<PAGE>
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTER ENDED JUNE 30, 1999 COMMISSION FILE NO. 1-11915
SUNBURST HOSPITALITY CORPORATION
10770 COLUMBIA PIKE
SILVER SPRING, MD. 20901
(301) 592-3000
Delaware 53-1985619
-------- ----------
(STATE OF INCORPORATION) (I.R.S. EMPLOYER
IDENTIFICATION NUMBER)
-------------------------------------------
(Former name, if changed since last report)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months, and (2) has been subject to such filing requirements
for the past 90 days.
Yes X No ___
-
SHARES OUTSTANDING
CLASS AT JUNE 30, 1999
----- ----------------
Common Stock, $0.01
par value per share 19,078,000
----------
1
<PAGE>
SUNBURST HOSPITALITY CORPORATION
INDEX
-----
<TABLE>
<CAPTION>
PAGE NO.
-------
<S> <C>
PART I. FINANCIAL INFORMATION:
Condensed Consolidated Balance Sheets -
June 30, 1999 (Unaudited) and December 31, 1998 3
Condensed Consolidated Statements of Income -
Three and six months ended June 30, 1999 and June 30, 1998
(Unaudited) 4
Condensed Consolidated Statements of Cash Flows -
Six months ended June 30, 1999 and June 30, 1999
(Unaudited) 5
Notes to Condensed Consolidated Financial Statements (Unaudited) 6
Management's Discussion and Analysis of Operations and
Financial Condition 9
PART II. OTHER INFORMATION 13
</TABLE>
2
<PAGE>
SUNBURST HOSPITALITY CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
<TABLE>
<CAPTION>
As of
------------------------------------------------
June 30, December 31,
1999 1998
----------------------- ---------------------
(Unaudited)
<S> <C> <C>
ASSETS
Real estate, net $ 377,057 $ 363,023
Real estate held for sale 28,085 37,122
Receivables (net of allowance for doubtful
accounts of $611 for both periods) 7,633 7,271
Other assets 10,541 10,982
Cash and cash equivalents 5,093 4,113
----------------------- ---------------------
Total assets $ 428,409 $ 422,511
======================= =====================
LIABILITIES AND STOCKHOLDERS' EQUITY
Debt $ 286,942 $ 281,189
Accounts payable, accrued expenses and other liabilities 37,370 38,685
----------------------- ---------------------
Total liabilities 324,312 319,874
Total stockholders' equity 104,097 102,637
----------------------- ---------------------
Total liabilities and stockholders' equity $ 428,409 $ 422,511
======================= =====================
</TABLE>
The accompanying notes are an integral part of these Condensed
Consolidated Balance Sheets.
3
<PAGE>
SUNBURST HOSPITALITY CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
(Unaudited)
<TABLE>
<CAPTION>
For the three months ended For the six months ended
June 30, June 30,
----------------------------------------------------------------
1999 1998 1999 1998
--------------- -------------- -------------- ------------
<S> <C> <C> <C> <C>
REVENUES
Rooms $ 49,240 $ 47,691 $ 93,392 $ 87,673
Food and beverage 4,434 4,432 8,500 8,540
Other 2,032 2,317 4,085 4,366
-------------- ------------- ------------- ------------
Total revenues 55,706 54,440 105,977 100,579
-------------- ------------- ------------- ------------
OPERATING EXPENSES
Departmental expenses 18,425 17,683 34,335 32,847
Undistributed operating expenses 16,686 16,211 33,550 31,173
Depreciation and amortization 6,521 7,324 12,816 13,706
Corporate 2,462 4,028 5,129 7,492
-------------- ------------- ------------- ------------
Total operating expenses 44,094 45,246 85,830 85,218
-------------- ------------- ------------- ------------
OPERATING INCOME 11,612 9,194 20,147 15,361
-------------- ------------- ------------- ------------
Interest expense 6,211 5,232 12,234 10,175
-------------- ------------- ------------- ------------
INCOME BEFORE INCOME TAXES,
EXTRAORDINARY LOSS AND CUMULATIVE EFFECT
OF A CHANGE IN ACCOUNTING PRINCIPLE 5,401 3,962 7,913 5,186
Income taxes 2,176 1,604 3,181 2,120
-------------- ------------- ------------- ------------
INCOME BEFORE EXTRAORDINARY LOSS AND
CUMULATIVE EFFECT OF A CHANGE IN ACCOUNTING
PRINCIPLE 3,225 2,358 4,732 3,066
Extraordinary loss from early debt
redemption, net of $213 and $255 tax benefit, 336 - 433 -
respectively
Cumulative effect of a change in accounting
principle, net of $421 tax benefit - - 599 -
-------------- ------------- ------------- ------------
NET INCOME $ 2,889 $ 2,358 $ 3,700 $ 3,066
============== ============= ============= ============
Basic earnings per share
- ------------------------
Income before extraordinary loss and change in
accounting principle $ 0.17 $ 0.12 $ 0.25 $ 0.15
Extraordinary loss (0.02) - (0.03) -
Cumulative effect of a change in accounting
principle - - (0.03) -
-------------- ------------- ------------- ------------
Net income $ 0.15 $ 0.12 $ 0.19 $ 0.15
============== ============= ============= ============
Diluted earnings per share
- --------------------------
Income before extraordinary loss and change in
accounting principle $ 0.17 $ 0.12 $ 0.24 $ 0.15
Extraordinary loss (0.02) - (0.02) -
Cumulative effect of a change in accounting
principle - - (0.03) -
-------------- ------------- ------------- ------------
Net income $ 0.15 $ 0.12 $ 0.19 $ 0.15
============== ============= ============= ============
</TABLE>
4
<PAGE>
SUNBURST HOSPITALITY CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(Unaudited)
<TABLE>
<CAPTION>
For the six months ended June 30,
---------------------------------
1999 1998
---- ----
<S> <C> <C>
Operating cash flows
Income before extraordinary loss and cumulative effect
of change in accounting principle $ 4,732 $ 3,066
Non-cash items 20,054 20,426
Changes in assets and liabilities (2,418) (4,733)
-------- --------
Net cash provided by operating activities 22,368 18,759
Net cash utilized in investing activities (17,663) (32,004)
Net cash (utilized in) provided by financing activities (3,725) 13,584
-------- --------
Net change in cash and cash equivalents 980 339
Cash and cash equivalents at beginning of period 4,113 5,908
-------- --------
Cash and cash equivalents at end of period $ 5,093 $ 6,247
======== ========
</TABLE>
The accompanying notes are an integral part of these Condensed Consolidated
Statements of Cash Flows.
5
<PAGE>
SUNBURST HOSPITALITY CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 1999
(Unaudited)
The accompanying condensed consolidated financial statements of Sunburst
Hospitality Corporation and subsidiaries (the "Company") have been prepared by
the Company without audit. Certain information and footnote disclosures normally
included in financial statements presented in accordance with generally accepted
accounting principles have been condensed or omitted. The Company believes the
disclosures made are adequate to make the information presented not misleading.
The condensed consolidated financial statements should be read in conjunction
with the Company's consolidated financial statements for the year ended December
31, 1998 and notes thereto included in the Company's Form 10-K, dated March 29,
1999.
In the opinion of the Company, the accompanying unaudited condensed consolidated
financial statements reflect all adjustments (which include only normal
recurring adjustments) necessary to present fairly the financial position of the
Company as of June 30, 1999, the results of operations for the three and six
months ended June 30, 1999 and 1998, respectively, and cash flows for the six
months ended June 30, 1999 and 1998, respectively. Interim results are not
necessarily indicative of full year performance because of the impact of
seasonal and short-term variations.
On March 7, 1996, Manor Care, Inc. ("Manor Care") announced its intention to
proceed with the separation of its lodging business from its health care
business via a spin-off of its lodging business (the "Manor Care Distribution").
On September 30, 1996 the Board of Directors of Manor Care declared a special
dividend to its shareholders of one share of common stock of Choice Hotels
International, Inc. for each share of Manor Care stock, and the Board set the
Record Date and the Distribution Date. The Stock Distribution was made on
November 1, 1996 to holders of record of Manor Care's common stock on October
10, 1996.
The Manor Care Distribution separated the lodging and health care businesses of
Manor Care into two public corporations. The operations of the Company consisted
principally of the hotel franchise operations and the owned and managed hotel
operations formerly conducted by Manor Care directly or through its
subsidiaries.
On November 1, 1996, concurrent with the Manor Care Distribution, the Company
changed its name from Choice Hotels Holdings, Inc. to Choice Hotels
International, Inc. and the Company's franchising subsidiary, formerly named
Choice Hotels International, Inc., changed its name to Choice Hotels
Franchising, Inc. ("Franchising").
On April 29, 1997, the Company's Board of Directors announced its intention to
separate the Company's franchising business ("Choice Franchising Business") from
its owned hotel business. On September 16, 1997, the Board of Directors and
shareholders of the Company approved the separation of the business via a spin-
off of the franchising business, along with the Company's European hotel and
franchising operations (the "Choice Spin-Off"), to its shareholders. The Board
set October 15, 1997 as the date of distribution and on that date, Company
shareholders received one share in Franchising (renamed "Choice Hotels
International, Inc.") for every share of Company stock held on October 7, 1997
(the date of record). Concurrent with the October 15, 1997 distribution date,
the Company changed its name to Sunburst Hospitality Corporation and effected a
one-for-three reverse stock split of its common stock.
6
<PAGE>
The following table illustrates the reconciliation of net income and number of
shares used in the basic and diluted earnings per share calculations.
<TABLE>
<CAPTION>
For the three months ended For the six months ended
================================================================
(in thousands, except per share amounts) June 30, June 30,
================================================================
1999 1998 1999 1998
----------------------------------------------------------------
<S> <C> <C> <C> <C>
Computation of basic earnings per share
Income before income taxes, extraordinary
loss and cumulative effect of a change
in accounting principle $ 3,225 $ 2,358 $ 4,732 $ 3,066
Weighted average shares outstanding 19,199 19,967 19,305 19,962
----------------------------------------------------------------
Basic earnings per share from continuing
operations $ 0.17 $ 0.12 $ 0.25 $ 0.15
================================================================
Computation of diluted earnings per share
Income before income taxes, extraordinary
loss and cumulative effect of a change
in accounting principle $ 3,225 $ 2,358 $ 4,732 $ 3,066
Weighted average shares outstanding 19,199 19,967 19,305 19,962
Effect of dilutive earnings per share
Employee stock option plan 205 373 179 469
----------------------------------------------------------------
Shares for diluted earnings per share 19,404 20,340 19,484 20,431
----------------------------------------------------------------
Diluted earnings per share from continuing
operations $ 0.17 $ 0.12 $ 0.24 $ 0.15
================================================================
</TABLE>
The effect of dilutive securities is computed using the treasury stock method
and average market prices during the period. Certain options to purchase common
stock were not included in the computation of diluted earnings per share because
the exercise price of the options exceeded the average market price of the
common shares for the period. The following table summarizes such options.
<TABLE>
<CAPTION>
June 30,
----------------------------------------
1999 1998
----------------------------------------
<S> <C> <C>
Number of shares 1,923,421 562,615
Weighted average exercise price $ 7.12 $ 8.06
</TABLE>
As of June 30, 1999, the Company owned and managed 87 hotels with 11,987 rooms
in 26 states under the following brand names: Comfort, Clarion, Sleep, Quality,
MainStay, Rodeway and Econo Lodge.
At June 30, 1999, the Company has nine hotels that are currently being marketed
for sale with a carrying value of $28 million. In accordance with Statement of
Financial Accounting Standards No. 121 ("SFAS No. 121"), "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of,"
the Company has discontinued depreciating these assets while they are held for
sale. In addition, SFAS No. 121 requires that assets held for sale be reported
at the lower of the carrying amount or fair value less costs to sell. As the
Company began actively marketing these hotels, it became apparent, given current
real estate values, that certain asset carrying values exceeded estimated fair
values less costs to sell. The Company, accordingly, recognized a $4 million
asset impairment provision during 1998 to reduce the carrying value of certain
of the assets to the estimated fair value less costs to sell. The nine hotels
held for sale reported total revenues of $3.4 million and $7.5 million for the
three and six months ended June 30, 1999, and $3.6 million and $7.9 million for
the three and six months ended June 30, 1998, respectively. Income from
operations before interest, taxes, depreciation and amortization and allocations
for corporate expenses of the nine hotels was $708,000 and $2 million for the
three and six months ended June 30, 1999, and $977,000 and $2.6 million for the
three and six months ended June 30, 1998, respectively.
7
<PAGE>
The Company recognized an extraordinary loss of $336,000 and $433,000, net of
taxes, in the three and six months ended June 30, 1999, respectively. The
extraordinary loss relates to the early extinguishment of a portion of the
Company's multi-class mortgage pass-through certificates (collectively, the
"CMBS debt") associated with the sale of three of the properties collateralizing
the CMBS debt.
For purposes of providing orderly transitions after the Manor Care distribution
and the Choice Spin-Off, the Company and Franchising entered into various
agreements with Manor Care and Choice Hotels International, Inc. In December
1998, the Company and Choice Hotels International, Inc. entered into an
agreement to amend certain agreements executed at the time of the Choice Spin-
Off. The amendment effectively resolved a number of matters, including the
satisfaction of the Company's liability to Choice Hotels International, Inc.
resulting from the final allocation of assets, liabilities and equities between
the two companies. In February 1999, the Company entered into a release
agreement with Manor Care which effectively terminated all inter-company
service, consulting and lease agreements.
In April 1998, the American Institute of Certified Public Accountants issued
Statement of Position No. 98-5, "Reporting on the Costs of Start-up Activities"
(the "SOP"). The SOP was adopted by the Company effective January 1, 1999 and
required that costs related to start-up activities be expensed as incurred.
Initial application of the SOP is reflected as the cumulative effect of a change
in accounting principle in the condensed consolidated income statement for the
six months ended June 30, 1999. Also, effective January 1, 1999, new hotel pre-
opening costs, amounting to $312,000 and $635,000 during the three and six
months ended June 30, 1999, were expensed as incurred.
8
<PAGE>
SUNBURST HOSPITALITY CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF OPERATIONS AND FINANCIAL CONDITION
June 30, 1999
The Company is a national owner and operator of hotel properties with a
portfolio at June 30, 1999 of 87 hotels (11,987 rooms) in a total of 26 states.
The Company operates its hotels under the following brands: MainStay, Comfort,
Quality, Clarion, Sleep, Rodeway and Econo Lodge. The Company's continuing
business consists primarily of guest room revenue, meeting room revenue, and
food and beverage revenue from owned and operated hotels.
COMPARISON OF RESULTS FOR THE THREE MONTHS ENDED JUNE 30, 1999 AND 1998:
- ------------------------------------------------------------------------
Total revenues for the three months ended June 30, 1999 increased 2.3% to $55.7
million, compared to $54.4 million in the prior year. The increase in revenue
is primarily due to a 24.4% increase in revenue per available room for the
extended-stay segment. For the extended-stay segment, occupancy increased from
59.6% in the second quarter of the prior year to 71.5% in the second quarter of
1999 and average daily rates increased from $55.10 to $57.08, or 3.6%.
During the second quarter of 1999, hotel operating profit was level with the
prior year. Favorably impacting undistributed operating expenses were $907,000
of credits against franchise fees pursuant to an agreement with Choice Hotels
International, Inc. ("Choice"). Corporate expense amounted to $2.5 million, a
decrease of approximately $1.6 million or 38.9% from the prior year's second
quarter. Corporate expense amounted to 4.4% of total revenues during the second
quarter of 1999 as compared to 7.4% during the second quarter of the prior year.
A number of initiatives to reduce overhead resulted in the overall cost
reduction. Initiatives included corporate level staffing reductions,
consolidation of office space, sub-leasing of excess office space and
termination of various service agreements with formerly affiliated entities.
Earnings before interest, taxes, depreciation and amortization ("EBITDA")
increased 9.8%, to $18.1 million in the second quarter of 1999 from $16.5
million in the second quarter of the prior year. The Company considers EBITDA
to be an indicative measure of operating performance for its business. Such
information should not be considered an alternative to net income, operating
income, cash flow from operations or any other operating or liquidity
performance measure defined by generally accepted accounting principles. EBITDA
presented by the Company may not necessarily be comparable to EBITDA defined and
presented by other companies.
Interest expense increased 18.7% to $6.2 million in the second quarter of the
current year from $5.2 million in the second quarter of the prior year. The
increase is principally the result of additional borrowings associated with the
Company's development of hotels as well as an increase in the effective rate
utilized to accrue interest on the subordinated note payable to Choice. The
Choice note's effective rate is 10.6% if outstanding through maturity in 2002.
Notwithstanding the opening of a number of newly developed hotels during the
past year, depreciation expense decreased $803,000 or 11.0%, to $6.5 million in
the current quarter from $7.3 million in the second quarter of the prior year.
The increased depreciation expense associated with newly developed hotels was
offset by a decline in depreciation expense relative to hotels held for sale.
In accordance with Statement of Financial Accounting Standards No. 121, the
Company discontinued depreciating those assets while they are held for sale.
The nine hotels held for sale at June 30, 1999, have been reported at the lower
of the carrying amount or fair value less cost of sale. The nine hotels held
for sale have a combined book value of $28 million at June 30, 1999.
Income before income taxes, extraordinary loss and cumulative effect of a change
in accounting principle increased $1.4 million or 36.3% to $5.4 million in the
second quarter of 1999 from $4 million in the second quarter of 1998. After the
effect of an extraordinary loss from early debt redemption and cumulative effect
of a change in accounting principle, the Company reported an increase of
$531,000 or 22.5% in net income to $2.9 million for the second quarter of 1999
from $2.4 million during the prior year's second quarter. The extraordinary
loss from early debt redemption during the quarter of $336,000 (net of $213,000
tax benefit) related to the early redemption of debt collateralized by two
properties sold during the second quarter.
In accordance with the AICPA Accounting Standards Executive Committee's
Statement of Position 98-5, "Reporting on the Cost of Start-Up Activities" ("SOP
98-5"), pre-opening costs associated with properties under
9
<PAGE>
construction are expensed as incurred. Pre-opening costs incurred and expensed
during the three months ended June 30, 1999, amounting to $312,000, are included
in hotel operating expenses.
COMPARISON OF RESULTS FOR THE SIX MONTHS ENDED JUNE 30, 1999 AND 1998:
- ----------------------------------------------------------------------
Total revenues for the six months ended June 30, 1999 increased 5.4% to $106.0
million, compared to $100.6 million in the prior year. The increase results
primarily from the net addition of 2 hotels and 233 rooms from 11,754 at June
30, 1998 to 11,987 at June 30, 1999 and a 1% increase in revenues per available
room. For those properties opened at least one year, average daily rates
increased from $64.69 to $65.76, or 1.7%.
For the six months ended June 30, 1999 facility level operating profit increased
4.2% from the same period in the prior year. Favorably impacting undistributed
operating expenses were $1.9 million of credits against franchise fees pursuant
to an agreement with Choice. Corporate expense amounted to $5.1 million, a
decrease of approximately $2.4 million or 31.5% from the prior year. Corporate
expense amounted to 4.8% of total revenues for the six months ended June 30,
1999 as compared to 7.4% during the prior year. Depreciation expense decreased
$890,000 or 6.5%, to $12.8 million in the current year from $13.7 million in the
second quarter of the prior year. The decline in depreciation expense is
primarily a result of discontinuance of depreciation on the nine hotels that are
held for sale offset by the additional depreciation expense associated with the
newly developed hotels.
EBITDA increased 13.4%, to $33.0 million for the six months ended June 30, 1999
from $29.1 million for the same period in the prior year. Interest expense
increased $2.1 million or 20.2% to $12.2 million as a result of increased
borrowings associated with the Company's development and construction of new
hotels and an increase in the effective rate utilized to accrue interest on the
subordinated note payable to Choice.
Income before income taxes, extraordinary loss and cumulative effect of a change
in accounting principle increased $2.7 million or 52.6% to $7.9 million for the
six months ended June 30, 1999 from $5.2 million for the same period of 1998.
After the effect of an extraordinary loss from early debt redemption and a
cumulative effect of a change in accounting principle, the Company reported net
income of $3.7 million for the six months ended June 30, 1999 versus $3.1
million for the six months ended June 30, 1998, a 20.7% increase. The
extraordinary loss from early debt redemption during the year of $433,000 (net
of $255,000 tax benefit) related to the early retirement of debt collateralized
by three properties sold in 1999.
On January 1, 1999, the Company adopted SOP 98-5. In accordance with that new
accounting pronouncement, the Company wrote off the unamortized balance of
deferred pre-opening costs on its balance sheet at January 1, 1999 and recorded
an after-tax charge of $599,000 (net of $421,000 tax benefit) for the cumulative
effect of that change in accounting principle. Beginning January 1, 1999, pre-
opening costs associated with properties under construction are expensed as
incurred. Pre-opening costs incurred and expensed during the six months ended
June 30, 1999, amounting to $635,000, are included in hotel operating expenses.
Liquidity and Capital Resources:
- -------------------------------
Borrowing capacity under the Company's committed credit facility with a group of
banks amounted to $80 million during the quarter ended June 30, 1999.
Borrowings under the credit facility amounted to $41 million at December 31,
1998 and $46 million at June 30, 1999. The Company utilizes its credit facility
to fulfill its seasonal requirements and to fund construction and development.
At June 30, 1999, the Company has $286.9 million of long-term debt outstanding,
none of which matures in the next twelve months. The credit facility expires in
October 2000 and $134.7 million of subordinated debt payable to Choice Hotels
International, Inc. matures in October 2002. The Choice note provides
additional financial flexibility as interest is not payable until maturity.
The Company intends to develop MainStay Suites, a mid-priced extended stay hotel
product. At June 30, 1999, seventeen MainStay Suites were open and operating
with another seven hotels under development. The cost of developing a MainStay
suites approximates $6.0 million. At June 30, 1999, costs incurred to date on
the seven hotels under development amounted to $15.4 million. Accordingly, the
estimated cost to complete is approximately $23.6 million. In order for the
Company to continue on a long-term basis the MainStay Suites development
program, additional capital will be required.
10
<PAGE>
The Company's objective is to reduce its overall leverage while continuing to
grow through development. The Company continuously evaluates its existing
portfolio and seeks to sell hotels that have limited upside potential or that
are projected to under-perform in order to redeploy capital in higher yielding
assets. The Company has identified nine such properties that as of June 30,
1999, are being marketed for sale in 1999. During the quarter ended June 30,
1999, the Company sold three hotels for total proceeds of $8.6 million.
Pursuant to a share repurchase program announced on September 25, 1998, the
Company has purchased a total of 1,052,114 shares at a total cost of $4.3
million. The Company intends to utilize cash flow from operations to fund the
continuing execution of this program while maintaining availability under the
credit facility to finance construction and development.
At June 30, 1999, the Company's debt to book capitalization amounted to 73.4%
while debt to market cap was 71.0%.
While operating cash flow along with credit available under the Company's credit
facility and the proceeds from the sale of hotels is expected to be adequate to
fund operations and committed construction projects, accessing additional
capital will be imperative in order for the Company to expand its long range
development and growth plans.
Year 2000:
- ----------
Many existing computer programs use two digits to identify a year. These
programs were designed and developed without considering the impact of the
upcoming change in the century. If the programs are not corrected, computer
applications could fail or create erroneous results at the turn of the century.
The Company has developed a plan to address the impact of the Year 2000 on its
computer systems and other systems with embedded microprocessors that could be
date sensitive (collectively, "in-house systems"), as well as issues related to
third party vendors and suppliers of the Company. The Company's plan consists
of four phases: 1) assess computer systems and other systems with embedded
microprocessors and determine which such systems are critical to the ongoing
operations of the Company; 2) inventory critical systems to determine
manufacturers, suppliers or vendors; 3) test or assess the readiness of systems
and vendors and suppliers, and; 4) inventory and assess the readiness of non-
critical systems. Corrective actions are being taken as issues arise. The
following discusses the Companies progress in addressing both in-house systems
and third party vendors.
The Company's financial accounting and reporting system's upgrade was completed
during the second quarter of 1999 and are expected to adequately provide
information and reporting needs into the next century. Non-compliant computer
hardware and software at the Company's corporate headquarters and all its hotels
has been identified and a schedule to upgrade affected systems by September 1999
has been established. The Company estimates that approximately 85% of its
employee workstations will be upgraded. In order to accommodate a new property
management system required by Choice Hotels International, Inc., the Company had
previously planned to update these systems. Therefore, the cost of upgrading
the systems, outside of previously planned upgrades, is estimated to be
immaterial.
The Company has inventoried systems with embedded chips used at the Company's
corporate headquarters as well as building systems at the company's hotel
properties (i.e., elevators, room key systems, HVAC equipment, and fire safety
equipment) and has contacted manufacturers to determine the readiness of the
systems for the Year 2000. Based on the responses received, the Company
believes that the critical systems are or will be Year 2000 compliant. Any
systems that are Year 2000 sensitive and non-compliant will be replaced or
modified as necessary or addressed in the contingency plan. Although the
Company does not have an estimate for the cost to bring all critical systems
into compliance, it is not believed to be material.
The Company is developing a contingency plan to address the possible failure of
any in-house systems. The contingency manual will be completed by September 30,
1999. As critical non-compliant systems are identified that the Company
believes may not be compliant by the year 2000, contingency plans will be
created.
The Company relies significantly on third party systems to provide various goods
and services. The Company has identified those vendors and suppliers that it
believes to be critical to the ongoing operations of the Company and
11
<PAGE>
has contacted them to verify their state of readiness and evaluate their
contingency plans. Based on the responses received, the Company believes that
the critical third party systems are or will be Year 2000 compliant. To the
extent that a third party cannot certify that their systems will be Year 2000
compliant, the Company will take actions to correct the non-compliant situation
or develop contingency plans.
Because the Company relies significantly on Choice Hotels International, Inc.
("Choice") for reservation and property management systems as well as overall
franchisee support, their state of readiness for Year 2000 is critical to the
Company. Therefore, a description of the Choice plan to address the Year 2000
issue, as set forth in its SEC filings, follows.
Choice's exposure to potential Year 2000 problems exists in two general
areas: technological operations in the sole control of Choice, and
technological operations dependent in some way on one or more third
parties. With respect to internal systems, Choice has conducted Year 2000
compliance testing on all of its proprietary software, including its
reservations and reservations support systems, its franchise support system
and its franchisee property management support systems. Choice has
indicated that the proprietary software is Year 2000 compliant.
Choice's Year 2000 Compliance Committee is currently identifying third
party vendors and service providers whose non-compliant systems could have
a material impact on Choice and undertaking an assessment as to such
parties' compliant status. These parties include franchisees, airline
global distribution systems ("GDS"), utility providers, telephone service
providers, banks and data processing services. The GDS companies, which
provide databases through which travel agents can book hotel rooms, have
assured Choice in writing that they are making the necessary changes in
their system to become compliant and Choice has begun conducting tests with
the GDS companies.
Additional information regarding Choice's Year 2000 preparedness can be obtained
from their SEC filings.
Failure by the Company or one or more of its third party vendors to adequately
address the Year 2000 issue could have a material adverse impact on the Company.
The Company is not able to estimate the impact such failure could have due to
its dependence on third parties including utility companies, airlines, hotel
reservation centers, Choice, banks and credit card payment processing centers.
In addition, the severity and duration of failures will greatly affect the
impact of such failures on the Company.
As a result of the considerable publicity surrounding, and the increased
consumer awareness of, the Year 2000 issue, it is possible that travel patterns
may be disrupted. The Company is unable to estimate the effect such
disruptions, if any, may have on its hotel operations.
FORWARD-LOOKING STATEMENTS
- --------------------------
The statements contained in this document that are not historical facts are
forward-looking statements within the meaning of the Private Securities
Litigation Reform Act of 1995.
A number of important factors could cause the Company's actual results for
future periods to differ materially from those expressed in any forward-looking
statements made by, or on behalf of the Company.
Certain statements contained in this Form 10-Q, including those in the
section entitled "Management's Discussion and Analysis of Operating Results and
Financial Condition," contain forward-looking information that involves risk and
uncertainties, including the Company's plans to address the Year 2000 issue.
Actual future results and trends may differ materially depending on a variety of
factors discussed in the "Risk Factors" section included in the Company's SEC
filings, including (a) the Company's success in implementing its business
strategy, including its success in arranging financing where required, (b) the
nature and extent of future competition, and political, economic and demographic
developments in regions where the Company does business or in the future may do
business, and; (c) the timely resolution by the Company and its vendors and
suppliers of the Year 2000 issue.
Readers are cautioned not to place undue reliance on these forward-looking
statements, which speak only as of the date hereof. The Company undertakes no
obligation to revise or update these forward-looking statements.
12
<PAGE>
PART II OTHER INFORMATION
-------------------------
ITEM 1. LEGAL PROCEEDINGS
-----------------
The Company is not party to any litigation, other than routine litigation
incidental to the business of the Company. None of such litigation, either
individually or in the aggregate, is expected to be material to the business,
financial condition or results of operations of the Company.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
--------------------------------
(a) Exhibits
Exhibit 27.01 - Financial Data Schedule - June 30, 1999
(b) The following reports were filed pertaining to the quarter ended June 30,
1999.
None
13
<PAGE>
SIGNATURE
Pursuant to the requirements of the Securities Act of 1934, the Registrant has
duly caused this report to be signed on its behalf by the undersigned thereunto
duly authorized.
SUNBURST HOSPITALITY CORPORATION
Date: August 11, 1999 /s/ James A. MacCutcheon
--------------------------
By: James A. MacCutcheon
Executive Vice President,
Chief Financial Officer and
Treasurer
14
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
This schedule contains summary financial information extracted from the
condensed consolidated balance sheets, the condensed consolidated statements of
income and the condensed consolidated statements of cash flows and is qualified
in its entirety by reference to such financial statements and the notes thereto.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-1999
<PERIOD-END> JUN-30-1999
<CASH> 0
<SECURITIES> 5,093
<RECEIVABLES> 8,244
<ALLOWANCES> 611
<INVENTORY> 0
<CURRENT-ASSETS> 0
<PP&E> 506,227
<DEPRECIATION> 101,085
<TOTAL-ASSETS> 428,409
<CURRENT-LIABILITIES> 0
<BONDS> 286,942
0
0
<COMMON> 244
<OTHER-SE> 103,853
<TOTAL-LIABILITY-AND-EQUITY> 428,409
<SALES> 0
<TOTAL-REVENUES> 105,977
<CGS> 0
<TOTAL-COSTS> 85,830
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 12,234
<INCOME-PRETAX> 7,913
<INCOME-TAX> 3,181
<INCOME-CONTINUING> 4,732
<DISCONTINUED> 0
<EXTRAORDINARY> 433
<CHANGES> 599
<NET-INCOME> 3700
<EPS-BASIC> .19
<EPS-DILUTED> .19
</TABLE>
