<PAGE>
AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON MAY 11, 1998.
REGISTRATION NO. 333-50291
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
------------------------
AMENDMENT NO. 3 ON
FORM S-1
TO
REGISTRATION STATEMENT ON FORM S-3 UNDER THE
SECURITIES ACT OF 1933
U.S. FRANCHISE SYSTEMS, INC.
(Exact name of Registrant as specified in its charter)
<TABLE>
<S> <C> <C>
DELAWARE 7011 58-2361501
(State or other jurisdiction of (Primary Standard Industrial (IRS Employer
incorporation or organization) Classification Code Number) Identification Number)
</TABLE>
------------------------
13 CORPORATE SQUARE, SUITE 250
ATLANTA, GEORGIA 30329
(404) 321-4045
(Address, including zip code, and telephone number,
including area code, of registrant's principal executive offices)
------------------------------
MICHAEL A. LEVEN
CHAIRMAN, CHIEF EXECUTIVE OFFICER AND PRESIDENT
U.S. FRANCHISE SYSTEMS, INC.
13 CORPORATE SQUARE, SUITE 250
ATLANTA, GEORGIA 30329
(404) 235-7474
(Name, address, including zip code, and telephone number,
including area code, of agent for service)
------------------------------
COPIES TO:
<TABLE>
<S> <C>
PAUL D. GINSBERG ALAN DEAN
PAUL, WEISS, RIFKIND, WHARTON & GARRISON DAVIS POLK & WARDWELL
1285 AVENUE OF THE AMERICAS 450 LEXINGTON AVENUE
NEW YORK, NEW YORK 10019-6064 NEW YORK, NEW YORK 10017
(212) 373-3000 (212) 450-4000
</TABLE>
------------------------
APPROXIMATE DATE OF COMMENCEMENT OF THE PROPOSED SALE OF THE SECURITIES TO
THE PUBLIC: As soon as practicable after this Registration Statement becomes
effective.
If any of the securities being registered on this Form are to be offered on
a delayed or continuous basis pursuant to Rule 415 under the Securities Act of
1933, other than securities offered only in connection with dividend or interest
reinvestment plan, check the following box. / /
If this Form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, please check the following box
and list the Securities Act registration statement number of the earlier
effective registration statement for the same offering: / /
If this Form is a post-effective amendment filed pursuant to Rule 462(c)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering: / /
If this Form is a post-effective amendment filed pursuant to Rule 462(d)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering: / /
------------------------
THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR
DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL
FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION
STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(A) OF
THE SECURITIES ACT OF 1933, AS AMENDED, OR UNTIL THE REGISTRATION STATEMENT
SHALL BECOME EFFECTIVE ON SUCH DATE AS THE COMMISSION, ACTING PURSUANT TO SUCH
SECTION 8(A), MAY DETERMINE.
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- --------------------------------------------------------------------------------
<PAGE>
SUBJECT TO COMPLETION, DATED MAY 11, 1998
INFORMATION CONTAINED HEREIN IS SUBJECT TO COMPLETION OR AMENDMENT. A
REGISTRATION STATEMENT RELATING TO THESE SECURITIES HAS BEEN FILED WITH THE
SECURITIES AND EXCHANGE COMMISSION. THESE SECURITIES MAY NOT BE SOLD NOR MAY
OFFERS TO BUY BE ACCEPTED PRIOR TO THE TIME THE REGISTRATION STATEMENT BECOMES
EFFECTIVE. THIS PROSPECTUS SHALL NOT CONSTITUTE AN OFFER TO SELL OR THE
SOLICITATION OF AN OFFER TO BUY NOR SHALL THERE BE ANY SALE OF THESE SECURITIES
IN ANY STATE IN WHICH SUCH OFFER, SOLICITATION OR SALE WOULD BE UNLAWFUL PRIOR
TO REGISTRATION OR QUALIFICATION UNDER THE SECURITIES LAWS OF ANY SUCH STATE.
<PAGE>
4,500,000 SHARES
[LOGO]
CLASS A COMMON STOCK
ALL OF THE 4,500,000 SHARES OF CLASS A COMMON STOCK OFFERED HEREBY (THE
"OFFERING") ARE BEING SOLD BY U.S. FRANCHISE SYSTEMS, INC. ("USFS" OR
"COMPANY").
THE COMPANY HAS TWO CLASSES OF AUTHORIZED COMMON STOCK: CLASS A COMMON STOCK
AND CLASS B COMMON STOCK. THE HOLDERS OF CLASS A COMMON STOCK ARE ENTITLED TO
ONE VOTE PER SHARE AND THE HOLDERS OF CLASS B COMMON STOCK ARE ENTITLED TO TEN
VOTES PER SHARE. OTHERWISE, THE RIGHTS OF THE HOLDERS OF CLASS A COMMON STOCK
AND THE HOLDERS OF CLASS B COMMON STOCK ARE SUBSTANTIALLY IDENTICAL. CERTAIN
MEMBERS OF MANAGEMENT OWN OR VOTE ALL OF THE OUTSTANDING SHARES OF CLASS B
COMMON STOCK. UPON COMPLETION OF THE OFFERING, SUCH MEMBERS OF MANAGEMENT WILL
CONTROL APPROXIMATELY 65% OF THE COMBINED VOTING POWER OF THE CLASS A COMMON
STOCK AND THE CLASS B COMMON STOCK. SHARES OF CLASS B COMMON STOCK ARE
CONVERTIBLE INTO SHARES OF CLASS A COMMON STOCK ON A SHARE-FOR-SHARE BASIS. BOTH
CLASSES WILL GENERALLY VOTE TOGETHER AS ONE CLASS ON ALL MATTERS SUBMITTED TO A
VOTE OF STOCKHOLDERS, INCLUDING THE ELECTION OF DIRECTORS. SEE "DESCRIPTION OF
CAPITAL STOCK."
THE CLASS A COMMON STOCK IS TRADED ON THE NASDAQ NATIONAL MARKET UNDER THE
SYMBOL "USFS". ON MAY 8, 1998, THE LAST SALE PRICE OF THE CLASS A COMMON STOCK
AS REPORTED BY THE NASDAQ NATIONAL MARKET WAS $11.125 PER SHARE. SEE "PRICE
RANGE OF CLASS A COMMON STOCK."
SEE "RISK FACTORS" COMMENCING ON PAGE 12 OF THIS PROSPECTUS FOR A DISCUSSION
OF CERTAIN FACTORS THAT SHOULD BE CONSIDERED BY PROSPECTIVE PURCHASERS OF THE
CLASS A COMMON STOCK OFFERED HEREBY.
------------------------
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE SECURITIES
AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON
THE ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO
THE CONTRARY IS A CRIMINAL OFFENSE.
<TABLE>
<S> <C> <C> <C>
PRICE TO UNDERWRITING PROCEEDS TO
PUBLIC DISCOUNT (1) COMPANY (2)
PER SHARE................................ $ $ $
TOTAL (3)................................ $ $ $
</TABLE>
(1) SEE "UNDERWRITING" FOR INFORMATION CONCERNING INDEMNIFICATION OF THE
UNDERWRITERS AND OTHER MATTERS.
(2) BEFORE DEDUCTING EXPENSES PAYABLE BY THE COMPANY ESTIMATED AT $1.2 MILLION.
(3) THE COMPANY HAS GRANTED TO THE UNDERWRITERS A 30-DAY OPTION TO PURCHASE UP
TO 675,000 ADDITIONAL SHARES OF CLASS A COMMON STOCK SOLELY TO COVER
OVER-ALLOTMENTS, IF ANY. IF THE UNDERWRITERS EXERCISE THIS OPTION IN FULL,
THE PRICE TO PUBLIC WILL TOTAL $ , THE UNDERWRITING DISCOUNT WILL
TOTAL $ AND THE PROCEEDS TO COMPANY WILL TOTAL $ . SEE
"UNDERWRITING."
------------------------
THE SHARES OF CLASS A COMMON STOCK ARE OFFERED BY THE SEVERAL UNDERWRITERS
NAMED HEREIN WHEN, AS AND IF DELIVERED TO AND ACCEPTED BY THE UNDERWRITERS AND
SUBJECT TO THEIR RIGHT TO REJECT ANY ORDER IN WHOLE OR IN PART. IT IS EXPECTED
THAT DELIVERY OF THE CERTIFICATES REPRESENTING THE SHARES WILL BE MADE AGAINST
PAYMENT THEREFOR AT THE OFFICE OF NATIONSBANC MONTGOMERY SECURITIES LLC ON OR
ABOUT , 1998.
NationsBanc Montgomery Securities LLC
CIBC Oppenheimer
The Robinson-Humphrey Company
Schroder & Co. Inc.
, 1998
<PAGE>
[INSERT ARTWORK]
CERTAIN PERSONS PARTICIPATING IN THIS OFFERING MAY ENGAGE IN TRANSACTIONS
THAT STABILIZE, MAINTAIN OR OTHERWISE AFFECT THE PRICE OF THE COMMON STOCK
OFFERED HEREBY. SUCH TRANSACTIONS MAY INCLUDE STABILIZING, SYNDICATE SHORT
POSITIONS AND THE IMPOSITION OF PENALTY BIDS. FOR A DESCRIPTION OF THESE
ACTIVITIES, SEE "UNDERWRITING."
IN CONNECTION WITH THIS OFFERING, CERTAIN UNDERWRITERS AND SELLING GROUP
MEMBERS (IF ANY) MAY ENGAGE IN PASSIVE MARKET MAKING TRANSACTIONS IN THE COMMON
STOCK OF THE COMPANY ON THE NASDAQ NATIONAL MARKET IN ACCORDANCE WITH RULE 103
OF REGULATION M. SEE "UNDERWRITING."
2
<PAGE>
AVAILABLE INFORMATION
The Company is subject to the informational requirements of the Securities
Exchange Act of 1934, as amended (the "Exchange Act"), and in accordance
therewith files reports, proxy statements and other information with the
Securities and Exchange Commission (the "Commission"). The reports, proxy
statements and other information filed by the Company with the Commission may be
inspected and copied at the public reference facilities maintained by the
Commission at Judiciary Plaza, Room 1024, 450 Fifth Street, N.W., Washington,
D.C. 20549, and should be available at the Commission's Regional Offices at 7
World Trade Center, Suite 1300, New York, New York 10048 and Citicorp Center,
500 West Madison Street, Suite 1400, Chicago, Illinois 60661-2511. Copies of
such material also can be obtained at prescribed rates from the Public Reference
Section of the Commission at 450 Fifth Street, N.W., Washington, D.C. 20549. The
Commission maintains a site on the world wide web that contains reports, proxy
and information statements and other information on registrants, such as the
Company, who must file such material with the Commission electronically. The
Commission's internet address on the world wide web is http://www.sec.gov. The
Class A Common Stock is quoted on the Nasdaq National Market System under the
symbol "USFS" and certain of the Company's reports, proxy materials and other
information may be available for inspection at the offices of The Nasdaq Stock
Market at 1735 K Street, N.W., Washington, D.C. 20006.
The Company has filed with the Commission a Registration Statement on Form
S-1 (herein, together with all amendments and exhibits, referred to as the
"Registration Statement") under the Securities Act of 1933, as amended (the
"Securities Act"), with respect to the Class A Common Stock to be issued in
connection with the Offering. This Prospectus does not contain all of the
information set forth in the Registration Statement and the exhibits thereto,
certain parts of which were omitted as permitted by the rules and regulations of
the Commission. Such additional information may be obtained from the
Commission's principal office in Washington, D.C. Statements contained in this
Prospectus pertaining to the content of any contract or other document referred
to herein or therein are not necessarily complete, and in each instance where
the contract or other document has been filed as an exhibit to the Registration
Statement, reference is made to the copy of such contract or other document
filed as an exhibit; each such statement being qualified in all respects by such
reference.
3
<PAGE>
PROSPECTUS SUMMARY
THE FOLLOWING SUMMARY OF CERTAIN INFORMATION CONTAINED ELSEWHERE IN THIS
PROSPECTUS IS NOT INTENDED TO BE COMPLETE AND IS QUALIFIED IN ITS ENTIRETY BY
THE MORE DETAILED INFORMATION AND FINANCIAL STATEMENTS (INCLUDING THE NOTES
THERETO) APPEARING ELSEWHERE IN THIS PROSPECTUS. AS USED IN THIS PROSPECTUS,
UNLESS THE CONTEXT OTHERWISE REQUIRES, THE TERMS "USFS" AND "COMPANY" INCLUDE
U.S. FRANCHISE SYSTEMS, INC., ITS PREDECESSOR AND ITS SUBSIDIARIES AND THEIR
OPERATIONS. THE OFFERING OF SHARES OF THE CLASS A COMMON STOCK, PAR VALUE $0.01
PER SHARE (THE "CLASS A COMMON STOCK"), OF U.S. FRANCHISE SYSTEMS, INC. IS
REFERRED TO HEREIN AS THE "OFFERING." UNLESS OTHERWISE INDICATED, ALL
INFORMATION INCLUDED IN THIS PROSPECTUS ASSUMES THAT THE UNDERWRITERS' OVER-
ALLOTMENT OPTION WILL NOT BE EXERCISED. THE FOLLOWING TRADEMARKS, WHICH ARE
REFERENCED THROUGHOUT THIS PROSPECTUS, ARE REGISTERED TO THE COMPANY: MICROTEL
INN-REGISTERED TRADEMARK-, MICROTEL INN & SUITES-REGISTERED TRADEMARK-, MICROTEL
SUITES-REGISTERED TRADEMARK-, MICRO SUITES-REGISTERED TRADEMARK-, HAWTHORN
SUITES-REGISTERED TRADEMARK-, AND HAWTHORN SUITES LTD-REGISTERED TRADEMARK-.
THE COMPANY
U.S. Franchise Systems, Inc. is a fast growing brand development and
franchise sales company. USFS acquires, markets and services well-positioned
brands with potential for rapid unit growth through the sale of franchises to
third-party owners. The Company's current brands, which are in the lodging
industry, are the Microtel budget brand ("Microtel"), the Hawthorn Suites
extended-stay brand ("Hawthorn") and the recently acquired Best Inns brand
("Best Inns"), which is an economy and upper economy brand positioned between
Microtel and Hawthorn. See "Business--Recent Developments--Best Inns." USFS has
grown since October 1995 from 27 franchised hotels open or "under development"
in nine states to 524 franchised hotels open or under development (104 open and
420 under development), plus an additional 80 accepted franchise applications
that have not been converted into executed franchise agreements, in 49 states as
of April 1, 1998 ("under development" includes hotels that are under
construction or for which franchise agreements have been executed but
construction has not yet commenced). USFS attributes this rapid growth to, among
other things, the potential profitability of its brands for franchisees, the
positions of its brands in attractive segments of the lodging industry, and the
size and experience of the USFS franchise sales force. Management believes that
its 48 person franchise sales force, which together with the Company's senior
management has sold over 2,000 franchises on behalf of other hotel chains, is
the largest franchise sales organization per brand and the second largest
franchise sales organization in the lodging industry. See
"Business--Operations--Franchise Sales" and "Management."
The Company's revenues are primarily derived from franchise application
fees, franchise royalty fees and reservation and marketing fees that are
calculated as a percentage of individual hotel revenues rather than on the
profitability of hotel operations. The Company does not typically own hotel real
estate. As a franchisor, USFS licenses the use of its brand names to independent
hotel owners and operators (i.e., franchisees). With the acquisition of Best
Inns, USFS gained management contracts and management capabilities that provide
the Company with another fee stream calculated as a percentage of individual
hotel revenues to complement and potentially accelerate the Company's
franchising efforts.
The Company has accomplished the following in executing its business and
growth strategy:
- From the time the Company acquired the exclusive rights to franchise the
Microtel brand in October 1995, USFS has dramatically grown the brand from
27 franchised hotels open or under development in nine states to 411
franchised hotels open or under development (75 open and 336 under
development), plus an additional 60 accepted franchise applications that
have not been converted into executed franchise agreements as of April 1,
1998. See "Risk Factors--Dependence On, and Obstacles To, Hotel Openings"
and "--No Rights to Certain Royalties."
- From the time USFS acquired the exclusive rights to franchise the Hawthorn
brand in March 1996, the Company has increased distribution of the brand
from 18 franchised hotels open or under development to 113 franchised
hotels open or under development (29 open and 84 under development), plus
an additional 20 accepted franchise applications that have not been
converted into
4
<PAGE>
executed franchise agreements as of April 1, 1998. See "Risk
Factors--Dependence On, and Obstacles To, Hotel Openings."
- On March 17, 1998, the Company formed a $100 million development fund with
NorthStar Capital Partners LLC (together with its affiliates,
"NorthStar"), Lubert-Adler Real Estate Opportunity Funds, L.P. (together
with its affiliates, "Lubert-Adler") and Constellation Equity Corp., a
newly-formed entity owned by NorthStar and Lubert-Adler ("Constellation")
to accelerate the development of Microtel and Hawthorn properties in high
profile, high barriers to entry areas. See "Business--Recent
Developments--Development Fund."
- On April 28, 1998, the Company acquired the exclusive worldwide franchise
rights to the Best Inns brand. The Company expects to market Best Inns as
a conversion brand to independent owners of existing hotels, thereby
broadening its potential franchisee base and allowing the Company to
recognize royalty fees significantly sooner than with newly built hotels.
See "Business--Recent Developments--Best Inns."
- On March 12, 1998, the Company acquired full ownership of the Hawthorn
brand from entities related to the Pritzker family, eliminating royalties
that the Company would have owed under the royalty-sharing agreement
previously in place and removing certain restrictions on the Company's
ability to purchase certain other hotel brands. In this transaction, the
Pritzker family entities exchanged their rights to a future royalty stream
for 2,222,222 shares of Class A Common Stock. See "Business--Recent
Developments--Acquisition of Remaining Interest in Hawthorn."
- The Company has launched its first national cable television advertising
campaign on CNN, CNN Headline News, The Weather Channel and CNNsi for the
Microtel and Hawthorn chains. See "Business--Operations--Marketing."
Additionally, the Company is in the process of rolling out FIRST, an
Internet-based central reservations system designed to provide franchisees
an efficient means to link to travel agencies and to present their
properties to millions of potential customers. See
"Business--Operations--Reservations."
- The Company has added three key individuals in the lodging industry to its
board of directors; Douglas Geoga, President of Hyatt Hotels Corporation,
David T. Hamamoto, co-Chief Executive Officer, co-President and
co-Chairman of NorthStar Capital Investment Corp. and former co-head and
co-founder of the Whitehall Funds at Goldman, Sachs & Co., and Steven M.
Romaniello, Executive Vice President--Franchise Sales and Development of
the Company. See "Management."
The Company's management team and sales force is led by its Chairman, Chief
Executive Officer and President Michael A. Leven, who has 37 years of experience
in the lodging industry, and its Executive Vice President and Chief Financial
Officer, Neal K. Aronson, a former principal of the New York investment firm
Odyssey Partners, L.P. Mr. Leven most recently served as President of Holiday
Inn Worldwide (1990-95) and President and Chief Operating Officer of Days Inn of
America, Inc. (1985-1990), franchisors of two of the largest lodging brands in
the world. See "Management."
BUSINESS STRATEGY
The Company's primary business strategy is to maximize revenues and
profitability by capitalizing on the operating leverage inherent in the
franchising business by (i) rapidly increasing the number of hotels franchised
under its current brands and (ii) acquiring additional lodging or other
service-oriented brands that provide attractive unit economics to franchisees
and significant growth opportunities for the Company.
The Company expects to enjoy significant operating leverage by virtue of its
investments to date in its management and franchise sales infrastructure that
have been designed to permit the sale, management and administration of
additional franchises and franchise brands with minimal incremental investment.
As
5
<PAGE>
a result, the Company expects to enjoy significant incremental profits in the
future from additional franchise royalty revenue received after fixed costs are
covered.
STRATEGIES TO ACCELERATE FRANCHISE SALES
OFFER A VARIETY OF PRICE POINTS. With the addition of the Best Inns brand,
the Company is able to offer to potential franchisees lodging brands in three
important price segments of the hotel industry. Microtel is an all new-build
brand that competes with older hotels in the budget segment of the hotel
industry. Hawthorn competes in the mid-price and upscale price points of both
the extended stay and transient suite segments. The Best Inns brand is
positioned between the Company's two existing brands, competing in the economy
and upper economy segments.
OFFER A VARIETY OF DEVELOPMENT OPTIONS. With the addition of the Best Inns
brand, the Company is now better positioned to offer potential franchisees a
"conversion" opportunity as well as new-build products. A conversion brand such
as Best Inns, which offers potential franchisees the opportunity to convert
existing hotels to such brand, has three primary benefits to the Company:
(i) conversion of an existing hotel to a USFS brand is generally
considerably quicker than franchising a hotel through new construction,
thereby allowing the Company to recognize franchise royalty revenues
significantly sooner;
(ii) converted hotels typically are fully operational, thereby providing the
Company with an immediate royalty revenue opportunity based on the hotel's
existing revenues which may be significantly higher than those generated by
a newly built hotel that typically experiences a "ramp up" period; and
(iii) a conversion brand enhances the Company's ability to sell hotel
franchises during economic downturns when owners of independent hotels may
seek the advantages offered by being part of a larger hotel chain and owners
of chain-affiliated hotels may seek to change brands in an effort to
increase profitability.
OFFER MANAGEMENT SERVICES. With the completion of the Best Inns
acquisition, the Company acquired a platform for providing management services
to hotel developers and owners, such as financial institutions, that are not
equipped to manage properties themselves. As a result, the addition of this
management function permits the Company to target an expanded universe of
potential franchisees, while providing the Company with an additional source of
fee-based revenues that are calculated as a percentage of individual hotel
revenues rather than on the profitability of the hotel's operations. In
addition, the Company may structure incentive fees in management contracts based
on achieving specified operating performance goals.
ENTER INTO STRATEGIC PARTNERSHIPS TO PROMOTE BRAND GROWTH. The Company
intends to continue to seek strategic relationships with strong financial real
estate partners that are designed to facilitate the development and expansion of
the Company's brands. For example, the Company has formed the Development Fund
with NorthStar and Lubert-Adler in order to provide "one stop" debt and equity
financing at competitive rates for local developers in high profile, high
barriers to entry areas. See "Business--Recent Developments--Development Fund."
Also, Sunstone Hotel Investors, Inc. and Equity Inns, Inc., two publicly traded
REITs have expressed interest in seeking opportunities to acquire newly built
Hawthorn properties or convert existing properties to the Hawthorn brand. The
Company expects these relationships to enable it to attract hotel developers
that may seek to sell a newly constructed hotel upon completion of its
construction.
ACQUISITION STRATEGY
REGIONAL CHAIN ACQUISITION STRATEGY. The Company intends to continue to
explore the acquisition of regional hotel chains that either can be converted to
one of the Company's brands or added as a new brand
6
<PAGE>
to complement the Company's existing brand portfolio. To pursue this strategy,
the Company may join with a real estate partner that may acquire the related
real property, such as in the Best Inns acquisition. See "Business--Recent
Developments--Best Inns." The Company believes that the continuing consolidation
of the lodging industry will afford additional opportunities to acquire regional
chains.
OTHER ACQUISITION OPPORTUNITIES. Additionally, the Company intends to
explore acquisition opportunities of complementary national lodging brands and
other service-oriented brands outside the lodging industry that can be
franchised. There can be no assurance, however, that the Company will be
successful in identifying regional chain or other acquisition candidates or that
such acquisitions, if completed, will be successful. See "Risk
Factors--Successful Completion and Integration of Acquisitions."
THE COMPANY'S BRANDS
MICROTEL. Microtel is an all new-build brand in the budget segment of the
lodging industry with an average daily room rate of typically between $35 and
$45. Microtels are distinctively styled hotels with a residential look that
offer travelers an attractive and consistent appearance, clean, comfortable
rooms and the safety of interior corridor access, all for a competitive room
rate. Evidence of the appeal of Microtels to hotel guests is found in its
"intent-to-return" rating, which measures guests' overall satisfaction and
willingness to return to a Microtel in the future. In surveys of approximately
32,000 Microtel guests conducted by franchisees during the past twelve months,
approximately 98% of Microtel guests expressed intent to return to a Microtel in
the future. See "Business--The Company's Brands-Microtel."
HAWTHORN. Hawthorn targets the upscale segment of the extended-stay lodging
market, which is defined as guests that stay five or more consecutive nights
with an average daily room rate of typically between $75 and $95. Hotels in this
segment offer guests many of the amenities of an apartment with the convenience
and flexibility of a traditional hotel. Hawthorn hotels offer large suites
equipped with full kitchens and work spaces and offer laundry facilities,
exercise rooms, daily housekeeping, 24-hour front-desk service, complimentary
hot breakfast and hospitality hours. In October 1997, the Company introduced the
mid-market brand extension, Hawthorn Suites LTD, which offers traditional
Hawthorn suites as well as smaller suites with limited amenities. Hawthorn
Suites LTD targets both extended-stay and overnight travel guests. See
"Business--The Company's Brands--Hawthorn."
BEST INNS. Best Inns and Suites operate in the economy and upper economy
segment of the lodging industry, generating an average daily room rate of
typically between $40 and $70. Best Inns properties offer such amenities as free
local phone calls, complimentary Special K-Registered Trademark- breakfast and
evening coffee. Best Inns has several marketing programs designed to build
repeat business, including the Best Inns Preferred Guest Program and the
"Seniors 1st Club." See "Business--The Company's Brands--Best Inns."
RECENT DEVELOPMENTS
FIRST QUARTER RESULTS. The Company reported revenue of $1,983,000 for the
three months ended March 31, 1998 compared to revenue of $545,000 for the three
months ended March 31, 1997. Revenue for the three months ended March 31, 1998
included $1,067,000 in franchise application and royalty fees, $334,000 in other
fees and $582,000 in marketing and reservation fees. Marketing and reservation
fees are intended to reimburse the Company for expenses associated with
providing support services to its franchisees and do not generate profits for
the Company. The Company's net loss for the three months ended March 31, 1998
was $1.86 million, or $.14 a share, compared to a net loss of $2.52 million, or
$.20 a share for the three months ended March 31, 1997. Total cash and
equivalents at March 31, 1998 was $16.3 million. The Company's balance sheet
also included franchise sales activity, with $9.7 million of deferred revenue
and $6.3 million in offsetting deferred sales expenses which is only recognized
when the related hotels open.
7
<PAGE>
ACQUISITION OF REMAINING INTEREST IN HAWTHORN. On March 12, 1998, the
Company completed its acquisition (the "HSA Acquisition") of the remaining
interest in its Hawthorn brand owned by two Pritzker family related entities. In
this transaction, the Company issued to the Pritzker family related entities
2,222,222 shares of its Class A Common Stock, representing as of that date
approximately 15% of the fully-diluted shares of the Company, in exchange for
royalties that USFS otherwise would have owed under the royalty sharing
arrangement originally in place. In addition, the acquisition removed
restrictions on the Company's ability to purchase certain other hotel brands.
Among its holdings, Pritzker family business interests own Hyatt Hotels
Corporation. As part of the transaction, Douglas Geoga, President of Hyatt
Hotels Corporation, joined the Company's board of directors. See
"Business--Recent Developments--Acquisition of Remaining Interest in Hawthorn"
and "Management."
DEVELOPMENT FUND. On March 17, 1998, NorthStar, Lubert-Adler and
Constellation committed to contribute to Constellation Development Fund LLC (the
"Development Fund") equity totalling $50 million. The Development Fund was
established to provide capital that will allow the Company to extend its
Microtel and Hawthorn brands into high profile, high barriers to entry areas by
providing debt and equity financing to selected local developers. In addition,
the Development Fund is negotiating the terms of a $60 million senior credit
facility with a commercial bank. To date, no commitment letter has been obtained
from a commercial bank with respect to a senior credit facility and there can be
no assurance that a senior credit facility will be arranged on terms acceptable
to the Development Fund. The Development Fund is expected to fund the
construction of 20 to 25 Microtel or Hawthorn hotels over the next eighteen
months, and is currently in the process of reviewing five projects requesting
debt and equity commitments totalling approximately $22 million. In connection
with the establishment of the Development Fund, the Company has committed to
lend up to $10 million at an interest rate of 8% per annum to Constellation,
which will use the funds to make a subordinated equity investment in the
Development Fund, and the Company sold an aggregate of 500,000 shares of Class A
Common Stock to NorthStar and Lubert-Adler for $5.625 million. NorthStar and
Lubert-Adler also have the right to purchase up to an additional 500,000 shares
of Class A Common Stock at a price of $11.25 per share. The Company will also be
paid approximately $3.5 million over the next five years to manage the
Development Fund. See "Business--Recent Developments--Development Fund" and
"Certain Relationships and Related Transactions."
BEST INNS. On April 28, 1998, the Company acquired, among other things, the
exclusive worldwide franchise rights to the Best Inns hotel brands. In
connection with this transaction, the Company and the sellers entered into an
agreement with Alpine Hospitality Ventures LLC ("Ventures") pursuant to which
Ventures acquired 17 Best Inns hotels (the "Acquired Hotels"). Additionally, the
Company made a $15 million subordinated loan to Ventures and issued 350,000
shares of Class A Common Stock to an affiliate of Ventures for a cash purchase
price of $1.6 million. The Company used the proceeds of a $10 million bank loan,
the $1.6 million it received from the affiliate of Ventures and $3.4 million of
its own cash to make the $15 million loan to Ventures. As a result of the
transaction, the Company owns the exclusive worldwide franchise rights to the
Best Inns hotel brands, is the franchisor of 35 existing Best Inns hotels and
will be the franchisor of three Best Inns hotels under development and manages
29 of the existing Best Inns hotels and will manage two of the Best Inns hotels
under development. See "Business--Recent Developments--Best Inns" and "Certain
Relationships and Related Transactions."
------------------------
The Company's predecessor was formed in August 1995 as a Delaware
corporation. The Company was incorporated in Delaware on November 26, 1997 and
merged with its predecessor on March 12, 1998, with the Company as the surviving
corporation. USFS's executive offices are located at 13 Corporate Square, Suite
250, Atlanta, Georgia 30329. Its telephone number is (404) 321-4045.
8
<PAGE>
THE OFFERING
<TABLE>
<S> <C>
Common Stock Offered......... 4,500,000 shares of Class A Common Stock
Common Stock to be
Outstanding After the
Offering................... 20,125,113 total shares of Common Stock
17,417,194 shares of Class A Common Stock
2,707,919 shares of Class B Common Stock, par value $0.01
per share (the "Class B Common Stock" and together with the
Class A Common Stock, the "Common Stock")
Use of Proceeds.............. The net proceeds of the Offering are expected to be used as
follows: (i) to repay approximately $19.7 million aggregate
principal amount outstanding on the Company's 10%
Subordinated Debentures due September 29, 2007, plus accrued
interest thereon to the date of repayment, (ii) to repay
approximately $10.0 million aggregate principal amount
outstanding under the loan incurred by the Company in
connection with the Best Inns acquisition (see
"Business--Recent Developments--Best Inns") and (iii) for
working capital and general corporate purposes, which may
include the financing of additional acquisitions. See "Use
of Proceeds."
Voting Rights................ Shares of Class A Common Stock have one vote per share,
while shares of Class B Common Stock have ten votes per
share. The Class B Common Stock, the holders of which have
effective control of the Company, is voted only by Michael
A. Leven, the Company's Chairman of the Board and Chief
Executive Officer, and Neal K. Aronson, the Company's
Executive Vice President and Chief Financial Officer. Class
B Common Stock is convertible into Class A Common Stock on a
share-for-share basis and, with limited exceptions, will
automatically convert into Class A Common Stock upon
transfer. The Class B Common Stock is not being offered by
this Prospectus. See "Risk Factors--Management By Virtue of
Ownership of Supervoting Class B Common Stock, Controls the
Company," "Description of Capital Stock--Common Stock" and
"Principal Stockholders--Management's Shares of Common
Stock."
Nasdaq National Market
Symbol..................... USFS
</TABLE>
9
<PAGE>
SUMMARY CONSOLIDATED FINANCIAL DATA
The following table sets forth the summary consolidated financial data of
the Company as of March 31, 1998 and 1997 and December 31, 1997, 1996 and 1995
and for the three months ended March 31, 1998 and 1997 and for the years ended
December 31, 1997 and 1996 and the period from August 28, 1995 to December 31,
1995. The summary consolidated financial data of the Company should be read in
conjunction with the Consolidated Financial Statements of the Company included
elsewhere herein and with "Management's Discussion and Analysis of Financial
Condition and Results of Operations."
<TABLE>
<CAPTION>
PERIOD FROM
AUGUST 28,
1995
THREE MONTHS THREE MONTHS (INCEPTION) TO
ENDED ENDED YEAR ENDED YEAR ENDED DECEMBER 31,
MARCH 31, 1998 MARCH 31, 1997 DECEMBER 31, 1997 DECEMBER 31, 1996 1995
-------------- -------------- ----------------- ----------------- --------------
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
<S> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS
DATA:
Revenues................. $ 1,983 $ 545 $ 3,948 $ 1,292 $ --
Operating Expenses....... (3,615) (2,963) (12,376) (8,628) (1,327)
-------------- -------------- ----------------- ----------------- --------------
Operating Loss........... (1,632) (2,418) (8,428) (7,336) (1,327)
Interest Income.......... 229 383 1,386 871 195
Interest Expense......... (452) (480) (1,905) (126) (36)
-------------- -------------- ----------------- ----------------- --------------
Net Loss................. (1,855) (2,515) $ (8,947) $ (6,591) $ (1,168)
-------------- -------------- ----------------- ----------------- --------------
-------------- -------------- ----------------- ----------------- --------------
Loss Applicable to Common
Stockholders........... (1,855) (2,515) $ (8,947) $ (8,309) $ (1,577)
-------------- -------------- ----------------- ----------------- --------------
-------------- -------------- ----------------- ----------------- --------------
Net Loss Applicable to
Common Stockholders Per
Share-Basic............ (0.14) (0.20) $ (0.71) $ (0.75) $ (0.15)
Weighted Average Number
of Common Shares
Outstanding (1)........ 13,094,249 12,580,395 12,563,772 11,059,576 10,755,409
BALANCE SHEET DATA (AT
PERIOD END):
Working Capital.......... 13,418 25,745 $ 12,144 $ 28,115 $ 13,265
Total Assets............. 59,139 37,826 36,351 40,105 18,072
Total Liabilities........ 33,341 27,662 32,153 9,022 1,845
Redeemable Preferred
Stock (2).............. -- -- -- 18,477 16,759
Redeemable Common
Stock.................. 324 330 324 330 330
Stockholders' Equity
(deficit).............. $ 25,474 $ 9,834 $ 3,874 $ 12,276 $ (862)
</TABLE>
- ------------------------
(1) Includes 3,186,280 shares of Class A Common Stock that are redeemable under
certain circumstances by the Company for reasons not under the Company's
control. See "Principal Holders of Common Stock--Management's Shares of
Common Stock." Does not include 350,000 shares of Class A Common Stock
issued in connection with the Best Inns acquisition. See "Business-- Recent
Developments--Best Inns" and "Certain Relationships and Related
Transactions."
(2) On January 1, 1997, all the outstanding shares of Redeemable Preferred Stock
were exchanged for $18,477,000 aggregate principal amount of 10%
Subordinated Debentures due September 29, 2007 (the "Subordinated
Debentures").
10
<PAGE>
FRANCHISE DATA
The following data for Microtel and Hawthorn are not derived from the
audited consolidated financial statements of the Company.
MICROTEL
<TABLE>
<CAPTION>
DECEMBER 31,
APRIL 1, ------------------------
1998 1997 1996
----------- ----- -----
<S> <C> <C> <C>
Properties Open (1)................................................................ 75 64 28
Properties Under Development:
Executed Agreements and Under Construction..................................... 59 52 25
Executed Franchise Agreements but not Under Construction (2)................... 277 253 168
Accepted Applications.............................................................. 60 77 82
--- --- ---
Total Under Development and Accepted Applications (3).............................. 396 382 275
--- --- ---
OPEN PLUS UNDER DEVELOPMENT AND ACCEPTED APPLICATIONS.............................. 471 446 303
--- --- ---
--- --- ---
<CAPTION>
1995
-----
<S> <C>
Properties Open (1)................................................................ 23
Properties Under Development:
Executed Agreements and Under Construction..................................... 4
Executed Franchise Agreements but not Under Construction (2)................... 3
Accepted Applications.............................................................. 12
--
Total Under Development and Accepted Applications (3).............................. 19
--
OPEN PLUS UNDER DEVELOPMENT AND ACCEPTED APPLICATIONS.............................. 42
--
--
</TABLE>
- ------------------------
(1) The Company does not receive royalties from twenty-eight hotels open as of
April 1, 1998. See "Risk Factors--No Rights to Certain Royalties" and
"Business--Acquisition of the Microtel System."
(2) The Company will not receive royalties from five of the executed franchise
agreements as of April 1, 1998. See "Risk Factors--No Rights to Certain
Royalties" and "Business--Acquisition of the Microtel System."
(3) There can be no assurance that properties under development or for which
applications have been accepted will result in open hotels. See "Risk
Factors--Dependence on, and Obstacles to, Hotel Openings."
HAWTHORN
<TABLE>
<CAPTION>
DECEMBER 31,
APRIL 1, ------------------------
1998 1997 1996
----------- ----- -----
<S> <C> <C> <C>
Properties Open....................................................................... 29 26 19
Properties Under Development:
Executed Agreements and Under Construction........................................ 19 14 2
Executed Franchise Agreements but not Under Construction.......................... 65 54 17
Accepted Applications................................................................. 20 17 14
--
--- ---
Total Under Development and Accepted Applications (1)................................. 104 85 33
--
--- ---
OPEN PLUS UNDER DEVELOPMENT AND ACCEPTED
APPLICATIONS........................................................................ 133 111 52
--
--
--- ---
--- ---
</TABLE>
- ------------------------
(1) There can be no assurance that properties under development or for which
applications have been accepted will result in open hotels. See "Risk
Factors--Dependence on, and Obstacles to, Hotel Openings."
11
<PAGE>
RISK FACTORS
THIS PROSPECTUS CONTAINS FORWARD-LOOKING STATEMENTS THAT INVOLVE RISKS AND
UNCERTAINTIES. SEE "CAUTIONARY STATEMENT CONCERNING FORWARD-LOOKING STATEMENTS."
THE FOLLOWING RISKS SHOULD BE CAREFULLY CONSIDERED IN EVALUATING THE COMPANY AND
ITS BUSINESS BEFORE PURCHASING THE CLASS A COMMON STOCK OFFERED BY THIS
PROSPECTUS.
LIMITED OPERATING HISTORY; NET LOSSES
The Company began operating in October 1995 and therefore has a very limited
operating history upon which investors can evaluate its performance. While the
Company believes that it has a well-conceived strategy and that it has assembled
an experienced and well-qualified management team to implement this strategy,
the Company has incurred losses to date and there can be no assurance that it
will be profitable in the future. As of March 31, 1998, the Company had an
accumulated deficit of $19.2 million and has accumulated net losses applicable
to common stockholders of approximately $20.7 million since inception to March
31, 1998. There can be no assurance that the Company will become profitable.
DEPENDENCE ON, AND OBSTACLES TO, HOTEL OPENINGS
The Company expects that in the future a principal source of revenues will
be royalty fees received from its franchisees. Accordingly, future revenues will
be highly dependent on the number of open hotels and their gross room revenues.
There are numerous factors beyond the control of the Company which affect the
probability of a hotel opening. These factors include, but are not limited to,
the ability of a potential hotel owner to (i) secure adequate financing or
satisfy financing payments during the construction period, (ii) locate an
appropriate site for a hotel, and (iii) obtain all necessary state and local
construction, occupancy or other permits and approvals. Based on the Company's
limited experience, the current average time from the initial filing of an
application to the opening of a hotel is approximately 15 to 18 months for a
Microtel and seven to 15 months for a Hawthorn brand hotel. Historically,
approximately 41% of accepted applications for Microtels and approximately 35%
of accepted applications for Hawthorn brand hotels will not result in an open
hotel. There can be no assurance, however, that the yield of open hotels from
accepted applications will continue at the same rate, that accepted franchise
applications will result in executed franchise agreements or that executed
franchise agreements will result in open properties.
MANAGEMENT, BY VIRTUE OF OWNERSHIP OF SUPERVOTING CLASS B COMMON STOCK, CONTROLS
THE COMPANY
Holders of Class A Common Stock are entitled to one vote per share and
holders of Class B Common Stock are entitled to ten votes per share. Each share
of Class B Common Stock is convertible at any time into one share of the Class A
Common Stock and, with limited exceptions, will convert automatically upon any
transfer thereof. Mr. Leven and Mr. Aronson have the right to vote all of the
outstanding shares of Class B Common Stock, which, together with shares of Class
A Common Stock which they beneficially own, represent approximately 72% of the
combined voting power of the outstanding Common Stock before giving effect to
the Offering and approximately 65% after giving effect to the Offering. By
reason of their right to vote the Class B Common Stock, after giving effect to
the Offering, Messrs. Leven and Aronson will be able to (i) elect all of the
Company's directors (except as otherwise contractually provided), (ii) amend the
Charter with respect to most matters, (iii) effect a merger, sale of assets or
other major corporate transaction, (iv) defeat an unsolicited takeover attempt
and (v) generally direct the affairs of the Company (including in a manner that
may benefit themselves disproportionately relative to other shareholders). For
instance, on October 30, 1996, the Company and Messrs. Leven and Aronson amended
the respective agreements pursuant to which Messrs. Leven and Aronson had
previously been issued, cumulatively, 51% of the shares of USFS and which
agreements contained significant vesting and forfeiture provisions. These
amendments, in part, relaxed certain of the vesting provisions for some of their
shares, eliminated the vesting and forfeiture provisions for others of their
shares, converted certain of their
12
<PAGE>
shares into the then newly created Class B Common Stock and eliminated the
ability of the Company to compel the repurchase of shares from Messrs. Leven and
Aronson in order to reissue such shares to other members of management. See
"Principal Holders of Common Stock--Management's Shares of Common Stock--1996
Amendment." Although Mr. Leven is Mr. Aronson's uncle, Mr. Leven and Mr. Aronson
do not have any agreements or other obligations to vote together on matters
involving the Company (although Mr. Aronson has granted Mr. Leven the right to
vote some of his shares of Class A Common Stock and some of his shares of Class
B Common Stock). See "Description of the Capital Stock," and "Principal Holders
of Common Stock."
MANAGEMENT OF GROWTH
The Company has experienced rapid growth in the number of its employees and
the scope of its operations since its inception. This growth has resulted in,
and is expected to continue to create, new and increased responsibilities for
management personnel, as well as added demands on the Company's operating and
financial systems. The Company's success will depend on its ability to manage
this growth while implementing its strategy. The efforts of key management
personnel and the Company's ability to attract or develop new management
personnel and to integrate these new employees into its overall operations will
be crucial to continued growth. If the Company is unable to manage growth
effectively, the Company's business and results of operations could be
materially and adversely affected. See "Management."
SUCCESSFUL COMPLETION AND INTEGRATION OF ACQUISITIONS
One element of the Company's business strategy is to continuously evaluate
acquisitions and business combinations. These acquisitions may be of brands that
the Company would expect to franchise, which may be in the lodging industry or
in other industries, or of businesses that the Company does not expect to
franchise, which would require the Company to develop expertise in areas that it
does not currently operate. There can be no assurance that the Company will
identify and complete suitable acquisitions or if completed, that such
acquisitions will be successfully integrated. Acquisitions involve numerous
risks, including difficulties assimilating new operations and brands. There can
be no assurance that any acquisitions would result in long-term benefits to the
Company or that management would be able to manage effectively the resulting
business.
With the completion of the Best Inns acquisition, the Company is now
integrating into its operations the Best Inn brands and management contracts and
capabilities. While Mr. Leven and other members of the Company's management have
significant experience in managing hotel properties for other companies, the
Company has not previously managed hotel properties. There can be no assurance
that the Company will not encounter difficulties integrating effectively the
management operations of Best Inns or the sale of Best Inns franchises.
Furthermore, there can be no assurance that, even if integrated, such operations
and brands will be successful.
DEPENDENCE ON SENIOR MANAGEMENT
The success of the Company is largely dependent on the efforts and abilities
of its senior management and certain other key personnel, particularly Mr.
Leven, Chairman, President and Chief Executive Officer, Mr. Aronson, Executive
Vice President and Chief Financial Officer, David E. Shaw, Executive Vice
President--Administration, Steve Romaniello, Executive Vice President-Franchise
Sales and Development, and James Darby, Executive Vice President--Franchise
Operations. The Company's success will depend in large part on its ability to
retain these individuals and other current members of its senior management team
and to attract and retain qualified personnel in the future. The loss of members
of senior management or of certain other key employees or the Company's
inability to retain other qualified employees could have an adverse impact on
the Company's business and results of operations. The
13
<PAGE>
Company does not maintain key person life insurance on behalf of the lives of
any of its officers or employees. See "Management."
NO RIGHTS TO CERTAIN ROYALTIES
The terms of the agreement pursuant to which the Company acquired the rights
to franchise the Microtel brand (the "Microtel Acquisition Agreement") expressly
provide that the Company is not entitled to royalties with respect to Microtel
hotels that were open or under construction, or with respect to which franchise
agreements had been executed or applications accepted, at the time of the
acquisition by the Company of the right to franchise this brand. Similarly, the
Company is not currently entitled to royalties with respect to the 22 additional
Microtels and the 10 Microtel all-suites hotels that Hudson Hotels Corporation,
the entity from which the Company acquired the Microtel brand ("Hudson"), its
affiliates and certain other persons are entitled to franchise pursuant to the
terms of the Microtel Acquisition Agreement. See "Business--Acquisition of the
Microtel System." Of the existing Microtel properties, the Company is entitled
to receive royalty fees from 47 Microtels as of April 1, 1998. Accordingly, the
Company will be dependent upon future hotel openings to recognize franchise
application fees as revenue and to generate franchise royalty fees. See
"--Dependence On, and Obstacles to, Hotel Openings."
RISKS RELATING TO MICROTEL ACQUISITION AGREEMENT
The Microtel Acquisition Agreement obligates the Company to execute new
franchise agreements and have open or under construction a specified number of
Microtels each year. Specifically, the Microtel Acquisition Agreement requires
that there are, on a cumulative basis, at least 50 "new" Microtels (i.e., not
open or under construction at the date of the Microtel Acquisition Agreement)
open or under construction by December 1997, 100 by December 1998, 175 by
December 1999, and 250 by December 2000. As of April 1, 1998, there were 105
"new" Microtels open or under construction. The Microtel Acquisition Agreement
further provides that if the Company is unable to comply with the development
schedule for two consecutive years but opens or has under construction at least
75% of the number of Microtels required by such schedule, the Company may cure
the default by paying a $1 million penalty within 30 days of notice of such
default. If the Company fails to comply with this development schedule and to
make the requisite cure payment or payments, all rights to the Microtel system
automatically revert to Hudson. Accordingly, the Company's ability to comply
with the development schedule will depend on its ability to attract franchisees
that are willing to invest in lodging properties. See "--General Risks of the
Lodging Industry." There can be no assurance that the Company will comply with
the foregoing development schedule, and the Company's failure to meet such
schedule or to pay the requisite cure payments would have a material adverse
effect on the Company. See "Business--Acquisition of the Microtel Systems."
COMPETITION FOR NEW FRANCHISE PROPERTIES AND HOTEL GUESTS
Competition among national brand franchisors and smaller chains in the
lodging industry to grow their franchise systems is intense. The management of
the Company believes that competition for the sale of lodging franchises is
based principally upon (i) the perceived value and quality of the brand, (ii)
the nature and quality of services provided to franchisees, (iii) the
franchisees' view of the relationship of building or conversion costs and
operating expenses to the potential for revenues and profitability during
operation and upon sale and (iv) the franchisee's ability to finance and buy or
sell the property. The Company's franchisees are generally in intense
competition for guests with franchisees of other hotel chains, independent
properties and owner-operated chains. The success of the Company's franchisees
will affect the profitability of the Company, as the Company's receipt of
royalty fees under its franchise agreements is tied directly to the gross room
revenues earned by its franchisees.
In choosing a particular hotel or motel, consumers consider differences in
room rates, quality and condition of accommodations, name recognition,
availability of alternative lodging (including short-term lease apartments),
service levels, reputation, safety, reservation systems and convenience of
location.
14
<PAGE>
Both among consumers and potential franchisees, Microtel competes with
budget and economy hotels such as Budgetel Inn-Registered Trademark-, Comfort
Inn-Registered Trademark-, Days Inn-Registered Trademark-, Econo
Lodge-Registered Trademark-, Fairfield Inn-Registered Trademark-, Jameson
Inns-Registered Trademark-, Knights Inn-Registered Trademark-, Motel
6-Registered Trademark-, Ramada Limited-Registered Trademark-, Red Carpet
Inn-Registered Trademark-, Red Roof Inn-Registered Trademark-, Scottish
Inns-Registered Trademark-, Sleep Inn-Registered Trademark-, Super
8-Registered Trademark-, Thriftlodge-Registered Trademark- and
Travelodge-Registered Trademark-. In the upscale, extended-stay sector, Hawthorn
hotels compete for consumers and/or potential franchisees with Homewood
Suites-Registered Trademark-, Residence Inn-Registered Trademark-, Summerfield
Suites-Registered Trademark- and Woodfin Suite-Registered Trademark-. In the
transient suites sector of the lodging industry, where the Company competes
through its Hawthorn Suites LTD brand, the Company's principal competitors
include AmeriSuites-Registered Trademark-, Candlewood-SM-, Courtyard by
Marriott-Registered Trademark-, Fairfield Suites-SM-, Hampton Inn and
Suites-Registered Trademark-, MainStay-SM-, Towne Place-SM- and Wingate Inn-SM-
among others. Best Inns competes with Comfort Inn-Registered Trademark-, Days
Inn-Registered Trademark-, Holiday Inn Express-SM-, Park Inns-SM- and Ramada
Ltd.-Registered Trademark- Many of the Company's competitors are affiliated with
larger chains with substantially more properties, greater marketing budgets and
greater brand identity than the Company. There can be no assurance that the
Company can franchise a sufficient number of properties to generate operating
efficiencies that will enable it to compete with these larger chains.
GENERAL RISKS OF THE LODGING INDUSTRY
The Company is exposed to general risks of the lodging industry in a number
of ways. First, as a franchisor and manager, the Company's franchise royalty and
management fee revenues vary directly with its franchisees' gross room revenues.
As a result, the Company's franchise and management businesses are, and will be,
impacted by the effects of risks experienced by hotel operators generally.
Second, to the extent the Company directly or indirectly makes equity or debt
investments in hotel properties, those investments will be subject to the risks
experienced by the underlying properties. For example, the Company has committed
to lend up to $10 million to Constellation to be invested by Constellation in
the Development Fund to be used to make investments in local developers of
Microtel or Hawthorn hotels. See "Business-- Recent Developments--Development
Fund." Additionally, in connection with the Best Inns acquisition, the Company
made a $15 million subordinated loan and committed to make additional loans
under certain circumstances to the entity that acquired 17 Best Inns hotels. See
"Business--Recent Developments--Best Inns." Third, the Company may directly
acquire ownership interests in its branded hotel properties in order to promote
the brand or for other reasons. For example, the Company owns three Microtel
properties currently open or under construction which it expects to sell after
completion, although no assurance can be given that such sales will take place.
Additionally, the Company leases, as tenant, one Microtel property. It intends
to assign this lease to a suitable tenant, but no assurance can be given that
such assignment will occur. To the extent that the Company owns or leases hotel
properties, it will be subjected to the risks of a hotel operator.
The budget, economy, extended-stay and transient suite segments of the
lodging industry, the segments in which hotels franchised under the Company's
brands currently operate or plan to operate, may be adversely affected by
changes in national or local economic conditions and other local market
conditions, such as an oversupply of or a reduction in demand for lodging or a
scarcity of potential sites in a geographic area, changes in travel patterns,
extreme weather conditions, changes in governmental regulations that influence
or determine wages, prices, construction costs or methods of operation, changes
in interest rates, the availability of financing for operating or capital needs
and changes in real estate tax rates and other operating expenses. In addition,
due in part to the strong correlation between the lodging industry's performance
and economic conditions, the lodging industry is subject to cyclical changes in
revenues and profits. These risks may be exacerbated by the relatively illiquid
nature of real estate holdings. Downturns or prolonged adverse conditions in
real estate or capital markets or in national or local economies could have a
material adverse impact on the Company's ability to locate new franchisees. In
addition to the aforementioned risks associated with the budget, economy,
extended-stay and transient suite segments of the lodging industry, the
Company's current and potential future investments in or ownership of hotel
properties creates a risk of decreased earnings due to losses related to
start-up expenses or ongoing losses due to shortfalls in expected performance of
a hotel. In addition, any guaranty required
15
<PAGE>
to secure construction or permanent loan financing could adversely affect the
Company's financial condition.
The Company expects to experience seasonal revenue patterns similar to those
experienced by participants in the lodging industry generally. Accordingly, the
summer months, because of increases in leisure travel, are expected to produce
higher franchise royalty and management fee revenues for the Company than other
periods during the year. In addition, developers of new hotels typically
attempt, when feasible, to schedule the opening of a new property to occur prior
to the spring and summer seasons. This may have a seasonal impact on the
Company's revenues. Accordingly, the Company may experience lower revenues and
profits in the first and fourth quarters and higher revenues and profits in the
second and third quarters.
DEVELOPMENT AND OWNERSHIP RISK
The Company's success depends upon the development or conversion and opening
of hotels. As a result, it is subject to risks experienced by hotel developers.
These risks, which are applicable to Microtels as new construction properties,
to Hawthorn and Best Inns as both new construction and conversion properties,
include delays in completion of construction, failure to obtain all necessary
zoning and construction permits, discovery of environmental hazards,
unavailability of financing on favorable terms, if at all, the failure of
developed properties to achieve desired revenue or profitability levels once
opened, competition for suitable development sites from competing franchise
chains, the risk of incurring substantial costs in the event a development
project must be abandoned prior to completion, changes in governmental rules,
regulations and interpretations and general economic and business conditions.
The Company's revenues may also be adversely affected by increases in interest
rates, which could increase the costs of financing new hotel construction or the
conversion of existing hotels. Any one of these risks could discourage or
prohibit potential franchisees from beginning or completing hotel projects. To
the extent the Company leases and/or owns hotel properties or makes, directly or
indirectly, equity or debt investments in hotel properties, it would be subject
to risks experienced by hotel operators generally.
RISKS RELATING TO THE FINANCING OF FRANCHISEES
The Company participates, from time to time, in construction loans, equity
investments, and long-term mortgage loans made to franchisees. In particular,
the Company has committed to lend up to $10 million to Constellation to be
invested by Constellation in the Development Fund and to be used by the
Development Fund to provide debt and equity financing to selected developers.
See "Business--Recent Developments--Development Fund." In addition, the Company
made a $15 million subordinated loan to Ventures in connection with the Best
Inns acquisition. In addition, the Company committed to make additional loans to
Ventures under certain circumstances at an interest rate and upon other terms
that are substantially similar to Ventures' or its subsidiaries' third-party
indebtedness at such time. The Company expects Ventures to be a highly leveraged
entity and there can be no assurances that any loans to Ventures will be repaid.
See "Business--Recent Developments--Best Inns." In such cases, the Company would
be subject to the risks experienced by lenders generally, including risks of
franchisee/borrower defaults and bankruptcies. In the event of a default under
such loans, the Company, as a lender, would bear the risk of loss of principal
to the extent the value of the collateral was not sufficient to pay lenders
which may be more senior in the capital structure. In connection with equity
investments, the Company would be subject to risks as an equity investor. See
"--Regulation."
REGULATION
The sale of franchises is regulated by various state laws, as well as by the
Federal Trade Commission (the "FTC"). The FTC requires that franchisors make
extensive disclosure to prospective franchisees, although it does not require
registration of offers to prospective franchisees. A number of states require
registration and disclosure in connection with franchise offers and sales. In
addition, several states have
16
<PAGE>
"franchise relationship laws" that limit the ability of franchisors to terminate
franchise agreements or to withhold consent to the renewal or transfer of these
agreements. While the Company's franchising operations currently are not
materially adversely affected by such regulations, the Company cannot predict
the effect any future legislation or regulation may have on its business
operations or financial condition.
To the extent that the Company manages, owns or leases hotel properties, it
will be subject to additional governmental regulations. For example, owners and
operators of hotels are subject to numerous federal, state and local government
regulations, including those relating to the preparation and sale of food and
beverages (such as health and liquor license laws) and building and zoning
requirements. 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. The determination that hotels owned,
managed or leased by the Company are not in compliance with the ADA could result
in the imposition of fines, and award of damages to private litigants or
significant expense to the Company in bringing these hotels into compliance.
In addition, under various federal, state and local environmental laws,
ordinances and regulations, a current or previous owner or operator of real
property may be liable for the costs of removal or remediation of hazardous or
toxic substances on, under or in such property. Such laws often impose liability
whether or not the owner or operator knew of, or was responsible for, the
presences of such hazardous or toxic substances. For example, liability may
arise as a result of the historical use of a site or from the migration of
contamination from adjacent or nearby properties. Any such contamination or
liability may also reduce the value of the property. In addition, certain
environmental laws and common law principles could be used to impose liability
for release of asbestos-containing materials ("ACMs") into the air, and third
parties may seek recovery from owners or operators of real properties for
personal injury associated with exposure to released ACMs. Environmental laws
also may impose restrictions on the manner in which the property may be used or
business may be operated, and these restrictions may require expenditures. In
connection with the ownership or operation of hotels, including properties
managed, leased or franchised by the Company, the Company may be potentially
liable for any such costs. In its capacity as a lender to hotel owners, the
Company may also be potentially liable for any such costs.
Additionally, various national, state and local laws and regulations may
affect activities undertaken by the Company in connection with providing
financing to franchisees. In particular, the Company may be required to obtain a
license or to register in certain states in order to arrange loans to be made to
franchisees. See "Business--Regulation."
ABSENCE OF DIVIDENDS
The Company has not paid a dividend on the Common Stock since its inception.
The Company intends to retain any earnings to finance its growth and for general
corporate purposes and therefore does not anticipate paying any cash dividends
in the foreseeable future. See "Dividend Policy." In addition, future financing
agreements may contain limitations on the payment of cash dividends or other
distributions of assets to the holders of Common Stock.
ANTI-TAKEOVER DEVICES
Certain identical provisions of the Certificate of Incorporation and the
By-Laws of the Company may be deemed to have anti-takeover effects and may
delay, deter or prevent a change in control of the Company that stockholders
might otherwise consider in their best interests. These provisions (i) allow
only the Board of Directors, the Chairman of the Board of Directors or the Chief
Executive Officer of the Company to call special meetings of the stockholders,
(ii) eliminate the ability of stockholders to take any action without a meeting,
(iii) establish certain advance notice procedures for nomination of candidates
for election as directors and for stockholder proposals to be considered at
stockholders' meetings, (iv) generally authorize the issuance of one or more
classes of "blank check" preferred stock, with such
17
<PAGE>
designations, rights and preferences as may be determined from time to time by
the Board of Directors, (v) require approval of holders of 75% of the
outstanding Class B Common Stock for the Board of Directors to create a series
of Preferred Stock with general voting rights or with the right to elect a
majority of directors under any circumstances and (vi) require approval of
holders of 75% of the outstanding voting power to amend or repeal items (i),
(ii) or (v) above or this item (vi). See "Description of the Capital
Stock--Delaware Law and Certain Charter and By-Law Provisions."
LIMITED TRADING VOLUME OF COMMON STOCK
Historically, the shares of the Class A Common Stock have had relatively low
trading volume in the public markets. During the four week period ended April 1,
1997, for example, the weekly trading volume averaged 182,525 shares. There can
be no assurance that the trading volume for the Class A Common Stock will
increase or remain constant after the Offering. Low trading volume can influence
the trading price of a security, hamper the liquidity of an investment in a
security and result in volatility of the price of a security.
USE OF PROCEEDS
The net proceeds of the Company from the sale of the 4,500,000 shares of
Class A Common Stock offered hereby at an assumed offering price of $11.125 per
share, after deducting underwriting discounts and estimated offering expenses,
are estimated to be approximately $46.0 million ($53.1 million if the
Underwriters' over-allotment option is exercised in full).
The net proceeds of the Offering are expected be used as follows: (i) to
repay approximately $19.7 million aggregate principal amount outstanding on the
Company's 10% Subordinated Debentures due September 29, 2007, plus accrued
interest thereon to the date of repayment, (ii) to repay approximately $10.0
million aggregate principal amount outstanding under the loan incurred in
connection with the Best Inns acquisition (see "Business--Recent
Developments--Best Inns") and (iii) for working capital and general corporate
purposes, which may include the financing of additional acquisitions. Pending
such uses, the Company intends to invest such funds in cash and marketable
securities; provided that the Company intends to invest and to use the net
proceeds of the Offering so as not to be considered an investment company within
the meaning of the Investment Company Act of 1940.
18
<PAGE>
PRICE RANGE OF CLASS A COMMON STOCK
The following table sets forth for the periods indicated the high and low
sales prices for the Class A Common Stock, as reported on the Nasdaq National
Market. The Class A Common Stock has been quoted on the Nasdaq National Market
since the Company's initial public offering on October 25, 1996 under the symbol
"USFS".
<TABLE>
<CAPTION>
HIGH ($) LOW ($)
--------------- -------
<S> <C> <C>
FISCAL YEAR 1996
4th Quarter (commencing October 25,
1996)............................... 16 8 5/8
FISCAL YEAR 1997
1st Quarter........................... 10 1/2 7 5/8
2nd Quarter........................... 10 1/4 5
3rd Quarter........................... 10 1/8 7
4th Quarter........................... 10 7 1/8
FISCAL YEAR 1998
1st Quarter........................... 14 3/8 8 3/4
2nd Quarter (through April 21,
1998)............................... 12 7/8 11
</TABLE>
The last reported closing sale price of the Class A Common Stock was $11.125
on May 8, 1998. As of April 14, 1998, there were approximately 90 holders of
record of Class A Common Stock and three holders of record of Class B Common
Stock.
DIVIDEND POLICY
The Company has never declared or paid cash dividends on its Common Stock.
The Company currently intends to retain its earnings to provide funds for the
operation and expansion of its business and, therefore, does not anticipate
declaring or paying cash dividends in the foreseeable future. Any payment of
future dividends will be at the discretion of the Board of Directors and will
depend upon, among other things, the Company's earnings, financial condition,
capital requirements, level of indebtedness, contractual restrictions with
respect to the payment of dividends and other relevant factors. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations--Liquidity and Capital Resources".
19
<PAGE>
CAPITALIZATION
The following table sets forth the unaudited consolidated capitalization of
the Company as of March 31, 1998, such capitalization after giving pro forma
effect to the consummation of the Best Inns acquisition completed on April 28,
1998, as if such transaction had been completed on March 31, 1998, and such pro
forma capitalization as adjusted to give effect to the Offering and the
application of proceeds therefrom assuming an offering price of $11.125 per
share. This table should be read in conjunction with the Consolidated Financial
Statements of the Company included elsewhere herein.
<TABLE>
<CAPTION>
MARCH 31, 1998
-----------------------------------
PRO FORMA
ACTUAL PRO FORMA AS ADJUSTED
--------- ----------- -----------
(IN THOUSANDS, EXCEPT SHARE DATA)
<S> <C> <C> <C>
Current portion of long-term debt:
Due to Hudson Hotels Corporation............................ $ 454 $ 454 $ 454
--------- ----------- -----------
Total current portion of long term debt................. 454 454 454
--------- ----------- -----------
Long-term debt:
Best Inn Acquisition Loan .................................. -- 10,000 --
Subordinated Debentures..................................... 19,655 19,655 --
--------- ----------- -----------
Total long-term debt.................................... 19,655 29,655 --
--------- ----------- -----------
Redeemable Common Stock(1).................................... 324 324 324
Stockholders' equity
Common Stock, par value $0.01 per share; 30,000,000 shares
of Class A Common Stock authorized; issued and outstanding
shares at March 31, 1998: 9,438,721 actual, 9,788,721 pro
forma and 14,288,721 pro forma as adjusted; 5,000,000
shares of Class B Common Stock authorized; issued and
outstanding shares at March 31, 1998: 2,707,919 actual,
pro forma and pro forma as adjusted(2)(3)................. 124 128(4) 173(4)
Capital in excess of par.................................... 44,519 48,409 94,348
Retained deficit............................................ (19,169) (19,169) (19,169)
--------- ----------- -----------
Total stockholders' equity.............................. 25,474 29,368 75,352
--------- ----------- -----------
Total capitalization.......................................... $ 45,907 $ 59,801 $ 76,130
--------- ----------- -----------
--------- ----------- -----------
</TABLE>
- ------------------------
(1) Includes 3,128,473 shares of Class A Common Stock that are redeemable under
certain circumstances by the Company for reasons not under the Company's
control. See "Principal Holders of Common Stock--Management's Shares of
Common Stock."
(2) Does not include 3,128,473 shares of Class A Common Stock included under
"Redeemable Stock."
(3) Does not include (i) rights to acquire 500,000 shares of Class A Common
Stock at $11.25 per share granted to NorthStar and Lubert-Adler on March 17,
1998 in connection with the Development Fund (see "Business--Recent
Developments--Development Fund"), (ii) 325,000 shares of Class A Common
Stock reserved for issuance under the U.S. Franchise Systems, Inc. 1996
Stock Option Plan, (iii) 125,000 shares of Class A Common Stock reserved for
issuance under the U.S. Franchise Systems, Inc. 1996 Stock Option Plan for
Non-Employee Directors and (iv) up to $900,000 in shares of Class A Common
Stock that may be issued in the future, at a price per share based upon the
closing price of the Class A Common Stock on the date of issuance under an
agreement with an unaffiliated hotel developer upon such developer's
achieving certain milestones for opening USFS branded hotels (the "Developer
Shares"). In addition, the Company expects to amend its Amended and Restated
1996 Stock Option Plan to increase the number of shares of Class A Common
Stock reserved for issuance thereunder by 400,000.
(4) Includes 350,000 shares of Class A Common Stock issued to Alpine Equities on
April 28, 1998 in connection with the Best Inns acquisition valued as of
that date at $3,893,750 (see "Business--Recent Developments--Best Inns").
20
<PAGE>
DILUTION
At March 31, 1998, the net tangible book value of the Company was a deficit
of $3,399,000 or ($0.22) per share of outstanding Common Stock. After giving
effect to the sale of the 4,500,000 shares of Class A Common Stock being offered
hereby and the application of the net proceeds therefrom at an assumed public
offering price of $11.125 per share (before deducting estimated offering
expenses and the underwriting discount), the pro forma net tangible book value
of the Company at March 31, 1998 would have been $42,585,000, or $2.16 per
share, representing an immediate increase in net tangible book value of $2.38
per share to existing stockholders and an immediate dilution of $8.97 per share
to persons purchasing shares of Class A Common Stock in the Offering. The
following table illustrates this per share dilution:
<TABLE>
<S> <C> <C>
Assumed public offering price per share (1)................................ $ 11.125
Net tangible book value per share of Common Stock at March 31, 1998...... $ (0.22)
Increase in net tangible book value per share of Common Stock
attributable to new investors in the Offering.......................... $ 2.38
Pro forma net tangible book value per share of Common Stock after the
Offering (2)(3)........................................................ 2.16
---------
Dilution per share to purchasers of Class A Common Stock in the Offering... $ 8.97
---------
</TABLE>
- ------------------------
(1) Before deduction of the underwriting discount and offering expenses.
(2) Does not include the effect of 350,000 shares of Class A Common Stock issued
to Alpine Equities on April 28, 1998 in connection with the Best Inns
acquisition valued as of that date at $3,893,750 (see "Business--Recent
Developments--Best Inns").
(3) After deduction of the underwriting discount and estimated offering
expenses.
21
<PAGE>
SELECTED CONSOLIDATED FINANCIAL DATA
The selected consolidated financial data of the Company as of December 31,
1997 and 1996 and for the years ended December 31, 1997 and 1996 and the period
from August 28, 1995 to December 31, 1995 are derived from the Consolidated
Financial Statements of the Company audited by Deloitte & Touche LLP,
independent auditors, included elsewhere herein. The selected consolidated
financial data of the Company as of December 31, 1995 has been derived from the
audited consolidated financial statements of the Company. The selected
consolidated financial data as of and for the three month periods ended March
31, 1998 and 1997 have been derived from the unaudited consolidated financial
statements of the Company, included elsewhere herein. In the opinion of
management, the unaudited financial statements include all adjustments
(consisting only of normal recurring adjustments) necessary to present fairly
the information set forth therein. The consolidated historical results for the
three months ended March 31, 1998 and 1997 are not necessarily indicative of the
results for a full year. The selected consolidated financial data of the Company
should be read in conjunction with the Consolidated Financial Statements of the
Company included elsewhere herein and with "Management's Discussion and Analysis
of Financial Condition and Results of Operations."
<TABLE>
<CAPTION>
PERIOD FROM
THREE MONTHS THREE MONTHS AUGUST 28, 1995
ENDED ENDED YEAR ENDED YEAR ENDED (INCEPTION) TO
MARCH 31, 1998 MARCH 31, 1997 DECEMBER 31, 1997 DECEMBER 31, 1996 DECEMBER 31, 1995
-------------- -------------- ----------------- ----------------- -----------------
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
<S> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS
DATA:
Revenues............... $ 1,983 $ 545 $ 3,948 $ 1,292 $ --
Operating Expenses..... (3,615) (2,963) (12,376) (8,628) (1,327)
-------------- -------------- ----------------- ----------------- -----------------
Operating Loss......... (1,632) (2,418) (8,428) (7,336) (1,327)
Interest Income........ 229 383 1,386 871 195
Interest Expense....... (452) (480) (1,905) (126) (36)
-------------- -------------- ----------------- ----------------- -----------------
Net Loss............... (1,855) (2,515) $ (8,947) $ (6,591) $ (1,168)
-------------- -------------- ----------------- ----------------- -----------------
-------------- -------------- ----------------- ----------------- -----------------
Loss Applicable to
Common Stockholders.. (1,855) (2,515) $ (8,947) $ (8,309) $ (1,577)
-------------- -------------- ----------------- ----------------- -----------------
-------------- -------------- ----------------- ----------------- -----------------
Net Loss Applicable to
Common Stockholders
Per Share-Basic...... (0.14) (0.20) $ (0.71) $ (0.75) $ (0.15)
Weighted Average Number
of Common Shares
Outstanding (1)...... 13,094,249 12,580,395 12,563,772 11,059,576 10,755,409
BALANCE SHEET DATA (AT
PERIOD END):
Working Capital........ 13,418 25,745 $ 12,144 $ 28,115 $ 13,265
Total Assets........... 59,139 37,826 36,351 40,105 18,072
Total Liabilities...... 33,341 27,662 32,153 9,022 1,845
Redeemable Preferred
Stock (2)............ -- -- -- 18,477 16,759
Redeemable Common
Stock................ 324 330 324 330 330
Stockholders' Equity
(deficit)............ $ 25,474 $ 9,834 $ 3,874 $ 12,276 $ (862)
</TABLE>
- ------------------------
(1) Includes 3,186,280 shares of Class A Common Stock that are redeemable under
certain circumstances by the Company for reasons not under the Company's
control. See "Principal Holders of Common Stock--Management's Shares of
Common Stock." Does not include 350,000 shares of Class A Common Stock
issued in the Best Inns transaction. See "Business--Recent
Developments--Best Inns" and "Certain Relationships and Related
Transactions."
(2) On January 1, 1997, all the outstanding shares of Redeemable Preferred Stock
were exchanged for $18,477,000 aggregate principal amount of 10%
Subordinated Debentures due September 29, 2007 (the "Subordinated
Debentures").
22
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
GENERAL
The Company was formed in August 1995 to acquire, market and service
well-positioned brands with potential for rapid unit growth through franchising.
The Company's initial brands, which are in the lodging industry, are the
Microtel and the Hawthorn brands. The Company acquired the rights to these
brands because of their potential for significant growth, which reflects, among
other things, their potential profitability for franchisees at the property
level and their positions in attractive segments of the lodging industry. In
addition, the Company recently acquired the exclusive worldwide franchise rights
to the Best Inns brand, an economy and upper economy brand positioned between
the budget Microtel and upscale Hawthorn brands. With the acquisition of the
Best Inns brand, the Company also acquired management contracts and
capabilities. See "Business--Recent Developments--Best Inns."
As a franchisor, the Company licenses the use of its brand names to
independent hotel owners and operators (i.e., franchisees). The Company provides
its franchisees with a variety of benefits and services designed to (i) decrease
the development costs, (ii) shorten the time frame and reduce the complexity of
the construction process and (iii) increase the occupancy rates, revenues and
profitability of the franchised properties. The Company offers prospective
franchisees access to financing, a business format, design and construction
assistance (including architectural plans), uniform quality standards, training
programs, national reservations systems, national and local advertising,
promotional campaigns and volume purchasing discounts.
The Company expects that its future revenues will consist primarily of (i)
franchise royalty fees, (ii) franchise application fees, (iii) reservation and
marketing fees, (iv) management fees, (v) fees for acting as manager of the
Development Fund and (vi) payments made by vendors who supply the Company's
franchisees with various products and services. The Company recognizes franchise
application fees as revenue only upon the opening of the underlying hotels.
The Company's predecessor was incorporated in Delaware in August 1995. The
Company was incorporated in Delaware on November 26, 1997 and merged with its
predecessor on March 12, 1998 with the Company as the surviving corporation. The
Company's executive offices are located at 13 Corporate Square, Suite 250,
Atlanta, Georgia 30329 and its telephone number is (404) 321-4045.
Comparisons have been made between the three months ended March 31, 1998 and
1997, the years ended December 31, 1997 and 1996 and for the period from August
28, 1995 to December 31, 1995 for the purposes of the following discussion:
23
<PAGE>
RESULTS OF OPERATIONS
FRANCHISE SALES GROWTH--Since acquiring the Microtel brand in October 1995
and establishing its sales force by January 1996, the Company has realized
franchise sales growth as follows:
<TABLE>
<CAPTION>
AS OF AS OF AS OF AS OF AS OF
MARCH 31, MARCH 31, DECEMBER 31, DECEMBER 31, DECEMBER 31,
MICROTEL FRANCHISE DATA 1998 1997 1997 1996 1995
------------- ------------- --------------- --------------- ---------------
<S> <C> <C> <C> <C> <C>
Properties Open (1).................. 75 32 64 28 23
Executed Agreements and Under
Construction (2)................... 59 28 52 25 4
Executed Franchise Agreements but not
Under Construction (3)(4).......... 277 169 253 168 3
Accepted Applications (5)............ 60 55 77 82 12
Pending Franchise Applications (6)... -- 29 -- -- --
--
--- --- --- ---
Total Under Development and Accepted
Applications (7)................... 396 281 382 275 19
--
--- --- --- ---
OPEN PLUS UNDER DEVELOPMENT AND
ACCEPTED APPLICATIONS.............. 471 313 446 303 42
--
--
--- --- --- ---
--- --- --- ---
</TABLE>
- ------------------------
(1) The Company does not receive royalties from 28 and 27 of the hotels open as
of March 31, 1998 and 1997, respectively, and from 28, 27 and 23 hotels open
as of December 31, 1997, 1996 and 1995, respectively.
(2) The Company will not receive royalties from one and two of the hotels under
construction as of March 31, 1998 and 1997, respectively, and from two and
four of the hotels under construction as of December 31, 1996, and 1995,
respectively.
(3) The Company will not receive royalties from five and seven of the executed
franchise agreements as of March 31, 1998 and 1997, respectively, and from
five and two of the executed franchise agreements as of December 31, 1997
and 1995, respectively.
(4) Four of the agreements as of March 31, 1997 were terminated between April 1
and April 11, 1997.
(5) The Company will not receive royalties from two of the franchise
applications accepted as of March 31, 1997 and from six and two of the
franchise applications accepted as of December 31, 1996 and 1995,
respectively.
(6) The 29 pending franchise applications as of March 31, 1997 resulted in
executed franchise agreements between April 1, 1997 and April 11, 1997.
(7) There can be no assurance that properties under development or for which
applications have been accepted will result in open hotels. See "Risk
Factors--Dependence on, and Obstacles to, Hotel Openings."
24
<PAGE>
MICROTEL AVERAGE DAILY ROOM RATE,
OCCUPANCY, AND REVENUE PER AVAILABLE ROOM*
YEARS ENDED DECEMBER 31, 1997 AND 1996
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31, 1997 YEAR ENDED DECEMBER 31, 1996
---------------------------------------------------- ---------------------------------------
REVENUE
AVERAGE AVERAGE PER AVERAGE AVERAGE
NUMBER AVERAGE DAILY AVAILABLE NUMBER OF AVERAGE DAILY
OF ROOMS OCCUPANCY RATE ROOM ROOMS OCCUPANCY RATE
------------- ------------- --------- ----------- ------------- ------------- ---------
<S> <C> <C> <C> <C> <C> <C> <C>
South East (1)...................... 96 69.5% $ 42.71 $ 29.70 96 68.2% $ 41.09
North Central (2)................... 96 67.7% $ 38.02 $ 25.73 96 70.3% $ 37.33
South Central (3)................... 100 66.6% $ 37.87 $ 25.22 100 65.9% $ 36.55
North East (4)...................... 100 74.0% $ 38.23 $ 28.27 100 73.1% $ 37.34
All Hotels.......................... 99 69.9% $ 39.22 $ 27.42 99 69.4% $ 37.91
<CAPTION>
REVENUE
PER
AVAILABLE
ROOMS
-----------
<S> <C>
South East (1)...................... $ 28.01
North Central (2)................... $ 26.26
South Central (3)................... $ 24.08
North East (4)...................... $ 27.28
All Hotels.......................... $ 26.31
</TABLE>
- ------------------------
* Data presented is for 27 properties open more than one year as of December
31, 1997. The average daily room rates and occupancy for these hotels for
the years ended December 31, 1997 and 1996 may not be directly comparable.
Newly franchised hotels historically begin with lower occupancy and average
daily room rates and generally can be expected to improve over time as these
hotels adopt the Company's operating standards and become integrated into
the Company's central reservation system.
(1) Consists of a total of seven properties located in Georgia, North Carolina
and West Virginia.
(2) Consists of a total of two properties located in Ohio.
(3) Consists of a total of nine properties located in Alabama, Kentucky,
Tennessee and Texas.
(4) Consists of a total of nine properties located in New York and Pennsylvania.
25
<PAGE>
Since acquiring the exclusive right to franchise the Hawthorn brand in March
1996 and establishing its sales force by July 1996, the Company has realized
franchise sales growth as follows:
<TABLE>
<CAPTION>
AS OF AS OF AS OF AS OF
MARCH 31, MARCH 31, DECEMBER 31, DECEMBER 31,
HAWTHORN SUITES FRANCHISE DATA 1998 1997 1997 1996
------------- ------------- --------------- ---------------
<S> <C> <C> <C> <C>
Properties Open (1).............................. 29 19 26 19
Executed Agreements and Under Construction (2)... 19 3 14 2
Executed Franchise Agreements but not Under
Construction (3)............................... 65 20 54 17
Accepted Applications (4)........................ 20 20 17 14
Pending Franchise Applications (5)............... -- 6 -- --
--
--- --- ---
Total Under Development and Accepted
Applications (6)............................... 104 49 85 33
--
--- --- ---
OPEN PLUS UNDER DEVELOPMENT AND ACCEPTED
APPLICATIONS................................... 133 68 111 52
--
--
--- --- ---
--- --- ---
</TABLE>
- ------------------------
(1) The Company did not receive royalties from 18 of the hotels open as of March
31, 1997, and from 19 and 18 hotels open as of December 31, 1997 and 1996.
As a result of the HSA Acquisition, the Company now receives royalties from
these hotels.
(2) The Company will receive royalties from all of the hotels under construction
as of December 31, 1997 and 1996.
(3) The Company will receive royalties from all of the executed franchise
agreements as of December 31, 1997 and 1996.
(4) The Company will receive royalties from all of the franchise applications
accepted as of December 31, 1997 and 1996.
(5) The six pending applications as of March 31, 1997 resulted in executed
franchise agreements between April 1, 1997 and April 11, 1997.
(6) There can be no assurance that properties under development or for which
applications have been accepted will result in open hotels. See "Risk
Factors--Dependence on, and Obstacles to, Hotel Openings."
HAWTHORN AVERAGE DAILY ROOM RATE,
OCCUPANCY, AND REVENUE PER AVAILABLE ROOM*
YEARS ENDED DECEMBER 31, 1997 AND 1996
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31, 1997 YEAR ENDED DECEMBER 31, 1996
---------------------------------------------------- ----------------------------
REVENUE AVERAGE
AVERAGE AVERAGE PER NUMBER
NUMBER AVERAGE DAILY AVAILABLE OF AVERAGE
OF ROOMS OCCUPANCY RATE ROOM ROOMS OCCUPANCY
------------- ------------- --------- ----------- ------------- -------------
<S> <C> <C> <C> <C> <C> <C>
South East (1)........................ 178 71.4% $ 92.85 $ 66.34 178 76.0%
North Central (2)..................... 118 80.7% $ 85.17 $ 68.69 118 81.2%
South Central (3)..................... 111 76.6% $ 75.84 $ 58.08 111 75.6%
North East (4)........................ 151 68.0% $ 75.69 $ 51.44 151 76.1%
West (5).............................. 113 78.6% $ 93.66 $ 73.66 113 70.9%
All Hotels............................ 129 75.3% $ 83.64 $ 63.02 129 76.3%
<CAPTION>
REVENUE
AVERAGE PER
DAILY AVAILABLE
RATE ROOM
--------- -----------
<S> <C> <C>
South East (1)........................ $ 92.88 $ 70.58
North Central (2)..................... $ 82.32 $ 66.85
South Central (3)..................... $ 75.47 $ 57.05
North East (4)........................ $ 72.63 $ 55.25
West (5).............................. $ 81.98 $ 58.16
All Hotels............................ $ 81.40 $ 62.11
</TABLE>
- ------------------------
* Data presented is for 19 properties open more than one year as of December
31, 1997. The average daily room rates and occupancy for these hotels for
the years ended December 31, 1997 and 1996 may not be directly comparable.
Newly franchised hotels historically begin with lower occupancy and average
daily room rates and generally can be expected to improve over time as these
hotels adopt the
26
<PAGE>
Company's operating standards and become integrated into the Company's
central reservation system.
(1) Consists of a total of four properties located in Florida, Georgia, North
Carolina and South Carolina.
(2) Consists of a total of three properties located in Illinois, Minnesota and
Nebraska.
(3) Consists of a total of nine properties located in Oklahoma and Texas.
(4) Consists of a total of one property located in Pennsylvania.
(5) Consists of a total of two properties in Washington.
The Company received franchise application fees of $1,684,000 and $504,000
for the three months ended March 31, 1998 and 1997, respectively, and $120,000,
$5,339,000 and $6,250,000 for the period ended December 31, 1995 and for the
years ended December 31, 1996 and 1997, respectively, for Microtel and Hawthorn
agreements. The average franchise application fee was $22,000 and $24,000 for
the three months ended March 31, 1998 and 1997, respectively, and $30,000,
$26,000 and $23,000 for the period ended December 31, 1995, and for the years
ended December 31, 1997 and 1996, respectively. Such fees are recognized as
revenue when the underlying hotel opens.
REVENUE--The Company has derived revenues from the following sources:
<TABLE>
<CAPTION>
THREE MONTHS THREE MONTHS YEAR ENDED YEAR ENDED PERIOD ENDED
ENDED MARCH 31, ENDED MARCH 31, DECEMBER 31, DECEMBER 31, DECEMBER 31,
1998 1997 1997 1996 1995
---------------- ---------------- ------------ ------------ -----------------
<S> <C> <C> <C> <C> <C>
Franchise Application and Royalty $ 1,067,000
Fees............................ $ 136,000 $1,610,000 $ 20,000 $ 0
Other Fees........................ 334,000 33,000 417,000 75,000 0
Marketing and Reservation Fees.... 582,000 376,000 1,921,000 1,197,000 0
---------------- --
-------- ------------ ------------
TOTAL............................. $ 1,983,000 $ 545,000 $$3,948,000 $1,292,000 0
---------------- --
---------------- --
-------- ------------ ------------
-------- ------------ ------------
</TABLE>
THREE MONTHS ENDED MARCH 31, 1998 COMPARED TO THREE MONTHS ENDED MARCH 31,
1997
Franchise application and royalty fees (the "Fees") increased $931,000 for
the three months ended March 31, 1998 as compared to the comparable prior year's
period. The increase is primarily attributable to (i) the Fees received on the
42 Microtels open on March 31, 1998 which were not open on March 31, 1997, and
(ii) the Fees received on the 28 Hawthorns as a result of the HSA Acquisition.
Other fee income increased $301,000 for the three months ended March 31,
1998 as compared to the comparable prior year's period. The majority of the
increase is attributable to the Development Fund management fee revenue for the
three months ended March 31, 1998. The balance of the increase is related to
various miscellaneous fee income.
Marketing and reservation fees increased $206,000 for the three months ended
March 31, 1998 as compared to the comparable prior year's period because
additional properties were added to the system during 1998. While the Company
recognizes marketing and reservations fees as revenue, such fees are intended to
reimburse the Company for the expenses associated with providing support
services to its franchisees and do not generate profit for the Company. As
additional properties join the system, the marketing and reservation fees
received will increase and there will be a corresponding increase in marketing
and reservations expenses.
YEAR ENDED 1997 COMPARED TO YEAR ENDED 1996
Franchise application and royalty fees increased $1,590,000 for the year
ended December 31, 1997. Fees for the year ended December 31, 1997 represent
application fees from 40 of the 44 hotels opened during 1997, and royalties
received from 35 of the 90 hotels which were open as of December 31, 1997. The
27
<PAGE>
Fees for the year ended December 31, 1996 represent the Fees earned for one
hotel which opened during the third quarter of 1996. The Fees for a hotel which
opened in the fourth quarter of 1996 were waived.
Other fee income increased $342,000 for the year ended December 31, 1997.
The main components of other fees for the year ended December 31, 1997 were (i)
the management fee received from an equity fund ("Equity Partners, L.P.") that
had been formed to make investments in USFS branded properties and for which a
subsidiary of USFS served as general partner, (ii) commissions earned from the
Company's national accounts purchasing program (the "National Accounts" program)
under which the Company received fees from certain Company approved suppliers to
franchisees, and (iii) various fees received through a program (the "US Funding"
program) under which USFS received fees from certain lenders to which
franchisees have been referred for financing. The fees received through the
National Accounts program is a function of the number of hotels open or under
construction. The two main components of other fees for the year ended December
31, 1996 were the management fee received from Equity Partners, L.P. and
commissions earned from the National Accounts program.
Marketing and reservation fees increased $724,000 for the year ended
December 31, 1997 because additional properties were added to the system during
1997. The Company began collecting marketing and reservation fees from existing
Microtel and Hawthorn franchisees in February and April 1996, respectively.
YEAR ENDED 1996 COMPARED TO YEAR ENDED 1995
Fees represent the fees earned for one hotel which opened during the third
quarter of 1996. The Fees for a hotel which opened in the fourth quarter of 1996
were waived.
The two main components of other fees for the year ended December 31, 1996
were the management fee received from Equity Partners, L.P. and commissions
earned from the National Accounts program.
EXPENSES--The Company's expenses were as summarized below:
<TABLE>
<CAPTION>
THREE MONTHS THREE MONTHS YEAR ENDED YEAR ENDED PERIOD ENDED
ENDED MARCH 31, ENDED MARCH 31, DECEMBER 31, DECEMBER 31, DECEMBER 31,
1998 1997 1997 1996 1995
---------------- ---------------- ------------- ------------ ------------
<S> <C> <C> <C> <C> <C>
Marketing and Reservations....... $ 653,000 $ 461,000 $ 2,058,000 $1,597,000 $ 13,000
Royalties Paid to Third 87,000
Parties........................ 11,000 158,000 1,000 --
Franchise Sales Commissions...... 313,000 72,000 641,000 29,000 --
Other Franchise Sales and 875,000
Advertising.................... 851,000 3,461,000 2,714,000 550,000
Other General and 1,477,000
Administrative................. 1,436,000 5,487,000 3,750,000 638,000
Depreciation and Amortization.... 210,000 132,000 571,000 537,000 126,000
---------------- ---------------- ------------- ------------ ------------
TOTAL............................ $ 3,615,000 $ 2,963,000 $ 12,376,000 $8,628,000 $1,327,000
---------------- ---------------- ------------- ------------ ------------
---------------- ---------------- ------------- ------------ ------------
</TABLE>
THREE MONTHS ENDED MARCH 31, 1998 COMPARED TO THREE MONTHS ENDED MARCH 31,
1997
Marketing and reservation expenses increased $192,000 for the three months
ended March 31, 1998 as compared to the comparable prior year's period primarily
because there were more properties open in 1998 causing an incremental rise in
reservation costs and allowing for more funds to be expended in marketing the
Hawthorn and Microtel brands.
Royalties paid to third parties increased $76,000 for the three months ended
March 31, 1998 as compared to the comparable prior year's period because the
number of Microtel and Hawthorn Suites properties opened by the Company
increased throughout the last three quarters of 1997 and the first
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<PAGE>
quarter of 1998. In 1997 and the first quarter of 1998, the Company was required
to pay a percentage of the royalties collected to Hudson for each new Microtel
property and in 1997 and the first two months of 1998, the Company was required
to pay a percentage of royalties collected to HSA LLC, a Delaware limited
liability company owned by HSA and HPI, for each Hawthorn property. As a result
of the HSA Acquisition in March 1998, the Company is no longer required to pay
HSA LLC such fees.
Franchise sales commissions increased $241,000 for the three months ended
March 31, 1998 as compared to the comparable prior year's period because
commissions were expensed for the 15 hotels which opened during the first
quarter of 1998 compared to four hotels which opened during the first quarter of
1997.
Other franchise sales and advertising expenses, which are costs related to
the Company's franchise sales effort, increased $24,000 for the three months
ended March 31, 1998 as compared to the comparable prior year's period primarily
because larger Microtel and Hawthorn sales forces were in place.
General and administrative expenses increased $41,000 for the three months
ended March 31, 1998 as compared to the comparable prior year's period primarily
due to additional salaries, wages and benefits, and general office and travel
expense for the additional staff in place during 1998.
Depreciation and amortization expense primarily includes: (i) depreciation
of equipment for the corporate and regional sales offices, (ii) amortization for
the cost of acquiring the Microtel and Hawthorn Suites brands, (iii)
amortization of consulting payments made to Hudson under the Microtel
Acquisition Agreement, (iv) amortization of costs related to the formation of
the Company and (v) amortization of architectural plans developed for the
Microtel and Hawthorn Suites hotels and (vi) depreciation of a truck.
YEAR ENDED 1997 COMPARED TO YEAR ENDED 1996
Marketing and reservation expenses increased $461,000 for the year ended
December 31, 1997 primarily because the exclusive right to franchise the
Hawthorn brand was not acquired until March 27, 1996. Therefore, there were no
marketing and reservation expenses for Hawthorn for the first quarter of 1996.
In addition, there were more properties open in 1997 causing an incremental rise
in reservation costs and allowing for more funds to be expended in marketing the
Hawthorn and Microtel brands.
Royalties paid to third parties increased $157,000 for the year ended
December 31, 1997 because the number of Microtel and Hawthorn properties opened
by the Company increased during 1997. In 1996 and 1997, the Company was required
to pay a percentage of the royalties collected to Hudson for each new Microtel
property and to HSA LLC, for each new Hawthorn property when franchisees
commenced making royalty payments to the Company.
Franchise sales commissions increased $612,000 for the year ended December
31, 1997 because commissions were expensed for 41 of the 44 hotels which opened
during 1997. The commission expense for the year ended December 31, 1996 is due
to the opening of one hotel and the execution of an international master
franchise agreement.
Other franchise sales and advertising expenses, which are costs related to
the Company's franchise sales effort, increased $747,000 for the year ended
December 31, 1997 primarily because: (i) larger Microtel and Hawthorn sales
forces were in place resulting in additional salary and benefit expenses as well
as other sales related costs such as travel, entertainment, office supplies and
telephone (an increase of approximately $694,000 for the year ended December 31,
1997), (ii) the Company's first annual franchisee conference was held in 1997
(an increase of approximately $99,000 for the year ended December 31, 1997), and
(iii) a program was initiated in 1997 in which a replica of a Microtel room,
constructed such that it can be transported across the country, was present when
certain hotels went under construction (expenses include lease payments for the
truck, driving and driver expenses) (an increase of approximately $161,000 for
the year ended December 31, 1997). The increase in these expenses was partially
offset by: (i) fewer potential franchisees were brought to the corporate offices
for education and tours of the products (a
29
<PAGE>
decrease of approximately $61,000 for the year ended December 31, 1997), (ii)
reduced advertising and promotions expenses (a decrease of approximately $74,000
for the year ended December 31, 1997), and (iii) an increase in executed license
agreements resulted in an increase in the deferral of related salesmen expenses
(a decrease of approximately $67,000 for the year ended December 31, 1997). A
specific amount per executed license agreement for salesmen's expenses, such as
travel, entertainment and general office supplies, is deferred until the
associated hotel opens.
General and administrative expenses increased $1,737,000 for the year ended
December 31, 1997 primarily due to: (i) additional salaries, wages and benefits
for personnel hired to handle the increased servicing requirements of additional
executed franchise agreements and newly introduced programs (an increase of
approximately $934,000 for the year ended December 31, 1997), (ii) expenses
related to the Company's Stock Option plans which were adopted in October 1996
(an increase of approximately $294,000 for the year ended December 31, 1997),
(iii) general office and travel expenses for the additional staff in place
during 1997 (an increase of approximately $280,000 for the year ended December
31, 1997), (iv) legal and professional expenses related to the Company's having
become a publicly traded company in October 1996 (an increase of approximately
$386,000 for the year ended December 31, 1997), and (v) additional office space
and equipment the Company leases as a result of its expanded staff (an increase
of approximately $137,000 for the year ended December 31, 1997). The increase is
offset in part by (i) a greater allocation of expenses to the Microtel and
Hawthorn marketing and advertising funds which began in February and April of
1996, respectively (a decrease of approximately $91,000 for the year ended
December 31, 1997) and (ii) a $200,000 non-recurring charge related to the
anticipated termination of the Company's corporate office lease included in 1996
expenses.
Depreciation and amortization expense primarily includes: (i) depreciation
of equipment for the corporate and regional sales offices (approximately $94,000
for the year ended December 31, 1997), (ii) amortization for the cost of
acquiring the Microtel brand and the exclusive rights to franchise the Hawthorn
brand (approximately $166,000 for the year ended December 31, 1997), (iii)
amortization of consulting payments made to Hudson under the Microtel
Acquisition Agreement (approximately $233,000 for the year ended December 31,
1997), (iv) amortization of costs related to the formation of the Company
(approximately $31,000 for the year ended December 31, 1997) and (v)
amortization of architectural plans developed for the Microtel and Hawthorn
hotels (approximately $29,000) and (vi) depreciation of a truck (approximately
$11,000).
YEAR ENDED 1996 COMPARED TO YEAR ENDED 1995
Marketing and reservation expenses increased $1,584,000 for the year ended
December 31, 1996 primarily because: (i) the Company commenced operations in
October 1995, therefore limited national consumer advertising expenses were
incurred in 1995 for the Microtel brand (an increase of approximately $568,000
for the year ended December 31, 1996) and (ii) the right to franchise the
Hawthorn brand was not acquired until March 1996, therefore, no marketing and
reservation expenses were incurred in 1995 for this brand (an increase of
approximately $1,016,000 for the year ended December 31, 1996).
The franchise sales commissions for the year ended December 31, 1996 relate
to one hotel that opened and the execution of an international master franchise
agreement compared to zero hotels in 1995.
Other franchise sales and advertising expenses increased $2,164,000 for the
year ended December 31, 1996 because: (i) the Company commenced operations in
October 1995 and the majority of its Microtel and Hawthorn sales staffs were not
hired until December 1995 and March 1996, respectively; therefore, payroll and
payroll-related, travel and entertainment, and general office expenses were
minimal in 1995 (an increase of approximately $1,578,000 for the year ended
December 31, 1996) (ii) the right to franchise the Hawthorn brand was not
acquired until March 1996 and as a result, advertising and promotion costs were
incurred (an increase of approximately $186,000 for the year ended December 31,
1996),
30
<PAGE>
(iii) additional expenses were incurred for the promotion of the Microtel brand
(an increase of approximately $105,000 for the year ended December 31, 1996),
(iv) a program was initiated in which potential franchisees were brought to
Atlanta, Georgia, home of the Company's corporate offices, for education and
tours of the local Microtel and Hawthorn hotels (an increase of approximately
$122,000 for the year ended December 31, 1996) and (v) advertising and
promotional expenses were incurred for the Company's American Dream and
Franchisee Financing Facility Programs which were introduced in 1996 (an
increase of approximately $130,000 for the year ended December 31, 1996).
Other general and administrative expenses increased $3,112,000 for the year
ended December 31, 1996 due to: (i) additional personnel hired in the areas of
training, franchise services, franchise administration and quality control to
service the additional executed franchise agreements and newly introduced
programs (an increase of approximately $1,626,000 for the year ended December
31, 1996), (ii) legal fees and general office and travel expenses due to the
additional nine months of operations and additional headcount in place during
1996 (an increase of approximately $929,000 for the year ended December 31,
1996) (iii) expenses related to the Company's having become a publicly traded
company in October 1996 (an increase of approximately $71,000 for the year ended
December 31, 1996) and (iv) a $240,000 non-recurring charge related to the
anticipated termination of the Company's corporate office lease.
Depreciation and amortization expense includes (i) depreciation of equipment
for the corporate and regional sales offices (approximately $32,000 for the year
ended December 31, 1996), (ii) amortization for the cost of acquiring the
Microtel brand and the exclusive rights to franchise the Hawthorn brand
(approximately $223,000 for the year ended December 31, 1996), (iii)
amortization of consulting payments made to Hudson under the Microtel
Acquisition Agreement (approximately $233,000 for the year ended December 31,
1996), (iv) amortization of costs related to the formation of the Company
(approximately $32,000 for the year ended December 31, 1996), and (v)
architectural plans developed for Microtel and Hawthorn hotels (approximately
$17,000).
OTHER INCOME (EXPENSES)--Interest income was $229,000 for the three months
ended March 31, 1998, resulting from investments in cash and marketable
securities. Interest income for the three months ended March 31, 1997 was
$383,000. Interest income for the year ended December 31, 1997 was $1,386,000.
Interest income for the year ended December 31, 1996 was $871,000. Interest
income for the fourth quarter of 1995 was $195,000.
During the three months ended March 31, 1998, interest expense was $452,000,
compared to interest expense of $480,000 for the three months ended March 31,
1997. During the year ended December 31, 1997, interest expense on the note
payable relating to the purchase of the Microtel brand was $1,905,000, compared
to interest expense of $126,000 for the year ended December 31, 1996 and
interest expense of $36,000 for the fourth quarter of 1995.
THREE MONTHS ENDED MARCH 31, 1998 COMPARED TO THREE MONTHS ENDED MARCH 31,
1997
Interest income, resulting from investments in cash and marketable
securities, decreased $154,000 for the three months ended March 31, 1998 as
compared to the comparable prior year's period. This is primarily the result of
the decrease in the balance of Cash and Temporary Cash Investments by
$12,181,000 from March 31, 1997 to March 31, 1998.
YEAR ENDED 1997 COMPARED TO YEAR ENDED 1996
Interest income, resulting from investments in cash and marketable
securities, increased $515,000 for the year ended December 31, 1997 primarily as
a result of additional interest earned on the cash received from the Company's
initial public offering in October 1996.
31
<PAGE>
Interest expense increased $1,779,000 for the year ended December 31, 1997.
Interest expense in 1996 related to the note payable for purchasing the Microtel
brand while the 1997 expense also includes interest paid to the holders of the
Company's Subordinated Debentures.
YEAR ENDED 1996 COMPARED TO YEAR ENDED 1995
Interest income, resulting from investments in cash and marketable
securities, increased $676,000 for the year ended December 31, 1996 because of
the nine additional months of operations and the additional interest earned on
the cash received from the Company's initial public offering in October 1996.
Interest expense for the year ended December 31, 1996 increased $90,000
because of the nine additional months of operations in 1996, offset partially by
the paying down of the note payable relating to the purchase of the Microtel
brand by $706,000 since the fourth quarter of 1995.
NET LOSS--A summary of operating results is as follows:
<TABLE>
<CAPTION>
THREE MONTHS THREE MONTHS YEAR ENDED YEAR ENDED PERIOD ENDED
ENDED MARCH 31, ENDED MARCH 31, DECEMBER 31, DECEMBER 31, DECEMBER 31,
1998 1997 1997 1996 1995
---------------- ---------------- ------------ ------------ ------------
<S> <C> <C> <C> <C> <C>
Net Loss.......................... $ 1,855,000 $ 2,515,000 $8,947,000 $6,591,000 $1,168,000
Loss Applicable to Common
Stockholders.................... $ 1,855,000 $ 2,515,000 $8,947,000 $8,309,000 $1,577,000
</TABLE>
THREE MONTHS ENDED MARCH 31, 1998 COMPARED TO THREE MONTHS ENDED MARCH 31,
1997
The Company's net loss decreased $660,000 for the three months ended March
31, 1998 as compared to the comparable prior year's period. Revenues increased
$1,438,000 primarily because a greater number of hotels were open and opened
during the first quarter of 1998, thus, the Company received more royalty
payments and recognized more application fees. This increase in revenues was
offset by an increase in operating expenses of $652,000. The Company did not
expect to generate a profit in the first quarter of 1997 or 1998 as it was
investing in its infrastructure to facilitate future growth. To date, it has
generally taken 12 to 18 months, in the case of Microtel, and seven to 15 months
in the case of a Hawthorn, from the time a franchise agreement is executed until
the opening of a hotel, at which time the Company generally begins receiving
royalty income. Total hotels open plus under development and approved
applications increased from 381 to 604 from March 31, 1997 to March 31, 1998. A
total of 76 of the 104 hotels open as of March 31, 1998 were paying royalties to
the Company compared to only six of the 51 properties open as of March 31, 1997.
The Company continues to focus on building its future royalty stream.
YEAR ENDED 1997 COMPARED TO YEAR ENDED 1996
The Company's net loss increased $2,356,000 as of December 31, 1997
primarily because of the additional employees hired in 1997 and the additional
costs of being a public company for a full year. The Company did not expect to
generate a profit in 1996 or 1997 as it was investing in its infrastructure to
facilitate future growth. Total hotels open and under development increased from
259 (plus 96 accepted applications) to 463 (plus 94 accepted applications) from
December 31, 1996 to December 31, 1997. A total of 35 of the 95 hotels open as
of December 31, 1997 were paying royalties to the Company. Only two of the 47
properties open as of December 31, 1996 were paying royalties to the Company.
See "Risk Factors--No Rights to Certain Royalties." The Company continues to
focus on building its future royalty stream.
The net loss applicable to common stockholders includes $1,718,000 of
accumulated but undeclared and unpaid dividends on its 10% Cumulative Redeemable
Exchangeable Preferred Stock (the "Redeemable Preferred Stock") for the year
ended December 31, 1996.
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<PAGE>
The Company had a net operating loss carryforward for income tax purposes of
$11,542,000 and $6,437,000 for the years ended December 31, 1997 and 1996,
respectively. Given the limited operating history of the Company, management
recorded a valuation allowance for the full amount of the deferred tax asset as
of December 31, 1997.
YEAR ENDED 1996 COMPARED TO YEAR ENDED 1995
The Company's net loss increased $5,423,000 as of December 31, 1996
primarily attributable because of the nine additional months of operations and
the additional employees hired in 1996. The Company did not expect to generate a
profit in 1995 or 1996 as it was investing in its infrastructure to facilitate
future growth. Total hotels open and under development increased from 30 to 259
from December 31, 1995 to December 31, 1996 (including 19 additional hotels from
the acquisition of franchise rights to the Hawthorn brand). However, only two of
the 47 open hotels were paying royalties to the Company, as of December 31,
1996. None of the 23 properties open as of December 31, 1995 were paying
royalties to the Company. See "Risk Factors--No Rights to Certain Royalties." In
1995 and 1996 the Company focused on building its future royalty stream.
The net loss applicable to common stockholders includes $1,718,000 and
$409,000 of accumulated but undeclared and unpaid dividends on its Redeemable
Preferred Stock for the years ended December 31, 1996 and December 31, 1995,
respectively.
The Company had a net operating loss carryforward for income tax purposes as
of December 31, 1996 of $6,437,000. Given the limited operating history of the
Company, management recorded a valuation allowance for the full amount of the
deferred tax asset as of December 31, 1996.
LIQUIDITY AND CAPITAL RESOURCES
From August 28, 1995 (inception) to October 24, 1996, the Company financed
its operations primarily through a private placement of securities, franchise
application fees, and interest income. In October 1995, the Company raised
approximately $17.5 million in gross proceeds through private sales of shares of
its old common stock (i.e., stock prior to the reclassification of shares on
October 11, 1996) and Redeemable Preferred Stock.
On October 24, 1996, the Company completed a public offering of 1,825,000
shares of Class A Common Stock at $13.50 per share (the "Initial Offering"). Net
proceeds to the Company from the Initial Offering were approximately
$21,391,000. As of December 31, 1997 approximately $13,900,000 of such proceeds
had been used by the Company (including to fund its remaining obligations under
the Microtel Acquisition Agreement, pay interest on the Subordinated Debentures,
make loans to certain franchisees, acquire a limited number of hotel properties
owned by the Company, fund transaction fees and expenses, fund reservation
system expenditures and for working capital and general corporate purposes) and
the remaining proceeds of approximately $7,400,000 were held either as cash or
cash equivalents and were available to be used for working capital and general
corporate purposes.
On January 1, 1997, the Company exercised its option to exchange the
Redeemable Preferred Stock at the Liquidation Value of $18,477,000 into 10%
Subordinated Debentures due September 29, 2007 (the "Subordinated Debentures").
The Company is required to pay interest expense by issuing additional debentures
for 50% of the expense with the remaining 50% to be paid in cash. Interest is
payable semi-annually on the last business day in June and December of each
year. If Mr. Michael A. Leven's employment were to terminate for any reason the
Company would be obligated to redeem all outstanding Subordinated Debentures.
The Company also had outstanding indebtedness related to the Microtel
Acquisition of approximately $454,000 in principal and interest as of March 31,
1998.
In connection with the establishment of the Development Fund (see
"Business--Recent Developments--Development Fund"), the Company has committed to
lend up to $10 million to Constellation,
33
<PAGE>
which will use the funds to make a subordinated equity investment in the
Development Fund. The Company's loan will bear interest at an annual rate of 8%,
will be non-recourse and will be repayable from distributions and payments made
to Constellation from the Development Fund. In addition, the Company sold an
aggregate of 500,000 shares of Class A Common Stock to NorthStar and
Lubert-Adler for a purchase price of $11.25 per share totaling $5.625 million.
NorthStar and Lubert-Adler also have the right to purchase up to an additional
500,000 shares of Class A Common Stock, exercisable as funds are committed by
the Development Fund, at a price of $11.25 per share. The Company will also be
paid $3.5 million over the next five years to manage the Development Fund.
On April 28, 1998, in connection with the closing of the Best Inns
acquisition, the Company made a $15 million unsecured subordinated loan to
Ventures at an interest rate of 12% per annum (interest on which will be paid in
cash to the extent of available cash and otherwise will be paid-in-kind) and
issued to Alpine Equities 350,000 shares of Class A Common Stock for a purchase
price of $1.6 million. See "Business--Recent Developments--Best Inns" and
"Certain Relationships and Related Transactions." The Company used the proceeds
of the $10 million loan from NationsBank N.A., the $1.6 million it received from
the sale to Alpine Equities of 350,000 shares of Class A Common Stock, and $3.4
million of its own cash to make the $15 million loan to Ventures. In addition,
the Company used its own cash to pay the expenses incurred in connection with
these transactions.
Cash and cash equivalents were $16,286,000 as of March 31, 1998. In
management's opinion, based on the Company's current operations, the Company's
capital resources are sufficient to fund operations for the next twelve months.
The Company expects to satisfy its cash requirements during the next twelve
months, including those arising as a result of the Best Inns acquisition and its
commitments to the Development Fund, with its cash and cash equivalents. The
Company expects to use the net proceeds of the Offering to repay the $10.0
million loan from NationsBank N.A. and to redeem the approximately $19.7 million
aggregate principal amount of Subordinated Debentures outstanding plus accrued
interest thereon to the date of repayment and to allow the Company to further
accelerate its growth. The Company has no outstanding lines of credit in place.
For the three months ended March 31, 1998, the Company had a net loss of
$1,855,000 and net cash used in operating activities was $2,935,000. In
addition, for the three months ended March 31, 1998, net cash used in investing
activities was $2,293,000. Such investments were primarily costs related to the
acquisition of property and construction of hotels on such property, the
acquisition of additional office furniture and office equipment, costs related
to the construction of a national reservation system, and the capitalization of
costs incurred on the HSA Acquisition. For the three months ended March 31,
1998, such operating and financing uses of cash were funded by net cash provided
by financing activities of $5.625 million which was the result of the Company
issuing 500,000 shares of Class A Common Stock to NorthStar and Lubert-Adler in
connection with the establishment of the Development Fund during the period.
For the year ended December 31, 1997, the Company had a net loss of
$8,947,000. The net cash used in operating activities was $9,630,000. The net
cash used was primarily a result of increases in promissory notes receivable
related to the application fees on executed franchise agreements, increases in
deferred commissions paid to salesmen for executed franchise agreements,
increases in other assets which primarily relate to loans issued to franchisees
to aid them in the development of building hotels, a decrease in the liability
to Hudson Hotels Corporation and increases in prepaid expenses. Net cash used
was partially offset by cash inflows of application fees for executed franchise
agreements, depreciation and amortization, deferred compensation related to the
Company's Employee Stock Option Plan, increases in commissions payable, and the
issuance of Subordinated Debentures paid in kind.
For the year ended December 31, 1997, net cash used in investing activities
was $5,385,000 which was primarily a result of costs related to the acquisition
of property and construction of hotels on such
34
<PAGE>
property. In addition, uses of cash in investing activities included the
acquisition of additional office furniture and office equipment, costs related
to the construction of a national reservation system, and the capitalization of
legal fees incurred on the anticipated HSA Acquisition.
For the year ended December 31, 1997, net cash used in financing activities
was $283,000 which was a result of the Company repurchasing management stock
from certain members of management who left the Company and the repayment of
debt during the period.
YEAR 2000 COMPUTER MATTER
The Year 2000 issue is the result of computer programs being written using
two digits rather than four to define the applicable year. Any of the Company's
computer programs that have time-sensitive software may recognize a date using
"00" as the year 1900 rather than the year 2000. This could result in a system
failure or miscalculations causing disruptions of operations, including, among
other things, a temporary inability to process transactions, send invoices, or
engage in similar normal business activities.
Management does not expect that the Year 2000 issue will pose significant
operational problems for its computer systems. All costs associated with
analyzing the Year 2000 Issue or making conversions to existing software are
being expensed as incurred.
The Company is planning formal communications with all of its significant
suppliers of goods and services to determine the extent to which the Company's
operations and systems are vulnerable to those third parties' failure to
remediate their own Year 2000 issue. There can be no guarantee that the systems
of other companies on which the Company's operations and systems rely will be
timely converted and would not have an adverse effect on the Company's systems.
The Company will utilize predominantly internal resources to reprogram, or
replace, and test the software for Year 2000 modifications. The Company
anticipates completing the Year 2000 project by May 1, 1999, which is prior to
any anticipated impact on its operating systems. Management has not estimated a
total cost of the Year 2000 issue however such costs are not expected to have a
material effect on the results of operations during any quarterly or annual
reporting period.
The costs of the project and the date on which the Company believes it will
complete the Year 2000 modifications are based on management's best estimates,
which were derived utilizing numerous assumptions of 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 materially from those anticipated.
Specific factors that might cause such material differences include, but are not
limited to, the availability and cost of personnel trained in this area, the
ability to locate and correct all relevant computer codes, and similar
uncertainties.
SEASONALITY
The Company expects to experience seasonal revenue patterns similar to those
experienced by the lodging industry generally. Accordingly, the summer months,
because of an increase in leisure travel, are expected to produce higher
revenues for the Company than other periods during the year. In addition,
developers of new hotels typically attempt, whenever feasible, to schedule the
opening of a new property to occur prior to the spring and summer seasons. This
also may have an impact on the seasonality of the Company's revenues, a
significant portion of which is not recognized until the opening of a property.
Accordingly, the Company may experience lower revenues and profits in the first
and fourth quarters and higher revenues and profits in the second and third
quarters.
INFLATION
The rate of inflation has not had a material effect on the revenues or
operating results of the Company since its inception.
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BUSINESS
GENERAL
U.S. Franchise Systems, Inc. is a fast growing brand development and
franchise sales company. USFS acquires, markets and services well-positioned
brands with potential for rapid unit growth through the sale of franchises to
third-party owners. The Company's current brands, which are in the lodging
industry, are the Microtel budget brand, the Hawthorn, extended-stay brand and
the recently acquired Best Inns brand, which is an economy and upper economy
brand positioned between Microtel and Hawthorn. See "--Recent Developments--Best
Inns." USFS has grown since October 1995 from 27 franchised hotels open or under
development in nine states to 524 franchised hotels open or under development
(104 open and 420 under development), plus an additional 80 accepted franchise
applications that have not been converted into executed franchise agreements, in
49 states as of April 1, 1998 ("under development" includes hotels that are
under construction or for which franchise agreements have been executed but
construction has not yet commenced). USFS attributes this rapid growth to, among
other things, the potential profitability of its brands for franchisees, the
positions of its brands in attractive segments of the lodging industry, and the
size and experience of the USFS franchise sales force. Management believes that
its 48 franchise person sales force, which together with the Company's senior
management has sold over 2,000 franchises on behalf of other hotel chains, is
the largest franchise sales organization per brand and the second largest
franchise sales organization in the lodging industry. See
"--Operations--Franchise Sales" and "Management."
The Company's revenues are primarily derived from franchise application
fees, franchise royalty fees and reservation and marketing fees that are
calculated as a percentage of individual hotel revenues rather than on the
profitability of hotel operations. The Company does not typically own hotel real
estate. As a franchisor, USFS licenses the use of its brand names to independent
hotel owners and operators (i.e., franchisees). With the acquisition of Best
Inns, USFS gained management contracts and management capabilities that provide
the Company with another fee stream calculated as a percentage of individual
hotel revenues to complement and potentially accelerate the Company's
franchising efforts.
The Company has accomplished the following in executing its business and
growth strategy:
- From the time the Company acquired the exclusive rights to franchise the
Microtel brand in October 1995, USFS has dramatically grown the brand from
27 franchised hotels open or under development in nine states to 411
franchised hotels open or under development (75 open and 336 under
development), plus an additional 60 accepted franchise applications that
have not been converted into executed franchise agreements as of April 1,
1998. See "Risk Factors--Dependence On, and Obstacles To, Hotel Openings"
and "Risk Factors--No Rights to Certain Royalties."
- From the time USFS acquired the exclusive rights to franchise the Hawthorn
brand in March 1996, the Company has increased distribution of the brand
from 18 franchised hotels open or under development to 113 franchised
hotels open or under development (29 open and 84 under development), plus
an additional 20 accepted franchise applications that have not been
converted into executed franchise agreements as of April 1, 1998. See
"Risk Factors--Dependence On, and Obstacles To, Hotel Openings."
- On March 17, 1998, the Company formed a $100 million development fund with
NorthStar, Lubert-Adler and Constellation to accelerate the development of
Microtel and Hawthorn properties in high profile, high barriers to entry
areas. See "--Recent Developments--Development Fund."
- On April 28, 1998, the Company acquired the exclusive worldwide franchise
rights to the Best Inns brand. The Company expects to market Best Inns as
a conversion brand to independent owners of existing hotels, thereby
broadening its potential franchisee base and allowing the Company to
recognize royalty fees significantly sooner than with newly built hotels.
See "--Recent Developments--Best Inns."
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- On March 12, 1998, the Company acquired full ownership of the Hawthorn
brand from entities related to the Pritzker family, eliminating royalties
that the Company would have owed under the royalty-sharing agreement
previously in place and removing certain restrictions on the Company's
ability to purchase certain other hotel brands. In this transaction, the
Pritzker family entities exchanged their rights to a future royalty stream
for 2,222,222 Shares of Class A Common Stock. See "--Recent
Developments--Acquisition of Remaining Interest in Hawthorn."
- The Company has launched its first national cable television advertising
campaign on CNN, CNN Headline News, the Weather Channel and CNNsi for the
Microtel and Hawthorn chains. See "-- Operations--Marketing."
Additionally, the Company is in the process of rolling out FIRST, an
Internet-based central reservations system designed to provide franchisees
an efficient means to link to travel agencies and to present their
properties to millions of potential customers. See
"--Operations--Reservations."
- The Company has added three key individuals in the lodging industry to its
board of directors; Douglas Geoga, President of Hyatt Hotels Corporation,
David T. Hamamoto, co-Chief Executive Officer, co-President and
co-Chairman of NorthStar Capital Investment Corp. and former co-head and
co-founder of the Whitehall Funds at Goldman, Sachs & Co., and Steven M.
Romaniello, Executive Vice President--Franchise Sales and Development of
the Company. See "Management."
The Company's management team and sales force is led by its Chairman, Chief
Executive Officer and President Michael A. Leven, who has 37 years of experience
in the lodging industry, and its Executive Vice President and Chief Financial
Officer, Neal K. Aronson, a former principal of the New York investment firm
Odyssey Partners, L.P. Mr. Leven most recently served as President of Holiday
Inn Worldwide (1990-95) and President and Chief Operating Officer of Days Inn of
America, Inc. (1985-1990), franchisors of two of the largest lodging brands in
the world.
BUSINESS STRATEGY
The Company's primary business strategy is to maximize revenues and
profitability by capitalizing on the operating leverage inherent in the
franchising business by (i) rapidly increasing the number of hotels franchised
under its current brands and (ii) acquiring additional lodging or other
service-oriented brands that provide attractive unit economics to franchisees
and significant growth opportunities for the Company.
The Company expects to enjoy significant operating leverage by virtue of its
investments to date in its management and franchise sales infrastructure that
have been designed to permit the sale, management and administration of
additional franchises and franchise brands with minimal incremental investment.
As a result, the Company expects to enjoy significant incremental profits in the
future from additional franchise royalty revenue received after fixed costs are
covered.
STRATEGIES TO ACCELERATE FRANCHISE SALES
OFFER A VARIETY OF PRICE POINTS. With the addition of the Best Inns brand,
the Company is able to offer to potential franchisees lodging brands in three
important price segments of the hotel industry. Microtel is an all new-build
brand that competes with older hotels in the budget segment of the hotel
industry. Hawthorn competes in the mid-price and upscale price points of both
the extended stay and transient suite segments. The Best Inns brand is
positioned between the Company's other two brands, competing in the economy and
upper economy segments.
OFFER A VARIETY OF DEVELOPMENT OPTIONS. With the addition of the Best Inns
brand, the Company is now better positioned to offer potential franchisees a
"conversion" opportunity as well as new-build products. A conversion brand such
as Best Inns, which offers potential franchisees the opportunity to convert
existing hotels to such brand, has three primary benefits to the Company:
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(i) conversion of an existing hotel to a USFS brand is generally
considerably quicker than franchising a hotel through new construction,
thereby allowing the Company to recognize franchise royalty revenues
significantly sooner;
(ii) converted hotels typically are fully operational, thereby providing the
Company with an immediate royalty revenue opportunity based on the hotel's
existing revenues which may be significantly higher than those generated by
a newly built hotel that typically experiences a "ramp up" period; and
(iii) a conversion brand enhances the Company's ability to sell hotel
franchises during economic downturns when owners of independent hotels may
seek the advantages offered by being part of a larger hotel chain and owners
of chain-affiliated hotels may seek to change brands in an effort to
increase profitability.
OFFER MANAGEMENT SERVICES. With the completion of the Best Inns
acquisition, the Company acquired a platform for providing management services
to hotel developers and owners, such as financial institutions, that are not
equipped to manage properties themselves. As a result, the addition of this
management function permits the Company to target an expanded universe of
potential franchisees, while providing the Company with an additional source of
fee-based revenues that are calculated as a percentage of individual hotel
revenues rather than on the profitability of the hotel's operators. In addition,
the Company may structure incentive fees in management contracts based on
achieving specified operating performance goals.
ENTER INTO STRATEGIC PARTNERSHIPS TO PROMOTE BRAND GROWTH. The Company
intends to continue to seek strategic relationships with strong financial real
estate partners that are designed to facilitate the development and expansion of
the Company's brands. For example, the Company has formed the Development Fund
with NorthStar and Lubert-Adler in order to provide "one stop" debt and equity
financing at competitive rates for local developers in high profile, high
barriers to entry areas. See "Business--Recent Developments--Development Fund."
Also, Sunstone Hotel Investors, Inc. and Equity Inns, Inc., two publicly traded
REITs have expressed interest in seeking opportunities to acquire newly built
Hawthorn properties or convert existing properties to the Hawthorn brand. The
Company expects these relationships to enable it to attract hotel developers
that may seek to sell a newly constructed hotel upon completion of its
construction.
ACQUISITION STRATEGY
REGIONAL CHAIN ACQUISITION STRATEGY. The Company intends to continue to
explore the acquisition of regional hotel chains that either can be converted to
one of the Company's brands or added as a new brand to complement the Company's
existing brand portfolio. To pursue this strategy, the Company may join with a
real estate partner that may acquire the related real property, such as in the
Best Inns acquisition. See "--Recent Developments--Best Inns." The Company
believes that the continuing consolidation of the lodging industry will afford
additional opportunities to acquire regional chains.
OTHER ACQUISITION OPPORTUNITIES. Additionally, the Company intends to
explore acquisition opportunities of complementary national lodging brands and
other service-oriented brands outside the lodging industry that can be
franchised. There can be no assurance, however, that the Company will be
successful in identifying regional chain or other acquisition candidates or that
such acquisitions, if completed, will be successful. See "Risk
Factors--Successful Completion and Integration of Acquisitions."
RECENT DEVELOPMENTS
FIRST QUARTER RESULTS. The Company reported revenue of $1,983,000 for the
three months ended March 31, 1998 compared to revenue of $545,000 for the three
months ended March 31, 1997. Revenue for the three months ended March 31, 1998
included $1,067,000 in franchise application and royalty fees, $334,000 in other
fees and $582,000 in marketing and reservation fees. Marketing and reservation
fees are intended to reimburse the Company for expenses associated with
providing support services to its franchisees and do not generate profits for
the Company. The Company's net loss for the three months
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ended March 31, 1998 was $1.86 million, or $.14 a share, compared to a net loss
of $2.52 million, or $.20 a share for the three months ended March 31, 1997.
Total cash and equivalents at March 31, 1998 was $16.3 million. The Company's
balance sheet also included franchise sales activity, with $9.7 million of
deferred revenue and $6.3 million in offsetting deferred sales expenses which is
only recognized when the related hotels open.
ACQUISITION OF REMAINING INTEREST IN HAWTHORN. On March 12, 1998, the
Company completed the HSA Acquisition. The HSA Acquisition was structured as a
reverse acquisition, whereby U.S. Franchise Systems, Inc. was merged into USFS
Hawthorn, Inc., a newly-formed Delaware corporation ("USH"), with USH as the
surviving corporation in the Merger. Immediately following consummation of the
Merger, USH changed its name to "U.S. Franchise Systems, Inc."
In this transaction, the Company issued to the Pritzker family related
entities 2,222,222 shares of its Class A Common Stock, representing as of that
date approximately 15% of the fully-diluted shares of the Company, in exchange
for royalties that USFS otherwise would have owed under the royalty sharing
arrangement originally in place. In addition, the acquisition removed
restrictions on the Company's ability to purchase certain other hotel brands.
Among its holdings, Pritzker family business interests own Hyatt Hotels
Corporation. As part of the transaction, Douglas Geoga, President of Hyatt
Hotels Corporation, joined the Company's board of directors. See "Management."
DEVELOPMENT FUND. On March 17, 1998, NorthStar, Lubert-Adler and
Constellation committed to contribute to the Development Fund equity totalling
$50 million. The Development Fund was established to provide capital that will
allow the Company to extend its Microtel and Hawthorn brands into high profile,
high barriers to entry areas by providing debt and equity financing to selected
local developers. Management believes that the addition of these locations will
help increase the Company's brand awareness, both with potential builders and
with hotel guests. In addition, the Development Fund is negotiating the terms of
a $60 million senior credit facility with a commercial bank. To date, no
commitment letter has been obtained from a commercial bank with respect to a
senior credit facility and there can be no assurance that a senior credit
facility will be arranged on terms acceptable to the Development Fund. The
Development Fund is expected to fund the construction of 20 to 25 Microtel or
Hawthorn hotels over the next 18 months, and is currently in the process of
reviewing five projects requesting debt and equity commitments totaling
approximately $22 million.
In connection with the establishment of the Development Fund, the Company
has committed to lend up to $10 million to Constellation, which will use the
funds to make a subordinated investment in the Development Fund. The loans from
the Company will bear interest at an annual rate of 8%, will be non-recourse and
will be repayable from distributions and payments made to Constellation from the
Development Fund. The Company will also be paid approximately $3.5 million over
the next five years to manage the Development Fund.
In connection with the establishment of the Development Fund, the Company
sold an aggregate of 500,000 shares of Class A Common Stock to NorthStar and
Lubert-Adler for $5.625 million. NorthStar and Lubert-Adler also have the right
to purchase up to an additional 500,000 shares of Class A Common Stock,
exercisable within 18 months of, and pro rata based upon the amounts of, the
funding of real estate investments by the Development Fund at a price of $11.25
per share. In addition, David T. Hamamoto was elected to the Board of Directors
of the Company. Mr. Hamamoto is the co-Chief Executive Officer, co-President and
co-Chairman of NorthStar Capital Investment Corp., the managing member of
NorthStar, and former co-head and co-founder of the Whitehall Funds at Goldman,
Sachs & Co. See "Management." Dean Adler, a director of the Company, serves as
President of Lubert-Adler. In addition, Mr. Adler, along with Mr. Hamamoto and
Neal Aronson, the Executive Vice President and a director of the Company, serve
as managers of the Development Fund. See "Certain Relationships and Related
Transactions."
BEST INNS. On April 28, 1998, the Company completed its acquisition of the
exclusive worldwide franchise rights to the Best Inns hotel brands, including
the franchise agreements for the existing Best Inns hotels. In addition, the
Company acquired the management contracts and related personnel relating to the
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management of 29 existing Best Inns hotels and became the controlling member of
the not-for-profit corporation which supplies reservation services to Best Inns
hotels.
In connection with this transaction, the Company and the sellers entered
into an agreement with Alpine Hospitality Ventures LLC ("Ventures") pursuant to
which Ventures (through a wholly-owned subsidiary) acquired 17 Best Inns hotels
(the "Acquired Hotels"). Contemporaneously with the closing of the transaction,
new franchise and management agreements were entered into between the Company
and Ventures with respect to the Acquired Hotels. As a result of the
transaction, the Company owns the exclusive worldwide franchise rights to the
Best Inns hotel brands, is the franchisor of 35 existing Best Inns hotels and
will be the franchisor of three hotels under development, manages 29 of the
existing Best Inns hotels and will manage two Best Inns hotels under
development.
To facilitate the transaction, the Company made a $15 million unsecured
subordinated loan to Ventures at an interest rate of 12% per annum, interest on
which will be paid in cash to the extent of available cash and otherwise will be
paid-in-kind. The loan is subordinated to a guarantee provided by Ventures in
connection with a third-party loan in the principal amount of approximately $65
million to its subsidiary that owns the Acquired Hotels and also is subordinated
to such third party loan. The Company made the subordinated loan and issued the
Alpine Shares (as defined below) in order to induce Ventures to purchase from
the Sellers the Acquired Hotels. USFS financed the subordinated loan through a
$10 million full recourse loan from NationsBank N.A., the $1.6 million it
received from an affiliate of Ventures for the Alpine Shares and $3.4 million of
its own cash. In addition, the Company committed to make up to $7.5 million of
additional loans to Ventures under certain circumstances at an interest rate and
upon other terms that are substantially similar to Ventures' or its
subsidiaries' third-party indebtedness at such time. The Company expects
Ventures to be a highly leveraged entity and there can be no assurance that any
loans to Ventures will be repaid. It is anticipated that the proceeds from the
Offering will be utilized to repay the NationsBank loan. See "Use of Proceeds."
Also in connection with the Best Inns acquisition agreement, the Company
issued to Alpine Hospitality Equities LLC ("Alpine Equities"), an affiliate of
Ventures, 350,000 shares (the "Alpine Shares") of Class A Common Stock for a
purchase price of $1.6 million. Alpine Equities was granted certain demand and
piggy-back registration rights on customary terms with respect to the Alpine
Shares, as well as certain tag-along rights on certain sales of Common Stock
made by Messrs. Leven and Aronson. Additionally, the Company agreed to pay to
Alpine Equities $1,000 per year for each Best Inns hotel that is added to the
Best Inns system of hotels after the closing date of the transaction, provided
that such new hotels are paying royalties to the Company or any of its
affiliates (the "New Hotel Fee").
Richard D. Goldstein, a director of the Company, is an Executive Vice
President and a Senior Managing Director of the general partner of Alpine Equity
Partners L.P., the entity that indirectly owns and controls a majority of Alpine
Equities and Ventures. See "Certain Relationships and Related Transactions."
THE COMPANY'S BRANDS
MICROTEL. Microtel is an all new-build brand in the budget segment of the
lodging industry with an average daily room rate of typically between $35 and
$45. Microtels are distinctively styled hotels with a residential look that
offer travelers an attractive and consistent appearance, clean, comfortable
rooms and the safety of interior corridor access, all for a competitive room
rate. Management believes that Microtel is one of the only brands in the budget
segment that franchises only newly constructed, interior corridor properties. In
contrast, according to Smith Travel Research, 89% of hotels in the budget
segment are 10 years old or older. Management believes that Microtels' strict
new construction and interior corridor requirements provide travelers with a
brand that is among the safest, most consistent and highest quality in the
budget segment. Evidence of the appeal of Microtels to hotel guests is found in
its intent-to-return rating, which measures guests' overall satisfaction and
willingness to return to a Microtel in the future. In
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surveys of approximately 32,000 Microtel guests conducted by franchisees during
the past twelve months, approximately 98% of Microtel guests expressed intent to
return to a Microtel in the future.
The Company believes that Microtels offer franchisees significant financial
advantages. Microtels are designed to minimize construction costs and
maintenance expenses by incorporating smaller room sizes, limited common areas,
relatively smaller land requirements and built-in standardized furniture, all of
which enable franchisees to build and operate a Microtel at a lower cost. These
lower costs may reduce a franchisee's equity investment and may broaden its debt
financing alternatives as well as enhance the properties profitability, thereby
expanding the appeal of the Microtel brand to prospective franchisees. As a
result, Microtel franchisees are attractive to smaller, independent hotel
operators.
HAWTHORN. Hawthorn targets the upscale segment of the extended-stay lodging
market, which is defined as guests that stay five or more consecutive nights
with an average daily room rate of typically between $75 and $95. Hotels in this
segment offer guests many of the amenities of an apartment with the convenience
and flexibility of a traditional hotel. Hawthorn hotels offer large suites
equipped with full kitchens and work spaces and offer laundry facilities,
exercise rooms, daily housekeeping, 24-hour front-desk service, complimentary
hot breakfast and hospitality hours. In October 1997, the Company introduced the
mid-market brand extension, Hawthorn Suites LTD, which offers traditional
Hawthorn Suites as well as smaller suites with limited amenities. Hawthorn
Suites LTD targets both extended-stay and overnight travel guests and is
intended to attract franchisees seeking an all-suite property in a market that
may not justify a property targeted exclusively at extended stay guests.
Occupancy rates in this segment are relatively high, and properties have lower
operating costs relative to similarly priced, full-service hotel properties
according to Smith Travel Research. Upper end, extended-stay hotels experienced
occupancy rates of approximately 80% in 1997 compared to approximately 65% for
the lodging industry as a whole during the same period.
BEST INNS. Best Inns and Suites operate in the economy and upper economy
segment of the lodging industry, generating an average daily room rate of
typically between $40 and $70. Upon completion of the acquisition of the Best
Inns brand, the Company had 35 existing properties under franchise agreements.
Another two hotels are currently under construction, and a third is expected to
commence construction in the third quarter of 1998. The Best Inns acquisition
was designed to provide a brand for the USFS portfolio with a primary growth
strategy of conversion of existing hotels to the Best Inns name. One advantage
of this conversion strategy is the quick rebranding of existing hotels, thereby
allowing the Company to receive franchise revenue sooner than with new build
hotels.
Best Inns offers such amenities as free local phone calls, complimentary
Special K-Registered Trademark- breakfast and evening coffee. Best Inns has
several marketing programs designed to build repeat business, including the Best
Inns Preferred Guest Program and the "Seniors 1st Club." The Company expects to
add all Best Inns properties to FIRST, the new Internet-based reservation
system, within the next year.
THE HOTEL FRANCHISING AND LODGING INDUSTRIES
HOTEL FRANCHISING. In recent years, owners of hotels not affiliated with
regional or national lodging companies have increasingly chosen to join hotel
franchise chains. The Company and other hotel franchise chains provide a number
of services designed to directly or indirectly increase hotel occupancy rates,
revenues and profitability. The Company believes that hotel operators often view
franchise chain membership as an important means of remaining competitive with
hotels that are either owned by or affiliated with national or regional lodging
companies. In determining whether to affiliate with a franchise chain, hotel
operators will compare costs of affiliation with the incremental revenues
anticipated to be derived from chain membership. Costs of affiliation include
capital expenditures and operating costs required to meet a chain's quality and
operating standards, plus the ongoing payment of franchise royalties and
assessments for the reservations system and marketing programs maintained by the
franchisor.
LODGING INDUSTRY. The lodging industry has traditionally been divided into
five segments, each of which is identified by the average daily room rate
("ADR") generally charged by hotel operators in the
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segment. These categories include, in descending order of ADR: luxury, upscale,
mid-price, economy and budget. Hotels are further segmented into limited-service
and full-service, depending on the degree of food and beverage and other
services offered, and hotels are also segmented into transient hotels, which
serve short-term guests, and extended-stay hotels, which serve guests on
multiple night or multiple week stays. The Company's franchised properties
operate in the budget segment of the limited-service sectors through its
Microtel brand, the upscale segment of the extended-stay and transient suite
sectors through its Hawthorn Suites brand and the mid-priced segment of the
extended stay and transient suite sectors through its Hawthorn Suites LTD brand.
Best Inns provides the Company with a brand in the economy and upper economy
segment.
OPERATIONS
The following departments of the Company are responsible for identifying
potential franchisees and locations, obtaining franchise applications, executing
franchise agreements, assisting franchisees in building and opening properties,
providing training and ongoing support, marketing and advertising, and other
services:
FRANCHISE SALES. The Company employs a national franchise sales force
consisting of 49 people. The primary objectives of the Company's franchise sales
strategy are to identify potential franchisees and possible locations for each
of the Company's brands and to create an awareness and general acceptance of its
products with numerous participants in the hospitality industry, including hotel
owners, lodging consultants, vendors and operators. The sales force seeks to
achieve these objectives through the implementation of a multi-faceted sales
strategy, which includes telemarketing, direct mail, trade advertising, public
relations and targeted solicitation. The compensation program is structured so
that each franchise salesperson is expected to earn at least 50% of his or her
annual income in sales commissions.
DESIGN AND CONSTRUCTION. The Company's design and construction department
provides development expertise in new construction and renovation, with emphasis
on low development costs, quality construction, low ongoing maintenance expenses
and profit maximization for its franchisees. The Company provides detailed
architectural plans, CAD-CAM computer files, specifications, system standards
and manuals, and makes the services of the department available to franchisees
at various stages of the development process. In addition, in order to maintain
consistent product quality and brand identity, the design and construction
department approves, among other things, all architectural plans of Microtel and
Hawthorn franchisees.
QUALITY ASSURANCE. Franchise quality control is accomplished through
inspections prior to a franchisee's entry into the system and on an ongoing
basis. Quality assurance programs promote uniform standards throughout each of
the Company's franchise systems. The Company inspects each open property two
times per year. Hotels that fail to meet certain franchise standards are
notified and are generally given 30 days to either correct the conditions that
led to the failure or to implement a plan to correct the failure. If they do not
correct the deficiencies, the Company can terminate the license. Since the
Company acquired the Microtel brand, two properties have been terminated from
the Microtel system due to quality deficiencies.
RESERVATIONS. The Company is in the process of rolling out FIRST, an
Internet-based central reservation system which the Company believes is the
first system in the United States to use the Internet as its primary form of
communication between hotel properties and central reservation operations. FIRST
is designed to provide franchisees an efficient means to link to travel agencies
and present their properties to millions of potential customers.
Hotels that are part of the Hawthorn system are linked directly by computer
to the Spirit Reservation System ("Spirit"). Spirit is also the reservations
system for Hyatt Hotels Corporation ("Hyatt") and is operated under contract
with Hyatt by CSC Outsourcing, Inc. ("CSC") and Sabre Technology Solutions
("Sabre"). Spirit receives and processes calls made to a toll-free number
dedicated to Hawthorn. Hyatt manages the voice and Global Distribution System
reservation activities for both Hawthorn and Hyatt
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through the Spirit Reservation Center located in Omaha, Nebraska. Persons
calling the Hyatt toll-free number who experience a sold out Hyatt or no Hyatt
in their desired market are automatically referred to the nearest Hawthorn
hotel. There can be no assurance, however, that CSC and Sabre will continue to
service the Hawthorn reservation needs in the future.
MARKETING AND ADVERTISING. The Company targets two primary groups in its
marketing and advertising program: potential franchisees and travelers. The
Company's marketing and advertising program focused on the franchise community
utilizes publications that target the hospitality industry, direct mail and
industry shows. To reach travelers, franchisees are supplied with a detailed
marketing guide, print advertising, local radio spots, outdoor billboard designs
and rack cards. In addition, in the case of Hawthorn, direct sales plays a
significant role, with advertising and marketing materials targeted to travel
agents, planners and buyers of extended-stay accommodations, print advertising
runs in BUSINESS TRAVEL NEWS and targeted human resources, training and
relocation publications. Separate Microtel and Hawthorn directories are
published twice annually and distributed via direct mail and to existing
properties.
In addition, the Company's media plan is designed to reach the maximum
number of travelers, garner the most impressions and give the brand a local,
regional and national presence. 1998 highlights include:
- CABLE TV ADVERTISING--The first national television commercial campaigns
for Microtel and Hawthorn are scheduled to run through 1998 on CNN, CNN
Headline News, The Weather Channel and CNNsi. Microtel's campaign consists
of six consecutive 15-second spots to air a total of 500 times, while
Hawthorn's campaign consists of two 15-second spots to air a total of 700
times.
- PRINT ADVERTISING--The Company has reached traveling consumers via news
stories in the WALL STREET JOURNAL and USA TODAY'S Business Travel Today
column and in local daily and business publications with reports on
individual property ground breaks and grand openings.
- TRAVELING REPLICA--The "Microtel Get To Know US Tour" utilizes a full-size
replica of the chain's single, double and suite accommodations on a
60-foot trailer that travels the U.S. to give franchisees' local customer
base a look inside a Microtel before it is actually built.
- TRUCKSIDE ADVERTISING--Microtel uses an innovative moving billboard
concept on 16 trucks traveling 34 interstate highways through 24 states,
to reach travelers every month.
- AAA TOUR BOOKS--Microtel advertises on the prominent inside front cover of
the AAA TRIPLE-A ROAD ATLAS.
- THE INTERNET--Microtel's web site at www.microtelinn.com includes its
"Travelers Disability Survey" plus the "Micro PI Game." In addition,
consumers and other travel decision-makers can now make reservations for
Hawthorn at www.hawthorn.com. Both sites offer visitors a full directory
of property listings with information and maps for every location.
PUBLIC RELATIONS. A targeted public relations program supports marketing
and franchise sales efforts by promoting awareness of the Company as the Company
becomes a more significant participant in the lodging industry. The public
relations department works with all facets of the corporate organization, from
sales and franchise services to design and construction to the franchisees
themselves to establish the Company in the industry and in the minds of
consumers.
The Company's public relations efforts focus on the hospitality industry
trade publications. The Company works closely with such publications as HOTEL
BUSINESS, HOTEL & MOTEL MANAGEMENT, LODGING HOSPITALITY, BUSINESS TRAVEL NEWS,
and AAHOA (the magazine dedicated to Asian American hoteliers). Such outlets
communicate the Company's news to the lodging community and to the many top name
travel writers and newspaper journalists who read the trades regularly as well.
Trade publications have covered many facets of the Company's rapid growth,
including the opening of its 50th hotel, the debut of the brand extension,
Hawthorn Suites LTD., the Company's "FIRST" reservation system, the expansion of
its sales staff, its international expansion, its presence at airports around
the country, and the Company's efforts to accommodate travelers with
disabilities.
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TRAINING. The Company maintains mandatory training programs that teach
franchisees how to best utilize the Company's reservations system and marketing
programs and the fundamentals of hotel operations, such as recruiting,
housekeeping, repairs and maintenance and personnel policies. The Company also
provides special on-site training upon request. The Company has developed and
maintains a library of training videos, cassettes and tapes, as well as printed
training material, which are available to franchisees. In addition, each
franchise sales person must complete a structured initial training program and
regular retraining.
FRANCHISE SERVICES. The franchise services department functions as a single
point of contact for all franchisees to call for support on all issues, at all
times, including during construction. Franchise services acts as a liaison
between the franchisee and all departments of the Company. The Company
recognizes the personal service aspect of the franchising business and intends
to assign a designated member of the franchise service department to each
franchisee.
PURCHASING. The Company provides its franchisees with volume purchasing
discounts for certain products, services, furnishings, and equipment used in
construction and ongoing operations. The Company has established relationships
with vendors to the lodging industry and negotiates discounts for purchases by
its customers. In certain cases, the Company receives payments from the vendors
as well. Currently, the Company does not maintain inventory, directly supply any
of the products, or extend credit to franchisees for such purchases.
MANAGEMENT. With the completion of the Best Inns acquisition, the Company
acquired management contracts for 29 Best Inns properties. USFS' principal
management strategy is to provide its hotel owners with high quality, responsive
hotel management to improve hotel profitability and provide hotel guests with a
high level of satisfaction. Under the management contracts, the Company will be
responsible for the hotel properties' billing, accounting and information
systems, and for hiring the properties' on-site general manager and other
personnel, although the hotels' general manager and other employees will be
employed by the hotel and not by the Company. In exchange for these services,
the Company will receive compensation structured as a base fee calculated as a
percentage of the hotel's revenues. In addition, the Company may structure
incentive fees in management contracts based on achieving specified operating
performance goals.
FRANCHISE AGREEMENTS
The Company's franchise agreements grant hotel owners the right to utilize
one of the brand names associated with the Microtel, Hawthorn or Best Inns hotel
systems under long-term franchise agreements. In order to qualify for a
franchise from the Company, a candidate must undergo a screening process, which
typically includes a review of the potential franchisee's operational ability
and financial condition and the proposed lodging location. A representative of
the Company conducts a site inspection to determine whether the location meets
the Company's standards and whether the brand name selected is appropriate at
that location. The Company considers such factors as accessibility, visibility,
location, economics, demographics, the extent of commercial development and, in
the case of Best Inns and Hawthorn conversions, facility condition. When
executed, Microtel, Hawthorn and Best Inns franchise agreements offer an area of
exclusivity to each location, the degree of which is negotiated individually
with each franchisee.
The Company's current standard agreements are for 20-year terms for new
construction properties and (in the case of Best Inns and Hawthorn) 10-year
terms for conversion properties. The standard franchise agreements generally
require franchisees to satisfy certain development milestones, including a
requirement that construction begin within six to nine months of execution of
the franchise agreement, although generally there exists a 30-day cure period.
Franchisees are required to pay royalty fees to the Company based upon the gross
room revenues of the franchised hotel during the term of the agreement
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<PAGE>
and an application fee. Franchise application fees are non-refundable and are
generally collected from potential franchisees upon execution of the franchise
agreement.
Franchise fees are comprised of two components: a royalty portion and a
reservation and marketing portion, both of which are based upon a percentage of
the franchisee's gross room revenues. The royalty portion of the franchise fee
is intended to provide the Company with operating profits. The reservation and
marketing portion of the franchise fee is intended to reimburse the Company for
the expenses associated with providing such franchise services as a reservation
system, national advertising and certain promotional programs. Marketing and
reservation fees do not produce any profit (and could result in a loss) for the
Company, but mitigate a significant cost of business for franchisees and are an
important consideration for potential franchisees when evaluating competing
brands. The Company does not currently receive royalty fees from those Microtels
that were open or under development at the time the Company acquired the right
to franchise the Microtel brand. See "Risk Factors--No Right to Certain
Royalties." The Company does, however, receive reservation and marketing fees
from the franchisees of these properties.
The terms of the Company's current standard forms of franchise agreements
state (and the standard form franchise agreement that the Company has adopted
for the Best Inns brand states) that, by year of operation, franchisees are
required to pay the following ongoing royalty fees and reservation and marketing
fees (each, as a percentage of gross room revenues), although the actual fees
may vary:
<TABLE>
<CAPTION>
MICROTEL(1) HAWTHORN BEST INNS
------------- ----------- -----------
<S> <C> <C> <C>
FRANCHISE ROYALTY FEES
Year 1..................................................... 4.0% 5.0% 3.0%
Year 2..................................................... 5.0% 5.0% 4.0%
Year 3 and thereafter...................................... 6.0% 5.0% 5.0%
RESERVATION AND MARKETING FEES
Year 1..................................................... 3.0% 2.5% 2.5%
Year 2..................................................... 2.5% 2.5% 2.5%
Year 3 and thereafter...................................... 2.0% 2.5% 2.5%
TOTAL FRANCHISE FEES
Year 1..................................................... 7.0% 7.5% 5.5%
Year 2..................................................... 7.5% 7.5% 6.5%
Year 3 and thereafter...................................... 8.0% 7.5% 7.5%
</TABLE>
(1) Pursuant to the terms of the Microtel Acquisition Agreement, the
Company must pay a portion of its Microtel franchise fees to Hudson.
See "--Acquisition of the Microtel System."
During the first quarter of 1996, when the Company began its full-time
franchise sales efforts, prospective Microtel franchisees were offered a three
month royalty-free period during year one as an inducement to join the Company's
franchise system. The Company is no longer offering this discount and currently
has no intention to do so in the future. With respect to Hawthorn, a wide range
of incentives have been offered to various franchisees. With respect to both
Microtel and Hawthorn, the Company also has agreed in certain situations to
dedicate a portion of a particular franchisee's marketing fees to local (as
opposed to national) promotion of the applicable brand.
The Company believes that it has a franchisee-friendly franchise agreement,
making the Company's franchises more attractive to potential franchisees without
sacrificing the protection typically afforded to franchisors under franchise
agreements. The Company's standard form of franchise agreement is terminable by
the Company if the franchisee fails to maintain certain quality standards or to
pay royalties,
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reservation and marketing fees or other charges. In the event of termination,
the Company is generally entitled to liquidated damages.
ACQUISITION OF THE MICROTEL SYSTEM
On September 7, 1995, the Company entered into the Microtel Acquisition
Agreement with Hudson, a public company then called Microtel Franchise and
Development Corporation, to acquire the exclusive worldwide franchising rights
and operating assets of the Microtel hotel system (the "Microtel Acquisition").
The purchase price for these franchise rights and operating assets was
$3,037,000, of which the Company paid $1,600,000 at the closing on October 5,
1995 and agreed to pay a total of $1,437,000 plus interest at 10% over the
following three years (for a total payment of approximately $1,700,000). In
addition, royalties are payable to Hudson, as described below, for the right to
all trade names, trademarks, service marks and other intellectual property used
in connection with the Microtel business, including the Microtel name (the
"Proprietary Marks").
The operating assets of the Microtel system acquired from Hudson included
(i) all prototype architectural plans and designs used in connection with the
Microtel business and (ii) the Microtel reservation referral system,
directories, manuals and marketing materials.
Pursuant to the Microtel Acquisition, the Company also acquired Hudson's
rights under then existing Microtel franchising agreements relating to the 27
Microtels open or under development at the time of the acquisition. Although the
Company acquired the existing franchises from Hudson and is obligated to fulfill
all the obligations of the franchisor thereunder, Hudson retained the right to
receive all franchise royalties and franchise renewal fees payable by the
existing franchisees under such agreements. The Microtel Acquisition Agreement
does, however, permit the Company to retain any reservation and marketing fees
(which do not result in any profit, and could result in a loss, to the Company)
and any other one-time or non-recurring fees or charges payable to the
franchisor under the applicable franchise agreement such as those relating to
the initial placement, substitution, amendment, organization, termination or
transfer of the franchise.
The Microtel Acquisition Agreement also grants Hudson the right to retain
franchise fees and royalty payments from a total of 50 Microtels and an
additional 10 Microtel all-suites hotels provided Hudson, its affiliates or such
other persons own and operate the hotels covered by such franchises. In addition
to the 27 existing hotels either open or under construction as of October 5,
1995, Hudson, its affiliates and certain other persons had the right to acquire
from the Company up to an additional 23 Microtel hotel franchises and up to an
additional 10 Microtel all-suites hotels. As of April 1, 1998, two of the
original 27 agreements had been terminated and three additional agreements had
been executed and opened. Thus, the Company will not receive royalties from 28
open hotels and Hudson currently retains the right to acquire an additional 22
Microtel franchises and 10 additional Microtel all-suite hotels. Five of these
additional 22 Microtel franchise agreements have been executed as of April 1,
1998, but none of the properties subject thereto are currently under
construction.
In consideration for the transfer of the Proprietary Marks, the Microtel
Acquisition Agreement provides that, for each new Microtel or Microtel
all-suites hotel (collectively, the "Microtel Properties") opened after the
closing of the Microtel Acquisition, other than the additional franchises
referred to in the preceding paragraph, the Company is required to pay monthly
royalties in cash to Hudson as follows: 1.0% of the "revenues subject to
royalties" on the first 100 Microtels Properties opened after the closing, 0.75%
of such revenues for the next 150 Microtels Properties opened, and 0.50% of such
revenues for each Microtel Property opened after the first 250 have opened.
"Revenues subject to royalties" generally are those payable by the franchisees
to the Company based on gross room revenues, as well as other royalty payments
payable by such franchisees under the applicable franchise agreement. The
Company is entitled to all other fees (other than termination fees, which must
be shared with Hudson) payable by the Microtel
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<PAGE>
franchisees, including the franchise application fees, all of the remaining
royalties, reservation and marketing fees and fees applicable to any financing
arranged through the Company.
The Microtel Acquisition Agreement requires the Company to satisfy a
development schedule, which requires that new Microtel Properties be opened or
under construction in the following numbers, on a cumulative basis, by December
of each of the following years:
<TABLE>
<CAPTION>
NUMBER OF
YEAR MICROTEL PROPERTIES(*)
- --------------------------------------------------------------------- -----------------------
<S> <C>
1997................................................................. 50
1998................................................................. 100
1999................................................................. 175
2000................................................................. 250
</TABLE>
- ------------------------
* Excludes the 28 open Microtel Properties not currently paying royalties to
the Company and the additional 22 Microtel Properties and ten Microtel
all-suite hotels that are currently entitled to be franchised without the
payment of royalties to the Company pursuant to the Microtel Acquisition
Agreement. As of April 1, 1998, five franchise agreements in respect of
these additional properties had been executed.
Under the Microtel Acquisition Agreement, the development schedule is deemed
to have been complied with unless such schedule has not been met for two
consecutive years (including 1996, where applicable). That is, the Company will
not violate its development obligations under the Microtel Acquisition Agreement
unless it has failed to meet the targets for two consecutive years. If, however,
at the end of any two year period, at least 75% (but less than 100%) of the
number of Microtel Properties scheduled to have been opened by such date have
been opened, the Microtel Acquisition Agreement permits the Company to cure the
default by paying a fee of $1 million. Upon such payment, the Company will be
deemed to have fully complied with the development schedule for such two year
period (including determination of whether it complied with such schedule in
future periods).
The Microtel Acquisition Agreement further provides that, in the event the
Company fails to satisfy the development schedule, fails to pay any monies due
to Hudson or otherwise fails to fulfill its material obligations under the
Microtel Acquisition Agreement, in each case subject to the Company's right to
cure such breach within the applicable notice and cure periods, all of the
rights to the Microtel system and all operating assets associated therewith will
revert to Hudson. In such instance, the Company will, however, retain the rights
to any franchise royalty payments due to it under franchise agreements entered
into by the Company after the closing of the Microtel Acquisition, less a
servicing fee payable to Hudson in an amount equal to 0.75% of all revenues
subject to royalties under such agreements.
Also, in connection with the Microtel Acquisition, Hudson agreed to provide
consulting services to the Company over the three-year period beginning October
5, 1995, for which the Company agreed to pay Hudson a total of $700,000
($400,000 of which was paid at the closing of the Microtel Acquisition). The
Company also received warrants to purchase 100,000 common shares of Hudson at an
exercise price of $8.375 per share, none of which have been exercised. The
warrants expire on September 1, 2000.
COMPETITION
Competition among national brand franchisors and smaller chains in the
lodging industry to expand their franchise systems is intense. The management of
the Company believes that competition for the sale of lodging franchises is
based principally upon (i) the perceived value and quality of the brand, (ii)
the nature and quality of services provided to franchisees, (iii) the
franchisee's view of the relationship of building or conversion costs and
operating expenses to the potential for revenue and profitability during
operation and upon sale, and (iv) the franchisee's ability to finance and buy or
sell the property. The Company's franchisees compete for guests with franchisees
of, and properties owned or operated by, other
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<PAGE>
hotel chains, independent properties and owner-operated chains. The success of
the Company's franchisees affects the profitability of the Company, as the
Company's receipt of royalty fees under its franchise agreements is tied
directly to the gross room revenues earned by its franchisees.
In choosing a particular hotel or motel, consumers consider differences in
room rates, quality and condition of accommodations, name recognition,
availability of alternative lodging (including short-term lease apartments),
service levels, reputation, safety, reservation systems and convenience of
location.
Both among consumers and potential franchisees, Microtel competes with
budget and economy hotels such as Budgetel Inn-Registered Trademark-, Comfort
Inn-Registered Trademark-, Days Inn-Registered Trademark-, Econo
Lodge-Registered Trademark-, Fairfield Inn-Registered Trademark-, Jameson
Inns-Registered Trademark-, Knights Inn-Registered Trademark-, Motel
6-Registered Trademark-, Ramada Limited-Registered Trademark-, Red Carpet
Inn-Registered Trademark-, Red Roof Inn-Registered Trademark-, Scottish
Inns-Registered Trademark-, Sleep Inn-Registered Trademark-, Super 8-Registered
Trademark-, Thriftlodge-Registered Trademark- and Travelodge-Registered
Trademark-.
Hawthorn hotels compete for consumers and/or potential franchisees with
Homewood Suites-Registered Trademark-, Residence Inn-Registered Trademark-,
Summerfield Suites-Registered Trademark- and Woodfin Suites-Registered
Trademark-. In the transient suites sector of the lodging industry, where the
Company competes through its Hawthorn Suites LTD brand, the Company's principal
competitors include AmeriSuites-Registered Trademark-, Candlewood-SM-, Courtyard
by Marriott-Registered Trademark-, Fairfield Suites-SM-, Hampton Inn and
Suites-Registered Trademark-, MainStay-SM-, Towne Place-SM- and Wingate
Inn-SM-among others.
Best Inns competes with Comfort Inn-Registered Trademark-, Days
Inn-Registered Trademark-, Holiday Inn Express-SM-, Park Inns-SM- and Ramada
Ltd.-Registered Trademark-
Many of the Company's competitors are affiliated with larger chains with
substantially more properties, greater marketing budgets and greater brand
identity than the Company.
REGULATION
The sale of franchises is regulated by various state laws, as well as by the
FTC. The FTC requires that franchisors make extensive disclosure to prospective
franchisees, although it does not require registration of offers to prospective
franchisees. The required disclosure is made through a Uniform Franchise
Offering Circular ("UFOC"), which must be provided to potential franchisees at
least 10 days prior to execution of a franchise agreement. A number of states
require registration and disclosure in connection with franchise offers and
sales. In addition, several states have "franchise relationship laws" that limit
the ability of franchisors to terminate franchise agreements or to withhold
consent to the renewal or transfer of these agreements. While the Company's
franchising operations have not been materially adversely affected by such
existing regulations, the Company cannot predict the effect of any future
legislation or regulation.
Additionally, various federal, state, and local laws and regulations may
affect activities undertaken by the Company in connection with its ownership or
management of hotel properties. In addition, the Company may be required to
obtain a license or to register in certain states in order to underwrite or
promote loans to be made by third party lenders or in the event the Company
determines to make loans itself to franchisees. See "Risk Factors--Regulations."
EMPLOYEES
As of April 1, 1998 the Company employed approximately 102 full time and
four part time persons. None of the Company's employees are represented by
unions. Upon completion of the Best Inns acquisition the Company added 34
employees. Management considers its employee relations to be satisfactory.
TRADEMARKS AND LICENSES
The Company and its wholly owned subsidiaries own and use certain trademarks
and service marks, including, among others, US FRANCHISE SYSTEMS, U.S. Franchise
Systems, Inc., US FUNDING CORP., MICROTEL, MICROTEL with design, MICROTEL INN,
MICROTEL SUITES, MICROTEL
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<PAGE>
INN & SUITES, AMERICAN DREAM, AMERICAN DREAM with design, MICROTEL INN with
design, MICROINN, MICROTEL INN & SUITES with design, MICROTEL SUITES with
design, MICROSUITES, US TRAINING INSTITUTE with design, "FIRST THE HOTEL, THEN
THE MOTEL, NOW MICROTEL," "SAVINGS YOU CAN SLEEP ON," HAWTHORN SUITES, the tree
logo, HAWTHORN SUITES with the tree logo, HAWTHORN SUITES LTD. with design, BEST
INNS, BEST SUITES, BEST INNS & SUITES, BEST INN and BEST INN & SUITES. The
Company's rights to such trademarks and service marks will last indefinitely so
long as the Company continues to use and police the marks and, with respect to
registered marks, to renew filings with the applicable government agencies.
The Company considers the foregoing marks to be material to its business and
certain of such marks are registered with or applications for registration are
pending in the United States Patent and Trademark Office. Certain of the marks
are also registered with or applications for registration are pending with
various state and foreign government agencies. The Company is not aware of any
adverse claim concerning its owned or licensed marks.
PROPERTIES
The principal executive and administrative offices of the Company are
located at 13 Corporate Square, Suite 250, Atlanta, Georgia 30329. The Company
currently leases a total of 12,667 square feet of office space at the foregoing
address, pursuant to a lease and a sublease that expire on September 30, 2000
and June 30, 1999, respectively. The Company also leases a total of 8,542 square
feet of office space at 1205 Skyline Drive, Marion, Illinois 62959 pursuant to a
lease that expires on September 30, 1998.
LEGAL PROCEEDINGS
The Company is not a party to any material litigation. However, claims and
litigation may arise in the normal course of business.
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<PAGE>
MANAGEMENT
EXECUTIVE OFFICERS AND DIRECTORS
The following table sets forth certain information regarding those persons
who serve as the executive officers and directors of the Company.
<TABLE>
<CAPTION>
NAME AGE OFFICE OR POSITION HELD
- ----------------------------------------------------- --- -----------------------------------------------------
<S> <C> <C>
Michael A. Leven..................................... 60 Chairman, President and Chief Executive Officer
Neal K. Aronson...................................... 33 Executive Vice President, Chief Financial Officer and
Director
David E. Shaw........................................ 54 Executive Vice President--Administration
Steven Romaniello.................................... 31 Executive Vice President--Franchise Sales and
Development and Director
James Darby.......................................... 41 Executive Vice President--Franchise Operations
Dean S. Adler........................................ 41 Director
Irwin Chafetz........................................ 62 Director
Douglas Geoga........................................ 42 Director
Richard D. Goldstein................................. 46 Director
David T. Hamamoto.................................... 38 Director
Jeffrey A. Sonnenfeld................................ 44 Director
Barry S. Sternlicht.................................. 37 Director
</TABLE>
Each director is elected to serve until a successor is elected and qualified
or, if earlier, until the director's death, resignation or removal. Officers,
subject to the terms of their respective employment agreements, serve at the
pleasure of the Board of Directors. Each of the directors of the Company, other
than Dean Adler, Douglas Geoga, David T. Hamamoto, Steve Romaniello and Jeffrey
A. Sonnenfeld, has served as such since September 30, 1995. Messrs. Adler and
Sonnenfeld were elected to the Board of Directors on October 11, 1996, effective
as of October 30, 1996. Mr. Geoga was elected to the Board of Directors on March
12, 1998, Mr. Hamamoto was elected to the Board of Directors on March 16, 1998
and Mr. Romaniello was elected to the Board of Directors on March 13, 1998, in
each case by the consent of the Board of Directors.
MICHAEL A. LEVEN. Mr. Leven has been Chairman, President and Chief
Executive Officer of the Company since October 1995. From October 1990 to
September 1995, Mr. Leven was President and Chief Operating Officer for Holiday
Inn Worldwide in Atlanta, Georgia. From April 1985 to May 1990, he was President
and Chief Operating Officer of Days Inn of America, Inc. in Atlanta, Georgia.
Mr. Leven is a Director of both Starwood Lodging Trust, one of the nation's
largest hotel REITs, and Servico, Inc., a publicly traded hotel and resort
company which owns and manages a portfolio of hotels. Mr. Leven is also a member
of the Board of Governors of the American Red Cross, Chairman of the Biomedical
Services Board of the American Red Cross, a Trustee of National Realty Trust,
the largest franchisee of Coldwell Banker Corporation and a member of the Board
of Directors of The Fourth Network, a private company which provides internet
services to the hotel industry. Mr. Leven is an uncle of Mr. Aronson.
NEAL K. ARONSON. Mr. Aronson has been Executive Vice President and Chief
Financial Officer of the Company since October 1995. Mr. Aronson was founding
partner of Growth Capital Partners in New York, New York, and was with the
partnership from September 1994 to October 1995. From December 1993 to
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September 1994, he was Managing Director of Rosecliff, Inc., a private equity
investment group in New York, New York. From January 1992 to December 1993, he
was a principal of Odyssey Partners, L.P. in New York, New York. From June 1989
to December 1991, Mr. Aronson was a principal of Acadia Partners, L.P. in New
York, New York. Mr. Aronson is a nephew of Michael A. Leven.
DAVID E. SHAW. Mr. Shaw has been Executive Vice President--Administration
of the Company since October 1995. From January 1991 to September 1995 he was
Vice President of Operations--Administration for Holiday Inn Worldwide in
Atlanta, Georgia. From July 1990 to January 1991, Mr. Shaw was Executive Vice
President--Administration for Hospitality Franchise Systems, Inc. (now known as
Cendant Corporation) in Wayne, New Jersey.
STEVEN ROMANIELLO. Mr. Romaniello has been Executive Vice
President--Franchise Sales and Development of the Company since October 1996.
From October 1995 through September 1996, he served as Senior Vice
President--Franchise Sales and Development of the Company. From March 1991
through September 1995, Mr. Romaniello was Vice President--Franchise Sales and
Services for Holiday Inn Worldwide in Atlanta, Georgia. From December 1988 to
March 1991 he was Regional Vice President-- Franchise Sales for Days Inn of
America, Inc. in both Atlanta, Georgia and Boston, Massachusetts.
JAMES DARBY. Mr. Darby has been Executive Vice President--Franchise
Operations of the Company since January 1997. From March 1991 to January 1997,
Mr. Darby served in various capacities with Holiday Inn Worldwide, including
most recently as Vice President of Franchise Services and Administration.
DEAN S. ADLER. Mr. Adler is currently a principal of Lubert-Adler Partners,
L.P., a private equity group specializing in the acquisition of real estate and
operating companies. From 1988 to 1996, Mr. Adler was a principal and Managing
Director of private equity investments for CMS Companies ("CMS"), a Philadelphia
based investment firm that manages approximately $1.7 billion of assets. Mr.
Adler is a member of the Board of Directors of the Lane Company, which
specializes in management and development of multifamily housing, Developers
Diversified, a leading shopping center REIT, RMS Technologies, a leading
provider of information technology services to federal and other governmental
institutions, and Transworld Entertainment, a New York Stock Exchange, Inc.
listed company which owns music retail stores.
IRWIN CHAFETZ. Since 1990, Mr. Chafetz has been the President and a
Director of the Interface Group-Massachusetts, Inc., a privately held company
that owns and operates GWV International, New England's largest vacation charter
tour operator. From 1982 until April 1995, Mr. Chafetz was a Vice President and
Director of the Interface Group-Nevada, Inc., which owned and operated COMDEX, a
computer industry exposition and conference that is the largest American trade
show. From 1989 to 1995, Mr. Chafetz was also a Vice President and a Director of
Las Vegas Sands, Inc., which owned the Sands Hotel and Casino in Las Vegas and
the adjacent Sands Expo and Convention Center. From 1984 to 1990, Mr. Chafetz
was President of Five Star Airlines, a charter air carrier owning and operating
Lockheed L-1011 aircraft. Mr. Chafetz is a director of Back Bay Restaurant
Group, a publicly held NASDAQ listed company.
DOUGLAS GEOGA. Since 1994, Mr. Geoga has been President of Hyatt Hotels
Corporation, operator of Hyatt Hotels & Resorts in the United States, Canada and
the Caribbean. From 1983 to 1994, Mr. Geoga held various positions with Hyatt
Development Corporation, the development/transactional arm of the Hyatt chain
domestically, most recently as its Executive Vice President. Mr. Geoga is a
director of United Way of Suburban Chicago, a trustee of the Educational
Institute of the American Hotel & Motel Association ("AH&MA"), chairman of the
Government Affairs Committee of the AH&MA, a director of the National Tourism
Organization, Inc. and a director of various closely-held companies affiliated
with Hyatt.
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<PAGE>
RICHARD D. GOLDSTEIN. Since 1990, Mr. Goldstein has been a Managing
Director and then a Senior Managing Director of Alpine Capital Group Inc., a
specialized investment merchant banking firm located in New York, and related
entities. Prior to joining Alpine, Mr. Goldstein was a partner at the law firm
of Paul, Weiss, Rifkind, Wharton & Garrison. Mr. Goldstein serves as Trustee and
member of the Executive Committee of the Queens College Foundation, Trustee of
the North Shore Long Island Jewish Health System and as Chairman of the
Corporate Advisory Board of the State University of New York at Stony Brook.
DAVID T. HAMAMOTO. Since 1997, Mr. Hamamoto has been the co-Chief Executive
Officer, co-President and co-Chairman of NorthStar Capital Investment Corp.
Prior to then, Mr. Hamamoto was a partner and co-head of the Real Estate
Principal Investment Area at Goldman, Sachs & Co. In 1988, Mr. Hamamoto
initiated the effort to build a real estate principal investment business at
Goldman, Sachs under the auspices of the Whitehall Funds. Today, the Whitehall
Funds have $3.9 billion under management. Mr. Hamamoto was formerly a director
of the Westin Hotel Company, a global hotel management and ownership company;
the George Soros/Whitehall private REIT, a $1 billion partnership between
Whitehall and investor George Soros; Millenium Partners, an urban mixed-use
development company; and the Archon Group, Goldman, Sachs' asset management
company. Mr. Hamamoto is a director of Emeritus Corporation, a publicly traded
company in the assisted living business.
JEFFREY A. SONNENFELD. Currently, Dr. Sonnenfeld is the Chairman and
President of The Chief Executive Institute, a non-profit leadership school. From
1989 to 1997, Dr. Sonnenfeld was a Professor of Organization and Management at
the Robert C. Goizueta Business School of Emory University in Atlanta, Georgia,
where he was the Director of the Center for Leadership and Career Studies.
Previously, Dr. Sonnenfeld was at Harvard University for 18 years, serving as a
Professor at the Harvard Business School for 10 years. Dr. Sonnenfeld has
published five books and numerous articles in the areas of career management,
executive training and development, and the management of corporate social
performance. Dr. Sonnenfeld serves on the board of Magellan Health Services, 360
Communications, the National Council on the Aging, the Governors Personnel
Oversight Commission in Georgia and has served on additional boards such as
Mosley Securities Corporation and Norwegian Cruise Lines.
BARRY S. STERNLICHT. Since 1993, Mr. Sternlicht has been the President and
Chief Executive Officer of Starwood Capital Group, L.P. ("Starwood Capital"), a
real estate investment firm that he founded in 1991. Mr. Sternlicht is the
Chairman of the Board and Chief Executive Officer of Starwood Hotels and
Resorts, the nation's largest hotel REIT, and is the Chairman of Starwood
Mortgage Trust. Mr. Sternlicht is also a trustee of Equity Residential
Properties Trust, a multi-family REIT.
Except as disclosed above, there are no family relationships between any
Director or executive officer and any other Director or executive officer of the
Company.
CERTAIN COMMITTEES OF THE BOARD
The Company's Board of Directors has three standing committees --the Audit
Committee, the Compensation Committee and the Stock Option Committee. The Board
of Directors does not have a standing Nominating Committee, such function being
reserved to the full Board of Directors.
THE AUDIT COMMITTEE. The Audit Committee currently consists of Messrs.
Goldstein and Adler. The functions of the Audit Committee include (i) the review
of the professional services and independence of the Company's independent
auditors and the scope of the annual external audit as recommended by the
independent auditors, (ii) the review, in consultation with the independent
auditors and the Company's accounting staff, of the plan and results of the
annual audit and the adequacy of the Company's internal accounting controls,
(iii) the review, in consultation with management and the independent auditors,
of the Company's annual financial statements and the results of each external
audit, (iv) the review, in consultation with the Company's independent auditors
and the Company's principal financial officer and principal
52
<PAGE>
accounting officer, of the auditing and accounting principles and practices to
be used in the preparation of the Company's financial statements. The Audit
Committee has the authority to consider the qualification of the Company's
independent auditors and make recommendations to the Board as to their
selection, and review and resolve any differences of opinion between such
independent auditors and management relating to the preparation of the annual
financial statements.
THE COMPENSATION COMMITTEE. The Compensation Committee currently consists
of Messrs. Leven, Chafetz and Sonnenfeld. The Compensation Committee has been
assigned the functions of approving and monitoring the remuneration arrangements
for senior management and establishing the targets that determine the
performance bonuses payable to the Company's officers.
THE STOCK OPTION COMMITTEE. The Stock Option Committee currently consists
of Messrs. Sternlicht, Chafetz and Sonnenfeld. The Stock Option Committee has
been assigned the functions of administering the Company's 1996 Stock Option
Plan and granting options thereunder.
AGREEMENTS REGARDING BOARD POSITIONS
Pursuant to a Shareholders Agreement by and between the Company, HSA, HPI,
Michael A. Leven and Neal K. Aronson, dated as of March 12, 1998 (the "HSA
Shareholders Agreement"), subject to HSA and HPI and/or their affiliates
together owning more than 1,100,000 million shares of Common Stock (as adjusted
for stock splits, reverse stock splits, reclassifications and other similar
transactions or adjustments), HSA and HPI may propose a nominee for director of
the Company and the Company will use its best efforts to cause such nominee's
election. Pursuant to the terms of the HSA Shareholders Agreement, HPI and HSA
nominated, and the Board of the Company elected, Mr. Geoga to the Board of the
Company. At such time that a successor to Mr. Geoga no longer is a director of
the Company, HSA and HPI may propose to the Company as a nominee for election as
a director of the Company a person who (i) has recognized standing in the
business community, (ii) is not a former director, officer or employee of the
Company and (iii) does not have a conflict of interest with the Company and is
at such time either the President of Hyatt Hotels Corporation or a person who is
otherwise reasonably acceptable to the Company.
Pursuant to a Management Services Agreement between the Company and the
Development Fund, the Company agreed to use its best efforts to elect Mr.
Hamamoto to the Board of the Company. Mr. Hamamoto was elected to the Board on
March 16, 1998.
53
<PAGE>
EXECUTIVE COMPENSATION
The following table provides certain summary information for the fiscal
years ended December 31, 1997, 1996 and 1995 concerning compensation paid or
accrued by the Company to or on behalf of the Company's Chief Executive Officer
and the four other executive officers of the Company who constituted the
Company's most highly compensated executive officers during the year ended
December 31, 1997 (the "Named Executive Officers").
SUMMARY COMPENSATION TABLE
<TABLE>
<CAPTION>
ANNUAL COMPENSATION
-------------------------------------------------
<S> <C> <C> <C> <C> <C>
OTHER NUMBER OF
NAME AND ANNUAL OPTIONS
PRINCIPAL POSITION YEAR SALARY BONUS COMPENSATION(1) AWARDED
- -------------------------------------------------- --------- --------- --------- ---------------- -----------
Michael A. Leven.................................. 1997 $ 389,063 $ 184,725 $ 37,971 --
Chairman of the Board, 1996 $ 375,000 $ 140,497 $ 33,327 --
President and Chief 1995(2) $ 93,750 $ 153,000 (4) $ 3,000 --
Executive Officer
Neal K. Aronson................................... 1997 $ 207,500 $ 92,363 $ 11,588 --
Executive Vice President and 1996 $ 200,000 $ 70,298 $ 11,517 --
Chief Financial Officer 1995(2) $ 50,000 $ 151,500 (4) $ 2,250 --
David E. Shaw..................................... 1997 $ 155,625 $ 25,000 $ 2,384 1,000
Executive Vice President--Administration 1996 $ 150,000 $ 25,000 $ 2,316 3,000
1995(2) $ 37,500 -- -- --
Steven Romaniello................................. 1997 $ 110,000 $ 265,200 $ 2,384 2,000
Executive Vice President-- 1996 $ 101,667 $ 213,600 $ 2,316 6,000
Franchise Sales and Development 1995(2) $ 25,000 $ 3,600 -- --
James Darby....................................... 1997 $ 142,708 $ 22,000 $ 2,384 27,000
Executive Vice President--
Franchise Operations
</TABLE>
- ------------------------
(1) Includes life insurance, health insurance, long-term disability insurance,
automobile allowance and/or long-term home care.
(2) Includes the period from August 28, 1995, the date of the Company's
inception, through December 31, 1995.
(3) Mr. Leven and Mr. Aronson each received a transaction bonus of $150,000 for
their efforts in organizing the Company and successfully negotiating and
completing the acquisition of the Microtel brand on behalf of the Company.
(4) Mr. Leven and Mr. Aronson, pursuant to the terms of their respective
employment agreements with the Company, are each entitled to receive bonuses
based upon the number of franchises sold each year. See "-- Employment
Agreements." During 1995, neither Mr. Leven nor Mr. Aronson received a bonus
for the three franchises sold during 1995, although the Company accrued
$3,000 and $1,500 for bonuses owed to Mr. Leven and Mr. Aronson,
respectively, with respect to such franchise agreements.
EMPLOYMENT AGREEMENTS
The Company has entered into employment agreements with Messrs. Leven and
Aronson, the material terms of which are described below.
54
<PAGE>
MICHAEL A. LEVEN. Mr. Leven's employment agreement with the Company
provides for his employment as Chairman of the Board of Directors, President and
Chief Executive Officer of the Company for a ten year term expiring on September
30, 2005. Mr. Leven is entitled to a base salary of at least $375,000 per year,
subject to annual cost of living increases and other annual increases determined
by the Company based on the performance of Mr. Leven and the Company and on
prevailing economic circumstances.
Certain insurance benefits, if available on commercially reasonable terms,
are to be provided to Mr. Leven under his Employment Agreement, including term
life insurance in the amount of $1,500,000, executive health, dental and medical
insurance, long term disability and long term home care. The Company has
obtained all of the foregoing benefits for Mr. Leven. In addition, Mr. Leven is
entitled to a monthly automobile allowance in the amount of $1,000.
Mr. Leven's employment agreement provides for a performance bonus of (i)
$1,000 for each franchise agreement executed in a given Year (defined as each 12
month period commencing October 1st and ending on September 30th of each year
during the term of such agreement) up to 150 franchise agreements and (ii)
$2,000 for each franchise agreement above the first 150 franchise agreements
entered into in a given Year.
Mr. Leven's employment agreement also contains confidentiality provisions
that prohibit him from disclosing Company trade secrets at any time in the
future and from disclosing any confidential information relating to the Company
for a period extending five years after the termination of his employment
agreement. In addition, the agreement contains non-competition provisions that
prohibit Mr. Leven from competing in the franchising business generally and in
the business of franchising, operating or managing of hotels and motels for a
period of five years following the termination of his employment for "cause" or
his resignation without "good reason." The enforceability of these
non-disclosure and non-competition provisions under Georgia law, which governs
Mr. Leven's agreement, is uncertain.
In addition to allowing Mr. Leven to resign at any time for "good reason,"
his employment agreement provides that, after the first five years of such
agreement and provided the Company's Redeemable Preferred Stock has been
redeemed, Mr. Leven may resign at any time upon six months notice. If his
resignation is without "good reason," the Company is required to pay Mr. Leven
only his base salary, unused vacation time, and performance bonus actually
earned through the effective date of resignation. The employment agreement
further provides that if Mr. Leven resigns without good reason during the first
five years, he will not be liable for any consequential damages or damages for
loss of economic opportunity or profits to the Company. If Mr. Leven resigns for
"good reason," or if his employment is terminated "without cause," he is
entitled to severance pay in the amount of his base salary and fringe benefits
for a period of three years. For the purpose of Mr. Leven's employment
agreement, "good reason" includes, but is not limited to, the failure to elect
and continue Mr. Leven's membership on the Board of Directors of the Company or
his involuntary relocation outside of Atlanta, Georgia. In addition, pursuant to
the Company's By-Laws, Mr. Leven's employment agreement may not be terminated
without the approval of 75% of the Board of Directors (excluding Mr. Leven).
Except as noted above concerning Mr. Leven's right to resign for "good reason"
if he is not re-elected to the Board, Mr. Leven's employment agreement does not
contain any change of control provisions.
NEAL K. ARONSON. Mr. Aronson's employment agreement, pursuant to which he
serves as Chief Financial Officer of the Company, is substantially similar to
Mr. Leven's agreement, except that (i) his base salary is $200,000 per year
(subject to annual cost of living increases and other annual increases
determined by the Company, based on the performance of Mr. Aronson and the
Company and on prevailing economic circumstances), (ii) the term life insurance
benefit is $500,000, (iii) his automobile allowance is $750 per month, (iv) the
bonus is $500 for each franchise agreement executed within a Year (as defined
above) up to 150 franchise agreements, and $1,000 for each agreement executed in
any Year in excess of 150 and (v) Mr. Aronson is not entitled to receive
supplemental long-term disability or long-term home care insurance coverage from
the Company. Pursuant to the Company's By-Laws, Mr. Aronson's
55
<PAGE>
employment agreement may not be terminated without the approval of 75% of the
Board of Directors (excluding Mr. Aronson). Mr. Aronson's employment agreement
does not contain any change of control provisions.
See "Principal Holders of Common Stock--Management's Shares of Common Stock"
as to the effect of termination of employment on the Class A Common Stock held
by Messrs. Leven and Aronson.
COMPENSATION OF DIRECTORS
On October 24, 1996 each non-employee director of the Company received an
option to purchase 2,000 shares of Class A Common Stock exercisable at a price
of $13.50 per share. In addition, each non-employee director of the Company
receives an automatic grant of options to purchase 2,000 shares of Class A
Common Stock on January 1st of each calendar year, commencing on January 1, 1998
and each new non-employee director shall receive a grant of options to purchase
2,000 shares of Class A Common Stock on the date such person becomes a director.
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
The Compensation Committee of the Board of Directors is currently comprised
of Michael A. Leven, Irwin Chafetz and Jeffrey A. Sonnenfeld. With the exception
of Mr. Leven, who serves as Chairman of the Board, President and Chief Executive
Officer of the Company, none of the members of the Compensation Committee served
as an officer or employee of the Company or any of its subsidiaries during
fiscal 1997. There were no material transactions between the Company and any of
the members of the Compensation Committee during fiscal 1997.
Michael A. Leven, the Chairman of the Board and Chief Executive Officer of
the Company, serves as a director of Starwood Lodging Trust and also serves on
its Compensation Committee. Barry S. Sternlicht, a director of the Company,
serves as Chairman of the Board of Starwood Lodging Trust.
STOCK OPTION PLANS
1996 STOCK OPTION PLAN. On September 27, 1996, the Board of Directors of
the Company (the "Company Board") adopted, subject to the approval of the
Company's stockholders, the U.S. Franchise Systems, Inc. 1996 Stock Option Plan
(the "Option Plan"). The Company's stockholders approved the Option Plan on
October 11, 1996. The purpose of the Option Plan is to promote the interests of
the Company and its stockholders by (i) attracting and retaining exceptional
officers and other key employees of the Company and its subsidiaries, and
consultants, advisors and others whose skills would be an asset to the Company
or any of its subsidiaries, (ii) motivating such individuals by means of
performance-related incentives to achieve long-range performance goals, and
(iii) enabling such individuals to participate in the long-term growth and
financial success of the Company. Any officer or other key employee of the
Company or any of its subsidiaries who is not a member of the committee that
administers the Option Plan (the "Option Committee") shall be eligible to
participate under the Option Plan. The Option Plan authorizes the grant of
awards to participants of a maximum of 325,000 shares of the Class A Common
Stock, which maximum number is subject to adjustment in certain circumstances to
prevent dilution or enlargement.
DIRECTORS PLAN. On September 27, 1996, the Board of Directors adopted,
subject to the approval of the Company's stockholders, the U.S. Franchise
Systems, Inc. 1996 Stock Option Plan for Non-Employee Directors (the "Directors
Plan"). The Directors Plan was approved by the Company's stockholders on October
11, 1996. The purpose of the Directors Plan is to secure for the Company the
benefits of the additional incentive inherent in the ownership of Class A Common
Stock by non-employee directors of the Company and to help the Company secure
and retain the services of such non-employee directors. The Directors Plan is
intended to be a self-governing formula plan. To this end, the Directors Plan
requires minimal discretionary action by any administrative body with regard to
any transaction under the Directors
56
<PAGE>
Plan. To the extent, if any, that questions of administration arise, such issues
will be resolved by the Board of Directors. Eligible persons under the Directors
Plan are directors of the Company who are not employees of the Company or any
affiliate of the Company ("Outside Directors"). A maximum of 125,000 shares of
Class A Common Stock has been reserved by USFS for issuance pursuant to options
under the Directors Plan, which number is subject to adjustment in certain
circumstances in order to prevent dilution or enlargement. On October 24, 1996,
each Outside Director was granted an option to purchase 2,000 shares of Class A
Common Stock. Thereafter, each person who is an Outside Director as of January
1st of each calendar year beginning January 1, 1998 during the term of the
Directors Plan shall receive an option to purchase 2,000 shares of Class A
Common Stock as of such date. All options granted under the Directors Plan shall
be "nonqualified" stock options subject to the provisions of Section 83 of the
Code.
The following table provides certain information concerning individual
grants of stock options under the Company's Option Plan made during the year
ended December 31, 1997 to the Named Executive Officers:
OPTION GRANTS IN LAST FISCAL YEAR
<TABLE>
<CAPTION>
POTENTIAL REALIZABLE
VALUE AT
INDIVIDUAL GRANTS ASSUMED ANNUAL RATES
----------------------------------------------------------- OF
% OF TOTAL STOCK PRICE
OPTIONS GRANTED EXERCISE OR APPRECIATION FOR
OPTIONS TO EMPLOYEES IN BASE PRICE OPTION TERM (1)
GRANTED FISCAL ($ PER EXPIRATION ---------------------
NAME (#) YEAR SHARE) DATE 5% 10%
- --------------------------------------------- ---------- ------------------- ------------- ----------- --------- ----------
<S> <C> <C> <C> <C> <C> <C>
Michael A. Leven............................. -- -- -- -- -- --
Neal K. Aronson.............................. -- -- -- -- -- --
James Darby.................................. 25,000(2) 30.1% $ 9.63 01/20/04 $ 98,000 $ 228,400
2,000(3) 2.4% $ 8.13 12/01/04 $ 6,619 $ 15,426
Steven Romaniello............................ 2,000(4) 2.4% $ 8.13 12/01/04 $ 6,619 $ 15,426
David E. Shaw................................ 1,000(5) 1.2% $ 8.13 12/01/04 $ 3,310 $ 7,713
</TABLE>
- ------------------------
(1) The dollar amounts under these columns represent the potential realizable
value of each grant of option assuming that the market price of the Class A
Common Stock appreciates in value from the date of grant at the 5% and 10%
annual rates prescribed by the SEC and therefore are not intended to
forecast possible future appreciation, if any, of the price of the Class A
Common Stock.
(2) Options vest in increments of 25% per year commencing on January 20, 1998.
(3) Options vest in increments of 25% per year commencing on December 1, 1998.
(4) Options vest in increments of 25% per year commencing on December 1, 1998.
(5) Options vest in increments of 25% per year commencing on December 1, 1998.
The following table provides certain information concerning options
exercised during fiscal 1997 and the value of unexercised options held by the
Named Executive Officers under the Company's Option Plan
57
<PAGE>
as of December 31, 1997. No stock options were exercised by the Named Executive
Officers and there were no SARs outstanding during fiscal 1997.
<TABLE>
<CAPTION>
VALUE OF UNEXERCISED
NUMBER OF UNEXERCISED IN-THE-MONEY
OPTIONS OPTIONS AT FISCAL YEAR-END
AT FISCAL YEAR END (A)
---------------------------- --------------------------
<S> <C> <C> <C> <C>
NAME EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
- ---------------------------------------------- ------------- ------------- ----------- -------------
Michael A. Leven.............................. -- -- -- --
Neal K. Aronson............................... -- -- -- --
James Darby................................... 6,250 20,750 $ 2,312 $ 10,677
Steven Romaniello............................. 1,500 6,500 $ 0 $ 3,740
David E. Shaw................................. 750 3,250 $ 0 $ 1,870
</TABLE>
- ------------------------
(a) Dollar values were calculated by determining the difference between the
closing price of the Common Stock on December 31, 1997 as reported on the
Nasdaq National Market ($10.00 per share) and the exercise price of the
options.
58
<PAGE>
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
TRANSACTIONS ENTERED INTO IN CONNECTION WITH THE DEVELOPMENT FUND
Dean S. Adler, a director of the Company, is a principal of the entity that
controls Lubert-Adler. Irwin Chafetz, a director of the Company, is an investor
in Lubert-Adler. In connection with the formation of the Development Fund, the
Company sold 62,500 shares of Class A Common Stock to Lubert-Adler for $703,000
at a price per share of $11.25 per share on March 17, 1998. The closing price of
the Class A Common Stock on March 17, 1998, as reported on the NASDAQ National
Market, was $13.00 per share, resulting in a discount of $109,375 to
Lubert-Adler. In addition, Lubert-Adler was issued the right to acquire an
additional 62,500 shares of Class A Common Stock, exercisable on a pro rata
basis within 18 months of the commitment of the Development Fund's capital, at
an exercise price of $11.25 per share. The purchase price for the shares of
Common Stock issued to Lubert-Adler and the exercise price for the additional
shares were negotiated on an arm's-length basis between the Company and
NorthStar. Lubert-Adler was provided the opportunity to acquire shares of Class
A Common Stock and the right to acquire the additional shares on a pro rata
basis with NorthStar in connection with the respective commitments of each to
the formation of the Development Fund. The Company will also be paid
approximately $3.5 million over the next five years to manage the Development
Fund.
TRANSACTIONS ENTERED INTO IN CONNECTION WITH THE BEST INNS ACQUISITION
Richard D. Goldstein, a director of the Company, is an Executive Vice
President and a Senior Managing Director of the general partner of Alpine Equity
Partners L.P., the entity that indirectly owns and controls a majority of Alpine
Equities and Ventures. See "Business--Recent Developments--Best Inns." As part
of the acquisition of Best Inns, the Company entered into, directly and
indirectly, a number of transactions with Ventures and Alpine Equities. Ventures
purchased the 17 Acquired Hotels that the Company was obligated to acquire under
the acquisition agreement, for a total purchase price of $84 million. In
connection with Ventures' acquisition of these hotels, the Company made a $15
million unsecured subordinated loan to Ventures at an interest rate of 12% per
annum, interest on which will be paid in cash to the extent of available cash
and otherwise will be paid-in-kind. In addition, the Company committed to make
up to $7.5 million of additional loans to Ventures under certain circumstances
at an interest rate and upon other terms that are substantially similar to
Ventures' or its subsidiaries' third-party indebtedness at such time. In
connection with Ventures' acquisition of these hotels, the Company entered into
the following additional transactions with Ventures and Alpine Equities: (i) the
Company issued 350,000 shares of Class A Common Stock to Alpine Equities for a
cash purchase price of $1.6 million and granted to Alpine Equities certain
demand and piggy-back registration rights on customary terms as well as certain
tag-along rights, (ii) the Company entered into a management contract and
franchise agreements with Ventures relating to the 17 Acquired Hotels, and (iii)
the Company agreed to pay to Alpine Equities the New Hotel fee for each Best
Inns hotel that is added to the USFS system of hotels after the closing date of
the transaction.
The terms of the sale of the Alpine Shares were substantially similar to the
terms the Company had contemplated in negotiations with Highend Hospitality
Partners, LLC ("Highend"), a third party buyer with whom the Company had
previously been negotiating to acquire the 17 Acquired Hotels. The purchase
price for the 350,000 shares of Class A Common Stock had been negotiated with
Highend and was based upon a purchase price of $8.00 per share for 200,000
shares of Class A Common Stock (the closing price on the Nasdaq National Market
on December 15, 1997) and the issuance for no additional consideration of
150,000 shares of Class A Common Stock (in lieu of issuing a warrant to acquire
a substantially greater number of shares of Class A Common Stock, as originally
requested by Highend). To the Company's knowledge, no other officer, director or
5% or greater shareholder of the Company has any ownership interest in Highend.
The New Hotel Fee to be paid to Alpine Equities is substantially similar to a
fee that the Company had negotiated on an arm's-length basis with, and had
planned to pay to, Highend. Finally, the terms of the management contract and
franchise agreements entered into with Ventures are substantially similar to the
agreements that the Company expected to enter into with Highend.
59
<PAGE>
MISCELLANEOUS
To date, the Company has invested $6,237 in the general partner of Equity
Partners, L.P., a limited partnership which invests from time to time in certain
Microtel and Hawthorn franchisees with a successful track record of multi-unit
development. Dean Adler, a director of the Company, owns a profits interest in
CMS Entrepreneurial Associates, L.P., one of the limited partners of Equity
Partners, L.P.
Howard and Lawrence Chafetz, sons of Irwin Chafetz, a director of the
Company, have established a limited liability company to acquire and operate
Microtels. To date, the limited liability company has entered into three
franchise agreements with the Company regarding the same.
Mr. Leven's sons, Jonathan Leven and Robert Leven, were employed by the
Company during 1997 and received total compensation of $170,000 and $90,000,
respectively, and option grants to acquire 1,000 and 2,000 shares, respectively,
of Class A Common Stock under the Company's 1996 Stock Option Plan.
PRINCIPAL HOLDERS OF COMMON STOCK
The following table sets the beneficial ownership as of May 1, 1998 by each
person known by the Company to be the beneficial owner of more than 5% of the
outstanding shares of the Company Common Stock, each director each Named
Executive Officer of the Company and all directors and officers of the Company
as a group:
Each share of the Company Class B Common Stock is entitled to ten votes per
share.
<TABLE>
<CAPTION>
CLASS A CLASS B
----------------------- ----------------------- PERCENT OF
NAME OF PERCENT PERCENT TOTAL VOTING
BENEFICIAL OWNER SHARES (1) OF CLASS SHARES (1) OF CLASS POWER
- ---------------------------------------------- ---------- ----------- ---------- ----------- ---------------
<S> <C> <C> <C> <C> <C>
Michael A. Leven.............................. 910,617(2) 7.0% 1,509,473(3) 55.7% 40.0%
Neal K. Aronson............................... 916,811(4) 7.1 1,509,473(5) 55.7 40.0
Dean Adler.................................... 71,500(6) * 0 0 *
Irwin Chafetz................................. 292,100(7) 2.3 0 0 *
James Darby................................... 6,250(8) * * 0 *
Douglas Geoga................................. 0 0 0 0 0
Richard D. Goldstein.......................... 511,555(9) 4.0 0 0 *
David T. Hamamoto............................. 437,500 10) 3.4 0 0 *
Andrea Leven.................................. 233,032 11) 1.8 770,801 12) 28.5 *
Jeffrey A. Sonnenfeld......................... 7,000(7) * 0 0 *
Barry S. Sternlicht........................... 301,770 13) 2.3 0 0 *
Steven Romaniello............................. 194,716 14) 1.5 0 0 *
David E. Shaw................................. 109,499 15) * 0 0 *
H Suites Associates, Inc...................... 2,222,222 16) 17.2 0 0 5.6
All officers and directors as a group
(12 persons)**.............................. 3,351,776 25.9% 2,707,919 100.0% 76.1%
</TABLE>
- ------------------------
* Represents less than 1% of the outstanding shares, both in number and in
terms of voting power.
** Duplications eliminated.
(1) Beneficial Ownership includes shares for which an individual, directly or
indirectly, has or shares voting or investment power or both and also
includes options which are exercisable within sixty days of April 1, 1998.
All of the listed persons have sole voting and investment power over the
shares listed opposite their names unless otherwise indicated in the notes
below.
(2) Consists of (i) 123,805 Restricted Shares (as defined herein) held directly
by Mr. Leven and as to which Mr. Leven has sole voting power, (ii) 233,032
Restricted Shares held by Mr. Leven's wife, which
60
<PAGE>
are voted by Mr. Leven, (iii) 346,461 Unrestricted Shares (as defined
herein), which have been reallocated to other members of management and are
voted by them in the same manner that Mr. Leven votes his shares, (iv)
95,972 shares that were designated as Restricted Shares pursuant to Mr.
Leven's Old Stock Purchase Agreement (as defined herein), which have been
reallocated to other members of management and by virtue of the 1996
Amendment (as defined herein) are voted by them in the same manner that Mr.
Leven votes his Unrestricted Shares, and (v) 111,347 Restricted Shares owned
by Mr. Aronson, which are voted by Mr. Leven. Mr. Leven's address is 13
Corporate Square, Suite 250, Atlanta, Georgia 30329.
(3) Consists of (i) 427,665 Unrestricted Shares, as to which Mr. Leven has sole
voting power, (ii) 770,801 shares held by Mr. Leven's wife as Unrestricted
Shares, which are voted by Mr. Leven, and (iii) 311,007 Unrestricted Shares
owned by Mr. Aronson, which are voted by Mr. Leven.
(4) Consists of (i) 589,865 Restricted Shares held directly by Mr. Aronson and
as to which Mr. Aronson has sole voting power, (ii) 95,972 shares that were
designated as Restricted Shares pursuant to Mr. Aronson's Old Stock Purchase
Agreement, which have been reallocated to other members of management and by
virtue of the 1996 Amendment are voted by them in the same manner that Mr.
Aronson votes his shares and (iii) 230,974 shares that were designated as
Unrestricted Shares under the Old Stock Purchase Agreements, which have been
reallocated to other members of management and are voted by them in the same
manner that Mr. Aronson votes his shares. Mr. Aronson has transferred voting
power to Mr. Leven with respect to 111,347 of such shares. Mr. Aronson's
address is 13 Corporate Square, Suite 250, Atlanta, Georgia 30329.
(5) Consists of 1,509,473 shares designated as Unrestricted Shares, of which Mr.
Aronson has sole voting power as to 1,198,466 shares and has transferred
voting power to Mr. Leven as to 311,007 shares.
(6) Includes (i) stock options for 2,000 shares of Class A Common Stock at
$13.50 per share which are fully vested and (ii) 62,500 shares of Class A
Common Stock owned collectively by Lubert-Adler Real Estate Opportunity Fund
L.P., Lubert-Adler Real Estate Opportunity Fund II, L.P., and Lubert-Adler
Capital Real Estate Opportunity Fund, L.P., entities controlled by Mr.
Adler.
(7) Includes stock options for 2,000 shares of Class A Common Stock at $13.50
per share which are fully vested.
(8) Consists of stock options for 6,250 shares of Class A Common Stock
exercisable at a price of $9.63 per share which vested on January 20, 1998.
(9) Such shares consist of (i) 159,555 shares owned by G2 Investment Partners,
an investment partnership of which Mr. Goldstein is a general partner, (ii)
stock options for 2,000 shares of Class A Common Stock at $13.50 per share
which are fully vested, and (iii) 350,000 shares issued to Alpine Equities
in connection with the Best Inns acquisition. Mr. Goldstein shares voting
and investment power with respect to shares owned by both G2 Investment
Partners and Alpine Equities.
(10) Represents shares owned by Sextant Trading LLC, an entity owned
beneficially by NorthStar Capital Investment Corp., of which Mr. Hamamoto is
a director. Mr. Hamamoto disclaims beneficial ownership of these shares.
(11) Represents shares that were designated under Mr. Leven's Old Stock Purchase
Agreement as Restricted Shares and which have been transferred to Mrs.
Leven. Pursuant to a voting agreement, Mrs. Leven has transferred voting
power with respect to these shares to Mr. Leven. Mrs. Leven's address is 13
Corporate Square, Suite 250, Atlanta, Georgia 30329, c/o U.S. Franchise
Systems, Inc.
(12) Represents shares of Class B Common Stock that were originally designated
as Unrestricted Shares under Mr. Leven's Old Stock Purchase Agreement, which
were subsequently transferred to Mrs. Leven and which, pursuant to a voting
agreement, are voted by Mr. Leven.
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(13) Such shares consist of (i) 299,770 shares owned by Starwood Opportunity
Fund II, L.P., a Delaware limited partnership whose general partner is
Starwood Capital, which is indirectly controlled by Mr. Sternlicht and (ii)
stock options for 2,000 shares of Class A Common Stock at $13.50 per share
which are fully vested.
(14) Consists of (i) 5,000 shares as to which Mr. Romaniello has sole voting and
investment power, (ii) 147,883 Unrestricted Shares, of which 88,730 shares
must be voted in the same manner as Mr. Leven votes his shares and 59,153
shares which must be voted in the same manner as Mr. Aronson votes his
shares, (iii) 40,333 Restricted Shares, of which 20,167 shares must be voted
in the same manner as Mr. Leven votes his shares and 20,166 shares which
must be voted in the same manner as Mr. Aronson votes his shares and (iv)
stock options for 1,500 shares of Class A Common Stock at $13.50 per share
which are fully vested.
(15) Consists of (i) 1,200 shares as to which Mr. Shaw has sole voting and
investment power, (ii) 80,662 Unrestricted Shares, of which 48,397 shares
must be voted in the same manner as Mr. Leven votes his shares and 32,265
shares which must be voted in the same manner as Mr. Aronson votes his
shares, (iii) 26,887 Restricted Shares, of which 13,444 shares must be voted
in the same manner as Mr. Leven votes his shares and 13,443 shares which
must be voted in the same manner as Mr. Aronson votes his shares and (iv)
stock options for 750 shares of Class A Common Stock at $13.50 per share
which are fully vested.
(16) Includes (i) 2,199,775 shares owned by H Suites Associates, Inc. (formerly
known as Hawthorn Suites Associates) ("HSA") and (ii) 22,447 shares owned by
HSA Properties, Inc. ("HPI") an affiliate of HSA. HSA's business address is
200 West Madison Street, Suite 3800, Chicago, Illinois 60606.
MANAGEMENT'S SHARES OF COMMON STOCK
BACKGROUND. On October 5, 1995, Messrs. Leven and Aronson purchased
5,485,259 shares or 51% of the Company's predecessor's Class A Common Stock then
outstanding for an aggregate purchase price of $567,245 or $0.1034 per share
(the "Original Issue Price"). Twenty-five percent (25%) of the Company's
predecessor's Class A Common Stock was acquired by Messrs. Leven and Aronson
outright (i.e., without restriction on their ability to vote or receive
dividends with respect to such shares and free of any risk of forfeiture),
although a limited number of such shares could be repurchased from Messrs. Leven
and Aronson and reissued to other employees under certain circumstances
described below (the "Unrestricted Shares"). Immediately following such
acquisition, Mr. Leven owned 15% and Mr. Aronson owned 10% of the then
outstanding Class A Common Stock in the form of Unrestricted Shares. The
remaining shares of Class A Common Stock acquired by Messrs. Leven and Aronson,
representing 26% of such Class A Common Stock at the time of such acquisition,
were subject to significant restrictions with respect to voting and dividend
rights and substantial risks of forfeiture (the "Restricted Shares"), as
described below. Mr. Leven and Mr. Aronson each acquired 13% of the then
outstanding Class A Common Stock in the form of Restricted Shares. On August 23,
1996, the Board of Directors voted to amend the respective Employee Stock
Purchase Agreements pursuant to which Messrs. Leven and Aronson purchased the
Class A Common Stock (the "Old Stock Purchase Agreements") to eliminate the
restrictions with respect to one-half of the Restricted Shares (the "1996
Amendment"). See "Principal Holders of Common Stock--Management's Shares of
Common Stock--1996 Amendment" below for a description of the amendment.
RESALE OF SHARES TO OTHER MANAGEMENT. The Old Stock Purchase Agreements
provide that Unrestricted Shares representing 5% of the Class A Common Stock
then outstanding and Restricted Shares representing 6% of the Class A Common
Stock then outstanding could be repurchased by the Company from Messrs. Leven
and Aronson at the Original Issue Price and then reissued to other members of
the Company's management at fair market value. As of April 1, 1997, a total of
approximately 826,833 shares of outstanding Class A Common Stock have been
repurchased from Messrs. Leven and Aronson
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and reissued to other members of management. By virtue of the 1996 Amendment,
members of management who acquired these shares are required to vote those
shares that are Restricted Shares, on a one vote per share basis, one-half in
the same manner as Mr. Leven votes his shares and one-half as Mr. Aronson votes
his shares. With respect to those shares that are Unrestricted Shares, the
management holders are required to vote 60% of such shares in the manner that
Mr. Leven votes his shares and 40% in the manner that Mr. Aronson votes his
shares. The Company's right to cause the redemption and reissuance of the
remaining shares was eliminated by the 1996 Amendment. All shares which have
been repurchased from Messrs. Leven and Aronson and reissued to other members of
management pursuant to the Old Stock Purchase Agreements are subject to a
vesting schedule, which provides that Unrestricted Shares vest over a five year
period and Restricted Shares vest over a 10 year period, in each case provided
that the management employee remains employed by the Company (and with
Restricted Shares subject to further vesting requirements based on the Company's
performance). Any unvested shares that are forfeited upon the termination of
such employment are to be repurchased by the Company and resold to Mr. Leven or
Mr. Aronson, as the case may be (depending on who owned the shares originally),
at the Original Issue Price. In the event any of such shares are forfeited and
reissued to Messrs. Leven or Aronson at the Original Issue Price, the Company
will recognize compensation expense for the difference between the Original
Issue Price and the market value of the stock on the date such shares are
repurchased by Messrs. Leven and Aronson. Upon such resale, the shares will
continue as Unrestricted Shares or Restricted Shares in the same manner as had
they not been so forfeited. As of April 1, 1998, 57,807 unvested shares have
been repurchased by the Company but Messrs. Leven and Aronson have waived their
rights to such shares.
UNRESTRICTED SHARES. Following the 1996 Amendment, there are no
restrictions on the Unrestricted Shares held by Messrs. Leven and Aronson and
their permitted transferees, and such shares may not be repurchased from Messrs.
Leven and Aronson and reissued to other members of management.
RESTRICTED SHARES. The Old Stock Purchase Agreements imposed, and the Old
Stock Purchase Agreements as amended by the 1996 Amendment (the "Amended Stock
Purchase Agreements") impose substantial risks of forfeiture on Restricted
Shares. Messrs. Leven and Aronson are entitled to vote all Restricted Shares (on
a one vote per share basis), including Restricted Shares which have been
reallocated to other members of management as provided above, prior to such
shares being "earned" by the holders thereof, and to receive dividends thereon.
See "--1996 Amendment."
Under both the Old Stock Purchase Agreements and the Amended Stock Purchase
Agreements, Restricted Shares become "Earned Shares" upon the Company's
attaining certain performance criteria. However, notwithstanding that they have
been "earned," Earned Shares (other than the Class A Common Stock that was
deemed to have been earned by virtue of the 1996 Amendment) will be forfeited if
the management holder of such shares (including either of Messrs. Leven or
Aronson) resigns from his or her employment with the Company without good reason
or is terminated for cause prior to the tenth anniversary of the date such
shares were acquired by the holder thereof from the Company ("Termination
Forfeiture" ). See "--1996 Amendment."
Pursuant to the 1996 Amendment, one-half of the Restricted Shares were
deemed to be Unrestricted Shares.
Under both the Old Stock Purchase Agreements and the Amended Stock Purchase
Agreements, Earned Shares will be permanently vested (I.E., they will no longer
be subject to Termination Forfeiture) on September 29, 2005. Any Restricted
Shares that have not become Earned Shares by September 29, 2005 must be redeemed
by the Company at the Original Issue Price and will be offered to the original
investors (the "Original Investors") of the Company (other than Messrs. Leven
and Aronson) pro rata at the Original Issue Price based on their original
holdings of Old Common Stock. In addition, upon the occurrence of a Termination
Forfeiture with respect to Mr. Leven or Mr. Aronson, such person's Restricted
Shares must be redeemed by the Company and so offered to the Original Investors.
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Under both the Old Stock Purchase Agreements and the Amended Stock Purchase
Agreements, if substantially all of the Company's stock or assets are
transferred or sold, or upon a business combination, any remaining Restricted
Shares will automatically become Unrestricted Shares to the extent that value
for the entire Company indicated by the gross sale price in such transaction
results in an internal rate of return to the Original Investors of at least 40%
on a compounded annual basis (after taking into account the amount and timing of
all distributions and payments received by such Original Investors from the
Company, after considering Unrestricted and Earned Shares then held by Messrs.
Leven and Aronson, and after giving effect to Restricted Shares that become
Unrestricted Shares as a result of such transaction).
1996 AMENDMENT. On October 30, 1996, the Company and Messrs. Leven and
Aronson amended their respective Old Stock Purchase Agreements. The 1996
Amendment provided that (i) one-half of their Restricted Shares will be deemed
to be Unrestricted Shares, notwithstanding the fact that certain performance
criteria had not been met, (ii) their remaining Restricted Shares will become
Earned Shares at the rate of 1/13 of all of the remaining number of Restricted
Shares (including the Restricted Shares held by other members of management) for
every $1,000,000 of annual Adjusted EBITDA of the Company (defined as earnings
before interest, taxes, depreciation, amortization and other non-cash charges,
adjusted to exclude one-time or non-recurring expenses or credits), but only
after Adjusted EBITDA for a fiscal year equals or exceeds $14,000,000, (iii) the
Unrestricted Shares held by Messrs. Leven and Aronson and by Mr. Leven's wife,
including the Unrestricted Shares referred to in clause (i) above, will be
shares of Class B Common Stock (with ten votes per share), (iv) the remaining
Restricted Shares held by Messrs. Leven and Aronson will be Class A Common Stock
(with one vote per share), including if and when such shares become Earned
Shares, and will continue to be subject to Termination Forfeiture, (v) Messrs.
Leven and Aronson will have the right to vote their Restricted Shares and to
receive dividends, if any, declared thereon before they become Earned Shares,
(vi) no additional shares will be repurchased from Messrs. Leven and Aronson and
reissued to other members of management and (vii) in calculating Adjusted EBITDA
for any given year, there generally shall be subtracted 10% of the consideration
paid by the Company in connection with any future acquisitions by the Company
and/or its subsidiaries of another corporation or other entity. As part of the
1996 Amendment, one-half of the Restricted Shares previously allocated to other
members of management were also be deemed to be Unrestricted Shares. Such
shares, representing approximately 1.6% of the Class A Common Stock outstanding
as of April 1, 1998, will be voted by the management holders thereof 60% in the
same manner that Mr. Leven votes his shares, and 40% in the same manner that Mr.
Aronson votes his shares. As to any Restricted Shares still held by such
management holders, 50% of such shares will be voted by the management holders
thereof in the same manner that Mr. Leven votes his shares and 50% will be voted
in the same manner Mr. Aronson votes his shares.
CERTAIN OTHER AGREEMENTS RELATING TO COMMON STOCK
Pursuant to the HSA Shareholders Agreement, the Pritzker family related
entities parties thereto have agreed, subject to certain exceptions, not to,
directly or indirectly, offer, sell, exchange, pledge, hypothecate, encumber,
transfer, assign or otherwise dispose of any of the shares of Class A Common
Stock received by them in the HSA Acquisition until March 12, 2000. In addition,
pursuant to the HSA Shareholders Agreement such entities have agreed to certain
standstill provisions on customary terms with respect to the acquisition of
additional shares of Common Stock, and have been granted certain tag-along
rights on customary terms in connection with sales of Common Stock by Mr. Leven
or Mr. Aronson and certain other holders of Common Stock and have been granted
certain demand registration rights and piggy-back registration rights on
customary terms.
In connection with the Company's sale of shares of Class A Common Stock to
Lubert-Adler and NorthStar, the Company entered into a Registration and
Tag-Along Rights Agreement with Lubert-Adler, NorthStar, Mr. Leven and Mr.
Aronson. Pursuant to this agreement, Lubert-Adler and NorthStar have been
granted certain tag-along rights on customary terms in connection with sales of
Common Stock by
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Mr. Leven or Mr. Aronson and have been granted certain demand registration
rights and piggy-back registration rights on customary terms.
In connection with the Best Inns acquisition, the Company entered into a
Registration Rights Agreement with Alpine Equities, Mr. Leven and Mr. Aronson.
Pursuant to this agreement, Alpine Equities has been granted certain tag-along
rights in connection with sales of Common Stock by Mr. Leven or Mr. Aronson and
has been granted certain demand registration rights and piggy-back registration
rights on customary terms.
In connection with a letter agreement with an unaffiliated hotel developer,
the Company agreed to issue up to $900,000 in shares of Class A Common Stock in
the future, at a price per share based upon the closing price of the Class A
Common Stock on the date of issuance upon such developer's achieving certain
milestones for opening USFS branded hotels.
DESCRIPTION OF THE CAPITAL STOCK
As of May 1, 1998, the authorized capital stock of the Company consisted of
30,000,000 shares of Class A Common Stock of which 12,917,194 shares were issued
and outstanding and 58,807 were treasury shares, 5,000,000 shares of Class B
Common Stock, of which 2,707,919 shares are issued and outstanding, and
1,000,000 shares of Preferred Stock, none of which are issued and outstanding.
After the Offering is consummated, 17,417,194 shares of Class A Common Stock
will be issued and outstanding.
The relative preferences and rights of the Company's capital stock are set
forth in the Company's Certificate of Incorporation. Set forth below is a
summary description of such rights and preferences. This summary does not
purport to be complete and is qualified by reference to the Company's
Certificate of Incorporation.
COMMON STOCK
Holders of Class A Common Stock are entitled to one vote per share and
holders of Class B Common Stock are entitled to ten votes per share on all
matters to be voted upon by the stockholders. Holders of Class A Common Stock
and Class B Common Stock do not have cumulative voting rights and, therefore,
holders of shares possessing a majority of the voting power can elect all of the
directors. In such event, the holders of the remaining shares will not be able
to elect any directors.
Holders of Class A Common Stock and Class B Common Stock are entitled to
share ratably such dividends as may be declared from time to time by the Board
of Directors out of funds legally available therefor, subject to the terms of
any then outstanding Preferred Stock and of agreements governing the Company's
indebtedness. The Company does not anticipate paying cash dividends in the
foreseeable future. See "Dividend Policy." In the event of the liquidation,
dissolution or winding up of the Company, the holders of the Class A Common
Stock and Class B Common stock are entitled to share ratably in all assets
remaining after payment of liabilities and the liquidation preference and any
accrued but unpaid dividends with respect to any then outstanding Preferred
Stock.
In the event of any merger or consolidation of the Company with or into any
other corporation pursuant to which shares of Class A Common Stock and Class B
Common Stock are converted into other securities, cash or other property, shares
of Class A Common Stock and shares of Class B Common Stock shall be converted
into the identical consideration at the same rate per share, except that any
voting securities into which Class B Common Stock shall be converted shall have
ten times the voting power of any otherwise identical securities into which
Class A Common Stock is converted, unless the holders of a majority of the
shares of each class shall have approved such merger or consolidation.
Shares of Class B Common Stock are convertible at the option of the holder
into shares of the Class A Common Stock on a share-for-share basis. In addition,
shares of Class B Common Stock will automatically convert into shares of Class A
Common Stock upon any transfer thereof, other than a transfer by a holder
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of Class B Common Stock to (i) an immediate family member of such holder or (ii)
any trust or partnership of which all of the beneficiaries or partners as the
case may be, are such holder and/or immediate family members of such holder, so
long as the transferee authorizes Mr. Leven or Mr. Aronson to vote such
transferred shares. Holders of Class A Common Stock and Class B Common Stock
have no preemptive or redemption rights and are not subject to further calls or
assessments by the Company, except as otherwise provided in the Amended Stock
Purchase Agreements.
PREFERRED STOCK
The Board of Directors has the authority, without any vote or action by the
stockholders, to issue Preferred Stock in one or more series and to fix the
designations, preferences, rights, qualifications, limitations, and restrictions
thereof, including the voting rights, dividend rights, dividend rate, conversion
rights, terms of redemption (including sinking fund provisions), redemption
price or prices, liquidation preferences and the number of shares constituting
any series; provided, however, that the Board of Directors may not create a
series of Preferred Stock with general voting rights or with the right to elect
more than 50% of the Board under any circumstances without the approval of
holders of 75% of the outstanding Class B Common Stock.
CERTAIN EFFECTS OF AUTHORIZED BUT UNISSUED STOCK
Authorized but unissued shares of Common Stock and Preferred Stock are
available for future issuance without stockholder approval, except as may
otherwise be required under Nasdaq rules or Delaware law. These additional
shares may be utilized for a variety of corporate purposes, including future
public offerings to raise additional capital, corporate acquisitions and
employee benefit plans.
The existence of authorized but unissued and unreserved Common Stock and
Preferred Stock may enable the Board of Directors to issue shares to persons
friendly to current management, which could render more difficult or discourage
an attempt to obtain control of the Company by means of a proxy contest, tender
offer, merger, or otherwise, and thereby protect the continuity of the Company's
management.
DELAWARE LAW AND CERTAIN CHARTER AND BY-LAW PROVISIONS
The Company is a Delaware corporation and is subject to Section 203 of the
Delaware General Corporate Law (the "DGCL"). In general, Section 203 prevents an
"interested stockholder" (defined generally as a person owning 15% or more of a
corporation's outstanding voting stock) from engaging in a business combination
(as defined in such section) with a Delaware corporation for three years
following the date such person became an interested stockholder unless (i)
before such person became an interested stockholder, the board of directors of
the corporation approved the transaction in which the interested stockholder
became an interested stockholder or approved the business combination; (ii) upon
consummation of the transaction that resulted in the interested stockholder
becoming an interested stockholder, the interested stockholder owns at least 85%
of the voting stock of the corporation outstanding at the time the transaction
commenced (excluding shares owned by persons who are both officers and directors
of the corporation, and held by certain employee stock ownership plans) or (iii)
following the transaction in which such person became an interested stockholder,
the business combination is approved by the board of directors of the
corporation and authorized at a meeting of stockholders by the affirmative vote
of the holders of at least two-thirds of the outstanding voting stock of the
corporation not owned by the interested stockholder. Messrs. Leven and Aronson
are interested stockholders under the DGCL. However, since their acquisition of
the Company's securities was approved in advance by the Board, they would not be
prohibited from engaging in a business combination with the Company.
In addition, certain provisions of the Company's Certificate of
Incorporation and By-laws summarized in the following paragraphs may be deemed
to have an anti-takeover effect and may delay, defer or prevent
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an attempt to obtain control of the Company by means of a proxy contest, tender
offer, merger or other transaction that a stockholder might consider in its best
interest, including those attempts that might result in a premium over the
market price for the shares held by stockholders.
SPECIAL MEETING OF STOCKHOLDERS. The Company's Certificate of Incorporation
provides that special meetings of stockholders of the Company may be called only
by the Board of Directors, the Chairman of the Board of Directors or the Chief
Executive Officer. This provision will make it more difficult for stockholders
to take actions opposed by the Board of Directors. This provision may not be
amended or repealed without the approval of holders of at least 75% of the
outstanding voting power of the Company.
STOCKHOLDER ACTION BY WRITTEN CONSENT. The Company's Certificate of
Incorporation provides that no action required or permitted to be taken at any
annual or special meeting of the stockholders of the Company may be taken
without a meeting, and the power of stockholders of the Company to consent in
writing, without a meeting, to the taking of any action is specifically denied.
This provision may not be amended or repealed without the approval of holders of
at least 75% of the outstanding voting power of the Company.
PROHIBITION ON ISSUANCE OF VOTING PREFERRED STOCK. The Company's
Certificate of Incorporation provides that the Board of Directors cannot create
a series of Preferred Stock with general voting rights or with the right to
elect more than 50% of the Board under any circumstances without the approval of
holders of 75% of the outstanding Class B Common Stock. This provision may not
be amended or repealed without the approval of holders of at least 75% of the
outstanding voting power of the Company.
ADVANCE NOTICE REQUIREMENTS FOR STOCKHOLDER PROPOSALS AND DIRECTOR
NOMINATIONS. The Company's By-laws provide that stockholders seeking to bring
business before an annual meeting of stockholders, or to nominate candidates for
election as directors at an annual or special meeting of stockholders, must
provide timely notice thereof in writing. To be timely, a stockholder's notice
must be delivered to or mailed and received at the principal executive offices
of the Company not less than 70 days nor more than 90 days prior to the meeting;
provided, however, that in the event that the date of the annual meeting is
advanced by more than 20 days or delayed by more than 70 days from such
anniversary date, notice by the stockholder to be timely must be received no
earlier than the close of business on the ninetieth day prior to such annual
meeting and not later than the close of business on the later of the seventieth
day prior to such annual meeting or the tenth day following the day on which
public announcement of the date of such meeting is first made. The Company's
By-laws also specify certain requirements for a stockholder's notice to be in
proper written form. These provisions may preclude some stockholders from
bringing matters before the stockholders at an annual or special meeting or from
making nominations for directors at an annual or special meeting.
TERMINATION OF EMPLOYMENT AGREEMENTS. The Company's By-laws provide that
approval of 75% of the Board of Directors is required to terminate the
employment agreements of Messrs. Leven or Aronson.
INDEMNIFICATION OF OFFICERS AND DIRECTORS
The Company's Certificate of Incorporation provides that to the fullest
extent permitted by the DGCL, a director of the Company shall not be liable to
the Company or its stockholders for monetary damages for breach of fiduciary
duty as a director. Under current Delaware law, liability of a director may not
be limited (i) for any breach of the director's duty of loyalty to the Company
or its stockholders, (ii) for acts or omissions not in good faith or that
involve intentional misconduct or a knowing violation of law, (iii) in respect
of certain unlawful dividend payments or stock redemptions or repurchases and
(iv) for any transaction from which the director derives an improper personal
benefit. The effect of the provision of the Company's Certificate of
Incorporation is to eliminate the rights of the Company and its stockholders
(through stockholders' derivative suits on behalf of the Company) to recover
monetary damages against a director for breach of the fiduciary duty of care as
a director (including breaches resulting from negligent
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or grossly negligent behavior) except in the situations described in clauses (i)
through (iv) above. This provision does not limit or eliminate the rights of the
Company or any stockholder to seek nonmonetary relief such as an injunction or
rescission in the event of a breach of a director's duty of care. In addition,
the Certificate of Incorporation provides that the Company shall indemnify its
directors, officers, employees and agents to the extent not prohibited by
Delaware law.
In addition, the Company has entered into agreements (the "Indemnification
Agreements") with each of the directors of the Company pursuant to which the
Company has agreed to indemnify each such director against claims, liabilities,
damages, expenses, losses, costs, penalties or amounts paid in settlement
(collectively, "Losses") incurred by such director and arising out of his
capacity as a director, executive officer, employee and/or agent of the Company
to the maximum extent permitted by applicable law. In addition, such director or
officer shall be entitled to an advance of expenses to the maximum extent
authorized or permitted by law to meet the obligations indemnified against. The
Indemnification Agreements also obligate the Company to purchase and maintain
insurance for the benefit and on behalf of its directors insuring against all
liabilities that may be incurred by such director in or arising out of his
capacity as a director, officer, employee and/or agent of the Company. It is
anticipated that similar contracts may be entered into, from time to time, with
future directors and with executive officers of the Company.
To the extent that the Board of Directors or the stockholders of the Company
may in the future wish to limit or repeal the ability of the Company to
indemnify directors, such repeal or limitation may not be effective as to
directors who are currently parties to the Indemnification Agreements, because
their rights to full protection are contractually assured by the Indemnification
Agreements.
All of the indemnification provisions discussed above are equally applicable
to the Company.
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UNDERWRITING
NationsBanc Montgomery Securities LLC, CIBC Oppenheimer Corp., The
Robinson-Humphrey Company, LLC and Schroder & Co. Inc. (collectively, the
"Underwriters") have severally agreed, subject to the terms and conditions
contained in the Underwriting Agreement, to purchase from the Company the number
of shares of Class A Common Stock indicated below opposite their respective
names, at the public offering price less the underwriting discount set forth on
the cover page of the Prospectus. The Underwriting Agreement provides that the
obligations of the Underwriters are subject to certain conditions precedent and
that the Underwriters are committed to purchase all of the shares of Class A
Common Stock if they purchase any.
<TABLE>
<CAPTION>
UNDERWRITERS NUMBER OF SHARES
- --------------------------------------------------------------------------- -----------------
<S> <C>
NationsBanc Montgomery Securities LLC...................................... 1,125,000
CIBC Oppenheimer Corp...................................................... 1,125,000
The Robinson-Humphrey Company, LLC......................................... 1,125,000
Schroder & Co. Inc......................................................... 1,125,000
-----------------
Total.................................................................. 4,500,000
-----------------
-----------------
</TABLE>
The Underwriters have advised the Company that they propose initially to
offer the Class A Common Stock to the public on the terms set forth on the cover
page of this Prospectus. The Underwriters may allow selected dealers a
concession of not more than $ per share, and the Underwriters may allow,
and such dealers may reallow, a concession of not more than $ per share to
certain other dealers. After the initial offering, the offering price and other
selling terms may be changed by the Underwriters. The Class A Common Stock is
offered subject to receipt and acceptance by the Underwriters and to certain
other conditions, including the right to reject orders in whole or in part.
The Company has granted an option to the Underwriters, exercisable during
the 30-day period after the date of this Prospectus, to purchase up to 675,000
additional shares of Class A Common Stock to cover over-allotments, if any, at
the same price per share as the initial 4,500,000 shares to be purchased by the
Underwriters. To the extent that the Underwriters exercise this option, each of
the Underwriters will be committed, subject to certain conditions, to purchase
such additional shares in approximately the same proportion as set forth in the
above table. The Underwriters may purchase such shares only to cover over-
allotments made in connection with the offering.
The Underwriting Agreement provides that the Company will indemnify the
Underwriters against certain liabilities, including civil liabilities under the
Securities Act, or will contribute to payments the Underwriters may be required
to make in respect thereof.
Each director and officer of the Company has agreed, for a period of 90 days
from the date of this Prospectus, that they will not, directly or indirectly,
sell, offer, contract or grant any option to sell, pledge, transfer or establish
an open "put equivalent position" within the meaning of Rule 16a-1(h) under the
Securities Exchange Act of 1934, or otherwise dispose of or transfer or announce
the offering of, or file any registration statement under the Securities Act in
respect of, any shares of Class A Common Stock or any securities convertible
into or exchangeable for Class A Common Stock without the consent of NationsBanc
Montgomery Securities LLC. The Company has agreed not to, directly or
indirectly, sell, offer, contract or grant any option to sell, pledge, transfer
or establish an open "put equivalent position" within the meaning of Rule
16a-1(h) under the Securities Exchange Act of 1934, or otherwise dispose of or
transfer or announce the offering of, or file any registration statement under
the Securities Act in respect of, any shares of Class A Common Stock, options or
warrants to acquire shares of the Class A Common Stock or securities
exchangeable or exercisable for or convertible into Class A Common Stock for a
period of 90 days from the date of this Prospectus without the prior written
consent of NationsBanc Montgomery Securities LLC, except that the Company may,
without such consent, grant stock options pursuant to the
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Option Plan and the Directors Plan, issue shares of Class A Common Stock upon
exercise of outstanding stock options and, issue shares of Class A Common Stock
upon the exercise by each of NorthStar and Adler of the right to purchase an
aggregate amount of 500,000 additional shares of Class A Common Stock issue the
Developer Shares and amend its Amended and Restated 1996 Stock Option Plan to
increase the number of shares of Class A Common Stock reserved for issuance
thereunder by 400,000.
Until the distribution of the Class A Common Stock is completed, rules of
the Securities and Exchange Commission (the "Commission") may limit the ability
of the Underwriters and certain selling group members to bid for and purchase
the Class A Common Stock. As an exception to these rules, an Underwriter is
permitted to engage in certain transactions that stabilize the price of the
Class A Common Stock. Such transactions consist of bids or purchases for the
purpose of pegging, fixing or maintaining the price of the Class A Common Stock.
If the Underwriters create a short position in the Class A Common Stock in
connection with the offering, i.e., if they sell more shares of Class A Common
Stock than are set forth on the cover page of this Prospectus, the Underwriters
may reduce that short position by purchasing Class A Common Stock in the open
market. The Underwriters may also elect to reduce any short position by
exercising all or part of the over-allotment option described above. The
Underwriters may also impose a penalty bid on certain selling group members.
This means that if the Underwriters purchase shares of Class A Common Stock in
the open market to reduce their short position or to stabilize the price of the
Class A Common Stock, they may reclaim the amount of the selling concession from
the selling group members who sold those shares as part of the offering.
In general, purchases of a security for the purpose of stabilization or to
reduce a short position could cause the price of the security to be higher than
it might be in the absence of such purchases. The imposition of a penalty bid
might also have an effect on the price of a security to the extent that it were
to discourage resales of the security. Neither the Company nor any of the
Underwriters makes any representation or predictions as to the direction or
magnitude of any effect that the transactions described above may have on the
price of the Class A Common Stock. In addition, neither the Company nor any of
the Underwriters makes any representation that the Underwriters will engage in
such transactions or that such transactions, once commenced, will not be
discontinued without notice.
In connection with this offering, certain Underwriters may engage in passive
market making transactions in the Common Stock on the Nasdaq National Market
immediately prior to the commencement of sales in this offering, in accordance
with Rule 103 under Regulation M. Passive market making consists of displaying
bids on the Nasdaq National Market that are limited by the bid prices of
independent market makers and completing purchases in response to order flow at
prices limited by such bids. Net purchases by a passive market maker on each day
are limited to a specified percentage of the passive market maker's average
daily trading volume in the Class A Common Stock during a specified period and
must be discontinued for any day in which such limit is reached. Passive market
making may stabilize the market price of the Class A Common Stock at a level
above that which might otherwise prevail and, if commenced, may be discontinued
at any time.
NationsBank N.A. loaned $10 million to the Company in connection with the
Best Inns acquisition. NationsBanc Montgomery Securities LLC and NationsBank
N.A. are both wholly owned subsidiaries of NationsBank Corporation. The Company
intends to repay the NationsBank N.A. loan using the proceeds of the Offering.
Because more than 10% of the proceeds of this Offering will be applied by the
Company to repay NationsBank N.A., this Offering will be conducted pursuant to
the requirements of Rule 2710(c)(8) under the Corporate Financing Rule of the
National Association of Securities Dealers, Inc. No qualified independent
underwriter shall be used in connection with pricing the Offering, because a
bona fide independent market exists for the Class A Common Stock as of the date
of the original filing of the registration statement of which this Prospectus
forms a part and as of the effective date of the registration statement.
70
<PAGE>
Certain officers of CIBC Oppenheimer Corp. or its affiliates and their
families beneficially own approximately $3.4 million aggregate principal amount
of the Company's 10% Subordinated Debentures due September 29, 2007 to be repaid
from the proceeds of the Offering.
LEGAL MATTERS
The validity of the Class A Common Stock being offered hereby will be passed
upon for the Company by Paul, Weiss, Rifkind, Wharton & Garrison, New York, New
York, and for the Underwriters by Davis Polk & Wardwell, New York, New York.
EXPERTS
The consolidated financial statements of U.S. Franchise Systems, Inc. and
its subsidiaries as of December 31, 1997 and 1996 and for the years ended
December 31, 1997 and 1996 and for the period August 28, 1995 (Inception) to
December 31, 1995 included herein have been audited by Deloitte & Touche LLP,
independent auditors, as stated in their reports included herein, and are
included in reliance upon the report of such firm given upon their authority as
experts in accounting and auditing.
CAUTIONARY STATEMENT CONCERNING
FORWARD-LOOKING STATEMENTS
This Prospectus contains forward-looking statements, including, most
importantly, information concerning possible or assumed future results of
operations of the Company set forth under "Risk Factors," "Business,"
"Prospectus Summary" and "Management's Discussion and Analysis of Financial
Condition and Results of Operations," and those preceded by, followed by or that
include the words "may," "believes," "expects," "anticipates," "intends" or the
negation thereof, or similar expressions. The achievement of the outcomes
described in such forward-looking statements is subject to both known and
unknown risks, uncertainties and other factors which may cause the actual
results, performance or achievements of the Company or the industries in which
it operates to be materially different from any outcome expressed or implied by
such forward-looking statements. For those statements, the Company claims the
protection of the safe harbor for forward-looking statements contained in the
Private Securities Litigation Reform Act of 1995. Several important factors, in
addition to those discussed under "Risk Factors" herein and elsewhere in this
document, could affect the future results of the Company, and could cause those
results to differ materially from those expressed in the forward-looking
statements contained herein. Such additional factors include, among other
things: general economic and business conditions; competition in the lodging and
franchising industries; success of acquisitions and operating initiatives;
management of growth; dependence on senior management; brand awareness; general
risks of the lodging and franchising industries; development risk; risk relating
to the availability of financing for franchises; the existence of adverse
publicity; changes in business strategy or development plan; availability, terms
and deployment of capital; business abilities and judgment of personnel;
availability of qualified personnel; labor and employee benefit costs; changes
in, or failure to comply with, government regulations; construction schedules;
the costs and other effects of legal and administrative proceedings; other
factors referenced in this Prospectus or the documents incorporated by reference
herein; and other risks and uncertainties affecting the Company and its
competitors, all of which are difficult or impossible to predict accurately and
many of which are beyond the control of the Company. The Company will not
undertake and specifically disclaims any obligation to publicly release the
result of any revisions which may be made to any forward-looking statements to
reflect events or circumstances after the date of such statements or to reflect
the occurrence of anticipated or unanticipated events.
71
<PAGE>
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
<TABLE>
<S> <C>
Independent Auditors' Report.......................................................... F-2
Consolidated Statements of Financial Position as of March 31, 1998 (unaudited),
December 31, 1997 and 1996.......................................................... F-3
Consolidated Statements of Operations for the three months ended March 31, 1998 and
1997 (unaudited) and for the years ended December 31, 1997 and 1996 and for the
period from August 28, 1995 (inception) to December 31, 1995........................ F-4
Consolidated Statements of Stockholders' Equity (Deficit) for the years ended December
31, 1997 and 1996 and for the period from August 28, 1995 (inception) to December
31, 1995............................................................................ F-5
Consolidated Statements of Cash Flows for the three months ended March 31, 1998 and
1997 (unaudited) and for the years ended December 31, 1997 and 1996 and for the
period from August 28, 1995 (inception) to December 31, 1995........................ F-6
Notes to Consolidated Financial Statements............................................ F-7
</TABLE>
F-1
<PAGE>
INDEPENDENT AUDITORS' REPORT
Board of Directors and Stockholders
U.S. Franchise Systems, Inc.:
We have audited the accompanying consolidated statements of financial
position of U.S. Franchise Systems, Inc. and subsidiaries (the "Company") as of
December 31, 1997 and 1996 and the related consolidated statements of
operations, stockholders' equity (deficit), and cash flows for the years ended
December 31, 1997 and 1996 and for the period from August 28, 1995 (inception)
to December 31, 1995. 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 the Company at December 31,
1997 and 1996 and the results of its operations and its cash flows for the years
ended December 31, 1997 and 1996 and for the period from August 28, 1995
(inception) to December 31, 1995 in conformity with generally accepted
accounting principles.
/s/ DELOITTE & TOUCHE LLP
Atlanta, Georgia
February 20, 1998 (April 28, 1998 as to Note 14)
F-2
<PAGE>
U.S. FRANCHISE SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF FINANCIAL POSITION
<TABLE>
<CAPTION>
DECEMBER 31,
--------------------------
1997 1996
MARCH 31, 1998 ------------ ------------
--------------
(UNAUDITED)
<S> <C> <C> <C>
ASSETS
CURRENT ASSETS:
Cash and temporary cash investments............................................... $ 16,286,000 $ 15,890,000 $ 31,188,000
Accounts receivable (net allowance for doubtful accounts of $17,000, $17,000 and
$45,000 as of March 31, 1998, and December 31, 1997 and 1996, respectively)..... 998,000 268,000 114,000
Deposits.......................................................................... 340,000 114,000 93,000
Prepaid expenses.................................................................. 713,000 602,000 494,000
Promissory notes receivable....................................................... 709,000 862,000 784,000
Deferred commissions.............................................................. 2,524,000 2,563,000 1,261,000
-------------- ------------ ------------
Total current assets.............................................................. 21,570,000 20,299,000 33,934,000
PROMISSORY NOTES RECEIVABLE......................................................... 3,689,000 2,869,000 390,000
PROPERTY AND EQUIPMENT--Net......................................................... 7,098,000 5,595,000 292,000
FRANCHISE RIGHTS--Net............................................................... 21,756,000 3,322,000 3,264,000
DEFERRED COMMISSIONS................................................................ 3,804,000 3,049,000 1,492,000
OTHER ASSETS--Net................................................................... 1,222,000 1,217,000 733,000
-------------- ------------ ------------
Total assets...................................................................... $ 59,139,000 $ 36,351,000 $ 40,105,000
-------------- ------------ ------------
-------------- ------------ ------------
LIABILITIES AND STOCKHOLDERS EQUITY
CURRENT LIABILITIES:
Accounts payable.................................................................. $ 656,000 $ 1,138,000 $ 679,000
Commissions payable............................................................... 764,000 1,171,000 837,000
Deferred application fees......................................................... 4,143,000 4,402,000 2,916,000
Accrued expenses.................................................................. 2,135,000 990,000 1,110,000
Due to Hudson Hotels Corporation.................................................. 454,000 454,000 277,000
-------------- ------------ ------------
Total current liabilities......................................................... 8,152,000 8,155,000 5,819,000
DUE TO HUDSON HOTELS CORPORATION.................................................... -- -- 454,000
DEFERRED APPLICATION FEES........................................................... 5,534,000 4,586,000 2,749,000
SUBORDINATED DEBENTURES............................................................. 19,655,000 19,412,000 --
-------------- ------------ ------------
Total liabilities................................................................. 33,341,000 32,153,000 9,022,000
REDEEMABLE STOCK:
Preferred shares, par value $0.01 per share; authorized 525,000 shares; issued and
outstanding 163,500 shares; cumulative exchangeable (entitled in liquidation to
$18,477,000 at December 31, 1996)............................................... -- -- 18,477,000
Common Shares, par value $0.01 per share; issued and outstanding 3,128,473 (net of
58,807 shares in Treasury) at March 31, 1998 and December 31, 1997 and 3,186,280
at December 31, 1996 entitled to redemption under certain circumstances at
$324,000, $324,000 and $330,000 (net of $6,000 in Treasury at March 31, 1998 and
December 31, 1997) at March 31, 1998, December 31, 1997 and December 31, 1996,
respectively.................................................................... 324,000 324,000 330,000
COMMITMENTS AND CONTINGENCIES (Notes 5 and 12)
STOCKHOLDERS' EQUITY:
Common shares, par value $0.01 per share; authorized 30,000,000 shares of Class A
Common Stock and 5,000,000 shares of Class B Common Stock; issued and
outstanding 9,438,721 Class A shares and 2,707,919 Class B shares at March 31,
1998; issued and outstanding 6,716,499 Class A shares and 2,707,919 Class B
shares at December 31, 1997; issued and outstanding 6,686,196 Class A shares and
2,707,919 Class B shares at December 31, 1996................................... 124,000 96,000 96,000
Capital in excess of par.......................................................... 44,519,000 21,092,000 20,547,000
Accumulated deficit............................................................... (19,169,000) (17,314,000) (8,367,000)
-------------- ------------ ------------
Total Stockholders' Equity.......................................................... 25,474,000 3,874,000 12,276,000
-------------- ------------ ------------
$ 59,139,000 $ 36,351,000 $ 40,105,000
-------------- ------------ ------------
-------------- ------------ ------------
</TABLE>
See notes to consolidated financial statements.
F-3
<PAGE>
U.S. FRANCHISE SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
PERIOD FROM
THREE MONTHS THREE MONTHS YEAR ENDED YEAR ENDED AUGUST 28, 1995
ENDED ENDED DECEMBER 31, DECEMBER 31, (INCEPTION) TO
MARCH 31, 1998 MARCH 31, 1997 1997 1996 DECEMBER 31, 1995
-------------- -------------- ------------- ------------- -----------------
<S> <C> <C> <C> <C> <C>
(UNAUDITED)
REVENUES:
Marketing and reservation
fees....................... $ 582,000 $ 376,000 $ 1,921,000 $ 1,197,000 $ --
Franchise application and
royalty fees............... 1,067,000 136,000 1,610,000 20,000 --
Other........................ 334,000 33,000 417,000 75,000 --
-------------- -------------- ------------- ------------- -----------------
1,983,000 545,000 3,948,000 1,292,000 --
-------------- -------------- ------------- ------------- -----------------
EXPENSES:
Marketing and reservations... 653,000 461,000 2,058,000 1,597,000 13,000
Royalties paid to third
parties.................... 87,000 11,000 158,000 1,000 --
Franchise sales
commissions................ 313,000 72,000 641,000 29,000 --
Other franchise sales and
advertising................ 875,000 851,000 3,461,000 2,714,000 550,000
Other general and
administrative............. 1,477,000 1,436,000 5,487,000 3,750,000 638,000
Depreciation and
amortization............... 210,000 132,000 571,000 537,000 126,000
-------------- -------------- ------------- ------------- -----------------
3,615,000 2,963,000 12,376,000 8,628,000 1,327,000
-------------- -------------- ------------- ------------- -----------------
LOSS FROM OPERATIONS........... (1,632,000) (2,418,000) (8,428,000) (7,336,000) (1,327,000)
OTHER INCOME (EXPENSE):
Interest income.............. 229,000 383,000 1,386,000 871,000 195,000
Interest expense............. (452,000) (480,000) (1,905,000) (126,000) (36,000)
-------------- -------------- ------------- ------------- -----------------
NET LOSS....................... $ (1,855,000) $ (2,515,000) $ (8,947,000) $ (6,591,000) $ (1,168,000)
-------------- -------------- ------------- ------------- -----------------
-------------- -------------- ------------- ------------- -----------------
LOSS APPLICABLE TO COMMON
STOCKHOLDERS................. $ (1,855,000) $ (2,515,000) $ (8,947,000) $ (8,309,000) $ (1,577,000)
-------------- -------------- ------------- ------------- -----------------
-------------- -------------- ------------- ------------- -----------------
WEIGHTED AVERAGE NUMBER OF
COMMON SHARES OUTSTANDING.... 13,094,249 12,580,395 12,563,772 11,059,576 10,755,409
-------------- -------------- ------------- ------------- -----------------
-------------- -------------- ------------- ------------- -----------------
NET LOSS APPLICABLE TO COMMON
STOCKHOLDERS PER
SHARE-BASIC.................. $ (0.14) $ (0.20) $ (0.71) $ (0.75) $ (0.15)
-------------- -------------- ------------- ------------- -----------------
-------------- -------------- ------------- ------------- -----------------
</TABLE>
See notes to consolidated financial statements.
F-4
<PAGE>
U.S. FRANCHISE SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
<TABLE>
<CAPTION>
COMMON STOCK CAPITAL
-------------------------- IN EXCESS ACCUMULATED
SHARES AMOUNT OF PAR DEFICIT
-------------- ---------- -------------- ---------------
<S> <C> <C> <C> <C>
BALANCE AS OF AUGUST 28, 1995.......................... -- $ -- $ -- $ --
Issuance of common stock............................... 7,569,115 78,000 637,000 --
Undeclared dividends on redeemable preferred stock..... -- -- (409,000) --
Net loss............................................... -- -- -- (1,168,000)
-------------- ---------- -------------- ---------------
BALANCE AS OF DECEMBER 31, 1995........................ 7,569,115 78,000 228,000 (1,168,000)
Redemption of capital stock--other management.......... (1,149,502) (11,000) (108,000) --
Issuance of capital stock--other management............ 1,149,502 11,000 111,000 --
Issuance of capital stock--initial public offering
proceeds, net........................................ 1,825,000 18,000 21,373,000 --
Undeclared dividends on redeemable preferred stock..... -- -- (1,110,000) (608,000)
Fair value of options granted.......................... -- -- 53,000 --
Net loss............................................... -- -- -- (6,591,000)
-------------- ---------- -------------- ---------------
BALANCE AS OF DECEMBER 31, 1996........................ 9,394,115 96,000 20,547,000 (8,367,000)
Issuance of capital stock--acquisition of computer
software............................................. 30,303 -- 250,000 --
Fair value of options granted.......................... -- -- 295,000 --
Net loss............................................... -- -- -- (8,947,000)
-------------- ---------- -------------- ---------------
BALANCE AS OF DECEMBER 31, 1997........................ 9,424,418 96,000 21,092,000 (17,314,000)
Issuance of capital stock--acquisition of Hawthorn
franchise rights (unaudited)......................... 2,222,222 23,000 17,754,000 --
Issuance of capital stock--Development Fund
(unaudited).......................................... 500,000 5,000 5,620,000 --
Fair value of options granted (unaudited).............. -- -- 53,000 --
Net loss (unaudited)................................... -- -- -- (1,855,000)
-------------- ---------- -------------- ---------------
BALANCE AS OF MARCH 31, 1998 (UNAUDITED)............... 12,146,640 $ 124,000 $ 44,519,000 $ (19,169,000)
-------------- ---------- -------------- ---------------
-------------- ---------- -------------- ---------------
<CAPTION>
TOTAL
SHAREHOLDERS'
EQUITY
(DEFICIT)
---------------
<S> <C>
BALANCE AS OF AUGUST 28, 1995.......................... $ --
Issuance of common stock............................... 715,000
Undeclared dividends on redeemable preferred stock..... (409,000)
Net loss............................................... (1,168,000)
---------------
BALANCE AS OF DECEMBER 31, 1995........................ (862,000)
Redemption of capital stock--other management.......... (119,000)
Issuance of capital stock--other management............ 122,000
Issuance of capital stock--initial public offering
proceeds, net........................................ 21,391,000
Undeclared dividends on redeemable preferred stock..... (1,718,000)
Fair value of options granted.......................... 53,000
Net loss............................................... (6,591,000)
---------------
BALANCE AS OF DECEMBER 31, 1996........................ 12,276,000
Issuance of capital stock--acquisition of computer
software............................................. 250,000
Fair value of options granted.......................... 295,000
Net loss............................................... (8,947,000)
---------------
BALANCE AS OF DECEMBER 31, 1997........................ 3,874,000
Issuance of capital stock--acquisition of Hawthorn
franchise rights (unaudited)......................... 17,777,000
Issuance of capital stock--Development Fund
(unaudited).......................................... 5,625,000
Fair value of options granted (unaudited).............. 53,000
Net loss (unaudited)................................... (1,855,000)
---------------
BALANCE AS OF MARCH 31, 1998 (UNAUDITED)............... $ 25,474,000
---------------
---------------
</TABLE>
See notes to consolidated financial statements.
F-5
<PAGE>
U.S. FRANCHISE SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
PERIOD FROM
THREE MONTHS THREE MONTHS YEAR ENDED YEAR ENDED AUGUST 28, 1995
ENDED ENDED DECEMBER 31, DECEMBER 31, (INCEPTION) TO
MARCH 31, 1998 MARCH 31, 1997 1997 1996 DECEMBER 31, 1995
----------------- ----------------- ------------ ------------ -----------------
<S> <C> <C> <C> <C> <C>
(UNAUDITED)
OPERATING ACTIVITIES:
Net loss.................................... $ (1,855,000) $ (2,515,000) $(8,947,000) $(6,591,000) $(1,168,000)
Adjustments to reconcile net loss to net
cash used in operating activities:
Depreciation and amortization............. 210,000 132,000 571,000 537,000 126,000
Deferred compensation amortization........ 53,000 73,000 295,000 53,000 --
Changes in assets and liabilities:
Increase in deposit and accounts
receivable.............................. (956,000) (19,000) (175,000) (120,000) (87,000)
Increase in prepaid expenses.............. (169,000) (99,000) (341,000) (329,000) (457,000)
Increase in promissory notes receivable... (667,000) 29,000 (2,557,000) (1,174,000) --
Increase in deferred commissions.......... (716,000) (420,000) (2,859,000) (2,712,000) (41,000)
Increase in other assets.................. (23,000) (25,000) (548,000) (560,000) (230,000)
Increase in accounts payable.............. (482,000) (375,000) 459,000 478,000 201,000
Increase (decrease) in accrued expenses... 1,145,000 372,000 (120,000) 1,045,000 65,000
Increase in commissions payable........... (407,000) (393,000) 334,000 815,000 22,000
Increase in deferred application fees..... 689,000 328,000 3,323,000 5,545,000 120,000
Increase in subordinated debentures paid
in kind................................. 243,000 231,000 935,000 -- --
----------------- ----------------- ------------ ------------ -----------------
Net cash used in operating activities... (2,935,000) (2,681,000) (9,630,000) (3,013,000) (1,449,000)
INVESTING ACTIVITIES:
Acquisition of property and equipment....... (1,545,000) (40,000) (5,162,000) (263,000) (62,000)
Acquisition of franchise rights............. (748,000) -- (223,000) (117,000) (1,991,000)
----------------- ----------------- ------------ ------------ -----------------
Net cash used in investing activities..... (2,293,000) (40,000) (5,385,000) (380,000) (2,053,000)
FINANCING ACTIVITIES:
Issuance of redeemable preferred stock...... -- -- -- -- 16,350,000
Issuance of common stock, net............... 5,624,000 -- -- 21,513,000 1,045,000
Redemption of common stock.................. -- -- (6,000) (119,000) --
Principal payments on borrowings............ -- -- (277,000) (706,000) --
----------------- ----------------- ------------ ------------ -----------------
Net cash provided by (used in) financing
activities.............................. 5,624,000 -- (283,000) 20,688,000 17,395,000
----------------- ----------------- ------------ ------------ -----------------
NET INCREASE (DECREASE) IN CASH AND TEMPORARY
CASH INVESTMENTS............................ $ 396,000 $ (2,721,000) ($15,298,000) $17,295,000 $13,893,000
CASH AND TEMPORARY INVESTMENTS
Beginning of period......................... 15,890,000 31,188,000 31,188,000 13,893,000 --
----------------- ----------------- ------------ ------------ -----------------
End of period............................... $ 16,286,000 $ 28,467,000 $15,890,000 $31,188,000 $13,893,000
----------------- ----------------- ------------ ------------ -----------------
----------------- ----------------- ------------ ------------ -----------------
SUPPLEMENTAL DISCLOSURE OF CASH FLOW
INFORMATION
Cash paid for interest...................... -- -- $1,009,000 $ 144,000 --
----------------- ----------------- ------------ ------------ -----------------
----------------- ----------------- ------------ ------------ -----------------
Noncash activities:
Undeclared dividends accrued on redeemable
preferred stock......................... -- -- -- $1,718,000 $ 409,000
Issuance of 2,222,222 shares for
acquisition of Hawthorn franchise
rights.................................. $ 17,777,000 -- -- -- --
----------------- ----------------- ------------ ------------ -----------------
Total............................... $ 17,777,000 -- -- $1,718,000 $ 409,000
----------------- ----------------- ------------ ------------ -----------------
----------------- ----------------- ------------ ------------ -----------------
Portion of purchase price due to Hudson
Hotels Corporation in future years,
discounted at 10%......................... -- $ 454,000 -- -- $ 1,437,000
----------------- ----------------- ------------ ------------ -----------------
----------------- ----------------- ------------ ------------ -----------------
Issuance of 30,303 shares for reservations
system software........................... -- -- $ 250,000 -- --
----------------- ----------------- ------------ ------------ -----------------
----------------- ----------------- ------------ ------------ -----------------
</TABLE>
See notes to consolidated financial statements.
F-6
<PAGE>
U.S. FRANCHISE SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
AS OF DECEMBER 31, 1997 AND 1996 AND FOR THE YEARS
ENDED DECEMBER 31, 1997 AND 1996 AND FOR THE PERIOD
FROM AUGUST 28, 1995 (INCEPTION) TO DECEMBER 31, 1995
1. BASIS OF PRESENTATION AND ORGANIZATION
U.S. Franchise Systems, Inc. (the "Company") was incorporated under the laws
of the State of Delaware on August 28, 1995 to acquire, market, and license
distinct franchise brands principally within the United States. The consolidated
financial statements include the accounts of the Company and the following
wholly owned subsidiaries: (i) Microtel Inns and Suites Franchising, Inc.
("Microtel") (and its wholly owned subsidiaries Microtel International, Inc. and
Microtel Inns Realty Corp. ("MIRC") (and its wholly owned subsidiaries Tempe
Inns Realty Corp., Chandler Inns Realty Corp., Tempe Holdings, LLC, and Chandler
Holdings, LLC)); (ii) Hawthorn Suites Franchising, Inc. ("HSF"); (iii) US
Funding Corp. ("US Funding"); and (iv) U.S. Franchise Capital, Inc. The
consolidated financial statements also include the accounts of the marketing and
reservation funds of the Microtel and Hawthorn hotel systems. All significant
intercompany balances and transactions have been eliminated in consolidation.
On October 24, 1996, the Company completed an initial public offering of
1,825,000 shares of Class A Common Stock at $13.50 per share (the "Offering").
Net proceeds to the Company from the Offering were approximately $21,391,000.
Had the Offering occurred on January 1, 1996, pro forma loss applicable to
common stockholders per share would have been $.66 for the year ended December
31, 1996. Pro forma weighted average shares of 12,580,409 are assumed
outstanding for purposes of the pro forma loss applicable to common stockholder
per share calculation.
MICROTEL INNS AND SUITES FRANCHISING, INC.
On September 7, 1995, the Company entered into an agreement (the "Microtel
Agreement") with Hudson Hotels Corporation ("Hudson") to acquire the exclusive
worldwide franchising rights and operating assets of the Microtel hotel system
(the "Microtel Acquisition") for $3,037,000. The Company paid $1,600,000 at
closing and agreed to pay $1,437,000 (see Note 6) over a three year period with
interest at 10%. The Company also agreed to pay $700,000 for consulting
services, $400,000 of which was paid at closing, with $150,000 payable in each
of 1996 and 1997. As of December 31, 1997, the Company had made all required
payments for consulting services. As part of the Microtel Agreement, the Company
received warrants to purchase 100,000 common shares of Hudson through September
1, 2000 at an exercise price of $8.375 per share. The Microtel Agreement
requires the Company to pay a royalty for the right to use, and license others
to use, certain trademarks, service marks, and trade names (the "Microtel
Proprietary Marks") associated with the Microtel hotel system (see Note 12).
The Company did not acquire physical facilities, employee base, sales force,
production techniques, or an existing customer base in conjunction with the
acquisition of the worldwide Microtel franchising rights.
Pursuant to a Trademark, Service Mark, and System License Agreement (the
"Microtel License Agreement"), the Company granted to Microtel the exclusive
right to use, and license others to use, the Microtel Proprietary Marks in
connection with the operation of hotels under the Microtel hotel system.
MICROTEL INNS REALTY CORP.
MIRC, a Georgia corporation, is a wholly owned subsidiary of Microtel
incorporated on January 30, 1997. This subsidiary, and its wholly owned
subsidiaries Tempe Inns Realty Corp., Chandler Inns Realty Corp., Tempe
Holdings, LLC, and Chandler Holdings, LLC, acquire and develop real estate. The
F-7
<PAGE>
U.S. FRANCHISE SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
AS OF DECEMBER 31, 1997 AND 1996 AND FOR THE YEARS
ENDED DECEMBER 31, 1997 AND 1996 AND FOR THE PERIOD
FROM AUGUST 28, 1995 (INCEPTION) TO DECEMBER 31, 1995
1. BASIS OF PRESENTATION AND ORGANIZATION (CONTINUED)
Company intends to construct hotels on this real estate and subsequently sell
these hotel properties upon completion of construction. In the event that a
hotel is not sold upon completion of construction, MIRC would be responsible for
managing or causing the management of the property until a sale occurs. There
can be no assurance that MIRC will find a buyer for any or all of the
properties.
HAWTHORN SUITES FRANCHISING, INC.
On March 27, 1996, the Company entered into an agreement with HSA
Properties, LLC ("HSA") to acquire the exclusive worldwide franchising rights
with respect to the Hawthorn hotel system (the "Hawthorn Agreement"). The
Company made no payment to HSA at closing but agreed to remit to HSA all
royalties the Company actually receives for then existing Hawthorn franchises
and a portion of the royalties the Company actually receives from future
Hawthorn franchisees.
Pursuant to a Trademark, Service Mark, and System License Agreement which
expires in April 1998 (the "Hawthorn License Agreement"), the Company granted to
HSF the exclusive right to use, and license others to use, the Hawthorn
Proprietary Marks in connection with the Hawthorn hotel system (see Notes 12 and
15).
MARKETING AND RESERVATION FUNDS
Marketing and reservation fees are collected from franchisees and used at
the Company's discretion to develop, support, and enhance the reservation
systems and marketing programs of the Microtel and Hawthorn hotel systems. The
related revenues and expenses are reported gross in the accompanying financial
statements.
QUARTERLY FINANCIAL INFORMATION
The accompanying unaudited interim financial statements as of March 31, 1998
and for the three months ended March 31, 1998 and 1997 reflect, in the opinion
of management, all adjustments necessary for a fair presentation of the interim
financial statements. All such adjustments are of a normal and recurring nature.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
APPLICATION FEE REVENUE AND RELATED COSTs--Initial franchise fee revenue
consists of application fees received by the Company's subsidiaries from
prospective franchisees. Such fees are recognized in income when the underlying
hotels open for business. Related franchise sales commissions are deferred until
the underlying hotels open for business, at which time such costs are charged to
expense.
F-8
<PAGE>
U.S. FRANCHISE SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
AS OF DECEMBER 31, 1997 AND 1996 AND FOR THE YEARS
ENDED DECEMBER 31, 1997 AND 1996 AND FOR THE PERIOD
FROM AUGUST 28, 1995 (INCEPTION) TO DECEMBER 31, 1995
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
CASH AND TEMPORARY CASH INVESTMENTS--The Company considers its investments
with an original maturity of three months or less to be cash equivalents. "Cash
and temporary cash investments" consisted of the following at December 31, 1997
and 1996, respectively:
<TABLE>
<CAPTION>
1997 1996
------------- -------------
<S> <C> <C>
Cash in bank deposit........................................... $ 1,523,000 $ 2,355,000
Money market funds............................................. 14,367,000 28,833,000
------------- -------------
$ 15,890,000 $ 31,188,000
------------- -------------
------------- -------------
</TABLE>
ALLOWANCE FOR DOUBTFUL ACCOUNTS--During the years ended December 31, 1997
and 1996, the Company charged $10,000 and $46,000 as an allowance for estimated
uncollectible accounts, respectively, and reduced the allowance by $39,000
during 1997.
FRANCHISE RIGHTS--Franchise rights represent the cost of acquiring such
rights and are amortized on a straight-line basis over twenty-five years.
Accumulated amortization is $447,000 and $281,000 at December 31, 1997 and 1996,
respectively.
OTHER ASSETS--Other assets primarily consist of development subsidies
(amortized over the life of the license agreement upon the hotel opening),
architectural drawings and renderings (amortized over fifteen years), US Funding
Corp. loan participations, and organization and start-up costs (amortized over
five years). Other assets consisted of the following at December 31, 1997 and
1996:
<TABLE>
<CAPTION>
1997 1996
------------ ----------
<S> <C> <C>
US Funding Corp. loan participation..................................................... $ 433,000
Architectural plans and renderings--net of accumulated amortization of $47,000 and
$18,000, respectively................................................................. $ 383,000 $ 397,000
Development subsidies--net of accumulated amortization of $2,000 and zero,
respectively.......................................................................... $ 107,000 $ 49,000
Other--net of accumulated amortization of $72,000 and $39,000,
respectively.......................................................................... $ 294,000 $ 287,000
------------ ----------
$ 1,217,000 $ 733,000
------------ ----------
------------ ----------
</TABLE>
IMPAIRMENT OF LONG-LIVED ASSETS--The Company has adopted Statement of
Financial Accounting Standards ("SFAS") 121, "Accounting for the Impairment of
Long-Lived Assets and Long-Lived Assets to Be Disposed of," as of January 1,
1996. Long-lived assets, principally intangibles, are evaluated quarterly and
written down to fair value when management believes that the unamortized balance
cannot be recovered through future undiscounted cash flows. No assets were
written down to fair value during the years ended December 31, 1997 and 1996,
respectively.
INCOME TAXES--The Company has adopted the provisions of SFAS 109,
"Accounting for Income Taxes," which requires the use of the asset and liability
approach in accounting for income taxes.
F-9
<PAGE>
U.S. FRANCHISE SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
AS OF DECEMBER 31, 1997 AND 1996 AND FOR THE YEARS
ENDED DECEMBER 31, 1997 AND 1996 AND FOR THE PERIOD
FROM AUGUST 28, 1995 (INCEPTION) TO DECEMBER 31, 1995
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
FAIR VALUE OF FINANCIAL INSTRUMENTS--The carrying amounts of cash and cash
equivalents, trade and notes receivables, other current assets, accounts
payable, accrueds, and notes payable meeting the definition of a financial
instrument approximate fair value.
STOCK-BASED COMPENSATION PLANS--The Company has elected to account for its
Stock Option plans in accordance with SFAS 123, "Accounting for Stock-Based
Compensation." Under the provisions of SFAS 123, compensation is recognized for
the fair value of options granted over the vesting period.
EARNINGS PER SHARE--In February 1997, the Financial Accounting Standards
Board issued SFAS 128, "Earnings per Share," which simplifies the standards for
computing earnings per share (EPS) information and makes the computation
comparable to international EPS standards. SFAS 128 replaces the presentation of
"primary" (and when required "fully diluted") EPS with a presentation of "basic"
and diluted EPS. Net income per share basic is computed based on net income
divided by the weighted average common shares outstanding. If required, on a
diluted basis, net income per share -diluted is computed by dividing net income
by the weighted average common and common shares during the year plus the
incremental shares that would have been outstanding under stock option plans.
MANAGEMENT ESTIMATES--The preparation of financial statements in conformity
with generally accepted accounting principles requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those estimates.
RECLASSIFICATIONS--Certain amounts in the prior year financial statements
have been reclassified to conform with the 1997 financial statement
presentation.
3. REDEEMABLE PREFERRED STOCK AND SUBORDINATED DEBENTURES
Until December 31, 1996, the cumulative redeemable exchangeable preferred
stock (the "Redeemable Preferred Stock") earned cumulative dividends at an
annual dividend rate of 10%, payable in additional shares of Redeemable
Preferred Stock.
On January 1, 1997, the Company exercised its option to exchange the
Redeemable Preferred Stock at its liquidation value of $18,477,000 into 10%
subordinated debentures due September 29, 2007 (the "Subordinated Debentures").
The Company is required to pay interest expense by issuing additional
Subordinated Debentures for 50% of the expense with the remaining 50% to be paid
in cash. Interest is payable semi-annually on the last business day in June and
December of each year. If Mr. Michael A. Leven's employment with the Company
terminates for any reason or the Company were to experience a change of control,
the Company would be obligated to redeem all outstanding Subordinated
Debentures.
F-10
<PAGE>
U.S. FRANCHISE SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
AS OF DECEMBER 31, 1997 AND 1996 AND FOR THE YEARS
ENDED DECEMBER 31, 1997 AND 1996 AND FOR THE PERIOD
FROM AUGUST 28, 1995 (INCEPTION) TO DECEMBER 31, 1995
4. PROPERTY AND EQUIPMENT
Property and equipment is recorded at historical cost and consisted of the
following at December 31, 1997 and 1996, respectively:
<TABLE>
<CAPTION>
1997 1996
------------ ----------
<S> <C> <C>
Land................................................................ $ 1,847,000 $
Construction-in-progress............................................ 2,339,000
Furniture and fixtures.............................................. 175,000 124,000
Computer equipment and software..................................... 1,273,000 144,000
Truck............................................................... 25,000
Office equipment.................................................... 76,000 56,000
------------ ----------
5,735,000 342,000
Less accumulated depreciation....................................... 140,000 32,000
------------ ----------
$ 5,595,500 $ 292,000
------------ ----------
------------ ----------
</TABLE>
Computer software is depreciated on a straight-line basis over a period of
three years. Computer equipment is depreciated using the 200% declining-balance
method over a period of five years. The truck is depreciated on a straight-line
basis over eighteen months. The remaining fixed assets are depreciated using the
200% declining-balance method over a period of seven years. Depreciation expense
was $108,000, $30,000 and $2,000 for the years ended December 31, 1997 and 1996,
and the period from August 28, 1995 (inception) to December 31, 1995,
respectively. Included within property and equipment is capitalized interest of
$32,000 at December 31, 1997.
5. LEASES
The Company leases certain equipment and office space used in its
operations. Rental expense under operating leases was $366,000, $231,000 and
$41,000 for the years ended December 31, 1997 and 1996 and the period from
August 28, 1995 (inception) to December 31, 1995, respectively. The future
minimum rental commitments under non-cancelable operating leases at December 31,
1997 were as follows:
<TABLE>
<S> <C>
1998............................................................ $ 356,000
1999............................................................ 332,000
2000............................................................ 241,000
2001............................................................ 75,000
2002............................................................ 46,000
---------
Total........................................................... $1,050,000
---------
---------
</TABLE>
F-11
<PAGE>
U.S. FRANCHISE SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
AS OF DECEMBER 31, 1997 AND 1996 AND FOR THE YEARS
ENDED DECEMBER 31, 1997 AND 1996 AND FOR THE PERIOD
FROM AUGUST 28, 1995 (INCEPTION) TO DECEMBER 31, 1995
6. DUE TO HUDSON HOTELS CORPORATION
The Company is required to pay Hudson $1,437,000 ($1,700,000 discounted at a
rate of 10%) of which $454,000 remains payable as of December 31, 1997 for the
assets of the Microtel hotel system (see Note 1) and is payable on October 5,
annually, as follows:
<TABLE>
<CAPTION>
PAYABLE AS OF PAYABLE AS OF
DECEMBER 31, 1997 DECEMBER 31, 1996
----------------- -----------------
<S> <C> <C>
1997................................................... $ -- $ 277,000
1998................................................... 454,000 454,000
-------- --------
454,000 731,000
Less current portion................................... 454,000 277,000
-------- --------
$ -- $ 454,000
-------- --------
-------- --------
</TABLE>
7. PREPAID EXPENSES
Pursuant to the Microtel Agreement, Hudson is required, for a period of
three years, to consult with and assist in establishing the Company as an
operating entity in the business of selling and administering franchises
utilizing the Microtel hotel system. An initial payment in the amount of
$400,000 was made to Hudson in October 1995 and recorded as a deferred expense.
The Company paid its remaining obligation of $150,000 in 1997 in connection with
such consulting arrangements. Such amounts are being amortized over the term of
the Microtel Agreement. Amortization expense of $233,000, $233,000 and $58,000
was charged to expense for the years ended December 31, 1997 and 1996 and for
the period from August 28, 1995 (inception) to December 31, 1995, respectively.
8. STOCK PURCHASED BY EMPLOYEES
On October 5, 1995, as part of the initial capitalization of the Company,
two of its officers (the "Original Management Investors") purchased 5,485,259
shares of common stock (51% of the total issued) pursuant to employee stock
purchase agreements (as amended, the "Employee Stock Purchase Agreements") for
an aggregate purchase price of $567,245 or $.1034 per share. In conjunction with
the Offering, the Employee Stock Purchase Agreements were amended to revise the
vesting requirements with respect to 50% of the Restricted Shares (as
hereinafter defined) (approximately 13% of the Common Stock outstanding before
the Offering). Such Restricted Shares were deemed earned and vested
notwithstanding the fact that performance criteria were not yet met by the
Company. Pursuant to the terms of the Employee Stock Purchase Agreements, in
February 1996, the Company redeemed 826,833 shares, consisting of 608,359
Unrestricted Shares and 218,474 Restricted Shares (collectively, the
"Transferable Shares"), from the Original Management Investors at $.1034 per
share and resold such shares to other members of management, each of whom signed
Employee Stock Purchase Agreements, at the estimated fair value at that time of
$.1034 per share. In April 1996, the Company redeemed 322,669 Transferable
Shares from certain other management at $.1034 per share and subsequently resold
such shares to the same members of other management at the estimated fair value
at that time of $.1137 per share.
F-12
<PAGE>
U.S. FRANCHISE SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
AS OF DECEMBER 31, 1997 AND 1996 AND FOR THE YEARS
ENDED DECEMBER 31, 1997 AND 1996 AND FOR THE PERIOD
FROM AUGUST 28, 1995 (INCEPTION) TO DECEMBER 31, 1995
8. STOCK PURCHASED BY EMPLOYEES (CONTINUED)
As of December 31, 1996, 4,087,054 shares were unrestricted (the
"Unrestricted Shares") and 1,398,205 shares were restricted (the "Restricted
Shares").
As of December 31, 1997, the numbers of Unrestricted Shares and Restricted
Shares were 4,056,133 and 1,371,319, respectively. The decrease in the number of
Unrestricted and Restricted Shares during 1997 is attributable to the repurchase
by the Company of 30,921 Unrestricted and 26,886 Restricted Shares from two
management employees who left the Company during 1997 (collectively, the
"Forfeit Shares"). The Company repurchased 38,990 and 18,817 Forfeit Shares at
$.1034 and $.1137 per share, respectively, pursuant to the terms of the
departing management employees' respective Employee Stock Purchase Agreements.
As of December 31, 1997 the 57,807 Forfeit Shares are held by the Company as
treasury stock. Pursuant to the terms of their respective Employee Stock
Purchase Agreements, the Original Management Investors had the right to
purchase, at any time, the Forfeit Shares from the Company at the original price
paid by the Original Management Investors (as adjusted). However, as of December
10, 1997, the Original Management Investors have permanently declined their
option to purchase such Forfeit Shares held as Treasury Stock.
Pursuant to the terms of their respective Employee Stock Purchase
Agreements, all members of management who own Transferable Shares must vote such
shares in the same manner as the Original Management Investors vote their
shares. Unrestricted Shares and Restricted Shares are subject to five year and
ten year vesting periods, respectively, subject to, among other things, the
management employee's continued employment by the Company. Any Transferable
Shares which are forfeited will be repurchased by the Company and will be
reoffered to the Original Management Investors at $.1034 or $.1137 per share, as
applicable, based on the price paid by the management employee for the forfeited
shares. Compensation expense will be recorded to the extent the fair value of
the reoffered shares exceeds $.1034 or $.1137, as applicable.
All Restricted Shares are subject to an earnings test formula based upon
increases in the Company's earnings before interest, taxes, and depreciation and
are deemed earned upon the satisfaction of these performance criteria (the
"Earned Shares"). Earned Shares are subject to forfeiture if the holder's
employment ceases with the Company before September 29, 2005. Any Restricted
Shares that have not been earned by September 29, 2005 will be redeemed by the
Company and reissued to the original stockholders of the Company (other than the
Original Management Investors) pro rata based on their original holdings of
common stock. Restricted Shares held by the Original Management Investors and
all Transferable Shares held by other members of management have been classified
as redeemable common stock in the balance sheet because they are redeemable by
the Company under certain circumstances for reasons not under the Company's
control.
In the event that substantially all of the Company's stock or assets are
transferred or sold, or upon a business combination, Earned Shares automatically
become Unrestricted Shares. In addition, any remaining Restricted Shares at the
time of a merger or sale of the Company become Unrestricted Shares to the extent
that the then value of the Company results in an internal rate of return to the
original stockholders of the Company of 40% compounded annually.
F-13
<PAGE>
U.S. FRANCHISE SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
AS OF DECEMBER 31, 1997 AND 1996 AND FOR THE YEARS
ENDED DECEMBER 31, 1997 AND 1996 AND FOR THE PERIOD
FROM AUGUST 28, 1995 (INCEPTION) TO DECEMBER 31, 1995
9. COMMON STOCK
On October 11, 1996, the stockholders approved the creation of two classes
of common stock: Class A Common Stock, par value $.01 per share and Class B
Common Stock, par value $.01 per share. The stockholders also agreed to split
and reclassify each share of the Company's existing common stock, par value $.10
per share, into 9.67 shares of Class A Common Stock. In connection with the
reclassification, certain members of management and related stockholders holding
2,707,919 shares of Class A Common Stock exchanged such shares for the same
number of shares of Class B Common Stock. Shares of Class A Common Stock and
Class B Common Stock are identical in all respects except that: (i) holders of
Class B Common Stock are entitled to ten votes per share and holders of Class A
Common Stock are entitled to one vote per share; and (ii) the shares of Class B
Common Stock are convertible into Class A Common Stock at the option of the
holder and, with limited exceptions, upon the transfer thereof. Following the
reclassification, there were 30 million shares of Class A Common Stock and 5
million shares of Class B Common Stock authorized for issuance. All references
in the financial statements to the number of shares and per share amounts of the
Company's common stock have been retroactively restated to reflect the increased
number of common shares outstanding.
10. STOCK OPTION PLANS
The Company has two stock option plans which reserve shares of Class A
Common Stock for officers, employees, consultants and advisors of the Company
(the "Employee Plan") and for its non-employee directors (the "Directors Plan").
Under the Employee Plan, the Option Committee of the Board of Directors may
grant options to Company employees for up to 325,000 shares of the Company's
Class A Common Stock. The options generally have a maximum life of seven years
and are generally exercisable in installments of 25% per year on each of the
first through the fourth anniversaries of the grant date. Under the Directors
Plan, the Company may grant options to its non-employee directors for up to
125,000 shares of the Company's Class A Common Stock. Non-employee directors are
each awarded options to purchase 2,000 shares upon their election to the Board
of Directors. In addition, commencing on January 1, 1998, each non-employee
director receives a grant of 2,000 stock options on January 1 of each year he
continues to serve on the Board. The director options become exercisable on the
first anniversary of the grant date and their maximum life is ten years.
The fair value of each option grant is estimated on the date of grant using
the Black-Scholes option-pricing model with the following weighted-average
assumptions.
<TABLE>
<CAPTION>
1997 1996
--------- ---------
<S> <C> <C>
Expected life (years)........................................................... 3.8 3.6
Expected volatility............................................................. 30.1%30.4%
Risk free interest rate......................................................... 6.0% 6.2%
Dividend Yield.................................................................. 0.0% 0.0%
</TABLE>
F-14
<PAGE>
U.S. FRANCHISE SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
AS OF DECEMBER 31, 1997 AND 1996 AND FOR THE YEARS
ENDED DECEMBER 31, 1997 AND 1996 AND FOR THE PERIOD
FROM AUGUST 28, 1995 (INCEPTION) TO DECEMBER 31, 1995
10. STOCK OPTION PLANS (CONTINUED)
Activity related to the Company's two stock option plans is summarized as
follows:
<TABLE>
<CAPTION>
1997 1996
----------------------- -----------------------
WEIGHTED WEIGHTED
AVG. AVG.
EXERCISE EXERCISE
SHARES PRICE SHARES PRICE
---------- ----------- ---------- -----------
<S> <C> <C> <C> <C>
Options outstanding as of January 1................................. 178,500 $ 13.48 $ --
Granted............................................................. 105,700 8.66 179,100 13.48
Forfeited........................................................... (55,700) 12.72 (600) 13.50
---------- ----------
Options outstanding as of December 31............................... 228,500 $ 11.39 178,500 $ 13.48
---------- ----------
---------- ----------
Options exercisable as of December 31............................... 39,950
Weighted-average fair value of options granted during the year...... $ 2.78 $ 4.23
---------- ----------
---------- ----------
</TABLE>
The following table summarizes information about stock options outstanding
at December 31, 1997:
<TABLE>
<CAPTION>
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
-------------------------------------------- ----------------------------
<S> <C> <C> <C> <C> <C>
WEIGHTED
AVERAGE WEIGHTED NUMBER WEIGHTED
NUMBER REMAINING AVERAGE EXERCISABLE AVERAGE
RANGE OF EXERCISES OUTSTANDING AT CONTRACTUAL EXERCISE AT EXERCISE
PRICES DEC. 31, 1997 LIFE PRICE DEC. 31, 1997 PRICE
- ------------------ -------------- --------------- ----------- ------------- -------------
$7.00 to $10.12.... 98,400 6.59 $ 8.62 -- $ --
$10.50 to $13.50... 130,100 6.00 13.48 39,950 13.49
$7.00 to $13.50.... 228,500 6.27 11.39 39,950 13.49
</TABLE>
The fair value of options granted during the years ended December 31, 1997
and 1996 was $213,000 and $558,000, respectively, which is being amortized as
compensation expense over the vesting period. Compensation expense of $295,000
and $53,000 and $0 was recorded for the years ended December 31, 1997 and 1996
and for the period from August 28, 1995 (inception) to December 31, 1995,
respectively.
F-15
<PAGE>
U.S. FRANCHISE SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
AS OF DECEMBER 31, 1997 AND 1996 AND FOR THE YEARS
ENDED DECEMBER 31, 1997 AND 1996 AND FOR THE PERIOD
FROM AUGUST 28, 1995 (INCEPTION) TO DECEMBER 31, 1995
11. INCOME TAXES
Deferred income taxes in the accompanying consolidated statement of
financial position includes the following amounts of deferred tax assets and
liabilities at December 31, 1997 and 1996, respectively:
<TABLE>
<CAPTION>
1997 1996
------------ ------------
<S> <C> <C>
Deferred tax liabilities:
Deferred Expenses................................................. $ (487,000) $ (330,000)
Other............................................................. (76,000) (8,000)
------------ ------------
Total............................................................. $ (563,000) $ (338,000)
------------ ------------
------------ ------------
Deferred tax assets:
Operating loss carryforwards.................................... $ 4,386,000 $ 2,446,000
Deferred revenue................................................ 2,165,000 648,000
Compensation cost............................................... 135,000 20,000
Other........................................................... 123,000 129,000
------------ ------------
Total............................................................. 6,809,000 3,243,000
------------ ------------
Valuation allowance............................................... (6,246,000) (2,905,000)
------------ ------------
Net deferred tax asset (liability)................................ $ -- $ --
------------ ------------
------------ ------------
</TABLE>
For income tax purposes, as of December 31, 1997, the Company had
accumulated net operating loss carryforwards of $11,542,000 which begin to
expire in the year 2010.
During the year ended December 31, 1997, the Company increased the valuation
allowance by $3.3 million due to the uncertainty of the realizability of net
deferred tax assets.
The following is a reconciliation of the statutory rate to the effective
rate of the Company at December 31, 1997 and 1996, respectively:
<TABLE>
<CAPTION>
1997 1996
--------- ---------
<S> <C> <C>
Statutory federal rate....................................................... 34% 34%
Statutory state rate less federal effect..................................... 4 4
Effect of income not subject to tax.......................................... (1) (1)
Change in valuation allowance................................................ (37) (37)
--- ---
Effective tax rate........................................................... --% --%
--- ---
--- ---
</TABLE>
12. COMMITMENTS
The Company, as part of the Microtel Agreement, is required to fulfill
certain obligations under such Agreement. These include the following:
F-16
<PAGE>
U.S. FRANCHISE SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
AS OF DECEMBER 31, 1997 AND 1996 AND FOR THE YEARS
ENDED DECEMBER 31, 1997 AND 1996 AND FOR THE PERIOD
FROM AUGUST 28, 1995 (INCEPTION) TO DECEMBER 31, 1995
12. COMMITMENTS (CONTINUED)
- To execute franchise agreements and to have open or under development the
following number of Microtel hotels each December, annually:
<TABLE>
<CAPTION>
YEAR NUMBER OF HOTELS
- ---------------------------------------------------------------- -------------------
<S> <C>
1997............................................................ 50
1998............................................................ 100
1999............................................................ 175
2000............................................................ 250
</TABLE>
- The above development schedule is considered to have been complied with
unless such schedule is not met for two consecutive years. If 75% of the
development level has been met, a fee of $1,000,000 may be paid and upon
such payment, the Company will be deemed to be in compliance with such
schedule.
- Hudson will retain the right to receive franchise application fees and all
franchise royalty payments under existing agreements at October 5, 1995 or
under agreements for which franchise applications had been received as of
October 5, 1995, except for reservation and marketing fees, which are
retained by the Company.
- As part of the Microtel Acquisition, Hudson retained the right to
franchise and to receive royalties on sixty franchises either issued or
which may be issued in the future to Hudson, its affiliates and certain
other persons. For each new franchise other than the sixty issued or which
may be issued to Hudson, its affiliates and such other persons, the
Company is required to remit to Hudson a continuing monthly royalty equal
to 1.0% of the revenues subject to royalties on the first 100 Microtel
properties opened by the Company's franchisees, 0.75% for the next 150
Microtel properties, and 0.5% for each new property after the first 250
properties.
If any of the above obligations are not met, including the payment of
amounts due to Hudson (see Note 6), all of the rights to the Microtel system
will, at Hudson's discretion, revert back to Hudson. In the event Hudson
exercises its rights to the Microtel system, the Company, through Microtel will
retain the rights to any franchise royalty payments due under franchises granted
by the Company and its subsidiary, less certain processing fees due to Hudson.
Pursuant to the Hawthorn Agreement which was in place on December 31, 1997,
the Company was required to fulfill certain obligations and was subject to
certain restrictions during 1997. The impact of these restrictions has been
negated pursuant to the series of transactions, completed on March 12, 1998,
which enabled it to acquire the entire interest in the Hawthorn Suites brand of
hotels. (see Note 15 for Subsequent Events relating to the Hawthorn Agreement).
The Company has employment agreements with its Chief Executive Officer and
Chief Financial Officer. The agreements are for a ten year term expiring on
September 30, 2005 and provide minimum salary levels and other fringe benefits.
F-17
<PAGE>
U.S. FRANCHISE SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
AS OF DECEMBER 31, 1997 AND 1996 AND FOR THE YEARS
ENDED DECEMBER 31, 1997 AND 1996 AND FOR THE PERIOD
FROM AUGUST 28, 1995 (INCEPTION) TO DECEMBER 31, 1995
13. SELECTED QUARTERLY FINANCIAL DATA--(UNAUDITED)
<TABLE>
<CAPTION>
1997 FIRST SECOND THIRD FOURTH TOTAL YEAR
- ------------------------------------------ ------------ ------------ ------------ ------------ -------------
<S> <C> <C> <C> <C> <C>
Revenue................................... $ 545,000 $ 892,000 $ 1,176,600 $ 1,335,000 $ 3,948,000
Loss from operations...................... 2,418,000 2,069,000 2,028,000 1,913,000 8,428,000
Net loss.................................. 2,515,000 2,174,000 2,181,000 2,077,000 8,947,000
Loss applicable to common stockholders.... 2,515,000 2,174,000 2,181,000 2,077,000 8,947,000
Weighted average shares outstanding....... 12,580,395 12,580,395 12,541,405 12,552,891 12,563,772
Net loss applicable to common stockholders
per share-basic......................... $ 0.20 $ 0.17 $ 0.17 $ 0.17 $ 0.71
</TABLE>
<TABLE>
<CAPTION>
1996 FIRST SECOND THIRD FOURTH TOTAL YEAR
- ------------------------------------------ ------------ ------------ ------------ ------------ -------------
<S> <C> <C> <C> <C> <C>
Revenue................................... $ 31,000 $ 364,000 $ 469,000 $ 428,000 $ 1,292,000
Loss from operations...................... 1,537,000 1,917,000 1,888,000 1,994,000 7,336,000
Net loss.................................. 1,398,000 1,797,000 1,718,000 1,678,000 6,591,000
Loss applicable to common stockholders.... 1,817,000 2,216,000 2,158,000 2,118,000 8,309,000
Weighted average shares outstanding....... 10,755,409 10,755,409 10,755,409 11,059,576 11,059,576
Net loss applicable to common stockholders
per share-basic......................... $ 0.17 $ 0.21 $ 0.20 $ 0.19 $ 0.75
</TABLE>
- ------------------------
(a) All per share information presented has been retroactively adjusted to
reflect the stock splits discussed in Note 9.
(b) Due to the changes in the numbers of shares outstanding, quarterly per share
amounts do not add to the total for the year.
14. SUBSEQUENT EVENTS
HAWTHORN ACQUISITION. On March 12, 1998, USFS, USFS Hawthorn, Inc. ("USH"),
Hawthorn Suites Associates ("HSA") and HSA Properties, Inc. ("HPI") completed a
series of transactions whereby all of the ownership interests of HSA Properties
LLC ("HSA LLC"), a joint venture among USFS, HPI and HSA which owned an interest
in the Hawthorn Suites brand of hotels, were contributed to USH in return for
the issuance of shares of Class A Common Stock, par value $.01 per share ("USH
Class A Common Stock") of USH, and USFS merged into USH. Pursuant to these
transactions, HSA and HPI received 2,199,775 and 22,447 shares of Class A Common
Stock, respectively. In addition, the holders of Class A Common Stock of USFS
and Class B Common Stock of USFS received an equivalent number of USH Class A
Common Stock and Class B Common Stock, par value $.01 per share, as applicable.
Prior to these transactions, USFS and HSA LLC were parties to a Master Franchise
Agreement dated as of March 27, 1996 (the "Hawthorn Acquisition Agreement"),
pursuant to which USFS acquired the exclusive worldwide rights to franchise and
to control the development and operation of the Hawthorn Suites brand of hotels.
The Hawthorn Acquisition Agreement required that a percentage of royalties
received by USFS from the
F-18
<PAGE>
U.S. FRANCHISE SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
AS OF DECEMBER 31, 1997 AND 1996 AND FOR THE YEARS
ENDED DECEMBER 31, 1997 AND 1996 AND FOR THE PERIOD
FROM AUGUST 28, 1995 (INCEPTION) TO DECEMBER 31, 1995
14. SUBSEQUENT EVENTS (CONTINUED)
franchising of Hawthorn Suites Hotels be remitted to HSA LLC and also contained
certain restrictions on USFS's operations and imposed standards relating to the
development of the Hawthorn Suites brand of hotels. The merger of USFS with and
into USH permitted the surviving entity (renamed "U.S. Franchise Systems, Inc.")
to acquire all of the trademarks, copyrights and other intellectual property
related to the Hawthorn Suites hotel brand and as a related consequence,
eliminated the aforementioned royalty payments and restrictive provisions
previously governed by the Hawthorn Acquisition Agreement.
ESTABLISHMENT OF DEVELOPMENT FUND. On March 17, 1998, NorthStar Capital
Partners LLC (together with its affiliates, "NorthStar"), Lubert-Adler Real
Estate Opportunity Funds (together with its affiliates, "Lubert-Adler") and
Constellation Equity Corp., an entity controlled by NorthStar and Lubert-Adler
("Constellation"), formed Constellation Development Fund LLC (the "Development
Fund"). NorthStar, Lubert-Adler and Constellation will contribute to the
Development Fund equity totaling $50 million, and will arrange debt financing
for an additional $60 million in the form of a senior credit facility with a
commercial bank. In connection with the establishment of the Development Fund,
the Company has committed to make a $10 million loan to Constellation, which
will use the funds to make a subordinated investment in the Development Fund.
The loan bears interest at an annual rate of 8%, is non-recourse and is
repayable from distributions and payments made to Constellation from the
Development Fund.
In connection with the establishment of the Development Fund, the Company
sold an aggregate of 500,000 shares of Class A Common Stock to NorthStar and
Lubert-Adler for $5.625 million. NorthStar and Lubert-Adler also have the right
to purchase up to an additional 500,000 shares of Class A Common Stock,
exercisable on a pro-rata basis within eighteen months of the commitment of the
Development Fund's capital, at a price of $11.25 per share. In addition, David
T. Hamamoto was elected to the Board of Directors of the Company. Mr. Hamamoto
is the co-Chief Executive Officer, co-President and co-Chairman of NorthStar.
BEST INNS ACQUISITION. On April 28, 1998 the Company completed its
acquisition of the exclusive worldwide franchise rights to the Best Inns hotel
brands, including the franchise agreements for the existing Best Inns hotels. In
addition, the Company acquired the management contracts and related personnel
relating to the management of 29 existing Best Inns hotels and became the
controlling member of the not-for-profit corporation which supplies reservation
services to Best Inns hotels.
In connection with this transaction, the Company and the sellers entered
into an agreement with Alpine Hospitality Ventures LLC ("Ventures") pursuant to
which Ventures (through a wholly-owned subsidiary) acquired 17 Best Inns hotels
(the "Acquired Hotels"). Contemporaneously with the closing of the transaction,
new franchise and management agreements were entered into between the Company
and Ventures with respect to the Acquired Hotels. As a result of the
transaction, the Company owns the exclusive worldwide franchise rights to the
Best Inns hotel brands, is the franchisor of 35 existing Best Inns hotels and
will be the franchisor of three hotels under development, manages 29 of the
existing Best Inns hotels and will manage two Best Inns hotels under
development.
To facilitate the transaction, the Company made a $15 million unsecured
subordinated loan to Ventures at an interest rate of 12% per annum, interest on
which will be paid in cash to the extent of
F-19
<PAGE>
U.S. FRANCHISE SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
AS OF DECEMBER 31, 1997 AND 1996 AND FOR THE YEARS
ENDED DECEMBER 31, 1997 AND 1996 AND FOR THE PERIOD
FROM AUGUST 28, 1995 (INCEPTION) TO DECEMBER 31, 1995
14. SUBSEQUENT EVENTS (CONTINUED)
available cash and otherwise will be paid-in-kind. The loan is subordinated to a
guarantee provided by Ventures in connection with a third-party loan in the
principal amount of approximately $65 million to its subsidiary that owns the
Acquired Hotels and also is subordinated to such third party loan. The Company
made the subordinated loan issued the Alpine Shares (as defined below) in order
to induce Ventures to purchase from the Sellers the Acquired Hotels. USFS
financed the subordinated loan through a $10 million full recourse loan from
NationsBank N.A, the $1.6 million it received from an affiliate of Ventures for
the Alpine Shares and $3.4 million of its own cash. In addition, the Company
committed to make up to $7.5 million of additional loans to Ventures under
certain circumstances at an interest rate and upon other terms that are
substantially similar to Ventures' or its subsidiaries' third-party indebtedness
at such time. The Company expects Ventures to be a highly leveraged entity and
there can be no assurance that any loans to Ventures will be repaid. It is
anticipated that the proceeds from the Offering will be utilized to repay the
NationsBank loan.
Also in connection with the Best Inns acquisition agreement, the Company
issued to Alpine Hospitality Equities LLC ("Alpine Equities"), an affiliate of
Ventures, 350,000 shares (the "Alpine Shares") of Class A Common Stock for a
purchase price of $1.6 million. Alpine Equities was granted certain demand and
piggy-back registration rights on customary terms with respect to the Alpine
Shares, as well as certain tag-along rights on certain sales of Common Stock
made by Messrs. Leven and Aronson. Additionally, the Company agreed to pay to
Alpine Equities $1,000 per year for each Best Inns hotel that is added to the
Best Inns system of hotels after the closing date of the transaction, provided
that such new hotels are paying royalties to the Company or any of its
affiliates (the "New Hotel Fee").
Richard D. Goldstein, a director of the Company, is an Executive Vice
President and a Senior Managing Director of the general partner of Alpine Equity
Partners L.P., the entity that indirectly owns and controls a majority of Alpine
Equities and Ventures.
F-20
<PAGE>
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
NO DEALER, SALESPERSON OR OTHER PERSON HAS BEEN AUTHORIZED TO GIVE ANY
INFORMATION OR TO MAKE ANY REPRESENTATION OTHER THAN THOSE CONTAINED IN THIS
PROSPECTUS IN CONNECTION WITH THIS OFFERING AND, IF GIVEN OR MADE, SUCH
INFORMATION OR REPRESENTATIONS MUST NOT BE RELIED UPON AS HAVING BEEN AUTHORIZED
BY THE COMPANY OR ANY UNDERWRITER. THIS PROSPECTUS DOES NOT CONSTITUTE AN OFFER
TO SELL OR A SOLICITATION OF AN OFFER TO BUY ANY OF THE SECURITIES OFFERED
HEREBY IN ANY JURISDICTION WHERE, OR TO ANY PERSON TO WHOM, IT IS UNLAWFUL TO
MAKE SUCH OFFER IN SUCH JURISDICTION. NEITHER THE DELIVERY OF THIS PROSPECTUS
NOR ANY SALE MADE HEREUNDER SHALL, UNDER ANY CIRCUMSTANCES, CREATE ANY
IMPLICATION THAT THE INFORMATION CONTAINED HEREIN IS CORRECT AS OF ANY TIME
SUBSEQUENT TO THE DATE HEREOF OR THAT THERE HAS BEEN NO CHANGE IN THE AFFAIRS OF
THE COMPANY SINCE SUCH DATE.
------------------------
TABLE OF CONTENTS
------------------------
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
AVAILABLE INFORMATION.......................... 3
PROSPECTUS SUMMARY............................. 4
RISK FACTORS................................... 12
USE OF PROCEEDS................................ 18
PRICE RANGE OF CLASS A COMMON STOCK............ 19
DIVIDEND POLICY................................ 19
CAPITALIZATION................................. 20
DILUTION....................................... 21
SELECTED CONSOLIDATED FINANCIAL DATA........... 22
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF
OPERATIONS................................... 23
BUSINESS....................................... 36
MANAGEMENT..................................... 50
CERTAIN RELATIONSHIPS AND RELATED
TRANSACTIONS................................. 59
PRINCIPAL HOLDERS OF COMMON STOCK.............. 60
DESCRIPTION OF THE CAPITAL STOCK............... 65
UNDERWRITING................................... 69
LEGAL MATTERS.................................. 71
EXPERTS........................................ 71
CAUTIONARY STATEMENT CONCERNING FORWARD-LOOKING
STATEMENTS................................... 71
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS..... F-1
</TABLE>
4,500,000 SHARES
[LOGO]
CLASS A COMMON STOCK
----------------
PROSPECTUS
----------------
NationsBanc Montgomery
Securities LLC
CIBC Oppenheimer
The Robinson-Humphrey
Company
Schroder & Co. Inc.
, 1998
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
<PAGE>
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
ITEM 13. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION
The estimated expenses in connection with the issuance and distribution of
the securities being registered, other than underwriting discounts and
commissions, are set forth in the following table. All of the amounts shown are
estimates, except the Securities and Exchange Commission registration fee and
the NASD filing fee.
<TABLE>
<S> <C>
Securities and Exchange Commission fee......................... $ 17,842
NASD filing fee................................................ 6,548
Nasdaq National Market listing fees............................ 17,500
Accountants' fees and expenses................................. 55,000
Legal fees and expenses........................................ 500,000
Printing and engraving expenses................................ 175,000
Transfer Agent and Registrar fees and expenses................. 3,000
Miscellaneous expenses......................................... 442,000
----------
Total.................................................... $1,216,890
</TABLE>
ITEM 14. INDEMNIFICATION OF DIRECTORS AND OFFICERS
Section 145(a) of the General Corporation Law of the State of Delaware
provides that a Delaware corporation may indemnify any person who was or is a
party or is threatened to be made a party to any threatened, pending or
completed action, suit or proceeding, whether civil, criminal, administrative or
investigative (other than an action by or in the right of the corporation) by
reason of the fact that he is or was a director, officer, employee or agent of
the corporation or is or was serving at the request of the corporation as a
director, officer, employees or agent of another corporation or enterprise,
against expenses, judgments, fines and amounts paid in settlement actually and
reasonably incurred by him in connection with such action, suit or proceeding if
he acted in good faith and in a manner he reasonably believed to be in or not
opposed to the best interests of the corporation, and, with respect to any
criminal action or proceeding, had no cause to believe his conduct was unlawful.
Section 145(b) provides that a Delaware corporation may indemnify any person
who was or is a party or is threatened to be made a party to any threatened,
pending or completed action or suit by or in the right of the corporation to
procure a judgment in its favor by reason of the fact that such person acted in
any of the capacities set forth above, against expenses actually and reasonably
incurred by him in connection with the defense or settlement of such action or
suit if he acted under similar standards, except that no indemnification may be
made in respect of any claim, issue or matter as to which such person shall have
been adjudged to be liable to the corporation unless and only to the extent that
the court in which such action or suit was brought shall determine that despite
the adjudication of liability, such person is fairly and reasonably entitled to
be indemnified for such expenses which the court shall deem proper.
Section 145 further provides that to the extent a director or officer of a
corporation has been successful in the defense of any action, suit of proceeding
referred to in subsections (a) and (b) or in the defense of any claim, issue or
matter therein, he shall be indemnified against expenses actually and reasonably
incurred by him in connection therewith; that indemnification provided for by
Section 145 shall not be deemed exclusive of any other rights to which the
indemnified party may be entitled; and that the corporation may purchase and
maintain insurance on behalf of a director or officer of the corporation against
any liability asserted against him or incurred by him in any such capacity or
arising out of his status
II-1
<PAGE>
as such whether or not the corporation would have the power to indemnify him
against such liabilities under such Section 145.
Section 102(b)(7) of the General Corporation Law provides that a corporation
in its original certificate of incorporation or an amendment thereto validly
approved by stockholders may eliminate or limit personal liability of members of
its board of directors or governing body for breach of a director's fiduciary
duty. However, no such provision may eliminate or limit the liability of a
director for breaching his duty of loyalty, failing to act in good faith,
engaging in intentional misconduct or knowingly violating a law, paying a
dividend or approving a stock repurchase which was illegal, or obtaining an
improper personal benefit. A provision of this type has no effect on the
availability of equitable remedies, such as injunction or rescission, for breach
of fiduciary duty. The Company's Charter contains such a provision.
The Company's Charter further provides that the Company shall indemnify its
officers and directors and, to the extent authorized by the Board of Directors,
employees and agents of the Company, to the fullest extent permitted by and in
the manner permissible under the laws of the State of Delaware.
In addition, the Company has entered into agreements (the "Indemnification
Agreements") with each of the directors of the Company, and intends to enter
into similar agreements with each of the future directors of the Company,
pursuant to which the Company had agreed to indemnify each director against
claims, liabilities, damages, expenses, losses, costs, penalties or amounts paid
in settlement (collectively, "Losses") incurred by such director and arising out
of his capacity as a director, officer, employee and/or agent of the Company to
the maximum extent authorized or permitted by applicable law. In addition, each
director shall be entitled to an advance of expenses to the maximum extent
authorized or permitted by law to meet the obligations indemnified against. The
Indemnification Agreements also obligate the Company to purchase and maintain
insurance for the benefit and on behalf of each of its directors insuring such
director in or arising out of his capacity as a director, officer, employee
and/or agent of the Company.
ITEM 15. RECENT SALES OF UNREGISTERED SECURITIES
From the date of the Company's Certificate of Incorporation, November 26,
1997, to May 1, 1998, the Company issued securities that were not registered
under the Securities Act in the following transactions:
(a) On March 12, 1998, the Company issued an aggregate of 2,222,222
shares of Class A Common Stock to HSA and HPI in connection with a
Contribution Agreement, dated December 9, 1997, among HSA, HPI, USFS
Hawthorn, Inc. and U.S. Franchise Systems, Inc. in reliance upon the
exemption provided by Section 4(2) of the Securities Act.
(b) On March 17, 1998, the Company issued 500,000 shares of Class A
Common Stock, and the right to acquire an additional 500,000 shares of Class
A Common Stock, to NorthStar and Lubert-Adler for an aggregate consideration
of $5,625,000 in reliance upon the exemption provided by Section 4(2) of the
Securities Act.
(c) On April 28, 1998, the Company issued 350,000 shares of Class A
Common Stock to Alpine Equities for $1,600,000 in reliance upon the
exemption provided by Section 4(2) of the Securities Act.
(d) During 1998, the Company granted options to purchase an aggregate of
14,000 shares of Class A Common Stock to certain non-employee directors of
the Company in reliance upon the exemption provided by Section 4(2) of the
Securities Act.
In the above transactions no underwriting discounts or commissions were paid,
nor was any public offering involved.
II-2
<PAGE>
ITEM 16. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
(a) Exhibits
<TABLE>
<CAPTION>
EXHIBIT NO. DESCRIPTION
- ------------- -------------------------------------------------------------------------------------------
<C> <C> <S>
1 -- Form of Underwriting Agreement to be entered into by the Company and the Underwriters named
therein.*
2.1 -- Agreement and Plan of Merger, dated December 9, 1997, between U.S. Franchise Systems, Inc.
and USFS Hawthorn, Inc. (incorporated by reference from the Company's Registration
Statement on Form S-4 (Registration No. 333-46185)).
2.2 -- Contribution Agreement, dated December 9, 1997, among Hawthorn Suites Associates, HSA
Properties, Inc., USFS Hawthorn, Inc. and U.S. Franchise Systems, Inc. (incorporated by
reference from the Company's Registration Statement on Form S-4 (Registration No.
333-46185)).
3.1 -- Certificate of Incorporation (incorporated by reference from the Company's Registration
Statement on Form S-4 (Registration No. 333-46185)).
3.2 -- By-laws (incorporated by reference from the Company's Registration Statement on Form S-4
(Registration No. 333-46185)).
4.1 -- Reference is made to Exhibit 3.1.
4.2 -- Specimen Class A Common Stock Certificate of USFS Hawthorn, Inc. (incorporated by reference
from the Company's Registration Statement on Form S-4 (Registration No. 333-46185)).
4.3 -- Specimen Class B Common Stock Certificate of USFS Hawthorn, Inc. (incorporated by reference
from the Company's Registration Statement on Form S-4 (Registration No. 333-46185)).
4.4 -- Shareholders Agreement, dated as of March 12, 1998 by and among Hawthorn Suites Associates,
HSA Properties, Inc., Michael A. Leven, Neal K. Aronson and U.S. Franchise Systems, Inc.
(incorporated by reference from the Company's Quarterly Report on Form 10-Q for the
quarterly period ended March 31, 1998 (File No. 0-23941)).
4.5 -- Registration and Tag-Along Rights Agreement dated as of March 17, 1998 between (i) U.S.
Franchise Systems, Inc., (ii) Sextant Trading LLC, Lubert-Adler Real Estate Opportunity
Fund, L.P., Lubert-Adler Real Estate Opportunity Fund II, L.P. and Lubert-Adler Capital
Real Estate Opportunity Fund, L.P., and (iii) Michael Leven and Neal K. Aronson
(incorporated by reference from the Company's Quarterly Report on Form 10-Q for the
quarterly period ended March 31, 1998 (File No. 0-23941)).
4.6 -- Registration Rights Agreement dated as of April 28, 1998 among U.S. Franchise Systems,
Inc., Alpine Hospitality Equities LLC, Michael A. Leven and Neal K. Aronson (incorporated
by reference from the Company's Quarterly Report on Form 10-Q for the quarterly period
ended March 31, 1998 (File No. 0-23941)).
5 -- Opinion of Paul, Weiss, Rifkind, Wharton & Garrison as to the legality of the Class A
Common Stock being registered hereby.*
10.1 -- Form of License Agreement for Microtel brand hotels (incorporated by reference from the
Company's Registration Statement on Form S-1 (Registration No. 333-11427)).
10.2 -- Form of License Agreement for Hawthorn Suites brand hotels (incorporated by reference from
the Company's Registration Statement on Form S-1 (Registration No. 333-11427)).
</TABLE>
II-3
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT NO. DESCRIPTION
- ------------- -------------------------------------------------------------------------------------------
<C> <C> <S>
10.3 -- Joint Venture Agreement between Microtel Franchise and Development Corporation and U.S.
Franchise Systems, Inc. dated as of September 7, 1995 (incorporated by reference from the
Company's Registration Statement on Form S-1 (Registration No. 333-11427)).
10.4 -- Master Franchise Agreement between HSA Properties, L.L.C. and U.S. Franchise Systems, Inc.
dated as of March 27, 1996 (incorporated by reference from the Company's Registration
Statement on Form S-1 (Registration No. 333-11427)).
10.5 -- Amended and Restated Stockholders' Agreement, dated as of September 29, 1995, as amended on
October 11, 1996, among the Company and the Original Investors (incorporated by reference
from the Company's Registration Statement on Form S-1 (Registration No. 333-11427)).
10.6 -- Amended and Restated Employee Stock Purchase Agreement between U.S. Franchise Systems, Inc.
and Michael A. Leven, entered into as of September 29, 1995, as amended effective October
24, 1996 (incorporated by reference from the Company's Registration Statement on Form S-1
(Registration No. 333-11427)).
10.7 -- Amended and Restated Employee Stock Purchase Agreement between U.S. Franchise Systems, Inc.
and Neal K. Aronson, entered into as of September 29, 1995, as amended effective October
24, 1996 (incorporated by reference from the Company's Registration Statement on Form S-1
(Registration No. 333-11427)).
10.8 -- Employment Agreement by and between U.S. Franchise Systems, Inc. and Michael A. Leven,
dated October 1, 1995 (incorporated by reference from the Company's Registration Statement
on Form S-1 (Registration No. 333-11427)).
10.9 -- Employment Agreement by and between U.S. Franchise Systems, Inc. and Neal K. Aronson, dated
October 1, 1995 (incorporated by reference from the Company's Registration Statement on
Form S-1 (Registration No. 333-11427)).
10.10 -- Voting Agreement between Michael A. Leven and Andrea Leven entered into on October 30, 1996
(incorporated by reference from the Company's Registration Statement on Form S-1
(Registration No. 333-11427)).
10.11 -- Voting Agreement between Michael A. Leven and Neal K. Aronson entered into on October 30,
1996 (incorporated by reference from the Company's Registration Statement on Form S-1
(Registration No. 333-11427)).
10.12 -- Office Lease Agreement between Hallwood Real Estate Investors Fund XV and U.S. Franchise
Systems, Inc., dated September 25, 1995 (incorporated by reference from the Company's
Registration Statement on Form S-1 (Registration No. 333-11427)).
10.13 -- First Amendment to Office Lease between Hallwood 95, L.P. and U.S. Franchise Systems, Inc.,
dated May 20, 1996 (incorporated by reference from the Company's Registration Statement on
Form S-1 (Registration No. 333-11427)).
10.14 -- U.S. Franchise Systems, Inc. Amended and Restated 1996 Stock Option Plan (incorporated by
reference from the Company's Annual Report on Form 10-K for the fiscal year ended December
31, 1996).
10.15 -- U.S. Franchise Systems, Inc. 1996 Stock Option Plan for Non-Employee Directors
(incorporated by reference from the Company's Registration Statement on Form S-1
(Registration No. 333-11427)).
10.16 -- Term Sheet, dated May 14, 1996, between the Company and NACC regarding the Franchise
Financing Facility (incorporated by reference from the Company's Registration Statement on
Form S-1 (Registration No. 333-11427)).
</TABLE>
II-4
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT NO. DESCRIPTION
- ------------- -------------------------------------------------------------------------------------------
<C> <C> <S>
10.17 -- Voting Agreement between Michael A. Leven and Andrea Leven entered into on March 12, 1998
(incorporated by reference from Exhibit 10.11 to the Company's Registration Statement on
Form S-4 (Registration No. 333-46185)).
10.18 -- Voting Agreement Between Michael A. Leven and Neal K. Aronson entered into on March 12,
1998 (incorporated by reference from Exhibit 10.13 to the Company's Registration Statement
on Form S-4 (Registration No. 333-46185)).
10.19 -- Sublease Agreement by and among Unocal Corporation, DBA Union Oil Co. of California, U.S.
Franchise Systems, Inc. and Hallwood 95, L.P., dated July 25, 1997 (incorporated by
reference from Exhibit 10.16 to the Company's Registration Statement on Form S-4
(Registration No. 333-46185)).
10.20 -- Addendum to Sublease by and among Union Oil Company of California d/b/a Unocal, U.S.
Franchise Systems, Inc. and Hallwood Real Estate Investors Fund XV, dated July 25, 1997
(incorporated by reference from Exhibit 10.17 to the Company's Registration Statement on
Form S-4 (Registration No. 333-46185)).
10.21 -- Agreement of Purchase and Sale between America's Best Inns, Inc. and The Other Selling
Entities Listed on Schedule I thereto and Best Acquisition, Inc., dated December 15, 1997.
The Company agrees to furnish copies of the schedules hereto supplementally to the
Commission on request (incorporated by reference from the Company's Registration Statement
on Form S-4 (Registration No. 333-46185)).
10.22 -- Promissory Note, dated March 18, 1998, from Constellation Equity Corp. to the Registrant in
the principal amount of $10 million (incorporated by reference from the Company's Annual
Report on Form 10-K for the fiscal year ended December 31, 1997 (File No. 0-23941)).
10.23 -- Management Services Agreement, dated March 17, 1998, between the Registrant and
Constellation Development Fund LLC (incorporated by reference from the Company's Annual
Report on Form 10-K for the fiscal year ended December 31, 1997 (File No. 0-23941)).
10.24 -- Asset Transfer Agreement dated as of April 28, 1998 among Best Acquisition, Inc., Alpine
Hospitality Ventures LLC, RSVP-BI OPCO, LLC, RSVP-ABI REALCO, LLC, America's Best Inns,
Inc. and the entities identified on Schedule 1 thereto. The Company agrees to furnish
copies of the schedules hereto supplementally on request (incorporated by reference from
the Company's Quarterly Report on Form 10-Q for the quarterly period ended March 31, 1998
(File No. 0-23941)).
10.25 -- Securities Purchase Agreement dated as of April 28, 1998 by and between U.S. Franchise
Systems, Inc. and Alpine Hospitality Equities LLC. The Company agrees to furnish copies of
the schedules hereto supplementally on request (incorporated by reference from the
Company's Quarterly Report on Form 10-Q for the quarterly period ended March 31, 1998 (File
No. 0-23941)).
10.26 -- Hotel Management Agreement made and entered into on April 28, 1998 by and among Alpine
Hospitality Ventures LLC, RSVP-BI OPCO, LLC, RSVP-ABI REALCO, LLC and USFS Management, Inc.
(incorporated by reference from the Company's Quarterly Report on Form 10-Q for the
quarterly period ended March 31, 1998 (File No. 0-23941)).
10.27 -- Amended and Restated License Agreement dated April 28, 1998 by and between Best
Franchising, Inc. and RSVP-BI OPCO, LLC (incorporated by reference from the Company's
Quarterly Report on Form 10-Q for the quarterly period ended March 31, 1998 (File No.
0-23941)).
10.28 -- Best Franchising, Inc. current form of License Agreement for Best Inns hotels
</TABLE>
II-5
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT NO. DESCRIPTION
- ------------- -------------------------------------------------------------------------------------------
(incorporated by reference from the Company's Quarterly Report on Form 10-Q for the
quarterly period ended March 31, 1998 (File No. 0-23941)).
<C> <C> <S>
10.29 -- Loan Agreement dated as of April 28, 1998 by and between U.S. Franchise Systems, Inc. and
NationsBank, N.A. The Company agrees to furnish copies of the exhibits and schedules hereto
supplementally to the Commission on request (incorporated by reference from the Company's
Quarterly Report on Form 10-Q for the quarterly period ended March 31, 1998 (File No.
0-23941)).
10.30 -- Senior Subordinated Note Purchase Agreement dated as of April 28, 1998 between Alpine
Hospitality Ventures LLC and U.S. Franchise Systems, Inc. The Company agrees to furnish
copies of the schedules hereto supplementally on request (incorporated by reference from
the Company's Quarterly Report on Form 10-Q for the quarterly period ended March 31, 1998
(File No. 0-23941)).
10.31 -- Subscription Agreement dated as of March 17, 1998 between (i) U.S. Franchise Systems, Inc.,
(ii) Sextant Trading LLC, and (iii) Lubert-Adler Real Estate Opportunity Fund, L.P.,
Lubert-Adler Real Estate Opportunity Fund II, L.P. and Lubert-Adler Capital Real Estate
Opportunity Fund, L.P. (incorporated by reference from the Company's Quarterly Report on
Form 10-Q for the quarterly period ended March 31, 1998 (File No. 0-23941)).
21 -- Subsidiaries of the Company*.
23.1 -- Consent of Paul, Weiss, Rifkind, Wharton & Garrison, with respect to the legality of
securities being registered (contained in Exhibit 5).
23.2 -- Consent of Deloitte & Touche LLP.*
24 -- Powers of Attorney.+
</TABLE>
- ------------------------
* Filed herewith
+ Previously filed
(b) Financial Statement Schedules
None
ITEM 17. UNDERTAKINGS.
(a) The undersigned Registrant hereby undertakes that:
(1) For purposes of determining any liability under the Securities Act of
1933, as amended (the "Securities Act"), the information omitted from the form
of prospectus filed as part of this registration statement in reliance upon rule
430A and contained in a form of prospectus filed by the registrant pursuant to
Rule 424(b)(1) or (4) or 497(h) under the Securities Act shall be deemed to be
part of this registration statement as of the time it was declared effective.
(2) For the purpose of determining any liability under the Securities Act of
1933, each such post-effective amendment that contains a form of prospectus
shall be deemed to be a new registration statement relating to the securities
offered therein, and the offering of such securities at that time shall be
deemed to be the initial bona fide offering thereof.
(b) Insofar as indemnification for liabilities arising under the Securities
Act may be permitted to directors, officers and controlling persons of the
Registrant pursuant to the foregoing provisions, or otherwise, the Registrant
has been advised that in the opinion of the Securities and Exchange Commission
II-6
<PAGE>
such indemnification is against public policy as expressed in the Securities Act
and is, therefore, unenforceable. In the event that a claim for indemnification
against such liabilities (other than the payment by the Registrant of expenses
incurred or paid by a director, officer or controlling person of the Registrant
in the successful defense of any action, suit or proceeding) is asserted by such
director, officer or controlling person in connection with the securities being
registered, the Registrant will, unless in the opinion of its counsel the matter
has been settled by controlling precedent, submit to a court of appropriate
jurisdiction the question whether such indemnification by it is against public
policy as expressed in the Act and will be governed by the final adjudication of
such issue.
II-7
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Act, the registrant certifies
that it has reasonable grounds to believe that it meets all of the requirements
for filing on Form S-1 and has duly caused this amendment to registration
statement to be signed on its behalf by the undersigned, thereunto duly
authorized, in the City of Atlanta, State of Georgia, on May 11, 1998.
U.S. FRANCHISE SYSTEMS, INC.
BY: /S/ MICHAEL A. LEVEN
-----------------------------------------
Michael A. Leven
Chairman, President
and Chief Executive Officer
Pursuant to the requirements of the Securities Act of 1933, this amendment
to registration statement has been signed by the following persons in the
capacities and on the dates indicated.
<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
- ------------------------------ ------------------------------ -------------------
<C> <S> <C>
Chairman, President and Chief
/s/ MICHAEL A. LEVEN Executive Officer and
- ------------------------------ Director (Principal May 11, 1998
Michael A. Leven Executive Officer)
Executive Vice President,
/s/ NEAL K. ARONSON Chief Financial Officer and
- ------------------------------ Director (Principal May 11, 1998
Neal K. Aronson Financial and Accounting
Officer)
* Director
- ------------------------------ May 11, 1998
Dean S. Adler
* Director
- ------------------------------ May 11, 1998
Irwin Chafetz
* Director
- ------------------------------ May 11, 1998
Douglas Geoga
* Director
- ------------------------------ May 11, 1998
Richard D. Goldstein
* Director
- ------------------------------ May 11, 1998
David T. Hamamoto
* Director
- ------------------------------ May 11, 1998
Jeffrey A. Sonnenfeld
</TABLE>
II-8
<PAGE>
<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
- ------------------------------ ------------------------------ -------------------
<C> <S> <C>
* Director
- ------------------------------ May 11, 1998
Steven Romaniello
* Director
- ------------------------------ May 11, 1998
Barry S. Sternlicht
</TABLE>
*By: /s/ NEAL K. ARONSON
-------------------------
ATTORNEY-IN-FACT
II-9
<PAGE>
INDEX TO EXHIBITS
<TABLE>
<CAPTION>
EXHIBIT NO. DESCRIPTION
- ------------- --------------------------------------------------------------------------------------------------------------
<C> <C> <S>
1 -- Form of Underwriting Agreement to be entered into by the Company and the Underwriters named
therein.*
2.1 -- Agreement and Plan of Merger, dated December 9, 1997, between U.S. Franchise Systems, Inc. and USFS
Hawthorn, Inc. (incorporated by reference from the Company's Registration Statement on Form S-4
(Registration No. 333-46185)).
2.2 -- Contribution Agreement, dated December 9, 1997, among Hawthorn Suites Associates, HSA Properties,
Inc., USFS Hawthorn, Inc. and U.S. Franchise Systems, Inc. (incorporated by reference from the
Company's Registration Statement on Form S-4 (Registration No. 333-46185)).
3.1 -- Certificate of Incorporation (incorporated by reference from the Company's Registration Statement
on Form S-4 (Registration No. 333-46185)).
3.2 -- By-laws (incorporated by reference from the Company's Registration Statement on Form S-4
(Registration No. 333-46185)).
4.1 -- Reference is made to Exhibit 3.1.
4.2 -- Specimen Class A Common Stock Certificate of USFS Hawthorn, Inc. (incorporated by reference from
the Company's Registration Statement on Form S-4 (Registration No. 333-46185)).
4.3 -- Specimen Class B Common Stock Certificate of USFS Hawthorn, Inc. (incorporated by reference from
the Company's Registration Statement on Form S-4 (Registration No. 333-46185)).
4.4 -- Shareholders Agreement, dated as of March 12, 1998 by and among Hawthorn Suites Associates, HSA
Properties, Inc., Michael A. Leven, Neal K. Aronson and U.S. Franchise Systems, Inc. (incorporated
by reference from the Company's Quarterly Report on Form 10-Q for the quarterly period ended March
31, 1998 (File No. 0-23941)).
4.5 -- Registration and Tag-Along Rights Agreement dated as of March 17, 1998 between (i) U.S. Franchise
Systems, Inc., (ii) Sextant Trading LLC, Lubert-Adler Real Estate Opportunity Fund, L.P.,
Lubert-Adler Real Estate Opportunity Fund II, L.P. and Lubert-Adler Capital Real Estate Opportunity
Fund, L.P., and (iii) Michael Leven and Neal K. Aronson (incorporated by reference from the
Company's Quarterly Report on Form 10-Q for the quarterly period ended March 31, 1998 (File No.
0-23941)).
4.6 -- Registration Rights Agreement dated as of April 28, 1998 among U.S. Franchise Systems, Inc., Alpine
Hospitality Equities LLC, Michael A. Leven and Neal K. Aronson (incorporated by reference from the
Company's Quarterly Report on Form 10-Q for the quarterly period ended March 31, 1998 (File No.
0-23941)).
5 -- Opinion of Paul, Weiss, Rifkind, Wharton & Garrison as to the legality of the Class A Common Stock
being registered hereby.*
10.1 -- Form of License Agreement for Microtel brand hotels (incorporated by reference from the Company's
Registration Statement on Form S-1 (Registration No. 333-11427)).
10.2 -- Form of License Agreement for Hawthorn Suites brand hotels (incorporated by reference from the
Company's Registration Statement on Form S-1 (Registration No. 333-11427)).
10.3 -- Joint Venture Agreement between Microtel Franchise and Development Corporation and U.S. Franchise
Systems, Inc. dated as of September 7, 1995 (incorporated by reference from the Company's
Registration Statement on Form S-1 (Registration No. 333-11427)).
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT NO. DESCRIPTION
- ------------- --------------------------------------------------------------------------------------------------------------
<C> <C> <S>
10.4 -- Master Franchise Agreement between HSA Properties, L.L.C. and U.S. Franchise Systems, Inc. dated as
of March 27, 1996 (incorporated by reference from the Company's Registration Statement on Form S-1
(Registration No. 333-11427)).
10.5 -- Amended and Restated Stockholders' Agreement, dated as of September 29, 1995, as amended on October
11, 1996, among the Company and the Original Investors (incorporated by reference from the
Company's Registration Statement on Form S-1 (Registration No. 333-11427)).
10.6 -- Amended and Restated Employee Stock Purchase Agreement between U.S. Franchise Systems, Inc. and
Michael A. Leven, entered into as of September 29, 1995, as amended effective October 24, 1996
(incorporated by reference from the Company's Registration Statement on Form S-1 (Registration No.
333-11427)).
10.7 -- Amended and Restated Employee Stock Purchase Agreement between U.S. Franchise Systems, Inc. and
Neal K. Aronson, entered into as of September 29, 1995, as amended effective October 24, 1996
(incorporated by reference from the Company's Registration Statement on Form S-1 (Registration No.
333-11427)).
10.8 -- Employment Agreement by and between U.S. Franchise Systems, Inc. and Michael A. Leven, dated
October 1, 1995 (incorporated by reference from the Company's Registration Statement on Form S-1
(Registration No. 333-11427)).
10.9 -- Employment Agreement by and between U.S. Franchise Systems, Inc. and Neal K. Aronson, dated October
1, 1995 (incorporated by reference from the Company's Registration Statement on Form S-1
(Registration No. 333-11427)).
10.10 -- Voting Agreement between Michael A. Leven and Andrea Leven entered into on October 30, 1996
(incorporated by reference from the Company's Registration Statement on Form S-1 (Registration No.
333-11427)).
10.11 -- Voting Agreement between Michael A. Leven and Neal K. Aronson entered into on October 30, 1996
(incorporated by reference from the Company's Registration Statement on Form S-1 (Registration No.
333-11427)).
10.12 -- Office Lease Agreement between Hallwood Real Estate Investors Fund XV and U.S. Franchise Systems,
Inc., dated September 25, 1995 (incorporated by reference from the Company's Registration Statement
on Form S-1 (Registration No. 333-11427)).
10.13 -- First Amendment to Office Lease between Hallwood 95, L.P., and U.S. Franchise Systems, Inc., dated
May 20, 1996 (incorporated by reference from the Company's Registration Statement on Form S-1
(Registration No. 333-11427)).
10.14 -- U.S. Franchise Systems, Inc. Amended and Restated 1996 Stock Option Plan (incorporated by reference
from the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 1996).
10.15 -- U.S. Franchise Systems, Inc. 1996 Stock Option Plan for Non-Employee Directors (incorporated by
reference from the Company's Registration Statement on Form S-1 (Registration No. 333-11427)).
10.16 -- Term Sheet, dated May 14, 1996, between the Company and NACC regarding the Franchise Financing
Facility (incorporated by reference from the Company's Registration Statement on Form S-1
(Registration No. 333-11427)).
10.17 -- Voting Agreement between Michael A. Leven and Andrea Leven entered into on March 12, 1998
(incorporated by reference from Exhibit 10.11 to the Company's Registration Statement on Form S-4
(Registration No. 333-46185)).
10.18 -- Voting Agreement Between Michael A. Leven and Neal K. Aronson entered into on March 12, 1998
(incorporated by reference from Exhibit 10.13 to the Company's Registration Statement on Form S-4
(Registration No. 333-46185)).
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT NO. DESCRIPTION
- ------------- --------------------------------------------------------------------------------------------------------------
<C> <C> <S>
10.19 -- Sublease Agreement by and among Unocal Corporation, DBA Union Oil Co. of California, U.S. Franchise
Systems, Inc. and Hallwood 95, L.P., dated July 25, 1997 (incorporated by reference from Exhibit
10.16 to the Company's Registration Statement on Form S-4 (Registration No. 333-46185)).
10.20 -- Addendum to Sublease by and among Union Oil Company of California d/b/a Unocal, U.S. Franchise
Systems, Inc. and Hallwood Real Estate Investors Fund XV, dated July 25, 1997 (incorporated by
reference from Exhibit 10.17 to the Company's Registration Statement on Form S-4 (Registration No.
333-46185)).
10.21 -- Agreement of Purchase and Sale between America's Best Inns, Inc. and The Other Selling Entities
Listed on Schedule I thereto and Best Acquisition, Inc., dated December 15, 1997. The Company
agrees to furnish copies of the schedules hereto supplementally to the Commission on request
(incorporated by reference from the Company's Registration Statement on Form S-4 (Registration No.
333-46185)).
10.22 -- Promissory Note, dated March 18, 1998, from Constellation Equity Corp. to the Registrant in the
principal amount of $10 million (incorporated by reference from the Company's Annual Report on Form
10-K for the fiscal year ended December 31, 1997 (File No. 0-23941)).
10.23 -- Management Services Agreement, dated March 17, 1998, between the Registrant and Constellation
Development Fund LLC (incorporated by reference from the Company's Annual Report on Form 10-K for
the fiscal year ended December 31, 1997 (File No. 0-23941)).
10.24 -- Asset Transfer Agreement dated as of April 28, 1998 among Best Acquisition, Inc., Alpine
Hospitality Ventures LLC, RSVP-BI OPCO, LLC, RSVP-ABI REALCO, LLC, America's Best Inns, Inc. and
the entities identified on Schedule 1 thereto. The Company agrees to furnish copies of the
schedules hereto supplementally on request (incorporated by reference from the Company's Quarterly
Report on Form 10-Q for the quarterly period ended March 31, 1998 (File No. 0-23941)).
10.25 -- Securities Purchase Agreement dated as of April 28, 1998 by and between U.S. Franchise Systems,
Inc. and Alpine Hospitality Equities LLC. The Company agrees to furnish copies of the schedules
hereto supplementally on request (incorporated by reference from the Company's Quarterly Report on
Form 10-Q for the quarterly period ended March 31, 1998 (File No. 0-23941)).
10.26 -- Hotel Management Agreement made and entered into on April 28, 1998 by and among Alpine Hospitality
Ventures LLC, RSVP-BI OPCO, LLC, RSVP-ABI REALCO, LLC and USFS Management, Inc. (incorporated by
reference from the Company's Quarterly Report on Form 10-Q for the quarterly period ended March 31,
1998 (File No. 0-23941)).
10.27 -- Amended and Restated License Agreement dated April 28, 1998 by and between Best Franchising, Inc.
and RSVP-BI OPCO, LLC (incorporated by reference from the Company's Quarterly Report on Form 10-Q
for the quarterly period ended March 31, 1998 (File No. 0-23941)).
10.28 -- Best Franchising, Inc. current form of Licence Agreement for Best Inns hotels (incorporated by
reference from the Company's Quarterly Report on Form 10-Q for the quarterly period ended March 31,
1998 (File No. 0-23941)).
10.29 -- Loan Agreement dated as of April 28, 1998 by and between U.S. Franchise Systems, Inc. and
NationsBank, N.A. The Company agrees to furnish copies of the exhibits and schedules hereto
supplementally to the Commission on request (incorporated by reference from the Company's Quarterly
Report on Form 10-Q for the quarterly period ended March 31, 1998 (File No. 0-23941)).
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT NO. DESCRIPTION
- ------------- --------------------------------------------------------------------------------------------------------------
<C> <C> <S>
10.30 -- Senior Subordinated Note Purchase Agreement dated as of April 28, 1998 between Alpine Hospitality
Ventures LLC and U.S. Franchise Systems, Inc. The Company agrees to furnish copies of the schedules
hereto supplementally on request (incorporated by reference from the Company's Quarterly Report on
Form 10-Q for the quarterly period ended March 31, 1998 (File No. 0-23941)).
10.31 -- Subscription Agreement dated as of March 17, 1998 between (i) U.S. Franchise Systems, Inc., (ii)
Sextant Trading LLC, and (iii) Lubert-Adler Real Estate Opportunity Fund, L.P., Lubert-Adler Real
Estate Opportunity Fund II, L.P. and Lubert-Adler Capital Real Estate Opportunity Fund, L.P.
(incorporated by reference from the Company's Quarterly Report on Form 10-Q for the quarterly
period ended March 31, 1998 (File No. 0-23941)).
21 -- Subsidiaries of the Company.*
23.1 -- Consent of Paul, Weiss, Rifkind, Wharton & Garrison, with respect to the legality of securities
being registered (contained in Exhibit 5).
23.2 -- Consent of Deloitte & Touche LLP.*
24 -- Powers of Attorney+.
</TABLE>
- ------------------------
* Filed herewith
+ Previously filed
<PAGE>
Exhibit 1.1
U.S. FRANCHISE SYSTEMS, INC.
______________________
Class A Common Stock
(par value $0.01 per share)
Underwriting Agreement
New York, New York
May ___, 1998
NationsBanc Montgomery Securities LLC
CIBC Oppenheimer Corp.
The Robinson-Humphrey Company, LLC
Schroder & Co. Inc.
c/o NationsBanc Montgomery Securities LLC
600 Montgomery Street
San Francisco, CA 94111
Ladies and Gentlemen:
U.S. Franchise Systems, Inc., a Delaware corporation (the "COMPANY"),
proposes, subject to the terms and conditions stated herein, to issue and sell
to the Underwriters named in Schedule I hereto (the "UNDERWRITERS") an aggregate
of 4,500,000 shares of Class A Common Stock, par value $0.01 per share
("STOCK"), of the Company. The 4,500,000 shares of Common Stock to be sold by
the Company are herein referred to as the "FIRM SHARES." In addition, the
Company proposes to grant to the Underwriters an option to purchase up to an
additional 675,000 shares of Stock (the "OPTIONAL SHARES"), on the terms and for
the purposes set forth in Section 2 hereof. (The Firm Shares and the Optional
Shares that the Underwriters elect to purchase pursuant to Section 2 hereof are
herein collectively called the "SHARES").
<PAGE>
1. (a)The Company represents and warrants to, and agrees with, each of
the Underwriters that:
(i) A registration statement on Form S-3 (File No.
333-50291) (the "REGISTRATION STATEMENT") in respect of the Shares
has been filed with the Securities and Exchange Commission (the
"COMMISSION"); the Registration Statement and any post-effective
amendment thereto, each in the form heretofore delivered to you,
have been declared effective by the Commission in such form; other
than a registration statement, if any, increasing the size of the
offering (a "RULE 462(b) REGISTRATION STATEMENT"), filed pursuant to
Rule 462(b) under the Securities Act of 1933, as amended (the
"ACT"), which became effective upon filing, no other document with
respect to the Registration Statement has heretofore been filed with
the Commission; and no stop order suspending the effectiveness of
the Registration Statement, any post-effective amendment thereto or
the Rule 462(b) Registration Statement, if any, has been issued and
no proceeding for that purpose has been initiated or threatened by
the Commission (any preliminary prospectus included in the
Registration Statement or filed with the Commission pursuant to Rule
424(a) of the rules and regulations of the Commission under the Act,
is hereinafter called a "PRELIMINARY PROSPECTUS"; the various parts
of the Registration Statement and the Rule 462(b) Registration
Statement, if any, including all exhibits thereto and including the
information contained in the form of final prospectus filed with the
Commission pursuant to Rule 424(b) under the Act in accordance with
Section 5(a) hereof and deemed by virtue of Rule 430A under the Act
to be part of the Registration Statement at the time it was declared
effective or such part of the Rule 462(b) Registration Statement, if
any, at the time it became or hereafter becomes effective, each as
amended at the time such part of the registration statement became
effective, is hereinafter collectively called the "REGISTRATION
STATEMENT"; and such final prospectus, in the form first filed
pursuant to Rule 424(b) under the Act, is hereinafter called the
"PROSPECTUS");
(ii) No order preventing or suspending the use of any
Preliminary Prospectus has been issued by the Commission, and each
Preliminary Prospectus, at the time of filing thereof, conformed in
all material respects to the requirements of the Act and the rules
and regulations of the Commission thereunder, and did not contain an
untrue statement of a material fact or omit to
2
<PAGE>
state a material fact required to be stated therein or necessary to
make the statements therein, in the light of the circumstances under
which they were made, not misleading; PROVIDED, HOWEVER, that this
representation and warranty shall not apply to any statements or
omissions made in reliance upon and in conformity with information
furnished in writing to the Company by an Underwriter through
NationsBanc Montgomery Securities LLC expressly for use therein;
(iii) The Registration Statement conforms, and the Prospectus
and any further amendments or supplements to the Registration
Statement or the Prospectus will conform, in all material respects
to the requirements of the Act and the rules and regulations of the
Commission thereunder (and, if filed by electronic transmission
pursuant to the Commission's Electronic Data Gathering And Retrieval
system, was identical (except as may be permitted by Regulation S-T
under the Act) to the copy thereof delivered to the Underwriters)
and do not and will not, as of the applicable effective date as to
the Registration Statement and any amendment thereto, and as of the
applicable filing date as to the Prospectus and any amendment or
supplement thereto, contain an untrue statement of a material fact
or omit to state a material fact required to be stated therein or
necessary to make the statements therein not misleading; PROVIDED,
HOWEVER, that this representation and warranty shall not apply to
any statements or omissions made in reliance upon and in conformity
with information furnished in writing to the Company by an
Underwriter through NationsBanc Montgomery Securities LLC expressly
for use therein;
(iv) Neither the Company nor any of its subsidiaries has
sustained since the date of the latest audited financial statements
included in the Prospectus any material loss or interference with
its business from fire, explosion, flood or other calamity, whether
or not covered by insurance, or from any labor dispute or court or
governmental action, order or decree, otherwise than as set forth or
contemplated in the Prospectus; and, since the respective dates as
of which information is given in the Registration Statement and the
Prospectus, there has not been any change in the capital stock or
long-term debt of the Company or any of its subsidiaries, or any
material adverse change, or any development involving a prospective
material adverse change, in or affecting the general affairs,
management, financial position, stockholders' equity, results of
operations or prospects of the Company and its
3
<PAGE>
subsidiaries, otherwise than as set forth or contemplated in the
Prospectus;
(v) The Company and its subsidiaries have good and
marketable title in fee simple to all real property and good and
marketable title to all personal property owned by them, in each
case free and clear of all liens, encumbrances and defects except
such as are described in the Prospectus or such as do not materially
affect the value of such property and do not interfere with the use
made and proposed to be made of such property by the Company and its
subsidiaries; and any real property and buildings held under lease
by the Company and its subsidiaries are held by them under valid,
subsisting and enforceable leases, in each case, with such
exceptions as are not material and do not interfere with the use
made and proposed to be made of such property and buildings by the
Company and its subsidiaries;
(vi) The Company has been duly incorporated and is validly
existing as a corporation in good standing under the laws of the
State of Delaware, with power and authority (corporate and other) to
own its properties and conduct its business as described in the
Prospectus, and has been duly qualified as a foreign corporation for
the transaction of business and is in good standing under the laws
of each other jurisdiction in which it owns or leases properties or
conducts any business so as to require such qualification, except to
the extent the failure to be so qualified in any such jurisdiction
would not have a material adverse effect on the general affairs,
management, financial position, stockholders' equity, results of
operations or prospects of the Company and its subsidiaries
considered as a whole (a "Material Adverse Effect"); and each
subsidiary of the Company has been duly formed and is validly
existing and in good standing under the laws of its jurisdiction of
formation;
(vii) The Company has an authorized capitalization as set
forth in the Prospectus under the caption "Description of Capital
Stock"; all of the issued shares of capital stock of the Company
have been duly and validly authorized and issued, are fully paid and
non-assessable, are free of any preemptive rights, rights of first
refusal or similar rights (except as described in the Prospectus),
were issued and sold in compliance with the applicable Federal and
state securities laws and conform to the description of the Stock
contained in the Prospectus; except as described in the Prospectus,
4
<PAGE>
there are no outstanding options, warrants or other rights calling
for the issuance of, and there are no commitments to issue, any
shares of capital stock of the Company or any security convertible
or exchangeable or exercisable for capital stock of the Company;
there are no holders of securities of the Company who, by reasons of
the filing of the Registration Statement, have the right (and have
not waived such right) to request the Company to include in the
Registration Statement securities owned by them;
(viii) All of the issued shares of capital stock of each
subsidiary of the Company have been duly and validly authorized and
issued, are fully paid and non-assessable and (except for directors'
qualifying shares) are owned directly or indirectly by the Company,
free and clear of all liens, encumbrances, equities or claims; and
there are no outstanding options, warrants or other rights calling
for the issuance of, and there are no commitments to issue, any
shares of capital stock of any subsidiary or any security
convertible or exchangeable or exercisable for capital stock of any
subsidiary; except for the shares of stock of each subsidiary owned
directly or indirectly by the Company, and the equity interests in
Equity Partners, L.P. and USFS Equity, L.L.C. owned by the Company,
neither the Company nor any subsidiary owns, directly or indirectly,
any shares of capital stock of any corporation or has any equity
interest in any firm, partnership, joint venture, association or
other entity, except as disclosed in the Prospectus; other than
Microtel Inns and Suites, Inc., Hawthorn Suites Franchising, Inc.,
Microtel Inns Realty Corp., Microtel International, Inc., U.S.
Funding Corp., U.S. Franchise Capital, Inc. and USFS Management
Inc., each a Georgia corporation, Tempe Holdings LLC and Chandler
Holdings LLC, each an Arizona limited liability company, and HSA
Properties LLC, a Delaware limited liability company (each, a
"MATERIAL SUBSIDIARY"), there are no "significant subsidiaries" (as
defined in Regulation S-X under the Securities Act) of the Company;
(ix) The unissued Shares to be issued and sold by the
Company to the Underwriters hereunder have been duly and validly
authorized and, when issued and delivered against payment therefor
as provided herein, will be duly and validly issued and fully paid
and non-assessable and will conform to the description of the Stock
contained in the Prospectus;
5
<PAGE>
(x) The issue and sale of the Shares by the Company and the
compliance by the Company with all of the provisions of this
Agreement and the consummation of the transactions herein
contemplated will not conflict with or result in a breach or
violation of any of the terms or provisions of, or constitute a
default under, any indenture, mortgage, deed of trust, loan
agreement or other agreement or instrument, in each case as in
effect at the applicable Time of Delivery (as defined in Section 4
hereof), to which the Company or any of its subsidiaries is a party
or by which the Company or any of its subsidiaries is bound or to
which any of the property or assets of the Company or any of its
subsidiaries is subject nor will such action result in any violation
of the provisions of the Certificate of Incorporation or By-laws of
the Company, in each case as in effect at the applicable Time of
Delivery, or any statute or any order, rule or regulation of any
court or governmental agency or body having jurisdiction over the
Company or any of its subsidiaries or any of their properties; and
no consent, approval, authorization, order, registration or
qualification of or with any such court or governmental agency or
body is required for the issue and sale of the Shares or the
consummation by the Company of the transactions contemplated by this
Agreement, except the registration under the Act of the Shares and
such consents, approvals, authorizations, registrations or
qualifications as may be required under state securities or Blue Sky
laws in connection with the purchase and distribution of the Shares
by the Underwriters;
(xi) The Joint Venture Agreement between the Company and
Microtel Franchise and Development Corporation dated as of September
7, 1995 (the "ACQUISITION AGREEMENT") has been duly authorized,
executed and delivered by the Company and constitutes the legal,
valid and binding agreement of the Company, enforceable in
accordance with its terms except as may be limited by bankruptcy,
insolvency, reorganization, moratorium or other similar laws
relating to or affecting creditors' rights generally and by general
principles of equity;
(xii) Each of the Company and Microtel Inns and Suites
Franchising, Inc., Hawthorn Suites Franchising, Inc. and Best
Franchising, Inc. (together, the "FRANCHISING SUBSIDIARIES") is duly
registered (or in the process of registration in the case of Best
Franchising, Inc.) or authorized as a franchisor in all
jurisdictions where it is required to be so registered or authorized
to conduct its
6
<PAGE>
business as described in the Prospectus (other than any jurisdiction
requiring registration in which the Company or any of the
Franchising Subsidiaries is actively seeking to renew or amend a
registration which has lapsed due to the passage of time with
respect to which the Company or the applicable Franchising
Subsidiary has no reason to believe that such renewal or amendment
will not be obtained); and the procedures of each of the Company and
the Franchising Subsidiaries comply with the requirements of all
applicable federal, state and local laws and any applicable rules
and regulations thereunder governing the offer and sale of
franchises and the relationships between franchisors and franchisees
and has filed all notices, reports, documents and other information
required to be filed thereunder, except to the extent any failure so
to comply would not have a Material Adverse Effect;
(xiii) The consolidated financial statements and schedules of
the Company and its subsidiaries included in the Registration
Statement and the Prospectus present fairly in all material respects
the financial condition, the results of operations and the cash
flows of the Company and its subsidiaries as of the dates and for
the periods therein specified in conformity with generally accepted
accounting principles consistently applied throughout the periods
involved, except as otherwise stated therein; and the other
financial and statistical information and data set forth in the
Registration Statement and the Prospectus are accurately presented
and, to the extent such information and data are derived from the
financial statements and books and records of the Company and its
subsidiaries, are prepared on a basis consistent with such financial
statements and the books and records of the Company and its
subsidiaries; no other financial statements or schedules are
required to be included in the Registration Statement and the
Prospectus;
(xiv) There are no statutes or governmental regulations, or
any contracts or other documents that are required to be described
in or filed as exhibits to the Registration Statement which are not
described therein or filed as exhibits thereto; and all contracts
described in or filed as exhibits to the Registration Statement to
which the Company or any subsidiary is a party have been duly
authorized, executed and delivered by the Company or such
subsidiary, constitute valid and binding agreements of the Company
or such subsidiary and are enforceable against the Company or
subsidiary in accordance with the terms thereof except
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as may be limited by bankruptcy, insolvency, reorganization,
moratorium or other similar laws relating to or affecting creditors'
rights generally and by general principles of equity;
(xv) The Company and its subsidiaries own or possess
adequate patent rights or licenses or other rights to use patent
rights, inventions, trademarks, service marks, trade names,
copyrights, technology and know-how necessary to conduct the general
business operated or proposed to be operated by them as described in
the Prospectus; neither the Company nor any of its subsidiaries has
received any notice of infringement of or conflict with asserted
rights of others with respect to any patent, patent rights,
inventions, trademarks, service marks, trade names, copyrights,
technology or know-how which individually or in the aggregate could
have a Material Adverse Effect;
(xvi) Neither the Company nor any of its subsidiaries is in
violation of its Certificate of Incorporation or By-laws or in
default in the performance or observance of any material obligation,
agreement, covenant or condition contained in any indenture,
mortgage, deed of trust, loan agreement, lease or other material
agreement or material instrument to which it is a party or by which
it or any of its properties may be bound;
(xvii) The statements set forth in the Prospectus under the
caption "Description of the Capital Stock", insofar as they purport
to constitute a summary of the terms of the Stock, are accurate and
complete;
(xviii) Other than as set forth in the Prospectus, there are no
legal or governmental proceedings pending to which the Company or
any of its subsidiaries is a party or of which any property of the
Company or any of its subsidiaries is the subject which, if
determined adversely to the Company or any of its subsidiaries,
would individually or in the aggregate have a material adverse
effect on the current or future consolidated financial position,
stockholders' equity or results of operations of the Company and its
subsidiaries; and, to the best of the Company's knowledge, no such
proceedings are threatened or contemplated by governmental
authorities or threatened by others;
(xix) The Company and its subsidiaries maintain a system of
internal accounting controls sufficient to provide reasonable
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assurances that (i) transactions are executed in accordance with
management's general or specific authorization; (ii) transactions
are recorded as necessary to permit preparation of financial
statements in conformity with generally accepted accounting
principles and to maintain accountability for assets; (iii) access
to assets is permitted only in accordance with management's general
or specific authorization; and (iv) the recorded accountability for
assets is compared with existing assets at reasonable intervals and
appropriate action is taken with respect to any differences;
(xx) The Company is not and, after giving effect to the
offering and sale of the Shares, will not be required to be
registered or regulated as an "investment company" or an entity
"controlled" by an "investment company", as such terms are defined
in the Investment Company Act of 1940, as amended (the "INVESTMENT
COMPANY ACT");
(xxi) None of the Company, any of its subsidiaries, nor any
of their officers, directors, employees or agents has used any
corporate funds for any unlawful contribution, gift, entertainment
or other unlawful expense relating to political activity, or made
any unlawful payment of funds of the Company or any subsidiary or
received or retained any funds in violation of any law, rule or
regulation;
(xxii) Neither the Company nor any of its affiliates does
business with the government of Cuba or with any person or affiliate
located in Cuba within the meaning of Section 517.075, Florida
Statutes; and
(xxiii) Deloitte & Touche, who have certified certain financial
statements of the Company and its subsidiaries, are independent
public accountants as required by the Act and the rules and
regulations of the Commission thereunder.
2. Subject to the terms and conditions herein set forth, (a) the
Company agrees to issue and sell to each of the Underwriters, and each of the
Underwriters agrees, severally and not jointly, to purchase from the Company at
a purchase price per share of $_____, the number of respective Firm Shares (to
be adjusted by you so as to eliminate fractional shares) set forth opposite the
name of such Underwriter in Schedule I hereto and (b) in the event and to the
extent that the Underwriters shall exercise the election to purchase Optional
Shares as provided below, the Company agrees to issue and sell to each of the
Underwriters, and each
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of the Underwriters agrees, severally and not jointly, to purchase from the
Company at the purchase price per share set forth in clause (a) of this Section
2, that portion of the number of Optional Shares as to which such election shall
have been exercised (to be adjusted by you so as to eliminate fractional shares)
set forth opposite the name of such Underwriter in Schedule I hereto.
The Company hereby grants to the Underwriters the right to purchase at
their election up to 675,000 Optional Shares, at the purchase price per share
set forth in the paragraph above, for the sole purpose of covering
overallotments in the sale of the Firm Shares. Any such election to purchase
Optional Shares shall be made in proportion to the maximum number of Optional
Shares to be sold by the Company. Any such election to purchase Optional Shares
may be exercised only by 48 hours' prior written or telephonic notice
(subsequently confirmed in writing) from NationsBanc Montgomery Securities LLC
to the Company given within 30 calendar days after the date of this Agreement,
setting forth the aggregate number of Optional Shares to be purchased and the
date on which such Optional Shares are to be delivered, as determined by
NationsBanc Montgomery Securities LLC but in no event earlier than the First
Time of Delivery (as defined in Section 4 hereof) or, unless NationsBanc
Montgomery Securities LLC and the Company otherwise agree in writing, earlier
than two or later than ten business days after the date of such notice.
3. Upon the authorization by you of the release of the Firm Shares, the
several Underwriters propose to offer the Firm Shares for sale upon the terms
and conditions set forth in the Prospectus.
4. (a)The Shares to be purchased by each Underwriter hereunder, in
definitive form, and in such authorized denominations and registered in such
names as NationsBanc Montgomery Securities LLC may request upon at least 48
hours, prior notice to the Company shall be delivered by or on behalf of the
Company to NationsBanc Montgomery Securities LLC for the account of such
Underwriter, against payment by or on behalf of such Underwriter of the purchase
price therefor by wire transfer of federal (same day) funds to a bank account
designated by the Company on at least 24 hours, prior notice to NationsBanc
Montgomery Securities LLC, or by certified or official bank check or checks,
payable in federal (same day) funds, to the order of the Company, for the
purchase price of the Firm Shares being sold by the Company. The Company will
cause the certificates representing the Shares to be made available for checking
and packaging at least 24 hours prior to the Time of Delivery (as defined below)
with respect thereto at the office of NationsBanc Montgomery Securities LLC, 600
Montgomery Street, San Francisco, CA 94111 (the "DESIGNATED OFFICE"). The time
and date of such delivery and payment shall be, with respect to the Firm Shares,
9:30 a.m., New York City time, on May __, 1997 or such other time and
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date as NationsBanc Montgomery Securities LLC and the Company may agree upon in
writing, and, with respect to the Optional Shares, 9:30 a.m., New York time, on
the date specified by NationsBanc Montgomery Securities LLC in the written
notice given by NationsBanc Montgomery Securities LLC of the Underwriters'
election to purchase such Optional Shares, or such other time and date as
NationsBanc Montgomery Securities LLC and the Company may agree upon in writing.
Such time and date for delivery of the Firm Shares is herein called the "FIRST
TIME OF DELIVERY", such time and date for delivery of the Optional Shares, if
not the First Time of Delivery, is herein called the "SECOND TIME OF DELIVERY",
and each such time and date for delivery is herein called a "TIME OF DELIVERY".
(b) The documents to be delivered at each Time of Delivery by or on
behalf of the parties hereto pursuant to Section 7 hereof, including the cross
receipt for the Shares and any additional documents requested by the
Underwriters pursuant to Section 7(j) hereof, will be delivered at the offices
of Davis Polk & Wardwell, 450 Lexington Avenue, New York, New York 10017 (the
"CLOSING LOCATION"), and the Shares will be delivered at the Designated Office,
all at such Time of Delivery. A meeting will be held at the Closing Location at
3:00 p.m., New York City time, on the New York Business Day next preceding such
Time of Delivery, at which meeting the final drafts of the documents to be
delivered pursuant to the preceding sentence will be available for review by the
parties hereto. For the purposes of this Section 4, "NEW YORK BUSINESS DAY"
shall mean each Monday, Tuesday, Wednesday, Thursday and Friday which is not a
day on which banking institutions in New York are generally authorized or
obligated by law or executive order to close.
5. (a)The Company agrees with each of the Underwriters:
(i) To prepare the Prospectus in a form approved by you and
to file such Prospectus pursuant to Rule 424(b) under the Act not
later than the Commission's close of business on the second business
day following the execution and delivery of this Agreement, or, if
applicable, such earlier time as may be required by Rule 430A(a)(3)
under the Act; to make no further amendment or any supplement to the
Registration Statement or Prospectus prior to the last Time of
Delivery which shall be disapproved by you promptly after reasonable
notice thereof; to advise you, promptly after it receives notice
thereof, of the time when any amendment to the Registration
Statement has been filed or becomes effective or any supplement to
the Prospectus or any amended Prospectus has been filed and to
furnish you and counsel for the Underwriters, without charge, signed
copies of the
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registration statement originally filed with respect to the Shares
and each amendment thereto (in each case including all exhibits
thereto) and to each other Underwriter, without charge, a conformed
copy of such registration statement and each amendment thereto (in
each case without exhibits thereto); to advise you, promptly after
it receives notice thereof, of the issuance by the Commission of any
stop order or of any order preventing or suspending the use of any
Preliminary Prospectus or prospectus, of the suspension of the
qualification of the Shares for offering or sale in any
jurisdiction, of the initiation or threatening of any proceeding for
any such purpose, or of any request by the Commission for the
amending or supplementing of the Registration Statement or
Prospectus or for additional information; and, in the event of the
issuance of any stop order or of any order preventing or suspending
the use of any Preliminary Prospectus or prospectus or suspending
any such qualification, promptly to use its best efforts to obtain
the withdrawal of such order;
(ii) Promptly from time to time to take such action as you
may reasonably request to qualify the Shares for offering and sale
under the securities laws of such jurisdictions in the United States
as you may request and to comply with such laws so as to permit the
continuance of sales and dealings therein in such jurisdictions for
as long as may be necessary to complete the distribution of the
Shares, provided that in connection therewith the Company shall not
be required to qualify as a foreign corporation or to file a general
consent to service of process in any jurisdiction;
(iii) Prior to 10:00 a.m., New York City time, on the New
York Business Day next succeeding the date of this Agreement and
from time to time, to furnish the Underwriters with copies of the
Prospectus in New York City in such quantities and at such places as
you may reasonably request, and, if the delivery of a prospectus is
required at any time prior to the expiration of nine months after
the time of issue of the Prospectus in connection with the offering
or sale of the Shares and if at such time any event shall have
occurred as a result of which the Prospectus as then amended or
supplemented would include an untrue statement of a material fact or
omit to state any material fact necessary in order to make the
statements therein, in the light of the circumstances under which
they were made when such Prospectus is delivered, not misleading,
or, if for any other reason it shall be necessary during such period
to amend or supplement the Prospectus in order to comply with the
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Act, to notify you and upon your request to prepare and furnish
without charge to each Underwriter and to any dealer in securities
as many copies as you may from time to time reasonably request of an
amended Prospectus or a supplement to the Prospectus which will
correct such statement or omission or effect such compliance, and in
case any Underwriter is required to deliver a prospectus in
connection with sales of any of the Shares at any time nine months
or more after the time of issue of the Prospectus, upon your request
but at the expense of such Underwriter, to prepare and deliver to
such Underwriter as many copies as you may request of an amended or
supplemented Prospectus complying with Section 10(a)(3) of the Act;
(iv) To make generally available to its securityholders as
soon as practicable, but in any event not later than 18 months after
the effective date of the Registration Statement (as defined in Rule
158(c) under the Act), an earnings statement of the Company and its
subsidiaries (which need not be audited) complying with Section
11(a) of the Act and the rules and regulations thereunder
(including, at the option of the Company, Rule 158);
(v) During the period beginning from the date hereof and
continuing to and including the date 90 days after the date of the
Prospectus, not to, without your prior written consents (which
consent may be withheld at your sole discretion), directly or
indirectly, sell, offer, contract or grant any option to sell,
pledge, transfer or establish an open "put equivalent position"
within the meaning of Rule 16a-1(h) under the Securities Exchange
Act of 1934, or otherwise dispose of or transfer, or announce the
offering of, or file any registration statement under the Securities
Act in respect of, any share of Stock, options or warrants to
acquire shares of the Stock or securities exchangeable or
exercisable for or convertible into shares of Stock (other than as
contemplated by this Agreement with respect to the Shares);
PROVIDED, HOWEVER; that the Company may (i) issue up to an aggregate
amount of 500,000 shares of Stock to NorthStar Capital Partners LLC,
Lubert-Adler Real Estate Opportunity Fund, LLC and their affiliates,
(ii) issue up to an aggregate of $900,000 in value of shares of
Stock to Leisure Hotel Corporation, (iii) issue shares of its
Stock or options to purchase Stock, or Stock upon exercise
of options, pursuant to any stock option, stock bonus
or other stock plan or arrangement described in the Prospectus,
and (iv) increase up to 200,000 the
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number of shares of Stock or options to purchase Stock issuable
pursuant to the Company's Amended and Restated 1996 Stock Option
Plan (or pursuant to options granted thereunder);
(vi) During a period of three years from the effective date
of the Registration Statement, to furnish to its stockholders as
soon as practicable after the end of each fiscal year an annual
report (including a balance sheet and statements of income,
stockholders' equity and cash flows of the Company and its
consolidated subsidiaries certified by independent public
accountants) and, as soon as practicable after the end of each of
the first three quarters of each fiscal year (beginning with the
fiscal quarter ending after the effective date of the Registration
Statement), unaudited consolidated summary financial information of
the Company and its subsidiaries for such quarter in reasonable
detail;
(vii) During a period of three years from the effective date
of the Registration Statement, to furnish to you copies of all
reports or other communications (financial or other) furnished to
stockholders, and to deliver to you (i) as soon as they are
available, copies of any reports and financial statements furnished
to or filed with the Commission or any national securities exchange
on which any class of securities of the Company is listed; and (ii)
such additional information concerning the business and financial
condition of the Company as you may from time to time reasonably
request (such financial statements to be on a consolidated basis to
the extent the accounts of the Company and its subsidiaries are
consolidated in reports furnished to its stockholders generally or
to the Commission);
(viii) To use the net proceeds received by it from the sale of
the Shares pursuant to this Agreement in the manner specified in the
Prospectus under the caption "Use of Proceeds";
(ix) To use its best efforts to list for quotation the
Shares on the National Association of Securities Dealers Automated
Quotations National Market System ("NASDAQ");
(x) To file promptly all documents required to be filed
with the Commission pursuant to Section 13, 14 or 15(d) of the
Securities Exchange Act of 1934, as amended, subsequent to the
Effective Date and during any period when the Prospectus is required
to be delivered; and
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(xi) To file with the Commission such reports on Form SR as
maybe required by Rule 463 under the Act.
6. The Company covenants and agrees with the several Underwriters that
the Company will pay or cause to be paid the following: (i) the fees,
disbursements and expenses of the Company's counsel and accountants in
connection with the registration of the Shares under the Act and all other
expenses in connection with the preparation, printing and filing of the
Registration Statement, any Preliminary Prospectus and the Prospectus and
amendments and supplements thereto and the mailing and delivering of copies
thereof to the Underwriters and dealers; (ii) the cost of printing any Agreement
among Underwriters, this Agreement, the Blue Sky Memorandum and any other
documents in connection with the offering, purchase, sale and delivery of the
Shares; (iii) all expenses in connection with the qualification of the Shares
for offering and sale under state securities laws, including the fees and
disbursements of counsel for the Underwriters in connection with such
qualification and in connection with the Blue Sky survey; (iv) all fees and
expenses in connection with listing the Shares on NASDAQ; (v) the filing fees
incident to, and the fees and disbursements of counsel for the Underwriters in
connection with, securing any required review by the National Association of
Securities Dealers, Inc. of the terms of the sale of the Shares; (vi) the cost
of preparing stock certificates; (vii) the cost and charges of any transfer
agent or registrar; and (viii) all other costs and expenses incident to the
performance of its obligations hereunder which are not otherwise specifically
provided for in this Section, including the cost of any stock issue or transfer
taxes on sale of the Shares to the Underwriters, the cost of the Company's
personnel and other internal costs, and all other taxes incident to the sale and
delivery of the Shares to be sold by the Company to the Underwriters hereunder.
It is understood, however, that, except as provided in this Section, and
Sections 8 and 11 hereof, the Underwriters will pay all of their own costs and
expenses, including their travel costs, the roadshow costs (other than the
lodging expenses of the officers of the Company), the fees of their counsel,
stock transfer taxes on resale of any of the Shares by them, and any advertising
expenses connected with any offers they may make.
7. The obligations of the Underwriters hereunder, as to the Shares to
be delivered at each Time of Delivery, shall be subject, in their discretion, to
the condition that all representations and warranties and other statements of
the Company herein are, at and as of such Time of Delivery, true and correct,
the condition that the Company shall have performed all of its obligations
hereunder theretofore to be performed, and the following additional conditions:
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(a) The Prospectus shall have been filed with the Commission
pursuant to Rule 424(b) within the applicable time period prescribed for
such filing by the rules and regulations under the Act and in accordance
with Section 5(a) hereof; no stop order suspending the effectiveness of
the Registration Statement or any part thereof shall have been issued and
no proceeding for that purpose shall have been initiated or threatened by
the Commission; and all requests for additional information on the part
of the Commission shall have been complied with to your reasonable
satisfaction;
(b) Davis Polk & Wardwell, counsel for the Underwriters, shall
have furnished to you such opinion or opinions, dated such Time of
Delivery, with respect to the validity of the Shares being delivered at
such Time of Delivery, the Registration Statement, the Prospectus and
such other related matters as you may reasonably request, and such
counsel shall have received such papers and information as they may
reasonably request to enable them to pass upon such matters;
(c) Paul, Weiss, Rifkind, Wharton & Garrison, counsel for the
Company, shall have furnished to you their written opinion, dated such
Time of Delivery, in form and substance satisfactory to you, to the
effect that:
(i) The Company and HSA Properties LLC, a Delaware limited
liability company, have been duly incorporated and organized,
respectively, and are validly existing as a corporation and a
limited liability company, respectively, in good standing under the
laws of the State of Delaware, with all requisite power and
authority to own its properties and conduct its business as
described in the Prospectus; and all of the issued limited liability
company interests of HSA Properties LLC have been duly and validly
authorized and issued, are fully paid and non-assessable, and are
owned directly or indirectly by the Company, free and clear of all
liens and encumbrances, equities or claims (such counsel being
entitled to rely in respect of matters of fact upon certificates of
officers of the Company or its subsidiaries, provided that such
counsel shall state that they believe that both you and they are
justified in relying upon such certificates);
(ii) The Company has an authorized capitalization as set
forth in the Prospectus, and all of the issued shares of capital
stock of the Company (including the Shares being delivered at such
Time of Delivery upon payment therefor as provided in this
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Agreement) have been duly and validly authorized and issued and are
fully paid and non-assessable; and the Shares conform in all
material respects to the description contained in the Prospectus
under the caption "Description of the Capital Stock -- Common
Stock";
(iii) To such counsel's knowledge and other than as set forth
in the Prospectus, there are no legal or governmental proceedings
pending to which the Company or any of its subsidiaries or any of
their respective officers or directors is a party or of which any
property of the Company or any of its subsidiaries is the subject
which, if determined adversely to the Company or any of its
subsidiaries, would individually or in the aggregate have a material
adverse effect on the consolidated financial position, stockholders'
equity or results of operations of the Company and its subsidiaries;
and, to the best of such counsel's knowledge, no such proceedings
are threatened or contemplated by governmental authorities or
threatened by others;
(iv) This Agreement has been duly authorized, executed and
delivered by the Company;
(v) The issue and sale of the Shares being delivered at
such Time of Delivery by the Company and the compliance by the
Company with all of the provisions of this Agreement and the
consummation of the transactions herein contemplated will not breach
or result in a default under, any indenture, mortgage, deed of
trust, loan agreement or other agreement or instrument filed as an
exhibit to the Registration Statement, in each case as in effect at
such Time of Delivery, to which the Company or any of its
subsidiaries is a party or by which the Company or any of its
subsidiaries is bound or to which any of the property or assets of
the Company or any of its subsidiaries is subject, except for such
breaches that could not, singly or in the aggregate, reasonably be
expected to have a Material Adverse Effect, nor will such action
result in any violation of the provisions of the Certificate of
Incorporation or By-laws of the Company, in each case as in effect
at such Time of Delivery, or result in a violation of any Applicable
Law or any judgment, order or decree of any court or arbitration
known to us, except as could not, singly or in the aggregate,
reasonably be expected to have a Material Adverse Effect.
"APPLICABLE LAW" means the General Corporation Law of the State of
Delaware (the "DGCL") and those laws, rules and
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regulations of the United States of America and the State of New
York, in each case that in our experience are normally applicable to
transactions of the type contemplated by this Agreement;
(vi) No consent, approval, authorization, order,
registration or qualification of or with any Governmental Authority
or is required for the issue and sale of the Shares or the
consummation by the Company of the transactions contemplated by this
Agreement, except the registration under the Act of the Shares, and
such consents, approvals, authorizations, registrations or
qualifications as have been obtained or as may be required under
state securities or Blue Sky laws in connection with the purchase
and distribution of the Shares by the Underwriters. The term
"GOVERNMENTAL AUTHORITY" means any executive, legislative, judicial,
administrative, or regulatory body of the State of New York, the
State of Delaware under the DGCL or the United States of America;
(vii) To such counsel's knowledge, neither the Company nor
HSA Properties LLC is in violation of its Certificate of
Incorporation or By-laws or other constitutive documents and neither
the Company nor any of the Material Subsidiaries is in default in
the performance or observance of any material obligation, agreement,
covenant or condition contained in any indenture, mortgage, deed of
trust, loan agreement, lease or other material agreement or material
instrument that is filed as an exhibit to the Registration
Statement, in each case as in effect at such Time of Delivery,
except for such conflicts, breaches or violations that could not,
singly or in the aggregate, reasonably be expected to have a
Material Adverse Effect;
(viii) Except as otherwise set forth in the Registration
Statement, there are no preemptive or other rights to subscribe for
or to purchase, nor any restriction upon the voting or transfer of,
any Shares pursuant to the Company's Certificate of Incorporation or
By-laws, in each case as amended to the date hereof, or any
agreement or other instrument that is filed as an exhibit to the
Registration Statement; and, to our knowledge, no holders of
securities of the Company have rights to the registration thereof
under the Registration Statement or, if any such holders have such
rights, such holders have waived such rights;
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(ix) To the extent summarized therein, all contracts and
agreements summarized in the Registration Statement and the
Prospectus are fairly summarized therein, conform in all material
respects to the descriptions thereof contained therein and, to the
extent such contracts or agreements are required under the Act or
the rules and regulations thereunder to be filed as exhibits to the
Registration Statement, they are so filed or incorporated by
reference; and such counsel does not know of any contracts or other
documents or any other material agreements required to be summarized
or disclosed in the Prospectus or to be so filed as an exhibit to
the Registration Statement, which have not been so summarized or
disclosed, or so filed or incorporated by reference;
(x) The statements set forth in the Prospectus under the
caption "Description of the Capital Stock", insofar as they purport
to constitute a summary of the terms of the Stock, are accurate and
complete;
(xi) The Company is not and, after giving effect to the
offering and sale of the Shares (assuming the proceeds therefrom are
used as described in the Prospectus under the caption "Use of
Proceeds") will not be required to be registered and is not
regulated as an "investment company" or an entity "controlled" by an
"investment company", as such terms are defined in the Investment
Company Act; and
(xii) The Registration Statement and the Prospectus and any
further amendments and supplements thereto made by the Company prior
to such Time of Delivery (other than the financial statements and
related schedules, financial or statistical data and lodging
industry data prepared by third-party sources therein, as to which
such counsel need express no opinion) comply as to form in all
material respects with the requirements of the Act and the rules and
regulations thereunder.
In addition, such counsel shall state that they have participated in
the preparation of the Registration Statement and the Prospectus and,
although they do not assume any responsibility for the accuracy,
completeness or fairness of the statements contained in the Registration
Statement or the Prospectus, except for those referred to in the opinion
in subsection (x) of this section 7(c), based upon such representation
and relying as to materiality to the extent such counsel deemed
reasonable on officers, employees and other representatives of the
Company as to factual
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matters, no facts have come to their attention to cause them to believe
that, as of its effective date, the Registration Statement or any further
amendment thereto made by the Company prior to such Time of Delivery
(other than the financial statements and related schedules, financial or
statistical data and lodging industry data prepared by third-party
sources therein, as to which such counsel need express no opinion)
contained an untrue statement of a material fact or omitted to state a
material fact required to be stated therein or necessary to make the
statements therein not misleading or that, as of its date, the Prospectus
or any further amendment or supplement thereto made by the Company prior
to such Time of Delivery (other than the financial statements and related
schedules, financial or statistical data and lodging industry data
prepared by third-party sources therein, as to which such counsel need
express no opinion) contained an untrue statement of a material fact or
omitted to state a material fact necessary to make the statements
therein, in the light of the circumstances under which they were made,
not misleading or that, as of such Time of Delivery, either the
Registration Statement or the Prospectus or any further amendment or
supplement thereto made by the Company prior to such Time of Delivery
(other than the financial statements and related schedules, financial or
statistical data and lodging industry data prepared by third-party
sources therein, as to which such counsel need express no opinion)
contains an untrue statement of a material fact or omits to state a
material fact necessary to make the statements therein, in the light of
the circumstances under which they were made, not misleading; and they do
not know of any amendment to the Registration Statement required to be
filed which has not been filed;
(d) Bodker, Ramsey & Andrews, counsel for the Company, shall have
furnished to you their written opinion, dated such Time of Delivery, in
form and substance satisfactory to you, to the effect that:
(i) The Company has been duly qualified as a foreign
corporation for the transaction of business and is in good standing
under the laws of each other jurisdiction in which it owns or leases
properties or conducts any business so as to require such
qualification or is subject to no material liability or disability
by reason of failure to be so qualified in any such jurisdiction
(such counsel being entitled to rely in respect of matters of fact
upon certificates of officers of the Company, provided that such
counsel shall state that they believe that both you and they are
justified in relying upon such certificates); and
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<PAGE>
(ii) Each Material Subsidiary that is incorporated in the
State of Georgia and has been duly incorporated and is validly
existing as a corporation in good standing under the laws of the
State of Georgia; and all of the issued shares of capital stock of
each such Material Subsidiary have been duly and validly authorized
and issued, are fully paid and non-assessable, and (except for
directors' qualifying shares) are owned directly or indirectly by
the Company, free and clear of all liens, encumbrances, equities or
claims (such counsel being entitled to rely in respect of matters of
fact upon certificates of officers of the Company or its
subsidiaries, provided that such counsel shall state that they
believe that both you and they are justified in relying upon such
certificates).
(e) Smith Gambrel & Russell, special counsel for the Company,
shall have furnished to you their written opinion, dated such Time of
Delivery, in form and substance satisfactory to you, to the effect that,
to the best of such counsel's knowledge, and other than as set forth in
the Prospectus, each of the Company and the Franchising Subsidiaries is
duly registered or authorized as a franchisor in all jurisdictions where
it is required to be so registered or authorized as a franchisor to
conduct its business as described in the Prospectus (other than any
jurisdiction requiring registration in which the Company or either of the
Franchising Subsidiaries is actively seeking to renew or amend a
registration which has lapsed due to the passage of time with respect to
which such counsel has no reason to believe that such renewal or
amendment will not be obtained); and the procedures of each of the
Company and the Franchising Subsidiaries comply with the requirements of
all applicable federal, state and local laws and any applicable rules and
regulations thereunder governing the offer and sale of franchises and the
relationships between franchisors and franchisees, except to the extent
any failure so to comply would not be expected to have a material adverse
effect on the business or financial condition of the Company and its
subsidiaries considered as a whole;
(f) On the date of the Prospectus at a time prior to the execution
of this Agreement; at 9:30 a.m., New York City time, on the effective
date of any post-effective amendment to the Registration Statement filed
subsequent to the date of this Agreement and also at each Time of
Delivery, Deloitte & Touche shall have furnished to you a letter or
letters, dated the respective dates of delivery thereof, in form and
substance satisfactory to you, to the effect set forth in Annex I hereto
(the executed copy of the letter delivered prior to the execution of this
Agreement is
21
<PAGE>
attached as Annex I(a) hereto and a draft of the form of letter to be
delivered on the effective date of any post-effective amendment to the
Registration Statement and as of each Time of Delivery is attached as
Annex I(b) hereto);
(g) (i) Neither the Company nor any of its subsidiaries shall have
sustained since the date of the latest audited financial statements
included in the Prospectus any loss or interference with its business
from fire, explosion, flood or other calamity, whether or not covered by
insurance, or from any labor dispute or court or governmental action,
order or decree, otherwise than as set forth or contemplated in the
Prospectus, and (ii) since the respective dates as of which information
is given in the Prospectus there shall not have been any change in the
capital stock or long-term debt of the Company or any of its
subsidiaries, or any change, or any development involving a prospective
change, in or affecting the general affairs, management, financial
position, stockholders' equity, results of operations or prospects of the
Company and its subsidiaries, otherwise than as set forth or contemplated
in the Prospectus, the effect of which, in any such case described in
Clause (i) or (ii), is in the judgment of the Representative so material
and adverse as to make it impracticable or inadvisable to proceed with
the public offering or the delivery of the Shares being delivered at such
Time of Delivery on the terms and in the manner contemplated in the
Prospectus;
(h) On or after the date hereof there shall not have occurred any
of the following: (i) a suspension or material limitation in trading in
securities generally on the New York Stock Exchange or on NASDAQ or the
establishment of minimum or maximum prices on such exchange or market;
(ii) a suspension or material limitation in trading in the Company's
securities on NASDAQ; (iii) a general moratorium on commercial banking
activities declared by either Federal or New York State authorities; or
(iv) a material adverse change in the political, financial or economic
conditions in the United States or the outbreak or escalation of
hostilities involving the United States or the declaration by the United
States of a national emergency or war, if the effect of any such event
specified in this Clause (iv) in the judgment of NationsBanc Montgomery
Securities LLC makes it impracticable or inadvisable to proceed with the
public offering or the delivery of the Shares being delivered at such
Time of Delivery on the terms and in the manner contemplated in the
Prospectus;
(i) The Shares to be sold at such Time of Delivery shall have been
duly listed for quotation on NASDAQ;
22
<PAGE>
(j) The Company shall have furnished or caused to be furnished to
you at such Time of Delivery certificates of officers of the Company as
to (i) the accuracy of the representations and warranties of the Company
herein at and as of such Time of Delivery, (ii) the performance by the
Company of all of its respective obligations hereunder to be performed at
or prior to such Time of Delivery, (iii) the matters set forth in
subsections (a) and (g) of this Section 7; (iv) the fact that they have
carefully examined the Registration Statement and Prospectus and, (A) as
of the Effective Date, the statements contained in the Registration
Statement and the Prospectus were true and correct and neither the
Registration Statement nor the Prospectus omitted to state a material
fact required to be stated therein or necessary to make the statements
therein not misleading and (B) since the Effective Date, no event has
occurred that is required by the Act or the rules and regulations of the
Commission thereunder to be set forth in an amendment of, or a supplement
to, the Prospectus that has not been set forth in such an amendment or
supplement; and (v) as to such other matters as you may reasonably
request;
(k) On the date hereof, the Company shall have furnished to you a
"lock-up" agreement in form and substance satisfactory to you from each
director and executive officer of the Company, and each such agreement
shall be in full force and effect at such Time of Delivery
8. (a) The Company will indemnify and hold harmless each Underwriter
against any losses, claims, damages or liabilities, joint or several, to which
such Underwriter may become subject, under the Act or otherwise, insofar as such
losses, claims, damages or liabilities (or actions in respect thereof) arise out
of or are based upon (i) an untrue statement or alleged untrue statement of a
material fact contained in any Preliminary Prospectus, the Registration
Statement or the Prospectus, or any amendment or supplement thereto, or in any
Blue Sky application or other document executed by the Company specifically for
that purpose or based upon written information furnished by the Company filed in
any state or other jurisdiction in order to qualify any or all of the securities
under the security laws thereof or filed with the Commission or any securities
association or securities exchange (each, an "APPLICATION"), or arise out of or
are based upon the omission or alleged omission to state therein a material fact
required to be stated therein or necessary to make the statements therein not
misleading, or (ii) any untrue statement or alleged untrue statement made by the
Company in Section 1(a) of this Agreement, or (iii) the employment by the
Company of any device, scheme or artifice to defraud, or the engaging by the
Company in any act, practice or course of business which operates or would
operate as a fraud or deceit, or any conspiracy with respect thereto, in which
the Company shall participate, in
23
<PAGE>
connection with the issuance and sale of any of the Shares, and will reimburse
each Underwriter for any legal or other expenses reasonably incurred by such
Underwriter (upon presentation of a statement or statements therefor in
reasonable detail) in connection with investigating or defending any such action
or claim as such expenses are incurred; PROVIDED, HOWEVER, that the Company
shall not be liable in any such case to the extent that any such loss, claim,
damage or liability arises out of or is based upon an untrue statement or
alleged untrue statement or omission or alleged omission made in any Preliminary
Prospectus, the Registration Statement or the Prospectus or any such amendment
or supplement in reliance upon and in conformity with written information
furnished to the Company by any Underwriter through NationsBanc Montgomery
Securities LLC expressly for use therein; PROVIDED, FURTHER, that with respect
to any preliminary prospectus, the foregoing indemnity agreement shall not inure
to the benefit of any Underwriter from whom the person asserting any loss,
claim, damage, liability or expense purchased Shares, or any person controlling
such Underwriter, if copies of the Prospectus were timely delivered to the
Underwriter pursuant to Section 5(a)(iii) hereof and a copy of the Prospectus
(as then amended or supplemented if the Company shall have furnished any
amendments or supplements thereto) was not sent or given by or on behalf of such
Underwriter to such person, if required by law so to have been delivered, at or
prior to the written confirmation of the sale of the Shares, to such person, and
if the Prospectus (as so amended or supplemented) would have cured the defect
giving rise to such loss, claim, damage, liability or expense.
(b) In addition to any obligations of the Company under Section 8(a),
the Company agrees that it shall perform its indemnification obligations under
Section 8(a) (as modified by Section 8(g)) with respect to counsel fees and
expenses and other expenses reasonably incurred by making payments within 45
days to the Underwriter in the amount of the statements of the Underwriter's
counsel or other statements which shall be forwarded by the Underwriter, and
that they shall make such payments notwithstanding the absence of a judicial
determination as to the propriety and enforceability of the obligation to
reimburse the Underwriters for such expenses and the possibility that such
payments might later be held to have been improper by a court and a court orders
return of such payments.
(c) Each Underwriter will indemnify and hold harmless the Company
against any losses, claims, damages or liabilities to which the Company may
become subject, under the Act or otherwise, insofar as such losses, claims,
damages or liabilities (or actions in respect thereof) arise out of or are based
upon an untrue statement or alleged untrue statement of a material fact
contained in any Preliminary Prospectus, the Registration Statement or the
Prospectus, or any amendment or supplement thereto, or arise out of or are based
upon the omission
24
<PAGE>
or alleged omission to state therein a material fact required to be stated
therein or necessary to make the statements therein not misleading, in each case
to the extent, but only to the extent, that such untrue statement or alleged
untrue statement or omission or alleged omission was made in any Preliminary
Prospectus, the Registration Statement or the Prospectus or any such amendment
or supplement in reliance upon and in conformity with written information
furnished to the Company by such Underwriter through NationsBank Montgomery
Securities LLC expressly for use therein; and will reimburse the Company for any
legal or other expenses reasonably incurred by the Company in connection with
investigating or defending any such action or claim as such expenses are
incurred.
(d) Promptly after receipt by an indemnified party under subsection (a)
or (c) above of notice of the commencement of any action, such indemnified party
shall, if a claim in respect thereof is to be made against the indemnifying
party under such subsection, notify the indemnifying party in writing of the
commencement thereof; but the omission so to notify the indemnifying party shall
not relieve it from any liability which it may have to any indemnified party
under Section 8(a) or 8(c) except to the extent it was unaware of such action
and has been prejudiced in any material respect by such failure or from any
liability which it may have to any indemnified party otherwise than under such
Section 8(a) or 8(c). In case any such action shall be brought against any
indemnified party and it shall notify the indemnifying party of the commencement
thereof, the indemnifying party shall be entitled to participate therein and, to
the extent that it shall wish, jointly with any other indemnifying party
similarly notified, to assume the defense thereof, with counsel satisfactory to
such indemnified party (who shall not, except with the consent of the
indemnified party, be counsel to the indemnifying party in any such action),
and, after notice from the indemnifying party to such indemnified party of its
election so to assume the defense thereof, the indemnifying party shall not be
liable to such indemnified party under such subsection for any legal expenses of
other counsel or any other expenses, in each case subsequently incurred by such
indemnified party, in connection with the defense thereof other than reasonable
costs of investigation. If, however, (i) the indemnifying party has authorized
the employment of counsel for the indemnified party at the expense of the
indemnifying party or (ii) an indemnified party shall have reasonably concluded
that representation of such indemnified party and the indemnifying party by the
same counsel would be inappropriate under applicable standards of professional
conduct due to actual or potential differing interests between them and the
indemnified party so notifies the indemnifying party, then the indemnified party
shall be entitled to employ counsel different from counsel for the indemnifying
party at the expense of the indemnifying party and the indemnifying party shall
not have the right to assume the defense of such indemnified party. In no event
shall the indemnifying parties be liable for fees
25
<PAGE>
and expenses of more than one counsel (in addition to local counsel) for all
indemnified parties in connection with any one action or separate but similar or
related actions in the same jurisdiction arising out of the same set of
allegations or circumstances. The counsel with respect to which fees and
expenses shall be so reimbursed shall be designated in writing by NationsBanc
Montgomery Securities LLC in the case of parties indemnified pursuant to Section
8(a) and by the Company in the case of parties indemnified pursuant to Section
8(c).
If at any time an indemnified party shall have requested an indemnifying
party to reimburse the indemnified party for fees and expenses of counsel as
contemplated by Section 8(b), the indemnifying party agrees that it shall be
liable for any settlement of any proceeding effected without its written consent
if (i) such settlement is entered into more than 30 days after receipt by such
indemnifying party of the aforesaid request and (ii) such indemnifying party
shall not have reimbursed the indemnified party in accordance with such request
prior to the date of such settlement. No indemnifying party shall, without the
written consent of the indemnified party, effect the settlement or compromise
of, or consent to the entry of any judgment with respect to, any pending or
threatened action or claim in respect of which indemnification or contribution
may be sought hereunder (whether or not the indemnified party is an actual or
potential party to such action or claim) unless such settlement, compromise or
judgment (i) includes an unconditional release of the indemnified party from all
liability arising out of such action or claim and (ii) does not include a
statement as to or an admission of fault, culpability or a failure to act, by or
on behalf of any indemnified party.
(e) If the indemnification provided for in this Section 8 is unavailable
to or insufficient to hold harmless an indemnified party under subsection (a)
above in respect of any losses, claims, damages or liabilities (or actions in
respect thereof) referred to therein, then each indemnifying party shall
contribute to the amount paid or payable by such indemnified party as a result
of such losses, claims, damages or liabilities (or actions in respect thereof)
in such proportion as is appropriate to reflect the relative benefits received
by the Company on the one hand and the Underwriters on the other from the
offering of the Shares. If, however, the allocation provided by the immediately
preceding sentence is not permitted by applicable law or if the indemnified
party failed to give the notice required under subsection (c) above, then each
indemnifying party shall contribute to such amount paid or payable by such
indemnified party in such proportion as is appropriate to reflect not only such
relative benefits but also the relative fault of the Company on the one hand and
the Underwriters on the other in connection with the statements or omissions
which resulted in such losses, claims, damages or liabilities (or actions in
respect thereof), as well as any other relevant equitable considerations. The
relative benefits received by the Company on the one hand and the Underwriters
on the other shall be deemed to be in the same proportion as
26
<PAGE>
the total net proceeds from the offering (before deducting expenses) received by
the Company bear to the total underwriting discounts and commissions received by
the Underwriters, in each case as set forth in the table on the cover page of
the Prospectus. The relative fault shall be determined by reference to, among
other things, whether the untrue or alleged untrue statement of a material fact
or the omission or alleged omission to state a material fact relates to
information supplied by the Company on the one hand or the Underwriters on the
other and the parties' relative intent, knowledge, access to information and
opportunity to correct or prevent such statement or omission. The Company and
the Underwriters agree that it would not be just and equitable if contributions
pursuant to this subsection (e) were determined by PRO RATA allocation (even if
the Underwriters were treated as one entity for such purpose) or by any other
method of allocation which does not take account of the equitable considerations
referred to above in this subsection (e). The amount paid or payable by an
indemnified party as a result of the losses, claims, damages or liabilities (or
actions in respect thereof) referred to above in this subsection (e) shall be
deemed to include any legal or other expenses reasonably incurred by such
indemnified party in connection with investigating or defending any such action
or claim. Notwithstanding the provisions of this subsection (e), no Underwriter
shall be required to contribute any amount in excess of the amount by which the
total price at which the Shares underwritten by it and distributed to the public
were offered to the public exceeds the amount of any damages which such
Underwriter has otherwise been required to pay by reason of such untrue or
alleged untrue statement or omission or alleged omission. No person guilty of
fraudulent misrepresentation (within the meaning of Section 11(f) of the Act)
shall be entitled to contribution from any person who was not guilty of such
fraudulent misrepresentation. The Underwriters' obligations in this subsection
(e) to contribute are several in proportion to their respective underwriting
obligations and not joint.
(f) Promptly after receipt by any party to this Agreement of notice of
the commencement of any action, suit or proceeding, such party will, if a claim
for contribution in respect thereof is to be made against another party (the
"CONTRIBUTING PARTY"), notify the contributing party of the commencement
thereof; but the omission so to notify the contributing party will not relieve
it from any liability which it may have to any other party for contribution
under the Act except to the extent it was unaware of such action and has been
prejudiced in any material respect by such failure or from any liability which
it may have to any other party other than for contribution under the Act. In
case any such action, suit or proceeding is brought against any party, and such
party notifies a contributing party of the commencement thereof, the
contributing party will be entitled to participate therein with the notifying
party and any other contributing party similarly notified.
27
<PAGE>
(g) The obligations of the Company under this Section 8 shall be in
addition to any liability which the Company may otherwise have and shall extend,
upon the same terms and conditions, to each person, if any, who controls any
Underwriter within the meaning of the Act; and the obligations of the
Underwriters under this Section 8 shall be in addition to any liability which
the respective Underwriters may otherwise have and shall extend, upon the same
terms and conditions, to each officer and director of the Company (including
any person who, with his or her consent, is named in the Registration Statement
as about to become a director of the Company) and to each person, if any, who
controls the Company within the meaning of the Act.
9. (a) If any Underwriter shall default in its obligation to purchase
the Shares which it has agreed to purchase hereunder at a Time of Delivery, you
may in your discretion arrange for you or another party or other parties to
purchase such Shares on the terms contained herein. If within 36 hours after
such default by any Underwriter you do not arrange for the purchase of such
Shares, then the Company shall be entitled to a further period of 36 hours
within which to procure another party or other parties satisfactory to you to
purchase such Shares on such terms. In the event that, within the respective
prescribed periods, you notify the Company that you have so arranged for the
purchase of such Shares, or the Company notifies you that it has so arranged for
the purchase of such Shares, you or the Company shall have the right to postpone
such Time of Delivery for a period of not more than seven days, in order to
effect whatever changes may thereby be made necessary in the Registration
Statement or the Prospectus, or in any other documents or arrangements, and the
Company agrees to file promptly any amendments to the Registration Statement or
the Prospectus which in your opinion may thereby be made necessary. The term
"UNDERWRITER" as used in this Agreement shall include any person substituted
under this Section with like effect as if such person had originally been a
party to this Agreement with respect to such Shares.
(b) If, after giving effect to any arrangements for the purchase of the
Shares of a defaulting Underwriter or Underwriters by you or the Company or both
as provided in subsection (a) above, the aggregate number of such Shares which
remains unpurchased does not exceed 10% of the aggregate number of all the
Shares to be purchased at such Time of Delivery, then the Company shall have the
right to require each non-defaulting Underwriter to purchase the number of
shares which such Underwriter agreed to purchase hereunder at such Time of
Delivery and, in addition, to require each non-defaulting Underwriter to
purchase its PRO RATA share (based on the number of Shares which such
Underwriter agreed to purchase hereunder) of the Shares of such defaulting
Underwriter or
28
<PAGE>
Underwriters for which such arrangements have not been made; but nothing herein
shall relieve a defaulting Underwriter from liability for its default.
(c) If, after giving effect to any arrangements for the purchase of the
Shares of a defaulting Underwriter or Underwriters by you or the Company as
provided in subsection (a) above, the aggregate number of such Shares which
remains unpurchased exceeds 10% of the aggregate number of all the Shares to be
purchased at such Time of Delivery, or if the Company shall not exercise the
right described in subsection (b) above to require non-defaulting Underwriters
to purchase Shares of a defaulting Underwriter or Underwriters, then this
Agreement (or, with respect to the Second Time of Delivery, the obligations of
the Underwriters to purchase and of the Company to sell the Optional Shares)
shall thereupon terminate, without liability on the part of any non-defaulting
Underwriter or the Company, except for the expenses to be borne by the Company
and the Underwriters as provided in Section 6 hereof and the indemnity and
contribution agreements in Section 8 hereof; but nothing herein shall relieve a
defaulting Underwriter from liability for its default.
10. The respective indemnities, agreements, representations, warranties
and other statements of the Company and the several Underwriters, as set forth
in this Agreement or made by or on behalf of them, respectively, pursuant to
this Agreement, shall remain in full force and effect, regardless of any
investigation (or any statement as to the results thereof) made by or on behalf
of any Underwriter or any controlling person of any Underwriter, or the Company,
or any officer or director or controlling person of the Company, and shall
survive delivery of and payment for the Shares.
11. If this Agreement shall be terminated pursuant to Section 9 hereof,
the Company shall not then be under any liability to any Underwriter except as
provided in Sections 6 and 8 hereof; but, if for any other reason, any Shares
are not delivered by or on behalf of the Company as provided herein, the Company
will reimburse the Underwriters through NationsBanc Montgomery Securities LLC
for all out-of-pocket expenses approved in writing by you, including fees and
disbursements of counsel, reasonably incurred by the Underwriters in making
preparations for the purchase, sale and delivery of the Shares not so delivered,
but the Company shall then be under no further liability to any Underwriter
except as provided in Sections 6 and 8 hereof.
12. All statements, requests, notices and agreements hereunder shall be
in writing, and if to the Underwriters shall be delivered or sent by mail, telex
or facsimile transmission to you as the representative in care of NationsBanc
Montgomery Securities LLC, 600 Montgomery Street, San Francisco, CA 94111,
Attention: David Baylor, Esq. and if to the Company shall be delivered or sent
by
29
<PAGE>
mail to the address of the Company set forth in the Registration Statement,
Attention: Chief Financial Officer; PROVIDED, HOWEVER, that any notice to an
Underwriter pursuant to Section 8(c) hereof shall be delivered or sent by mail,
telex or facsimile transmission to such Underwriter at its address set forth in
its Underwriters' Questionnaire, or telex constituting such Questionnaire, which
address will be supplied to the Company by you upon request. Any such
statements, requests, notices or agreements shall take effect upon receipt
thereof.
13. This Agreement shall be binding upon, and inure solely to the
benefit of, the Underwriters, the Company, and to the extent provided in
Sections 8 and 10 hereof, the officers and directors of the Company and each
person who controls the Company, or any Underwriter, and their respective heirs,
executors, administrators, successors and assigns, and no other person shall
acquire or have any right under or by virtue of this Agreement. No purchaser of
any of the Shares from any Underwriter shall be deemed a successor or assign by
reason merely of such purchase.
14. Time shall be of the essence of this Agreement. As used herein, the
term "BUSINESS DAY" shall mean any day when the Commission's office in
Washington, D.C. is open for business.
15. This Agreement shall be governed by and construed in accordance with
the laws of the State of New York without regard to the principles of conflicts
of law.
16. This Agreement may be executed by any one or more of the parties
hereto in any number of counterparts, each of which shall be deemed to be an
original, but all such counterparts shall together constitute one and the same
instrument.
30
<PAGE>
If the foregoing is in accordance with your understanding, please sign
and return to us five counterparts hereof, and upon the acceptance hereof by
you, on behalf of each of the Underwriters, this letter and such acceptance
hereof shall constitute a binding agreement among each of the Underwriters and
the Company. It is understood that your acceptance of this letter on behalf of
each of the Underwriters is pursuant to the authority set forth in a form of
Agreement among Underwriters, the form of which shall be submitted to the
Company for examination upon request, but without warranty on your part as to
the authority of the signers thereof.
Very truly yours,
U.S. FRANCHISE SYSTEMS, INC.
By:
-----------------------------------------
Name:
Title:
Accepted as of the date hereof:
NATIONSBANC MONTGOMERY SECURITIES LLC
By:
--------------------------
Managing Director
31
<PAGE>
SCHEDULE I
<TABLE>
<CAPTION>
NUMBER OF OPTIONAL
SHARES TO BE
NUMBER OF FIRM PURCHASED IF
SHARES TO BE MAXIMUM OPTION
UNDERWRITER PURCHASED EXERCISED
----------- -------------- ------------------
<S> <C> <C>
NationsBanc Montgomery
Securities LLC 1,125,000 168,750
Schroder & Co. 1,125,000 168,750
The Robinson-Humphrey
Company, LLC 1,125,000 168,750
CIBC Oppenheimer Corp. 1,125,000 168,750
--------- -------
Total. . . . . . . . . . . . . 4,500,000 675,000
========= =======
</TABLE>
<PAGE>
ANNEX I
DESCRIPTION OF COMFORT LETTER
Pursuant to Section 7(f) of the Underwriting Agreement, the accountants
shall furnish letters to the Underwriters to the effect that:
(i) They are independent certified public accountants with respect to
the Company and its subsidiaries within the meaning of the Act and the
applicable published rules and regulations thereunder;
(ii) In their opinion, the financial statements and any supplementary
financial information and schedules (and, if applicable, financial forecasts
and/or pro forma financial information) examined by them and included in the
Prospectus or the Registration Statement comply as to form in all material
respects with the applicable accounting requirements of the Act and the related
published rules and regulations thereunder; and, if applicable, they have made a
review in accordance with standards established by the American Institute of
Certified Public Accountants of the unaudited consolidated interim financial
statements, selected financial data, pro forma financial information, financial
forecasts and/or condensed financial statements derived from audited financial
statements of the Company for the periods specified in such letter, as indicated
in their reports thereon, copies of which have been furnished to the
representative of the Underwriters (the "REPRESENTATIVE") and are attached
hereto;
(iii) They have made a review in accordance with standards established
by the American institute of Certified Public Accountants of the unaudited
condensed consolidated statements of income, consolidated balance sheets and
consolidated statements of cash flows included in the Prospectus as indicated in
their reports thereon copies of which are attached hereto and on the basis of
specified procedures including inquiries of officials of the Company who have
responsibility for financial and accounting matters regarding whether the
unaudited condensed consolidated financial statements referred to in paragraph
(vi)(A)(i) below comply as to form in all material respects with the applicable
accounting requirements of the Act and the related published rules and
regulations, nothing came to their attention that caused them to believe that
the unaudited condensed consolidated financial statements do not comply as to
form in all material respects with the applicable accounting requirements of the
Act and the related published rules and regulations;
(iv) The unaudited selected financial information with respect to the
consolidated results of operations and financial position of the Company for the
I-1
<PAGE>
five most recent fiscal years included in the Prospectus agrees with the
corresponding amounts (after restatements where applicable) in the audited
consolidated financial statements for such five fiscal years;
(v) They have compared the information in the Prospectus under
selected captions with the disclosure requirements of Regulation S-K and on the
basis of limited procedures specified in such letter nothing came to their
attention as a result of the foregoing procedures that caused them to believe
that this information does not conform in all material respects with the
disclosure requirements of Items 301, 302, 402 and 503(d), respectively, of
Regulation S-K;
(vi) On the basis of limited procedures, not constituting an
examination in accordance with generally accepted auditing standards, consisting
of a reading of the unaudited financial statements and other information
referred to below, a reading of the latest available interim financial
statements of the Company and its subsidiaries, inspection of the minute books
of the Company and its subsidiaries since the date of the latest audited
financial statements included in the Prospectus, inquiries of officials of the
Company and its subsidiaries responsible for financial and accounting matters
and such other inquiries and procedures as may be specified in such letter,
nothing came to their attention that caused them to believe that:
(A) (i) the unaudited consolidated statements of income,
consolidated balance sheets and consolidated statements of cash flows
included in the Prospectus do not comply as to form in all material
respects with the applicable accounting requirements of the Act and the
related published rules and regulations, or (ii) any material
modifications should be made to the unaudited condensed consolidated
statements of income, consolidated balance sheets and consolidated
statements of cash flows included in the Prospectus for them to be in
conformity with generally accepted accounting principles;
(B) any other unaudited income statement data and balance sheet
items included in the Prospectus do not agree with the corresponding
items in the unaudited consolidated financial statements from which such
data and items were derived, and any such unaudited data and items were
not determined on a basis substantially consistent with the basis for the
corresponding amounts in the audited consolidated financial statements
included in the Prospectus;
(C) the unaudited financial statements which were not included in
the Prospectus but from which were derived any unaudited condensed
financial statements referred to in Clause (A) and any unaudited income
I-2
<PAGE>
statement data and balance sheet items included in the Prospectus and
referred to in Clause (B) were not determined on a basis substantially
consistent with the basis for the audited consolidated financial
statements included in the Prospectus;
(D) any unaudited pro forma consolidated condensed financial
statements included in the Prospectus do not comply as to form in all
material respects with the applicable accounting requirements of the Act
and the published rules and regulations thereunder or the pro forma
adjustments have not been properly applied to the historical amounts in
the compilation of those statements;
(E) as of a specified date not more than five days prior to the
date of such letter, there have been any changes in the consolidated
capital stock (other than issuances of capital stock upon exercise of
options and stock appreciation rights, upon earn-outs of performance
shares and upon conversions of convertible securities, in each case which
were outstanding on the date of the latest financial statements included
in the Prospectus) or any increase in the consolidated long-term debt of
the Company and its subsidiaries, or any decreases in consolidated net
current assets or stockholders' equity or other items specified by the
Representative, or any increases in any items specified by the
Representative, in each case as compared with amounts shown in the latest
balance sheet included in the Prospectus, except in each case for
changes, increases or decreases which the Prospectus discloses have
occurred or may occur or which are described in such letter; and
(F) for the period from the date of the latest financial statements
included in the Prospectus to the specified date referred to in Clause
(E) there were any decreases in consolidated net revenues or operating
profit or the total or per share amounts of consolidated net income or
other items specified by the Representative, or any increases in any
items specified by the Representative, in each case as compared with the
comparable period of the preceding year and with any other period of
corresponding length specified by the Representative, except in each case
for decreases or increases which the Prospectus discloses have occurred
or may occur or which are described in such letter; and
(vii) In addition to the examination referred to in their report(s)
included in the Prospectus and the limited procedures, inspection of minute
books, inquiries and other procedures referred to in paragraphs (iii) and (vi)
above, they have carried out certain specified procedures, not constituting an
examination in accordance with generally accepted auditing standards, with
respect to certain
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<PAGE>
amounts, percentages and financial information specified by the Representative,
which are derived from the general accounting records of the Company and its
subsidiaries, which appear in the Prospectus, or in Part II of, or in exhibits
and schedules to, the Registration Statement specified by the Representative,
and have compared certain of such amounts, percentages and financial information
with the accounting records of the Company and its subsidiaries and have found
them to be in agreement.
I-4
<PAGE>
EXHIBIT 5
May 11, 1998
U.S. Franchise Systems, Inc.
13 Corporate Square
Suite 250
Atlanta, Georgia 30329
U.S. Franchise Systems, Inc.
Registration Statement on Form S-1
Registration No. 333-50291
Ladies and Gentlemen:
In connection with the above-captioned Registration Statement, as the same
may be amended from time to time (the "Registration Statement"), filed with the
Securities and Exchange Commission pursuant to the Securities Act of 1933, as
amended (the "Act"), and the rules and regulations promulgated thereunder (the
"Rules"), we have been requested by U.S. Franchise Systems, Inc., a Delaware
corporation (the "Company"), to furnish our opinion as to the validity of
5,175,000 shares (the "Shares") of the Company's Class A Common Stock, par value
$0.01 per share (the "Class A Common Stock"), offered by the Company (including
up to 675,000 shares to be sold by the Company upon exercise of the
Underwriters' over-allotment option), registered for sale thereunder.
In connection with the furnishing of this opinion, we have reviewed the
Registration Statement (including all amendments thereto), the form of the
Underwriting Agreement included as Exhibit 1 to the Registration Statement (the
"Underwriting Agreement"), originals, or copies certified or otherwise
identified to our satisfaction, of the Company's Certificate of Incorporation
and By-laws, each as in effect on the date hereof, and records of certain of the
Company's corporate proceedings. We have also examined and relied upon
representations as to factual matters contained in certificates of officers of
the Company, and have made such other investigations of fact and law and have
examined and relied upon the originals, or copies certified or otherwise
identified to our satisfaction, of such documents, records, certificates or
other instruments, and upon such factual information otherwise supplied to us,
as in our judgment are necessary or appropriate to render the opinion expressed
below. In addition, we have assumed, without independent investigation, the
genuineness of all signatures, the authenticity of all documents submitted to us
as originals and the conformity of original documents to all documents submitted
to us as certified, photostatic, reproduced or conformed copies, the
authenticity of all such latter documents and the legal capacity of all
individuals who have executed any of the aforesaid documents.
Based upon the foregoing, and subject to the assumptions, exceptions and
qualifications stated herein, we are of the opinion that the Shares have been
duly authorized for issuance and that when issued, delivered and paid for as
contemplated in the Registration Statement and the Underwriting Agreement, will
be validly issued, fully paid and nonassessable.
Our opinion expressed above is limited to the General Corporation Law of the
State of Delaware. Please be advised that no member of this firm is admitted to
practice in the State of Delaware. Our opinion is rendered only with respect to
the laws, and the rules, regulations and orders thereunder, which are currently
in effect.
<PAGE>
We hereby consent to use of this opinion as an Exhibit to the Registration
Statement and to the use of our name under the heading "Legal Matters" contained
in the Prospectus included in the Registration Statement. In giving this
consent, we do not thereby admit that we come within the category of persons
whose consent is required by the Act or the Rules.
Very truly yours,
/s/ PAUL, WEISS, RIFKIND,
WHARTON & GARRISON
PAUL, WEISS, RIFKIND, WHARTON &
GARRISON
<PAGE>
EXHIBIT 21
LIST OF SUBSIDIARIES OF U.S. FRANCHISE SYSTEMS, INC.
<TABLE>
<CAPTION>
SUBSIDIARY STATE OF INCORPORATION/ORGANIZATION
- -------------------------------------------------------------------- --------------------------------------------
<S> <C>
Microtel Inns and Suites Franchising, Inc. ......................... Georgia
Hawthorn Suites Franchising, Inc. .................................. Georgia
Microtel Inns Realty Corp. ......................................... Georgia
Microtel International, Inc. ....................................... Georgia
US Funding Corp. ................................................... Georgia
U.S. Franchise Capital, Inc. ....................................... Georgia
USFS Equity, LLC.................................................... Delaware
Tempe Inns Realty Corp. ............................................ Georgia
Chandler Inns Realty Corp. ......................................... Georgia
Tempe Holdings, LLC ................................................ Arizona
Chandler Holdings, LLC ............................................. Arizona
HSA Properties, LLC ................................................ Delaware
Best Acquisition, Inc. ............................................. Georgia
USFS Management, Inc. .............................................. Georgia
Best Franchising, Inc. ............................................. Georgia
</TABLE>
<PAGE>
EXHIBIT 23.2
INDEPENDENT AUDITORS' CONSENT
We consent to the use in this Amendment No. 3 to Registration Statement (No.
333-50291) on Form S-1 of U.S. Franchise Systems, Inc. of our report dated
February 20, 1998 (April 28, 1998 as to Note 14), appearing in the Prospectus,
which is part of this Registration Statement.
We also consent to the reference to us under the headings "Selected Financial
Data" and "Experts" in such Prospectus.
/s/ Deloitte & Touche LLP
DELOITTE & TOUCHE LLP
Atlanta, Georgia
May 11, 1998
