on an hourly basis. Approximately 420 of these
employees work at the corporate headquarters, of which approximately 115 are
employed at the Company's reservation center. The Company's employees are not
currently represented by labor unions and the Company has never experienced any
organized work stoppage. Management believes that its ongoing labor relations
are good.
SERVICEMARKS
Red Roof Inns, Red Roof, RediCard, Hit the Roof, Sleep Cheap and various other
marks are registered servicemarks of the Company, which the Company considers
important to its business. The Company monitors use of similar names and takes
appropriate action when possible infringements occur.
ITEM 2. PROPERTIES
The Company believes that it has frequently benefited from identification and
development of attractive locations in local markets prior to many of its
competitors. In addition, since Red Roof was one of the first economy segment
chains, the Company is firmly established in many of its markets.
Red Roof adheres to rigorous standards in building and maintaining each inn.
Management believes that its high-quality construction standards are superior to
that of many of its competitors.
A Red Roof inn contains on average approximately 115 rooms. In addition to
standard rooms, each inn has rooms equipped for the handicapped and has
"business king" rooms containing a king-sized bed, a recliner, a desk and
computer tie-in services. Each inn features a choice of rooms for non-smokers
and smokers, free unlimited local telephone calls, remote-control television
with CNN, ESPN and Showtime, pay-per-view movies and video games, free coffee
and USA Today newspapers in the lobby, 24-hour front desk and message service,
direct corporate billing and free parking. Many of the Company's inns are
adjacent to free-standing restaurants affiliated with restaurant chains such as
Bob Evans, Shoney's and Cracker Barrel that provide food service to Red Roof's
guests.
To maintain the overall quality of the Company's existing inns, each inn
undergoes periodic renovations and capital improvements as required. These
renovations are completed in accordance with established maintenance programs
that list specific tasks to be completed, including such items as seasonal
landscaping and inspection of the condition of sidewalks, parking areas and
signage. In 1995, 1996 and 1997, the Company spent approximately $14.5 million,
$17.1 million and $6.9 million (exclusive of BIG RED expenditures),
respectively, on capital improvements to existing inns. Capital improvements to
existing inns in 1997 were low in relation to historical spending because of the
chainwide property renewal program (Project BIG RED) conducted throughout 1997.
In the fourth quarter of 1996, the Company commenced Project BIG RED, a
chainwide property renewal program that refurbished and enhanced both the
interior decor and exterior appearance of approximately 85% of the Company's
inns as well as provided additional room amenities and services for guests. The
property renewal program was substantially completed in the fourth quarter of
1997. Project BIG RED gave the rooms a more modern, residential feel with new
carpet, wallcovering, furniture, bedspreads and drapes. A brighter paint shade,
new signs, improved lighting and additional landscaping enhanced the exterior
appeal of the inns and highlighted the properties for approaching travelers. The
program also provided additional amenities to all rooms, which management
believes will reinforce Red Roof Inns' position as a price value leader in the
economy chain segment. The program added features to the Company's business king
rooms that better address the needs of the business traveler. Management
believes that Project BIG RED will reinforce with the customer the Company's
commitment to providing high value and service at reasonable prices, further
strengthen the Company's competitive position versus its economy chain segment
competitors and enhance revenues by allowing the Company to increase ADR and
REVPAR.
The Company recently decided to expand the program to refurbish the remaining
15% of the Company's inns and replace all remaining furniture that does not meet
current decor standards. This program commenced in the fourth quarter of 1997
and is expected to be
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completed in the second quarter of 1998. The total cost for Project BIG RED,
including the program expansion, is expected to approximate $68 million. The
Company recognized total charges to earnings of $24.5 million related to early
asset retirements and other charges associated with Project BIG RED. The Company
recognized $10.4 million of the charges ($7.8 million related to early asset
retirements) during the fourth quarter of 1996 and $14.1 million ($2.4 million
related to early asset retirements) throughout 1997. See "Item 8. Financial
Statements and Supplementary Data -- Note 10 to the Consolidated Financial
Statements."
In 1996, the Company introduced a new building design featuring all interior
corridors, regionally based decor packages and new bathroom designs. This new
building design offers approximately 77% rentable space.
Since the Merger, the Company has purchased 29 development sites (three under
long term lease agreements) in the following locations: Texas -- San Antonio
(3), Houston (3), El Paso (2), Laredo, Austin, Plano and DeSoto;
Arizona -- Phoenix (3), Tempe and Tucson; Florida -- West Palm Beach,
Gainesville and Jacksonville; Georgia -- Atlanta and Macon; Ohio -- Columbus and
Youngstown; North Carolina -- Rocky Mount and Raleigh; Tennessee -- Jackson and
Nashville; and New York -- Long Island. These inns will have a total of
approximately 3,933 rooms when fully developed. A total of 17 developed inns
consisting of 2,253 rooms were open as of January 3, 1998.
As part of its expansion strategy, the Company has acquired, and will continue
to acquire, existing inn properties which may differ from inns built by the
Company in terms of construction, number of rooms, room size, building
configuration, signage, decor and other respects. After acquisition and
conversion by the Company, acquired inns are consistent with the Company's
enhanced quality and other standards. See "Item 1 -- Business -- Hotel
Development."
Since the Merger, the Company acquired 28 hotels (one under a long term lease
agreement) in the following locations: Alabama -- Gadsden; Arizona -- Tucson;
California -- Anaheim, Ontario, Santa Ana, San Dimas, San Francisco and
Victorville; Colorado -- Colorado Springs; Connecticut -- Hartford;
Florida -- Naples, Ft. Lauderdale and Miami; Maryland -- Rockville;
Massachusetts -- Woburn; Mississippi -- Tupelo; New Jersey -- Tinton Falls;
North Carolina -- Greenville and Cary; South Carolina -- Charleston and Myrtle
Beach; Texas -- Austin, Corpus Christie, Dallas and Houston (2);
Virginia -- Charlottesville and Washington, D.C. These inns will have a total of
3,800 rooms after conversion and room additions. A total of 27 inns with 3,498
rooms were open at January 3, 1998.
For information with respect to planned expenditures in connection with newly
developed and acquired properties, see "Item 7. Management's Discussion and
Analysis of Results of Operations and Financial Condition -- Capital Resources
and Liquidity -- Capital Expenditures."
At January 3, 1998, the Company had a total of 259 inns open and operating
(including 5 franchised inns) in 35 states primarily throughout the Midwest,
East, South and Gulf Coast regions of the United States, with concentrations in
Ohio (29), Michigan (20), Texas (21), Pennsylvania (15), North Carolina (15),
Florida (14) and Illinois (13).
At five company owned Red Roof properties, the Company leases both the land and
the buildings. At two of these four properties (the Harrisburg-North,
Pennsylvania and Parkersburg, West Virginia inns), the landlord in each case is
a partnership in which the Company owns or controls a substantial majority of
the partnership interests. At the Parkersburg, West Virginia property, the lease
expires in 2001 and the Company does not have an option to extend the lease or
purchase the property. At the Harrisburg, Pennsylvania property, the Company
subleases the property from the partnership which leases the property from the
Dauphin County Industrial Development Authority. The Harrisburg lease expires in
2004 and the partnership has the option to purchase the property at any time
during or within 90 days of the expiration of the term of the lease, for an
amount equal to $100,000 above the balance then due on the industrial revenue
bonds issued to finance the development of the property. The Company does not
have an option to extend the lease or purchase the Harrisburg property. At the
third property, located in Charleston, West Virginia, the lease expires in 2016
(including the exercise of all renewals) and the Company does not have an option
to extend the lease or purchase the property. At the fourth property, located in
Colorado Springs, Colorado, the lease expires in 2015 (including the exercise of
all renewals) and the Company has an option to purchase the property at fair
market value. At the fifth property located in Columbus, Ohio, the lease expires
in 2027 (including the exercise of all renewals) and the Company does not have
an option to purchase the property.
Ten company owned Red Roof properties are subject to ground leases. All ground
leases have remaining terms including renewal options aggregating longer than 24
years.
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The remainder of the Company's inns are 100% owned in fee by the Company. As of
January 3, 1998, 94 inns were encumbered by mortgage loans or industrial revenue
bonds maturing in various years from 1998 to 2009. In addition, the Company has
a $250 million bank credit facility (the "Bank Credit Facility") which is
secured by 80 inns. See "Item 8. Financial Statements and Supplementary Data --
Note 4 to the Consolidated Financial Statements."
The Company owns its corporate office building located in suburban Columbus,
Ohio. It is encumbered by a mortgage loan maturing in 2009.
The Company believes that it maintains adequate aggregate insurance coverage on
its properties, subject to appropriate deductibles. The Company uses a
retrospective self-insurance plan for general liability and workers compensation
insurance. See "Item 8. Financial Statements and Supplementary Data -- Note 1 to
the Consolidated Financial Statements."
ITEM 3. LEGAL PROCEEDINGS
The Company is involved in various lawsuits arising in the normal course of
business. The Company believes that the ultimate outcome of these lawsuits will
not have a material adverse effect on the Company's business, assets, financial
condition or results of operations.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
During the fourth quarter of the fiscal year ended January 3, 1998, no matter
was submitted to a vote of the Company's security holders through the
solicitation of proxies or otherwise.
PART II
ITEM 5. MARKET FOR THE COMPANY'S COMMON STOCK
AND RELATED SECURITY HOLDER MATTERS
On January 31, 1996, the Company issued 10,000,000 shares of common stock, $.01
par value, in an initial public offering (the "Offering") at a price of $16 per
share. See "Item 8. Financial Statements and Supplementary Data -- Note 6 to the
Consolidated Financial Statements." The Company's common stock began trading on
the New York Stock Exchange (the "NYSE") on February 1, 1996. As of February 27,
1998, there was approximately 206 holders of record of the Company's common
stock and the closing sales price per share as reported by the NYSE was
$17-15/16. The following table presents the quarterly high and low sales prices
of the Company's common stock during 1997 and 1996 as reported by the NYSE.
1997 High Low
---- ---- ---
First quarter 18-3/4 14-1/4
Second quarter 17-3/4 14-7/8
Third quarter 19-1/2 16-3/8
Fourth quarter 19-1/4 14-11/16
1996 High Low
--------------- ---- ---
First quarter 17-5/8 12-5/8
Second quarter 15-3/8 13-1/2
Third quarter 14-3/8 12-3/8
Fourth quarter 17-1/4 13-1/4
Subsequent to the Merger, the Company has not paid any dividends on its common
stock. It is the general policy of the Company to retain its earnings to support
the growth of its business. Any dividends declared will be at the discretion of
the Board of Directors and will depend upon the Company's financial condition,
earnings and other factors. The Merger was consummated concurrently with the
initial offering of the Company's 9-5/8% Senior Unsecured Notes due 2003 (the
"Notes") in a private placement. The Indenture pursuant to which the Notes were
issued, the Company's Bank Credit Facility and an agreement relating to certain
of the Company's mortgage indebtedness contain restrictions or limitations upon
the payment of dividends by the Company. See "Item 8. Financial Statements and
Supplementary Data -- Notes 4 and 5 to the Consolidated Financial Statements."
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ITEM 6. SELECTED FINANCIAL DATA
The following selected financial data (excluding Comparable Inn statistics)
relating to the Company have been taken or derived from the historical financial
statements of the Company and are qualified in their entirety by reference to
such financial statements and notes. See "Item 8. Financial Statements and
Supplementary Data." The financial data as of December 17, 1993 and for the 50
weeks of 1993 have been derived from audited financial statements of the
Predecessor Company which are not included in this report. The financial data as
of January 1, 1994, December 31, 1994, December 30, 1995, for the two weeks of
1993 and for the fiscal year 1994 have been derived from audited financial
statements of the Company which are not included in this report.
Fiscal Years (1)
---------------------------------------------------------------------------------
(50 Weeks) (2 Weeks) (53 Weeks)
1993 1993 1994 1995 1996 1997
---------- --------- --------- --------- --------- ----------
(in thousands except per share data and Comparable Inn statistics)
STATEMENT OF OPERATIONS DATA
Revenues $ 246,841 $ 8,467 $ 269,306 $ 291,445 $ 317,437 $ 351,175
Direct room, corporate and marketing
expenses 156,725 5,465 166,179 179,844 197,771 213,378
Depreciation and amortization 21,653 1,060 23,874 26,892 28,230 34,335
Special charges (2) 3,814 3,142 10,848 15,487
--------- --------- --------- --------- --------- ---------
Operating income 64,649(3) 1,942 79,253 81,567(4) 80,588(5) 87,975(6)
Interest expense 41,701 2,788 52,174 51,260 41,777 46,205
Income (loss) before income taxes and
extraordinary 23,894(3) (785) 28,100 30,838(4) 39,676(5) 42,723(6)
Income taxes (credit) (7) (314) 11,240 12,516 15,612 16,619
Income (loss) before extraordinary item
(7) 23,894(3) (471) 16,860 18,322(4) 24,064(5) 26,104(6)
Net income (loss) 23,894(3) (471) 16,860 18,322(4) 24,064(5) 25,358(6)
Income (loss) per share before
extraordinary item:
Basic (0.03) 0.92(8) 1.00(4)(8) 0.88(5) 0.93(6)
Diluted (0.03) 0.92(8) 0.99(4)(8) 0.87(5) 0.93(6)
Net income (loss) per share:
Basic (0.03) 0.92(8) 1.00(4)(8) 0.88(5) 0.91(6)
Diluted (0.03) 0.92(8) 0.99(4)(8) 0.87(5) 0.90(6)
Shares used in per share calculation:
Basic 18,400 18,400 18,400 27,362 27,982
Diluted 18,400 18,400 18,521 27,549 28,167
BALANCE SHEET DATA
Total assets $ 482,620 $ 674,141 $ 687,023 $ 755,348 $ 867,627 $ 954,758
Current maturities of debt 33,957 14,921 15,996 11,951 12,020 11,998
Long-term debt, excluding current
maturities 393,165 522,374 510,646 544,871 484,158 539,207
Stockholders' equity 21,381 99,529(9) 116,389(9) 152,711(9) 319,099(9) 338,736(9)
OTHER DATA
Cash flow from operations $ 42,413(3) $ 699 $ 44,824 $ 47,785(4) $ 60,548(5) $ 79,176(6)
Net cash used by investing activities (12,577) (182,288) (49,571) (87,414) (126,558) (131,265)
Net cash provided (used) by financing
activities (68,117) 196,660 (8,286) 42,018 81,242 45,584
EBITDA (10) 87,248(3) 3,063 104,148 108,990(4) 117,980(5) 125,650(6)
EBITDA as a percentage of revenues (10) 35.3%(3) 36.2% 38.7% 37.4%(4) 37.2%(5) 35.8%(6)
Ratio of earnings to fixed charges (11) 1.5x (785)(12) 1.5x 1.5x 1.8x 1.8x
Capital expenditures:
Development, acquisitions and related
improvements (13) $ 31,677 $ 74,193 $ 101,494 $ 85,631
Other $ 11,518 $ 108 13,399 15,194 26,076 45,604
COMPARABLE INN STATISTICS
Inns open (at end of period) 210 210 210 210 223 223
Available rooms (at end of period) 23,431 23,431 23,417 23,397 24,958 24,952
Room nights occupied (in thousands) 6,562 232 6,740 6,587 6,732 6,448
Average occupancy percentage (14) 80.5% 61.8% 79.1% 77.3% 74.2% 71.0%
ADR (15) $ 37.86 $ 36.33 $ 40.12 $ 42.71 $ 44.98 $ 47.49
REVPAR (16) $ 30.48 $ 22.45 $ 31.73 $ 33.01 $ 33.38 $ 33.72
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(1) The Company operates on a 52-53 week fiscal year which ends on the Saturday
nearest to December 31. The 1993 (combined), 1994, 1995 and 1996 fiscal
years each consisted of 52 weeks while the 1997 fiscal year consisted of 53
weeks. The actual year end for each fiscal year was as follows: December 17,
1993 (50 weeks pre-Merger), January 1, 1994 (2 weeks post-Merger), December
31, 1994, December 30, 1995, December 28, 1996 and January 3, 1998.
(2) In 1995, the Company recognized $3,142 of severance expense relating to a
change in management. In 1996, the Company recognized expenses of $10,398
and $450 relating to the inn renewal program and an adjustment to recognize
impairments of certain long-lived assets, respectively. In 1997, the Company
recognized expenses of $14,066 and $1,421 relating to the inn renewal
program and severance expenses associated with the re-engineering program,
respectively. See "Item 8. Financial Statements and Supplementary
Data -- Notes 1 and 10 to the Consolidated Financial Statements."
(3) Operating income, income before income taxes, net income, cash flow from
operations and EBITDA for the 50 weeks ended December 17, 1993 were reduced
by a special charge of $3,814 related to payment to participants in a stock
appreciation rights plan as a result of the change of control.
(4) Operating income, income before income taxes and EBITDA for 1995 were
reduced by a special charge of $3,142 relating to a change in management.
Had such charge not been incurred, operating income, income before income
taxes and EBITDA would have been $84,709, $33,980 and $112,132,
respectively, with EBITDA as a percentage of revenues being 38.5%. Net
income and cash flow from operations for 1995 were reduced by $1,873 ($.10
per share -- basic and diluted) due to such charge. Excluding this charge,
net income and cash flow from operations would have been $20,195 ($1.10 per
share -- basic and $1.09 per share -- diluted) and $49,658, respectively.
See Item 8. Financial Statements and Supplementary Data -- Note 10 to the
Consolidated Financial Statements."
(5) Operating income and income before income taxes for 1996 were reduced by
special charges of $10,398 relating to the inn renewal program (including
$7,847 related to early asset retirements) and $450 relating to an
adjustment to recognize impairments of certain long-lived assets. Had such
charges not been incurred, operating income and income before income taxes
would have been $91,436 and $50,524, respectively. EBITDA was reduced by
$2,551 relating to these charges. EBITDA would have been $120,531 with
EBITDA as a percentage of revenues being 38.0%. Net income and cash flow
from operations for 1996 were reduced by $6,481 ($.24 per share -- basic and
diluted) and $1,524, respectively. Excluding these charges, net income and
cash flow from operations would have been $30,545 ($1.12 per share -- basic
and $1.11 per share -- diluted) and $62,072, respectively. See "Item 8.
Financial Statements and Supplementary Data -- Notes 1 and 10 to the
Consolidated Financial Statements."
(6) Operating income and income before income taxes and extraordinary item for
1997 were reduced by special charges of $1,421 for severance compensation
relating to the re-engineering and $14,066 relating to the inn renewal
program (including $2,387 related to early asset retirements). Had such
charges not been incurred, operating income and income before income taxes
and extraordinary item would have been $103,462 and $58,210 respectively.
EBITDA was reduced by $13,100 relating to these charges. EBITDA would have
been $138,750 with EBITDA as a percentage of revenues being 39.5%. Income
before extraordinary item and cash flow from operations for 1997 were
reduced by $9,462 ($.34 per share -- basic and $.33 per share -- diluted)
and $8,004, respectively. Excluding these charges, income before
extraordinary item and cash flow from operations would have been $35,566
($1.27 per share -- basic and $1.26 -- diluted) and $87,180, respectively.
Net income was reduced by an extraordinary charge of $746, net of tax ($.02
per share -- basic and $.03 per share -- diluted) related to the write-off
of unamortized loan costs of $1,228 related to the Company's refinancing of
its bank credit facility. See "Item 8. Financial Statements and
Supplementary Data -- Notes 1 and 10 to the Consolidated Financial
Statements."
(7) Prior to the merger, the Company was a Qualified Subchapter S Corporation
and did not pay federal taxes at the corporate level. Following the Merger,
the Company became subject to federal income taxes and additional state
income taxes.
(8) Adjusted to give effect solely to the issuance of an additional 10,000
shares in the Offering, 1994 and 1995 net income per share would have been
$.59 -- basic and diluted in 1994 and $.65 -- basic and $.64 -- diluted in
1995.
(9) Subsequent to the Merger, the Company has not paid any dividends on its
common stock.
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(10) EBITDA is operating income plus the sum of interest income, other income,
depreciation, amortization and loss on fixed asset retirements. EBITDA is
not intended to represent cash flow from operations as defined by generally
accepted accounting principles, and such information should not be
considered as an alternative to net income, cash flow from operations or
any other measure of performance prescribed by generally accepted
accounting principles. EBITDA is included herein because management
believes that certain investors find it to be a useful tool for measuring
the ability to service debt.
(11) For purposes of calculating the ratio of earnings to fixed charges,
earnings include income before income taxes plus fixed charges, excluding
capitalized interest. Fixed charges consist of interest expense, including
capitalized interest, and the portion of rental expense representative of
an interest factor.
(12) Earnings were inadequate to cover fixed charges by $785 in the two weeks
ended January 1, 1994 due to the seasonality of the Company's business. See
"Item 7. Management's Discussion and Analysis of Results of Operations and
Financial Condition -Forward Looking Statements; Certain Factors Affecting
Future Results -- Seasonality." The deficiency for the two weeks in 1993 is
due to the shortness of the period and historically lower occupancy during
the Christmas season.
(13) In 1994, the Company purchased 10 inns and one development site for an
aggregate cost, including renovation expenditures, of $31,677. In 1995, the
Company purchased 10 inns, nine development sites and land previously under
lease for an aggregate cost, including renovation and construction costs,
of $63,217 and also spent $10,976 related to renovations and improvements
to the 10 inns and one development site acquired during the second half of
1994. In 1996, the Company purchased seven inns and eight development sites
for an aggregate cost, including renovation and construction costs, of
$62,581 and also spent $38,913 related to renovations and improvements to
the 20 inns and 10 development sites purchased in 1994 and 1995. In 1997,
the Company purchased one inn and 11 development sites for an aggregate
cost, including renovation and construction costs, of $36,993 and also
spent $48,638 related to renovations and improvements to 27 inns and 18
development sites acquired prior to 1997.
(14) Average occupancy percentage represents total rooms occupied divided by
total available rooms. Total available rooms represents the number of rooms
available multiplied by the number of days in the reported period.
(15) ADR represents total room revenues (before allowances) divided by the total
number of rooms occupied.
(16) REVPAR represents the average occupancy percentage multiplied by the
average daily room rate for the reported period.
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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND
FINANCIAL CONDITION
OVERVIEW
The following tables sets forth certain operating data for the periods
indicated:
Fiscal Years (1)
------------------------------
1995 1996 1997
-------- -------- --------
Comparable Inn Statistics
Inns open (at end of year) 210 223 223
Available rooms (at end of year) 23,397 24,958 24,952
Room nights occupied (in thousands) 6,587 6,732 6,448
Average occupancy percentage 77.3% 74.2% 71.0%
ADR $ 42.71 $ 44.98 $ 47.49
REVPAR 33.01 33.38 33.72
Revenues (in thousands) 291,445 317,437 351,175
Operating income (in thousands) (2) 81,567 80,588 87,975
Operating income (as percentage of revenues) (2) 28.0% 25.4% 25.1%
(1) The Company operates on a 52-53 week fiscal year which ends on the Saturday
nearest to December 31. The 1995 and 1996 fiscal years each consisted of 52
weeks and the 1997 fiscal year consisted of 53 weeks. The actual year end
for each fiscal year was as follows: December 30, 1995, December 28, 1996
and January 3, 1998.
(2) Operating income for 1995 was reduced by a special charge of $3,142 relating
to a change in management. Had such charge not been incurred, operating
income for 1995 would have been $84,709 and operating income as a percentage
of revenues would have been 29.1%. See "Item 8. Financial Statements and
Supplementary Data -- Note 10 to the Consolidated Financial Statements."
Operating income for 1996 was reduced by special charges of $10,398 and $450
relating to the inn renewal program and an adjustment to recognize
impairments of certain long-lived assets, respectively. Had such charges not
been incurred, operating income for 1996 would have been $91,436 and
operating income as a percentage of revenues would have been 28.8%. See
"Item 8. Financial Statements and Supplementary Data -- Notes 1 and 10 to
the Consolidated Financial Statements."
Operating income for 1997 was reduced by special charges of $1,421 for
severance compensation relating to re-engineering and $14,066 relating to
the inn renewal program. Had such charges not been incurred, operating
income for 1997, would have been $103,462 and operating income as a
percentage of revenues would have been 29.5%. See "Item 8. Financial
Statements and Supplementary Data -- Note 10 to the Consolidated Financial
Statements."
RESULTS OF OPERATIONS
1997 COMPARED TO 1996
The Company's revenues are principally derived from room rentals. Revenues
increased $33.8 million, or 10.6%, from $317.4 million in 1996 to $351.2 million
in 1997. Fiscal year 1997 consisted of 53 weeks while 1996 consisted of 52
weeks. The extra week of revenue represented approximately $5 million of the
increase in revenues for 1997. REVPAR for Comparable Inns increased $.34, or
1.0%, from $33.38 in 1996 to $33.72 in 1997. The revenue increase for the
Comparable Inns was primarily caused by an increase in ADR of $2.51, or 5.6%,
from $44.98 in 1996 to $47.49 in 1997. The average occupancy percentage for the
Comparable Inns decreased from 74.2% in 1996 to 71.0% in 1997. The Company
attributes the decline in occupancy and nominal REVPAR growth to the increased
supply of competitive hotel rooms, aggressive price increases early in the first
quarter, low occupancies due to the New Year's holiday falling on a Wednesday,
and a significant reduction in demand for hotel rooms in the Atlanta and Texas
markets where approximately 10% of the Company's properties are located. The
Company believes that the decrease in the Atlanta market is due to the high
demand generated in 1996 related to the Summer Olympic Games while the decrease
in the Texas market is due to an increase in room supply. Approximately $24
million
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($1 million attributed to the extra week) of the increase in revenues was
attributable to an increase in the operation of 31 Inns in Stabilization.
Management expects newly developed or acquired inns to initially operate below
historical company averages of occupancy and ADR and to experience an occupancy
stabilization period after construction or renovation.
Direct room expenses include salaries, wages, utilities, repairs and
maintenance, property taxes, advertising, room supplies and security. Direct
room expenses increased $.42 per occupied room, or 2.0%, from $21.46 in 1996 to
$21.88 in 1997. The expenses increased primarily because of the addition of new
inns and generally higher salary and wage expenses that were partially offset by
the need for fewer repairs and maintenance expenditures as a result of the inn
renewal program. As a percentage of revenues, direct room expenses decreased
from 48.1% in 1996 to 45.9% in 1997. See "Item 2. Properties."
Depreciation and amortization increased $6.1 million, or 21.6%, from $28.2
million in 1996 to $34.3 million in 1997. The increase primarily reflects
depreciation on inns opened in 1996 and 1997.
Corporate expenses include the cost of general management, training and field
supervision of inn managers, franchising, development, reservations and
administrative expenses. Corporate expenses increased $2.4 million or 8.4%, from
$28.9 million in 1996 to $31.3 million in 1997. The increase consists primarily
of expenses associated with the development of the Company's franchising program
and an increase in incentive compensation. As a percentage of revenue, corporate
expenses were 9.1% and 8.9% in 1996 and 1997, respectively. Management expects
corporate expenses to remain at the current level and will partially fund
increased reservation expenses through the collection of franchise reservation
fees. The Company does not pay any post retirement benefits other than pension
benefits. In 1997, the Company terminated its defined benefit pension plan
subject to appropriate regulatory approvals. Earned benefits will be paid to
employees during 1998, at which time, a final settlement cost of approximately
$1.6 million will be paid by the Company. See "Item 8. Financial Statements and
Supplementary Data -- Note 9 to the Consolidated Financial Statements."
Marketing expenses include the cost of media advertising and related production
costs, billboard expenses and expenses associated with the Company's corporate
sales group. Marketing expenses increased $4.8 million, or 29.8%, from $16.1
million in 1996 to $20.9 million in 1997. The increase in marketing is
attributed to the Company's expansion of the corporate sales group and to
increased media expenses related to additional advertising associated with the
Company's first ever summer advertising campaign to further enhance the
Company's brand awareness. As a percentage of revenue, marketing expenses were
5.1% and 5.9% in 1996 and 1997, respectively. Management expects on-going
marketing expenses to remain at or about the same percentage of revenue as in
1997 and will partially fund on-going marketing expenses through the collection
of franchise marketing fees.
In 1996, the Company recognized a special charge of $.5 million relating to an
adjustment to recognize impairments of certain long-lived assets. Also, in the
fourth quarter of 1996, the Company commenced a chainwide renewal program to
refurbish approximately 85% of its inns which was substantially completed in the
fourth quarter of 1997. The Company recently decided to expand the program to
include the remaining 15% of the Company's inns and replace all remaining
furniture that does not meet current decor standards. This program commenced in
the fourth quarter of 1997 and is expected to be completed in the second quarter
of 1998. The Company recognized special charges of $24.5 million of which $10.4
million ($7.8 million related to early asset retirements) was recognized during
the fourth quarter of 1996 and $14.1 million ($2.4 million related to early
asset retirements) was recognized during 1997. See "Item 1.
Business -- Strategy," "Item 2. Properties," "Capital Resources and Liquidity
Capital Expenditures" and "Item 8. Financial Statements and Supplementary
Data -- Notes 1 and 10 to the Consolidated Financial Statements."
In the second half of 1997, the Company commissioned a task force to perform a
thorough examination of its Corporate structure and processes to increase
productivity and reduce costs in relation to its strategic growth plans. The
Company recognized a special charge of $1.4 million related to severance
expenses associated with the re-engineering program in the fourth quarter of
1997. See "Item 8. Financial Statements and Supplementary Data -- Note 10 to the
Consolidated Financial Statements."
Had the special charges of $10.9 million in 1996 related to the inn renewal
program and the fixed asset impairments not been incurred, operating expenses
and operating income for 1996 would have been $226.0 million and $91.5 million,
respectively. Had the special charges of $15.5 million in 1997 related to the
inn renewal program and severance compensation not been incurred, operating
expenses and operating income for 1997 would have been $247.7 million and $103.5
million, respectively.
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Interest expense increased $4.4 million, or 10.5%, from $41.8 million in 1996 to
$46.2 million in 1997 because of increased borrowings under the Company's $250
million Bank Credit Facility related to development, acquisitions and capital
expenditures associated with the inn renewal program. At January 3, 1998,
approximately $178 million of the Company's debt bore interest at variable
rates. Over the near term, management anticipates future interest expense
increases due to continued borrowings under the Bank Credit Facility to fund the
Company's development and acquisition program.
1996 COMPARED TO 1995
Revenues increased $26.0 million, or 8.9%, from $291.4 million in 1995 to $317.4
million in 1996. REVPAR for Comparable Inns increased $0.37, or 1.1%, from
$33.01 for the 210 Comparable Inns in 1995 to $33.38 for the 223 Comparable Inns
in 1996. The REVPAR increase for the Comparable Inns was primarily caused by an
increase in ADR of $2.27, or 5.3%, from $42.71 in 1995 to $44.98 in 1996 The
average occupancy percentage for the Comparable Inns decreased 3.1 percentage
points from 77.3% in 1995 to 74.2% in 1996. Management attributes the decrease
in average occupancy percentage primarily to market sensitivity to increases in
ADR. Approximately $18.3 million of the increase in revenues was caused by an
increase in the operations of 20 inns acquired and one inn developed through
1995 ($16.5 million) and six inns acquired and 11 inns developed in 1996 ($1.8
million).
Direct room expenses increased $1.55 per occupied room, or 7.8%, from $19.91 in
1995 to $21.46 in 1996. The Company experienced operating expense increases for
payroll, primarily from higher labor rates; repairs and maintenance, because of
an increase in planned maintenance projects; security, because of heightened
customer awareness and concern and commissions on travel agent sales due to
increased travel agent bookings, primarily from the 1996 summer Olympics. The
expense increases were partially offset by higher telephone commissions income
from customers' long distance calls under a long distance commission program.
The overall occupancy decline in 1996 also contributed to the increase in direct
room expenses per occupied room. The increase was also caused, in part, by
operating additional inns acquired in 1994, 1995 and 1996, which generally
obtained occupancies below historical Company averages, resulting in a higher
average expense per occupied room. As a percentage of revenues, direct room
expenses increased from 47.3% in 1995 to 48.1% in 1996.
Depreciation and amortization increased $1.3 million, or 4.8%, from $26.9
million in 1995 to $28.2 million in 1996. The increase primarily reflects
depreciation on inns opened in 1995 and 1996. Included in 1995 is a provision
for approximately $1.0 million resulting from management's decision to demolish
and rebuild, due to unstable soil conditions, one of the buildings, containing
55 rooms, at its Jackson, Mississippi inn.
Corporate expenses increased $4.2 million, or 17.0%, from $24.7 million in 1995
to $28.9 million in 1996. The increase consists primarily of increases in
payroll costs, relocation expenses and franchise taxes. Payroll increased as a
result of the Company incurring a full year's expense in 1996 for positions
vacated during 1995 due to the change in management. In addition, the Company
incurred increases in staffing and relocation expenses related to the Company's
development and franchise departments. Franchise taxes increased due to an
increase in equity as a result of the Offering. As a percentage of revenue,
corporate expenses were 8.5% and 9.1% in 1995 and 1996, respectively.
Marketing expenses decreased $1.2 million, or 6.9%, from $17.3 million in 1995
to $16.1 million in 1996. The decrease in marketing expense is attributed to
reduced media advertising partially offset by increased billboard advertising
associated with operating additional hotels.
Special charges in 1996 consisted of $10.4 million and $.5 million relating to
the inn renewal program and impairments of certain long-lived assets,
respectively. Special charges in 1995 consist of $3.1 million relating to a
change in management. See "Item 1. Business -- Strategy," "Item 2. Properties,"
" Capital Resources and Liquidity Capital Expenditures" and "Item 8. Financial
Statements and Supplementary Data -- Note 10 to the Consolidated Financial
Statements."
Had the special charges of $10.9 million in 1996 and $3.1 million 1995 not been
incurred, operating expenses would have been $226.0 million and $206.7 million,
respectively, and operating income would have been $91.5 million and $84.7
million, respectively.
Interest expense decreased $9.5 million, or 18.5%, from $51.3 million in 1995 to
$41.8 million in 1996, primarily because of the retirement of $128 million of
debt out of the proceeds from the Offering.
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PRO-FORMA AND SUPPLEMENTAL INFORMATION
Management believes the following pro-forma and supplemental information
presents meaningful comparisons to on-going operations and summarizes the
results of operations of the Company, adjusted to reflect (a) the effect of the
Offering, as if the Offering had occurred at the beginning of the fiscal year
for 1995 and 1996, (b) the elimination of the extraordinary expense in 1997 and
(c) the elimination of certain special charges to arrive at adjusted operating
income, net income and earnings per share amounts. These amounts do not
represent operating income, net income, and earnings per share as defined by
generally accepted accounting principles. See "Item 8. Financial Statements and
Supplementary Data -- Notes 1, 6 and 10 to the Consolidated Financial
Statements."
1995 1996 1997
(52 Weeks) (52 Weeks) (53 Weeks)
---------------------- ---------------------- ----------------------
Operating Net Operating Net Operating Net
Income Income Income Income Income Income
--------- -------- --------- -------- --------- --------
As reported $ 81,567 $ 18,322 $ 80,588 $ 24,064 $ 87,975 $ 25,358
Interest expense adjustment for the
Offering 5,521 790
Extraordinary item 746
-------- -------- -------- -------- -------- --------
Pro-forma before special charges 81,567 23,843 80,588 24,854 87,975 26,104
Adjustments for special charges:
Severance expense 3,142 1,873 1,421 868
Asset impairment charge 450 269
Inn renewal program 10,398 6,212 14,066 8,594
-------- -------- -------- -------- -------- --------
Total special charges 3,142 1,873 10,848 6,481 15,487 9,462
-------- -------- -------- -------- -------- --------
As adjusted $ 84,709 $ 25,716 $ 91,436 $ 31,335 $103,462 $ 35,566
======== ======== ======== ======== ======== ========
Earnings per share as adjusted:
Basic $ .91 $ 1.11 $ 1.27
Diluted .90 1.10 1.26
CAPITAL RESOURCES AND LIQUIDITY
GENERAL
The following table sets forth certain capital resource and liquidity
information for the years indicated (dollars in thousands):
Fiscal Years
------------------------------------
1995 1996 1997
(52 Weeks) (52 Weeks) (53 Weeks)
---------- ---------- ----------
Cash flow from operations $ 47,785(1) $ 60,548(2) $ 79,176(3)
Net cash used by investing activities (87,414) (126,558) (131,265)
Net cash provided by financing activities 42,018 81,242 45,584
Gross operating profit (4) 153,669 164,705 189,996
Gross operating profit as a percentage of
revenue (4) 52.7% 51.9% 54.1%
EBITDA (5) $108,990(1) $117,980(2) $125,650(3)
EBITDA as percentage of revenue (5) 37.4%(1) 37.2%(2) 35.8%(3)
Ratio of earnings to fixed charges (6) 1.5x 1.8x 1.8x
(1) EBITDA for 1995 was reduced by a special charge of $3,142 relating to a
change in management. Had such charge not been incurred, EBITDA would have
been $112,132 and EBITDA as a percentage of revenues would have been 38.5%.
Cash flow from operations for 1995 was reduced by $1,873 due to such charge.
Had such charge not been incurred, cash flow from operations would have been
$49,658. See "Item 8. Financial Statements and Supplementary Data -- Note 10
to the Consolidated Financial Statements."
(2) EBITDA for 1996 was reduced by a special charge of $2,551 relating to the
inn renewal program. Had such charge not been incurred, EBITDA would have
been $120,531 and EBITDA as a percentage of revenues would have been 38.0%.
Cash flow from operations for 1996 was reduced by $1,524 due to such charge.
Excluding this charge, cash flow from operations would have been $62,072.
See "Item 8. Financial Statements and Supplementary Data -- Note 10 to the
Consolidated Financial Statements."
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(3) EBITDA for 1997 was reduced by total special charges of $13,100 of which
$1,421 was for severance compensation related to re-engineering and $11,679
related to the inn renewal program. Had such charges not been incurred,
EBITDA would have been $138,750 and EBITDA as a percentage of revenues would
have been 39.5%. Cash flow from operations for 1997 was reduced by $8,004
due to such charges. Excluding these charges, cash flow from operations
would have been $87,180. See "Item 8. Financial Statements and Supplementary
Data -- Note 10 to the Consolidated Financial Statements."
(4) Gross operating profit is revenues less direct room expenses.
(5) EBITDA is operating income plus the sum of interest income, other income,
depreciation, amortization and loss on fixed asset retirements. EBITDA is
not intended to represent cash flow from operations as defined by generally
accepted accounting principles, and such information should not be
considered as an alternative to net income, cash flow from operations or any
other measure of performance prescribed by generally accepted accounting
principles. EBITDA is included herein because management believes that
certain investors find it to be a useful tool for measuring the ability to
service debt.
(6) For purposes of calculating the ratio of earnings to fixed charges, earnings
include income before income taxes plus fixed charges, excluding capitalized
interest. Fixed charges consist of interest expense, including capitalized
interest and the portion of rental expense representative of an interest
factor.
In general, the Company has historically financed its development through
internal cash flow and secured debt. As of January 3, 1998, 174 of the Company's
254 inns, in addition to the Company's corporate facilities, were pledged to
secure its long-term debt and its Bank Credit Facility. The Company may pledge
additional inns to secure additional long-term debt in order to continue to fund
the Company's acquisition and development program.
Cash and cash equivalents decreased $6.5 million from $19.7 million at December
28, 1996 to $13.2 million at January 3, 1998.
The Company has in the past frequently operated with current liabilities in
excess of current assets as a result of partially financing its expansion
through internally generated cash. The Company believes that cash flow from
operations will be sufficient to satisfy its working capital needs in 1998. At
January 3, 1998, the Company had current liabilities of $51.7 million, including
current maturities of long-term debt of $12.0 million, and current assets of
$36.6 million.
Current maturities of long-term debt remained unchanged at $12.0 million at
December 28, 1996 and January 3, 1998 due to normal amortization of mortgage
notes and obligations under capital leases.
As of January 3, 1998, $84.6 million was available for borrowing under the
Company's $250 million Bank Credit Facility. Borrowings under the Bank Credit
Facility bear interest at either the administrative agent's prime rate or LIBOR
plus tiered spreads based upon the Company's leverage ratios. The Bank Credit
Facility contains various covenants typical of senior secured bank facilities,
and currently requires the Company to maintain a tangible net worth of not less
than $200 million and to maintain the following financial ratios: funded debt to
EBITDA of not more than 4.75 to 1.0, EBITDA to fixed charges and restricted
payments (including payment of dividends on the Company's Common Stock) of not
less than 1.45 to 1.0 and senior debt to senior EBITDA of not more than 4.25 to
1.0. The Bank Credit Facility contains events of default for breach of these
covenants as well as other events of default customary for financings of similar
size and nature, including a change in control of the Company.
As of January 3, 1998, the Company's total long-term indebtedness (including
current maturities) was approximately $551 million. Approximately $348 million
of such indebtedness is mortgage indebtedness and approximately $178 million of
such indebtedness bears interest at variable rates. For a further description of
the Company's mortgage indebtedness, see "Item 8. Financial Statements and
Supplementary Data -- Note 4 to the Consolidated Financial Statements."
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CAPITAL EXPENDITURES
The following table sets forth certain information regarding the Company's cash
flow from operations and capital expenditures, excluding development,
acquisitions, and related improvements, for 1995, 1996 and 1997.
Fiscal Years
---------------------------------------------
1995 1996 1997
------- ------- -------
Cash flow from operations $47,785 $60,548 $79,176
Capital expenditures (1) 15,194 26,076(2) 45,604(2)
(1) Includes furniture, fixtures, equipment, lobby conversions, room
renovations, exterior renovations such as roofing, paving and concrete walks
and general corporate expenditures.
(2) 1996 and 1997 capital expenditures include $6.4 million and $37.4 million,
respectively, in improvements related to the Company's inn renewal program.
In addition, during 1996 and 1997, the Company spent $1.7 million and $.7
million, respectively, on software related to the revenue management system
associated with the Company's inn renewal program.
The Company has substantially completed improvements of 18 development sites (16
inns open) and renovation of 27 inns acquired and open after the Merger and
prior to 1997. In connection with the improvements and renovations of these
inns, the Company spent $48.6 million in 1997, and expects to spend
approximately $8.0 million in 1998 to complete these improvements and
renovations. In 1997, the Company acquired 11 development sites (one inn open),
of which two were subject to long term leases, and acquired one inn (closed for
renovation), for an aggregate cost, including construction and renovation costs,
of $31.5 million and $6.4 million, respectively, for improvements and
renovations to these properties over the next 18 months.
Subsequent to January 3, 1998, the Company purchased one development site for an
aggregate cost of $.5 million. Currently, the Company has no development sites
under contract to purchase.
Management expects to fund the Company's 1998 capital expenditures associated
with improvements for its Comparable Inns from cash flow from operations and
from available cash. Estimated 1998 expenditures associated with the developed
properties and acquired inns will be financed from these sources together with
borrowing under the Bank Credit Facility. The Company may issue additional
equity or debt, or expand its Bank Credit Facility to fund future expansion
activities.
HISTORICAL CASH FLOWS
1997 COMPARED TO 1996
Cash provided by operations increased $18.7 million, or 30.9%, from $60.5
million in 1996 to $79.2 million in 1997, generally as the result of increases
in net income of $1.3 million, non-cash charges to income of $3.8 million and
$13.6 million in various working capital components.
Net cash used by investing activities increased $4.7 million from $126.6 million
in 1996 to $131.3 million in 1997, primarily resulting from expenditures for
acquisitions, construction and renovation activities associated with the
Company's expansion program and $38.1 million for expenditures related to the
inn renewal program. Expenditures for property and equipment in 1997 include the
acquisition of nine development sites and one inn for a total cost, including
improvements of $37.9 million and $48.6 million related to improvements and
renovations to 18 development sites and 27 properties acquired prior to 1997.
Net cash provided by financing activities decreased $35.6 million from $81.2
million in 1996 to $45.6 million in 1997. Cash provided by financing activities
in 1996 included $62.6 million in net proceeds from the Offering after principal
payments of long-term debt. 1997 includes net borrowings under the Bank Credit
Facility of $89.2 million, which were offset by principal payments of long term
debt of $37.9 million and the net purchase of common stock for treasury of $5.7
million.
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1996 COMPARED TO 1995
Cash provided by operations increased $12.7 million, or 26.6%, from $47.8
million in 1995 to $60.5 million in 1996, generally as the result of an increase
in net income and non-cash charges to income and a change in various working
capital components.
Net cash used by investing activities increased $39.2 million from $87.4 million
in 1995 to $126.6 million in 1996, primarily as the result of expenditures for
acquisitions, renovation and construction activities associated with the
Company's expansion program. Expenditures for property and equipment in 1996
include the acquisition of seven inns and eight development sites for a total
cost, including improvements, of $62.6 million and $38.9 million related to
renovations and improvements to 20 properties and 10 development sites acquired
prior to 1996.
Net cash provided by financing activities increased $39.2 million from $42.0
million in 1995 to $81.2 million in 1996, primarily as a result of $148.6
million in proceeds of the Offering and net borrowings under the Bank Credit
Facility of $25.4 million, which were partially offset by the purchase of
treasury stock for $6.5 million and principal payments of long term debt of
$86.0 million.
EBITDA
EBITDA increased $7.7 million, or 6.5%, from $118.0 million in 1996 to $125.7
million in 1997. EBITDA increased $9.0 million, or 8.3%, from $109.0 million in
1995 to $118.0 million in 1996. EBITDA in 1995 includes a special charge of $3.1
million for a change in management. EBITDA in 1996 and 1997 includes special
charges of $2.5 million and $11.7 million, respectively, related to the inn
renewal program. In addition, 1997 includes $1.4 million of severance
compensation related to re-engineering. Had such special charges not been
incurred, EBITDA would have been $112.1 million, $120.5 million and $138.8
million in 1995, 1996, and 1997, respectively. EBITDA is not intended to
represent cash flow from operations as defined by generally accepted accounting
principles, and such information should not be considered as an alternative to
net income, cash flow from operations or any other measure of performance
prescribed by generally accepted accounting principles. EBITDA is included
herein because management believes that certain investors find it to be a useful
tool for measuring the ability to service debt.
INFLATION
The rate of inflation as measured by changes in the average consumer price index
has not had a material effect on the revenues or net earnings of the Company in
the three most recent years.
YEAR 2000 ISSUE
The "Year 2000" issue is related to computer systems that currently record years
in a two-digit format. Such computer systems will be unable to properly
interpret dates beyond the year 1999 which could result in a system failure or
cause disruption of business operations.
The Company is in the process of reviewing its computer systems and programs and
identifying critical vendors with respect to the Year 2000 issue. The Company is
assessing the amount of programming required to upgrade or replace each of its
affected systems and expects to complete implementation and testing of systems
revisions by early 1999. In addition, the Company is actively working with all
of its major vendors and suppliers to assess their compliance efforts and the
Company's exposure to them.
The Company is in the process of replacing its accounting software with a system
that is Year 2000 compliant. The Company expects implementation of the new
accounting system to be completed by the first quarter of 1999 at an approximate
cost of $3 million.
The total cost to the Company of the Year 2000 compliance activities has not
been and is not anticipated to be material to its financial position or results
of operations in any given year. These costs and the date on which the Company
plans to complete the Year 2000 modification and testing processes are based on
management's best estimates, which were derived utilizing numerous assumptions
of
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22
future events including the continued availability of certain resources, third
party modification plans and other factors. However, there can be no guarantee
that these estimates will be achieved and actual results could differ from these
estimates.
FORWARD LOOKING STATEMENTS; CERTAIN FACTORS AFFECTING FUTURE RESULTS
This Form 10-K includes forward looking statements, including, without
limitation, statements concerning the Company's ability to increase REVPAR, the
time and cost of completion of renovation and construction of, and improvements
to, acquired inns and development sites, the chainwide property renewal program,
the revenue management system, the impact of the revenue management system on
REVPAR and the expected stabilization of acquired or developed inns. Any forward
looking statements contained in this Form 10-K or any other reports or documents
prepared by or made by management of the Company involve risks and uncertainties
and are subject to change based on various important factors. The following
factors, among others, in some cases have affected and in the future could
affect the Company's actual financial performance and could cause actual results
to differ, perhaps materially, from those set forth in such forward looking
statements.
EXPANSION RISKS. The Company's ability to expand depends on a number of factors,
including the selection and availability of suitable locations at acceptable
prices, the hiring and training of sufficiently skilled management and personnel
and the availability of financing. There can be no assurance that financing or
desirable locations for acquisition or new development will be available or, if
available, will be on terms acceptable to the Company. The Company expects that
its franchising business will face risks that competition from other hotel
franchising businesses may impair the Company's ability to attract franchisees
and that franchisees may fail to uphold the Company's standards of quality and
service or fail to fulfill their financial and other obligations to the Company.
Furthermore, provisions in the indenture (the "Indenture") governing the Notes,
in the Bank Credit Facility and in certain mortgage indebtedness agreements may
restrict the Company's ability to meet its expansion objectives. See "Capital
Resources and Liquidity." Although the Company believes that it has the
infrastructure in place to accommodate the planned expansion, the Company's
corporate management expenses will increase as the number of inns grows, which
could adversely affect the Company's financial performance.
There can be no assurance that the Company's expansion plans will be completed
successfully or that the nature of such expansion will not be modified to
reflect future events or economic conditions. There can be no assurance that
newly acquired inns will conform to the Company's previous standards of
construction and design or that the Company's new inn design will achieve guest
acceptance. The Company's inability to successfully implement its expansion
plans would limit the Company's ability to grow its revenue base.
LODGING INDUSTRY RISKS. The lodging industry in general, including the Company,
may be adversely affected by such factors as changes in national and regional
economic conditions (particularly in geographic areas in which the Company has a
high concentration of inns), changes in local market conditions, oversupply of
hotel space or a reduction in local demand for rooms and related services,
competition in the hotel industry, changes in interest rates, the availability
of financing and other factors relating to the operation of economy hotels.
Operating factors affecting the lodging industry generally, including the
Company, include (i) competition from other hotels, motels and recreational
properties, (ii) demographic changes, (iii) the recurring need for renovations,
refurbishment and improvements of hotels and increased expenses related to inn
security, (iv) restrictive changes in zoning and similar land use laws and
regulations that influence or determine wages, prices or construction costs, (v)
changes in the characteristics of hotel locations, (vi) the inability to secure
property and liability insurance to fully protect against all losses or to
obtain such insurance at reasonable costs, (vii) changes in real estate tax
rates and other operating costs, (viii) changes or cancellations in local
tourist, athletic or cultural events, (ix) changes in travel patterns which may
be affected by increases in transportation costs or gasoline prices, changes in
airline schedules and fares, strikes, weather patterns or relocation or
construction of highways, (x) increases in operating expense and litigation as a
result of on-premise assaults of guests by third parties and (xi) changes in
brand identity and reputation. Unexpected or adverse changes in any of the
foregoing factors could have a material adverse effect on the Company's
business, assets, financial condition or results of operations.
CYCLICALITY. The hotel industry is subject to periods of cyclical growth and
downturn. From 1990 through 1992, for example, the U. S. hotel industry
experienced a cyclical downturn which resulted from, among other things,
over-building in the industry and sluggish general economic conditions in the
United States. According to STR, in 1997, increases in room supply were greater
than increases in demand for both the industry as a whole and the economy chain
segment. There can be no assurance that downturns or prolonged adverse
conditions
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in the hotel industry, in real estate or capital markets or in national or local
economies will not have a material adverse impact on the Company.
SEASONALITY. Demand, and thus room occupancy, is affected by normally recurring
seasonal patterns and, in most locations, is higher in the summer and early fall
months (May through October) than the balance of the year. Historically,
revenues in the first quarter have been lower than in other quarters and the
Company has incurred net losses in the first quarter.
COMPETITION. The economy segment of the hotel industry is highly competitive.
The Company's inns generally operate in areas that contain numerous competitors.
Demographic, geographic, or other changes in one or more of the Company's
markets could impact the convenience or desirability of the sites of certain
hotels, which would adversely affect the operations of those hotels. There can
be no assurance that new or existing competitors will not significantly lower
rates or offer greater convenience, services or amenities or significantly
expand or improve facilities in a market in which the Company's hotels compete,
thereby adversely affecting the Company's operations. See "Item 2.
Business -- Competition." In addition, some of the Company's competitors have a
larger network of locations and greater resources than the Company and are less
leveraged than the Company. Competition may generally reduce the number of
suitable hotel development or acquisition opportunities offered to the Company
and increase the bargaining power of property owners seeking to sell, which
could adversely affect the Company's financial performance.
REGULATORY RISKS. The lodging industry is subject to numerous federal, state and
local government regulations, including building and zoning requirements. Also,
the Company is subject to laws governing its relationship with employees,
including minimum wage requirements, overtime, working conditions and work
permit requirements. An increase in the minimum wage rate, employee benefit
costs or other costs associated with employees, could adversely affect the
Company. Under the Americans with Disabilities Act of 1990 (the "ADA"), all
public accommodations are required to meet certain federal requirements related
to access and use by disabled persons. These and other initiatives could
adversely affect the Company, as well as the lodging industry in general.
ENVIRONMENTAL MATTERS. Various federal, state and local laws, ordinances and
regulations impose liability on present and former real property owners and
operators for the cost of cleaning up or removing contamination caused by
hazardous or toxic materials. Such liability may be imposed without regard to
fault or legality of the original actions, and may be joint and several with
other responsible parties. If the liability is joint and several, the Company
could be responsible for payment of the full amount of the liability, whether or
not any other responsible party is also liable. The presence of contamination
at, or even adjacent to or near, a property also can affect the valuation of
that property or the ability of the owner to sell, lease or obtain financing for
the property and may in certain circumstances form the basis for liability to
third persons for personal injury or other damages. See "Item 2.
Business - Environmental Considerations."
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ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
INDEX TO FINANCIAL STATEMENTS
Page
----
Independent Auditors' Report on the Company 25
Consolidated Balance Sheets of the Company as of December
28, 1996 and January 3, 1998 26
Consolidated Statements of Income of the Company for the
years ended December 30, 1995, December 28, 1996 and
January 3, 1998 28
Consolidated Statements of Stockholders' Equity of the
Company for the years ended December 30, 1995, December
28, 1996 and January 3, 1998 29
Consolidated Statements of Cash Flows of the Company for the
years ended
December 30, 1995, December 28, 1996, and January 3, 1998 30
Notes to Consolidated Financial Statements of the Company 31
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25
INDEPENDENT AUDITORS' REPORT
The Board of Directors and Stockholders of
Red Roof Inns, Inc.
We have audited the accompanying consolidated balance sheets of Red Roof Inns,
Inc. and its subsidiaries as of December 28, 1996 and January 3, 1998, and the
related consolidated statements of income, stockholders' equity and cash flows
for each of the three years in the period ended January 3, 1998. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with generally accepted auditing
standards. 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, such consolidated financial statements present fairly, in all
material respects, the financial position of Red Roof Inns, Inc. and its
subsidiaries at December 28, 1996 and January 3, 1998, and the results of their
operations and their cash flows for each of the three years in the period ended
January 3, 1998 in conformity with generally accepted accounting principles.
/s/ Deloitte & Touche LLP
DELOITTE & TOUCHE LLP
Columbus, Ohio
February 16, 1998
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26
RED ROOF INNS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
December 28, 1996 and January 3, 1998
(in thousands)
December 28, January 3,
1996 1998
------------ ----------
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 19,659 $ 13,154
Receivables:
Trade 6,798 9,006
Income taxes 4,179
Supplies 9,810 10,002
Prepaid expenses 1,012 851
Deferred income taxes 3,041 3,569
-------- --------
Total current assets 44,499 36,582
PROPERTY AND EQUIPMENT:
Land 141,125 155,456
Buildings and improvements 566,418 608,323
Furniture, fixtures and equipment 71,070 108,564
Construction in progress 28,692 49,326
-------- --------
Total property and equipment 807,305 921,669
Less accumulated depreciation and amortization 71,283 89,287
-------- --------
Property and equipment -- net 736,022 832,382
OTHER ASSETS:
Goodwill, net of accumulated amortization 72,446 70,181
Deferred loan fees and costs, net of accumulated
amortization 7,049 8,103
Other 7,611 7,510
-------- --------
Total other assets 87,106 85,794
-------- --------
TOTAL $867,627 $954,758
======== ========
See notes to consolidated financial statements.
26
27
RED ROOF INNS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS (CONTINUED)
December 28, 1996 and January 3, 1998
(in thousands, except par values)
December 28, January 3,
1996 1998
------------ ----------
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable $ 13,984 $ 15,128
Accrued expenses:
Insurance 4,496 4,157
Compensation 5,396 7,534
Property taxes 3,025 3,769
Sales and use taxes 2,567 3,772
Income taxes 313
Other 5,726 5,072
-------- --------
Total accrued expenses 21,210 24,617
Current maturities of long-term debt:
Mortgage notes 10,521 10,472
Obligations under capital leases 1,499 1,526
-------- --------
Total current liabilities 47,214 51,743
LONG-TERM DEBT (LESS CURRENT MATURITIES):
Mortgage notes 205,745 171,885
Bank facility 76,150 165,365
Senior unsecured notes 200,000 200,000
Obligations under capital leases 2,263 1,957
-------- --------
Total long-term debt 484,158 539,207
OTHER LONG-TERM LIABILITIES (LESS CURRENT MATURITIES):
Pension obligation 638 590
Insurance 6,570 7,298
Deferred income taxes 9,948 17,184
-------- --------
Total other long-term liabilities 17,156 25,072
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY:
Preferred stock, $.01 par value; 10,000 shares authorized,
no shares outstanding
Common stock, $.01 par value; 100,000 shares authorized,
shares issued: 1996 -- 28,412, 1997 -- 28,531 284 285
Additional paid-in capital 266,516 268,140
Less treasury stock, at cost: 1996 -- 500 shares,
1997 -- 951 shares (6,476) (13,822)
Retained earnings 58,775 84,133
-------- --------
Total stockholders' equity 319,099 338,736
-------- --------
TOTAL $867,627 $954,758
======== ========
See notes to consolidated financial statements.
27
28
RED ROOF INNS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
For the Years Ended December 30, 1995, December 28, 1996 and January 3, 1998
(in thousands, except per share amounts)
Years Ended
----------------------------------------
December 30, December 28, January 3,
1995 1996 1998
(52 Weeks) (52 Weeks) (53 Weeks)
------------ ------------ ----------
REVENUES $291,445 $317,437 $351,175
OPERATING EXPENSES:
Direct room 137,776 152,732 161,179
Depreciation and amortization 26,892 28,230 34,335
Corporate 24,721 28,905 31,346
Marketing 17,347 16,134 20,853
Special charges 3,142 10,848 15,487
-------- -------- --------
Total operating expenses 209,878 236,849 263,200
-------- -------- --------
OPERATING INCOME 81,567 80,588 87,975
INTEREST INCOME 152 394 183
INTEREST EXPENSE (51,260) (41,777) (46,205)
OTHER INCOME 379 471 770
-------- -------- --------
INCOME BEFORE INCOME TAXES AND EXTRAORDINARY
ITEM 30,838 39,676 42,723
INCOME TAXES (12,516) (15,612) (16,619)
-------- -------- --------
INCOME BEFORE EXTRAORDINARY ITEM 18,322 24,064 26,104
EXTRAORDINARY LOSS (net of income tax benefit
of $482) (746)
-------- -------- --------
NET INCOME $ 18,322 $ 24,064 $ 25,358
======== ======== ========
INCOME PER SHARE BEFORE EXTRAORDINARY ITEM:
Basic $ 1.00 $ 0.88 $ 0.93
======== ======== ========
Diluted $ 0.99 $ 0.87 $ 0.93
======== ======== ========
EXTRAORDINARY LOSS PER SHARE:
Basic $ (0.02)
========
Diluted $ (0.03)
========
NET INCOME PER SHARE:
Basic $ 1.00 $ 0.88 $ 0.91
======== ======== ========
Diluted $ 0.99 $ 0.87 $ 0.90
======== ======== ========
WEIGHTED AVERAGE SHARES OUTSTANDING:
Basic 18,400 27,362 27,982
======== ======== ========
Diluted 18,521 27,549 28,167
======== ======== ========
See notes to consolidated financial statements.
28
29
RED ROOF INNS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
For the Years Ended December 30, 1995, December 28, 1996 and January 3, 1998
(in thousands)
Common Stock Treasury Stock Additional
---------------- ----------------- Paid-in Retained
Shares Amount Shares Amount Capital Earnings Total
------ ------- ------ -------- ---------- -------- --------
BALANCES AT DECEMBER 31, 1994 18,400 $184 $ 99,816 $16,389 $116,389
Capital contribution 18,000 18,000
Net income 18,322 18,322
------ ---- ---- -------- -------- ------- --------
BALANCES AT DECEMBER 30, 1995 18,400 184 117,816 34,711 152,711
Public stock offering (net of $11,368 of
expenses) 10,000 100 148,532 148,632
Stock options exercised 12 168 168
Purchase of treasury stock (500) $ (6,476) (6,476)
Net income 24,064 24,064
------ ---- ---- -------- -------- ------- --------
BALANCES AT DECEMBER 28, 1996 28,412 284 (500) (6,476) 266,516 58,775 319,099
Stock options exercised 119 1 1,639 1,640
Sale of treasury stock 49 630 (15) 615
Purchase of treasury stock (500) (7,976) (7,976)
Net income 25,358 25,358
------ ---- ---- -------- -------- ------- --------
BALANCES AT JANUARY 3, 1998 28,531 $285 (951) $(13,822) $268,140 $84,133 $338,736
====== ==== ==== ======== ======== ======= ========
See notes to consolidated financial statements.
29
30
RED ROOF INNS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Years Ended December 30, 1995, December 28, 1996 and January 3, 1998
(in thousands)
Years Ended
------------------------------------------------
December 30, December 28, January 3,
1995 1996 1998
(52 Weeks) (52 Weeks) (53 Weeks)
------------ ------------ ------------
CASH FLOWS FROM OPERATIONS:
Net income $ 18,322 $ 24,064 $ 25,358
Adjustments to reconcile net income to net cash provided by
operations:
Depreciation and amortization 23,238 25,477 30,891
Deferred income taxes 2,455 4,088 6,708
Amortization of goodwill 2,265 2,266 2,265
Loss from asset disposals and impairments 975 8,297 2,627
Amortization of other assets (principally deferred
loan costs) 1,455 2,010 2,046
Write-off of loan fees and costs 1,228
Change in assets and liabilities:
Receivables (1,068) (2,987) 1,971
Supplies (1,021) (950) (192)
Prepaid expenses (99) 42 161
Accounts payable (484) (2,479) 2,026
Accrued expenses 1,747 720 4,087
--------- --------- ---------
Net cash provided by operations 47,785 60,548 79,176
--------- --------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Proceeds from sale of assets 1,357
Expenditures for property and equipment (87,575) (122,201) (132,117)
Change in other assets 161 (4,357) (505)
--------- --------- ---------
Net cash used by investing activities (87,414) (126,558) (131,265)
--------- --------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Bank overdraft (4,375)
Proceeds from mortgage notes and bank facility 139,375 160,706 359,578
Principal reduction in mortgage notes and bank
facility (110,396) (220,962) (307,994)
Principal reduction in obligations under capital
leases (586) (826) (279)
Issuance of common stock and additional capital
contributions 18,000 148,800 2,255
Purchase of treasury stock (6,476) (7,976)
--------- --------- ---------
Net cash provided by financing activities 42,018 81,242 45,584
--------- --------- ---------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 2,389 15,232 (6,505)
CASH AND CASH EQUIVALENTS AT BEGINNING OF YEAR 2,038 4,427 19,659
--------- --------- ---------
CASH AND CASH EQUIVALENTS AT END OF YEAR $ 4,427 $ 19,659 $ 13,154
========= ========= =========
INTEREST PAID $ 51,503 $ 43,229 $ 47,115
========= ========= =========
INTEREST CAPITALIZED $ 1,547 $ 2,841 $ 2,846
========= ========= =========
INCOME TAXES PAID $ 10,591 $ 14,399 $ 4,937
========= ========= =========
NON-CASH TRANSACTIONS:
Capital expenditures included in accounts payable $ 1,812 $ 7,181 $ 6,299
========= ========= =========
See notes to consolidated financial statements.
30
31
RED ROOF INNS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
For the Years Ended December 30, 1995, December 28, 1996 and January 3, 1998
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
GENERAL - The Company was formed in November 1993 and is a subsidiary of The
Morgan Stanley Real Estate Fund, L.P. (MSREF). The Company operates on a 52-53
week fiscal year which ends on the Saturday nearest to December 31. At December
30, 1995 (1995), December 28, 1996 (1996) and January 3, 1998 (1997), the
Company operated 231, 248 and 254 inns, respectively. The 1995 and 1996 years
consist of 52 weeks each and the 1997 year consists of 53 weeks.
PRINCIPLES OF CONSOLIDATION - The accompanying consolidated financial statements
include the accounts of Red Roof Inns, Inc. and its wholly owned subsidiaries,
RRI Investment Co. and RRI Financial Inc. All material intercompany transactions
and balances have been eliminated in consolidation.
NATURE OF OPERATIONS - The Company, whose revenues are primarily derived from
room rentals, is an owner/operator and franchiser of economy inns. The Company's
properties are primarily located throughout the Midwest, East, South and Gulf
Coast regions of the United States. The Company began franchising economy inns
in 1997 and at January 3, 1998 five franchised inns were in operation.
FRANCHISE REVENUE - Franchise revenue consists of royalty fees, which are based
on a percentage of franchised inns gross room sales, and initial franchise fees
which are recorded as revenue when an inn opens as a franchised unit. Total
franchise revenue for 1997 was approximately $225,000. Reservation fees and
marketing fees charged by the Company to its franchised inns (total of
approximately $12,000 and $15,000, respectively for 1997) are recorded as a
reduction of corporate and marketing expenses.
USE OF ESTIMATES - The preparation of the consolidated financial statements in
conformity with generally accepted accounting principles requires management to
make estimates and assumptions that affect the amounts reported in the
consolidated financial statements and accompanying notes. Actual results could
differ from these estimates, but it is management's opinion that any changes in
estimates would not have a material effect on the consolidated financial
statements.
SUPPLIES - Supplies inventory is stated at cost, which represents the cost to
supply the inns with their respective initial operating inventories.
Replacements needed to maintain or increase the original operating inventory are
charged to expense in the period such replacement or increase occurs.
PROPERTY AND EQUIPMENT - Property and equipment are stated at cost. Depreciation
and amortization of property and equipment is based on the straight-line method
over estimated composite useful lives that range from 3 to 15 years for
furniture, fixtures and equipment and 12 to 40 years for buildings and
improvements.
CAPITALIZATION OF DEVELOPMENT EXPENSES - Costs incurred by the Company related
to site development and acquisitions are capitalized and allocated to the
properties developed or acquired. Costs capitalized during 1995, 1996 and 1997
totaled $1,138,000, $2,162,000 and $2,385,000, respectively.
GOODWILL - The excess of the purchase price over the fair values of net assets
acquired (goodwill) is being amortized on a straight-line basis over 35 years.
Goodwill at December 28, 1996 and January 3, 1998 is net of accumulated
amortization of $6,922,000 and $9,187,000, respectively.
DEFERRED LOAN FEES AND COSTS - Deferred loan fees and costs are amortized using
the straight-line method over the terms of the loans ranging from 5 to 15 years.
Deferred loan fees and costs at December 28, 1996 and January 3, 1998 are net of
accumulated amortization of $2,958,000 and $3,571,000, respectively.
In May 1997, the Company refinanced its $150 million bank credit facility with a
$250 million bank credit facility. In connection with the refinancing, the
Company recognized an extraordinary charge against income of $746,000, net of
tax, ($.02 per share -- basic and $.03 per share -- diluted) related to the
write off of unamortized loan costs of $1,228,000.
31
32
RED ROOF INNS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
OTHER ASSETS - Other assets principally include software costs, net of
accumulated amortization using the straight-line method over a useful life of
five years, preliminary site acquisition costs, escrow deposits for furniture
replacements and investments in affiliates.
ASSET IMPAIRMENTS - Annually, or more frequently if events or circumstances
change, a determination is made by management, in accordance with Statement of
Financial Accounting Standards (SFAS) No. 121, to ascertain whether property and
equipment, goodwill, and other intangible assets have been impaired based on the
sum of estimated future undiscounted cash flows from operating activities. If
the estimated net cash flows are less than the carrying amount of such assets,
the Company recognizes an impairment loss in an amount necessary to write down
such assets to a fair value as determined from expected discounted cash flows.
During 1996, the Company recorded an impairment charge of $450,000 related to
land held for sale and a charge of $7,847,000 related to assets being disposed
in connection with its inn renewal program. During 1997, the Company recorded a
charge of $3,009,000 substantially related to assets being disposed in
connection with its inn renewal program. These amounts have been included in
special charges. (See Note 10).
Based upon its most recent analysis, the Company believes that property,
goodwill and other intangibles at January 3, 1998 are realizable and the
depreciation and amortization periods are appropriate.
INCOME TAXES - The Company is subject to federal, state and local income taxes.
Income taxes are provided for all taxable items included in the statements of
income in accordance with SFAS No. 109.
SELF-INSURANCE PROGRAMS - The Company uses a retrospective self-insurance plan
for general liability and workers' compensation. A liability has been recorded
in the financial statements based on information currently available as to the
estimated ultimate cost for incidents incurred prior to the balance sheet dates.
Losses in excess of certain limits are insured with third-party insurance
companies. Estimated payments against the insurance liability for each of the
next five years are: 1998 -- $4,157,000; 1999 -- $2,492,000; 2000 -- $1,881,000;
2001 -- $1,549,000 and 2002 -- $473,000.
ADVERTISING - The Company expenses the costs of advertising (including
production costs) the first time advertising takes place. Advertising expenses
consist of local advertising which is included in direct room expenses and
billboard and national media advertising which is included in marketing and inn
renewal program expenses. Advertising expense was $17,728,000, $17,907,000 and
$25,224,000 for 1995, 1996 and 1997, respectively.
EARNINGS PER SHARE - In 1997, the Company adopted SFAS No. 128, "Earnings Per
Share" which required retroactive adoption. The new standard simplifies the
computation of earnings per share and requires the presentation of basic and
diluted earnings per share. Basic income per share amounts are based on the
weighted average number of shares of common stock outstanding during the years
presented. Diluted income per share amounts are based on the weighted average
number of shares of common stock and stock options outstanding during the years
presented.
CASH EQUIVALENTS - Cash in excess of daily requirements is invested in money
market and government securities with maturities of three months or less. Such
investments are considered to be cash equivalents. The majority of such funds
are held by the Company's administrative agent bank. The Company has not
experienced any losses on these investments.
RECLASSIFICATIONS - Certain amounts in the prior years' financial statements
have been reclassed to conform with the 1997 presentation.
2. TRANSACTIONS WITH AFFILIATES
The Company operates two hotels under long-term capital lease agreements with
affiliated partnerships which own the hotels. Such affiliation exists because
the Company is a partner in the partnerships. The Company's ownership interests
in the operating profits and losses of such partnerships are 3% and 29%,
respectively, and ownership in the residual values of such partnerships is 73%
and 80%, respectively. The partnerships are consolidated as capital leases and
are immaterial to the consolidated financial statements.
32
33
The Company was provided certain underwriting services through an affiliate of
MSREF in connection with the Company's 1996 initial public stock offering and
obtains certain shared administrative services with unrelated parties through
master contracts available through MSREF.
3. LEASES
The Company leases certain assets used in its operations under long-term capital
leases, principally three hotels (including one with an unrelated party) and
land. These leases typically contain renewal and purchase options and expire at
various dates through 2006. The leases generally require payment of property
taxes, insurance and maintenance costs. The Company leases land, hotels, a
warehouse and billboard advertising space under noncancelable operating leases.
Land leases expire at various dates through 2034 and other leases expire at
various dates through 2019. Total operating rent expense for 1995, 1996 and 1997
was $11,269,000, $12,622,000 and $12,248,000, respectively.
Future minimum lease payments under non-cancelable leases January 3, 1998 are as
follows (in thousands):
Capital Operating
Year Leases Leases
---- ------------ ----------
1998 $1,729 $ 7,161
1999 510 3,973
2000 497 2,097
2001 359 1,383
2002 359 1,275
Thereafter 852 19,870
------ -------
Total minimum lease payments 4,306 $35,759
=======
Less amount representing interest 823
------
Present value of minimum lease payments 3,483
Less current maturities 1,526
------
Total non-current $1,957
======
The following is a summary of property and equipment under capital leases (in
thousands):
December 28, January 3,
1996 1998
------------ ----------
Land $1,220 $1,220
Buildings 3,251 3,251
------ ------
Total 4,471 4,471
Less accumulated depreciated and amortization 999 1,328
------ ------
Property and equipment under capital
leases -- net $3,472 $3,143
====== ======
33
34
RED ROOF INNS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
4. MORTGAGE NOTES AND BANK FACILITY
December 28, January 3,
1996 1998
------------ ----------
(in thousands)
Mortgage notes, weighted average fixed interest rates of
10.0% at December 28, 1996 and 10.1% at January 3, 1998,
monthly payments of principal and interest due through
January 2009 $202,035 $170,057
Mortgage notes, weighted average variable interest rates of
7.0% at December 28, 1996 and 6.9% at January 3, 1998,
interest adjustable at intervals from one month to six
years, varying monthly payments of principal and interest
due through January 2000 14,231 12,300
Bank facility, weighted average variable interest rates of
7.6% at December 28, 1996 and 7.7% at January 3, 1998 due
May 2002 76,150 165,365
-------- --------
Total 292,416 347,722
Less current maturities 10,521 10,472
-------- --------
Total mortgage notes and bank facility (less
current maturities) $281,895 $337,250
======== ========
Principal payments due for each of the next five years are: 1998 -- $10,472,000;
1999 -- $23,381,000; 2000 -- $20,437,000; 2001 -- $27,477,000; and
2002 -- $199,652,000.
In May 1997, the Company refinanced its $150 million bank credit facility with a
$250 million bank credit facility. The available borrowing commitment declines
to $245 million in March 2000 and periodically declines thereafter to $150
million at the May 2002 maturity date. Borrowings under the bank credit facility
bear interest at either LIBOR plus tiered spreads based upon the Company's
leverage ratios or the administrative agent's prime rate. The bank credit
facility also contains various covenants that include restrictions on the
incurrence of additional debt, stock repurchase and the payment of dividends
which are similar to the covenants related to the senior unsecured notes. The
bank credit facility contains events of default. Both the covenants and events
of default are customary for financing of similar size and nature, including a
change in control of the Company.
Notes payable and the bank credit facility are collateralized by certain
property and equipment with a net book value totaling $380,000,000 and
$470,000,000 at December 28, 1996 and January 3, 1998, respectively.
As of January 3, 1998, the Company has $4,323,000 in standby letters of credit
from banks, expiring at various dates through December 2005.
5. SENIOR UNSECURED NOTES
In December 1993, the Company issued $200,000,000 of senior unsecured notes (the
"Notes") due 2003. The Notes bear interest at 9-5/8% payable semi-annually. The
Notes contain covenants that include restrictions on the incurrence of
additional debt, stock repurchase and the payment of dividends. At January 3,
1998, $186,170,000 is available for restricted payments under the terms of the
Notes of which $49,566,000 is available from retained earnings.
The Notes are not redeemable by the Company until December 15, 1998 when they
become redeemable at 104.813% of their principal amount, declining ratably to
par on and after December 15, 2000, plus accrued interest.
6. STOCKHOLDERS' EQUITY
During 1995, the Company's stockholders made a capital contribution of
$18,000,000 to provide funds for inn acquisitions. On January 31, 1996, the
Company issued 10,000,000 shares of common stock in an initial public offering
(the "Offering") at a price of $16.00 per share. Net proceeds of the Offering
were approximately $149 million which were used to repay approximately $128
million of mortgage
34
35
indebtedness. Approximately $21 million was retained for inn acquisitions,
conversions, new development and for general corporate purposes.
In connection with the Offering, $9.6 million in underwriting discounts and
commissions were paid to certain underwriters, including an affiliate of MSREF.
In August 1996, the Company repurchased 500,000 shares of its common stock in
the open market for an aggregate purchase price of $6,476,000, or $12.95 per
share. During the fourth quarter of 1997, the Company purchased 500,000 shares
of its common stock in the open market for an aggregate purchase price of
$7,976,000, or $15.95 per share. The shares were placed in treasury and will be
used to fulfill the Company's requirements for its stock option and stock
purchase plans.
7. EMPLOYEE AND DIRECTOR STOCK PLANS
In March 1995, the Company adopted a non-qualified Management Stock Option Plan
for certain officers and employees effective as of December 29, 1994. In
December 1995, the Company's Board of Directors adopted the Amended and Restated
1994 Management Equity Incentive Plan (the "Plan"). The Plan is overseen by the
Compensation Committee appointed by the Board of Directors, which is comprised
of not less than two directors who are not officers or employees of the Company.
Under the terms of the Plan, awards may be granted in the form of: (i) incentive
stock options, which are intended to qualify under Sec. 422 of the Internal
Revenue Code of 1986, as amended; (ii) stock options which are not intended to
so qualify; (iii) shares of the Company's common stock which will be subject to
certain conditions and restrictions ("restricted shares"); or (iv) performance
units ("performance units"), which represent the right to receive an amount
equal to the value related to the performance units awarded, such as the fair
market value of a share of common stock. Awards may be granted by the committee
at its discretion to key employees (including officers and directors who are
employees) of the Company. The Plan generally provides that the number of shares
of common stock with respect to which options, restricted shares and performance
units may be granted to any individual employee may not exceed 400,000 during
any single fiscal year. The aggregate number of shares of common stock which may
be issued under the Plan is 2,400,000 provided that in no event shall more than
10% of the shares of common stock authorized for issuance under the Plan be
granted in the form of awards other than options.
Generally, each option will have a term ending 10 years from the date of grant.
Each option will vest and become exercisable on such date or dates and on the
basis of other criteria, including without limitation the performance of the
Company, as the committee may determine at its discretion and as shall be
specified in the option agreement evidencing the grant of such options. The
option price is determined by the committee at the time of the grant and may not
be less than the fair market value of the shares of common stock on the date of
grant (exclusive of the options granted in 1994, which were issued at less than
fair market value at the time of the grant.) Options granted in 1995, 1996 and
1997 vest at the rate of 25% per year.
In October 1995, the Company adopted the 1995 Director Stock Option Plan for
directors who are not officers or employees of the Company. The plan is
administered by a committee of not less than two directors appointed by the
Board of Directors. Any eligible director is automatically granted an initial
option to purchase 10,000 shares. Subsequently, following each annual meeting of
the stockholders of the Company, each eligible director shall be granted an
option to purchase 1,000 shares. The initial option to purchase 10,000 shares
vests in equal amounts over a five-year period and future grants vest
immediately. The exercise price of the options is based on the fair market value
of the common stock on the last trading day prior to the date on which the
option is granted. All options expire 10 years after the date of grant. The
Company has reserved 60,000 shares under the Plan and in 1996 and 1997, granted
options to purchase 10,000 and 22,000 shares, respectively.
35
36
RED ROOF INNS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
The following table summarizes option activity for the years presented:
Number Weighted Average
of Shares Exercise Price
--------- ----------------
Outstanding December 31,
1994 410,500 $ 5.43
Granted 408,200 13.27
Cancelled (176,000) 8.69
--------- ------
Outstanding December 30,
1995 642,700 9.52
Granted 760,900 14.74
Exercised (14,175) 6.12
Canceled (117,925) 5.92
--------- ------
Outstanding December 28,
1996 1,271,500 13.02
Granted 521,000 15.73
Exercised (152,275) 8.88
Canceled (191,525) 14.71
--------- ------
Outstanding January 3, 1998 1,448,700 $14.21
========= ======
At December 30, 1995, December 28, 1996 and January 3, 1998, options exercisable
under the Company's stock option plans totaled 210,550; 518,149 and 734,640
shares, respectively, and had a weighted average option price per share of
$7.66, $11.51 and $13.01, respectively. For options outstanding at January 3,
1998, 124,750, 430,555, and 179,335 shares are exercisable at a weighted average
exercise price of $5.43, $13.91, and $16.11, respectively. The weighted average
remaining contractual life of these options is 6.0, 8.3, and 8.3 years,
respectively.
At January 3, 1998, 844,850 shares are available for future grants of stock
options.
During 1995, 1996 and 1997, the Company recognized compensation expense in
corporate expenses of $488,000, $339,000 and $281,000 respectively, related to
the granting of options in 1994 at less than fair market value at the date of
grant. Grants in 1995, 1996 and 1997 were issued at fair market value.
SFAS No. 123, "Accounting for Stock-Based Compensation," defines a fair value
method of accounting for stock options and similar equity instruments. Under the
fair value method, compensation cost is measured at the grant date based on the
fair value of the award and is recognized over the service period, which is
usually the vesting period. Companies are encouraged, but not required, to adopt
the fair value method of accounting for employee stock-based transactions.
Companies are also permitted to continue to account for such transactions under
Accounting Principles Board Opinion (APB) No. 25, "Accounting for Stock Issued
to Employees," but are required to disclose in a note to the financial
statements pro forma net income and earnings per share as if the company had
applied the new method of accounting. The Company applies APB No. 25 in
accounting for its stock-based compensation plans. Had compensation cost been
36
37
determined on the basis of fair value pursuant to SFAS No. 123, for options
granted in 1995, 1996 and 1997, net income and earnings per share would have
been as follows (in thousands, except per share amounts):
1995 1996 1997
------- ------- -------
Net income
As reported $18,322 $24,064 $25,358
======= ======= =======
Pro forma $18,107 $22,710 $23,940
======= ======= =======
Basic earnings per share
As reported $ 1.00 $ .88 $ .91
======= ======= =======
Pro forma $ .98 $ .83 $ .86
======= ======= =======
Diluted earnings per
share
As reported $ .99 $ .87 $ .90
======= ======= =======
Pro forma $ .98 $ .82 $ .85
======= ======= =======
The following weighted average assumptions were used in the option pricing
model: a risk free interest rate of 7.7%, 6.7% and 6.8% for 1995, 1996 and 1997,
respectively; an expected life of the options of 7.5 years; no expected dividend
yield and a volatility factor of .25 for 1995 and 1996 and volatility factor of
.26 for 1997. The weighted average per share fair value of the options granted
in 1995, 1996 and 1997 was $6.91, $6.59 and $7.40, respectively.
Due to the inclusion of only 1995, 1996 and 1997 option grants, the effects of
applying SFAS No. 123 in 1995, 1996 and 1997 may not be representative of the
pro forma impact in future years.
8. EMPLOYEE STOCK PURCHASE PLAN
In February 1998, the Company's Board of Directors adopted the Company's Amended
and Restated 1996 Employee Stock Purchase Plan (the "Stock Purchase Plan") which
is intended to qualify under Sec. 423 of the Internal Revenue Code. The purpose
of the Stock Purchase Plan is to provide employees of the Company with an
opportunity to acquire or increase a proprietary interest in the Company by
applying payroll deductions or contributions to the purchase of shares of the
Company's common stock. All employees of the Company are eligible to participate
in the Stock Purchase Plan. The purchase price is 85% of the fair market value
of the Company's common stock at the beginning of the contribution period, which
begins on the last Sunday of January and ends on the last Saturday of the
following January of each year or, if less, 85% of such fair market value on the
last day of the contribution period. The Stock Purchase Plan allows employees to
purchase shares through contribution or payroll deductions of up to 10% of base
pay, and provides that no employee may purchase in any calendar year shares
having a value (determined at the time the right to purchase is granted) in
excess of $25,000. The aggregate number of shares of common stock reserved for
purchase under the stock purchase plan is 300,000. Such shares may be either
authorized by unissued shares or issued shares reacquired by the Company and
held as treasury shares.
In January 1997, the Company sold 48,647 shares of common stock out of treasury
to employees at $12.64 per share for the 1996 plan year and in January 1998,
sold 34,916 shares of common stock out of treasury to employees at $15.19 per
share for the 1997 plan year. The weighted average per share fair value of the
shares issued in 1997 and 1998 was $3.26 and $3.87, respectively.
9. RETIREMENT PLANS
The Company has a defined benefit pension plan (the "Pension Plan") covering all
employees except seasonal employees. The benefits are based on years of service,
final average compensation and final average compensation in excess of average
social security covered compensation at retirement. The Company's funding policy
was to contribute annually at least the minimum amount required under the
funding standards of ERISA. Pension Plan assets are held by a bank trust company
and are invested primarily in cash equivalents and fixed income investments. On
December 28, 1996, the Company froze the Pension Plan which decreased the
Company's projected benefit obligations by $2,500,000 and resulted in a
curtailment gain of $286,000. During 1997, the Company terminated the Pension
Plan, subject
37
38
RED ROOF INNS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
to receipt of appropriate regulatory approvals. Earned benefits through the date
the Pension Plan was frozen are expected to be paid to employees during 1998, at
which time a final settlement cost of approximately $1,600,000 will be paid by
the Company.
The weighted-average discount rate used in determining the actuarial present
value of the projected benefit obligation was 7.25% and 6.11% at December 28,
1996 and January 3, 1998, respectively. The decrease in the discount rate for
1997 reflects the interest rate that will be used to determine lump sum payments
for the Pension Plan termination. The rate of increase in future compensation
was 5% and the expected long-term rate of return on assets was 9% for 1996.
The following table sets forth the Pension Plan's funded status as of December
28, 1996, and January 3, 1998 and amounts recognized in the financial statements
(in thousands):
December 28, January 3,
1996 1998
------------ ----------
Actuarial present value of benefit
obligations:
Vested benefit obligation $ 8,005 $ 10,818
======== ========
Accumulated benefit obligation $ 8,313 $ 10,818
======== ========
Projected benefit obligation $ (8,313) $(10,818)
Pension Plan assets at fair value 7,753 9,273
-------- --------
Pension Plan assets less than
projected benefit obligation
at November 30 (560) (1,545)
Unrecognized net loss 1,078
Pension income accrual for December 7 8
-------- --------
Pension liability at end of
year $ (553) $ (459)
======== ========
1995 1996 1997
------------ ------------ ----------
Components of pension cost:
Service cost $ 545 $ 736
Interest cost 475 588 $ 581
Actual return on plan assets (373) (543) (675)
Net amortization and deferral (5) 52
Curtailment gain (286)
-------- -------- --------
Pension cost (credit) $ 642 $ 547 $ (94)
======== ======== ========
In addition to the Pension Plan described above, the Board of Directors agreed
to establish a supplementary pension plan for its President and Chief Executive
Officer. Accordingly, the Company has an additional accrued liability of $85,000
and $131,000 as of December 28, 1996 and January 3, 1998, respectively, related
to such supplementary plan.
In July 1997, the Board of Directors adopted the Company's 401(k) Savings Plan
(the "Savings Plan") which qualifies under Section 401(a) of the Internal
Revenue Code. The purpose of the Savings Plan is to encourage current employees
to save funds for retirement, attract new employees and retain current
employees. All Company employees with one year of service who meet certain other
minimum age and hours of service requirements are eligible to participate in the
Savings Plan. The Savings Plan allows employees to deduct up to 15% of their
base and bonus pay, subject to various limitations required by the I.R.S. The
Company matched 25% of employee contributions up to 6% of base and bonus pay in
1997 and may or may not, at its sole discretion match this or other amounts in
the future. The 1997 expense related to this plan was approximately $171,000.
The Company adopted a Deferred Compensation Plan and Executive Deferred
Compensation Plan (the "Compensation Plans") effective February 1, 1998 to
provide a tax deferred accumulation opportunity to a select group of management
employees through deferrals of cash compensation and company related
contributions. Participants in the Compensation Plans may contribute 1% to 15%
of their base
38
39
annual salary which, when added to their Savings Plan deferral, does not exceed
the dollar limitation in effect under Internal Revenue Service Code Section
402(g). Participants in the Executive Deferred Compensation portion of the
Compensation Plans may contribute up to 50% and 100% of their base salary and
bonus, respectively.
10. SPECIAL CHARGES
The following special charges were incurred by the Company during the years
presented (in thousands):
1995 1996 1997
------- ------- -------
Severance compensation $ 3,142 $ 1,421
Asset impairment
charge $ 450
Inn renewal program 10,398 14,066
------- ------- -------
Total special
charges $ 3,142 $10,848 $15,487
======= ======= =======
On June 30, 1995, the Company appointed Francis W. Cash to the position of
President, Chief Executive Officer and Director succeeding Jack Van Fossen who
had retired. In addition, on June 30, 1995, the Executive Vice President and
Chief Financial Officer; Vice President, General Counsel and Secretary; and Vice
President and Corporate Counsel terminated their employment with the Company and
received severance benefits provided under their respective employment
agreements. Accordingly, the Company recorded an expense of $3,142,000 for such
severance benefits and certain expenses associated with the employment of new
executive officers.
During 1996, the Company recorded an impairment charge of $450,000, in
accordance with SFAS No. 121, related to land held for sale.
In 1996, the Company commenced Project BIG RED, a chainwide property renewal
program that refurbished and enhanced both the interior decor and exterior of
approximately 85% of the Company's inns and provided additional room amenities
and services for guests. Included in the program are expenditures to update
guest rooms with new carpet, wallcovering, furniture, bedspreads and drapes.
Improvements to the exterior of the properties include painting, new signs,
improved lighting and additional landscaping. The expanded program is expected
to be completed in the second quarter of 1998 at a total cost of approximately
$68 million. In 1997 and 1996, the Company incurred expenditures of $50,031,000
and $10,745,000, respectively, related to this program of which $38,134,000 and
$8,095,000 was capitalized and $11,679,000 and $2,551,000 was expensed,
respectively. In addition, the Company recognized charges of $2,387,000 and
$7,847,000 in 1997 and 1996, respectively, related to early asset retirements in
connection with the program.
In the second half of 1977, the Company commissioned a task force to perform a
thorough examination of its corporate structure and processes to increase
productivity and reduce costs in relation to its strategic growth plans
("re-engineering program"). Among the task force recommendations implemented
were (i) the elimination of repetitive processes and increased utilization of
its corporate resources through the consolidation of selected corporate
departments, (ii) redirected corporate resources toward the franchise program
and corporate sales group, and (iii) measures undertaken to increase hotel
operating efficiencies. The Company took a fourth quarter charge to income of
$1,421,000 related to severance expenses associated with the re-engineering
program.
39
40
RED ROOF INNS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
11. INCOME TAXES
The components of the provision for income taxes consist of the following (in
thousands):
1995 1996 1997
------------ ------------ ----------
Federal:
Current $ 8,340 $ 9,304 $ 9,326
Deferred 1,612 3,660 4,903
------- ------- -------
Total federal 9,952 12,964 14,229
------- ------- -------
State and local:
Current 1,721 2,220 585
Deferred 843 428 1,805
------- ------- -------
Total state and local 2,564 2,648 2,390
------- ------- -------
Total $12,516 $15,612 $16,619
======= ======= =======
Effective tax rate 40.6% 39.4% 38.9%
======= ======= =======
The effective tax rate differs from the statutory rate as follows:
Statutory rate 35.0% 35.0% 35.0%
State and local taxes, net of
federal tax effect 5.4 4.3 3.6
Other .2 0.1 .3
------- ------- -------
Total 40.6% 39.4% 38.9%
======= ======= =======
The tax effects of significant items comprising the Company's net deferred tax
balances are as follows (in thousands):
December 28, January 3,
1996 1998
------------ ----------
Deferred tax assets:
Self-insured expenses $ 4,340 $ 4,444
Capital lease obligations 1,007 897
Other expense accruals 1,841 2,341
------- -------
Total deferred tax assets 7,188 7,682
------- -------
Deferred tax liabilities:
Goodwill and basis of assets
acquired 11,308 11,504
Excess tax over book
depreciation and amortization 2,787 9,793
------- -------
Total deferred tax
liabilities 14,095 21,297
------- -------
Net deferred tax liability $ 6,907 $13,615
======= =======
12. COMMITMENTS AND CONTINGENCIES
The Company is involved in various claims and legal proceedings arising from the
normal course of business. While the ultimate liability, if any, from these
proceedings is presently indeterminable, in the opinion of management, these
matters should not have a material adverse effect on the consolidated financial
statements of the Company.
40
41
13. FAIR VALUE OF FINANCIAL INSTRUMENTS
The estimated fair values of financial instruments disclosed below as of
December 28, 1996 and January 3, 1998 were determined using available market
information and appropriate valuation methodologies. However, considerable
judgment is required to interpret market data to develop the estimates of fair
value. Accordingly, the estimates presented may not be indicative of the amounts
the Company could realize in a current market exchange. The use of different
market assumptions and/or estimation methodologies could have a significant
effect on the estimated fair value amounts.
The following methods and assumptions were used to estimate the fair value of
financial instruments; (i) mortgage notes -- the estimated fair value is based
on current rates and payment terms offered to the Company and (ii) senior
unsecured notes -- the estimated fair value is based upon a quoted published
market price (in thousands):
Carrying Value Estimated Fair Value
------------------------- -------------------------
December 28, January 3, December 28, January 3,
1996 1998 1996 1998
------------ ---------- ------------ ----------
Mortgage notes and bank
facility $292,416 $347,722 $307,000 $361,000
Senior unsecured notes 200,000 200,000 199,000 208,000
14. SELECTED QUARTERLY FINANCIAL DATA (UNAUDITED)
First Second Third Fourth Full
Quarter Quarter Quarter Quarter Year
-------- -------- -------- -------- --------
(in thousands, except per share amounts)
1996
Revenues $ 68,073 $ 83,793 $ 92,535 $ 73,036 $317,437
Operating income 9,237(1) 28,961 33,563 8,827(2) 80,588(1)(2)
Net income (loss) (1,311)(1) 11,387 14,029 (41)(2) 24,064(1)(2)
Net income (loss) per share:
Basic (0.05)(1) 0.40 0.50 --(2) 0.88(1)(2)
Diluted (0.05)(1) 0.40 0.50 --(2) 0.87(1)(2)
1997
Revenues $ 72,694 $ 92,256 $ 99,661 $ 86,564 $351,175
Operating income 5,350(3) 27,250 35,841(3) 19,534(3) 87,975(3)(4)
Income (loss) before extraordinary item (3,562)(3) 9,713(3)(4) 14,952(3) 5,001(3) 26,104(3)(4)
Extraordinary loss (746)(4) (746)(4)
Net income (loss) (3,562)(3) 8,967(3)(4) 14,952(3) 5,001(3) 25,358(3)(4)
Income (loss) per share before
extraordinary item:
Basic (0.13)(3) 0.35(3) 0.53(3) 0.18(3) 0.93(3)
Diluted (0.13)(3) 0.35(3) 0.53(3) 0.18(3) 0.93(3)
Extraordinary loss per share:
Basic (0.03)(4) (0.02)(4)
Diluted (0.03)(4) (0.03)(4)
Net income (loss) per share:
Basic (0.13)(3) 0.32(3)(4) 0.53(3) 0.18(3) 0.91(3)(4)
Diluted (0.13)(3) 0.32(3)(4) 0.53(3) 0.18(3) 0.90(3)(4)
(1) Operating income was reduced and net income (loss) was affected by a special
charge related to a SFAS No. 121 adjustment to recognize impairment of fixed
assets of $450 and $269 ($.01 per share -- basic and diluted), respectively.
(2) Operating income and net income was reduced by a special charge related to
the inn renewal program of $10,398 and $6,212 ($.23 per share -- basic and
diluted), respectively.
41
42
RED ROOF INNS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(3) Operating income, income before extraordinary item and net income were
reduced by special charges related to the inn renewal program as follows:
first quarter -- $4,771 and $2,899 ($.10 per share -- basic and diluted);
second quarter -- $4,770 and $2,897 ($.10 per share -- basic and diluted);
third quarter -- $2,333 and $1,417 ($.05 per share -- basic and diluted);
fourth quarter -- $2,192 and $1,381 ($.05 per share -- basic and diluted),
and full year -- $14,066 and $8,594 ($.31 per share -- basic and $.30 per
share -- basic and diluted), respectively.
(4) Net income was reduced by and extraordinary charge of $746, net of tax,
($.02 per share basic and $.03 per share -- diluted) related to the
write-off of unamortized loan costs on the refinancing of the Company's bank
credit facility.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None
42
43
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS
The information in the proxy statement for the Company's 1998 annual meeting of
stockholders under the headings "Election of Directors", "Compensation of
Directors", "Executive Officers" and "Compliance With Section 16 (a) of The
Exchange Act" is incorporated herein by reference.
ITEM 11. EXECUTIVE COMPENSATION
The information in the proxy statement for the Company's 1998 annual meeting of
stockholders under the heading "Executive Compensation" is incorporated herein
by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information in the proxy statement for the Company's 1998 annual meeting of
stockholders under the heading "Voting Securities and Principal Holders Thereof"
is incorporated herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information in the proxy statement for the Company's 1998 annual meeting of
stockholders under the headings "Election of Directors," "Compensation Committee
Interlocks and Insider Participation" and "Certain Relationships and Related
Transactions" is incorporated herein by reference.
ITEM 14. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
(a) The following documents are filed as part of this report:
(1) Financial Statements
- Independent Auditors' Report on the Company.
- Consolidated Balance Sheets of the Company as of December
28, 1996 and January 3, 1998.
- Consolidated Statements of Income of the Company for the
years ended December 30, 1995, December 28, 1996 and January
3, 1998.
- Consolidated Statements of Stockholders' Equity of the
Company for the years ended December 30, 1995, December 28,
1996 and January 3, 1998.
- Consolidated Statements of Cash Flows of the Company for
the years ended December 30, 1995, December 28, 1996 and
January 3, 1998.
- Notes to Consolidated Financial Statements of the Company.
(2) Financial Statement Schedules
The financial statement schedules listed below are included
in the pages following.
- Financial Statement Schedule II, Valuation and Qualifying
Accounts, for the years ended December 30, 1995, December
28, 1996 and January 3, 1998.
Schedules other than those mentioned above are omitted
because the conditions requiring their inclusion in this
document do not exist or because the information is given
in the financial statements or notes thereto.
43
44
(3) The following exhibits are filed as a part of this report:
2.1 The Merger Agreement dated as of August 12, 1993, as
amended, among the Company, MSREF and the Trueman Trust
(incorporated by reference to Exhibit 2.01 to the Company's
Registration Statement on Form S-1, File No. 33-76848).
3.01 Amended and Restated Certificate of Incorporation of the
Company (incorporated by reference to Exhibit 3.01 to the
Company's Annual Report on Form 10-K for the fiscal year
ended December 30, 1995).
3.02 Form of Amended and Restated Bylaws of the Company
(incorporated by reference to Exhibit 3.02 to the Company's
Registration Statement on Form S-1, File No. 33-97914).
4.01 Form of certificate representing shares of Common stock, par
value $.01 per share (incorporated by reference to Exhibit
4.01 to the Company's Registration Statement on Form S-1,
File No.(33-97914).
10.01 Indenture, dated as of December 17, 1993, from the Company
to The Bank of New York, as Trustee (incorporated by
reference to Exhibit 4.02 to the Company's Annual Report on
Form 10-K for the fiscal year ended December 31, 1994).
*10.02 Employment Agreements between the Company and Messrs.
Campbell and Tallis (incorporated by reference to Exhibit
10.02 to the Company's Annual Report on Form 10-K for the
fiscal year ended December 31, 1994).
*10.03 Employment Agreement between the Company and Mr. Cash
(incorporated by reference to Exhibit 10 to the Company's
Quarterly Report on Form 10-Q for the 26 weeks ended July 1,
1995).
10.04 Loan Agreement, dated as of November 9, 1995, between the
Company and Huntington National Bank and a bank group
(incorporated by reference to Exhibit 10.1 to the Company's
Quarterly Report on Form 10-Q for the 39 weeks ended
September 30, 1995).
10.05 First, Second and Third Amendments dated November 21, 1995,
December 12, 1995 and April 6, 1996, respectively, to Loan
Agreement, dated as of November 9, 1995, between the Company
and Huntington National Bank and a bank group (incorporated
by reference to Exhibits 10.01, 10.02 and 10.03 to the
Company's Quarterly Report on Form 10-Q for the 13 weeks
ended March 30, 1996).
10.06 Fourth Amendment dated June 27, 1996 to Loan Agreement,
dated as of November 9, 1995, between the Company and
Huntington National Bank and a bank group (incorporated by
reference to Exhibit 10.01 to the Company's Quarterly Report
of Form 10-Q for the 26 weeks ended June 29, 1996).
*10.07 1995 Director Stock Option Plan (incorporated by reference
to Exhibit 10.02 to the Company's Quarterly Report on Form
10-Q for the 39 weeks ended September 30, 1995).
10.08 Shareholders Agreement among the Company and all its
shareholders, dated as of April 6, 1994 (incorporated by
reference to Exhibit 10.07 to the Company's Registration
Statement on Form S-1, File No. 33-97914).
10.09 Amendment No. 1 to Shareholders Agreement among the Company
and all its shareholders (incorporated by reference to
Exhibit 10.07 to the Company's Annual Report on Form 10-K
for the fiscal year ended December 30, 1995).
*10.10 Form of 1996 Employee Stock Purchase Plan (incorporated by
reference to Exhibit 10.09 to the Company's Registration
Statement on Form S-1, File No. 33-97914).
*10.11 Form of Amended and Restated 1994 Management Equity
Incentive Plan (incorporated by reference to Exhibit 10.10
to the Company's Registration Statement on Form S-1, File
No. 33-97914).
*10.12 Employment Agreement between the Company and Mr. Chichester
(incorporated by reference to Exhibit 10.11 to the Company's
Annual Report on Form 10-K for the fiscal year ended
December 30, 1995).
*10.13 1996 Management Incentive Compensation Plan (incorporated by
reference to Exhibit 10.04 to the Company's Quarterly Report
of Form 10-Q for the 13 weeks ended March 30, 1996).
*10.14 Amended and Restated Credit Agreement, dated May 21, 1997,
between the Company and The Huntington National Bank and a
bank group (incorporated by reference to Form 8-K dated June
30, 1997).
11.01 Statement re computation of per share earnings.
44
45
12.01 Statement re computation of ratios.
23.00 Consent of Deloitte & Touche LLP.
24.00-24.06 Directors and Officers Powers of Attorney
* Executive plans and arrangements required to be filed pursuant to Item 601 (b)
(10) of Regulation S-K.
(b) Reports on Form 8-K:
No reports on Form 8-K were filed for the last quarter of the
reporting period.
(c) Exhibits:
The exhibits are submitted following the signatures.
(d) Financial Statement Schedules:
The financial statement schedules and the independent auditor's
report thereon are submitted following the signatures.
45
46
SIGNATURES
Pursuant to the requirements of Section 13 or 15 (d) of the Securities Exchange
Act of 1934, Red Roof Inns, Inc. has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized, on this 24th day of March
1998.
RED ROOF INNS, INC.
By /s/ FRANCIS W. CASH
--------------------------------------
Name: Francis W. Cash
Title: Chairman of the Board,
President,
Chief Executive Officer and
Director
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed by the following persons on behalf of Red Roof Inns, Inc. and in
the capacities and on the dates indicated.
Signature Title Date
--------- ----- ----
/s/ FRANCIS W. CASH Chairman of the Board, President, March 24, 1998
- -------------------------- Chief Executive Officer and Director
Francis W. Cash
/s/ DAVID N. CHICHESTER Executive Vice President, March 24, 1998
- -------------------------- Chief Financial Officer and Director
David N. Chichester
/s/ ROBERT M. HARSHBARGER Senior Vice President, March 24, 1998
- -------------------------- Controller and Chief Accounting Officer
Robert M. Harshbarger
* Director March 24, 1998
- --------------------------
James M. Allwin
* Director March 24, 1998
- --------------------------
Thomas E. Dobrowski
* Director March 24, 1998
- --------------------------
John A. Henry
* Director March 24, 1998
- --------------------------
William M. Lewis, Jr.
* Director March 24, 1998
- --------------------------
Edward D. Powers
* Director March 24, 1998
- --------------------------
Judith A. Rogala
* Director March 24, 1998
- --------------------------
Owen D. Thomas
*By /s/ DAVID N. CHICHESTER
-----------------------
David N. Chichester
Attorney-in-Fact
46
47
SCHEDULE II
RED ROOF INNS, INC. AND SUBSIDIARIES
CONSOLIDATED VALUATION AND QUALIFYING ACCOUNTS
(in thousands)
Balance at Charged to Charged Deductions Balance
Beginning Costs and to Other from at End
Description of Period Expenses Accounts Reserves of Period
----------- ---------- ---------- -------- ---------- ---------
YEAR ENDED JANUARY 3, 1998
Allowance for doubtful accounts $ 420 $ 477 $ $(246)(1) $ 651
===== ===== ===== ===== =====
YEAR ENDED DECEMBER 28, 1996
Allowance for doubtful accounts $ 490 $ 368 $ $(438)(1) $ 420
===== ===== ===== ===== =====
YEAR ENDED DECEMBER 30, 1995
Allowance for doubtful accounts $ 259 $ 467 $ $(236)(1) $ 490
===== ===== ===== ===== =====
(1) Uncollectible accounts written off, net of amounts recovered.
47
48
INDEPENDENT AUDITORS' REPORT ON FINANCIAL STATEMENT SCHEDULES
The Board of Directors and Stockholders of
Red Roof Inns, Inc.
We have audited the consolidated financial statements of Red Roof Inns, Inc. and
its subsidiaries as of December 28, 1996 and January 3, 1998, and for each of
the three years in the period ended January 3, 1998, and have issued our report
thereon dated February 16, 1998; such report is included elsewhere in this Form
10-K. Our audits also included the consolidated financial statement schedules of
Red Roof Inns, Inc. and its subsidiaries, listed in Item 14. These consolidated
financial statement schedules are the responsibility of the Company's
management. Our responsibility is to express an opinion based on our audits. In
our opinion, such consolidated financial statement schedules, when considered in
relation to the basic consolidated financial statements taken as a whole,
present fairly in all material respects the information set forth therein.
/s/ Deloitte & Touche LLP
DELOITTE & TOUCHE LLP
Columbus, Ohio
February 16, 1998
48
49
EXHIBIT INDEX
Exhibit
No. Description
--- -----------
11.01 Statement re computation of per share earnings
12.01 Statement re computation of ratios.
23.00 Consent of Deloitte & Touche LLP
24.00-24.06 Directors and Officers Powers of Attorney
49