U.S. SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR (15)d OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1998
------------------
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period to
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Commission file number 001-13957
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CAVANAUGHS HOSPITALITY CORPORATION
------------------------------------------------------
(Exact name of registrant as specified in its charter)
Washington 91-1032187
------------------------------- -------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
201 W. North River Drive, Suite 100, Spokane, WA 99201
------------------------------------------------------
(Address of principal executive office)
(509) 459-6100
----------------------------------------------------
(Issuer's telephone number)
Check whether the issuer (1) filed all reports required to be
filed by Section 13 or 15(d) of the Exchange Act during the past
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
----- -----
As of October 31, 1998, there were 12,648,937 shares of the
Registrant's common stock outstanding.
<PAGE>
CAVANAUGHS HOSPITALITY CORPORATION
Form 10-Q
For the Quarter Ended September 30, 1998
INDEX
Part I - Financial Information
Item 1 - Financial Statements:
- Consolidated Balance Sheets -- December 31, 1997
and September 30, 1998
- Consolidated Statements of Income and
Comprehensive Income -- Three and Nine Months
Ended September 30, 1997 and 1998
- Consolidated Statements of Cash Flows -- Nine
Months Ended September 30, 1997 and 1998
- Notes to Consolidated Financial Statements
Item 2 - Management's Discussion and Analysis of Financial
Condition and Results of Operations
PART II - Other Information
Item 1 - Legal Proceedings
Item 2 - Changes in Securities and Use of Proceeds
Item 6 - Exhibits and Reports on Form 8-K
<PAGE>
Part I - Financial Information
ITEM 1. FINANCIAL STATEMENTS
CAVANAUGHS HOSPITALITY CORPORATION
CONSOLIDATED BALANCE SHEETS (UNAUDITED)
December 31, 1997 and September 30, 1998
(in thousands, except share data)
December 31, September 30,
1997 1998
------------ -------------
ASSETS
Current assets:
Cash and cash equivalents $ 4,955 $ 6,721
Accounts receivable 2,785 6,365
Inventories 427 753
Prepaid expenses and deposits 1,100 418
-------- --------
Total current assets 9,267 14,257
Property and equipment, net 112,234 214,576
Other assets, net 3,616 5,017
-------- --------
Total assets $125,117 $233,850
======== ========
LIABILITIES AND STOCKHOLDERS' AND
PARTNERS' EQUITY
Current liabilities:
Payable to affiliate $ 1,133
Note payable 1,075 $ 108
Accounts payable 3,234 5,383
Accrued payroll and related benefits 983 1,956
Accrued interest payable 689 375
Other accrued expenses 2,882 5,915
Long-term debt, due within one year 3,590 1,271
Capital lease obligations, due within
one year 502 578
-------- --------
Total current liabilities 14,088 15,586
Long-term debt, due after one year 94,419 113,502
Capital lease obligations, due after
one year 2,139 1,910
Deferred income taxes 5,415 5,415
Minority interest in partnerships 524 4,421
-------- --------
Total liabilities 116,585 140,834
-------- --------
Commitments and contingencies
<PAGE>
CAVANAUGHS HOSPITALITY CORPORATION
CONSOLIDATED BALANCE SHEETS (UNAUDITED), CONTINUED
December 31, 1997 and September 30, 1998
(in thousands, except share data)
December 31, September 30,
1997 1998
------------ -------------
Stockholders' and partners' equity:
Preferred stock - 5,000,000 shares
authorized, $0.01 par value, -0-
shares issued and outstanding $ -- $ --
Common stock - 50,000,000 shares
authorized, $0.01 par value;
7,084,254 and 12,695,337 shares
issued and outstanding 71 127
Partners' deficit (879)
Additional paid-in capital 3,935 81,328
Retained earnings 5,405 11,561
-------- --------
Total stockholders' and partners'
equity 8,532 93,016
-------- --------
Total liabilities and stockholders'
and partners' equity $125,117 $233,850
======== ========
The accompanying notes are an integral part of the consolidated
financial statements.
<PAGE>
CAVANAUGHS HOSPITALITY CORPORATION
CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME
(UNAUDITED)
for the three and nine months ended September 30, 1997 and 1998
(in thousands, except per share data)
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
------------------ -----------------
1997 1998 1997 1998
------- ------- ------- -------
<S> <C> <C> <C> <C>
Revenues:
Hotels and restaurants
Rooms $ 8,426 $16,813 $19,845 $35,365
Food and beverage 3,824 6,778 10,302 16,636
Other 718 1,289 2,025 3,036
------- ------- ------- -------
Total hotels and restaurants 12,968 24,880 32,172 55,037
Entertainment, management and services 1,015 907 2,824 2,933
Rental operations 1,579 1,801 4,799 5,315
------- ------- ------- -------
Total revenues 15,562 27,588 39,795 63,285
------- ------- ------- -------
Operating expenses:
Direct:
Hotels and restaurants:
Rooms 1,983 4,035 5,176 9,080
Food and beverage 3,173 5,412 8,493 13,573
Other 329 590 803 1,366
------- ------- ------- -------
Total hotels and restaurants 5,485 10,037 14,472 24,019
Entertainment, management and services 544 640 1,622 2,055
Rental operations 359 439 1,097 1,171
------- ------- ------- -------
Total direct expenses 6,388 11,116 17,191 27,245
------- ------- ------- -------
Undistributed operating expenses:
Selling, general and administrative 2,102 3,427 5,904 8,494
Property operating costs 1,290 3,001 3,845 6,977
Depreciation and amortization 1,309 1,621 3,604 4,357
------- ------- ------- -------
Total undistributed operating expenses 4,701 8,049 13,353 19,828
------- ------- ------- -------
Total expenses 11,089 19,165 30,544 47,073
------- ------- ------- -------
Operating income 4,473 8,423 9,251 16,212
Other income (expense):
Interest expense, net of amounts capitalized (2,190) (1,936) (6,791) (5,990)
Interest income 106 75 276 271
Other income 6 346 5
Minority interest in partnerships (28) (203) 12 (247)
------- ------- ------- -------
</TABLE>
<PAGE>
CAVANAUGHS HOSPITALITY CORPORATION
CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME
(UNAUDITED), CONTINUED
for the three and nine months ended September 30, 1997 and 1998
(in thousands, except per share data)
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
------------------ -----------------
1997 1998 1997 1998
------- ------- ------- ------
<S> <C> <C> <C> <C>
Income before income taxes and extraordinary
item $ 2,361 $ 6,365 $ 3,094 $10,251
Income tax provision 803 2,228 1,055 3,549
------- ------- ------- -------
Income before extraordinary item 1,558 4,137 2,039 6,702
Extraordinary item -- write off
of deferred loan fees, net of tax (16) (546)
------- ------- ------- -------
Net and comprehensive income $ 1,558 $ 4,121 $ 2,039 $ 6,156
======= ======= ======= =======
Income per share before extraordinary item $ 0.22 $ 0.32 $ 0.29 $ 0.61
======= ======= ======= =======
Net income per share:
Basic $ 0.22 $ 0.32 $ 0.29 $ 0.56
======= ======= ======= =======
Diluted $ 0.22 $ 0.32 $ 0.29 $ 0.56
======= ======= ======= =======
Weighted-average shares outstanding:
Basic 7,084 12,983 7,084 10,907
======= ======= ======= =======
Diluted 7,084 13,379 7,084 11,201
======= ======= ======= =======
</TABLE>
The accompanying notes are an integral part of the consolidated
financial statements.
<PAGE>
CAVANAUGHS HOSPITALITY CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
for the nine months ended June 30, 1997 and 1998
(in thousands)
1997 1998
-------- --------
Operating activities:
Net income $ 2,039 $ 6,156
Adjustments to reconcile net income to net
cash provided by operating activities:
Depreciation and amortization 3,604 4,357
Minority interest in partnerships (12) 247
Stock issued for directors' compensation 9
Extraordinary item -- write off of
deferred loan fees 546
Change in:
Accounts receivable (660) (3,580)
Inventories 8 (326)
Prepaid expenses and deposits 762 682
Other assets (388)
Accounts payable (533) 2,149
Accrued payroll and related benefits 180 973
Accrued interest payable 14 (314)
Other accrued expenses 669 3,315
-------- --------
Net cash provided by operating
activities 6,071 13,826
-------- --------
Investing activities:
Additions to property and equipment (4,957) (4,917)
Proceeds from disposition of property and
equipment 703
Acquisitions of property and equipment (86,132)
Issuance of note receivable (17,112)
Payments on note receivable 17,112
Purchase of other assets (300)
Other, net (170) (475)
-------- --------
Net cash used in investing activities (4,424) (91,824)
-------- --------
<PAGE>
CAVANAUGHS HOSPITALITY CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED), CONTINUED
for the nine months ended September 30, 1997 and 1998
(in thousands)
1997 1998
-------- --------
Financing activities:
Distributions to stockholders and partners $ (688) $ (27)
Dividends to stockholders (248)
Proceeds from issuance of common stock under
employee stock purchase plan 242
Net proceeds from initial public offering
of common stock 81,468
Purchase and retirement of common stock (163) (3,391)
Proceeds from note payable 1,925
Repayment of note payable (3,054)
Proceeds from long-term debt 3,395 75,483
Repayment of long-term debt (2,383) (70,124)
Advances from (payments to) affiliates 1,624 (1,133)
Principal payments on capital lease
obligations (64) (415)
Additions to deferred financing costs (1,210)
-------- --------
Net cash provided by financing activities 1,473 79,764
-------- --------
Change in cash and cash equivalents:
Net increase in cash and cash equivalents 3,120 1,766
Cash and cash equivalents at beginning of
period 5,703 4,955
-------- --------
Cash and cash equivalents at end of period $ 8,823 $ 6,721
======== ========
Supplemental disclosure of cash flow
information:
Cash paid during period for:
Interest (net of amount capitalized) $ 6,791 $ 5,990
Income taxes 1,325 1,213
Noncash investing and financing activities:
Acquisition of equipment under capital
leases 262
Issuance of operating partnership units
for property acquisitions 4,548
Acquisition of property through assumption
of debt and capital leases 11,404
Acquisition of property through issuance
of note payable 162
The accompanying notes are an integral part of the consolidated
financial statements.
<PAGE>
CAVANAUGHS HOSPITALITY CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. QUARTERLY INFORMATION:
The unaudited consolidated financial statements included herein
have been prepared by Cavanaughs Hospitality Corporation (the
Company) pursuant to the rules and regulations of the Securities
and Exchange Commission (SEC). Certain information and footnote
disclosures normally included in financial statements prepared in
accordance with generally accepted accounting principles have
been condensed or omitted as permitted by such rules and
regulations. The balance sheet as of December 31, 1997 has been
derived from the audited balance sheet as of such date. The
Company believes that the disclosures included herein are
adequate; however, these consolidated statements should be read
in conjunction with the financial statements and the notes
thereto for the period ended December 31, 1997 previously filed
with the SEC on Form S-1 which was effective in April 1998.
In the opinion of management, these unaudited consolidated
financial statements contain all of the adjustments normal and
recurring in nature, necessary to present fairly the consolidated
financial position of the Company at September 30, 1998 and the
consolidated results of operations and cash flows for the three
and nine months ended September 30, 1998 and 1997. The results
of operations for the periods presented may not be indicative of
those which may be expected for a full year.
2. ORGANIZATION:
At September 30, 1997, the Company controlled and operated
(through ownership or lease with purchase option agreements)
seven hotel properties. At September 30, 1998, the Company
controlled and operated 18 hotel properties in Seattle, Spokane,
Yakima and Kennewick, Washington; Post Falls, Boise, Twin Falls,
Pocatello and Idaho Falls, Idaho; Kalispell and Helena, Montana;
Hillsboro, Oregon; and Salt Lake City, Utah under its
Cavanaughs(TM) brand. Additionally, the Company provides
computerized ticketing for entertainment events and arranges
Broadway and other entertainment event productions. The Company
also leases retail and office space in buildings owned by the
Company and manages residential and commercial properties in
Washington, Idaho and Montana. The Company's operations are
classified into three divisions: (1) hotels and restaurants,
(2) entertainment, management and services, and (3) rental
operations.
Prior to January 1, 1998, the financial statements included the
combined operations of Cavanaughs Hospitality Corporation
(including its merged and predecessor entities) and G&B: Lincoln
Building Limited Partnership (Lincoln Building). On January 1,
1998, the Company issued common stock and units in the Cavanaughs
Hospitality Limited Partnership (OP Units) to the partners of
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED
2. ORGANIZATION, CONTINUED:
Lincoln Building in exchange for the assets and liabilities of
Lincoln Building. Therefore, consolidated financial statements
of the Company are presented at September 30, 1998.
3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
New Accounting Pronouncements
-----------------------------
In June 1997, SFAS No. 130, "Reporting Comprehensive Income",
was issued. This Statement requires that comprehensive income
be reported in a financial statement that is displayed with the
same prominence as other financial statements. This Statement
does not require a specific format for the financial statement,
but requires that an enterprise display net income as a
component of comprehensive income in the financial statements.
Comprehensive income is defined as the change in equity of a
business enterprise arising from non-owner sources. The
classifications of comprehensive income under current
accounting standards include foreign currency items, minimum
pension liability adjustments, and unrealized gains and losses
on certain investments in debt and equity securities. The
implementation of this standard on January 1, 1998 did not have
a material impact on the presentation of the Company's
consolidated financial statements.
In June 1997, the Financial Accounting Standards Board issued
SFAS No. 131, "Disclosures about Segments for an Enterprise and
Related Information". This Statement will change the way
public companies report information about segments of their
business in their annual financial statements and requires them
to report selected segment information in their quarterly
reports issued to shareholders. It also requires entity-wide
disclosures about the products and services an entity provides,
and its major customers. The implementation of SFAS No. 131 on
January 1, 1998 did not have a material impact on the
consolidated financial statements.
In April 1998, Statement of Position (SOP) 98-5, "Reporting on
the Costs of Start-up Activities" was issued. The SOP requires
that all costs of start-up activities and organization costs be
expensed as incurred. The Company is required to implement the
SOP on January 1, 1999 and report the change as a cumulative
effect of an accounting change in the statement of income. The
Company has not determined the effect of adopting this new
standard.
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED
4. INITIAL PUBLIC OFFERING:
In April 1998, the Company completed an initial public offering
(Offering) of 5,951,250 shares of common stock. The proceeds,
after deducting the underwriting discount and before offering
expenses, of approximately $83.0 million were used to repay
certain debt and acquire hotel properties.
5. 1998 ACQUISITIONS:
In January 1998, the Company entered into a lease with purchase
option to acquire certain assets of a hotel in Spokane,
Washington for approximately $11.5 million and acquired certain
assets of a hotel in Idaho Falls, Idaho for approximately $3.8
million. In April 1998, the purchase option on the Spokane,
Washington hotel was exercised. In February 1998, the Company
acquired certain assets of a hotel in Post Falls, Idaho for
approximately $9.5 million. In April 1998, the Company acquired
certain assets of a hotel in Hillsboro, Oregon for approximately
$5.5 million. In June 1998, the Company acquired certain assets
of a hotel in Kalispell, Montana for approximately $9.6 million.
In June 1998, the Company acquired, through a management and
purchase agreement, The Olympus Hotel and Conference Center,
located in Salt Lake City, Utah for a total price of $31.6
million. A Current Report on Form 8-K/A was filed with the SEC
on August 13, 1998, which included the pro forma disclosures of
the acquisition. On July 31, 1998, the Company acquired four
additional hotels for $30.3 million from one seller. The hotels
are located in Boise, Twin Falls and Pocatello, Idaho and Helena,
Montana. A Current Report on Form 8-K/A was filed with the SEC
on October 14, 1998, which included the pro forma disclosures of
the acquisition.
All of these acquisitions have been accounted for using the
purchase method of accounting. Accordingly, the results of
operations of these hotels have been included in the consolidated
statement of operations since their respective dates of
acquisition. The excess purchase price of the assets over their
historical cost bases has been allocated to property and
equipment and is being depreciated over the estimated remaining
useful life of the related assets. Pro forma disclosures
reflecting these acquisitions have been included in the Company's
Form S-1 and Forms 8-K/A as previously filed with the SEC.
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED
6. LONG-TERM DEBT AND LINE OF CREDIT:
The Company used the net proceeds of the initial public offering
to repay $68.6 million of debt. In connection with the debt
repayment, approximately $546,000 of deferred loan fees and
prepayment penalties, net of income taxes, were charged to
operations during the second and third quarters of 1998 and are
presented as an extraordinary item.
In May 1998, the Company obtained an $80 million revolving
secured credit facility with a bank (Revolving Credit Facility).
The credit facility requires that the Company maintain certain
financial ratios and minimum levels of cash flows. Any
outstanding borrowings bear interest based on prime rate or
LIBOR. The credit facility matures in five years. The credit
facility requires the payment of a 1% fee plus an annual standby
fee of 0.25%. At September 30, 1998, $68,550,000 is outstanding
under the credit facility. The Company was in compliance with
all required covenants at September 30, 1998.
7. CONTINGENCY:
In 1994, the Company was sued by the contractor who constructed
one of the Company's hotel properties asserting lack of payment
of cost overruns. The Company filed a counter claim for the
recovery of various damages. The Company obtained summary
judgment for most of the claims. After the Company obtained
summary judgment for most claims, the litigation was terminated
on October 1, 1998 by a complete settlement of all claims within
the amount of funds originally withheld from payment to the
contractor until completion of the contract.
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED
8. EARNINGS PER SHARE:
The following table presents a reconciliation of the numerators
and denominators used in the basic and diluted EPS computations
(in thousands, except per share amounts). Also shown is the
number of dilutive securities (stock options) that would have
been included in the diluted EPS computation if they were not
anti-dilutive.
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
----------------------- -----------------------
1997 1998 1997 1998
------- ------- ------- -------
<S> <C> <C> <C> <C>
Numerator:
Income before extra-
ordinary item $ 1,558 $ 4,137 $ 2,039 $ 6,702
Extraordinary item -- (16) -- (546)
------- ------- ------- -------
Net income after extra-
ordinary item - basic 1,558 4,121 2,039 6,156
Income effect of dilutive
OP Units -- 126 -- 180
------- ------- ------- -------
Net income after extra-
ordinary item - diluted $ 1,558 $ 4,247 $ 2,039 $ 6,336
======= ======= ======= =======
Denominator:
Weighted-average shares
outstanding - basic 7,084 12,983 7,084 10,907
Effect of dilutive
OP Units -- 396 -- 294
Effect of dilutive common
stock options -- --(A) -- --(A)
------- ------- ------- -------
Weighted-average shares
outstanding - diluted 7,084 13,379 7,084 11,201
======= ======= ======= =======
Earnings Per Share - basic
and diluted
Income per share before
extraordinary item $ 0.22 $ 0.32 $ 0.29 $ 0.61
Extraordinary item -- -- -- (0.05)
------- ------- ------- -------
Net income per share -
basic and diluted $ 0.22 $ 0.32 $ 0.29 $ 0.56
======= ======= ======= =======
</TABLE>
(A) At September 30, 1998, 645,028 stock options are
outstanding. The effects of the shares which would be
issued upon the exercise of these options have been
excluded from the calculation of diluted earnings per share
because they are anti-dilutive.
<PAGE>
CAVANAUGHS HOSPITALITY CORPORATION
Part I - Financial Information
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
General
-------
The following discussion and analysis addresses the results of
operations for the Company for the three and nine months ended
September 30, 1997 and 1998. The following should be read in
conjunction with the unaudited Consolidated Financial Statements and
the notes thereto. In addition to historical information, the
following Management's Discussion and Analysis of Financial Condition
and Results of Operations contains forward-looking statements that
involve risks and uncertainties. The Company's actual results could
differ significantly from those anticipated in these forward-looking
statements as a result of certain factors, including those discussed
in "Risk Factors" and elsewhere in the Form S-1 filed originally by
the Company in April 1998 (File No. 333-44491).
The Company's revenues are derived primarily from the Hotels and
reflect revenue from rooms, food and beverage and other sources,
including telephone, guest services, banquet room rentals, gift shops
and other amenities. Hotel revenues accounted for 87.0% of total
revenue in the nine months ended September 30, 1998 and increased
71.1% from $32.2 million in 1997 to $55.0 million in 1998. This
increase was primarily the result of the addition of eleven hotels in
the period and an increase in revenue per available room (REVPAR) from
the hotels owned for greater than one year ("Comparable Hotels") from
$48.35 in 1997 to $53.06 in 1998, a 9.7% increase. The balance of the
Company's revenues are derived from its entertainment, management and
services and rental operations divisions. These revenues are
generated from ticket distribution handling fees, real estate
management fees, sales commissions and rents. In the nine months
ended September 30, 1998, entertainment, management and services
accounted for 4.6% of total revenues and rental operations accounted
for 8.4% of total revenues. These two divisions are expected to
represent a smaller percent of total revenues in the future as the
Company continues to pursue its hotel growth strategy.
As is typical in the hospitality industry, REVPAR, average daily rates
(ADR) and occupancy levels are important performance measures. The
Company's operating strategy is focused on enhancing revenue and
operating margins by increasing REVPAR, ADR, occupancy and operating
efficiencies of the Hotels. These performance measures are impacted
by a variety of factors, including national, regional and local
economic conditions, degree of competition with other hotels in their
respective market areas and, in the case of occupancy levels, changes
in travel patterns.
<PAGE>
The following table sets forth selected items from the consolidated
statements of income and comprehensive income as a percent of total
revenues and certain other selected data:
<TABLE>
<capiton>
Three Months Ended Nine Months Ended
September 30, September 30,
------------------ ----------------
1997 1998 1997 1998
------- -------- ------ -------
<S> <C> <C> <C> <C>
Revenues:
Hotels and restaurants 83.3% 90.2% 80.8% 87.0%
Entertainment, management and services 6.5 3.3 7.1 4.6
Rental operations 10.2 6.5 12.1 8.4
----- ----- ----- -----
Total revenues 100.0% 100.0% 100.0% 100.0%
===== ===== ===== =====
Direct operating expenses 41.1% 40.3% 43.2% 43.1%
----- ----- ----- -----
Undistributed operating expenses:
Selling, general and administrative 13.5 12.4 14.8 13.4
Property operating costs 8.3 10.9 9.7 11.0
Depreciation and amortization 8.4 5.9 9.1 6.9
----- ----- ----- -----
Total undistributed operating expenses 30.2 29.2 33.6 31.3
----- ----- ----- -----
Operating income 28.7 30.5 23.2 25.6
Interest expense, net (14.1) (7.0) (17.0) (9.5)
Other income (expense) 0.6 (0.4) 1.6 0.1
----- ----- ----- -----
Income before income taxes and extra-
ordinary item 15.2 23.1 7.8 16.2
Income tax provision 5.2 8.1 2.7 5.6
----- ----- ----- -----
Income before extraordinary item 10.0% 15.0% 5.1% 10.6%
===== ===== ===== =====
<CAPTION>
Comparable Hotels:
REVPAR $60.73 $60.48 $48.35 $53.06
ADR 78.85 87.36 75.26 82.28
Occupancy 77.0% 69.2% 64.2% 64.5%
</TABLE>
<PAGE>
RESULTS OF OPERATIONS
---------------------
COMPARISON OF NINE MONTHS ENDED SEPTEMBER 30, 1998 TO NINE MONTHS ENDED
SEPTEMBER 30, 1997
Total revenues increased $23.5 million, or 59.0%, from $39.8 million in
1997 to $63.3 million in 1998. This increase is attributed primarily
to revenue generated from increases in total rooms occupied and REVPAR
and the addition of eleven hotels.
Total hotel and restaurant revenues increased $22.9 million, or 71.1%,
from $32.2 million in 1997 to $55.0 million in 1998. ADR for the seven
Comparable Hotels increased $7.02, or 9.3%, from $75.26 in 1997 to
$82.28 in 1998. Available room nights increased 86.5% in 1998. REVPAR
for the Comparable Hotels increased $4.71, or 9.7% from $48.35 in 1997
to $53.06 in 1998. The results also reflect the addition of the eleven
hotels acquired since October 1997 which contributed, in part, to this
increase in revenues.
Entertainment, management and services revenues increased $0.1 million,
or 3.9% in 1998. Management and services revenue increased from the
addition of new third-party management contracts.
Rental income increased $0.5 million, or 10.7%, from $4.8 million in
1997 to $5.3 million in 1998. This increase is due primarily to the
addition of leased space in the Crescent Court property to The
Travelers company which commenced occupancy in January 1998.
Direct operating expenses increased $10.0 million, or 58.5%, from $17.2
million in 1997 to $27.2 million in 1998, primarily due to the increase
in the number of hotel guests served and the addition of eleven hotels.
This represents a decrease in direct operating expenses as a percentage
of total revenues from 43.2% in 1997 to 43.1% in 1998.
Total undistributed operating expenses increased $6.5 million, or
48.5%, from $13.4 million in 1997 to $19.8 million in 1998. Total
undistributed operating expenses include selling, general and
administrative expenses, which increased 43.9% from $5.9 million in
1997 to $8.5 million in 1998, and depreciation and amortization, which
increased 20.9% from $3.6 million in 1997 to $4.4 million in 1998.
Total undistributed operating expenses as a percentage of total
revenues decreased 2.3% from 33.6% in 1997 to 31.3% in 1998. The
decrease in undistributed operating expenses as a percentage of total
revenues is primarily attributed to the increased REVPAR and the
Company controlling sales and administrative expenses.
Operating income increased $7.0 million, or 75.2%, from $9.3 million in
1997 to $16.2 million in 1998. As a percentage of total revenues,
operating income increased from 23.2% in 1997 to 25.6% in 1998. This
increase is due primarily to an increase in REVPAR, the addition of
eleven hotels and improvements in the undistributed operating expense
margins.
<PAGE>
Interest expense decreased $0.8 million, or 11.8%, from $6.8 million in
1997 to $6.0 million in 1998. Interest expense declined as a result of
the application of the net proceeds of the Offering to repay certain
indebtedness, but is expected to increase in the future due to the
funding of hotel acquisitions with additional debt.
Income tax provision increased 236.4%, from $1.1 million in 1997 to
$3.5 million in 1998, due to the increase in the income before income
taxes. The effective income tax rate for 1997 and 1998 was 34.0% and
34.6%, respectively.
Income before extraordinary item (noncash write off of deferred loan
fees) increased $4.7 million, or 228.8%, from $2.0 million in 1997 to
$6.7 million in 1998.
COMPARISON OF THREE MONTHS ENDED SEPTEMBER 30, 1998 TO THREE MONTHS
ENDED SEPTEMBER 30, 1997
Total revenues increased $12.0 million, or 77.3%, from $15.6 million in
1997 to $27.6 million in 1998. This increase is attributed primarily
to revenue generated from increases in total rooms occupied and REVPAR
and the addition of eleven hotels.
Total hotel and restaurant revenues increased $11.9 million, or 91.9%,
from $13.0 million in 1997 to $24.9 million in 1998. ADR for the
Comparable Hotels increased $8.51, or 10.8%, from $78.85 in 1997 to
$87.36 in 1998. REVPAR for the Comparable Hotels decreased $0.25, or
0.4% from $60.73 in 1997 to $60.48 in 1998. The results also reflect
the addition of the eleven hotels acquired since October 1997 which
contributed, in part, to this increase in revenues.
Entertainment, management and services revenues decreased $0.1 million,
or 10.6% in 1998. Management and services revenue decreased because
fewer event tickets were sold in the 1998 quarter.
Rental income increased $0.2 million, or 14.1%, from $1.6 million in
1997 to $1.8 million in 1998. This increase is due primarily to the
addition of leased space in the Crescent Court property to The
Travelers company which commenced occupancy in January 1998.
Direct operating expenses increased $4.7 million, or 74.0%, from $6.4
million in 1997 to $11.1 million in 1998, primarily due to the increase
in the number of hotel guests served and the addition of eleven hotels.
This represents a decrease in direct operating expenses as a percentage
of total revenues from 41.1% in 1997 to 40.3% in 1998.
Total undistributed operating expenses increased $3.3 million, or
71.2%, from $4.7 million in 1997 to $8.0 million in 1998. Total
undistributed operating expenses include selling, general and
administrative expenses, which increased 63.0% from $2.1 million in
1997 to $3.4 million in 1998, and depreciation and amortization, which
increased 23.9% from $1.3 million in 1997 to $1.6 million in 1998.
Total undistributed operating expenses as a percentage of total
<PAGE>
revenues decreased 1.0% from 30.2% in 1997 to 29.2% in 1998. The
decrease in undistributed operating expenses as a percentage of total
revenues is primarily attributed to the increased REVPAR and the
Company controlling sales and administrative expenses.
Operating income increased $3.9 million, or 88.3%, from $4.5 million in
1997 to $8.4 million in 1998. As a percentage of total revenues,
operating income increased from 28.7% in 1997 to 30.5% in 1998. This
increase is due primarily to an increase in REVPAR, the addition of
eleven hotels and improvements in the undistributed operating expense
margins.
Interest expense decreased $0.3 million, or 11.6%, from $2.2 million in
1997 to $1.9 million in 1998. Interest expense declined as a result of
the application of the net proceeds of the Offering to repay certain
indebtedness, but is expected to increase in the future due to the
funding of hotel acquisitions with additional debt.
Income tax provision increased 177.6%, from $0.8 million in 1997 to
$2.2 million in 1998, due to the increase in the income before income
taxes. The effective income tax rate for 1997 was 34.0% and 1998 was
35.0%.
Income before extraordinary item (noncash write off of deferred loan
fees) increased $2.6 million, or 165.6%, from $1.6 in 1997 to $4.1
million in 1998.
LIQUIDITY AND CAPITAL RESOURCES
-------------------------------
The Company's principal sources of liquidity are cash on hand, cash
generated by operations and borrowings under a $80.0 million Revolving
Credit Facility. Cash generated by operations in excess of operating
expenses is used for capital expenditures and to reduce amounts
outstanding under the Revolving Credit Facility. Hotel acquisitions,
development and expansion have been and will be financed through a
combination of internally generated cash, borrowing under credit
facilities, and the issuance of common stock or OP Units.
The Company's short-term capital needs include food and beverage
inventory, payroll and the repayment of interest expense on outstanding
mortgage indebtedness. Historically, the Company has met these needs
through internally generated cash.
The Company's long-term capital needs include funds for property
acquisitions, scheduled debt maturities and renovations and other non-
recurring capital improvements. The Company anticipates meeting its
future long-term capital needs through the borrowing of additional debt
financing secured by the Hotels, unsecured private or public debt
offerings, additional equity offerings or the issuances of OP Units,
along with cash generated from internal operations. In April 1998, the
Company completed its initial public offering of 5,951,250 shares at
$15.00 per share. The proceeds to the Company after deducting the
underwriter's commission, but before other expenses, was $83.0 million.
<PAGE>
In April, the Company used the proceeds from the offering to repay
approximately $68.6 million of debt, the balance was used to fund the
acquisition of the fee interest in the Cavanaughs Ridpath and to
acquire the Cavanaughs Hillsboro Hotel.
At September 30, 1998, the Company had $6.7 million in cash and cash
equivalents, an increase of $1.8 million from $4.9 million on
December 31, 1997. The Company has acquired ten hotels during the nine
months ended September 30, 1998 and has expended $91.8 million for
these acquisitions and capital expenditures. The Company establishes
reserves for capital replacement in the amount of 4.0% of gross income
to maintain the Hotels at acceptable levels. Acquired hotel properties
have a separate capital budget for purchase, construction, renovation,
and branding costs. Capital expenditures planned for existing Hotels
in 1998 are expected to be approximately $6.0 million. Management
believes the consistent renovation and upgrading of the Hotels and
other properties is imperative to its long-term reputation and customer
satisfaction.
To fund its acquisition program and meet its working capital needs, the
Company has received an $80 million Revolving Credit Facility from U.S.
Bank which was consummated on May 5, 1998. The current interest rate
is 185 basis points over LIBOR. The Revolving Credit Facility has an
initial term of five years and an annualized fee for the unutilized
portion of the facility. The Company selects from four different
interest rates when it draws funds: the lender's prime rate or one,
three, or six month LIBOR plus the applicable margin of 165 to 235
basis points, depending on the ratio of EBITDA to total funded debt.
The Revolving Credit Facility has covenants that allow for the Company
to draw funds based on the trailing 12 months performance on a pro
forma basis for both acquired and owned properties. The Revolving
Credit Facility allows the Company to choose which properties are part
of the collateral base and, therefore, gives the Company the ability to
utilize other long-term credit facilities that may be more favorable to
the Company. Funds from the Revolving Credit Facility may be used for
acquisitions, renovations, construction and general corporate purposes.
The Company believes the structure and availability of funds under the
Revolving Credit Facility will be sufficient to meet the Company's
long-term growth plans.
The Revolving Credit Facility contains various representations,
warranties, covenants and events of default deemed appropriate for
financing of a similar size and nature. Covenants and provisions in
the definitive agreements governing the Revolving Credit Facility
include, among other things, limitations on: (i) substantive changes in
the Company's current business activities, (ii) liquidation,
dissolution, mergers, consolidations, dispositions of material property
or assets and acquisitions of property or assets of others, (iii) the
creation or existence of liens on property or assets, (iv)
the addition or existence of indebtedness, including guarantees and
other contingent obligations, (v) loans and advances to others and
investments in others, redemption of subordinated debt, (vi) amendment
or modification of certain material documents or of the Articles in a
manner adverse to the interests of the lenders under the Revolving
<PAGE>
Credit Facility, (vii) payment of dividends or distributions on the
Company's capital stock, and (viii) maintenance of certain financial
ratios. Each of the covenants described above will provide for certain
ordinary course of business and other exceptions. If the Company
breaches any of these covenants and does not obtain a waiver of that
breach, the breach will constitute an event of default under the
Revolving Credit Facility.
As of September 30, 1998, the Company had debt outstanding of $117.3
million consisting of primarily variable and fixed rate debt secured by
individual properties. In April 1998, the Company completed its
initial public offering and entered into the $80.0 million Revolving
Credit Facility, which has $68.6 million outstanding at September 30,
1998 and $11.4 million available to be drawn.
On August 5, 1998, the Company authorized the repurchase of up to $10.0
million of Company stock. As of September 30, 1998, the Company had
acquired 358,700 shares for $3.4 million.
The Company believes that cash generated by operations will be
sufficient to fund the Company's operating strategy for the foreseeable
future, and that any remaining cash generated by operations, together
with capital available under the Revolving Credit Facility (subject to
the terms and covenants included therein) and secured debt will be
adequate to fund the Company's growth strategy in the near term.
Thereafter, the Company expects that future capital needs, including
property acquisitions, will be met through a combination of net cash
provided by operations, borrowings and additional issuances of Common
Stock or OP Units.
SEASONALITY
-----------
The lodging industry is affected by normally recurring seasonal
patterns. At most Hotels, demand is higher in the late spring through
and early fall (May through October) than during the balance of the
year. Demand also changes on different days of the week, with Sunday
generally having the lowest occupancy. Accordingly, the Company's
revenue, operating profit and cash flow are lower during the first and
fourth calendar quarters and higher during the second and third
calendar quarters.
INFLATION
---------
The effect of inflation, as measured by fluctuations in the Consumer
Price Index, has not had a material impact on the Company's revenues or
net income during the periods under review.
<PAGE>
YEAR 2000 ASSESSMENT
--------------------
BACKGROUND: The "Year 2000 problem" arose because many existing
computer programs use only the last two digits to refer to a year.
Therefore, these computer programs do not properly recognize a year
that begins with "20" instead of the familiar "19". If not corrected,
many computer applications could fail or create erroneous results. The
extent of the potential impact of the Year 2000 problem is not yet
known, and if not timely corrected, could affect the global economy.
State of Readiness:
-------------------
IT SYSTEMS: The Company has completed 100% of the assessment of all of
its information technology ("IT") hardware and software systems for
Year 2000 issues. Of the critical hardware and software applications
evaluated (hardware and software applications for reservation,
accounting, payroll and billing functions), only the payroll
application has been determined to be non-compliant with Year 2000
functionality. The Company had anticipated retiring its non-compliant
payroll application independent of any Year 2000 issues and will
complete replacement of it with a Year 2000 compliant system by July of
1999. Individual older personal computers which are scheduled for
replacement in ordinary course of upgrades are not included in these
percentages. The Company relies upon certifications from the
manufacturers, developers and authorized vendors of the specific
hardware and software applications for evaluation of compliance with
Year 2000 functionality.
EMBEDDED SYSTEMS: The Company has completed approximately 95% of the
assessment of its critical Embedded Technology systems, which are those
systems in properties owned or leased by the Company in which a
microprocessor is embedded in equipment controlling building
environment, power, lighting, transportation, security, and fire
safety. The Company anticipates completion of evaluation of all
embedded systems by the end of 1998. The evaluation completed to date
has not revealed any critical Embedded System which is not (or will not
become so with minor software modifications) compliant with Year 2000
functionality. Embedded Systems in properties for which the Company
provides management services but which are not owned or leased by the
Company are not included in these percentages. The Company relies upon
certifications from the manufacturers, developers and authorized
vendors of the specific components containing Embedded Systems for
evaluation of compliance with Year 2000 functionality.
THIRD PARTY SERVICES: The Company will commence its evaluation of the
assessment of services provided by third parties with which the Company
has a material relationship in 1999 and anticipates completing that
evaluation by July of 1999. These material Third Party Services
include the private companies and municipalities supplying all
utilities and communications to the Company. Evaluation will be by
means of review of representations made by the third parties or of
<PAGE>
responses to written questionnaires by the Company to the third
parties. The Company does not anticipate that its exposure to a
failure of Third Party Services to be Year 2000 compliant will differ
from the exposure of communities at large to such failure.
COST TO ADDRESS YEAR 2000 ISSUES: The Company's projection of capital
expenditures and other financial items related to remediation and
testing of Year 2000 issues is necessarily an estimate because it
anticipates how remediation and testing will proceed in the future.
This assessment also cannot include property specific issues for
properties which may be acquired in the future and have not as yet been
evaluated. Nevertheless, based on the evaluation completed to date,
the costs to the Company of replacing or modifying IT and Embedded
Systems to bring them to Year 2000 compliance does not appear to be
material. The preceding statement does not include the cost of
replacement and modification of systems for which the replacement or
modification was not accelerated by Year 2000 issues, such as the
Company's payroll system, the costs for which are included in the
normal capital and operating budgets of the Company.
RISKS OF YEAR 2000 ISSUES: The only certainty about the Year 2000
problem is the difficulty of predicting with certainty what will
happen. The Company cannot guarantee that its efforts will prevent all
consequences. The failure of vendors, suppliers, customers,
transportation systems and utilities systems to anticipate and solve
Year 2000 issues could impact the Company and each community in which
it operates. The Company has not identified a material effect from
Year 2000 issues on the Company's results of operations, liquidity, and
financial condition. The worst case effects would appear to be
analogous to a natural disaster such as a storm or flood, with the
primary effect being a temporary interruption of utilities,
transportation and communication services.
CONTINGENCY PLANS: Each property owned and/or managed by the Company
has a contingency plan in place for interruption of utility and
communication services, which includes the alternatives for providing
services to guests and tenants. The Company anticipates completing an
update of the operational contingency plans for each property upon
completion of review of responses from providers of all material Third
Party Services.
NEW ACCOUNTING PRONOUNCEMENTS
-----------------------------
In June 1997, the Financial Accounting Standards Board (the "FASB")
issued Statement of Financial Accounting Standards ("SFAS") No. 131,
Disclosures about Segments for an Enterprise and Related Information
("SFAS 131"). This Statement requires public companies to report
selected segment information in their quarterly and annual reports
issued to shareholders, and entity wide disclosures about products and
services and major customers. The statement was adopted by the Company
on January 1, 1998.
<PAGE>
In June 1997, the FASB issued SFAS No. 130, Reporting Comprehensive
Income. This Statement requires that comprehensive income be reported
in a financial statement that is displayed with the same prominence as
other financial statements. Comprehensive income is defined as the
change in equity of a business enterprise arising from non-owner
sources. This Statement was adopted by the Company on January 1, 1998.
In April 1998, Statement of Position (SOP) 98-5, "Reporting on the
Costs of Start-up Activities" was issued. The SOP requires that all
costs of start-up activities and organization costs be expensed as
incurred. The Company is required to implement the SOP on January 1,
1999 and report the change as a cumulative effect of an accounting
change in the statement of income. The Company has not determined the
effect of adopting this new standard.
Part II - Other Information
---------------------------
ITEM 1. LEGAL PROCEEDINGS
In 1994, the Company was sued by the contractor who constructed one of
the Company's hotel properties asserting lack of payment of cost
overruns. The Company filed a counter claim for the recovery of
various damages. The Company obtained summary judgment for most of the
claims. After the Company obtained summary judgement for most claims,
the litigation was terminated on October 1, 1998 by a complete
settlement of all claims within the amount of funds originally withheld
from payment to the contractor until completion of the contract.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
The Company's Registration Statement for its initial public offering of
securities (File No. 333-44491) became effective on April 3, 1998.
Of the total net proceeds to the Company from the Offering which are
estimated to be in the amount of $81.4 million, the following amounts
were used from the date of the Offering through the date of this
report:
Amount
Category of Use of Use
---------------------------------------------------- ----------
Purchases of real estate $12.8 million
Repayment of indebtedness 68.6 million
None of the net proceeds to the Company of the offering was paid to
directors, officers, ten percent shareholders or affiliates of the
Company.
ITEMS 3, 4 and 5 of Part II are omitted from this report as they are
not applicable.
<PAGE>
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
27.1 Financial Data Schedule
(b) Reports on Form 8-K
On August 14, 1998, the Company filed a Current Report on
Form 8-K relating to the purchase of four hotels: Boise Park
Suites, Best Western Colonial Park, Best Western Canyon Springs,
Quality Inn and associated restaurants, rental space and
facilities from Sunstone Hotels, L.L.C. On October 14, 1998, the
Company filed an Amendment No. 1 to said Report on Form 8-K/A to
include the audited financial statements of the acquired hotels
and properties.
<PAGE>
CAVANAUGHS HOSPITALITY CORPORATION
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed below by the following person on behalf of
the registrant and in the capacities stated and on the date indicated.
CAVANAUGHS HOSPITALITY CORPORATION
(Registrant)
Date: November 13, 1998 By: /s/ Arthur M. Coffey
--------------------- -----------------------------------
Arthur M. Coffey, Executive Vice
President and Chief Financial
Officer
<PAGE>
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