<PAGE>
As filed with the Securities and Exchange Commission on June 2, 1998
Registration No. 333-___
- --------------------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
--------------
FORM S-4
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
--------------
Host Marriott, L.P.
(Exact name of registrant as specified in its governing instrument)
Delaware 7011 52-2095412
(State or Other Jurisdiction (Primary Standard (I.R.S. Employer
of Incorporation or Industrial Identification No.)
Organization) Classification Code
Number)
10400 Fernwood Road
Bethesda, Maryland 20817
(301) 380-9000
(Address, Including Zip Code, and Telephone Number, Including Area Code, of
Registrant's Principal Executive Offices)
--------------
Christopher G. Townsend
General Counsel
Host Marriott, L.P.
10400 Fernwood Road
Bethesda, Maryland 20817
(301) 380-9000
(Name, Address, Including Zip Code, and Telephone Number, Including Area Code,
of Agent for Service)
--------------
Copies to:
J. Warren Gorrell, Jr., Esq.
Bruce W. Gilchrist, Esq.
Hogan & Hartson L.L.P.
555 Thirteenth Street, N.W.
Washington, D.C. 20004-1109
(202) 637-5600
--------------
Approximate date of commencement of proposed sale to the public: As
soon as practicable after the effective date of this Registration Statement.
If the securities being registered on this form are being offered in
connection with the formation of a holding company and there is compliance with
General Instruction G, check the following box. [_]
--------------
CALCULATION OF REGISTRATION FEE
<TABLE>
<CAPTION>
===================================================================================================================================
Proposed Maximum Proposed Maximum Amount Of
Title Of Each Class Of Amount Offering Price Per Aggregate Registration
Securities To Be Registered To Be Registered OP Unit(1) Offering Price(1) Fee
- -----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Units of Limited Partnership Interest 14,421,500 (2) $20.00 $288,430,000 $ 85,086.85
- -----------------------------------------------------------------------------------------------------------------------------------
Notes (2) $ N/A $236,300,000 (3) $ -0-(3)
===================================================================================================================================
</TABLE>
(1) Estimated solely for the purpose of calculating the registration fee
pursuant to Rule 457(f) promulgated under the Securities Act of 1933, as
amended.
(2) Represents the expected maximum number of OP Units or Notes (as applicable)
issuable upon consummation of the transactions described herein.
(3) Investors whose securities are exchanged or canceled will receive OP Units
or Notes. To the extent Notes are issued in lieu of OP Units, the proposed
maximum aggregate offering price of the OP Units will be proportionately
reduced and vice versa. Accordingly, no further fee is due for the
registration of the Notes.
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 or until the Registration
Statement shall become effective on such date as the Commission, acting
pursuant to said Section 8(a) may determine.
<PAGE>
++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++
+ 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 consent solicitation statement 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. +
++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++
SUBJECT TO COMPLETION
DATED JUNE 2, 1998
PROSPECTUS/CONSENT SOLICITATION STATEMENT
Host Marriott, L.P.
- --------------------------------------------------------------------------------
THIS SOLICITATION OF CONSENTS EXPIRES AT 5:00 P.M., EASTERN TIME,
ON _____________ __, 1998, UNLESS EXTENDED.
- --------------------------------------------------------------------------------
Host Marriott Corporation, a Delaware corporation ("Host"), has adopted a
plan to reorganize its business operations so that it will qualify as a real
estate investment trust ("REIT"). As part of this reorganization (the "REIT
Conversion"), Host and its consolidated subsidiaries will contribute their full-
service hotel properties and certain other businesses and assets to Host
Marriott, L.P., a newly formed Delaware limited partnership (the "Operating
Partnership"), in exchange for units of limited partnership interest in the
Operating Partnership ("OP Units") and the assumption of certain liabilities.
The sole general partner of the Operating Partnership will be Host Marriott
Trust, the entity resulting from the conversion of Host from a Delaware
corporation to a Maryland REIT ("Host REIT"). The Operating Partnership and
Host REIT will operate together as an umbrella partnership REIT. Host REIT
expects to qualify as a REIT beginning with its first full taxable year after
closing of the REIT Conversion, which Host REIT currently expects to be the year
beginning January 1, 1999.
Following the REIT Conversion and the Blackstone Acquisition (defined below),
the Operating Partnership and its subsidiaries initially will own outright, or
have controlling interests in, approximately 120 full-service hotels operating
primarily under the Marriott, Ritz-Carlton, Four Seasons, Swissotel and Hyatt
brand names (the "Hotels"). Concurrently with the REIT Conversion, the
Operating Partnership will acquire ownership of, or controlling interests in, 12
hotels and a mortgage loan secured by a thirteenth hotel controlled by The
Blackstone Group and a series of funds controlled by Blackstone Real Estate
Partners (collectively, the "Blackstone Entities") in exchange for OP Units, the
assumption of liabilities and other consideration (the "Blackstone
Acquisition"). The Operating Partnership will be one of the largest owners of
full-service hotels in the United States.
As part of the REIT Conversion, the Operating Partnership is proposing to
acquire by merger (the "Mergers") eight limited partnerships (the
"Partnerships") that own full-service hotels in which Host or its subsidiaries
are general partners. As more fully described in this Prospectus/Consent
Solicitation Statement (the "Consent Solicitation"), limited partners of those
Partnerships that participate in the Mergers will receive either OP Units or, at
their election, unsecured __% Notes due December 15, 2005 issued by the
Operating Partnership ("Notes"), in exchange for their partnership interests in
such Partnerships (with respect to the Partnerships, those limited partners of
the Partnerships who are unaffiliated with Host are referred to herein as the
"Limited Partners").
The number of OP Units to be allocated to each Partnership will be based upon
(i) its respective Exchange Value (as defined herein) and (ii) the deemed value
of an OP Unit at the time of the Mergers, determined as described herein. See
"Determination of Exchange Values and Allocation of OP Units." The principal
amount of Notes that Limited Partners may elect to receive in exchange for the
OP Units received in a Merger will be based upon their Partnership's Note
Election Amount (as defined herein). See "Description of the Notes." The
estimated Exchange Values and Note Election Amounts set forth in this Consent
Solicitation may increase or decrease as a result of various adjustments, and
will be finally calculated shortly before the closing of the Mergers (the
"Closing Date"). The estimated Exchange Values exceed the Note Election Amounts
for all of the Partnerships.
In connection with the REIT Conversion, each outstanding share of Host common
stock will be converted into one common share of beneficial interest, par value
$.01 per share (a "Common Share"), of Host REIT. Following the closing of the
REIT Conversion, the Common Shares will be listed on the New York Stock
Exchange. Beginning one year after the Mergers, Limited Partners will have the
right to redeem their OP Units at any time and receive, at the election of Host
REIT, either Common Shares on a one-for-one basis (subject to adjustment) or
cash in an amount equal to the market value of such shares (the "Unit Redemption
Right").
Because REITs are not permitted under current federal income tax law to
derive revenues directly from the operation of hotels, the Operating Partnership
will lease the Hotels to lessees (the "Lessees") that will operate the Hotels
under the existing management agreements and pay rent to the Operating
Partnership, as more fully described herein. The Lessees generally will be
indirect controlled subsidiaries of HMC Senior Communities, Inc., which
currently is a wholly owned subsidiary of Host ("SLC"), but which will become a
separate public company as part of the REIT Conversion when Host distributes the
common stock of SLC to its existing shareholders and the Blackstone Entities.
Shares of Host REIT and SLC will become separately traded securities and the
companies will operate independently. Initially, there may be a partial overlap
between the boards of Host REIT and SLC but this will be phased out over time.
There also will be a substantial overlap of shareholders of the two companies
initially, but this likely will diverge over time.
See "Risk Factors" beginning on page 5 for material risks relevant to an
investment in the OP Units or the Notes, including:
<PAGE>
. Host REIT and its subsidiaries will realize substantial benefits from the
Mergers and the REIT Conversion, including savings from a substantial
reduction in corporate-level income taxes expected as a result of the REIT
Conversion and an increase in Funds From Operations per Common Share on a pro
forma basis. In addition, Host's shareholders (as the initial owners of SLC,
together with the Blackstone Entities), and not the Limited Partners, will
benefit from the distribution of SLC's shares.
. No independent representative was retained to negotiate on behalf of the
Limited Partners. If one had been, the terms of the Mergers may have been
more favorable to the Limited Partners.
. Other conflicts of interest exist in connection with structuring the Mergers
and the REIT Conversion, including determination of the terms and conditions
of the leases with SLC and the Partnership Agreement. Such conflicts of
interest may result in decisions that do not fully reflect the interests of
all Limited Partners.
. The number and value of OP Units to be distributed to Limited Partners will
be based upon the respective Exchange Values of the Partnerships and the
deemed value of an OP Unit as of the Closing Date, which will be based upon
the market value of Host's common stock and certain determinations by Host's
Board of Directors. The principal amount of the Note, which a Limited Partner
at the time of voting has elected to receive in exchange for OP Units, will
be equal to the Note Election Amount, of his Partnership Interest. The
determination of the Exchange Values and the Note Election Amounts of the
Partnerships and the deemed value of an OP Unit each involve numerous
assumptions and estimates. There is no assurance that the value of the OP
Units or Notes to be received by the Limited Partners in the Mergers will
equal the fair market value of their Partnership Interests.
. There will be no public market for the Notes. The deemed value of the OP
Units will exceed the principal amount of the corresponding Notes in all
Partnerships (because the Exchange Values are higher than the Note Election
Amounts). The receipt of a Note will be a taxable transaction and will result
in "phantom income" for a Limited Partner with a "negative capital account"
with respect to his Partnership Interest. As of March 27, 1998, on a pro
forma basis assuming the Full Participation Scenario (as defined herein), the
Operating Partnership and its subsidiaries would have had aggregate
consolidated debt to which the Notes were effectively subordinated or which
rank equally with such Notes of approximately $4.6 billion.
. The expected initial cash distributions to the Limited Partners of MHP and
MHP2 in respect of the OP Units to be received in the Mergers will be less
than the estimated 1998 cash distributions of MHP and MHP2.
. The Mergers involve a fundamental change in the nature of the investment of a
Limited Partner from an investment in a fixed-portfolio partnership (where a
Limited Partner expects to receive a return of capital primarily through a
distribution upon liquidation of the Partnership) into an investment in a
public real estate company which expects to acquire additional hotels (where
a Limited Partner likely would realize a return of capital only through a
sale of Common Shares or receipt of the cash equivalent thereof pursuant to
his exercise of the Unit Redemption Right).
. There is uncertainty at the time of voting as to the exact size and leverage
of the Operating Partnership because, among other things, Host is an existing
operating company that regularly issues and repays debt, acquires additional
hotels, and disposes of existing hotels, and because there is uncertainty as
to which Partnerships will participate in the Mergers.
. Current federal income tax law restricts the ability of the Operating
Partnership to operate the Hotels directly. Therefore, the Operating
Partnership will be substantially dependent for its revenue upon the Lessees
and upon Marriott International, Inc. and its subsidiaries and other
companies that manage the Hotels and will have limited control over the
operations of the Hotels.
. Approval of the Mergers by the requisite vote of the Limited Partners in a
Partnership will bind all Limited Partners of such Partnership.
. Consummation of the Mergers will result in the Limited Partners being exposed
to the general risks of ownership of hotels, leverage and the lack of
restrictions on indebtedness of the Operating Partnership.
ii
<PAGE>
. There is a prohibition on actual or constructive ownership of more than
9.8% of the number or value of Host REIT's outstanding Common Shares and on
the actual or constructive ownership of more than 4.9% of the OP Units (other
than by Host REIT or The Blackstone Group), subject to waiver or modification
by Host REIT or the Operating Partnership, as the case may be, in certain
limited circumstances.
. If the REIT Conversion does not occur in time for Host REIT to elect REIT
status effective January 1, 1999, the effectiveness of Host REIT's election
could be delayed until January 1, 2000, which would result in Host REIT
continuing to pay corporate-level income taxes in 1999 and could cause the
Blackstone Acquisition not to be consummated.
. Even though the Limited Partners (other than those who elect to receive a
Note in exchange for OP Units) generally are not expected to recognize
significant taxable gain at the time of the Mergers, there are a variety of
events and transactions (including the sale of one or more of the Hotels or
the reduction of indebtedness securing one or more of the Hotels) that could
cause a Limited Partner to recognize all or a part of the gain that otherwise
has been deferred pursuant to the Mergers. Host REIT, as general partner of
the Operating Partnership, is expressly not required to take into account
the tax consequences to the limited partners in deciding whether to cause the
Operating Partnership to undertake specific transactions, and the limited
partners have no right to approve or disapprove such transactions.
. Certain Partnerships (Atlanta Marquis, Hanover, MHP and PHLP) are required to
sell some of their personal property to an affiliate of the Operating
Partnership in order to facilitate their participation in the Mergers
without adversely affecting Host REIT's qualification as a REIT.
Limited Partners of such Partnerships, except for Limited Partners of
Hanover, will recognize a relatively modest amount of taxable income as a
result thereof (which income could be offset with any unused passive loss
carryforwards).
. Taxation of Host REIT as a regular corporation if it fails to qualify as a
REIT, or taxation of the Operating Partnership as a corporation if it fails
to qualify as a partnership for federal income tax purposes, would, among
other things, result in a material decrease in cash available for
distribution and a material reduction in the value of the Common Shares and
OP Units.
. No assurance can be provided that new legislation, Treasury Regulations,
administrative interpretations or court decisions will not significantly
change the tax laws with respect to Host REIT's qualification as a REIT or
the federal income tax consequences of such qualification.
The general partners of the Partnerships believe that the terms of the
Mergers provide substantial benefits and are fair to the Limited Partners of
each Partnership and recommend that all Limited Partners vote FOR the Mergers.
See "Background and Reasons for the Mergers and the REIT Conversion -- Reasons
for the Mergers."
THIS CONSENT SOLICITATION IS DIRECTED ONLY TO THE LIMITED PARTNERS OF THE
PARTNERSHIPS DESCRIBED HEREIN AND IS NOT TO BE CONSIDERED AN OFFER TO SELL OR
THE SOLICITATION OF AN OFFER TO BUY ANY SECURITIES TO OR FROM ANYONE TO WHOM
DELIVERY OF THIS CONSENT SOLICITATION IS NOT AUTHORIZED BY THE OPERATING
PARTNERSHIP IN CONNECTION WITH THE SOLICITATION OF CONSENTS FOR THE MERGERS.
THIS CONSENT SOLICITATION DOES NOT CONSTITUTE AN OFFER OF ANY SECURITIES OTHER
THAN THE OP UNITS AND NOTES REFERRED TO HEREIN. THIS CONSENT SOLICITATION IS
ONLY AUTHORIZED FOR DELIVERY TO LIMITED PARTNERS WHEN ACCOMPANIED BY ONE OR MORE
SUPPLEMENTS RELATING TO THE PARTNERSHIPS IN WHICH SUCH LIMITED PARTNERS HOLD
INTERESTS.
NEITHER THIS TRANSACTION NOR THESE SECURITIES HAVE BEEN APPROVED OR
DISAPPROVED BY THE SECURITIES AND EXCHANGE COMMISSION NOR HAS
THE SECURITIES AND EXCHANGE COMMISSION PASSED UPON THE
ACCURACY OR ADEQUACY OF THIS PROSPECTUS/CONSENT
SOLICITATION. ANY REPRESENTATION TO THE
CONTRARY IS A CRIMINAL OFFENSE.
The date of this Prospectus/Consent Solicitation Statement is ___, 1998.
iii
<PAGE>
Forward-Looking Statements
Certain matters discussed herein are forward-looking statements. Certain,
but not necessarily all, of such forward-looking statements can be identified by
the use of forward-looking terminology, such as "believes," "expects," "may,"
"will," "should" or "anticipates" or the negative thereof or other variations
thereof or comparable terminology. All forward looking statements involve known
and unknown risks, uncertainties and other factors which may cause the actual
transactions, results, performance or achievements of the Operating Partnership
to be materially different from any future transactions, results, performance or
achievements expressed or implied by such forward-looking statements. Among the
factors that could affect such forward-looking statements are: (i) national and
local economic and business conditions that will, among other things, affect
demand for hotels and other properties, the level of rates and occupancy that
can be achieved by such properties and the availability and terms of financing;
(ii) the ability to maintain the properties in a first-class manner (including
meeting capital expenditure requirements); (iii) the ability of the Operating
Partnership to compete effectively in areas such as access, location, quality of
accommodations and room rate structures; (iv) the ability of the Operating
Partnership to acquire or develop additional properties and the risk that
potential acquisitions or developments may not perform in accordance with
expectations; (v) the ability of Host to obtain required consents of
shareholders, lenders, debt holders, partners and ground lessors of Host and its
affiliates and of other third parties in connection with the REIT conversion;
(vi) changes in travel patterns, taxes and government regulations which
influence or determine wages, prices, construction procedures and costs; (vii)
governmental approvals, actions and initiatives, including the need for
compliance with environmental and safety requirements, and changes in laws and
regulations or the interpretation thereof; (viii) the effects of tax legislative
action; and (ix) in the case of Host REIT, the timing of Host REIT's election to
be taxed as a REIT and the ability of Host REIT to satisfy complex rules in
order to qualify for taxation as a REIT for federal income tax purposes and to
operate effectively within the limitations imposed by these rules. Although the
Operating Partnership believes the expectations reflected in such forward-
looking statements are based upon reasonable assumptions, it can give no
assurance that its expectations will be attained or that any deviations will not
be material. The Operating Partnership undertakes no obligation to publicly
release the result of any revisions to these forward-looking statements that may
be made to reflect any future events or circumstances.
iv
<PAGE>
TABLE OF CONTENTS
Page
----
SUMMARY.................................................................... 1
Certain Key Definitions............................................... 1
Overview.............................................................. 3
Risk Factors.......................................................... 5
The REIT Conversion................................................... 11
The Mergers........................................................... 15
Reasons for the Mergers............................................... 17
Determination of Exchange Values and Value of OP Units................ 18
Description of the Notes.............................................. 21
Fairness Analysis and Opinion......................................... 21
Recommendation........................................................ 21
Solicitation Materials................................................ 22
Voting Procedures..................................................... 22
Federal Income Tax Considerations..................................... 22
Summary Financial Information......................................... 25
RISK FACTORS............................................................... 27
Risks and Effects of the Mergers...................................... 27
Risks of Ownership of OP Units and Common Shares...................... 34
Risks of Ownership of the Notes....................................... 37
Risks of Operation.................................................... 37
Federal Income Tax Risks.............................................. 39
Miscellaneous Risks................................................... 45
CONFLICTS OF INTEREST...................................................... 47
Substantial Benefits to Related Parties............................... 47
Valuation of SLC...................................................... 47
Affiliated General Partners........................................... 47
Leasing Arrangements.................................................. 48
Tax Consequences upon Sale or Refinancing of Hotels................... 48
Absence of Arm's Length Negotiations; No Independent Representative... 48
Relationship between AAA and Host..................................... 48
Policies with Respect to Conflicts of Interest........................ 49
BACKGROUND AND REASONS FOR THE MERGERS AND THE REIT CONVERSION............. 50
Background of the Partnerships........................................ 50
Background of the Mergers and the REIT Conversion..................... 54
Reasons for the Mergers............................................... 55
Reimbursements and Distributions to the General Partners.............. 58
Alternatives to the Mergers........................................... 59
Summary of Comparative Valuation Alternatives......................... 60
Recommendation of the General Partners................................ 61
DETERMINATION OF EXCHANGE VALUES AND ALLOCATION OF OP UNITS................ 62
Overview.............................................................. 62
Methodology for Determining Exchange Values........................... 62
Valuation of OP Units Allocated to Limited Partners................... 68
FAIRNESS ANALYSIS AND OPINION.............................................. 69
Fairness Analysis..................................................... 69
Fairness Opinion...................................................... 71
THE MERGERS AND THE REIT CONVERSION........................................ 77
General............................................................... 77
The REIT Conversion................................................... 77
The Mergers........................................................... 81
Conditions to Consummation of the Mergers............................. 82
Conditions to Consummation of the REIT Conversion..................... 82
v
<PAGE>
Right to Exclude Partnerships......................................... 83
Extension, Amendment and Termination of the Mergers................... 83
Effect of REIT Conversion on Non-Participating Partnerships........... 84
Expenses.............................................................. 84
Accounting Treatment.................................................. 84
BUSINESS AND PROPERTIES.................................................... 85
Business of the Operating Partnership................................. 85
General............................................................... 86
Business Objectives................................................... 86
Business Strategy..................................................... 87
Hotel Lodging Industry................................................ 89
Hotel Lodging Properties.............................................. 90
Hotel Properties...................................................... 94
1998 Acquisitions..................................................... 96
Blackstone Acquisition................................................ 96
Investments in Affiliated Partnerships................................ 97
Marketing............................................................. 98
Competition........................................................... 98
Relationship with HM Services......................................... 98
Relationship with Marriott International; Marriott International
Distribution........................................................ 98
Employees............................................................. 99
Environmental and Regulatory Matters.................................. 99
Legal Proceedings..................................................... 99
The Leases............................................................103
The Management Agreements.............................................107
Noncompetition Agreements.............................................111
Indebtedness..........................................................112
DISTRIBUTION AND OTHER POLICIES............................................114
Distribution Policy...................................................114
Investment Policies...................................................114
Financing Policies....................................................115
Lending Policies......................................................116
Conflicts of Interest Policies........................................116
Officers and Trustees of Host REIT....................................117
Policies with Respect to Other Activities.............................117
SELECTED FINANCIAL DATA....................................................118
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS............................................................120
Lack of Comparability Following the Consolidation.....................120
Historical Results of Operations......................................120
Pro Forma Results of Operations.......................................126
Liquidity and Capital Resources.......................................132
MANAGEMENT.................................................................143
Trustees and Executive Officers of Host REIT..........................143
Committees of the Board of Trustees...................................145
Compensation of Trustees..............................................146
Executive Compensation................................................147
Employment Agreements.................................................148
Comprehensive Stock Incentive Plan....................................148
Stock Purchase Plan...................................................149
401(k) Plan...........................................................149
Deferred Compensation Plan............................................150
Limitation of Liability and Indemnification...........................150
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.............................152
vi
<PAGE>
Relationship Between Host and Marriott International.................. 152
Relationship Between Host and Host Marriott Services Corporation...... 155
PRINCIPAL SECURITY HOLDERS................................................. 157
DESCRIPTION OF OP UNITS.................................................... 159
General............................................................... 159
Formation............................................................. 159
Purposes, Business and Management..................................... 160
Ability of Host REIT to Engage in Other Businesses; Conflicts of
Interest............................................................ 160
Distributions; Allocations of Income and Loss......................... 160
Borrowing by the Operating Partnership................................ 161
Reimbursement of Host REIT; Transactions with Host REIT and its
Affiliates.......................................................... 161
Liability of Host REIT and Limited Partners........................... 161
Exculpation and Indemnification of Host REIT.......................... 162
Sales of Assets....................................................... 163
Removal or Withdrawal of Host REIT; Transfer of Host REIT's
Interests........................................................... 163
Certain Voting Rights of Holders of OP Units During the Initial
Holding Period...................................................... 163
Restrictions on Transfers of Interests by Limited Partners............ 164
Unit Redemption Right................................................. 164
No Withdrawal by Limited Partners..................................... 165
Issuance of Limited Partnership Interests............................. 165
Meetings; Voting...................................................... 166
Amendment of the Partnership Agreement................................ 166
Books and Reports..................................................... 167
Power of Attorney..................................................... 167
Dissolution, Winding Up and Termination............................... 168
Ownership Limitation.................................................. 168
DESCRIPTION OF SHARES OF BENEFICIAL INTEREST............................... 169
General............................................................... 169
Common Shares......................................................... 169
Preferred Shares...................................................... 170
Power to Issue Additional Common Shares and Preferred Shares.......... 170
Restrictions on Ownership and Transfer................................ 170
Changes in Control Pursuant to Maryland Law........................... 173
DESCRIPTION OF THE NOTES................................................... 175
General............................................................... 175
Principal and Interest................................................ 176
Optional Redemption................................................... 177
Limitations on Incurrence of Debt..................................... 177
Merger, Consolidation or Sale......................................... 178
Events of Default, Notice and Waiver.................................. 179
Modification of the Indenture......................................... 180
Satisfaction and Discharge............................................ 181
No Conversion Rights.................................................. 181
Governing Law......................................................... 182
COMPARISON OF OWNERSHIP OF PARTNERSHIP INTERESTS, OP UNITS AND
COMMON SHARES......................................................... 183
ERISA CONSIDERATIONS....................................................... 205
FEDERAL INCOME TAX CONSIDERATIONS.......................................... 207
Introduction.......................................................... 207
Summary of Tax Opinions............................................... 208
Tax Status of the Operating Partnership............................... 210
Tax Consequences of the Mergers....................................... 212
Tax Treatment of Limited Partners Who Exercise Their Right to Make
the Note Election................................................... 227
Tax Treatment of Limited Partners Who Hold OP Units Following the
Mergers............................................................. 227
Federal Income Taxation of Host REIT Following the Mergers............ 240
vii
<PAGE>
Taxation of Taxable U.S. Shareholders of Host REIT Generally.......... 252
Backup Withholding for Host REIT Distributions........................ 254
Taxation of Tax-Exempt Shareholders of Host REIT...................... 255
Taxation of Non-U.S. Shareholders of Host REIT........................ 256
Tax Aspects of Host REIT's Ownership of OP Units...................... 258
Other Tax Consequences for Host REIT and Its Shareholders............. 260
VOTING PROCEDURES.......................................................... 261
Distribution of Solicitation Materials................................ 261
No Special Meetings................................................... 262
Required Vote and Other Conditions.................................... 262
EXPERTS.................................................................... 265
LEGAL MATTERS.............................................................. 265
AVAILABLE INFORMATION...................................................... 265
GLOSSARY................................................................... 267
FINANCIAL STATEMENTS....................................................... F-1
APPENDICES
- ----------
Appendix A - Form of Partnership Agreement of Host Marriott, L.P.
Appendix B - Amended and Restated Fairness Opinion of American Appraisal
Associates, Inc.
Appendix C - Tax Opinion of Hogan & Hartson L.L.P. with respect to
Mergers.
Appendix D - Form of Tax Opinion of Hogan & Hartson L.L.P. with respect
to Qualification of Host REIT as a REIT.
Appendix E - Estimated Adjusted Basis of Limited Partners in Partnership
Interests and "Share" of Limited Partners in Partnerships
Liabilities.
viii
<PAGE>
SUMMARY
This Summary is qualified in its entirety by the more detailed information
appearing elsewhere in this Prospectus/Consent Solicitation Statement, including
the appendices hereto (this "Consent Solicitation"), and is presented solely to
provide an overview of the transactions described in detail in the remainder of
this Consent Solicitation and of the business and investment considerations and
risks related to the proposed transactions. Prospective investors are advised
not to rely on this Summary, but to carefully review this entire Consent
Solicitation.
The information contained herein, unless otherwise indicated, assumes the
REIT Conversion (as defined herein) occurs, all Partnerships (as defined herein)
participate and no Notes (as defined herein) are issued (the "Full Participation
Scenario").
Certain Key Definitions
The following terms have the meanings set forth below. See the "Glossary"
for the definitions of other capitalized terms used in this Consent
Solicitation.
"Host"....................Host Marriott Corporation, a Delaware corporation,
and either the general partner or an affiliate of
the general partner of each Partnership, or, as the
context may require, such entity together with its
subsidiaries or any of such subsidiaries.
"Host REIT"...............Host Marriott Trust, a Maryland real estate
investment trust, which will be the sole general
partner of the Operating Partnership and the
successor to Host, or, as the context may require,
such entity together with its subsidiaries or any of
such subsidiaries.
"Operating Partnership"...Host Marriott, L.P., a Delaware limited partnership,
or, as the context may require, such entity together
with its subsidiaries, including the Non-Controlled
Subsidiaries (as defined herein), or any of them;
also means Host when used to describe such entity on
a pro forma basis before the REIT Conversion.
"Company".................Host with respect to periods prior to the REIT
Conversion, and Host REIT and the Operating
Partnership, or either of them, with respect to the
period after the REIT Conversion.
"Partnership".............Any of Atlanta Marriott Marquis II Limited
Partnership, a Delaware limited partnership
("Atlanta Marquis"); Desert Springs Marriott Limited
Partnership, a Delaware limited partnership ("Desert
Springs"); Hanover Marriott Limited Partnership, a
Delaware limited partnership ("Hanover"); Marriott
Diversified American Hotels, L.P., a Delaware
limited partnership ("MDAH"); Marriott Hotel
Properties Limited Partnership, a Delaware limited
partnership ("MHP"); Marriott Hotel Properties II
Limited Partnership, a Delaware limited partnership
("MHP2"); Mutual Benefit Chicago Marriott Suite
Hotel Partners, L.P. ("Chicago
1
<PAGE>
Suites"), a Rhode Island limited partnership; and
Potomac Hotel Limited Partnership, a Delaware
limited partnership ("PHLP"); or, as the context may
require, any such entity together with its
subsidiaries, or any of such subsidiaries.
"General Partner".........The general partner of a Partnership, each of which
general partners is a wholly owned, direct or
indirect subsidiary of Host (except in the case of
PHLP, in which Host is the general partner).
"Limited Partners"........The limited partners, excluding those affiliated
with Host, of the Partnerships.
"Partnership Interests"...The interests of the Limited Partners in their
respective Partnerships.
"OP Units"................The limited partnership interests in the Operating
Partnership.
"Note"....................An unsecured __% Note due December 15, 2005 of the
Operating Partnership which a Limited Partner,
having so elected at the time of voting, can receive
at the time of the Mergers in exchange for OP Units,
with a principal amount equal to the Note Election
Amount of the Limited Partner's Partnership
Interest.
"SLC".....................HMC Senior Communities, Inc., a Delaware
corporation, or, as the context may require, such
entity together with the Lessees (as defined herein)
and its other subsidiaries or any of them, which
currently is a wholly owned subsidiary of Host but
will become a separate public company as part of the
REIT Conversion when Host distributes the common
stock of SLC to Host's existing shareholders and
the Blackstone Entities.
"Non-Controlled
Subsidiaries".............The one or more taxable corporations in which the
Operating Partnership will own 95% of the economic
interest but no voting stock and which will hold
various assets contributed by Host and its
subsidiaries to the Operating Partnership, which
assets, if owned directly by the Operating
Partnership, would jeopardize Host REIT's status as
a REIT.
"Private Partnership".....A partnership (other than a Partnership) or limited
liability company that owns one or more full-service
Hotels and that, prior to the REIT Conversion, is
partially but not wholly owned by Host or one of its
subsidiaries.
"Hotel Partnership".......Any Partnership or Private Partnership.
"Merger"..................The proposed merger of a subsidiary of the Operating
Partnership (a "Merger Partnership") into a
Partnership pursuant to this Consent Solicitation,
in which the Partnership is the surviving entity.
2
<PAGE>
"REIT Conversion".........(i) The contribution by Host of its wholly owned
Hotels, its interests in the Hotel Partnerships and
certain other businesses and assets to the Operating
Partnership, (ii) the refinancing and amendment of
the debt securities and certain credit facilities of
Host substantially in the manner described herein,
(iii) the Mergers (if and to the extent
consummated), (iv) the acquisition (whether by
merger or otherwise) by the Operating Partnership of
certain Private Partnerships or interests therein,
(v) the Blackstone Acquisition (if and to the extent
such acquisition is consummated), (vi) the creation
and capitalization of the Non-Controlled
Subsidiaries, (vii) the merger of Host into Host
REIT and related distribution by Host of SLC common
stock and cash to Host's shareholders and SLC common
stock to the Blackstone Entities, (viii) the leasing
of the Hotels to subsidiaries of SLC or others, and
(ix) the related transactions described herein and
such other steps as may be necessary or desirable to
complete the transactions contemplated herein or
otherwise to permit Host REIT to elect to be treated
as a REIT for federal income tax purposes.
Overview
This Consent Solicitation is being furnished to the Limited Partners of
each Partnership to solicit their approval of a Merger of their Partnership with
a subsidiary of the Operating Partnership, which has been formed primarily to
continue and expand the full-service hotel ownership business of Host, operating
together with its general partner, Host REIT, as an umbrella partnership REIT
(an "UPREIT"). If the requisite consent to a Merger of a Partnership is
obtained, and the other conditions for consummation of a Merger (including
completion of the REIT Conversion) are satisfied or waived, the Operating
Partnership will acquire such Partnership (a "Participating Partnership") by
merger and the Limited Partners of such Partnership will receive either OP Units
or Notes, at their election, in exchange for their Partnership Interests.
By exchanging interests in their existing, non-traded limited partnerships
for interests in a publicly traded real estate company focused primarily on a
more diverse and growing full-service hotel portfolio, the Limited Partners will
have the opportunity to participate in the recent trend of ownership of real
estate through a publicly traded entity, which, in many instances, has resulted
in market valuations of public real estate companies in excess of the estimated
net asset values of those companies. Those Limited Partners who elect to receive
OP Units will be able, beginning one year after the Mergers (the "Initial
Holding Period"), to liquidate their investment in the Operating Partnership at
any time for cash at a price that reflects the public market valuation of Host
REIT or, at the option of Host REIT, Common Shares that will be traded on the
New York Stock Exchange ("NYSE"). Host has approximately 204 million shares of
common stock outstanding and the closing price on the NYSE on May 28, 1998 was
$19.4375 per share (reflecting a total common equity market capitalization of
approximately $4 billion). Limited Partners who wish to continue their
investments in the Operating Partnership should be able to defer recognition of
at least a substantial portion of any built-in taxable gain attributable to
their Partnership Interests.
Host and the General Partners are proposing the Mergers in connection with
a plan adopted by Host to reorganize its business operations so that it will
qualify as a real estate investment trust (a "REIT") under the Internal Revenue
Code of 1986, as amended (the "Code"). Host REIT expects to qualify as a REIT
beginning with its first taxable year commencing after the closing of the REIT
Conversion, which currently is expected to be the year commencing January 1,
1999. Host's reasons for engaging in the REIT Conversion include the following:
. Host believes the REIT structure will provide superior operating results
through changing economic conditions and all phases of the hotel
economic cycle.
3
<PAGE>
. Host believes the REIT Conversion will improve its financial flexibility
and allow it to strengthen its balance sheet by reducing its overall
debt to equity ratio over time.
. As a REIT, Host believes it will be able to compete more effectively
with other public lodging real estate companies that already are
organized as REITs and to improve investor understanding of its
operations, thus making performance comparisons with its peers more
meaningful.
. By becoming a dividend paying company, Host believes its shareholder
base will expand to include investors attracted by yield and asset
quality.
. Host believes the adoption of the UPREIT structure will facilitate the
tax-deferred acquisition of other hotels (such as in the case of the
Blackstone Acquisition).
The primary business objectives of the Operating Partnership and Host REIT
will be to (i) achieve long-term sustainable growth in "Funds From Operations"
(defined as net income (or loss) computed in accordance with generally accepted
accounting principles ("GAAP"), excluding gains (or losses) from debt
restructuring and sales of properties, plus real estate depreciation and
amortization, and after adjustments for unconsolidated partnerships and joint
ventures) per OP Unit or Common Share, (ii) increase asset values by improving
and expanding the initial Hotels, as appropriate, (iii) acquire additional
existing and newly developed upscale and luxury full-service hotels in targeted
markets, (iv) develop and construct upscale and luxury full-service hotels and
(v) potentially pursue other real estate investments.
If the REIT Conversion is consummated as contemplated, the Operating
Partnership initially will own, or have controlling interests in, approximately
120 full-service hotels, located throughout the United States and Canada
containing approximately 57,000 rooms and operating primarily under the
Marriott, Ritz-Carlton, Four Seasons, Swissotel and Hyatt brand names (the
"Hotels"). The Operating Partnership will be one of the largest owners of full-
service hotels in the United States.
As the first step in a strategy to acquire non-Marriott as well as Marriott
branded hotels, Host has entered into an agreement with various affiliates of
The Blackstone Group and a series of funds controlled by Blackstone Real Estate
Partners (collectively, the "Blackstone Entities") to acquire from the
Blackstone Entities ownership of, or controlling interests in, twelve upscale
and luxury full-service hotel properties (the "Blackstone Hotels") and certain
other related assets (including a mortgage loan secured by an additional hotel)
in exchange for cash, the assumption or repayment of debt, OP Units and shares
of SLC common stock with an estimated aggregate value at the time of the
agreement of approximately $1.735 billion (the "Blackstone Acquisition"). The
interests in the Blackstone Hotels will be contributed to the Operating
Partnership as part of the REIT Conversion. The Blackstone Hotels will be leased
to Lessees that are subsidiaries of SLC and will continue to be managed under
their existing management agreements. See "Business and Properties --Blackstone
Acquisition."
4
<PAGE>
The following table sets forth certain information as of March 27, 1998
(or, in the case of average daily rate, average occupancy and revenues per
available room ("REVPAR"), the twelve weeks then ended ("First Quarter 1998"))
for the Hotels that are expected to comprise the Operating Partnership's initial
full-service lodging portfolio:
<TABLE>
<CAPTION>
Number of Number of Average Daily Average
Current Owner Hotels Rooms Rate Occupancy REVPAR/(1)/
------------ --------- ------------- --------- -----------
<S> <C> <C> <C> <C> <C>
Atlanta Marquis/(2)(3)/.............. 1 1,671 $135.45 71.9% $ 97.40
Desert Springs/(2)/.................. 1 884 236.40 82.2 194.33
Hanover/(2)/......................... 1 353 152.47 62.0 94.46
MHP/(2)(4)/.......................... 2 2,127 192.84 85.5 164.72
MHP2/(2)(5)/......................... 4 3,411 154.12 80.0 123.31
Chicago Suites....................... 1 256 157.30 77.2 121.36
MDAH................................. 6 1,692 114.04 75.6 86.16
PHLP/(6)/............................ 8 3,181 125.99 80.3 102.44
Blackstone Hotels.................... 12 5,520 166.95 72.3 120.66
Host (historical)/(6)(7)/............ 96 47,304 146.49 76.6 112.25
Host (pro forma)/(6)(8)/............. 121 57,048 146.24 76.2 111.39
</TABLE>
- -------------
/(1)/ REVPAR is a commonly used indicator of market performance of hotels.
REVPAR measures daily room revenues generated on a per room basis by
combining the average daily room rate charged and the average daily
occupancy achieved. REVPAR excludes food and beverage and other ancillary
revenues generated by the hotel.
/(2)/ Currently included in Host's consolidated financial statements.
/(3)/ Atlanta Marquis has an 80% residual interest in the Atlanta Marriott
Marquis and for 1998 is expected to receive substantially all of the cash
flow from the hotel.
/(4)/ Includes Marriott's Harbor Beach Resort, of which MHP owns a 50.5%
interest.
/(5)/ Includes the Santa Clara Marriott, of which MHP2 owns a 50% interest and
Host owns the remaining 50% interest.
/(6)/ Includes the Tampa Westshore Marriott and the Raleigh Crabtree Marriott,
which are currently consolidated by Host. A subsidiary of Host provided
100% non-recourse financing totaling approximately $35 million to PHLP, in
which Host owns the sole general partner interest, for the acquisition of
these two hotels.
/(7)/ Includes Atlanta Marquis, Desert Springs, Hanover, MHP and MHP2.
/(8)/ Includes all Hotel Partnerships and the Blackstone Hotels, assuming the
Full Participation Scenario.
Risk Factors
The following is a summary of the potential material risks associated with
the Mergers. This summary is qualified in its entirety by the detailed
discussion in the section entitled "Risk Factors" contained in this Consent
Solicitation. Some of the significant matters that Limited Partners should
consider carefully include:
. Substantial Benefits to Related Parties. The Mergers will facilitate
consummation and enable Host to reap the full benefits of the REIT
Conversion and will result in an increase in Host REIT's Funds From
Operations per Common Share on a pro forma basis. By converting to a
REIT, Host expects to benefit from the advantages enjoyed by REITs in
raising capital and acquiring additional assets, participating in a
larger group of comparable companies and increasing its potential base
of shareholders. Also, Host will realize significant savings through the
substantial reduction of its future corporate-level income taxes. To the
extent that such anticipated benefits initially are reflected in the
value of Host's common stock before the Closing Date, they will not be
shared
5
<PAGE>
initially with the Limited Partners. Host might be required to
transfer its interests in certain Partnerships that do not participate
in a Merger, if any, to Non-Controlled Subsidiaries, in which case
Host's share of such Partnerships' earnings would continue to be subject
to corporate-level income tax.
. Absence of Arm's Length Negotiations. No independent representative was
retained to negotiate on behalf of the Limited Partners. Although the
General Partners have obtained the Appraisals (as defined herein) and
the Fairness Opinion (as defined herein) from American Appraisal
Associates, Inc., an independent, nationally recognized hotel valuation
and financial advisory firm ("AAA"), AAA has not negotiated with the
General Partners or Host and has not participated in establishing the
terms of the Mergers. Consequently, the terms and conditions of the
Mergers may have been more favorable to the Limited Partners if such
terms and conditions were the result of arm's length negotiations.
. Other Conflicts of Interest. The Mergers, the REIT Conversion and the
recommendations of the General Partners involve the following conflicts
of interest because of the relationships among Host, the Operating
Partnership, the General Partners and SLC: (i) the General Partners,
which are all subsidiaries of Host (except for PHLP, of which Host is
the General Partner), must assess whether the terms of the Mergers are
fair and equitable to the Limited Partners of its Partnership without
regard to whether the Mergers and the REIT Conversion may benefit Host,
(ii) the terms of the Leases of the Hotels, including the Participating
Partnerships' Hotels, will be determined by Host, which will distribute
the common stock of SLC, the parent of the Lessees, to its shareholders
after such terms have been set, and (iii) the terms of the Partnership
Agreement, including provisions which benefit Host REIT, have been
determined by Host. Such conflicts may result in decisions that do not
fully reflect the interests of all Limited Partners.
. Valuation of SLC. The value of the SLC common stock distributed to
Host's shareholders and the Blackstone Entities will be one factor used
in determining the value of an OP Unit. Although Host's Board of
Directors will determine the value of the SLC common stock in good faith
and in reliance in part upon the opinion of an independent financial
advisor, conflicts of interest still exist. If the SLC common stock is
undervalued by Host's Board of Directors, the deemed value of an OP Unit
for purposes of the Mergers may be higher than the level at which the
Host REIT Common Shares will trade following the REIT Conversion and the
Limited Partners could receive less than the full Exchange Value of
their Partnership Interests and Host REIT could receive an overall
higher percentage of the ownership of the Operating Partnership.
. Determination of Exchange Value. The deemed value of OP Units that each
Limited Partner of a Participating Partnership will receive (if the
Limited Partner elects to retain OP Units rather than receive a Note)
will equal the Exchange Value of such Limited Partner's Partnership
Interest. The Exchange Value of each Partnership will be the greatest of
its Adjusted Appraised Value, Continuation Value and Liquidation Value,
6
<PAGE>
each of which is determined according to a different method of valuation
and involves numerous estimates and assumptions. There is no assurance
that the Exchange Value of a Partnership will equal the fair market
value of the Hotels and other assets contributed by such Partnership.
Host REIT, on the other hand, will receive a number of OP Units equal to
the number of shares of Host common stock outstanding on the Closing
Date (and, if Host has outstanding shares of preferred stock at the time
of the REIT Conversion, a corresponding number of preferred partnership
interests in the Operating Partnership), which should fairly represent
the market value of Host REIT but may not be equal to the fair market or
net asset value of the Hotels and other assets that Host will contribute
to the Operating Partnership. See "Determination of Exchange Values and
Allocation of OP Units."
. Valuation of OP Units. The value of an OP Unit, for purposes of the
Mergers and the REIT Conversion, will be deemed to be equal to the value
of a share of Host common stock immediately prior to the REIT Conversion
minus the amount of cash and the estimated value of the SLC common stock
or other property to be distributed with respect to each share of Host
common stock in connection with the REIT Conversion. There is no
assurance that, following the REIT Conversion, the value of the
publicly-traded Common Shares (and therefore the value of the OP Units)
will in fact equal or exceed the deemed value of the OP Units used for
purposes of the Mergers. These factors could result in the Limited
Partners receiving OP Units with an actual value that is less than
either the deemed value of the OP Units for purposes of the Mergers or
the fair market value of their Partnership Interests.
. Determination of the Value of the Notes. At the same time that he votes
on the Merger of his Partnership, each Limited Partner also may elect to
receive at the time of the Merger, in exchange for OP Units, an
unsecured, seven-year Note with a principal amount equal to the Note
Election Amount of his Partnership Interest, which is based upon
numerous assumptions and estimates. The deemed value of the OP Units
will exceed the principal amount of the corresponding Notes in all
Partnerships (because the Exchange Values are higher than the Note
Election Amounts), and there is no assurance that the Note a Limited
Partner receives will have a value equal to the fair market value of the
Limited Partner's share of the Hotels and other assets owned by his
Partnership. There will be no public market for the Notes. If the Notes
are sold, they may sell at prices substantially below their issuance
price. Noteholders are likely to receive the full principal amount of a
Note only if they hold the Note to maturity, which is December 15, 2005,
or if the Operating Partnership repays the Notes prior to maturity.
Because the Notes are unsecured obligations of the Operating
Partnership, they will be effectively subordinated to all secured debt
of the Operating Partnership and all obligations of both the
Participating Partnerships and the Operating Partnership's other
subsidiaries. See "Description of the Notes." As of March 27, 1998, on a
pro forma basis assuming the Full Participation Scenario, the Operating
Partnership would have had aggregate consolidated debt of approximately
$4.6 billion debt to which the Notes were effectively subordinated or
which rank equally with such Notes.
. Reduced Cash Distributions for Certain Limited Partners. The expected
initial cash distributions to the Limited Partners of MHP and MHP2 from
the OP Units to be received in the Mergers will be less than the
estimated 1998 cash distributions of MHP and MHP2.
. Fundamental Change in Nature of Investment; Potential Underperformance.
The Mergers and the REIT Conversion involve a fundamental change in the
nature of a Limited Partner's investment from holding an interest in one
or more Partnerships, each
7
<PAGE>
of which has a fixed portfolio of one or more Hotels and distributes the
cash flow from the operation of such Hotels to its Limited Partners, to
holding an interest in an operating real estate company with a portfolio
of approximately 120 Hotels that collects and distributes to its limited
partners rents received from the Lessees (which will bear the risks and
receive the direct benefits of the Hotels' operations), has the ability
to acquire additional hotels, is able to reinvest proceeds from sales or
refinancings of existing Hotels in other hotels and has a publicly
traded general partner. In addition, each Limited Partner's investment
will change from one that allows a Limited Partner to receive a return
of capital in the form of distributions from any net proceeds of a sale
or refinancing of a Partnership's assets to an investment in which a
Limited Partner likely would realize a return of capital only through
the exercise of the Unit Redemption Right. Although it is expected that
the Limited Partners will receive added benefits from an investment in
the Operating Partnership, a Limited Partner's share of the liquidation
proceeds, if any, from the sale of a Partnership's Hotel or Hotels could
be higher than the amount realized upon exercise of the Unit Redemption
Right (or payments on any Note received by a Limited Partner who elects
to receive such Note). An investment in the Operating Partnership may
not outperform an investment in any individual Partnership. See
"Comparison of Ownership of Partnership Interests, OP Units and Common
Shares."
. Exposure to Risks from Other Hotels. As a result of the Mergers,
Limited Partners in Participating Partnerships who elect to receive OP
Units will own interests in a much larger partnership with a broader
range of assets than any of the Partnerships individually. A material
adverse change affecting the Operating Partnership's assets will affect
all Limited Partners regardless of whether a particular Limited Partner
previously was an investor in such affected assets. Each Partnership
owns discrete assets, and the Mergers and the REIT Conversion will
significantly diversify the types and geographic locations of the Hotels
in which the Limited Partners will have interests. As a result, the
Hotels owned by the Operating Partnership may be affected differently by
economic and market conditions than those Hotel(s) previously owned by
an individual Partnership.
. Limited Partners Have No Cash Appraisal Rights. Limited Partners of
Participating Partnerships who vote against the Merger will not have a
right to receive cash based upon an appraisal of their Partnership
Interests.
. Uncertainties as to the Size and Leverage of the Operating Partnership.
Host is an existing operating company that regularly issues and repays
debt, acquires additional hotels and disposes of existing hotels. Also,
some or all of the Partnerships may elect not to participate in a Merger
(a "Non-Participating Partnership"). In that case, Host may contribute
its interests in such Partnerships to a Non-Controlled Subsidiary, which
is subject to corporate-level income taxation, rather than the Operating
Partnership. In addition, outside partners in certain Private
Partnerships may not consent to a lease of their partnership's Hotel(s).
Host also may repurchase outstanding securities or issue new debt or
equity securities prior to the consummation of the Mergers and the REIT
Conversion. For these reasons, the Limited Partners cannot know at the
time they vote on a Merger the exact size and amount of leverage of the
Operating Partnership.
. Other Uncertainties at the Time of Voting. There are several other
uncertainties at the time the Limited Partners must vote on the Mergers,
including (i) the exact Exchange Value for each Partnership (which will
be adjusted for changes in lender and capital expenditure reserves,
indebtedness, deferred maintenance and other items prior to the Closing
Date), (ii) the deemed value of the OP Units for purposes of the Mergers
which, together with the Exchange Value, will determine the number of OP
Units the Limited Partners of each Participating Partnership will
receive and (iii) the exact principal amount of the Notes that may be
received in exchange for OP units. For these reasons, the Limited
Partners cannot know at the time they vote on a Merger these important
aspects of the Merger.
8
<PAGE>
. Lack of Control over Hotel Operations. Due to current federal income
tax law restrictions on a REIT's ability to derive revenues directly
from the operation of a hotel, the Operating Partnership will lease
virtually all of its consolidated Hotels to the Lessees, which will
operate the Hotels by continuing to retain the Managers pursuant to the
Management Agreements. The Operating Partnership will not operate the
Hotels or participate in the decisions affecting the daily operations of
the Hotels. Although the Operating Partnership's subsidiaries will have
certain rights as lessors under the Leases (including control over
decisions relating to capital expenditures) and will remain obligated
under the Management Agreements, the Operating Partnership will have
only limited ability to require the Lessees or the Managers to operate
or manage the Hotels in any particular manner or to govern any
particular aspect of their day-to-day operation or management.
Therefore, the Operating Partnership will be dependent for its revenue
upon the ability of the Lessees and the Managers to operate and manage
the Hotels.
. Expiration of Leases. The Leases will expire seven to ten years after
the Closing Date, and there can be no assurance that such Leases will be
renewed (or if renewed, will be renewed on terms as favorable to the
Operating Partnership). If the Leases are not renewed, the Operating
Partnership will be required to find other lessees, which lessees must
meet certain requirements set forth in the Management Agreements. There
can be no assurance that satisfactory lessees could be found or as to
the terms and conditions on which the Operating Partnership would be
able to renew the Leases or enter into new leases with such lessees.
. Requisite Vote of Limited Partners of Partnerships Binds All Limited
Partners. For each Partnership, approval of a Merger by the requisite
vote of the Limited Partners, as described in "Voting Procedures --
Required Vote and Other Conditions," will cause the Partnership to
participate in the Merger and will bind all Limited Partners of such
Partnership, including Limited Partners who voted against or abstained
from voting with respect to the Merger.
. Risks of Lodging Industry. The profitability of the Hotels is subject
to general economic conditions, the management abilities of the Managers
(including primarily Marriott International), competition, the
desirability of particular locations and other factors relating to the
operation of the Hotels. The full-service segment of the lodging
industry, in which virtually all of the Hotels operate, is highly
competitive, and the Hotels generally operate in geographical markets
that contain numerous competitors. The Hotels' success will be
dependent, in large part, upon their ability to compete in such areas as
access, location, quality of accommodations, room rate structure, the
quality and scope of food and beverage facilities and other services and
amenities. The lodging industry, including the Hotels (and thus the
Operating Partnership), may be adversely affected in the future by (i)
national and regional economic conditions, (ii) changes in travel
patterns, (iii) taxes and government regulations which influence or
determine wages, prices, interest rates, construction procedures and
costs, (iv) the availability of credit and (v) other factors beyond the
control of the Operating Partnership.
. Risks of Leverage. The Operating Partnership will have substantial
indebtedness. As of March 27, 1998, on a pro forma basis assuming the
Full Participation Scenario, the Operating Partnership had outstanding
indebtedness totaling $4.6 billion, which represents a 44% debt-to-total
market capitalization ratio on a pro forma basis at such date (based
upon a price per Common Share of Host REIT of $20.00). The Operating
Partnership's business is capital intensive, and it will have
significant capital requirements in the future. The Operating
Partnership's leverage level could affect its ability to (i) obtain
financing in the future, (ii) undertake refinancings on terms and
subject to conditions deemed acceptable by the Operating Partnership,
(iii) make
9
<PAGE>
distributions to partners, (iv) pursue its acquisition strategy or (v)
compete effectively or operate successfully under adverse economic
conditions.
. No Limitation on Debt. There are no limitations in Host REIT's or the
Operating Partnership's organizational documents which limit the amount
of indebtedness either may incur, although both the Notes and the
Operating Partnership's other debt instruments will contain certain
restrictions on the amount of indebtedness that the Operating
Partnership may incur.
. Rental Revenues from Hotels Subject to Rights of Lenders. In accordance
with the mortgage loan agreements with respect to outstanding
indebtedness of certain Hotel Partnerships, the rental revenues received
by such Hotel Partnerships under certain Leases first will be used to
satisfy the debt service on such outstanding indebtedness and any cash
flow remaining thereafter will be available to satisfy other obligations
of the Hotel Partnership (including paying property taxes and insurance,
funding the required FF&E reserves for the Hotels and capital
improvements) and to make distributions to partners, including Host
REIT.
. Ownership Limitations. No person may own, actually or constructively
(as determined under the applicable Code provisions), (i) in excess of
9.8% of the number or value of outstanding Common Shares of Host REIT or
(ii) in excess of 4.9% of the OP Units (other than Host REIT and The
Blackstone Group), subject to waiver or modification by Host REIT or the
Operating Partnership, as the case may be, in certain limited
circumstances.
. Timing of REIT Conversion. If the REIT Conversion does not occur in
time for Host REIT to elect REIT status effective January 1, 1999, the
effectiveness of Host REIT's election could be delayed to January 1,
2000, which would result in Host REIT continuing to pay corporate-level
income taxes in 1999 and could cause the Blackstone Acquisition not to
be consummated.
. Effect of Subsequent Events upon Recognition of Gain. Even though the
Limited Partners of the Participating Partnerships (other than those who
elect to receive a Note in exchange for OP units) generally are not
expected to recognize significant taxable gain at the time of the
Mergers, there are a variety of events and transactions (including the
sale of one or more of the Hotels or the reduction of indebtedness
securing one or more of the Hotels) that could cause a Limited Partner
to recognize all or a part of the gain that otherwise has been deferred
through the REIT Conversion. See "Federal Income Tax Considerations --
Tax Consequences of the Mergers--Effect of Subsequent Events." Certain
Hotels (including the Blackstone Hotels and the Hotel owned Atlanta
Marquis) will be covered by agreements with third parties which will
restrict the Operating Partnership's ability to dispose of those
properties or refinance their debt. As for the remaining initial
properties (including the Hotels owned by the Partnerships), the
partnership agreement of the Operating Partnership, which is
substantially in the form attached hereto as Appendix A (the
"Partnership Agreement"), does not impose any restrictions on the
Operating Partnership's ability to dispose of the Hotels or to refinance
debt secured by the Hotels (but the Operating Partnership is obligated
to pay any taxes Host REIT incurs as a result of such transactions). In
addition, the Partnership Agreement expressly provides that Host REIT,
as general partner of the Operating Partnership, is expressly not
required to take into account the tax consequences of the limited
partners in deciding whether to cause the Operating Partnership to
undertake specific transactions and the limited partners have no right
to approve or disapprove such transactions. See "Description of OP
Units -- Sales of Assets."
. Sale of Personal Property May Result in Gain to Limited Partners in
Certain Partnerships. In order to facilitate the participation of
Atlanta Marquis, Hanover, MHP and PHLP in the Mergers without adversely
affecting Host REIT's qualification as a REIT, the Operating Partnership
will require, as part of the Mergers, that Atlanta Marquis, Hanover, MHP
and PHLP sell a portion of the personal property associated with the
Hotels owned by such Partnerships to a Non-Controlled Subsidiary. These
sales will be taxable
10
<PAGE>
transactions and, with the exception of the sale by Hanover, may result
in an allocation of a relatively modest amount of ordinary recapture
income by each Partnership to its Limited Partners. This income will be
allocated to each Limited Partner in the same proportion and to the same
extent that such Limited Partner was allocated any deductions directly
or indirectly giving rise to the treatment of such gains as recapture
income. A Limited Partner who receives such an allocation of recapture
income would not be entitled to any special distribution from his
Partnership in connection with the sale of personal property.
. Election to Receive Notes. A Limited Partner who elects to receive a
Note in connection with the Mergers in exchange for his OP Units will be
treated as having made a taxable disposition of his Partnership
Interest. The Limited Partner may be eligible to defer at least a
portion, but not all, of that gain under the "installment sale" rules. A
Limited Partner with a "negative capital account" with respect to his
Partnership Interest who elects to receive a Note will recognize
"phantom income" in that amount at the time of the Mergers in any event.
See "Federal Income Tax Considerations -- Tax Treatment of Limited
Partners Who Exercise Their Right to Make the Note Election."
. Failure of Host REIT to Qualify as a REIT for Tax Purposes. Taxation of
Host REIT as a corporation if it fails to qualify as a REIT, and Host
REIT's subsequent liability for federal, state and local taxes on its
income and property, would, among other things, have the effect of
reducing cash available for distribution to Host REIT's shareholders and
materially reducing the value of the Common Shares and OP Units.
. Failure of the Operating Partnership to Qualify as a Partnership for Tax
Purposes. Taxation of the Operating Partnership as a corporation if it
fails to qualify as a partnership and the Operating Partnership's
subsequent liability for federal, state and local income taxes, would,
among other things, have the effect of reducing cash available for
distribution to holders of OP Units, would cause Host REIT to fail to
qualify as a REIT for tax purposes and would cause the holders of OP
Units to recognize substantial taxable gain at the time the Operating
Partnership ceases to qualify as a partnership.
. Change in Tax Laws. No assurance can be provided that new legislation,
Treasury Regulations, administrative interpretations or court decisions
will not significantly change the tax laws with respect to Host REIT's
qualification as a REIT or the federal income tax consequences of such
qualification.
The REIT Conversion
The transactions summarized below collectively constitute the REIT
Conversion. If the required approvals for the various transactions are obtained
and other conditions to the different steps in the REIT Conversion are satisfied
or waived, these transactions are expected to occur at various times prior to
the end of 1998 (or as soon thereafter as practicable). The Mergers of the
Participating Partnerships are expected to occur at the final stage of the REIT
Conversion.
. Contribution of Host Lodging Assets to Operating Partnership. As a
preliminary step, at various times during 1998, Host will contribute its
wholly owned full-service hotel assets, its interests in the Hotel
Partnerships and its other assets (excluding its senior living assets
and the cash to be distributed to its shareholders) to the Operating
Partnership in exchange for (i) a number of OP Units equal to the number
of outstanding shares of common stock of Host at the time of the REIT
Conversion, (ii) preferred partnership interests in the Operating
Partnership corresponding to any shares of Host preferred stock
outstanding at the time of the REIT Conversion and (iii) the assumption
by the Operating Partnership of certain liabilities of Host. Following
these contributions, the Operating Partnership and its subsidiaries will
directly own all of Host's wholly owned hotels and all of Host's
interests in the Hotel Partnerships and Host's other assets (excluding
its senior living assets and the cash to be distributed to its
shareholders).
. Debt Refinancing. Prior to or concurrently with the initial
contribution of assets by Host to the Operating Partnership, Host
expects to refinance $1.55 billion of outstanding
11
<PAGE>
public bonds (the "Bond Refinancing") through offers to purchase such debt
securities for cash and a concurrent solicitation of consents to amend the
terms of the debt securities to permit the transactions constituting the REIT
Conversion. Host expects to obtain the funds for the Bond Refinancing
primarily from the issuance of new debt securities by the Operating
Partnership, the issuance of preferred stock by Host or a new $1.25 billion
unsecured credit facility for the Operating Partnership (the "New Credit
Facility"), or any combination thereof. The proceeds of the New Credit
Facility also will be used to repay the $22 million of outstanding
indebtedness under the existing secured credit facility of HMC Capital
Resources Holding Corp., a subsidiary of Host. See "Business and Properties
-- Indebtedness."
. Treatment of Convertible Preferred Securities. Prior to the Closing Date,
Host will seek the consent of holders of the $550 million of outstanding
Quarterly Income Preferred Securities ("Convertible Preferred Securities") to
the REIT Conversion. In the REIT Conversion, the Operating Partnership will
assume primary liability for repayment of the convertible subordinated
debentures of Host underlying the Convertible Preferred Securities. As the
successor to Host, Host REIT also will be liable on the debentures and the
debentures will become convertible into Common Shares, but the Operating
Partnership will have primary responsibility for payment of the debentures,
including all costs of conversion. Upon conversion by a Convertible Preferred
Securities holder, the Operating Partnership will purchase Common Shares from
Host REIT in exchange for an equal number of OP Units and distribute the
Common Shares to the Convertible Preferred Securities holder. As a result of
the distribution of SLC common stock and cash to Host shareholders as part of
the merger of Host into Host REIT, the conversion ratio of the Convertible
Preferred Securities will be adjusted pursuant to the anti-dilution
provisions of the convertible debentures. See "Business and Properties --
Indebtedness."
. The Mergers. On the Closing Date, each Participating Partnership will merge
with a Merger Partnership. The Participating Partnerships will be the
surviving entities of the Mergers and will continue in existence as direct or
indirect subsidiaries of the Operating Partnership. In the Mergers, each
Limited Partner will receive a number of OP Units with a deemed value equal
to the Exchange Value of his respective Partnership Interests. If, at the
time of the vote on the Merger of his Partnership, a Limited Partner elects
to receive a Note instead of OP Units, such Limited Partner will, upon
receipt of his OP Units, tender such OP Units in exchange for a Note with a
principal amount equal to the Note Election Amount of his Partnership
Interest. Partnerships that do not participate in a Merger will continue as
separate partnerships, but the Operating Partnership may contribute some or
all of the interests in certain of these Partnerships (such as Atlanta
Marquis, Desert Springs, Hanover, MHP and MHP2) that it receives from Host
and its subsidiaries to a Non-Controlled Subsidiary.
. Restructuring of the Private Partnerships. The Operating Partnership will
acquire the partnership interests from unaffiliated partners of certain
Private Partnerships in exchange for OP Units and, accordingly, will own all
of the interests in those Private Partnerships. For those Private
Partnerships in which the unaffiliated partners have not elected to exchange
their interests for OP Units, (i) the Operating Partnership will be a partner
in the partnership if the unaffiliated partners consent to a Lease of the
partnership's Hotel(s) to a Lessee or (ii) if the requisite consents to
enter into a Lease are not obtained, the Operating Partnership may transfer
its interest in such partnership to a Non-Controlled Subsidiary.
. The Blackstone Acquisition. On the Closing Date, the Operating Partnership
will acquire from the Blackstone Entities ownership of, or controlling
interests in, twelve hotels and two mortgage loans, one secured by one of the
acquired hotels and one secured by an additional hotel. In addition, Host
will acquire a 25% interest in the Swissotel management company from the
Blackstone Entities, which Host will transfer to SLC in connection with the
distribution of SLC common stock to Host shareholders and the
12
<PAGE>
Blackstone Entities. In exchange for these assets, the Operating Partnership
will issue approximately 43.7 million OP Units, assume or repay debt and make
cash payments totaling approximately $862 million and distribute
approximately ___% of the shares of SLC common stock to the Blackstone
Entities.
. Contribution of Assets to Non-Controlled Subsidiaries. The Operating
Partnership will organize the Non-Controlled Subsidiaries to hold various
assets contributed by Host and its subsidiaries to the Operating Partnership,
the direct ownership of which by the Operating Partnership would jeopardize
Host REIT's status as a REIT. These assets primarily will consist of
partnership or other interests in hotels which are not leased and certain
international hotels in which Host owns interests. In exchange for the
contribution of these assets to the Non-Controlled Subsidiaries, the
Operating Partnership will receive nonvoting common stock representing 95% of
the total economic interests of the Non-Controlled Subsidiaries. In addition,
the Operating Partnership and, prior to the Mergers (assuming they
participate in the Mergers), Atlanta Marquis, Hanover, MHP and PHLP, will
sell to a Non-Controlled Subsidiary an estimated $___ million in value of
personal property associated with certain Hotels for cash that has been
contributed or loaned to the Non-Controlled Subsidiary by the Operating
Partnership. The Operating Partnership could not lease this personal property
to the Lessees without potentially jeopardizing Host REIT's qualification as
a REIT. The Non-Controlled Subsidiary will lease such personal property to
the applicable Lessees. One or more affiliates of Host will acquire all of
the voting common stock representing the remaining 5% of the total economic
interests, and 100% of the control, of each Non-Controlled Subsidiary.
. Leases of Hotels. The Operating Partnership, its subsidiaries and its
controlled partnerships, including the Participating Partnerships, will lease
virtually all of their Hotels to the Lessees pursuant to leases with initial
terms ranging from seven to ten years (the "Leases"). See "Business and
Properties -- The Leases." The leased Hotels will be operated by the Lessees
under their existing brand names pursuant to their existing Management
Agreements, which will be assigned to the Lessees for the terms of the
applicable Leases but under which the Operating Partnership will remain
obligated. See "Business and Properties -- The Management Agreements."
. Host REIT Merger and Shareholder Distribution. Host will merge into Host REIT
upon obtaining shareholder approval of the merger. Pursuant to the merger
agreement, Host shareholders will receive, for each share of Host common
stock, one Host REIT Common Share, a fraction of a share of common stock of
SLC and an amount of cash to be determined. The aggregate value of the SLC
common stock and cash to be distributed to Host shareholders is currently
estimated to be approximately $400 to $550 million. The actual amount of the
distribution will be based upon the estimated amount of accumulated earnings
and profits of Host as of the last day of its taxable year ending on or
immediately following the Closing Date. See "The REIT Conversion and the
Mergers -- The REIT Conversion -- Host REIT Merger and Shareholder
Distribution." Following the distribution, SLC will own the senior living
assets of Host, which are expected to consist of 31 retirement communities, a
25% interest in the Swissotel management company acquired from the Blackstone
Entities and controlling interests in the Lessees.
13
<PAGE>
Following the REIT Conversion, assuming the Full Participation Scenario,
the organizational structure of Host REIT will be as follows:
[ORGANIZATIONAL CHART APPEARS HERE]
/(1)/ Immediately following the distribution of SLC common stock to Host's
shareholders and the Blackstone Entities and the merger of Host into Host
REIT, all of the public shareholders of Host REIT (and the Blackstone
Entities) will be the shareholders of SLC. The common ownership of the two
public companies, however, will diverge over time.
/(2)/ Represents Limited Partners and others who receive OP Units and not Notes;
excludes Host and its subsidiaries.
/(3)/ The Operating Partnership will own all or substantially all of the equity
interests in the Participating Partnerships, certain Private Partnerships
and other Host subsidiaries that own Hotels, both directly and through
other direct or indirect, wholly owned subsidiaries of the Operating
Partnership or Host REIT. Host will contribute its partial equity
interests in the Non-Participating Partnerships and those Private
Partnerships whose partners have not elected to exchange their interests
for OP Units to the Operating Partnership, and the Operating Partnership
will either hold such partial interests or contribute them to the Non-
Controlled Subsidiaries.
Conditions to Consummation of the REIT Conversion. The consummation of the
REIT Conversion is subject to the satisfaction or waiver of a number of
conditions, including the conditions set forth below.
14
<PAGE>
. Host Shareholder Approval. Shareholders owning a majority of the
outstanding shares of Host's common stock shall have approved the
merger of Host into Host REIT.
. REIT Qualification. Host's Board of Directors shall have determined,
based upon the advice of counsel, that Host REIT can elect to be
treated as a REIT for federal income tax purposes effective no later
than the first full taxable year commencing after the REIT
Conversion.
. NYSE Listing. The Common Shares shall have been approved for listing
on the NYSE.
. Debt Refinancing. The Bond Refinancing shall have been completed, the
New Credit Facility shall have been obtained and the requisite
percentage of holders of the Convertible Preferred Securities and
other lenders to Host shall have consented to the REIT Conversion.
. Consents of Partners of Other Partnerships. The outside partners in a
sufficient number of Private Partnerships shall have elected to
exchange their interests for OP Units or consented to a lease of one
or more Hotels of their Private Partnerships so that Host REIT will
be able to qualify as a REIT.
. Third-Party Consents. Host shall have received all required third-
party consents to the REIT Conversion, including consents of lenders,
Marriott International and certain of its subsidiaries and ground
lessors, and consents to transfer material operating licenses and
permits and the Management Agreements.
. No Adverse Tax Legislation. The United States Congress shall not have
enacted legislation, or proposed legislation with a reasonable
possibility of being enacted, that would have the effect of (i)
substantially impairing the ability of Host REIT to qualify as a REIT
or the Operating Partnership to qualify as a partnership or (ii)
substantially increasing the federal tax liabilities of Host REIT
resulting from the REIT Conversion. The determination that this
condition has been satisfied will be made by Host, in its sole and
absolute discretion.
The Mergers
Issuance of OP Units or Notes. If Limited Partners holding the requisite
percentage of outstanding Partnership Interests in a Partnership vote to approve
a Merger, then such Participating Partnership will merge with a Merger
Partnership, with the Participating Partnership being the surviving entity.
Each Limited Partner of the Participating Partnership will receive OP Units with
an aggregate deemed value equal to the Exchange Value of such Limited Partner's
Partnership Interests. The deemed value of an OP Unit and the Exchange Value of
each Partnership have been established in the manner described in detail under
"Determination of Exchange Values and Allocation of OP Units."
At the time they vote on the Merger of their Partnership, Limited
Partners can elect to tender the OP Units they will receive in the Merger
(if their Partnership approves the Merger) in exchange for Notes. The principal
amount of the Note received by a Limited Partner will be equal to the Note
Election Amount of his Partnership Interest, which will be less than the value
of the OP Units that such Limited Partner otherwise would have received (because
the Note Election Amount is less than the Exchange Value for each Partnership).
Holders of Notes will receive interest payments on a semi-annual basis on June
15 and December 15 of each year. Such election will, however, cause a Limited
Partner to recognize gain at the time he receives the Note. See "Description of
the Notes" and "Federal Income Tax Considerations -- Tax Treatment of Limited
Partners who Exercise Their Right to Make the Note Election."
1998 Distributions. Limited Partners who receive OP Units will receive
cash distributions from their respective Partnerships for all of 1998 and, if
the Mergers do not occur in 1998, any portion of 1999 prior to the Mergers for
which they do not receive a cash distribution from the
15
<PAGE>
Operating Partnership. Limited Partners who receive Notes will participate in
the same distributions from the Partnerships as Limited Partners who receive OP
Units but will not receive any distributions from the Operating Partnerships.
Vote Required for Merger. In the case of Atlanta Marquis, Chicago Suites,
MDAH and PHLP, the approval required for each Merger is a majority of the
outstanding limited partnership interests in such Partnership. Host is entitled
to vote its limited partnership interests in Atlanta Marquis and PHLP on the
Mergers, but Host is not entitled to vote its limited partnership interest in
MDAH, and it does not own a limited partnership interest in Chicago Suites. In
the case of Desert Springs, Hanover, MHP and MHP2, a majority of the limited
partnership interests held by Limited Partners (a "quorum") must be voted on the
Merger (either for, against or abstain) for the vote to be recognized and a
majority of the quorum must vote for the Merger to approve it. Host is required
to vote its limited partnership interests in such Partnerships (except for
Desert Springs, in which Host does not own a limited partnership interest) in
the same manner as the majority of the other limited partnership interests are
voted. The approval of the Merger by the requisite percentage of limited
partnership interests of a Partnership will cause the Partnership to participate
in the Merger and will bind all Limited Partners of such Partnership, including
Limited Partners who voted against or abstained from voting with respect to the
Merger. See "Voting Procedures -- Required Vote and Other Conditions."
Amendments to Partnership Agreements. In order to consummate each Merger
as currently proposed, there are a number of amendments required to be made to
the partnership agreements of the Partnerships. A vote in favor of a Merger
will be deemed to constitute consent to such amendments. The effectiveness of
such amendments will be conditioned upon the Partnership's participation in a
Merger. The required amendments include (i) permitting the Partnerships to
enter into the Leases with the Lessees; (ii) reducing to one the number of
appraisals of the fair market value of a Partnership's Hotel(s) that the
Partnership must provide to the Limited Partners before the General Partner can
cause a Partnership to sell its assets to the General Partner or an affiliate;
and (iii) other amendments required to delete obsolete references, reflect the
passage of time or allow the transactions constituting the Mergers or otherwise
necessary or desirable to consummate the Mergers and the REIT Conversion.
Effective Time of the Mergers. The effective time of each Merger (the
"Effective Time") will be the time that the merger of Host into Host REIT
becomes effective, which is expected to be the final step in the REIT
Conversion. This is expected to occur on or about December 31, 1998, subject to
satisfaction or waiver of the conditions to the REIT Conversion.
Conditions to Consummation of the Mergers. Participation by each
Partnership in a Merger is subject to the satisfaction or waiver of certain
conditions, including, among other things, consent of (i) Limited Partners
holding the requisite percentage of Partnership Interests in such Partnership
(as described above) and (ii) certain lenders and other third parties. Each
Merger also is contingent upon the consummation of the remainder of the REIT
Conversion.
Merger Expenses. All costs and expenses incurred in connection with the
proposed Mergers (the "Merger Expenses"), including transfer and recordation
taxes and fees, whether or not the Mergers are approved by the Partnerships,
will be borne by the Operating Partnership which will also bear all other costs
and expenses incurred in connection with the REIT Conversion (the "REIT
Conversion Expenses"). See "The Mergers and the REIT Conversion -- Expenses."
16
<PAGE>
Reasons for the Mergers
The Mergers are being proposed at this time for three principal reasons:
. First, the General Partners believe that the expected benefits of the
Mergers to the Limited Partners, as set forth below, outweigh the
risks of the Mergers to the Limited Partners, as set forth in "Risk
Factors."
. Second, the General Partners believe that participation in the REIT
Conversion through the Mergers is better for the Limited Partners than
the alternatives of continuing each Partnership as a standalone entity
or liquidating the Partnership. See "Determination of Exchange Values
and Allocation of OP Units."
. Third, Host is proposing the Mergers at this time to each Partnership
because consummation of the Merger as to each Partnership will enable
Host to obtain the full benefits of the REIT Conversion with respect
to its interests in such Partnership, while also giving the other
partners of the Partnership the opportunity to enjoy the benefits of
the REIT Conversion. See "Risk Factors --Risks and Effects of the
Mergers -- Conflicts of Interest -- Substantial Benefits to Related
Parties."
The expected benefits from the Mergers to the Limited Partners include the
following:
. Enhanced Liquidity of Investment. The REIT Conversion will offer
Limited Partners significantly enhanced liquidity with respect to
their investments in the Partnerships because, after the expiration of
the Initial Holding Period, Limited Partners will be able to exercise
their Unit Redemption Right at any time, subject to certain limited
exceptions. Host has approximately 204 million shares of common stock
outstanding and the closing price on the NYSE on May 28, 1998 was
$19.4375 per share (reflecting a total common equity market
capitalization of approximately $4 billion). The exercise of the Unit
Redemption Right, however, generally would result in recognition of
taxable income or gain at that time.
. Public Market Valuation of Assets. In most instances, the units of
limited partnership interest of each Partnership ("Partnership Units")
currently trade at a discount to the net asset value of the
Partnership's assets. In contrast, the General Partners believe that
by exchanging interests in their existing, non-traded limited
partnerships for interests in a publicly traded real estate company
focused primarily on a more diverse and growing full-service hotel
portfolio, the Limited Partners will have the opportunity to
participate in the recent trend of ownership of real estate through a
publicly traded entity, which, in many instances, has resulted in
market valuations of public real estate companies in excess of the
estimated net asset values of those companies. There can be no
assurance, however, that the Common Shares of Host REIT will trade at
a premium to the private market values of the Operating Partnership's
assets or that the relative pricing differential will not change or be
eliminated in the future. Also, the initial benefit of Host's
conversion to a REIT will not be shared by the Limited Partners if and
to the extent that such initial benefit is reflected in the market
valuation of Host's common stock prior to the REIT Conversion.
. Regular Quarterly Cash Distributions. The General Partners expect that
the Operating Partnership will make regular quarterly cash
distributions to holders of OP Units. Host expects that these
distributions will be higher than the estimated 1998 cash
distributions of all Partnerships except MHP and MHP2, and in any
event, the ability to receive distributions quarterly and in regular
amounts would be enhanced. For additional information regarding
historical and estimated future distributions for the Partnerships,
see "Background and Reasons for the Mergers and the REIT Conversion --
Reasons for the Mergers."
. Substantial Tax Deferral. The General Partners expect that Limited
Partners of the Participating Partnerships who do not elect to receive
Notes in exchange for OP Units generally should be able to obtain the
benefits of the Mergers while continuing to defer recognition for
federal
17
<PAGE>
income tax purposes of at least a substantial portion, if not all, of
the gain with respect to their Partnership Interests that otherwise
would be recognized in the event of a liquidation of the Partnership
or a sale or other disposition of its assets in a taxable transaction
(although Limited Partners in Atlanta Marquis, MHP and PHLP may
recognize a relatively modest amount of ordinary income as the result
of required sales of personal property to a Non-Controlled Subsidiary
in order to facilitate Host REIT's qualification as a REIT).
Thereafter, such Limited Partners generally should be able to defer at
least a substantial portion of such built-in gain until they elect to
exercise their Unit Redemption Right or one or more of the Hotels
currently owned by their Partnership are sold or otherwise disposed of
in a taxable transaction by the Operating Partnership or the debt now
secured by such Hotels is repaid, prepaid or substantially reduced.
The federal income tax consequences of the Mergers are highly complex
and, with respect to each Limited Partner, are dependent upon many
variables, including the particular circumstances of such Limited
Partner. See "Federal Income Tax Considerations -- Tax Consequences of
the Mergers." Each Limited Partner is urged to consult with his own
tax advisors as to the consequences of a Merger in light of his
particular circumstances.
. Risk Diversification. Participation in a Merger, as well as future
hotel acquisitions by the Operating Partnership, will reduce the
dependence upon the performance of, and the exposure to the risks
associated with, any particular Hotel or group of Hotels currently
owned by an individual Partnership and spread such risk over a broader
and more varied portfolio, including more diverse geographic locations
and multiple brands. See "Business and Properties -- Business
Objectives."
. Reduction in Leverage and Interest Costs. It is expected that the
Operating Partnership will have a significantly lower leverage to
value ratio than any of the Partnerships currently, which have
leverage ratios that exceed 55% and typically average between 75% and
80%, resulting in interest and debt service savings and greater
financial stability.
. Growth Potential. The General Partners believe that the Limited
Partners, by owning interests in a publicly traded real estate company
focused primarily on a more diverse and growing upscale and luxury
full-service hotel portfolio, will be able to participate in growth
opportunities that would not otherwise be available to them.
. Greater Access to Capital. With publicly traded equity securities, a
larger base of assets and a substantially greater equity value than
any of the Partnerships individually, Host REIT expects to have
greater access to the capital necessary to fund the Operating
Partnership's operations and to consummate acquisitions on more
attractive terms than would be available to any of the Partnerships
individually. This greater access to capital should provide greater
financial stability to the Operating Partnership and reduce the level
of risk associated with refinancing existing loans upon maturity, as
compared to the Partnerships individually.
Determination of Exchange Values and Value of OP Units
Following consummation of the REIT Conversion, OP Units will be owned by
the following groups:
. Host REIT, which will receive a number of OP Units equal to the number
of outstanding shares of common stock of Host, in exchange for the
contribution of its full-service hotel assets and other assets
(excluding its senior living assets and the cash to be distributed to
its shareholders), subject to certain liabilities. On a pro forma
basis, as of March 27,
18
<PAGE>
1998, Host REIT would have received approximately 204 million OP
Units, based upon the number of outstanding shares of Host common
stock at that time. If Host issues any shares of preferred stock prior
to the REIT Conversion, Host REIT also will receive a number of
preferred partnership interests in the Operating Partnership equal to
the number of outstanding shares of preferred stock.
. The Blackstone Entities, which will receive approximately 43.7 million
OP Units in exchange for the contribution of the Blackstone Hotels and
certain other related assets, subject to certain liabilities.
. Limited Partners of the Participating Partnerships, who will receive
in the Mergers a number of OP Units based upon the Exchange Values of
their respective Partnership Interests, determined as summarized
below.
. Partners unaffiliated with Host in certain Private Partnerships, who
have agreed to exchange their interests in their Private Partnerships
for OP Units will receive a number of OP Units determined by
negotiation with Host as to the value of their interests in their
Private Partnerships.
In the Mergers, the Limited Partners of each Participating Partnership will
receive in exchange for their Partnership Interests a number of OP Units with an
aggregate deemed value equal to the Exchange Value of their Partnership
Interests. The value of an OP Unit for this purpose will be deemed to be equal
to (i) the average of the closing price of shares of Host common stock on the
NYSE for the 10 trading days ending on the third trading day prior to the record
date for the distribution of SLC common stock to Host shareholders and
Blackstone Entities minus (ii) the amount of cash and the estimated value, as
determined by Host's Board of Directors in good faith and in reliance in part
upon an opinion of an independent financial advisor, of the SLC common stock or
other property to be distributed with respect to each share of Host common stock
(currently estimated to aggregate approximately $___ - $___ per share) in
connection with the REIT Conversion. The closing price per share of Host common
stock on the NYSE on May 28, 1998 was $19.4375.
The Exchange Value of a Partnership is equal to the greatest of its
Adjusted Appraised Value, Continuation Value and Liquidation Value, each of
which has been determined as follows:
. Adjusted Appraised Value. The General Partners have retained AAA to
determine the market value of each of the Hotels as of March 1, 1998,
(the "Appraised Value"). The "Adjusted Appraised Value" of a
Partnership equals the Appraised Value of its Hotels, adjusted as of
the final Valuation Date (as defined herein) for lender reserves,
capital expenditure reserves, existing indebtedness (including a "mark
to market" adjustment to reflect the fair market value of such
indebtedness), certain deferred maintenance costs, deferred management
fees and transfer and recordation taxes and fees.
. Continuation Value. The General Partners have adopted estimates
prepared by AAA for each Partnership of the discounted present value,
as of January 1, 1998, of the limited partners' share of estimated
future cash distributions and estimated net sales proceeds (plus
lender reserves) assuming that the Partnership continues as an
operating business for twelve years and its assets are sold on
December 31, 2009 for their then estimated market value (the
"Continuation Value").
. Liquidation Value. The General Partners have estimated for each
Partnership the net proceeds to limited Partners resulting from the
assumed sale as of December 31, 1998 of the Hotels(s) of the
Partnership, each at its Adjusted Appraised Value (after eliminating
any "Mark to Market" adjustment and adding back the deduction for
transfer taxes and fees, if any, made in deriving the Adjusted
Appraised Value) less (i) estimated liquidation costs, expenses and
contingencies equal to 2.5% of Appraised Value and (ii) prepayment
penalties or defeasance costs, as applicable (the "Liquidation
Value").
For a complete description of the above methodologies, see "Determination
of Exchange Values and Allocation of OP Units -- Methodology for Determining
Exchange Values." Each of the three
19
<PAGE>
valuation methodologies is dependent upon a number of estimates, variables and
assumptions, including the assumptions used by AAA in preparing the Appraised
Values of the Hotels, as well as varying market conditions. No assurance can be
given that the estimated values would be accurate under actual conditions. See
"Background and Reasons for the Mergers and the REIT Conversion -- Alternatives
to the Mergers."
The following table sets forth the estimated Exchange Value of each
Partnership (based upon the greatest of its Adjusted Appraised Value,
Continuation Valuation and Liquidation Value) and the estimated Note Election
Amount for each Partnership, all on a per Partnership Unit basis as of the
Initial Valuation Date. The estimated Exchange Values set forth below may
increase or decrease as a result of various adjustments, which will be finally
calculated immediately prior to the closing of the Mergers but will not change
as a result of less than all of the Partnerships participating in the Mergers.
Estimated Exchange Values
(All amounts on a per Partnership Unit basis)/(1)/
<TABLE>
<CAPTION>
Estimated Estimated
Adjusted Appraised Estimated Estimated Exchange Note Election
Partnership Value Continuation Value Liquidation Value Value/(2)/ Amount/(3)/
----------- ------------------ ------------------ ------------------ ---------- -------------
<S> <C> <C> <C> <C> <C>
Atlanta Marquis $ 41,991 $ 45,425 $ 406 $ 45,425 $ 27,255
Chicago Suites 33,471 24,184 31,468 33,471 31,468
Desert Springs 40,880 33,536 27,617 40,880 27,617
Hanover 123,202 98,090 88,474 123,202 88,474
MDAH 109,216 89,340 98,345 109,216 98,345
MHP 140,032 141,425 124,261 141,425 124,261
MHP2 237,334 212,032 205,140 237,334 205,140
PHLP 0 5,040 0 5,040 3,024
</TABLE>
____________________
(1) A Partnership Unit in all of the Partnerships except Chicago Suites
($35,000) and PHLP ($10,000) represents an original investment of $100,000.
(2) Estimated Exchange Value is equal to the greatest of estimated Adjusted
Appraised Value, estimated Continuation Value and estimated Liquidation
Value.
(3) The principal amount of Notes is equal to the greater of (i) the
Liquidation Value or (ii) 60% of the Exchange Value (the "Note Election
Amount").
20
<PAGE>
Description of the Notes
At the same time they vote on the Mergers, Limited Partners who prefer to
receive a Note rather than OP Units must indicate their preference on the
Consent Form. Even if a Limited Partner votes against the Merger, he still may
choose between OP Units and a Note in the event the Merger is approved. A
Limited Partner of a Participating Partnership who fails to vote will receive
and retain OP Units. Each Limited Partner in a Participating Partnership who
elects to receive a Note will immediately tender the OP Units he receives upon
consummation of the Merger for the Note. The Notes will (i) be unsecured
obligations of the Operating Partnership, (ii) have a principal amount equal to
the Note Election Amount of a Limited Partner's Partnership Interests, (iii)
mature on December 15, 2005 (approximately seven years after the closing of the
Mergers), (iv) bear interest at __% per annum, which was determined based on
120% of the applicable federal rate as of the Record Date (estimated to be
approximately 7.00% as of May 28, 1998), payable semi-annually on June 15 and
December 15 each year, (v) provide for optional prepayment at any time without
penalty and mandatory prepayment of principal from a ratable portion of the net
proceeds (after repayment of debt, sales expenses and deferred management fees)
realized from any sale of any Hotels formerly owned by the Limited Partner's
Partnership and from certain excess refinancing proceeds and (vi) provide for
the payment of the remaining principal balance at maturity. See "Description of
the Notes."
Fairness Analysis and Opinion
Fairness Analysis. The General Partners believe that the terms of the
Mergers provide substantial benefits and are fair to the Limited Partners of
each Partnership and recommend that all Limited Partners vote for the
Mergers. In arriving at this conclusion, the General Partners have relied
primarily on the following factors, as well as other factors described under
"Fairness Analysis and Opinion -- Fairness Analysis:" (i) their view that the
expected benefits of the Mergers for the Limited Partners outweigh the risks and
potential detriments of the Mergers to the Limited Partners (see "Background and
Reasons for the Mergers and the REIT Conversion -- Reasons for the Mergers");
(ii) their view that the value of the OP Units allocable to the Limited Partners
on the basis of the Exchange Value established for each Partnership represents
fair consideration for the interests held by the Limited Partners of such
Partnership and is fair to the Limited Partners from a financial point of view;
and (iii) the fairness opinion of AAA as described below.
Fairness Opinion. AAA, an independent, nationally recognized hotel
valuation and financial advisory firm, has rendered the fairness opinion (the
"Fairness Opinion"), attached as Appendix B to this Consent Solicitation, which
sets forth the Appraised Values of the Hotels and concludes that: (i) the
methodologies and underlying assumptions used to determine the Exchange Value,
the Adjusted Appraised Value, the Continuation Value and the Liquidation Value
of each Partnership, including, without limitation, the assumptions used to
determine the various adjustments to the Appraised Values of the Hotels, are
fair and reasonable, from a financial point of view, to the limited partners of
each Partnership; and (ii) the methodologies used to determine the value of an
OP Unit and the allocation of the equity interest in the Operating Partnership
to be received by the limited partners of each Partnership are fair and
reasonable to the limited Partners of each Partnership. See "Fairness Analysis
and Opinion --Fairness Opinion."
Recommendation
For the reasons stated herein, the General Partners believe that the terms
of the Mergers provide substantial benefits and are fair to the Limited Partners
of each Partnership and recommend that all Limited Partners vote FOR the
Mergers. See "Fairness Analysis and Opinion -- Fairness Analysis."
21
<PAGE>
Solicitation Materials
This Consent Solicitation (including the accompanying transmittal letter),
together with the consent form and power of attorney (collectively, the "Consent
Form,") constitute the "Solicitation Materials" being distributed to Limited
Partners to obtain their consents to the Mergers.
The date of first distribution of this Consent Solicitation is ___________
____, 1998.
Voting Procedures
The voting procedures applicable to Limited Partners of each Partnership
are set forth in this Consent Solicitation under the heading "Voting Procedures
- -- Required Vote and Other Conditions."
A Limited Partner may mark the Consent Form to vote "FOR", "AGAINST" or
"ABSTAIN" with respect participation in a Merger by his Partnership. The failure
of a Limited Partner of Atlanta Marquis, Chicago Suites, MDAH and PHLP to vote
or an abstention will have the same effect as if such Limited Partner had voted
his Partnership Interests "AGAINST" a Merger. The failure of a Limited Partner
of Desert Springs, Hanover, MHP and MHP2 to vote will mean that such Limited
Partner's Partnership Interest will not be counted for purposes of establishing
a quorum and will not affect the manner in which Host is required to vote its
limited partnership interests. An abstention of a Limited Partner of Desert
Springs, Hanover, MHP and MHP2 will be counted for purposes of establishing a
quorum but will effectively be counted as a vote "AGAINST" a merger. For all of
the Partnerships, a Consent Form that is properly signed but not marked will be
voted "FOR" the Mergers.
The period during which consents will be solicited pursuant to this Consent
Solicitation (the "Solicitation Period") will commence on the date this Consent
Solicitation and the other Solicitation Materials are first distributed to the
Limited Partners and will continue until the later of (i) _______ ____, 1998 or
(ii) such later date as the Operating Partnership may elect, in its sole and
absolute discretion. Any Consent Form RECEIVED by the Operating Partnership (in
original or by facsimile) prior to 5:00 p.m., Eastern time, on the last day of
the Solicitation Period will be effective, provided that such Consent Form has
been properly signed. A Limited Partner who has submitted a Consent Form may
withdraw or revoke the Consent Form at any time prior to the expiration of the
Solicitation Period.
Investor Lists. Under Rule 14a-7 of the Exchange Act, each Partnership is
required, upon the written request of a Limited Partner, to provide to the
requesting Limited Partner (i) a statement of the approximate number of Limited
Partners in such Limited Partner's Partnership, and (ii) the estimated cost of
mailing a proxy statement, form of proxy or other similar communication to such
Limited Partners. In addition, a Limited Partner has the right, at his option,
either to (a) have his Partnership mail (at the Limited Partner's expense)
copies of any proxy statement, proxy form or other soliciting material furnished
by the Limited Partner to the Partnership's Limited Partners designated by the
Limited Partner, or (b) have the Partnership deliver to the requesting Limited
Partner, within five business days of the receipt of the request, a reasonably
current list of the names, addresses and class of units held by the
Partnership's Limited Partners. The right to receive the list of Limited
Partners is subject to the requesting Limited Partner's payment of the cost of
mailing and duplication at a rate of $0.15 per page. See "Voting Procedures --
Required Vote and Other Conditions -- Investor Lists."
Federal Income Tax Considerations
Tax Consequences of the Mergers. Based upon certain assumptions and
representations of the General Partners, the Operating Partnership, Host and
Host REIT, Hogan & Hartson L.L.P., counsel to Host, Host REIT and the Operating
Partnership, has opined that, except for any gain attributable to the sale of
personal property to a Non-Controlled Subsidiary, the Mergers will not result in
the recognition of taxable gain or loss at the time of the Mergers to a Limited
Partner (i) who does not exercise his Unit Redemption Right on a date sooner
than the date two years after the date of the consummation of the Mergers; (ii)
who does not receive a cash distribution (or a
22
<PAGE>
deemed cash distribution resulting from relief from liabilities, including as a
result of the prepayment of indebtedness), in connection with the Mergers or the
REIT Conversion in excess of such Limited Partner's aggregate adjusted basis in
his Partnership Interest at the time of the Mergers; (iii) who does not elect to
receive a Note; (iv) who is not required to recognize gain by reason of an
election by other Limited Partners in his Partnership to receive Notes in
exchange for their OP Units (which, in counsel's opinion, described below,
should not be the result of such election); and (v) whose "at risk" amount does
not fall below zero as a result of the Merger or the REIT Conversion.
With respect to the foregoing potential exceptions to nonrecognition
treatment, Hogan & Hartson L.L.P. has opined as follows: (i) it is more likely
than not that a Limited Partner's exercise of the Unit Redemption Right more
than one year after the date of consummation of the REIT Conversion but less
than two years after such date will not cause the Merger itself to be a taxable
transaction for such Limited Partner (or for the other Limited Partners of such
Partnership); (ii) although the matter is not free from doubt, a Limited Partner
who does not elect to receive a Note in connection with the Mergers should not
be required to recognize gain by reason of another Limited Partner's exercise of
such election; and (iii) a Limited Partner's relief from Partnership liabilities
allocable to such Limited Partner in connection with the Mergers or the REIT
Conversion (including as a result of the repayment of Partnership indebtedness
in connection with the REIT Conversion) will not cause such Limited Partner to
recognize taxable gain at the time of the REIT Conversion unless (and only to
the extent that) the amount thereof exceeds such Limited Partner's adjusted
basis in his Partnership Interest at the time of the Mergers. See "Federal
Income Tax Considerations -- Summary of Tax Opinions." An opinion of counsel,
however, does not bind the Internal Revenue Service (the "IRS") or the courts,
and no assurance can be provided that any such opinion will not be challenged by
the IRS or will be sustained by a court if so challenged. With one exception,
neither Host REIT, the Operating Partnership nor the General Partners have
sought any ruling from the IRS with respect to the consequences of the Mergers
or the REIT Conversion. See "Federal Income Tax Considerations -- Tax
Consequences of the Mergers -- IRS Ruling Request Regarding Allocation of
Partnership Liabilities."
With respect to the Limited Partners' relief from Partnership liabilities
in connection with the Mergers and REIT Conversion, the General Partners and the
Operating Partnership have determined, based upon the intended allocation of
Operating Partnership liabilities following the REIT Conversion and certain
information compiled by the General Partners, that no Limited Partner whose
adjusted basis in his Partnership Interest is the same as or greater than that
of a Limited Partner who purchased his Partnership Interest in the original
offering by the Partnership of the Partnership Interests and who has held such
Partnership Interest at all times since (referred to herein as an "Original
Limited Partner's Adjusted Basis") will recognize taxable gain at the time of
the Mergers as a result either of relief from Partnership liabilities allocable
to such Limited Partner or a reduction in his "at risk" amount below zero. See
"Federal Income Tax Considerations -- Tax Consequences of the Mergers-- Relief
from Liabilities/Deemed Cash Distribution." A Limited Partner whose adjusted
basis in his Partnership Interest is less than the Original Limited Partner's
Adjusted Basis for that Partnership, however, could recognize gain, depending
upon his particular circumstances.
Even though a Limited Partner whose adjusted basis in his Partnership
Interest is the same as or greater than the Original Limited Partner's Adjusted
Basis for that Partnership is not expected to recognize gain at the time of the
REIT Conversion, a variety of events and transactions subsequent to the REIT
Conversion could cause the Limited Partner to recognize all or part of the gain
that has been deferred through the REIT Conversion. See "Federal Income Tax
Considerations -- Tax Consequences of the Mergers -- Effect of Subsequent
Events." The Partnership Agreement expressly provides that Host REIT is not
required to take into account the tax consequences for the limited partners of
the Operating Partnership in deciding whether to cause the Operating Partnership
to undertake specific transactions and the limited partners have no right to
approve or disapprove such transactions. See "Description of OP Units -- Sales
of Assets."
The particular tax consequences of the Mergers and the REIT Conversion for
a Limited Partner will depend upon a number of factors related to the tax
situation of that individual Limited
23
<PAGE>
Partner and the Partnership of which he is a Limited Partner, including, without
limitation, such factors as the Limited Partner's adjusted tax basis in his
Partnership Interest, the extent to which the Limited Partner has unused passive
activity losses with respect to his Partnership Interest or other investments
generating passive activity losses that could offset income arising from the
Mergers and the REIT Conversion, the actual allocation of Operating Partnership
liabilities to the Limited Partner following the Mergers and the REIT Conversion
and the amount of built-in gain with respect to the Hotel(s) contributed to the
Operating Partnership by the Partnership in which he is a Limited Partner.
A Limited Partner who elects to receive a Note will be treated as having
made a taxable disposition of his Partnership Interest. The amount realized in
connection with such disposition will equal the sum of the "issue price" of the
Note (i.e., the principal amount of the Note) plus the portion of the
Partnership's liabilities allocable to the Limited Partner for federal income
tax purposes. To the extent the amount realized exceeds the Limited Partner's
adjusted basis in his Partnership Interest, the Limited Partner will recognize
gain. Such Limited Partner may be eligible to defer at least a portion of that
gain under the "installment sale" rules (see "Federal Income Tax
Considerations--Tax Treatment of Limited Partners Who Exercise Their Right to
Make the Note Election"), but those rules would not permit the Limited Partner
to defer all of the gain (including any gain attributable to the Limited
Partner's "negative capital account" and any gain attributable to "Section 1245
and Section 1250 depreciation recapture"), and may require that the Limited
Partner who defers gain pay to the IRS interest on a portion of the resulting
tax that has been deferred.
The discussion of federal income tax considerations in this Consent
Solicitation is not exhaustive of all possible tax considerations. For example,
it does not give a detailed discussion of any state, local or foreign tax
considerations. In addition, except to the extent discussed under the heading
"Federal Income Tax Considerations -- Taxation of Non-U.S. Shareholders of Host
REIT," it does not purport to deal with tax considerations that might be
relevant to foreign corporations and persons who are not citizens or residents
of the United States.
The gain, if any, required to be recognized by a Limited Partner as a
result of the Mergers (including gain recognized as a result of the sale of
personal property by the Limited Partner's Partnership or as a result of making
the Note Election) can be offset by unused passive activity losses from his
Partnership and other investments.
EACH LIMITED PARTNER IS STRONGLY URGED TO CONSULT WITH HIS OWN TAX ADVISOR
TO DETERMINE THE IMPACT OF SUCH LIMITED PARTNER'S PERSONAL TAX SITUATION ON THE
ANTICIPATED TAX CONSEQUENCES OF THE MERGERS AND THE REIT CONVERSION.
Qualification of Host REIT as a REIT. Host REIT expects to qualify as a
REIT for federal income tax purposes effective for its first taxable year
commencing following the REIT Conversion. If it so qualifies, Host REIT will be
permitted to (i) deduct dividends paid to its shareholders, allowing the income
represented by such dividends to avoid taxation at the entity level and to be
taxed only at the shareholder level and (ii) treat retained net capital gains in
a manner so that such gains are taxed at the Host REIT level but effectively
avoid taxation at the shareholder level. Host REIT, however, will be subject to
a separate corporate income tax on any gains recognized during the ten years
following the REIT Conversion that are attributable to "built-in" gain with
respect to the assets that Host owned at the time of the REIT Conversion (which
tax would be paid by the Operating Partnership). Host REIT's ability to qualify
as a REIT will depend upon its continuing satisfaction following the REIT
Conversion of various requirements related to the nature of its assets, the
sources of its income and the distributions to its shareholders, including a
requirement that Host REIT distribute to its shareholders at least 95% of its
taxable income each year.
Sale of Personal Property. In order to protect Host REIT's ability to
qualify as a REIT, the Operating Partnership may require, immediately prior to
the Mergers, that certain of the Participating Partnerships (specifically,
Atlanta Marquis, Hanover, MHP and PHLP) sell a portion of the personal property
associated with the Hotels owned by such Partnerships to a Non-Controlled
24
<PAGE>
Subsidiary. These sales will be taxable transactions and will result in a
special allocation of ordinary recapture income by each such Partnership (other
than Hanover) to its Limited Partners. This income will be allocated to each
such Limited Partner in the same proportion and to the same extent that such
Limited Partner previously was allocated any deductions directly or indirectly
giving rise to the treatment of such gains as recapture income. A Limited
Partner who receives such an allocation of recapture income would not be
entitled to any special distribution from his Partnership in connection with the
sale of personal property.
Summary Financial Information
The following table sets forth unaudited pro forma financial and other
information for the Operating Partnership and combined consolidated historical
financial information for the Company (as defined in Note 1 to the Notes to the
Combined Consolidated Financial Statements included herein). The following
summary financial information should be read in conjunction with the financial
statements and notes thereto and Management's Discussion and Analysis of Results
of Operations and Financial Condition included elsewhere in this Consent
Solicitation.
The unaudited pro forma financial statements as of March 27, 1998 and for
the fiscal year ended January 2, 1998 and the twelve weeks ended March 27, 1998
("First Quarter 1998") and the twelve weeks ended March 28, 1997 ("First Quarter
1997") are presented as if the REIT Conversion occurred as of March 27, 1998 for
the pro forma balance sheets and at the beginning of each period presented for
the pro forma statements of operations. The pro forma information incorporates
certain assumptions that are described in the Notes to the Unaudited Pro Forma
Financial Statements included elsewhere in this Consent Solicitation.
The pro forma information does not purport to represent what the Operating
Partnership's financial position or results of operations would actually have
been if these transactions had, in fact, occurred on such date or at the
beginning of the period indicated, or to project the Operating Partnership's
financial position or results of operations at any future date or for any future
period.
In addition, the historical information contained in the following table is
not comparable to the operations of the Operating Partnership on a going-forward
basis because the historical information relates to an operating entity which
owns and operates its hotels, while the Operating Partnership will own the
Hotels but will lease them to the Lessees and receive rental payments in
connection therewith.
25
<PAGE>
Summary Financial Information
(in millions)
<TABLE>
<CAPTION>
Pro Forma Fiscal Year 1997
-----------------------------
100% 100% Historical
Participation Participation ----------
with No Notes with Notes Fiscal
Issued Issued/(1)/ Year 1997
------------- -------------- ----------
<S> <C> <C> <C>
REVENUES:
Hotel revenues(2) $ -- $ -- $ 1,093
Rental revenues 1,041 1,041 --
Other revenues 20 20 17
-------- -------- --------
Total revenues 1,061 1,061 1,110
-------- -------- --------
OPERATING COSTS AND EXPENSES:
Hotel 522 520 649
Other 10 10 29
-------- -------- --------
Total operating costs and expenses 532 530 678
-------- -------- --------
Operating profit 529 531 432
Minority interest (9) (9) (32)
Corporate expenses (41) (41) (45)
Interest expense (417) (434) (287)
Dividends on Convertible Preferred
Securities (37) (37) (37)
Interest income 14 14 52
-------- -------- --------
Income before income taxes 39 24 83
Provision for income taxes (2) (1) (36)
-------- -------- --------
Income before extraordinary items
and REIT Conversion expenses(3) $ 37 $ 23 $ 47
======== ======== ========
<CAPTION>
Pro Forma
---------------------------------------------------------------
First Quarter 1998 First Quarter 1997
----------------------------- ------------------------------
100% 100% 100% 100%
Participation Participation Participation Participation
with No Notes with Notes with No Notes with Notes
Issued Issued/(1)/ Issued Issued/(1)/
------------- -------------- -------------- -------------
<S> <C> <C> <C> <C>
REVENUES:
Hotel revenues(2) $ -- $ -- $ -- $ --
Rental revenues 278 278 249 249
Other revenues 7 7 2 2
-------- -------- -------- --------
Total revenues 285 285 251 251
-------- -------- -------- --------
OPERATING COSTS AND EXPENSES:
Hotel 120 120 125 125
Other 5 5 3 3
-------- -------- -------- --------
Total operating costs and expenses 125 125 128 128
-------- -------- -------- --------
Operating profit 160 160 123 123
Minority interest (4) (4) (2) (2)
Corporate expenses (10) (10) (8) (8)
Interest expense (96) (100) (105) (109)
Dividends on Convertible Preferred
Securities (9) (9) (9) (9)
Interest income 8 8 3 3
-------- -------- -------- --------
Income (loss) before income taxes 49 45 2 (2)
Provision for income taxes (2) (2) -- --
-------- -------- -------- --------
Income (loss) before extraordinary items
and REIT Conversion expenses(3) $ 47 $ 43 $ 2 $ (2)
======== ======== ======== ========
<CAPTION>
Historical
-----------------------
First Quarter
-----------------------
1998 1997
---- ----
<S> <C> <C>
REVENUES:
Hotel revenues $ 321 $ 248
Rental revenues -- --
Other revenues 4 4
------- -------
Total revenues 325 252
------- -------
OPERATING COSTS AND EXPENSES:
Hotel 173 151
Other 5 10
------- -------
Total operating costs and expenses 178 161
------- -------
Operating profit 147 91
Minority interest (16) (11)
Corporate expenses (11) (9)
Interest expense (76) (63)
Dividends on Convertible Preferred
Securities (9) (9)
Interest income 14 12
------- -------
Income before income taxes 49 11
Provision for income taxes (21) (5)
------- -------
Income before extraordinary item
and REIT Conversion expenses $ 28 $ 6
======= =======
<CAPTION>
Pro Forma as of March 27, 1998
------------------------------------------
100% Participation 100% Participation
with No Notes with Notes Historical
Issued Issued/1/ as of March 27, 1998
------------------ ------------------ --------------------
<S> <C> <C> <C>
BALANCE SHEET DATA:
Property and equipment, net $ 6,993 $ 6,942 $ 4,926
Total assets 7,972 7,921 6,120
Debt 4,626 4,863 3,624
Total liabilities 5,367 5,604 4,629
Convertible Preferred Securities 550 550 550
Equity 2,055 1,767 941
</TABLE>
- ------------------------------------
(1) Assumes that all the Limited Partners of each Partnership elect to
receive Notes.
(2) Lease amounts reflect estimates as the leases are currently subject to
negotiation. The lease amounts included may not reflect the final terms of the
leases.
(3) The amount of REIT Conversion expenses to be incurred is not known at this
time and will be filed by amendment.
26
<PAGE>
RISK FACTORS
In considering whether to approve of a Merger by any Partnership, Limited
Partners should consider carefully, among other factors, the material risks
described below.
Risks and Effects of the Mergers
Conflicts of Interest. The Mergers, the REIT Conversion and the
recommendations of the General Partners involve conflicts of interest because of
the relationships among Host, the Operating Partnership, the General Partners
and SLC.
Substantial Benefits to Related Parties. The Mergers will facilitate
consummation and enable Host to reap the full benefits of the REIT
Conversion and will result in an increase in Host REIT's Funds From
Operations per Common Share on a pro forma basis. By converting to a REIT,
Host expects to benefit from the advantages enjoyed by REITs in raising
capital and acquiring additional assets, participating in a larger group of
comparable companies and increasing its potential base of shareholders.
Also, Host will realize significant savings through the substantial
reduction of its future corporate-level income taxes (although if one or
more Partnerships do not participate in the Mergers, Host may be required
to transfer its interests in such Partnerships to Non-Controlled
Subsidiaries, in which case Host's share of those Partnerships' earnings
would continue to be subject to corporate-level income tax). To the extent
that the anticipated effects of these benefits initially are reflected in
the value of Host's common stock prior to the Closing Date, the Limited
Partners initially will not enjoy the full effect of such benefits on the
value of their investment. In addition, following the REIT Conversion,
current Host shareholders (together with the Blackstone Entities) will own
the common stock of SLC and will benefit in the profits from the operation
of the Hotels in excess of the rental payments under the Leases.
Valuation of SLC. The value of the SLC common stock distributed to
Host's shareholders and the Blackstone Entities will be one factor used in
determining the value of an OP Unit. Although Host's Board of Directors
will determine the value of the SLC common stock in good faith and in
reliance in part upon the opinion of an independent financial advisor,
conflicts of interest still exist. If the SLC common stock is undervalued
by Host's Board of Directors, the deemed value of an OP Unit for purposes
of the Mergers may be higher than the level at which the Host REIT Common
Shares will trade following the REIT Conversion and the Limited Partners
could receive less than the full Exchange Value of their Partnership
Interests and Host REIT could receive an overall higher percentage of the
ownership of the Operating Partnership.
Affiliated General Partners. Host has varying interests in each of
the Partnerships, and subsidiaries of Host act as General Partner of each
of the Partnerships (except for PHLP, of which Host is the General
Partner). Each General Partner has an independent obligation to assess
whether the terms of the Merger are fair and equitable to the Limited
Partners of its Partnership without regard to whether the other Mergers are
fair and equitable to Host or any of the other participants in the other
Partnerships. While each General Partner has sought faithfully to
discharge its obligations to its Partnership, there is an inherent conflict
of interest in having Host and its subsidiaries serving in similar
capacities with respect to all
27
<PAGE>
of the other Partnerships, while at the same time establishing the overall
terms of the Mergers and the REIT Conversion.
Leasing Arrangements. Conflicts of interest exist in connection with
the leasing arrangements being entered into as part of the REIT Conversion.
The General Partners, all of which are subsidiaries of Host (except in the
case of PHLP, of which Host is the General Partner), are recommending the
Merger, and Host is responsible for establishing the terms of the Mergers
and the REIT Conversion, including the Leases. The common stock of SLC
will be distributed to Host's shareholders and the Blackstone Entities
after the terms of the Leases have been determined. Accordingly, Host's
existing shareholders and the Blackstone Entities will potentially benefit
from the terms of the Leases in a manner that Limited Partners will not.
Relationship between AAA and Host. AAA has been retained by the
General Partners (consisting of Host and its subsidiaries) to determine the
Appraised Values of the Hotels and the Continuation Values of the
Partnerships and to render the Fairness Opinion. Host has previously
retained AAA to perform appraisals and render fairness opinions in
connection with other transactions, and there is the possibility that Host
REIT and the Operating Partnership will retain AAA to perform similar tasks
in the future.
Tax Consequences upon Sale or Refinancing of Hotels. Certain holders
of OP Units may experience different and more adverse tax consequences
compared to those experienced by other holders of OP Units or by holders of
Common Shares upon the sale of, or the reduction of indebtedness on, any of
the Hotels. Therefore, such holders, including Host REIT and its
subsidiaries, may have different objectives regarding the appropriate
pricing and timing of any sale or refinancing of an individual Hotel. As
expressly provided in the Partnership Agreement, Host REIT, as general
partner of the Operating Partnership, is expressly not required to take
into account the tax consequences of the limited partners in deciding
whether to cause the Operating Partnership to undertake specific
transactions (but the Operating Partnership is obligated to pay any taxes
Host REIT incurs as a result of such transactions), and the limited
partners have no right to approve or disapprove such transactions.
Partnership Agreement. Conflicts of Interest exist in connection with
establishing the terms of the Partnership Agreement, including provisions
which benefit Host REIT, all of which were determined by Host (although The
Blackstone Group negotiated with Host as to the provisions of the
Partnership Agreement).
These conflicts of interest could result in decisions that do not fully
reflect the interests of all Limited Partners of the Partnerships. For a
discussion of the Operating Partnership's policies and agreements designed to
minimize any adverse effects from future conflicts of interest, see
"Distribution and Other Policies -- Conflicts of Interest Policies."
Absence of Arm's Length Negotiations. No independent representative was
retained to negotiate on behalf of the Limited Partners. Although the General
Partners have obtained opinions from AAA as to (i) the fairness and
reasonableness, from a financial point of view, to the Limited Partners of each
Partnership, of the methodologies and underlying assumptions used to determine
the Exchange Value, the Adjusted Appraised Value, the Continuation Value and the
Liquidation Value of each Partnership, including, without limitation, the
assumptions used to determine the various adjustments to the Appraised Values of
the Hotels, and (ii) the fairness and reasonableness, to the Limited Partners of
each Partnership, of the methodologies used to determine the value of an OP Unit
and to allocate the equity interest in the Operating Partnership to be received
by the Limited Partners of each Partnership, AAA has not negotiated with the
General Partners or Host and has not participated in establishing the terms of
the Mergers. Consequently, the terms and conditions of the Mergers may have been
more favorable to the Limited Partners if such terms and conditions were the
result of arm's length negotiations. In this regard, the Fairness Opinion
specifically does not conclude that other methodologies for determining the
Exchange Values of the Partnerships and/or the value of the OP Units might not
have been more favorable to the Limited Partners.
Determination of Exchange Value. The deemed value of OP Units that each
Limited Partner of a Participating Partnership will receive (if the Limited
Partner elects to retain OP Units rather than receive a Note) will equal the
Exchange Value of such Limited Partner's Partnership Interest. The Exchange
Value of each Partnership will be the greatest of its Adjusted Appraised
28
<PAGE>
Value, Continuation Value and Liquidation Value, each of which is determined
according to a different method of valuation and involves numerous estimates and
assumptions. There is no assurance that the Exchange Value of a Partnership will
equal the fair market value of the Hotels and other assets contributed by such
Partnership. Host REIT, on the other hand, will receive a number of OP Units
equal to the number of shares of Host common stock outstanding on the Closing
Date (and, if Host has outstanding shares of preferred stock at the time of the
REIT Conversion, a corresponding number of preferred partnership interests in
the Operating Partnership), which should fairly represent the market value of
Host REIT but may not be equal to the fair market or net asset value of the
Hotels and other assets that Host will contribute to the Operating Partnership.
See "Determination of Exchange Values and Allocation of OP Units."
Valuation of OP Units. The value of an OP Unit, for purposes of the Mergers
and the REIT Conversion, will be deemed to be equal to the value of a share of
Host common stock immediately prior to the REIT Conversion minus the amount of
cash and the estimated value of the SLC common stock or other property to be
distributed with respect to each share of Host common stock in connection with
the REIT Conversion. There is no assurance that, following the REIT Conversion,
the value of the publicly traded Common Shares (and therefore the value of the
OP Units) will in fact equal or exceed the deemed value of the OP Units used for
purposes of the Mergers. These factors could result in the Limited Partners
receiving OP Units with an actual value that is less than either the deemed
value of the OP Units for purposes of the Mergers or the fair market value of
their Partnership Interests.
Determination of Value of Notes. At the same time that he votes on the
Merger of his Partnership, each Limited Partner also may elect to receive at the
time of the Merger, in exchange for OP Units, an unsecured, seven-year Note with
a principal amount equal to the Note Election Amount of his Partnership
Interest, which is based upon numerous assumptions and estimates. The deemed
value of the OP Units will exceed the principal amount of the corresponding
Notes in all Partnerships (because the Exchange Values are higher than the Note
Election Amounts), and there is no assurance that the Note a Limited Partner
receives will have a value equal to the fair market value of the Limited
Partner's share of the Hotels and other assets owned by his Partnership. There
will be no public market for the Notes. If the Notes are sold, they may sell at
prices substantially below their issuance price. Noteholders are likely to
receive the full principal amount of a Note only if they hold the Note to
maturity, which is December 15, 2005, or if the Operating Partnership repays the
Notes prior to maturity. Because the Notes are unsecured obligations of the
Operating Partnership, they will be effectively subordinated to all secured debt
of the Operating Partnership and all obligations of both the Participating
Partnerships and the Operating Partnership's other subsidiaries. See
"Description of the Notes." As of March 27, 1998, on a pro forma basis assuming
the Full Participation Scenario, the Operating Partnership would have had
aggregate consolidated debt of approximately $4.6 billion to which the Notes
were effectively subordinated or which rank equally with such Notes.
Reduced Cash Distributions for Certain Limited Partners. The expected
initial cash distributions to the Limited Partners of MHP and MHP2 from the
OP Units to be received in the Mergers will be less than the estimated 1998 cash
distributions of MHP and MHP2.
Fundamental Change in the Nature of Investment. The Mergers and the REIT
Conversion involve a fundamental change in the nature of a Limited Partner's
investment from holding an interest in a Partnership which owns only one or a
fixed portfolio of (or controlling interests in) a relatively small number of
Hotels and distributes the profits from the operation of such Hotels to its
partners, to holding an interest in an operating real estate company that
29
<PAGE>
(i) will initially own interests in up to approximately 120 Hotels, (ii) will
distribute to its partners the rents received from Lessees (which will operate
the Hotels and bear the direct risks and receive the direct benefits of the
Hotels), (iii) has the ability to acquire additional hotels (including hotels
with additional brands), (iv) will be able to reinvest proceeds from sales or
refinancings of existing Hotels in additional hotels and (v) has a publicly
traded general partner.
In addition, the Operating Partnership does not anticipate that it will
distribute to its limited partners the proceeds from properties that are sold or
financings, but instead generally will reinvest such proceeds to repay
indebtedness, acquire additional existing properties, develop new properties or
fund capital expenditure or other working-capital needs. Thus, in contrast to
the Partnerships, limited partners of the Operating Partnership will not be able
to realize a return of capital through distributions of sale and refinancing
proceeds. Instead, Limited Partners will be able to realize a return of capital
primarily through the exercise of their Unit Redemption Right and, if the OP
Units are redeemed for Common Shares, by selling the Common Shares received as a
result thereof. Although it is expected that the Limited Partners will receive
added benefits from an investment in the Operating Partnership, a Limited
Partner's share of the liquidation proceeds, if any, from the sale of a
Partnership's Hotel or Hotels could be higher than the amount realized upon
exercise of the Unit Redemption Right (or payments on any Note received by a
Limited Partner who elects to receive such Note). An investment in the
Operating Partnership may not outperform an investment in any individual
Partnership. See "Comparison of Ownership of Partnership Interests, OP Units and
Common Shares."
Exposure to Risks from Other Hotels. As a result of the Mergers, Limited
Partners in Participating Partnerships who elect to receive OP Units will own
interests in a much larger partnership with a broader range of assets than any
of the Partnerships individually. A material adverse change affecting the
Operating Partnership's assets will affect all Limited Partners regardless of
whether a particular Limited Partner previously was an investor in such affected
assets. Each Partnership owns discrete assets, and the Mergers and the REIT
Conversion will significantly diversify the types and geographic locations of
the Hotels in which the Limited Partners will have interests. As a result, the
Hotels owned by the Operating Partnership may be affected differently by
economic and market conditions than those Hotel(s) previously owned by an
individual Partnership.
Limited Partners Have No Cash Appraisal Rights. Limited Partners of
Participating Partnerships who vote against the Merger will not have a right to
receive cash based upon an appraisal of their Partnership Interests.
Uncertainties as to the Size and Leverage of the Operating Partnership.
Host is an existing operating company that regularly issues and repays debt,
acquires additional hotels and disposes of existing hotels. Also, some or all
of the Partnerships may elect not to participate in a Merger. In that case,
Host may contribute its interests in such Partnerships to a Non-Controlled
Subsidiary, which is subject to corporate-level income taxation, rather than the
Operating Partnership. In addition, outside partners in certain Private
Partnerships may not consent to a lease of their partnership's Hotel(s). Host
also may repurchase outstanding securities or issue new debt or equity
securities prior to the consummation of the Mergers and the REIT Conversion. For
these reasons, the Limited Partners cannot know at the time they vote on a
Merger the exact size and amount of leverage of the Operating Partnership.
Other Uncertainties at the Time of Voting. There are several other
uncertainties at the time the Limited Partners must vote on the Mergers,
including (i) the exact Exchange Value for each Partnership (which will be
adjusted for changes in lender and capital expenditure reserves, deferred
maintenance and other items prior to the Closing Date), (ii) the deemed value
of the OP Units for purposes of the Mergers which, together with the Exchange
Value, will determine the number of OP Units the Limited Partners of each
Participating Partnership will receive and (iii) the exact principal amount of
the Notes that may be received in exchange for OP Units. For these reasons,
30
<PAGE>
the Limited Partners cannot know at the time they vote on a Merger these
important aspects of the Merger.
Lack of Control over Hotel Operations. Due to current federal income tax
law restrictions on a REIT's ability to derive revenues directly from the
operation of a hotel, the Operating Partnership will lease virtually all of its
consolidated Hotels to the Lessees, which will operate the Hotels by continuing
to retain the Managers pursuant to the Management Agreements. The Operating
Partnership will not operate the Hotels or participate in the decisions
affecting the daily operations of the Hotels. Although the Operating
Partnership's subsidiaries will have certain rights as lessors under the Leases
(including control over decisions relating to capital expenditures) and will
remain obligated under the Management Agreements, the Operating Partnership will
have only limited ability to require the Lessees or the Managers to operate or
manage the Hotels in any particular manner or to govern any particular aspect of
their day-to-day operation or management. Even if Host REIT's management
believes the Lessees or the Managers are operating or managing the Hotels
inefficiently or in a manner that does not result in the maximization of rental
payments to the Operating Partnership under the Leases, the Operating
Partnership has only limited ability to require the Lessees or the Managers to
change their method of operation or management. Therefore, the Operating
Partnership will be dependent for its revenue upon the ability of the Lessees
and the Managers to operate and manage the Hotels. The Operating Partnership is
limited to seeking redress only if the Lessees violate the terms of the Leases
and then only to the extent of the remedies set forth therein. Remedies under
the Leases include the Operating Partnership's ability to terminate a Lease upon
certain events of default such as the Lessee's failure to pay rent or failure to
maintain certain net worth requirements and breaches of other specified
obligations under the Leases. See "Business and Properties -- The Leases."
Termination of a Lease, however, could impair Host REIT's ability to qualify as
a REIT for federal income tax purposes unless another suitable lessee could be
found. Furthermore, upon expiration of the Leases, the Lessees will have a
right of first offer to renew the Leases upon expiration.
Expiration of the Leases. The Leases will expire seven to ten years after
the Closing Date, and there can be no assurance that such Leases will be renewed
(or if renewed, will be renewed on terms as favorable to the Operating
Partnership). If the Leases are not renewed, the Operating Partnership will be
required to find other lessees, which lessees must meet certain requirements set
forth in the Management Agreements. There can be no assurance that
satisfactory lessees could be found or as to the terms and conditions on which
the Operating Partnership would be able to renew the Leases or enter into new
leases with such lessees.
Requisite Vote of Limited Partners of Partnerships Binds All Limited
Partners. For each Partnership, approval of a Merger by the requisite vote of
the Limited Partners, as described in "Voting Procedures -- Required Vote and
Other Conditions," will cause the Partnership to participate in the Merger and
will bind all Limited Partners of such Partnership, including Limited Partners
who voted against or abstained from voting with respect to the Merger.
Risks of Lodging Industry. The profitability of the Hotels is subject to
general economic conditions, the management abilities of the Managers (including
primarily Marriott International), competition, the desirability of particular
locations and other factors relating to the operation of the Hotels. The full-
service segment of the lodging industry, in which the Hotels primarily operate
is highly competitive, and the Hotels generally operate in geographical markets
that contain numerous competitors. The Hotels' success will be dependent, in
large part, upon their ability to compete in such areas as access, location,
quality of accommodations, room rate structure, the quality and scope of food
and beverage facilities and other services and amenities. The lodging industry,
including the Hotels (and thus the Operating Partnership), may be adversely
affected in the future by (i) national and regional economic conditions, (ii)
changes in travel patterns, (iii) taxes and government
31
<PAGE>
regulations which influence or determine wages, prices, interest rates,
construction procedures and costs, (iv) the availability of credit and (v) other
factors beyond the control of the Operating Partnership.
Risks of Leverage. The Operating Partnership will have substantial
indebtedness. As of March 27, 1998, on a pro forma basis assuming the Full
Participation Scenario, the Operating Partnership had outstanding indebtedness
totaling $4.6 billion, which represents a 44% debt-to-total market
capitalization ratio on a pro forma basis at such date (based upon a price per
Common Share of Host REIT of $20.00). The Operating Partnership's business is
capital intensive, and it will have significant capital requirements in the
future. The Operating Partnership's leverage level could affect its ability to
(i) obtain financing in the future, (ii) undertake refinancings on terms and
subject to conditions deemed acceptable by the Operating Partnership, (iii) make
distributions to partners, (iv) pursue its acquisition strategy or (v) compete
effectively or operate successfully under adverse economic conditions.
No Limitation on Debt. Host REIT will have a policy of incurring debt only
if, immediately following such incurrence, its debt-to-total market
capitalization ratio on a pro forma basis would be ___% or less. However, there
are no limitations in Host REIT's or the Operating Partnership's organizational
documents that limit the amount of indebtedness that either entity may incur,
although both the Notes and the Operating Partnership's other debt instruments
will contain certain restrictions on the amount of indebtedness that the
Operating Partnership may incur. Accordingly, the Board of Trustees could alter
or eliminate this policy from time to time to the extent permitted by its debt
agreements. If this policy were changed, the Operating Partnership could become
more highly leveraged, resulting in an increase in debt service payments that
could adversely affect the Operating Partnership's cash flow, and consequently,
the cash available for distribution to holders of OP Units and Common Shares and
could increase the risk of default on the Operating Partnership's indebtedness.
The Operating Partnership's leverage level could also affect its ability to (i)
obtain financing in the future, (ii) undertake refinancings on terms and subject
to conditions deemed acceptable by the Operating Partnership, (iii) pursue its
acquisition strategy or (iv) compete effectively or operate successfully under
adverse economic conditions.
Timing of REIT Conversion. If the REIT Conversion does not occur in time
for Host REIT to elect REIT status effective January 1, 1999, the effectiveness
of Host REIT's election could be delayed to January 1, 2000, which would result
in Host REIT continuing to pay corporate income taxes in 1999 and could cause
the Blackstone Acquisition not to be consummated.
Individual Assets May Outperform the Operating Partnership's Portfolio.
The Mergers and the REIT Conversion will combine into a single entity all of the
assets and liabilities associated with the Participating Partnerships, the
Private Partnerships and Host, as well as the Blackstone Hotels. Assets of
certain Participating Partnerships may, over time, outperform OP Units, which
represent undivided interests in all of the assets of the Operating Partnership.
Although the Exchange Values of the Participating Partnerships will be
determined in part by the estimated future cash flows of such Partnerships,
Limited Partners of a Participating Partnership that would outperform the
Operating Partnership if allowed to continue as a separate entity will
nonetheless receive the same rate of return per OP Unit as the rest of the
limited partners of the Operating Partnership. In addition, the return that
such Limited Partners receive on their investment in the Operating Partnership
could be lower than the return that their Partnership would have provided if it
had not participated in the Merger.
Leases Could Impair the Sale or Other Disposition of the Operating
Partnership's Hotels. Each Lease provides for a termination payment if the
Lease is terminated by the Operating Partnership prior to the expiration of the
term of such Lease (including due to a change in the federal income tax laws
that allows the Operating Partnership to operate the Hotels without jeopardizing
Host REIT's status as a REIT), except following a default by a Lessee or unless
the Operating Partnership leases to the Lessee a comparable substitute hotel.
The termination fee is
32
<PAGE>
equal to the fair market value, discounted by 12%, of the Lessee's leasehold
interest in the remaining term of the Lease. The payment of such termination fee
under the Leases could have the effect of impairing the ability of the Operating
Partnership to sell its Hotels if market conditions otherwise warrant such a
sale and would reduce the net proceeds of any such sale. See "Business and
Properties -- The Leases -- Termination of Lease upon Disposition of the
Hotels."
No Control over Major Decisions. Currently, Limited Partners of the
Partnerships generally have the right to vote on certain major transactions,
such as (i) a sale of all or substantially all of a Partnership's assets, (ii) a
merger or consolidation of a Partnership with another entity, (iii) incurrence
of certain types and amounts of debt, (iv) amendments to the partnership
agreement or (v) removal of the General Partner, although all such matters
(except removal of the General Partner) also require the approval of the General
Partner. In contrast, limited partners of the Operating Partnership generally
will have no voting rights as to management (including a change in control of
management), debt financing (including reduction of mortgage indebtedness,
except in certain limited circumstances), sale or other disposition of one or
more Hotels (except with respect to a sale of all or substantially all of the
Hotels, although Host REIT's percentage interest in the Operating Partnership
and its ability to vote such interests give it the ability to determine the
outcome of that vote) or removal of Host REIT as general partner of the
Operating Partnership. See "Description of OP Units -- Borrowing by the
Operating Partnership" and "--Sales of Assets." However, limited partners of the
Operating Partnership will have certain voting rights during the Initial Holding
Period. See "Description of OP Units -- Certain Voting Rights of Holders of OP
Units During the Initial Holding Period." After the REIT Conversion,
substantially all actions taken by the Operating Partnership will be based upon
decisions made by the management and Board of Trustees (as constituted from time
to time) of Host REIT, in its absolute discretion, as the sole general partner
of the Operating Partnership.
Foregoing Potential Benefits of Alternatives to the REIT Conversion. The
alternatives to participation in the REIT Conversion through a Merger include
continuation of a Partnership or sale of the Partnership's assets and
liquidation. Continuation of a Partnership in accordance with its existing
business plan would not subject the Partnership to the risks associated with a
Merger or change the Limited Partners' voting rights or the policy governing
their cash distributions. Liquidation of a Partnership would allow Limited
Partners to receive the net proceeds from the sale of the Partnership's assets
without waiting until their OP Units become redeemable and would permit
valuation of the Partnership's assets through negotiations with prospective
purchasers (in many cases unrelated third parties), making it unnecessary to
rely upon other valuation methods to estimate fair market value. Such a sale
and liquidation, however, would result in substantial taxable income for many
Limited Partners. See "Background and Reasons for the Mergers and the REIT
Conversion -- Alternatives to the Mergers."
No Indemnification. The merger agreements pursuant to which subsidiaries
of the Operating Partnership will merge with and into the Partnerships will
provide that the Operating Partnership will not have any recourse against any of
the Limited Partners in the Participating Partnerships in the event the
Operating Partnership suffers a loss as the result of an inaccuracy in any
representation or warranty made by the Partnership in such merger agreements.
Dilution. While currently there are no specific proposals for the
Operating Partnership to issue OP Units beyond those to be issued in the REIT
Conversion and the Blackstone Acquisition, the Operating Partnership expects to
pursue acquisitions of additional hotels. These acquisitions may be financed
through the issuance of OP Units or other limited partnership interests directly
to property owners or to Host REIT in exchange for cash. Any such OP Units or
other limited partnership interests in the Operating Partnership may have
certain preferences. Additional issuances of equity securities of Host REIT or
OP Units in connection with acquisitions of additional hotels or offerings of
securities for cash may occur in the discretion of Host REIT's Board of
Trustees, and would result in proportional reductions of the percentage
ownership interests of the limited partners (or other holders of OP Units) of
the Operating Partnership. See "Description of OP Units."
33
<PAGE>
Risks of Ownership of OP Units and Common Shares
Inability to Remove Host REIT as General Partner of the Operating
Partnership. The Partnership Agreement provides that limited partners may not
remove Host REIT as general partner of the Operating Partnership with or without
cause (unless neither the general partner nor its parent entity is a "public
company," in which case the general partner may be removed for cause). The
inability to remove Host REIT as general partner may not be in the best
interests of the limited partners of the Operating Partnership. See
"Description of OP Units -- Removal of the General Partner; Transfer of Host
REIT's Interests."
Restrictions on Transfer of OP Units. The Partnership Agreement contains
restrictions on the ability of partners to transfer their OP Units, except in
certain limited circumstances, without the prior written consent of Host REIT.
See "Description of OP Units -- Restrictions on Transfers of Interests by
Limited Partners."
Limitations on Acquisition and Change in Control. Host REIT's Declaration
of Trust (the "Declaration of Trust") and the Partnership Agreement are expected
to contain a number of provisions that may limit the ability of outside parties
to acquire control of Host REIT, including the following:
Ownership Limit. The 9.8% ownership limit described under "--
Possible Adverse Consequences of Limits on Ownership of Common Shares"
below may have the effect of precluding a change in control of Host REIT by
a third party without the consent of the Board of Trustees, even if such
change in control would be in the interest of the limited partners of the
Operating Partnership or shareholders of Host REIT (and even if such change
in control would not reasonably jeopardize the REIT status of Host REIT).
Staggered Board. The Board of Trustees of Host REIT will have three
classes of trustees. The terms of the first, second and third classes will
expire in 1999, 2000 and 2001, respectively. Trustees for each class will
be chosen for a three-year term upon the expiration of the then current
class' term, beginning in 1999. The staggered terms for trustees may
affect the shareholders' ability to effect a change in control of Host REIT
even if a change in control would be in the interest of the limited
partners of the Operating Partnership or shareholders of Host REIT.
Preferred Shares of Beneficial Interest. The Declaration of Trust
will authorize the Board of Trustees of Host REIT to issue up to 1,000,000
preferred shares of beneficial interest and to establish the preferences
and rights of any preferred beneficial interests issued. The issuance of
preferred shares of beneficial interest having special preferences or
rights could have the effect of delaying or preventing a change in control
of Host REIT even if a change in control would be in the interest of the
shareholders of Host REIT or limited partners of the Operating Partnership.
Consent Rights of the Limited Partners. Under the Partnership
Agreement, Host REIT generally will be able to merge or consolidate with
another entity with the consent of the holders of a majority of the
outstanding OP Units (including OP Units held by Host REIT) as long as the
holders of OP Units either will receive or will have the right to receive
the same consideration as the holders of Common Shares. Host REIT, as a
holder of a majority of the OP Units, would be able to control the outcome
of such a vote. Under the Declaration of Trust, the approval of the holders
of at least 66 2/3% of the outstanding Host REIT Common Shares is necessary
to effectuate such merger or consolidation.
Inability to Transfer Host REIT's Interests. The Partnership
Agreement provides that Host REIT may not transfer any of its interests as
general or limited partner in the
34
<PAGE>
Operating Partnership, except in certain circumstances. See "Description of
OP Units -- Removal of the General Partner; Transfer of Host REIT's
Interests."
Maryland Business Combination Law. Under the Maryland General
Corporation Law (the "MGCL"), as applicable to real estate investment
trusts, certain "business combinations" (including certain issuances of
equity securities) between a Maryland real estate investment trust and any
person who owns 10% or more of the voting power of the trust's then
outstanding shares of beneficial interest (an "Interested Shareholder") or
an affiliate of the Interested Shareholder are prohibited for five years
after the most recent date in which the Interested Shareholder becomes an
Interested Shareholder. Thereafter, any such business combination must be
approved by a supermajority (80%) of outstanding voting shares, and by two-
thirds of voting shares other than voting shares held by an Interested
Shareholder unless, among other conditions, the trust's common shareholders
receive a minimum price (as defined in the MGCL) for their shares and the
consideration is received in cash or in the same form as previously paid by
the Interested Shareholder.
Possible Adverse Consequences of Limits on Ownership of Common Shares. To
maintain its qualification as a REIT for federal income tax purposes, not more
than 50% in value of the outstanding shares of beneficial interest of Host REIT
may be owned, directly or indirectly, by five or fewer individuals (as defined
in the Code to include certain entities). See "Federal Income Tax
Considerations -- Federal Income Taxation of Host REIT Following the REIT
Conversion -- Requirements for Qualification." In addition, a person who owns,
directly or by attribution, 10% or more of a tenant of Host REIT (or a tenant of
any partnership in which Host REIT is a partner) cannot own, directly or by
attribution, 10% or more of the shares of Host REIT without jeopardizing Host
REIT's qualification as a REIT. To facilitate maintenance of its qualification
as a REIT for federal income tax purposes, Host REIT will prohibit ownership,
directly or by virtue of the attribution provisions of the Code, by any single
shareholder of more than 9.8% of the issued and outstanding Common Shares and
will prohibit ownership, directly or by virtue of the attribution provisions of
the Code, by any single shareholder of more than 9.8% of the issued and
outstanding shares of any class or series of Host REIT's preferred shares
(collectively, the "Ownership Limit"). The Board of Trustees, in its sole and
absolute discretion, may waive or modify the Ownership Limit with respect to one
or more persons who would not be treated as "individuals" for purposes of the
Code if it is satisfied, based upon information required to be provided by the
party seeking the waiver and upon an opinion of counsel satisfactory to the
Board of Trustees, that ownership in excess of this limit will not cause a
person who is an individual to be treated as owning shares in excess of the
Ownership Limit, applying the applicable constructive ownership rules, and will
not otherwise jeopardize Host REIT's status as a REIT for federal income tax
purposes (for example, by causing any tenant of the Operating Partnership or any
of the Hotel Partnerships (including but not limited to SLC and the Lessees) to
be considered a "related party tenant" for purposes of the REIT qualification
rules). Common Shares acquired or held in violation of the Ownership Limit will
be transferred automatically to a trust for the benefit of a designated
charitable beneficiary, with the person who acquired such Common Shares in
violation of the Ownership Limit not entitled to any distributions thereon, to
vote such Common Shares or to receive any proceeds from the subsequent sale
thereof in excess of the lesser of the price paid therefor or the amount
realized from such sale. A transfer of Common Shares to a person who, as a
result of the transfer, violates the Ownership Limit may be void under certain
circumstances, and in any event would deny the transferee any of the economic
benefit of owning Common Shares in excess of the Ownership Limit. See
"Description of Shares of Beneficial Interest --Restrictions on Ownership and
Transfer." The Ownership Limit may have the effect of delaying, deferring or
preventing a change in control and, therefore, could adversely affect the
shareholders' ability to realize a premium over the then-prevailing market price
for the Common Shares in connection with such transaction.
Effect on Common Share Price of Shares Available for Future Sale. Sales of
a substantial number of Common Shares, or the perception that such sales could
occur, could adversely affect prevailing market prices for Common Shares.
Beginning July 1, 1999, 50% of the
35
<PAGE>
approximately 43.7 million OP Units to be issued in the Blackstone Acquisition
will become redeemable pursuant to their Unit Redemption Right, an additional
25% will be redeemable on October 1, 1999, and the balance will be redeemable on
January 1, 2000. In addition, beginning at least one year after the Closing Date
(or less in certain circumstances), other holders of OP Units, including Limited
Partners who receive OP Units in the Mergers, may be able to sell Common Shares
received upon exercise of their Unit Redemption Right in the public market
pursuant to registration or exemptions from registration. In addition, a
substantial number of Common Shares would, pursuant to employee benefit plans,
be issued or reserved for issuance from time to time, including Common Shares
reserved for issuance pursuant to options issued concurrently with the
consummation of the REIT Conversion, and these Common Shares would be available
for sale in the public markets from time to time pursuant to exemptions from
registration or upon registration. No prediction can be made about the effect
that future sales of Common Shares would have on the market price of the Common
Shares.
Effect on Common Share Price of Market Conditions. As with other publicly
traded equity securities, the value of the Common Shares will depend upon
various market conditions, which may change from time to time. Among the market
conditions that may affect the value of the Common Shares would be the
following: (i) the extent of institutional investor interest in Host REIT, (ii)
the general market perception of REITs and the attractiveness of their equity
securities in comparison to other equity securities (including securities issued
by other real estate-based companies), (iii) Host REIT's financial performance,
(iv) changes in the tax laws affecting REITs (particularly REITs that primarily
own hotels) and (v) general stock and bond market conditions. Although the
Limited Partners of a Participating Partnership will receive OP Units with a
deemed value equal to the Exchange Value of their Partnership Interests in the
Merger, there can be no assurance that the Common Shares would not trade at
prices below this deemed value after the REIT Conversion, thereby reducing the
value of such OP Units below that of the Exchange Value.
Effect on Common Share Price of Earnings and Cash Distributions. It is
generally believed that the market value of the equity securities of a REIT is
primarily based upon the market's perception of the REIT's growth potential for
its core portfolio, the value of its real estate portfolio and its prospects for
accretive acquisitions and development. The combination of these factors
creates a market perception of a REIT's current and potential future cash
distributions, whether from operations, sales, acquisitions, development or
refinancings, and is secondarily based upon the value of the underlying assets.
For that reason, Common Shares may trade at prices that are higher or lower than
the net asset value per Common Share or per OP Unit. To the extent Host REIT
retains operating cash flow for investment purposes, working capital reserves or
other purposes rather than distributing such cash flow to shareholders, these
retained funds, while increasing the value of Host REIT's underlying assets, may
not correspondingly increase the market price of the Common Shares. The failure
of Host REIT to meet the market's expectation with regard to future earnings and
cash distributions would likely adversely affect the market price of the Common
Shares.
Effect on Common Share Price of Market Interest Rates. One of the factors
that will influence the price of the Common Shares will be the dividend yield on
the Common Shares (as a percentage of the price of the Common Shares) relative
to market interest rates. Thus, an increase in market interest rates may lead
prospective purchasers of Common Shares to expect a higher dividend yield, which
would adversely affect the market price of the Common Shares.
Effect on Common Share Price of Unrelated Events. As with other publicly
traded equity securities, the value of the Common Shares will depend upon
various market conditions, including conditions unrelated to real estate
investments generally. Thus, events which depress equity market prices may not
have any effect on real estate market values, with the result that the Common
Shares may trade at prices below Host REIT's net asset value.
36
<PAGE>
Dependence on External Sources of Capital. As with other REITs, but unlike
corporations generally, Host REIT's ability to reduce its debt and finance its
growth largely must be funded by external sources of capital because Host REIT
generally will have to distribute to its shareholders 95% of its taxable income
in order to qualify as a REIT. Host REIT's access to external capital will
depend upon a number of factors, including the market's perception of Host
REIT's growth potential, its current and potential future earnings, cash
distributions and the market price of the Common Shares.
Risks of Ownership of the Notes
Priority of the Notes. The Notes, which are prepayable at any time, are
unsecured obligations of the Operating Partnership. Thus, the Notes will be
effectively subordinated to any secured debt of the Operating Partnership and to
all obligations of the Hotel Partnerships and all other subsidiaries of the
Operating Partnership. As of March 27, 1998, on a pro forma basis assuming the
Full Participation Scenario,the Operating Partnership and its subsidiaries would
have had aggregate consolidated debt to which the Notes would be effectively
subordinated or which rank equally with such Notes of approximately $4.6
billion.
Limited Protection for Noteholders in the Event of a Restructuring or
Similar Transaction. Other than (i) certain restrictions on the incurrence of
indebtedness, (ii) a financial covenant requiring the Operating Partnership to
maintain certain coverage ratios and (iii) the customary requirements that the
surviving entity in any business combination assume the obligations under the
Notes and the Indenture and be in full compliance with all of the provisions of
the Indenture, the Indenture does not contain any special provisions protecting
Noteholders in the event of a restructuring, reorganization or similar
transaction involving the Operating Partnership, which could increase the risk
that the Notes may not be paid in full at maturity. See "Description of the
Notes."
Risks of Operation
Risks of Lodging Industry. The profitability of the Hotels is subject to
general economic conditions, the management abilities of the Managers (including
primarily Marriott International), competition, the desirability of particular
locations and other factors relating to the operation of the Hotels. The full-
service segment of the lodging industry in which the Hotels primarily operate,
is highly competitive, and the Hotels generally operate in geographical markets
that contain numerous competitors. The Hotels' success will be dependent, in
large part, upon their ability to compete in such areas as access, location,
quality of accommodations, room rate structure, the quality and scope of food
and beverage facilities and other services and amenities. The lodging industry,
including the Hotels (and thus the Operating Partnership), may be adversely
affected in the future by (i) national and regional economic conditions, (ii)
changes in travel patterns, (iii) taxes and government regulations which
influence or determine wages, prices, interest rates, construction procedures
and costs, (iv) the availability of credit and (v) other factors beyond the
control of the Operating Partnership.
General Real Estate Investment Risks. Partners of the Operating
Partnership will continue to bear risks associated with real estate investments.
The yields available from equity investments in real estate and the Operating
Partnership's ability to service debt depend, in large part, on the amount of
rental revenues generated, expenses incurred and capital expenditures required
in the operation of its business. The Operating Partnership's income and
ability to make distributions to its partners will be dependent upon the rent
payable by the Lessees exceeding the amounts required for debt service, property
taxes and other expenses payable by the Operating Partnership (including
required FF&E reserves and capital expenditures). The rental payments payable
by the Lessees will be affected in part by the sales generated by the Managers
from operation of the Hotels and expenses incurred by the Managers in operating
the Hotels, which
37
<PAGE>
expenses are borne by the Lessees. The Lessees' ability to pay rent accrued
under the Leases will depend in significant part upon the ability of the
Managers to generate gross sales in excess of its requirements to meet operating
expenses. The Operating Partnership's rental income from the Hotels may,
therefore, directly or indirectly, be adversely affected by a number of factors,
including the general economic climate, local real estate conditions, such as an
oversupply of, or a reduction in demand for, hotel space, the attractiveness of
the Hotels to consumers, the quality, philosophy and performance of management,
the ability of the Lessees to maximize rental payments to Host REIT, the ability
of the Manager to effectively operate the Hotels, competition from comparable
hotels, changes in room rates and increases in operating costs due to inflation
and other factors, which increases may not necessarily be passed through fully
to guests. In addition, the Operating Partnership rental income from the Hotels
and real estate values also are affected by such factors as the cost of
compliance with government regulation, including zoning and tax laws, the
potential for liability under applicable laws, interest rate levels and the
availability of financing. Certain significant expenditures associated with each
equity investment in a Hotel (such as mortgage payments, if any, real estate
taxes and maintenance costs) also may not decrease even though circumstances
cause a reduction in the Operating Partnership rental income from the Hotel. If
any of the above occurs, the Operating Partnership's ability to make expected
distributions to its partners, including Host REIT, could be adversely affected.
Rental Revenues from Hotels Subject to Prior Rights of Lenders. In
accordance with the mortgage loan agreements with respect to outstanding
indebtedness of the Hotel Partnerships, the rental revenues received by the
Operating Partnership under the Leases first will be used to satisfy the debt
service on such outstanding indebtedness and any cash flow remaining thereafter
will be available to satisfy all other obligations of the Hotel Partnership
(including paying property taxes and insurance and funding the required FF&E
reserves for the Hotels and capital improvements) and to make distributions to
the partners (including Host REIT).
Acquisition Risks. In the future, the Operating Partnership expects to
pursue acquisitions of additional full-service hotels and other types of real
estate. Acquisitions entail the risk that such investments will fail to perform
in accordance with expectations. The Operating Partnership anticipates that, in
certain circumstances, it may use OP Units as consideration to acquire hotels
from tax-sensitive sellers and, in connection with such acquisitions, it may
agree to certain restrictions on the Operating Partnership's ability to sell, or
reduce the amount of mortgage indebtedness on, such acquired hotels, which may
increase the Operating Partnership's leverage and which may impair the Operating
Partnership's ability to take actions that would otherwise be in the best
interests of its limited partners.
Seasonality. The hotel industry is seasonal in nature. The seasonality of
the industry may, from time to time, affect the ability of the Lessees to make
timely rent payments under the Leases. An inability of the Lessees to make
timely rent payments to the Operating Partnership could adversely affect the
ability of the Operating Partnership to make distributions to partners
(including Host REIT).
Illiquidity of Real Estate. Real estate investments are relatively
illiquid and, therefore, will tend to limit the ability of the Operating
Partnership to sell and purchase hotels promptly in response to changes in
economic or other conditions. This could make it difficult for the Operating
Partnership to sell any of its Hotels, even if a sale were in the interest of
limited partners.
Limitations on Sale or Refinancing of Certain Hotels. For reasons relating
to federal income tax considerations, the agreements by which the Operating
Partnership will acquire or lease to the Lessees certain Hotels will also
restrict the ability of the Operating Partnership to dispose of or refinance the
debt secured by such Hotels for a period of three and a half to eleven and a
half years from the Closing Date, depending on the Hotel. In particular, if
Atlanta Marquis participates in the Mergers, the Operating Partnership will
succeed to an existing agreement that will impose such restrictions on the
Operating Partnership with regard to the Hotel owned by Atlanta Marquis for a
period of eleven and a half years from the Closing Date. Similarly, upon
acquiring the Blackstone Hotels, the Operating Partnership will agree not to
dispose of the Blackstone Hotels or refinance their indebtedness for ten years
(although the Operating Partnership may dispose of up to 50% of the value of the
assets contributed to the Operating Partnership by the Blackstone Entities after
five years). Thus, even if it were in the
38
<PAGE>
best interests of the Operating Partnership and its limited partners to sell or
refinance the debt secured by any of these Hotels, it may be difficult or
impossible for the Operating Partnership to do so during their respective lock-
out periods.
Hotels Subject to Ground Leases May Affect the Operating Partnership's
Revenues. Of the approximately 120 Hotels in which the Operating Partnership
will initially hold an interest, 41 are subject to ground leases. Such ground
leases generally require increases in ground rent payments every five years. To
the extent that the rents payable under the Leases do not increase at the same
rate as the increases under the ground leases, it could affect the Operating
Partnership's cash available for distribution and its ability to make
distributions to partners (including Host REIT). In addition, any sale of a
Hotel encumbered by a ground lease would be made subject to such ground lease
and the value realized by the Operating Partnership in such sale might not be as
high if such Hotel were not sold subject to such ground lease or were sold
subject thereto.
Dependence of the Operating Partnership Upon SLC. SLC and its subsidiaries
will be the Lessees of substantially all of the Hotels, and their rent payments
will be the primary source of the Operating Partnership's revenues. SLC's
financial condition and ability to meet its obligations under the Leases will
determine the Operating Partnership's ability to make distributions to its
partners. As of March 27, 1998, on a pro forma basis, after giving effect to the
REIT Conversion, SLC would have had approximately $_________ of indebtedness,
not including guarantees of obligations of SLC's subsidiaries under the Leases
and SLC can incur additional indebtedness in the future. There can be no
assurance that SLC will have sufficient assets, income and access to financing
to enable it to satisfy its obligations under the Leases. In addition, the
credit rating of the Operating Partnership and Host REIT will be affected by the
general creditworthiness of SLC.
Federal Income Tax Risks
Tax Consequences of the Mergers. The Operating Partnership has received an
opinion of Hogan & Hartson L.L.P., counsel to Host, Host REIT and the Operating
Partnership, based upon certain assumptions and representations of the General
Partners, the Operating Partnership, Host and Host REIT, to the effect that,
except for any gain attributable to the sale of personal property by a
Partnership to a Non-Controlled Subsidiary, the Mergers will not result in the
recognition of taxable income or gain by a Limited Partner at the time of the
Mergers (i) who does not exercise his Unit Redemption Right on a date sooner
than the date two years after the date of the consummation of the Mergers; (ii)
who does not receive a cash distribution (or deemed cash distribution resulting
from relief from liabilities, including as a result of the prepayment of
indebtedness associated with the Limited Partner's Partnership) in excess of
such Limited Partner's aggregate adjusted tax basis in his Partnership Interest
at the time of the Mergers; (iii) who does not elect to receive a Note in
connection with the Mergers; (iv) who is not is required to recognize gain by
reason of the election by another Limited Partner in his Partnership to receive
a Note in exchange for his OP Units in connection with the Mergers (which in
counsel's opinion, described below, should not be the result of such election);
and (v) whose "at risk" amount does not fall below zero as a result of the
Mergers or the REIT Conversion. The General Partners and the Operating
Partnership do not believe, with regard to a Limited Partner who acquired his
Partnership Interest in the original offering of such Partnership Interests and
has held that Interest at all times since the offering, that the Mergers will
result in such Limited Partner (a) receiving a distribution (or deemed
distribution) of cash in excess of such Limited Partner's adjusted tax basis in
his Partnership Interest or (b) having his "at risk" amount fall below zero. The
adjusted tax basis of a Limited Partner who did not acquire his Partnership
Interest in the original offering of such Partnership Interest, however, could
vary materially from the adjusted tax basis of a Limited Partner who did.
Therefore, depending on the adjusted tax basis of such a Limited Partner in his
Partnership Interest, the Mergers could (although it is unlikely) result in
the receipt by such Limited Partner of a cash distribution (or deemed cash
distribution) in excess of such Limited
39
<PAGE>
Partner's adjusted tax basis in his Partnership Interest, and accordingly, could
result in the recognition of taxable income or gain by such Limited Partner.
Hogan & Hartson L.L.P. is of the opinion that, although the matter is not
free from doubt, a Limited Partner who does not elect to receive a Note in
connection with the Mergers should not be required to recognize gain by reason
of another Limited Partner's election to receive a Note. With respect to a
Limited Partner's exercise of his Unit Redemption Right, Hogan & Hartson L.L.P.
is of the opinion that it is more likely than not that a Limited Partner's
exercise of his Unit Redemption Right more than one year after the date of
consummation of the Mergers but less than two years after such date will not
cause the Merger itself to be a taxable transaction for the Limited Partner (or
for the other Limited Partners of such Partnership). Opinions of counsel,
however, do not bind the IRS or the courts, and no assurance can be provided
that such opinions will not be challenged by the IRS or will be sustained by a
court if so challenged.
The particular tax consequences of the Mergers and the REIT Conversion for
a Limited Partner will depend upon a number of factors related to the tax
situation of that individual Limited Partner and the Partnership of which he is
a Limited Partner, including such factors as the Limited Partner's aggregate
adjusted tax basis in his Partnership Interest, the extent to which the Limited
Partner has other investments that have generated passive activity losses that
could offset income arising from the Mergers and the REIT Conversion, the amount
of income (if any) required to be recognized by reason of the sale by the
Limited Partner's Partnership of personal property to a Non-Controlled
Subsidiary in connection with the REIT Conversion, the allocation of Operating
Partnership liabilities to the Limited Partner following the Mergers and the
REIT Conversion and the amount of built-in gain with respect to the Hotels owned
by the Partnership of which he is a Limited Partner. See "Federal Income Tax
Considerations -- Summary of Tax Opinions." The Operating Partnership has
consulted with its advisors in connection with structuring the Mergers and the
REIT Conversion, but, with one exception, has not sought a ruling from the IRS
as to the tax consequences of the Mergers and the REIT Conversion. See "Federal
Income Tax Considerations --Tax Consequences of the Mergers -- IRS Ruling
Request Regarding Allocation of Partnership Liabilities." Each Limited Partner
is urged to consult with his own tax advisor before determining whether to
approve of and participate in the Mergers in order to determine the anticipated
tax consequences of the Mergers for such Limited Partner.
There is a significant possibility that the Operating Partnership will be
considered to be a "publicly traded partnership." The opinion of Hogan & Hartson
L.L.P. regarding the tax status of the Operating Partnership will be based
on the Operating Partnership's expectation that it will have sufficient
"qualifying income," so that even if it were considered to be a publicly traded
partnership, it would qualify as a partnership for federal income tax purposes.
See "Federal Income Tax Considerations -- Tax Status of the Operating
Partnership." In this regard, the Partnership Agreement will prohibit any person
(other than Host REIT and The Blackstone Group) from holding in excess of 4.9%
by value of the interests in the Operating Partnership. If the Operating
Partnership were a publicly traded partnership that qualifies as a partnership
for federal income tax purposes because of the "qualifying income" exception,
however, a Limited Partner could be subject to certain special rules applicable
to publicly traded partnerships. In particular, a Limited Partner would be
unable to use passive activity losses from other passive activities to offset
his allocable share of Operating Partnership gain and income, and any Operating
Partnership losses allocable to a Limited Partner could be used only as an
offset against such Limited Partner's allocable share of future Operating
Partnership income and gain and not against income and gain from other passive
activities.
Effects of Subsequent Events upon Recognition of Gain. In addition to any
gain that might be recognized by the Limited Partners at the time of the
Mergers, there are a variety of subsequent events and transactions (including
(i) the sale or other taxable disposition of one or more of the Hotels owned by
the Partnerships, (ii) the refinancing or repayment of certain liabilities
40
<PAGE>
secured by one or more of the Hotels owned by the Partnerships, (iii) the
issuance of additional OP Units, including in connection with the issuance of
Common Shares or other equity interests by Host REIT and the acquisition of
additional properties in exchange for OP Units or other equity interests in the
Operating Partnership, (iv) an increase to the basis of the Hotels owned by the
Partnerships resulting from capital expenditures, and (v) the elimination over
time of the disparity between the current tax basis of the Hotels owned by the
Partnerships and the "book basis" of such Hotels (based upon their fair market
value at the time of the Mergers) that could cause a Limited Partner who holds
OP Units to recognize part or all of the taxable gain that otherwise has been
deferred pursuant to the Mergers.
Certain Hotels (including the Blackstone Hotels) will be covered by
agreements that will restrict the ability of the Operating Partnership to
dispose of such Hotels or refinance the debt secured by them. In addition, if
Atlanta Marquis participates in the Mergers, the Operating Partnership will
succeed to an existing agreement that will restrict its ability to dispose of
the Hotel owned by Atlanta Marquis or to refinance the debt secured by such
Hotel. See "--Limitations on Sale or Refinancing of Certain Hotels" above. The
Partnership Agreement does not impose any restrictions on the Operating
Partnership's ability to dispose of the Hotels owned by the Partnerships,
however, or to refinance or repay debt secured by the Hotels owned by the
Partnerships (or to direct that a Partnership engage in such a transaction) (but
the Operating Partnership is obligated to pay any taxes Host REIT incurs as a
result of such transactions). In addition, Host REIT, as general partner of the
Operating Partnership, is expressly not required to take into account the tax
consequences to the other holders of OP Units in deciding whether to cause the
Operating Partnership to undertake specific transactions, and the other holders
of OP Units generally have no right to approve or disapprove such transactions.
See "Description of OP Units -- Sales of Assets" and "-- Borrowing by the
Operating Partnership."
Sale of Personal Property May Result in Gain to Certain Partnerships. In
order to facilitate the participation of Atlanta Marquis, Hanover, MHP and PHLP
in the Mergers without adversely affecting Host REIT's qualification as a REIT,
the Operating Partnership will require, as part of the Mergers, that such
Partnerships sell a portion of the personal property associated with the Hotels
owned by such Partnerships to a Non-Controlled Subsidiary. These sales will be
taxable transactions and, with the exception of the sale by Hanover, may result
in an allocation of a relatively modest amount of ordinary recapture income by
each Partnership to its Limited Partners. This income will be allocated to each
Limited Partner in the same proportion and to the same extent that such Limited
Partner was allocated any deductions directly or indirectly giving rise to the
treatment of such gains as recapture income. A Limited Partner who receives such
an allocation of recapture income would not be entitled to any special
distribution from his Partnership in connection with the sale of personal
property.
Election to Receive Notes. A Limited Partner who elects to receive a Note
in connection with the Mergers in exchange for his OP Units will be treated as
having made a taxable disposition of his Partnership Interest. The amount
realized in connection with such disposition will equal the sum of the "issue
price" of the Note (i.e., the principal amount of the Note) plus the portion of
the Partnership's liabilities allocable to the Limited Partner for federal
income tax purposes. To the extent the amount realized exceeds the Limited
Partner's adjusted tax basis in his Partnership Interest, the Limited Partner
will recognize gain. A Limited Partner may be eligible to defer at least a
portion of that gain under the "installment sale" rules. (see "Federal Income
Tax Considerations -- Tax Treatment of Limited Partners Who Exercise Their Right
to Make the Note Election") but those rules will not permit a Limited Partner to
defer all of the gain recognized (for example, gain attributable to his
"negative capital account" and income attributable to ("Section 1245 and Section
1250 depreciation recapture") and may require that a Limited Partner who defers
gain pay to the IRS interest on a portion of the resulting tax that has been
deferred. A Limited Partner with a "negative capital account" with respect to
his Partnership Interest who elects to receive a Note will recognize "phantom
income" in that amount at the time of the Mergers in any event.
Exercise of Unit Redemption Right. The receipt of either cash or Common
Shares, as determined by Host REIT, by a Limited Partner in connection with the
exercise of such Limited Partner's Unit Redemption Right will be a taxable
transaction and likely will result in the recognition by the Limited Partner of
substantial gain for federal income tax purposes. The amount realized in
connection with a Limited Partner's exercise of his Unit Redemption Right will
equal the sum of either the amount of cash or the value of the Common Shares
received plus the portion of the
41
<PAGE>
Operating Partnership's liabilities allocable to the OP Units redeemed for
federal income tax purposes. To the extent the amount realized exceeds the
Limited Partner's adjusted basis in the redeemed OP Units, the Limited Partner
will recognize gain. See "Federal Income Tax Consequences -- Tax Treatment of
Limited Partners Who Hold OP Units Following the Mergers -- Dissolution
of the Operating Partnership" and " -- Tax Treatment of Exercise of Unit
Redemption Right." State and local income and transfer taxes may apply to such a
redemption as well.
Failure of Host REIT to Qualify as a REIT.
General. Host REIT intends to operate so as to qualify as a REIT under the
Code effective for Host REIT's first taxable year commencing following the REIT
Conversion. A REIT generally is not taxed at the corporate level on income it
currently distributes to its shareholders as long as it distributes currently at
least 95% of its taxable income (excluding net capital gain). No assurance can
be provided, however, that Host REIT will so qualify or be able to remain so
qualified or that new legislation, Treasury Regulations, administrative
interpretations or court decisions will not significantly change the tax laws
with respect to Host REIT's qualification as a REIT or the federal income tax
consequences of such qualification. In this regard, Host REIT expects to
receive an opinion of Hogan & Hartson L.L.P. in connection with the REIT
Conversion to the effect that Host REIT, effective for its first taxable year
commencing following the REIT Conversion, will be organized in conformity with
the requirements for qualification as a REIT under the Code, and that Host
REIT's proposed method of operation will enable it to satisfy the requirements
for qualification and taxation as a REIT. This opinion will be conditioned upon
certain representations made by Host REIT and the Operating Partnership as to
factual matters relating to the organization and operation of Host REIT, the
Operating Partnership, the Hotel Partnerships, the Subsidiary Partnerships, the
Non-Controlled Subsidiaries, and SLC and the Lessees. In addition, this opinion
will be based upon the factual representations of Host REIT concerning its
business and properties as set forth in this Consent Solicitation and will
assume that the actions described in this Consent Solicitation are completed in
a timely fashion. An opinion of counsel, however, does not bind the IRS or the
courts, and no assurance can be provided that such opinion will not be
challenged by the IRS or will be sustained by a court if so challenged.
"C" Corporation Earnings and Profits. In order to qualify as a REIT, Host
REIT cannot have at the end of any taxable year any undistributed "earnings and
profits" that are attributable to a "C corporation" taxable year. A REIT has
until the close of its first taxable year in which it has non-REIT earnings and
profits to distribute such accumulated earnings and profits. In connection with
the REIT Conversion, Host intends to make a distribution to its existing
shareholders of cash and that portion of the SLC stock that will not be
transferred to the Blackstone Entities. The aggregate amount of such
distribution is currently expected to be in the range of $400-$550 million and
is intended to eliminate a substantial portion, if not all, of Host's
undistributed earnings and profits. To the extent, however, that Host has any
such undistributed earnings and profits at the time of the REIT Conversion
(including earnings and profits resulting from either transactions undertaken in
contemplation of the REIT Conversion or the REIT Conversion itself), such
earnings and profits (the "Acquired Earnings") will carry over to Host REIT and
will be treated as accumulated earnings and profits of a REIT attributable to
non-REIT years. Host REIT will be required to distribute these earnings and
profits prior to the end of 1999 (the first taxable year for which the REIT
election of Host REIT is expected to be effective). Failure to do so would
result in disqualification of Host REIT as a REIT for taxable year 1999. If Host
REIT should be so disqualified for taxable year 1999, subject to the
satisfaction by Host REIT of certain "deficiency dividend" procedures described
below in "Federal Income Tax Considerations -- Federal Income Taxation of Host
REIT Following the Mergers -- Annual Distribution Requirements Applicable to
REITs" and assuming that Host REIT otherwise satisfies the requirements for
qualification as a REIT, Host REIT should qualify as a REIT for taxable year
2000 and thereafter. Host REIT believes that, prior to December 31, 1999, the
distributions made in connection with the REIT Conversion, together with any
distributions of Acquired Earnings made after the REIT Conversion but prior to
December 31, 1999, will be sufficient
42
<PAGE>
to distribute all of the Acquired Earnings, but, as described below, there are
substantial uncertainties relating to the estimate of the Acquired Earnings.
The estimated amount of the Acquired Earnings will be based on the
consolidated earnings and profits of Host (including each of its predecessors)
accumulated from 1929, the first year that the predecessor of Host was a C
corporation, through and including Host's 1998 taxable year, determined based on
the available tax returns and certain assumptions with respect to both such
returns and other matters. The calculation of the Acquired Earnings, however,
depends upon a number of factual and legal interpretations related to the
activities and operations of Host and its corporate affiliates during its entire
corporate existence and is subject to review and challenge by the IRS. There can
be no assurance that the IRS will not examine the tax returns of Host and its
affiliates for all years prior to and including the REIT Conversion and propose
adjustments to increase their taxable income. The impact of such proposed
adjustments, if any, may be material. If the IRS were to examine Host's
calculation of its earnings and profits (and thus the amount of Acquired
Earnings, if any), the IRS can consider all taxable years of Host, its
affiliates and its predecessors as open for review for purposes of such
determination.
Treatment of Leases. Among the additional requirements for REIT
qualification are that (i) at least 75% of Host REIT's gross income (excluding
gross income from "prohibited transactions") for each taxable year must be
derived directly or indirectly from investments relating to real property or
mortgages on real property (including "rents from real property") or from
certain types of temporary investments; and (ii) at least 95% of such income
must be derived from such real property investments, plus dividends, interest,
certain hedging instruments, and gain from the sale or disposition of stock or
securities, including certain hedging instruments. See "Federal Income Tax
Considerations -- Federal Income Taxation of Host REIT Following the REIT
Conversion -- Income Tests Applicable to REITs." Rent paid pursuant to the
Leases will constitute substantially all of the gross income of Host REIT. In
order for the rent paid pursuant to the Leases to constitute "rents from real
property," (a) the Leases must be respected as true leases for federal income
tax purposes and not be treated as service contracts, joint ventures or some
other type of arrangement; and (b) the Lessees must not be regarded as "related
party tenants" (as defined in the Code). If the Leases are not respected as
true leases for federal income tax purposes, part or all of the payments that
the Operating Partnership receives from the Lessees will not constitute "rents
from real property." The Leases have been structured with the intent that they
qualify as true leases for federal income tax purposes. In this regard, Host
REIT expects that Hogan & Hartson L.L.P. will provide to Host REIT at the
Closing Date of the REIT Conversion an opinion to the effect that, based upon
certain representations of Host REIT regarding the Leases and the expectations
of Host REIT and the Lessees with respect thereto, the Leases will be respected
as leases for federal income tax purposes. An opinion of counsel, however, does
not bind the IRS or the courts. Moreover, Limited Partners should be aware that
there are no controlling Treasury Regulations, published IRS rulings, or
judicial decisions involving leases with terms substantially the same as the
Leases that discuss whether such leases constitute true leases for federal
income tax purposes. Therefore, there can be no assurance that the IRS might not
assert that the Leases should not be respected as true leases for federal income
tax purposes. If the Lessees are regarded as "related party tenants," the
payments that the Operating Partnership receives from the Lessees also would not
qualify as "rents from real property" and Host REIT likely would not satisfy the
gross income tests applicable to REITs. In order to preclude the Lessees from
being regarded as "related party tenants," (i) the Articles of Incorporation of
SLC will expressly prohibit any person, including Host REIT (and/or any 10% or
greater shareholder of Host REIT), from owning more than 9.8% of the value of
SLC; (ii) the Declaration of Trust of Host REIT will expressly prohibit any
person or entity from owning, directly
43
<PAGE>
or by attribution more than 9.8% of Host REIT's Common Shares or any other class
or series of shares of Host REIT; and (iii) the Partnership Agreement of the
Operating Partnership will expressly prohibit any person or entity (other than
Host REIT and The Blackstone Group) from owning more than 4.9% of any class of
interests in the Operating Partnership. Each of these prohibitions will contain
self-executing mechanisms intended to enforce these prohibitions. Assuming that
these prohibitions are enforced at all times, the Lessees will not be regarded
as "related party tenants." If the Leases were not respected as true leases for
federal income purposes or if the Lessees were regarded as "related party
tenants," Host REIT would not be able to satisfy either the 75% or 95% gross
income tests and, as a result, would lose its REIT status. See "Federal Income
Tax Considerations -- Federal Income Taxation of Host REIT Following the
Mergers -- Income Tests Applicable to REITs."
Consequences of Failure to Qualify as a REIT. If Host REIT fails to
qualify as a REIT, it will be subject to federal income tax (including any
applicable alternative minimum tax) on its taxable income at regular corporate
rates. In addition, unless entitled to relief under certain statutory
provisions, Host REIT will be disqualified from treatment as a REIT for the four
taxable years following the year during which REIT qualification is lost. The
additional tax would significantly reduce the cash available for distributions
by Host REIT to its shareholders. Failure of Host REIT to qualify as a REIT
would reduce materially the value of the Common Shares and OP Units. See
"Federal Income Tax Considerations -- Federal Income Taxation of Host REIT
Following the Mergers -- Failure of Host REIT to Qualify as a REIT."
Other Tax Liabilities. Even if Host REIT qualifies as a REIT, it will be
subject, through the Operating Partnership and the Hotel Partnerships, to
certain federal, state and local taxes on its income and property. See "Federal
Income Tax Considerations -- General." For example, Host REIT will be subject to
tax at the regular corporate rate (currently 35%) upon its share of any gain
recognized as a result of any sale by the Operating Partnership or the Hotel
Partnerships (within the 10-year period beginning on the Closing Date of the
Mergers) of assets, including the Hotels, in which interests were acquired by
the Operating Partnership from Host and its subsidiaries as part of the Mergers
and the REIT Conversion to the extent that such gain existed at the time of the
REIT Conversion. (The Operating Partnership is obligated to pay all such taxes
under the Partnership Agreement.) The Non-Controlled Subsidiaries will be
taxable "C" corporations and will pay federal and state income tax on their net
income at the full applicable corporate rates. Holders of OP Units will be
subject to state and local taxation in the jurisdictions in which the Operating
Partnership directly or indirectly holds real property and such holders will be
required to file periodic tax returns in at least some of those jurisdictions.
The Operating Partnership initially expects to own Hotels located in
approximately 28 different states and the District of Columbia.
Failure of the Operating Partnership to Qualify as a Partnership. The
Operating Partnership and Host REIT have received an opinion of Hogan & Hartson
L.L.P. to the effect that the Operating Partnership will be treated as a
partnership for federal income tax purposes. An opinion of counsel, however,
does not bind the IRS or the courts, and no assurance can be provided that such
opinion will not be challenged by the IRS or will be sustained by a court if so
challenged. If the IRS were to treat successfully the Operating Partnership as
an entity that is taxable as a corporation, Host REIT would cease to qualify as
a REIT because the value of Host REIT's ownership interest in the Operating
Partnership would exceed 5% of Host REIT's assets and because Host REIT would be
considered to hold more than 10% of the voting securities of another
corporation. See "Federal Income Tax Considerations -- Federal Income Taxation
of Host REIT Following the REIT Conversion -- Asset Tests Applicable to REITs."
Moreover, the imposition of a corporate tax on the Operating Partnership would
reduce significantly the amount of cash available for distribution to its
limited partners. See "Federal Income Tax Considerations -- Tax Status of the
Operating Partnership" and "-- Tax Aspects of Host REIT's Ownership of OP
Units."
44
<PAGE>
Miscellaneous Risks
Dependence upon Key Personnel. The Operating Partnership is dependent upon
the efforts of the executive officers of Host REIT. While the Operating
Partnership believes that it could find replacements for these key personnel,
the loss of their services could have a significant adverse effect on the
operations of the Operating Partnership. The Operating Partnership does not
intend to obtain key-man life insurance with respect to any of the executive
officers of Host REIT.
Potential Litigation Related to the REIT Conversion. Over the last several
years, business reorganizations involving the combination of several
partnerships into a single entity occasionally have given rise to investor
lawsuits. These lawsuits have involved claims against the general partners of
the participating partnerships, the partnerships themselves and related persons
involved in the structuring of, or benefiting from, the conversion or
reorganization, as well as claims against the surviving entity and its trustees
and officers. For example, limited partners of five of the six limited
partnerships controlled by Host that own limited service and extended-stay
hotels have filed a lawsuit against Host and the general partners (which are
subsidiaries of Host) of such limited partnerships alleging, among other things,
breaches of their fiduciary duties in connection with a potential consolidation
transaction. Certain other lawsuits are pending against Host and its affiliates
by limited partners in certain Partnerships (Atlanta Marquis, MHP and MHP2). If
any lawsuits are filed in connection with any Merger or other part of the REIT
Conversion, such lawsuits could delay the closing of such Merger or the REIT
Conversion or result in substantial damage claims against the Operating
Partnership, Host REIT or the General Partners of the Partnerships. The
Partnerships are each obligated to indemnify their General Partner for claims
against them arising from their role as general partner other than to the extent
they are guilty of negligence, fraud, misconduct or breach of fiduciary duty.
Because the Operating Partnership will be acquiring the Participating Hotel
Partnerships through the Mergers, Host REIT and the Operating Partnership
indirectly will be subject to the indemnification obligations of the Hotel
Partnerships to their general partners and any obligations of the Hotel
Partnerships to pay damages to the extent not covered by any available
insurance. See "Business and Properties -- Legal Proceedings." In the event any
pending lawsuits or any new lawsuits filed against any of the Partnerships or
the General Partners in connection with the REIT Conversion or the Mergers are
not resolved by final court action or settled before the Closing Date, the
Exchange Values of such Partnerships will be adjusted to account for a
litigation reserve and other contingent liabilities.
Lack of Control Over Non-Controlled Subsidiaries. The Non-Controlled
Subsidiaries will hold various assets, consisting primarily of interests in
hotels which are not leased and certain international hotels, the control of
which by the Operating Partnership would jeopardize Host REIT's status as a
REIT. Although the Operating Partnership will own 95% of the total economic
interests of the Non-Controlled Subsidiaries, one or more affiliates of Host
will own all of the voting common stock of the Non-Controlled Subsidiaries
(which will represent the remaining 5% of the total economic interest thereof).
As a result, the Operating Partnership will have no control over the operation
or management of the hotels or other assets owned by the Non-Controlled
Subsidiaries even though it will depend upon the Non-Controlled Subsidiaries for
a significant portion of its revenues.
Changes in Laws. Increases in real estate or business improvement district
taxes will not result in increased rental payments to the Operating Partnership
under the Leases, with the result that they may adversely affect the Operating
Partnership's cash flow from operations and its ability to maintain the expected
level of distributions to partners, including Host REIT. Similarly, changes in
laws increasing the potential liability for environmental conditions existing at
Hotels or increasing the restrictions on discharges or other conditions, as well
as changes in laws affecting construction and safety requirements, may result in
significant unanticipated capital expenditures, which, to the extent such
expenditures must be borne by the Operating Partnership as the lessor of the
Hotels, would adversely affect the Operating Partnership's cash flow from
operations and its ability to make distributions to limited partners.
45
<PAGE>
Uninsured Loss. The Operating Partnership will carry comprehensive
liability, fire, flood, extended coverage and rental loss (for rental losses
extending up to 12 months) with respect to its Hotels with policy specification
and insured limits customarily carried for similar hotels. Certain types of
losses (such as from earthquakes and environmental hazards), however, may be
either uninsurable or not economically insurable. Should an uninsured loss
occur, the Operating Partnership could lose both its capital invested in, and
anticipated profits from, one or more of its Hotels.
Americans with Disabilities Act. The Hotels must comply with Title III of
the Americans with Disabilities Act (the "ADA") to the extent that such Hotels
are "public accommodations" or "commercial facilities" as defined by the ADA.
The ADA may require removal of structural barriers to access by persons with
disabilities in certain public areas of the Operating Partnership's Hotels where
such removal is readily achievable. The Operating Partnership believes that the
Hotels will not be required to make substantial non-budgeted capital
expenditures to address the requirements of the ADA. However, noncompliance
with the ADA could result in substantial capital expenditures to remove
structural barriers, as well as the imposition of fines or an award of damages
to private litigants which might adversely affect the Operating Partnership's
ability to make expected distributions to limited partners and shareholders.
Under the Leases, the Operating Partnership would be required to fund all such
expenditures.
Other Regulatory Risks. The Operating Partnership's Hotels will be subject
to various forms of regulation in addition to the ADA, including building codes,
regulations pertaining to fire safety and handicapped access, and other
regulations which may from time to time be enacted. The Operating Partnership
may be required to incur significant costs to comply with any future changes in
such regulations.
Possible Environmental Liabilities. Under various federal, state and local
laws, ordinances and regulations, owners or operators of real estate may be
required to investigate and clean up certain hazardous substances released at a
property, and may be held liable to a governmental entity or to third parties
for property damage or personal injuries and for investigation and clean-up
costs incurred by the parties in connection with any contamination. In
addition, some environmental laws create a lien on a contaminated site in favor
of the government for damages and costs it incurs in connection with the
contamination. The presence of contamination or the failure to remediate
contamination may adversely affect the owner's ability to sell or lease real
estate or to borrow using the real estate as collateral. No assurances can be
given that (i) a prior owner, operator or occupant, such as a tenant, did not
create a material environmental condition not known to the Operating
Partnership, (ii) a material environmental condition with respect to any Hotel
does not exist, or (iii) future uses or conditions (including, without
limitation, changes in applicable environmental laws and regulations) will not
result in the imposition of environmental liability.
No assurances can be given, that all potential environmental liabilities
have been identified or properly quantified or that no prior owner, operator, or
past or current guest or occupant has created an environmental condition not
known to the Operating Partnership. Moreover, no assurances can be given that
(i) future laws, ordinances, or regulations will not impose any material
environmental liability or (ii) the current environmental condition of the
Hotels will not be affected by the condition of land or operations in the
vicinity of the Hotels (such as the presence of underground storage tanks), or
by third parties unrelated to the Operating Partnership.
46
<PAGE>
CONFLICTS OF INTEREST
The Mergers and REIT Conversion were initiated by Host and are being
proposed by Host, the Operating Partnership and the General Partners, which are
Host or its subsidiaries. The terms and conditions of the Mergers and REIT
Conversion and the structure of the Operating Partnership also were formulated
by Host, the General Partners and the Operating Partnership. See "Background and
Reasons for the Mergers and the REIT Conversion -- Background of the Mergers and
the REIT Conversion."
As discussed below, the establishment of the terms of the Mergers and REIT
Conversion, the recommendation by the General Partners with respect to the
Mergers and the operation of the Operating Partnership involve conflicts of
interest. In resolving any conflicts of interest, each of the General Partners
must act in accordance with its fiduciary duties to the Limited Partners of its
Partnership. The trustees of Host REIT, which will be the sole general partner
of the Operating Partnership, also must act in accordance with their fiduciary
duties to the shareholders of Host REIT and, to a certain extent, the limited
partners of the Operating Partnership as limited by the Partnership Agreement.
See "Comparison of Ownership of Partnership Interests, OP Units and Common
Shares -- Fiduciary Duties" for a general description of these duties.
Substantial Benefits to Related Parties
The Mergers will facilitate consummation and enable Host to reap the full
benefits of the REIT Conversion and will result in an increase in Funds From
Operations per Common Share on a pro forma basis. By converting to a REIT, Host
expects to benefit from the advantages enjoyed by REITs in raising capital and
acquiring additional assets, participating in a larger group of comparable
companies and increasing its potential base of shareholders. Also, Host will
realize significant savings through the substantial reduction of its future
corporate-level income taxes (although if one or more Partnerships do not
participate in the Mergers, Host may be required to transfer its interests in
such Partnerships to Non-Controlled Subsidiaries, in which case Host's share of
those Partnerships' earnings would continue to be subject to corporate-level
income tax). To the extent that the anticipated effects of these benefits
initially are reflected in the value of Host's common stock prior to the Closing
Date, the Limited Partners initially will not enjoy the full effect of such
benefits on the value of their investment. In addition, following the REIT
Conversion, current Host shareholders (together with the Blackstone Entities)
will own the common stock of SLC and will benefit in the profits from the
Valuation of SLC operation of the Hotels in excess of the rental payments under
the Leases.
Valuation of SLC
The value of the SLC common stock distributed to Host's shareholders and
the Blackstone Entities will be one factor used in determining the value of an
OP Unit. Although Host's Board of Directors will determine the value of the SLC
common stock in good faith and in reliance in part upon the opinion of an
independent financial advisor, conflicts of interest still exist. If the SLC
common stock is undervalued by Host's Board of Directors, the deemed value of an
OP Unit for purposes of the Mergers may be higher than the level at which the
Host REIT Common Shares will trade following the REIT Conversion. Unlike Host,
which will receive a fixed number of OP Units equal to the number of outstanding
shares of Host common stock on the Closing Date, Limited Partners of the
Participating Partnerships will receive a number of OP Units equal to the
Exchange Value of their respective Partnership Interests divided by the deemed
value of an OP Unit. Thus, to the extent that Host's Board of Directors
undervalues the SLC common stock distributed to Host's shareholders and the
Blackstone Entities, causing the deemed value of an OP Unit to be overvalued,
the Limited Partners could receive less than the full Exchange Value of their
Partnership Interests and Host REIT could receive an overall higher percentage
of the ownership of the Operating Partnership.
Affiliated General Partners
Host has varying interests in each of the Partnerships, and subsidiaries of
Host act as General Partner of each of the Partnerships (except for PHLP, of
which Host is the General Partner). Each General Partner has an independent
obligation to assess whether the terms of the Merger are fair and equitable to
the Limited Partners of its Partnership without regard to whether the other
Mergers are fair and equitable to Host or any of the other participants in the
other Partnerships. While each General Partner has sought faithfully to
discharge its obligations to its Partnership, there is an inherent conflict of
interest in having Host and its subsidiaries serving in similar capacities with
respect to all of the other Partnerships, while at the same time establishing
the overall terms of the Mergers and the REIT Conversion.
47
<PAGE>
Leasing Arrangements
Conflicts of interest exist in connection with the leasing arrangements
being entered into as part of the REIT Conversion. The General Partners, all of
which are subsidiaries of Host (except in the case of PHLP, of which Host is the
General Partner), are recommending the Merger, and Host is responsible for
establishing the terms of the Mergers and the REIT Conversion, including the
Leases. The common stock of SLC will be distributed to Host's shareholders and
the Blackstone Entities after the terms of the Leases have been determined.
Accordingly, Host's existing shareholders and the Blackstone Entities will
potentially benefit from the terms of the Leases in a manner that Limited
Partners will not.
Tax Consequences upon Sale or Refinancing of Hotels
Certain holders of OP Units may experience different and more adverse tax
consequences compared to those experienced by other holders of OP Units or by
holders of Common Shares upon the sale of, or the reduction of indebtedness
encumbering, any of the Hotels. Therefore, such holders, including Host REIT and
its subsidiaries, may have different objectives regarding the appropriate
pricing and timing of any sale or refinancing of an individual Hotel. As
expressly provided in the Partnership Agreement, Host REIT, as general partner
of the Operating Partnership, is not required to take into account the tax
consequences of the limited partners of the Operating Partnership in deciding
whether to cause the Operating Partnership to undertake specific transactions,
(but the Operating Partnership is obligated to pay any taxes Host REIT incurs as
a result of such transactions) and the limited partners have no right to approve
or disapprove such transactions.
Absence of Arm's Length Negotiations; No Independent Representative
No independent representative was retained to negotiate on behalf of the
Limited Partners. Although the General Partners have obtained the Appraisals and
the Fairness Opinion from AAA, AAA has not negotiated with the General Partners
or Host and has not participated in establishing the terms of the Mergers.
Consequently, the terms and conditions of the Mergers may have been more
favorable to the Limited Partners if such terms and conditions were the result
of arm's length negotiations. See "Fairness Analysis and Opinion." In this
regard, the Fairness Opinion specifically does not conclude that other
methodologies for determining the Exchange Values of the Partnerships and/or the
value of the OP Units might not have been more favorable to the Limited
Partners.
Relationship between AAA and Host
AAA has been retained by the General Partners (consisting of Host and its
subsidiaries) to determine the Appraised Values of the Hotels and the
Continuation Values of the Partnerships and to render the Fairness Opinion.
Host has previously retained AAA to perform appraisals and give fairness
opinions in connection with other transactions, and there is the possibility
that Host REIT and the Operating Partnership will retain AAA to perform similar
tasks in the future.
48
<PAGE>
Policies with Respect to Conflicts of Interest
The Operating Partnership has adopted certain policies and will enter into
agreements with Host REIT and its affiliates designed to minimize the adverse
effects from these potential conflicts of interest. See "Distribution and Other
Policies -- Conflicts of Interest Policies" and "Business and Properties --
Noncompetition Agreements." There can be no assurance, however, that the
policies and agreements always will be successful in eliminating the influence
of such conflicts, and if they are not successful, decisions could be made at
the Host REIT level that might fail to reflect fully the interests of the
limited partners of the Operating Partnership.
49
<PAGE>
BACKGROUND AND REASONS FOR THE MERGERS AND THE REIT CONVERSION
Background of the Partnerships
Formation of the Partnerships. From 1982 through 1990, Host sponsored
the eight Partnerships, which were formed to acquire, own and operate full-
service hotels operating under the Marriott brand name. Each Partnership is a
Delaware limited partnership, except Chicago Suites, which is a Rhode Island
limited partnership. The Partnerships raised capital from approximately 5,900
investors in eight offerings. The Partnerships, except Chicago Suites, Hanover
and MDAH, are "public" partnerships within the meaning of the applicable
Commission guidelines, and separate wholly owned subsidiaries of Host are the
sole general partners of each Partnership, (except for PHLP, for which Host
itself acts as general partner). The Hotels owned by the Partnerships are
managed by subsidiaries of Marriott International and its subsidiaries.
The table below sets forth the capital raised in the original
offerings, distributions made and number of Hotels owned by each of the
Partnerships as of March 27, 1998:
Historical Information Concerning the Partnerships
<TABLE>
<CAPTION>
Total Aggregate Distributions to Limited
Limited Partner Distributions to Limited Partners Per Partnership Unit No. of
Capital Partners through through Hotels
Partnership Raised March 27, 1998/(1)/ March 27, 1998/(1)//(2)/ Owned
----------- ---------- ----------------- -------------------- -----
(in thousands) (in thousands) (in dollars)
<S> <C> <C> <C> <C>
Atlanta Marquis $ 53,000 $ 18,604 $ 35,102 1/(3)/
Chicago Suites 11,642 2,819 8,415 1
Desert Springs 88,020 82,084 91,204 1
Hanover 8,269 622 7,405 1
MDAH 40,615 9,738 23,522 6
MHP 100,000 58,324 58,324 2/(4)/
MHP2 73,115 109,378 146,816 4/(5)/
PHLP 18,000 0 0 8
</TABLE>
- --------------------------
(1) Includes distributions to the General Partners or their affiliates as
holders of Partnership Units (but not distributions to them in their
capacities as general partner).
(2) A Partnership Unit in all of the Partnerships except Chicago Suites
($35,000) and PHLP ($10,000) represents an original investment of $100,000.
(3) Atlanta Marquis has an 80% residual interest in the Atlanta Marriott
Marquis and for 1998 is expected to receive substantially all of the
cash flow from the hotel.
(4) Includes Marriott's Harbor Beach Resort, of which MHP owns a 50.5%
interest.
(5) Includes the Santa Clara Marriott, of which MHP2 owns a 50% interest and
Host owns the remaining 50% interest.
The following paragraphs describe, on a partnership-by-partnership
basis, the original investment objectives of each Partnership and the extent to
which such objectives have been met.
50
<PAGE>
Atlanta Marquis. The offering of interests in Atlanta Marriott Marquis
Limited Partnership (the predecessor of Atlanta Marquis), which was completed in
1985, was intended to provide investors with an opportunity to benefit from
investment tax credits, tax losses, expected increasing cash flow from both the
lease and operation of the Atlanta Marquis' Hotel as well as potential capital
appreciation. Based upon a financial forecast that reflected the General
Partner's judgment, based upon facts and circumstances at the time, with respect
to the most likely set of conditions and the most likely course of action (and
subject to the various assumptions, risks, qualifications, limitations and
uncertainties described therein and in the related private placement
memorandum), it was estimated that tax losses through 1989 would be $76,226 per
Partnership Unit for an investor in the 50% tax bracket (including a $7,845 tax
credit in 1985), cash flow to the Class A Limited Partners was expected to begin
in 1986 and increase through 1994 to an annual level of 12.2% of a Class A
Limited Partner's original investment, and it was assumed for the purpose of the
forecast that investors would receive a return of all their investment from a
sale of the underlying land to the partnership owning the hotel and a
distribution from assumed excess refinancing proceeds in 1994. Thereafter, Class
A Limited Partners would continue to benefit from ownership of the Hotel. The
financial forecast did not assume a sale of Atlanta Marquis' Hotel. Through
March 27, 1998, Atlanta Marquis Class A Limited Partners have received
distributions from cash flow of $35,102, tax credits up to $7,500, allocations
of tax losses of approximatly $208,700 (which have been offset in part by
subsequent allocations of taxable income of approximately $4,600) and no return
of capital per Partnership Unit. Due to changes in the tax law occurring after
the date of the original offering (including particularly the changes enacted as
part of the Tax Reform Act of 1986), the tax losses allocated to the Atlanta
Marquis Limited Partners did not likely result in tax savings of the magnitude
originally forecast.
Chicago Suites. The offering, which was complete in 1989, was intended to
(i) preserve and protect Chicago Suites Limited Partners' capital, (ii) generate
cash distributions to the Chicago Suites Limited Partners that would be
sheltered in whole or in part from current federal income taxation and (iii)
realize expected increases in both annual cash distributions from operations and
potential long-term appreciation in the value of Chicago Suites' Hotel. Based
upon a financial forecast and facts and circumstances at the time (and subject
to the various assumptions, risks, qualifications, limitations and other
uncertainties described therein and in the related private placement
memorandum), it was estimated that cash flow to the Chicago Suites Limited
Partners would commence in 1989 and increase through 1994 to an annual level of
11% of a Limited Partner's original investment and that in 1994 investors would
receive a return of all capital invested through an assumed refinancing.
Thereafter, through 2003, it was estimated that Chicago Suites Limited Partners
would receive cash distributions at an annual level of approximately 4% of their
original investment. The financial forecast did not assume a sale of Chicago
Suites' Hotel. Through March 27, 1998, Chicago Suites Limited Partners have
received distributions from cash flow of $8,415 and no return of capital per
Partnership Unit.
Desert Springs. The offering, which was completed in 1987, was intended to
provide investors with an opportunity to benefit from substantial cash flow in
the early years of the Partnership from the rent to be received under an airline
equipment lease and from the Desert Springs' Hotel operating lease with expected
increasing cash flow and potential capital appreciation in later years from the
operation of Desert Springs' Hotel. Based upon a financial forecast and facts
and circumstances at the time (and subject to the various assumptions, risks,
qualifications, limitations and other uncertainties described therein and in the
related private placement memorandum), it was estimated that (i) cash
distributions on a tax-sheltered basis to the Desert Springs Limited Partners
would commence in 1987 at approximately 12.3% of a Limited Partner's original
investment and increase to approximately 14.4% of a Limited Partner's original
investment in 1991 and (ii) Desert Springs Limited Partners would receive
$50,000 per Partnership Unit on a tax-sheltered basis from assumed excess
refinancing proceeds in 1991. Thereafter, Desert Springs Limited Partners would
continue to benefit from ownership of Desert Springs' Hotel and the airline
equipment. The financial forecast did not assume a sale of Desert Springs'
Hotel. Desert Springs Limited Partners received a cash distribution in
connection with the sale of the airline equipment in 1996 of $19,851 per
Partnership Unit. Through March 27, 1998, Desert Springs Limited Partners have
received distributions from cash flow of $44,854 and a return of capital of
$25,000 per Partnership Unit.
51
<PAGE>
Hanover. The offering, which was completed in 1986, was intended to provide
investors with an opportunity to benefit from expected increasing cash flow from
the operation of Hanover's Hotel as well as potential capital appreciation and
tax benefits. Based upon a financial forecast (which assumed, among other
things, rent payable under the operating lease would be sufficient to provide an
annual 10% priority return to the Partnership) and facts and circumstances at
the time (and subject to the various assumptions, risks, qualifications,
limitations and other uncertainties described therein and in the related private
placement memorandum), it was estimated that (i) cash distributions on a tax-
free basis to the Hanover Limited Partners would commence in 1987 at
approximately 12.7% of a Limited Partner's original investment and increase to
approximately 15.5% of a Limited Partner's original investment in 1991 and (ii)
Hanover Limited Partners would receive $100,000 per Partnership Unit on a tax-
free basis from assumed refinancing proceeds ($50,000 per Partnership Unit in
1991 and $50,000 per Partnership Unit in 1996). Thereafter, Hanover Limited
Partners would continue to benefit from ownership of Hanover's Hotel. The
financial forecast did not assume a sale of Hanover's Hotel. Through March 27,
1998, Hanover Limited Partners have received distributions from cash flow of
$6,156 and no return of capital per Partnership Unit.
MDAH. The offering, which was completed in 1990, was intended to (i)
provide semi-annual cash distributions which were anticipated to be free from
significant current federal income taxation through 1999 (assuming tax losses
from MDAH were carried forward to offset MDAH income in later years), (ii) allow
Limited Partners to participate in the potential long-term appreciation in the
value of MDAH's Hotels and (iii) preserve investor capital. Based upon a
financial forecast and facts and circumstances at the time (and subject to the
various assumptions, risks, qualifications, limitations and other uncertainties
described therein and in the related private placement memorandum), it was
estimated that MDAH Limited Partners could expect cash distributions to be made
at an annualized rate of 9.2% of a Limited Partner's original investment for
1990, 11.8% for 1991 and 12.3% for 1992. The average annual cash return was
expected to be 15.9% of a Limited Partner's original investment for each of the
ten fiscal years ending December 31, 1999. The financial forecast did not assume
a sale of MDAH's Hotels. Through March 27, 1998, MDAH Limited Partners have
received distributions from cash flow of $23,522 and no return of capital per
Partnership Unit.
MHP. The offering, which was completed in 1985, was intended to provide
investors with an opportunity to benefit from expected increasing cash flow from
the operation of MHP's Hotels as well as potential capital appreciation,
investment tax credits and tax losses. Based upon a financial forecast and facts
and circumstances at the time (and subject to the various assumptions, risks,
qualifications, limitations and other uncertainties described therein and in the
related private placement memorandum), it was estimated that (i) cash flow to
the MHP Limited Partners would commence in 1987 and increase through 1995 to an
annual level of 16.9% of a Limited Partner's original investment and (ii) the
MHP Limited Partners would receive $100,000 per Partnership Unit on a tax-free
basis from assumed refinancing proceeds ($50,000 per Partnership Unit in 1991
and $50,000 per Partnership Unit in 1995). In addition, tax savings through 1990
were forecast to be $79,581 per Partnership Unit for an MHP Limited Partner in
the 50% tax bracket (including a $6,197 tax credit in 1986). Tax savings were
forecast to continue through 1995 and would total $88,588 per Partnership Unit.
Thereafter, MHP Limited Partners would continue to benefit from ownership of
MHP's Hotels. The financial forecast did not assume a sale of MHP's Hotels. On
November 17, 1993, one of MHP's hotels, the Warner Center Hotel, was foreclosed
upon. Through March 27, 1998, MHP Limited Partners have received distributions
from cash flow of $51,324, tax credits up to $6,010 and allocations of tax
losses of approximately $149,600 (which have been offset in part by subsequent
allocations of taxable income of approximately $34,800 and capital gains of
approximately $26,200 and a return of capital of $7,000 per Partnership Unit.
Due to changes in the tax law occurring after the date of the original offering
(including particularly the changes enacted as part of the Tax Reform Act of
1986), the tax losses allocated to the MHP Limited Partners did not likely
result in tax savings of the magnitude originally forecast.
MHP2. The offering, which was completed in 1989, was intended to provide
investors with an opportunity to benefit from (i) potential semi-annual cash
distributions from operations of MHP2's Hotels, which distributions were
anticipated to be free from significant current federal income taxation through
1997 (assuming losses from MHP2 were carried forward to offset MHP2 income in
later years), (ii) potential long-term appreciation in the value of MHP2's
Hotels and (iii) the preservation of investor capital. Based upon a financial
forecast and facts and circumstances
52
<PAGE>
at the time (and subject to the assumptions, various risks, qualifications,
limitations and other uncertainties described therein and in the related private
placement memorandum), it was estimated that cash distributions to the MHP2
Limited Partners would commence in 1989 at an annualized rate of approximately
9.6% of a Limited Partner's original investment, which annualized rate was
expected to increase to approximately 24% of a Limited Partner's adjusted
invested capital for 1998. It was also forecast that the Limited Partners would
receive a distribution (which was expected to be free from current federal
income taxation) from assumed refinancing proceeds of approximately $60,400 per
Partnership Unit in 1993. Thereafter, the MHP2 Limited Partners would continue
to benefit from ownership of MHP2's Hotels. The financial forecast did not
assume a sale of MHP2's Hotels. Through March 27, 1998, MHP2 Limited Partners
have received distributions from cash flow of $146,816 and no return of capital
per Partnership Unit.
PHLP. The offering, which was completed in 1982, was intended to provide
investors with the opportunity for tax benefits, potential cash flow
distributions and capital appreciation. Based upon a financial forecast and
facts and circumstances at the time (and subject to the various assumptions,
risks, qualifications, limitations and other uncertainties described therein and
in the related private placement memorandum), it was estimated that cash
available for distribution was not expected to be significant for some years,
reaching 6.2% of a PHLP Limited Partner's original investment in 1993 and rising
to 20.7% of a PHLP Limited Partner's original investment by 1996. The financial
forecast did not assume a sale of PHLP's Hotels. On January 31, 1986, PHLP sold
the Denver West hotel to Host. In 1993 and 1994, the Raleigh Crabtree, Tampa
Westshore and Point Clear hotels were foreclosed upon. In 1994, PHLP repurchased
the Raleigh Crabtree and Tampa Westshore hotels using proceeds from two loans
advanced by a subsidiary of Host. On August 22, 1995, PHLP sold the Dallas/Fort
Worth hotel to a wholly owned subsidiary of Host and used the proceeds to pay
down debt. Through March 27, 1998, PHLP Limited Partners have received no
distributions from cash flow, tax credits up to $1,588 and allocations of tax
losses of approximately $131,100 (which have been offset in part by subsequent
allocations of taxable income of approximately $20,400 and capital gains of
approximately $49,600) and no return of capital per Partnership Unit. Due to
changes in the tax law occurring after the date of the original offering
(including particularly the changes enacted as part of the Tax Reform Act of
1986), the tax losses allocated to the PHLP Limited Partners did not likely
result in tax savings of the magnitude originally forecast.
Anticipated Holding Periods. None of the offering documents of the
Partnerships contain provisions regarding anticipated holding periods.
Investment Liquidity. Since the Partnership Units of the Partnerships are
not listed on any national or regional stock exchange, nor quoted on any
automated quotations system, there has been limited liquidity available to
Limited Partners. No formal market for such Partnership Units exists and
because of provisions in the Code which tax "publicly traded partnerships" as
corporations, the partnership agreement for each Partnership prohibits such a
market from developing. Sales activity in the Partnership Units has been
limited and sporadic.
The information in the following table shows the highest, lowest and
weighted average prices for sales of the Partnership Units in the Partnerships
as reported to the General Partners for the twelve months ended April 15, 1998.
These prices are not indicative of total return to investors in the respective
Partnerships because prior cash distributions and tax benefits received by each
Limited Partner are not reflected in the price. There can be no assurance that
transactions in Partnership Units of any Partnership have not occurred at prices
either above the highest price or below the lowest price set forth below.
53
<PAGE>
Partnership Unit Prices
(All price information on a per Partnership Unit basis)
<TABLE>
<CAPTION>
Estimated
Transaction Period Number of Weighted Exchange Value
Original 12 months Partnership Units Highest Lowest Average Per Partnership
Partnership Cost ended Traded Price Price Price Unit/(1)/
- ---------------- -------- ------------------ ------------------ ----------- ----------- ----------- ---------------
<S> <C> <C> <C> <C> <C> <C> <C>
Atlanta Marquis...... $100,000 4/15/98 31.0 $ 37,000 $ 20,000 $ 32,430 $ 45,425
Chicago Suites....... 35,000 4/15/98 49.5 14,300 10,000 10,182 33,471
Desert Springs....... 100,000 4/15/98 31.0 44,201/(2)/ 10,000/(2)/ 23,872/(2)/ 40,880
Hanover/(2)/......... 100,000 4/15/98 1.0 20,500 20,500 20,500 123,202
MDAH................. 100,000 4/15/98 46.0 45,600 20,000 38,475 109,216
MHP.................. 100,000 4/15/98 6.0 91,500 40,000 68,150 141,425
MHP2................. 100,000 4/15/98 4.0 155,000 150,000 153,750 237,334
PHLP................. 10,000 4/15/98 .6666 871 871 871 5,040
</TABLE>
- ---------------------
(1) Based upon the estimated Exchange Values of Partnership Interests in each
Partnership. The estimated Exchange Value is equal to the greatest of
estimated Adjusted Appraised Value, estimated Continuation Value and
estimated Liquidation Value. The actual Exchange Values will be determined
as of the Final Valuation Date. The amounts in this column represent the
estimated Exchange Value that would be allocable to Limited Partners per
Partnership Unit.
(2) Does not include 40 Hanover Partnership Units purchased by Host pursuant to
a tender offer at a price of $40,000 per Partnership Unit on April 12, 1997.
Background of the Mergers and the REIT Conversion
Host and the other General Partners are proposing the Mergers in connection
with a plan adopted by Host to reorganize its business operations so that it
will qualify as a REIT under the Code. Host REIT expects to qualify as a REIT
beginning with its first taxable year commencing after the closing of the REIT
Conversion, which currently is expected to be the year commencing January 1,
1999. Host's reasons for engaging in the REIT Conversion include the following:
. Host believes the REIT structure will provide superior operating
results through changing economic conditions and all phases of the
hotel economic cycle.
. Host believes the REIT Conversion will improve its financial
flexibility and allow it to continue to strengthen its balance sheet by
reducing its overall debt to equity ratio over time.
. As a REIT, Host believes it will be able to compete more effectively
with other public lodging real estate companies that already are
organized as REITs and to improve investor understanding of its
operations, thus making performance comparisons with its peers more
meaningful.
. By becoming a dividend paying company, Host believes its shareholder
base will expand to include investors attracted by yield and asset
quality.
54
<PAGE>
. Host believes the adoption of the UPREIT structure will facilitate the
tax-deferred acquisition of other hotels (such as in the case of the
Blackstone Acquisition).
Host explored the possibility of engaging in a business combination with a
so-called "paired share" REIT in December 1996 and January 1997, but decided not
to pursue such a transaction. During the fourth quarter of 1997, Host began to
explore the possibility of reorganizing as a REIT on a stand-alone basis. In
April 1998, Host decided that it would be advantageous, both for its
shareholders and for the outside investors in the Partnerships, as discussed in
the following paragraphs, if Host were to convert to a REIT and offer to the
Partnerships the opportunity to participate in the REIT Conversion.
Reasons for the Mergers
The Mergers are being proposed at this time for three principal reasons:
. First, the General Partners believe that the expected benefits of the
Mergers to the Limited Partners, as set forth below, outweigh the risks
of the Mergers to the Limited Partners, as set forth in "Risk Factors."
. Second, the General Partners believe that participation in the REIT
Conversion through the Mergers is better for the Limited Partners than
the alternatives of continuing each Partnership as a standalone entity
or liquidating the Partnership. See "Determination of Exchange Values
and Allocation of OP Units" below.
. Third, Host is proposing the Mergers at this time to each Partnership
because consummation of the Merger as to each Partnership will enable
Host to obtain the full benefits of the REIT Conversion with respect to
its interests in such Partnership, while also giving the other partners
of the Partnership the opportunity to enjoy the benefits of the REIT
Conversion. See "Risk Factors--Risks and Effects of the Mergers--
Conflicts of Interest--Substantial Benefits to Related Parties."
The expected benefits from the Mergers to the Limited Partners include the
following:
Enhanced Liquidity of Investment. Limited Partners' Partnership
Units currently represent relatively illiquid investments. Although there is a
limited resale market for Partnership Units, the trading volume is thin and the
recent trading prices of outstanding Partnership Units in each of the
Partnerships are less than the estimated Exchange Value of Partnership Units in
each Partnership. Applicable federal income tax rules and the terms of the
partnership agreements of the Partnerships effectively prevent the development
of a more active or substantial market for these interests. See "Partnership
Unit Prices" above. The REIT Conversion will offer Limited Partners
significantly enhanced liquidity with respect to their investments in the
Partnerships because, after the expiration of the Initial Holding Period,
Limited Partners will be able to exercise their Unit Redemption Right at any
time, subject to certain limited exceptions. Limited Partners thereby would be
able to receive, at Host REIT's election, either freely tradable Common Shares
of Host REIT or the cash equivalent thereof. Host has approximately 204 million
shares of common stock outstanding and the closing price on the NYSE on May 28,
1998 was $19.4375 per share (reflecting a total common equity market
capitalization of approximately $4 billion). The exercise of the Unit Redemption
Right, however, generally would result in recognition of taxable income or gain
at that time.
Public Market Valuation of Assets. In most instances, the Partnership
Units of each Partnership currently trade at a discount to the net asset value
of the Partnership's assets. In contrast, the General Partners believe that by
exchanging interests in their existing, non-traded limited partnerships for
interests in a publicly traded real estate company focused primarily on a more
diverse and growing full-service hotel portfolio, the Limited Partners will have
the opportunity to participate in the recent trend of ownership of real estate
through a publicly traded entity, which, in many instances, has resulted in
market valuations of public real estate companies in excess of the
55
<PAGE>
estimated net asset values of those companies. Therefore, the REIT Conversion
offers Limited Partners the opportunity to obtain OP Units (and, upon the
exercise of the Unit Redemption Right at any time following the expiration of
the Initial Holding Period, Common Shares) whose public market valuation may
exceed the fair market value of the underlying assets of the Operating
Partnership on a per OP Unit/Common Share basis. There can be no assurance,
however, that the Common Shares of Host REIT will trade at a premium to the
private market values of the Operating Partnership's assets or that the relative
pricing differential will not change or be eliminated in the future. Also, the
initial benefit of Host's conversion to a REIT will not be shared by the Limited
Partners if and to the extent that such initial benefit is reflected in the
market valuation of Host's common stock prior to the REIT Conversion.
Regular Quarterly Cash Distributions. Over the last five full
calendar years, Limited Partners (except Limited Partners of Hanover and PHLP)
generally have received biannual or annual cash distributions. In contrast, the
General Partners expect that the Operating Partnership will make regular
quarterly cash distributions to holders of OP Units. Host expects that these
distributions will be higher than the estimated 1998 cash distributions of all
Partnerships except MHP and MHP2, and in any event, the ability to receive
distributions quarterly and in regular amounts would be enhanced. As a
substantial holder of OP Units, Host REIT would also receive regular quarterly
distributions, with such distributions to be an amount at least sufficient to
permit Host REIT to make distributions with respect to the Common Shares as
required by the Code relating to REITs. Upon exercise of the Unit Redemption
Right, Limited Partners who receive Common Shares would be entitled to receive
cash distributions with respect to such Common Shares in an amount per Common
Share equal to the amount distributed per OP Unit.
The following table sets forth the cash distributions from operations per
Partnership Unit for all of the Partnerships for 1997, actual and expected
distributions from operations for 1998 and the range of expected distributions
for 1999 estimated to be paid by the Operating Partnership to the Limited
Partners of each Partnership if the Mergers and the REIT Conversion occur
(computed assuming the Closing Date is December 31, 1998).
Estimated
1999 Distribution
Actual and Expected Following
1997 1998 the Mergers and the
Partnership Distributions Distributions/(1)/ REIT Conversion/(2)/
- ----------- ------------- ------------------- -------------------
Atlanta Marquis/(3)/ $ 0 $ 895 $___ - $___
Chicago Suites/(4)/ 0 0 ___ - ___
Desert Springs 2,500 890 ___ - ___
Hanover 0 0 ___ - ___
MDAH 0 0 ___ - ___
MHP 7,706 14,123 ___ - ___
MHP2 29,879 26,897 ___ - ___
PHLP 0 0 ___ - ___
- -----------------
(1) Actual through March 27, 1998 and expected from March 28, 1998 to December
31, 1998.
(2) Based upon preliminary estimated annual distributions of approximately $____
to $____ per OP Unit. Investors are cautioned that this preliminary estimate
may change, and the changes may be material. See "Distributions and Other
Policies -- Distribution Policy."
(3) Actual and Expected 1998 Distributions excluded a return of capital of
$5,000 per unit.
(4) 1997 Distributions exclude a return of capital of approximately $22,500 per
unit.
56
<PAGE>
Substantial Tax Deferral. The General Partners expect that Limited
Partners of the Participating Partnerships who do not elect to receive a Note in
exchange for OP Units generally should be able to obtain the benefits of the
Mergers while continuing to defer recognition for federal income tax purposes of
at least a substantial portion, if not all, of the gain with respect to their
Partnership Interests that otherwise would be recognized in the event of a
liquidation of the Partnership or a sale or other disposition of its assets in a
taxable transaction (although Limited Partners in Atlanta Marquis, MHP and PHLP
may recognize a relatively modest amount of ordinary income as the result of
required sales of personal property to a Non-Controlled Subsidiary. Thereafter,
such Limited Partners generally should be able to defer at least a substantial
portion of such built-in gain until they elect to exercise their Unit Redemption
Right or one or more of the Hotels currently owned by their Partnership are sold
or otherwise disposed of in a taxable transaction by the Operating Partnership
or, in certain cases, the debt now secured by such Hotels is repaid, prepaid or
substantially reduced. The federal income tax consequences of the Mergers are
highly complex and, with respect to each Limited Partner, are dependent upon
many variables, including the particular circumstances of such Limited Partner.
See "Federal Income Tax Considerations -- Tax Consequences of the Mergers." Each
Limited Partner is urged to consult with his own tax advisors as to the
consequences of the Mergers in light of his particular circumstances.
Risk Diversification. Upon consummation of the REIT Conversion, each
Limited Partner's investment will be converted from an investment in an
individual Partnership owning from one to eight hotels into an investment in an
entity that initially will own or control approximately 120 Hotels and will have
a total market capitalization of approximately $10 billion. Participation in a
Merger, as well as future hotel acquisitions by the Operating Partnership, will
reduce the dependence upon the performance of, and the exposure to the risks
associated with, any particular Hotel or group of Hotels currently owned by an
individual Partnership and spread such risk over a broader and more varied
portfolio, including more diverse geographic locations and multiple brands. See
"Business and Properties -- Business Objectives."
Reduction in Leverage and Interest Costs. It is expected that the
Operating Partnership will have a significantly lower leverage to value ratio
than any of the Partnerships currently, which have leverage ratios that exceed
55% and typically average between 75% and 80%, resulting in significant interest
and debt service savings and greater financial stability.
Growth Potential. The General Partners believe that the conversion
of each Limited Partner's investment into an investment in the Operating
Partnership will allow Limited Partners to participate in growth opportunities
that would not otherwise be available to them by exchanging interests in their
existing, non-traded limited partnerships for interests in a publicly traded
real estate company focused primarily on a more diverse and growing full-service
hotel portfolio. The General Partners believe that substantial opportunities
exist to acquire or develop full-service hotel properties at attractive prices
and that the Partnerships are not in a position to take advantage of such
opportunities because of (i) their lack of access to additional sources of
capital on favorable terms, (ii) restrictions on additional acquisitions and
development imposed by the partnership agreements of the Partnerships and (iii)
the fact that the Partnerships have already committed their capital and
generally are not authorized to raise additional funds for (or reinvest net sale
or refinancing proceeds in) new investments, absent amendment of the partnership
agreements of the Partnerships or approval by a majority of the outstanding
Partnership Interests.
The Operating Partnership's structure as part of an UPREIT should
provide it with substantial flexibility to structure acquisitions of additional
hotels utilizing debt, cash, OP Units or Common Shares (or any combination
thereof). In particular, the ability of the Operating Partnership to issue OP
Units in the future for the purpose of acquiring additional properties may
permit the
57
<PAGE>
Operating Partnership to structure acquisitions of hotel properties on an income
tax-deferred basis to the sellers (i.e., sellers of properties generally will be
able to exchange their ownership interests in those properties for OP Units
without incurring an immediate income tax liability).
Greater Access to Capital. With publicly traded equity securities, a
larger base of assets and a greater equity value than any of the Partnerships
individually, Host REIT expects to have greater access to the capital necessary
to fund the Operating Partnership's operations and to consummate acquisitions on
more attractive terms than would be available to any of the Partnerships
individually. Host REIT and the Operating Partnership should have more sources
of capital available to it than the Partnerships through access to the public
equity and debt capital markets, as well as from more traditional sources of
real estate financing. This greater access to capital should provide greater
financial stability to the Operating Partnership and reduce the level of risk
associated with refinancing existing loans upon maturity, as compared to the
Partnerships individually.
Reimbursements and Distributions to the General Partners
Under the partnership agreements of the Partnerships, the General Partners
do not receive any fees or compensation for services rendered to the
Partnerships as general partner but the General Partners and their affiliates
are reimbursed for certain costs and expenses incurred on behalf of the
Partnerships. In addition, each General Partner is entitled to distributions
related to its respective interests in the Partnerships. Host REIT, as general
partner of the Operating Partnership is required to conduct all of its business
through the Operating Partnership. Following the REIT Conversion, Host REIT will
be entitled to receive cash distributions with respect to the OP Units that it
owns, and the Operating Partnership will pay (or reimburse Host REIT for) all
expenses that Host REIT incurs (subject to certain limited exceptions).
The following table sets forth the reimbursements and distributions paid by
all of the Partnerships to the General Partners and their affiliates on a
combined basis for the last three fiscal years and the First Quarter 1998
("Historical") and the reimbursements and distributions that would have been
paid to the General Partners over such periods if the REIT Conversion had been
in effect, assuming the Full Participation Scenario ("Pro Forma").
Historical and Pro Forma
Reimbursements and Distributions to General Partners and their Affiliates
(in thousands)
Fiscal Year
First Quarter ---------------------------------
Historical 1998 1997 1996 1995
- ---------- -------------- ---- ---- ----
Reimbursements $ 732 $ 1,657 $ 1,168 $ 568
Distributions -- 15,881 8,202 338
------ ------- ------- -------
Total Historical $ 732 $17,538 $ 9,370 $ 906
====== ======= ======= =======
Pro Forma
- ---------
Reimbursements $ -- $ -- $ -- $ --
Distributions/(1)/ N/A N/A N/A N/A
------ ------- ------- -------
Total Pro Forma $ -- $ -- $ -- $ --
====== ======= ======= =======
- ----------------------
(1) The OP Units to be received by Host in connection with the REIT Conversion
will be equal to the number of shares of Host's common stock outstanding
and not allocated based upon its interests in any of the Partnerships.
Thus, the distributions received by Host by way of its interests in the
Partnerships cannot be determined on a pro forma basis.
58
<PAGE>
Alternatives to the Mergers
In determining whether to propose the Mergers, the General Partners
compared the benefits to the Limited Partners of continuing each Partnership
with the benefits the Limited Partners could achieve by the participation of
their Partnership in the REIT Conversion through a Merger. The General Partners
considered the other principal alternative -- liquidation of a Partnership --
but do not believe that liquidation is appropriate at this time because the
expected benefits of the proposed Mergers are greater.
The following paragraphs discuss the advantages and disadvantages of
continuing the Partnerships as standalone entities and, to assist Limited
Partners in evaluating the Mergers, liquidating the Partnerships.
Continuation of each Partnership.
Benefits of Continuation. Continuing each Partnership without
------------------------
change, in accordance with its existing business plan and pursuant to its
current partnership agreement, would have the following effects, some of which
effects Limited Partners may perceive as benefits:
. No Partnership would be subject to the risks associated with the
Mergers and REIT Conversion, and instead each Partnership would
remain a separate entity, with its own assets and liabilities and
would pursue its original investment objectives consistent with
the guidelines, restrictions and safeguards contained in its
partnership agreement;
. No Partnership's performance would be affected by the performance
of the other Hotel Partnerships or Host REIT, including the
investment objectives, interests and intentions of the limited
partners of the other Hotel Partnerships or the shareholders of
Host REIT;
. There would be no change in the nature of the Limited Partners'
voting rights; and
. There would be no change in the cash distribution policy of the
Partnership.
Disadvantages of Continuation. Maintaining the Partnerships as
-----------------------------
separate entities would have the following disadvantages, among others:
. Continued illiquidity of a Limited Partner's investment due to the
absence of an established market for interests in the Partnerships
that provides full value for such interests and the restrictions
in the federal income tax law and the partnership agreements that
prevent the development of such markets;
. The inability from time to time of the Partnerships to make
regular distributions;
. The inability of the Partnerships to take advantage of public
market valuation of their assets, growth opportunities and other
potential benefits of the Mergers;
. Each Partnership will continue to have a leverage to net value
ratio exceeding 55% and typically ranging between 75% and 80%;
. Limited Partners will continue to be subject to the risks inherent
in the lack of broad diversity that any individual Partnership's
assets represent; and
. Any realization by the Limited Partners of the full value
attributable to their Partnership Units likely would require a
liquidation of the Partnership and the sale of its Hotel or
Hotels which has the disadvantages set forth below (see
"--Liquidation of Each Partnership").
59
<PAGE>
Liquidation of each Partnership.
Benefits of Liquidation. In lieu of participating in the Mergers and
-----------------------
the REIT Conversion, each Partnership could sell its assets (subject to the
existing Management Agreements), pay off its existing liabilities not assumed by
the buyer and distribute the net sales proceeds to the partners in accordance
with the distribution provisions of its partnership agreement. The primary
advantage of this alternative would be to provide immediate liquidity to Limited
Partners based upon the current market value of the Partnership's real estate
assets. See "-- Summary of Comparative Valuation Alternatives" for estimates of
the net liquidation proceeds that might be available to the Limited Partners
upon the liquidation of each Partnership.
Disadvantages of Liquidation. The General Partners do not believe
----------------------------
that this alternative would be as beneficial to Limited Partners as the Mergers,
for the following reasons, among others: (i) a Partnership's sale of its Hotel
or Hotels would not be likely to benefit from the public market valuation of
real estate assets in the same manner as the sale of an interest in an operating
real estate company like the Operating Partnership (through exercise of the Unit
Redemption Right and the sale of any Common Shares received as a result
thereof); (ii) certain existing Partnership debt cannot be defeased or prepaid
at the present time (such as the indebtedness of Atlanta Marquis, Desert
Springs' Senior Notes and MHP2) and when the existing debt can be defeased or
prepaid, the costs of defeasance or prepayment (with the exception of Chicago
Suites, MDAH and PHLP) would significantly decrease the sales proceeds available
to Limited Partners of a Partnership; and (iii) a sale and liquidation would be
a taxable event for Limited Partners, who would lose the ability to individually
plan the timing of the recognition of their taxable gain. In addition, because
of the tax consequences that the General Partners (and thus Host) would incur
upon a Partnership's taxable sale of its Hotel or Hotels, this is not an
alternative that the General Partners would favor, making it less likely that
such an alternative could be implemented.
Summary of Comparative Valuation Alternatives
To assist Limited Partners in comparing alternatives to the Mergers, the
General Partners, in conjunction with AAA, have computed for each Partnership,
the estimated Adjusted Appraised Value, the estimated Continuation Value and the
estimated Liquidation Value of the Partnership Interests of the Limited Partners
in each Partnership. Estimated Exchange Value is equal to the greatest of
estimated Adjusted Appraised Value, estimated Continuation Value and estimated
Liquidation Value. For a detailed explanation of the calculation of each value
see "Determination of Exchange Values and Allocation of OP Units."
The estimated Exchange Values set forth below may increase or decrease as a
result of various adjustments, which will be finally calculated as of the Final
Valuation Date but will not change as a result of less than all of the
Partnerships participating in the Mergers.
60
<PAGE>
Summary of Comparative Valuation Alternatives
(All amounts on a per Partnership Unit basis)/(1)/
<TABLE>
<CAPTION>
Estimated
Adjusted Estimated Estimated
Appraised Continuation Estimated Exchange
Partnership Value Value Liquidation Value Value/(2)/
----------- --------- ------------ ----------------- ----------
<S> <C> <C> <C> <C>
Atlanta Marquis $ 41,991 $ 45,425 $ 406 $ 45,425
Chicago Suites 33,471 24,184 31,467 33,471
Desert Springs 40,880 33,536 27,617 40,880
Hanover 123,202 98,090 88,474 123,202
MDAH 109,216 89,340 98,343 109,216
MHP 140,032 141,425 124,261 141,425
MHP2 237,334 212,032 205,140 237,334
PHLP 0 5,040 0 5,040
</TABLE>
- --------------
(1) A Partnership Unit in all of the Partnerships except Chicago Suites
($35,000) and PHLP ($10,000) represents an original investment of $100,000.
(2) Estimated Exchange Value is equal to the greatest of estimated Adjusted
Appraised Value, estimated Continuation Value and estimated Liquidation
Value.
Recommendation Of The General Partners
- --------------------------------------
For the reasons stated herein, the General Partners believe that the terms
of the Mergers provide substantial benefits and are fair to the Limited Partners
of each Partnership and recommend that all Limited Partners vote FOR the
Mergers. See "Fairness Analysis and Opinion -- Fairness Analysis."
61
<PAGE>
DETERMINATION OF EXCHANGE VALUES AND ALLOCATION OF OP UNITS
Overview
Following consummation of the REIT Conversion, OP Units will be owned by
the following groups:
. Host REIT, which will receive a number of OP Units equal to the number
of outstanding shares of common stock of Host in exchange for the
contribution of its full-service hotel assets and other assets
(excluding its senior living assets and the cash to be distributed to
its shareholders), subject to certain liabilities. On a pro forma
basis, as of March 27, 1998, Host REIT would have received
approximately 204 million OP Units, based upon the number of
outstanding shares of Host common stock at that time. If Host issues
any shares of preferred stock prior to the REIT Conversion, Host REIT
also will receive a number of preferred partnership interests in the
Operating Partnership equal to the number of outstanding shares of
preferred stock.
. The Blackstone Entities, which will receive, in addition to other
consideration (see "Business and Properties -- Blackstone
Acquisition"), approximately 43.7 million OP Units in exchange for the
contribution of the Blackstone Hotels and certain other related
assets, subject to certain liabilities.
. Limited Partners of the Participating Partnerships, who will receive
in the Mergers a number of OP Units based upon the Exchange Values of
their respective Partnership Interests, determined as summarized
below.
. Partners unaffiliated with Host in certain Private Partnerships, who
have agreed to exchange their interests in their Private Partnerships
for OP Units, and will receive a number of OP Units determined by
negotiation with Host as to the value of their interests in their
Private Partnerships.
Methodology for Determining Exchange Values
Summary. The Exchange Value of each Partnership will be equal to the
greatest of its Adjusted Appraised Value, Continuation Value and Liquidation
Value, each of which has been determined as follows:
. Adjusted Appraised Value. The General Partners have retained AAA to
determine the market value of each of the Hotels as of March 1, 1998
(the "Appraised Value"). The "Adjusted Appraised Value" of a
Partnership equals the Appraised Value of its Hotels, adjusted as of
the Final Valuation Date (as defined below) for lender reserves,
capital expenditure reserves, existing indebtedness (including a "mark
to market" adjustment to reflect the market value of such
indebtedness), certain deferred maintenance costs, deferred management
fees and transfer and recordation taxes and fees.
. Continuation Value. The "Continuation Value" of a Partnership
represents AAA's estimate, as adopted by the General Partners, of the
discounted present value, as of January 1, 1998, of the limited
partners' share of estimated future cash distributions and estimated
net sales proceeds (plus lender reserves), assuming that the
Partnership continues as an operating business for twelve years and
its assets are sold on December 31, 2009 for their then estimated
market value.
. Liquidation Value. The "Liquidation Value" of a Partnership represents
the General Partners' estimate of the net proceeds to limited partners
resulting from the assumed sale as of December 31, 1998 of the
Hotel(s) of the Partnership, each at its Adjusted Appraised Value
(after eliminating any "mark to market" adjustment and adding back the
deduction for transfer taxes and fees, if any, made in deriving the
Adjusted Appraised Value), LESS (i) estimated liquidation costs,
expenses and contingencies equal to 2.5% of Appraised Value and (ii)
prepayment penalties or defeasance costs, as applicable.
Final determination of the Exchange Value of each Partnership will be
made as of the end of the four week accounting period ending at least 20 days
prior to the Closing Date (the "Final Valuation Date") and will be equal to the
greatest of Adjusted Appraised Value, Continuation Value and Liquidation Value
as of such date. Adjusted Appraised Value, Continuation Value and Liquidation
Value will be adjusted as of the Final Valuation Date (i) to reflect the amount
of
62
<PAGE>
lender and capital expenditure reserves and the amount of deferred management
fees as of such date, (ii) to increase the Adjusted Appraised Value by any
amounts actually expended by a Partnership after the Initial Valuation Date to
perform deferred maintenance previously subtracted in determining the estimated
Adjusted Appraised Value of such Partnership and (iii) to reflect any changes in
the Partnership's other reserves, such as for litigation expenses and
indemnification costs and any revised estimates of transfer and recordation
taxes and fees.
Appraised Value. The Partnerships' Hotels were appraised as of March 1,
1998 by AAA, an independent, nationally recognized hotel valuation and financial
advisory firm experienced in the appraisals of lodging properties such as the
Partnerships' Hotels. Each appraisal (an "Appraisal") was reviewed by an MAI
appraiser and certified by such MAI appraiser as having been prepared in
accordance with the requirements of the Standards of Professional Practice of
the Appraisal Institute and the Uniform Standards of Professional Appraisal
Practice of the Appraisal Foundation.
The purpose of each Appraisal is to provide an estimate of the "Market
Value" of the related Hotel. "Market Value" means the most probable price which
a property should bring in a competitive and open market under all conditions
requisite to a fair sale, the buyer and seller each acting prudently and
knowledgeably and assuming the price is not affected by undue stimuli. Implicit
in this definition is the consummation of a sale as of a specified date and the
passing of title from seller to buyer under conditions whereby: (i) the buyer
and seller are equally motivated; (ii) both parties are well informed or well
advised, and each is acting in what he considers his own best interest; (iii) a
reasonable time frame is allowed for exposure in the open market; (iv) payment
is made in terms of cash in U.S. dollars or in terms of financial arrangements
comparable thereto and (v) the price represents the normal consideration for the
property sold unaffected by special or creative financing or sales concessions
granted by anyone associated with the sale. AAA made site visits at
substantially all of the Hotels for purposes of the Appraisals.
In preparing the Appraisals, AAA relied primarily on the income
capitalization method of valuation, and then compared the value estimated by
this method with recent sales of comparable properties, as a check on the
reasonableness of the value determined through the income capitalization method.
AAA employed the following procedures for determining the Appraised Value of
each Hotel:
. Historical 1997 and Projected Year's Earnings. AAA reviewed the
historical 1997 net operating income (i.e., income before interest,
taxes, depreciation and amortization) ("NOI") prior to incentive
management fees and certain capital expenditures for the applicable
Hotel. AAA also prepared a projection of the net operating income
prior to incentive management fees and certain capital expenditures
for the applicable Hotel for the twelve month period ending February
28, 1999 (the "Projected Year"), using historical financial
information for the Hotel, budget information, a survey with the
manager of the Hotel addressing the physical condition of the Hotel,
local market conditions (including business mix, demand generators,
future trends and predictability of business), changes in the
competitive environment, comparison with direct competitors of the
Hotel and risk factors relating to the particular Hotel. The resulting
gross margin (ratio of total revenues to net operating income prior to
incentive management fees) was checked against AAA's database of the
gross margins for similar hotels for reasonableness.
. Impact of Incentive Management Fees. AAA estimated a normalized annual
amount of incentive management fees payable under the applicable
management agreement and subtracted this amount from the net operating
income prior to incentive management fees and certain capital
expenditures for 1997 and the Projected Year.
. Impact of Owner Funded Capital Expenditures. AAA estimated normalized
annual amounts of owner funded capital expenditures (over and above
the FF&E reserve) based in part on projected owner funded capital
expenditures estimated in the Engineering Study, including in the
case of three Hotels (Atlanta Marquis, Desert Springs and Hanover)
certain identified 1998 capital expenditures for which reserves have
been set aside. The normalized amounts were then subtracted from the
NOI prior to owner funded capital expenditures for 1997 and the
Projected Year.
. Capitalization of Adjusted NOI. AAA then capitalized the amount
resulting from the foregoing adjustments ("Adjusted NOI") for 1997 and
the Projected Year by dividing such amounts by capitalization rates
that AAA determined to be appropriate. A capitalization rate
represents the relationship between net operating income and sales
prices of income producing property. AAA selected the capitalization
rates based upon its review of current published surveys reflecting
the opinions of investors and participants such as REITs, hotel
acquisition/management companies and pension funds, lenders, brokers
and consultants as to current capitalization rates, and its own
database of capitalization rates reflected in recent transactions,
adjusted for factors specific to the individual Hotel, such as
location, physical condition, reserve policies, local market
volatility and competition, guest mix, renovation influences and other
income characteristics. AAA used separate capitalization rates that it
deemed appropriate to capitalize 1997 historical Adjusted NOI and
estimated
<PAGE>
Projected Year's Adjusted NOI. AAA then estimated the value of each
Hotel based upon each of the values estimated by capitalizing 1997 and
Projected Year's Adjusted NOI and its professional judgment.
The following table sets forth the resulting Appraised Values of the Hotels
of each Partnership, as estimated by AAA.
Appraised Value of Each Partnership's Hotels
(in thousands)
Partnership Appraised Value
----------- ---------------
Atlanta Marquis $ 255,000
Chicago Suites 34,300
Desert Springs 223,800
Hanover 49,400
MDAH 165,900
MHP 354,261/(1)/
MHP2 463,300/(2)/
PHLP 265,800
----------
Total $1,811,761
==========
--------------
/(1)/ Excludes the 49.5% interest in the Harbor Beach Resort not owned by
MHP.
/(2)/ Excludes the 50% interest in the Santa Clara Marriott not owned by
MHP2.
The following table sets forth the effective capitalization rates for
1997 and Projected Year's Adjusted NOI resulting from AAA's estimated
Appraised Values of the Hotels.
Resulting Effective Capitalization Rates in Appraisals
Projected Year
Partnership 1997 (Ending February 28, 1999)
----------- ---- --------------------------
Atlanta Marquis 9.4% 9.4%
Chicago Suites 9.4% 10.3%
Desert Springs 8.9% 9.3%
Hanover 9.4% 10.1%
MDAH 9.1 - 9.9% 10.1 - 10.6%
MHP 8.8 - 9.4% 9.8 - 10.2%
MHP2 9.1 - 9.6% 9.7 - 11.1%
PHLP 9.2 - 9.8% 9.7 - 10.6%
. Comparison with Comparable Sales. AAA checked the Appraised Value of
each Hotel derived by the foregoing procedures against its database of
comparable sale transactions for reasonableness.
In the case of a Hotel that is only partly owned by a Partnership, the
Appraised Value of such Hotel was reduced proportionately to the amount
attributable to such Partnership's ownership interest therein (but no adjustment
was made to reflect the effect that the outside interest might have on decisions
with respect to sales, refinancings or other major operational matters). With
respect to the Partnerships' Hotels, eleven properties were encumbered by ground
leases as of the date of the Appraisal, one owned by each of Chicago Suites,
MDAH and MHP, three owned by MHP2 and five owned by PHLP. Accordingly, the
Appraised Values of these Partnerships' Hotels have been decreased to reflect
the encumbrance of the ground leases and the interest of the ground lessor in
the operating cash flows of such Hotels. The Appraised Value of MHP's Orlando
World Center Hotel also includes AAA's estimate of the present value of a
planned expansion of the Hotel. The Appraised Values assume all contractual
provisions for FF&E reserves are adequate and have not been reduced to reflect
deferred maintenance or environmental remediation costs with respect to the
Partnerships' Hotels (but estimated deferred maintenance costs have been
deducted in estimating the Adjusted Appraised Value of each Hotel). The
Appraised Values did not take into account the costs that might be incurred in
selling a Hotel (but estimated costs for transfer and recordation taxes and fees
have been deducted in estimating the Adjusted Appraised Value of each Hotel).
The Appraisals are not guarantees of present or future values and no
assurance can be given as to the actual value of the Partnerships' Hotels. The
Appraisals should be read in conjunction with other information, such as, but
not limited to, the audited financial statements of the Partnerships.
The Appraised Values, and the assumptions underlying the projections on
which the Appraised Values are based, are contingent upon a series of future
events, the outcomes of which are not necessarily within the Operating
Partnership's control and cannot be determined at this time. There can be no
assurance that another appraiser would not have arrived at a different result.
Some of the assumptions inevitably will not materialize, and unanticipated
events and circumstances will occur subsequent to the date of the Appraisals.
Furthermore, the actual results achieved from the Hotels will vary from the
results projected in the Appraisals and the variations may be material.
64
<PAGE>
Adjusted Appraised Value. The Adjusted Appraised Value of each Partnership
was determined by totaling the Appraised Values of all of the Hotels of the
Partnership and then making various adjustments to the aggregate Appraised
Value, as described below.
. Lender Reserves. For Atlanta Marquis, Desert Springs, MDAH, MHP and
MHP2, debt service reserves are required to be held by third-party
lenders. The amount of these lender reserves as of the Initial
Valuation Date was added to the Appraised Values of these Hotels. A
final determination of the lender reserves of each of these
Partnerships will be made on the Final Valuation Date and any changes
in such reserves will be reflected in the Adjusted Appraised Value.
. 1998 Capital Expenditure Reserves. For Atlanta Marquis, Desert Springs
and Hanover, an amount equal to the capital expenditure reserves which
were set aside as of March 1, 1998 for various identified capital
improvements in 1998 (which amounts resulted in reductions in the
Appraised Value as described above) was added back to the Appraised
Value.
. Mortgage and Other Debt. The estimated principal balance and accrued
interest as of the Closing Date (assumed to be December 31, 1998) of
all mortgage and other debt of each Partnership has been subtracted
from the Appraised Value.
. Mark to Market Adjustments. The third-party loans of the Partnerships
have various interest rates and terms to maturity. In order to reflect
the fair market value of the third-party loans of each Partnership,
the estimated Adjusted Appraised Value for each Partnership has been
adjusted (increased or decreased) to "mark to market" the interest
rate for such loans. This adjustment has been estimated by comparing
the interest cost using the applicable interest rates on existing
third-party loans over their remaining term to the interest cost using
the interest rate that the Operating Partnership believes it would be
able to obtain for unsecured debt in the market as of the Final
Valuation Date (which would have been 8.0% per annum based on a 2.25
basis point (2.25 percent) spread over the yield on seven-year U.S.
Treasury securities as of May 8, 1998). The mark to market adjustment
for each loan was calculated by determining the difference between the
present values, as of December 31, 1998, of the interest payments over
the remaining term of the loan from January 1, 1999 to maturity using
the actual interest rate as the discount rate as compared to using the
assumed market rate as the discount rate. In the case of the mezzaine
loan on Desert Springs, the adjustment reflects the prepayment penalty
that would be payable because it is less than the mark to market
adjustment.
. Deferred Management Fees. The amount of deferred management fees
estimated to be payable under the Management Agreement(s) of each
Partnership as of December 31, 1998 have been subtracted from the
Appraised Value. The amount of such deferred management fees will be
recalculated as of the Final Valuation Date.
. Deferred Maintenance Costs. The estimated cost to complete any
deferred maintenance items identified in the Engineering Study
relating to the applicable Hotel or Hotels of each Partnership have
been subtracted from the Appraised Value. The adjustments for this
item will be reduced at the Final Valuation Date to reflect amounts
expended after the Initial Valuation Date to perform such deferred
maintenance. No adjustments have been made for previously budgeted
capital expenditures or deferred maintenance costs estimated in the
Engineering Study that are reflected in the cash flow projections used
for purposes of estimating Appraised Values.
. Transfer Taxes and Fees. The estimated transfer and recordation taxes
and fees required to be paid by each Partnership in connection with
the Mergers have been subtracted from the Appraised Value. The actual
transfer and recordation taxes and fees will be paid by the Operating
Partnership as part of the Merger Expenses.
The following table sets forth the adjustments to the aggregate Appraised
Values made to derive the estimated Adjusted Appraised Value for each
Partnership as of the Initial Valuation Date.
65
<PAGE>
Calculation of Estimated Adjusted Appraised Values
as of the Initial Valuation Date
(in thousands, except per Partnership Unit amounts)
<TABLE>
<CAPTION>
Atlanta Chicago Desert
Marquis Suites Springs Hanover MDAH MHP MHP2 PHLP
------- ------ ------- ------- ---- --- ---- ----
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Appraised Value $255,000 $ 34,300 $223,800 $ 49,400 $165,900 $354,261(1) $463,300(2) $265,800
Lender reserves 3,600 0 6,173 0 3,000 1,800(1) 6,800 0
Capital expenditure reserve 16,750 0 1,500 1,690 0 0 0 0
Mortgage debt (162,047) (22,284) (101,632) (29,394) (97,371) (192,137)(1)(259,945)(2)(161,136)
Other debt (20,134) (464) (92,438) (10,398) (25,355) (722) 0 (128,102)
Mark to market adjustment 4,693 94 411 (435) 399 2,878 (2,154) 0
Deferred management fees 0 0 0 0 0 0 (3,184) (34,151)
Deferred maintenance costs (607) (46) (650) (72) (825) (245) (1,673) (5,212)
Transfer taxes 0 (274) 0 0 0 0 0 (814)
-------- --------- -------- -------- -------- -------- -------- ---------
Estimated Adjusted
Appraised Value $ 97,255 $ 11,326 $ 37,164 $ 10,791 $ 45,748 $165,835 $203,144 $ 0
======= ======= ======= ======= ======= ======= ======= =======
Limited partners' share $ 22,255 $ 11,213 $ 36,792 $ 10,349 $ 45,215 $140,032 $176,814 $ 0
Per Partnership Unit $ 41,991 $ 33,471 $ 40,880 $123,202 $109,216 $140,032 $237,334 $ 0
</TABLE>
(1) Excludes 49.5% of the $122,300,000 Appraised Value of the Harbor Beach
Resort and the $82,266,000 in mortgage debt encumbering the Hotel.
(2) Excludes 50% of the $126,200,000 Appraised Value of the Santa Clara
Marriott Hotel but includes 100% of the $42,500,000 in mortgage debt
encumbering the Hotel for which MHP2 is responsible.
Continuation Value. AAA estimated the Continuation Value of each
Partnership using the following methodology:
. Estimated Future Cash Distributions. AAA prepared estimates of future
partnership cash flow for the Partnership for the 12-year period from
January 1, 1998 through December 31, 2009 based upon the estimated
1998 NOI before incentive management fees used in the Appraisals and
for each subsequent year applying an assumed annual stabilized growth
rate (ranging from 3.40% to 4.50%, depending upon the Partnership, as
shown in the table below) developed by AAA for this analysis. For each
year in the projection period, AAA estimated the amount of cash
available for distribution to limited partners after payment of all
management fees, debt service, owner funded capital expenditures based
on the Engineering Study and other partnership expenses and after
application of the applicable partnership agreement provisions. AAA
assumed that each Partnership's FF&E reserves were adequate and
understood that Host determined that there were no reserve shortfalls
or surpluses.
. Refinancing Assumptions. For debt that matures during the 12-year
period, AAA assumed that the debt would be refinanced interest rates
ranging from 7.25% to 8.60% per annum and a 20 to 25-year amortization
schedule, with estimated refinancing costs of 1% of the refinanced
amount being paid from operating cash flow (or added to the principal
balance of the loan, if cash flow was estimated to be insufficient).
. Determination of Residual Value. To estimate the residual value of the
limited partners' interest in the Partnership at the end of the 12-
year period, AAA assumed that the Hotel(s) would be sold as of
December 31, 2009 at their then market value. AAA estimated the market
value of each Hotel as of such date by applying an exit capitalization
rate that it deemed appropriate, using the factors described above in
connection with the "-- Appraised Value," which are set forth in the
table below, to the estimated Adjusted NOI for 2009 (estimated as
described above). AAA then subtracted estimated sales costs of 2.0% of
the estimated market value, added lender reserves, and subtracted the
estimated outstanding principal balance of debt as of December 31,
2009 and deferred management fees to arrive at net sales proceeds
available for distribution to partners. AAA then determined what
portion of such estimated net sales proceeds would be distributable to
the Partnership's limited partners under the various partnership and
debt agreements.
. Discounting Distributions to Present Value. As a final step, AAA
discounted the estimated future cash distributions to the limited
partners from operations and estimated net sales proceeds (Plus lender
reserves) to their present
66
<PAGE>
value as of January 1, 1998, using a discount rate of 20% per annum.
AAA believes that this discount rate reflects the return on investment
that investors expect from leveraged investments of this nature.
The growth rates and exit capitalization rates used to determine the
estimated Continuation Value for each Partnership are as set forth below:
Growth Rates, Exit Capitalization Rates
and Estimated Continuation Value for Each Partnership
<TABLE>
<CAPTION>
Estimated
Continuation Value
Partnership Growth Rate Exit Capitalization Rate (2009) (Per Partnership Unit)
----------- ----------- ------------------------------- ----------------------
<S> <C> <C> <C>
Atlanta Marquis 4.40% 9.8% $ 45,425
Chicago Suites 3.70% 9.9% 24,184
Desert Springs 4.50% 9.7% 33,536
Hanover 3.70% 9.9% 98,090
MDAH 3.40% 10.1% 89,340
MHP 3.65%/(1)/ 9.9% 141,425
MHP2 3.40% 10.4% 212,032
PHLP 3.60% 10.1% 5,040
</TABLE>
- -------------
/(1)/ Reflects the average of the stabilized growth rates of Harbor Beach Resort
(3.80% each year) and Orlando World Center (3.50% beginning in 2003 to
reflect the effect of the planned expansion of the Hotel).
Liquidation Value. The Liquidation Value of each Partnership was estimated
by the General Partners and represents the estimated value of the Partnership if
all of its assets were sold as of December 31, 1998. Such value was based upon
the Adjusted Appraised Value of each Partnership, with the following
adjustments: (i) the "mark to market" adjustment used to estimate the Adjusted
Appraised Value was eliminated and instead prepayment or defeasance costs that
would be payable under existing debt agreements (regardless of whether the debt
in fact can be prepaid on December 31, 1998) were deducted from the Appraised
Value; (ii) the deduction for transfer and recordation taxes and fees used to
estimate the Adjusted Appraised Value was eliminated and instead an amount equal
2.5% of the Appraised Value of each Partnership's Hotel(s) was subtracted from
the Appraised Value for estimated liquidation costs, expenses and contingencies;
and (iii) the amount of participating interest payable on the Desert Springs
subordinated loan held by Host was deducted from the Appraised Value to reflect
the net proceeds available to partners of that Partnership. The General Partner
then determined the portion of the estimated Liquidation Value that would be
distributable to limited partners under the terms of the applicable partnership
agreements and other contractual arrangements.
The following table sets forth the adjustments made to Adjusted Appraised
Value to estimate the Liquidation Value for each Partnership as of the Initial
Valuation Date:
67
<PAGE>
Calculation of Estimated Liquidation Values
as of the Initial Valuation Date
(in thousands, except per Partnership Unit amounts)
<TABLE>
<CAPTION>
Atlanta Chicago Desert
Marquis Suites Springs Hanover MDAH MHP MHP2 PHLP
------- ------ ------- ------- ---- --- ---- ----
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Appraised Value $255,000 $ 34,300 $223,800 $ 49,400 $165,900 $354,261/(1)/ $463,300/(2)/ $265,800
Lender reserves 3,600 0 6,173 0 3,000 1,800 6,800 0
Capital expenditure reserve 16,750 0 1,500 1,690 0 0 0 0
Mortgage debt (162,047) (22,284) (101,632) (29,394) (97,371) (192,137)/(1)/ (259,945)/(2)/ (161,136)
Other debt (20,134) (464) (89,669) (10,398) (25,355) (722) 0 (128,102)
Prepayment/defeasance costs (10,972) 0 (8,821) (2,168) 0 (10,794) (20,551) 0
Deferred management fees 0 0 0 0 0 0 (3,184) (34,151)
Deferred maintenance costs (607) (46) (650) (72) (825) (245) (1,673) (5,212)
Sales costs (6,375) (858) (5,595) (1,235) (4,148) (8,857) (11,583) (6,645)
--------- --------- --------- -------- --------- --------- --------- ---------
Estimated Liquidation
Value $ 75,215 $ 10,648 $ 25,106 $ 7,823 $ 41,201 $143,306 $173,164 $ 0
======= ======= ======= ======= ======= ======= ======= =======
Limited partners' share $ 215 $ 10,541 $ 24,855 $ 7,432 $ 40,714 $124,261 $152,829 $ 0
Per Partnership Unit $ 406 $ 31,467 $ 27,617 $ 88,474 $ 98,343 $124,261 $205,140 $ 0
</TABLE>
-----------------
(1) Excludes 49.5% of the $122,300,000 Appraised Value of the Harbor Beach
Resort and the $82,266,000 in mortgage debt encumbering the Hotel.
(2) Excludes 50% of the $126,200,000 Appraised Value of the Santa Clara
Marriott Hotel but includes 100% of the $42,500,000 in mortgage debt
encumbering the Hotel for which MHP2 is responsible.
Estimated Exchange Values. The following table sets forth the estimated
Exchange Value of each Partnership (based upon the greatest of its Adjusted
Appraised Value, Continuation Value and Liquidation Value) and the estimated
Note Election Amount for each Partnership, all on a per Partnership Unit basis
as of the Initial Valuation Date. The estimated Exchange Value for each
Partnership will be received by each Limited Partner retaining OP Units in the
Merger. The estimated Note Election Amount for each Partnership (which will be
received by Limited Partners electing to receive Notes in exchange for OP Units)
is equal to the Liquidation Value (or, if greater, 60% of the Exchange Value)
for that Partnership. The estimated values set forth below may increase or
decrease as a result of various adjustments, which will be finally calculated as
of the Final Valuation Date but will not change as a result of less than all of
the Partnerships participating in the Mergers.
Estimated Exchange Values
Per Partnership Unit(1)
<TABLE>
<CAPTION>
Estimated Estimated Estimated Estimated Estimated
Adjusted Appraised Continuation Liquidation Exchange Note Election
Partnership Value Value Value Value (2) Amount(3)
----------- ------------------- -------------- ------------ ----------- -------------
<S> <C> <C> <C> <C> <C>
Atlanta Marquis $ 41,991 $ 45,425 $ 406 $ 45,425 $ 27,255
Chicago Suites 33,471 24,184 31,467 33,471 31,467
Desert Springs 40,880 33,536 27,617 40,880 27,617
Hanover 123,202 98,090 88,474 123,202 88,474
MDAH 109,216 89,340 98,343 109,216 98,343
MHP 140,032 141,425 124,261 141,425 124,261
MHP2 237,334 212,032 205,140 237,334 205,140
PHLP 0 5,040 0 5,040 3,024
</TABLE>
-----------------
(1) A Partnership Unit in all of the Partnerships except for Chicago Suites
($35,000) and PHLP ($10,000) represents an original investment of $100,000.
(2) The estimated Exchange Value is equal to the greatest of estimated Adjusted
Appraised Value, estimated Continuation Value and estimated Liquidation
Value.
(3) The principal amount of Notes is equal to the greater of (i) the
Liquidation Value or (ii) 60% of the Exchange Value (the "Note Election
Amount").
Valuation of OP Units Allocated to Limited Partners
Each Limited Partner of a Participating Partnership will receive OP Units
with a deemed value equal to the Exchange Value of such Limited Partner's
Partnership Interests. The value of an OP Unit for this purpose will be deemed
to be equal to (i) the average of the closing price of shares of Host common
stock on the NYSE for the 10 trading days ending on the third trading day prior
to the record date for the distribution of SLC common stock to Host shareholders
minus (ii) the amount of cash and the estimated value, as determined by Host's
Board of Directors in good faith and in reliance in part upon an opinion of an
independent financial advisor, of the SLC common stock or other property to be
distributed with respect to each share of Host common stock (currently estimated
to aggregate approximately $___ - $____ per share) in connection with the REIT
Conversion. The closing price per share of Host common stock on May 28, 1998 was
$19.4375.
Limited Partners who receive OP Units will receive cash distributions from
their respective Partnerships for all of 1998 and, if the Mergers do not occur
in 1998, any portion of 1999 prior to the Mergers for which period they do not
receive a cash distribution from the Operating Partnership.
No fractional OP Units will be issued. Fractional amounts less than or
equal to 0.50 of an OP Unit will be rounded down to the next whole number and
fractional amounts greater than 0.50 will be rounded up to the next whole number
of OP Units.
68
<PAGE>
FAIRNESS ANALYSIS AND OPINION
Fairness Analysis
The General Partners believe that the terms of the Mergers provide
substantial benefits and are fair to the Limited Partners of each Partnership
and recommend that all Limited Partners consent to the Mergers. The General
Partners base this recommendation primarily on (i) their view that the expected
benefits of the Mergers for the Limited Partners outweigh the risks and
potential detriments of the Mergers to the Limited Partners (see "Background and
Reasons for the Mergers and the REIT Conversion -- Reasons for the Mergers" and
"Risk Factors"), (ii) their view that the value of the OP Units allocable to the
Limited Partners on the basis of the Exchange Value established for each
Partnership represents fair consideration for the Partnership Interests held by
the Limited Partners in each Partnership and is fair to the Limited Partners
from a financial point of view, and (iii) the Fairness Opinion of AAA stating
that (a) the methodologies and underlying assumptions used to determine the
Exchange Value, the Adjusted Appraised Value, the Continuation Value and the
Liquidation Value of each Partnership, including, without limitation, the
assumptions used to determine the various adjustments to the Appraised Values of
the Hotels, are fair and reasonable, from a financial point of view, to the
Limited Partners of each Partnership, and (b) the methodologies used to
determine the value of an OP Unit and to allocate the equity interest in the
Operating Partnership to be received by the Limited Partners of each Partnership
are fair and reasonable to the Limited Partners of each Partnership. See "--
Fairness Opinion."
No Merger is conditioned upon the consummation of any other Merger. The
General Partners have considered this fact in evaluating the fairness of the
Mergers. The General Partners believe that the fairness of the Mergers will not
be materially affected by the presence or absence of any individual Partnership
or by any particular combination of Partnerships and that the Mergers will be
fair to the Limited Partners, individually and as a whole, if they are
consummated with any combination of Participating Partnerships. The General
Partners base this belief primarily on the fact that the consideration to be
paid to the Limited Partners in each individual Partnership has been established
based upon such Partnership's Exchange Value, without regard to any possible
combination of Partnerships.
In reaching the conclusions implicit in the above recommendation, the
General Partners have taken into account the following considerations:
. The General Partners have concluded that the Exchange Value for each
Partnership, which is equal to the greatest of its Adjusted Appraised
Value, Continuation Value and Liquidation Value, represents fair
consideration for the Partnership Interests of the Limited Partners in
the Mergers in relation to such Partnership. The General Partners also
have concluded that the Exchange Value established for the Limited
Partners in each Partnership fairly reflects the value of the assets
held by such Partnership. In addition, the Fairness Opinion supports
these conclusions.
. The General Partners have concluded that the potential benefits of the
Mergers to the Limited Partners, as described under "Background and
Reasons for the Mergers and the REIT Conversion -- Reasons for the
Mergers," outweigh the potential risks and detriments of the Mergers
for the Limited Partners, as described in "Risk Factors."
69
<PAGE>
. The Fairness Opinion, in the view of the General Partners, supports
the fairness of the Mergers, even though it includes qualifications,
limitations and assumptions relating to its scope and other factors
that Limited Partners should consider carefully.
. Host will contribute its wholly owned full-service hotel assets, its
interests in the Hotel Partnerships and its other assets (excluding
its senior living assets) to the Operating Partnership in exchange for
(i) a number of OP Units equal to the number of outstanding shares of
common stock of Host, (ii) preferred partnership interests in the
Operating Partnership corresponding to any shares of Host preferred
stock outstanding at the time of the REIT Conversion and (iii) the
assumption by the Operating Partnership of certain liabilities of
Host. Following these contributions, the Operating Partnership and its
subsidiaries will directly own all of Host's wholly-owned hotels and
all of Host's interests in the Hotel Partnerships and other assets.
Host REIT will not receive any compensation for its services as
general partner to the Operating Partnership following the REIT
Conversion and will benefit from the operations of the Operating
Partnership only to the extent of the distributions received based
upon its percentage interest in the Operating Partnership to the same
extent as the other limited partners. Because Host REIT will share in
the value of the Operating Partnership solely through distributions
and not through any separate compensation structure, the General
Partners believe that this is a factor supporting the fairness of the
Mergers to the Limited Partners.
. The General Partners believe that the value of the consideration to be
received by the Limited Partners of each Partnership in the Mergers is
fair in relation to the value which would be derived by such Limited
Partners under any of the alternatives described under "Background and
Reasons for the Mergers and the REIT Conversion -- Alternatives to the
Mergers," especially since the Exchange Value of each Partnership is
equal to the greatest of the three values -- the Adjusted Appraised
Value, the Continuation Value and the Liquidation Value. The General
Partners do not believe that the sale of any Hotel(s) and liquidation
of the associated Partnership will obtain for Limited Partners of such
Partnership as much value as the value to be received by such Limited
Partners following the Mergers. In addition, while the Continuation
Values of three of the Partnerships, (Atlanta Marquis, MHP and PHLP)
are higher than the Adjusted Appraised Values of such Partnerships,
the General Partners believe that the Mergers provide substantial
benefits to such Limited Partners, including those benefits described
under "Background and Reasons for the Mergers and the REIT Conversion
-- Reasons for the Mergers," especially enhanced liquidity and regular
quarterly cash distributions. The General Partners believe that the
following benefits are of the greatest value and importance to the
Limited Partners of all of the Partnerships:
. Enhanced Liquidity. The Mergers and the REIT Conversion
will offer Limited Partners significantly enhanced
liquidity with respect to their investments in the
Partnerships because, after the expiration of the
Initial Holding Period, Limited Partners will be able to
exercise their Unit Redemption Right at any time,
subject to certain limited exceptions. Host has
approximately 204 million shares of common stock
outstanding and the closing price on the NYSE on May 28,
1998 was $19.4375 per share (reflecting a total common
equity market capitalization of approximately $4
billion). The exercise of the Unit Redemption Right,
however, generally would result in recognition of
taxable income or gain at that time.
. Public Market Valuation. The General Partners believe
that by exchanging interests in their existing, non-
traded limited
70
<PAGE>
partnerships for interests in a publicly traded real
estate company focused primarily on a more diverse and
growing full-service hotel portfolio, the Limited
Partners will have the opportunity to participate in the
recent trend of ownership of real estate through a
publicly traded entity, which, in many instances, has
resulted in market valuations of public real estate
companies in excess of the estimated net asset values of
those companies.
. Regular Quarterly Cash Distributions. The General
Partners expect that the Operating Partnership will make
regular quarterly cash distributions to holders of OP
Units. Host expects that these distributions will be
higher than the estimated 1998 cash distributions of all
Partnerships except MHP and MHP2, and in any event, the
ability to receive distributions quarterly and in
regular amounts would be enhanced.
. Substantial Tax Deferral. The General Partners expect
that Limited Partners of the Participating Partnerships
who do not elect to receive Notes generally should be
able to obtain the benefits of the Mergers while
continuing to defer recognition for federal income tax
purposes of at least a substantial portion, if not all,
of the gain with respect to their Partnership Interests
that otherwise would be recognized in the event of a
liquidation of the Partnership or a sale or other
disposition of its assets in a taxable transaction
(although Limited Partners in Atlanta Marquis,
MHP and PHLP may recognize a relatively modest amount of
ordinary income as the result of required sales of
personal property to a Non-Controlled Subsidiary in
order to facilitate Host REIT's qualification as a
REIT).
. The General Partners believe that the economic terms of the leases of
the Hotels are fair and reasonable from the standpoint of the
Operating Partnership.
The General Partners believe that the factors described above, which
support the fairness of the Mergers to the Limited Partners of the Partnerships,
when weighed against the factors that may be disadvantageous, taken as a whole,
indicate that the Mergers are fair to the Limited Partners of all of the
Partnerships.
Fairness Opinion
AAA, an independent financial advisory firm with substantial real estate
and partnership transaction experience, was engaged by the General Partners to
perform the Appraisals and to render the Fairness Opinion that (i) the
methodologies and underlying assumptions used to determine the Exchange Value,
the Adjusted Appraised Value, the Continuation Value and the Liquidation Value
of each Partnership, including, without limitation, the assumptions used to
determine the various adjustments to the Appraised Values of the Hotels, are
fair and reasonable, from a financial point of view, to the Limited Partners of
each Partnership and (ii) the methodologies used to determine the value of an
OP Unit and to allocate the equity in the Operating Partnership to be received
by the Limited Partners of each Partnership are fair and reasonable to the
Limited Partners of each Partnership.
71
<PAGE>
The Fairness Opinion is addressed to each Partnership and it may be relied upon
by each of the Limited Partners of the Partnerships. The full text of the
Fairness Opinion, which contains a description of the assumptions and
qualifications applicable to the review and analysis by AAA, is set forth in
Appendix B to this Consent Solicitation and should be read in its entirety. The
material assumptions and qualifications to the Fairness Opinion are summarized
below, although this summary does not purport to be a complete description of
the various inquiries and analyses undertaken by AAA in rendering the Fairness
Opinion. Arriving at a fairness opinion is a complex analytical process not
necessarily susceptible to partial analysis or amenable to summary description.
For a more complete description of the assumptions and qualifications that limit
the scope of the Fairness Opinion, see "--Qualifications to Fairness Opinion"
and "-- Assumptions" below.
Although the General Partners advised AAA that certain assumptions were
appropriate in their view, the General Partners imposed no conditions or
limitations on the scope of the investigation by AAA or the methods and
procedures to be followed by AAA in rendering the Fairness Opinion. The fees and
expenses of AAA will be treated as a Merger Expense and will be paid by the
Operating Partnership. In addition, the General Partners have agreed to
indemnify AAA against certain liabilities. See "-- Compensation and Material
Relationships."
Qualifications to Fairness Opinion. In the Fairness Opinion, AAA
specifically states that it did not: (a) specifically consider other
methodologies for allocation of the OP Units, (b) address or conclude that other
methodologies for allocation of the OP Units to the Partnerships might not have
been more favorable to the Limited Partners in certain of the Partnerships, (c)
negotiate with the Partnerships or Host, (d) participate in establishing the
terms of the Mergers, (e) provide an opinion as to the terms and conditions of
the Mergers other than those explicitly stated in the Fairness Opinion, (f) make
any independent review of the capital expenditure estimates set forth in the
Engineering Study, or (g) make any estimates of Partnership contingent
liabilities.
In connection with preparing the Fairness Opinion, AAA was not engaged to,
and consequently did not, prepare any written report or compendium of its
analysis for internal or
72
<PAGE>
external use beyond the analysis set forth in Appendix B. AAA will not deliver
any additional written opinion of the analysis, other than to update the written
opinion if requested by the Operating Partnership.
Experience of AAA. AAA is the world's largest independent valuation
consulting firm and is regularly and continually engaged in the valuation of
commercial real estate and businesses and their securities in connection with
tender offers, mergers and acquisitions, recapitalizations and reorganizations,
divestitures, employee stock ownership plans, leveraged buyout plans, private
placements, limited partnerships, estate and corporate matters, other financial
advisory matters and other valuation purposes.
AAA was selected because of its experience in the valuation of businesses
and their securities in connection with tender offers, mergers and acquisitions,
recapitalizations and reorganizations, including transactions involving hotel
partnerships. In addition, Host and its affiliates have previously engaged AAA
to provide appraisals and fairness opinions in connection with other
transactions. The General Partners considered several other firms for purposes
of performing the appraisals and rendering the Fairness Opinion but selected AAA
for the foregoing reasons.
Summary of Materials Considered and Investigation Undertaken. As a basis
for rendering for Fairness Opinion, AAA has made such reviews, studies and
analyses as it deemed necessary and pertinent in order to provide it with a
reasonable basis for the Fairness Opinion, including, but not limited to, the
following: (i) reviewed the transaction documents and SEC reporting and/or
filing documents, including drafts of the Form S-4 for the Mergers; (ii)
provided the Market Value of each Hotel owned by each Partnership in a separate
short form appraisal report and each such report was reviewed and certified by
an MAI appraiser as to its preparation in accordance with the requirements of
the Standards of Professional Practice of the Appraisal Institute and the
Uniform Standards of Professional Appraisal Practice of the Appraisal
Foundation; as part of the Appraisals, AAA reviewed historical operating
statements, 1998 budget and year-to-date results, and other financial
information as it deemed necessary as a basis for the Fairness Opinion and the
Appraisals also considered market transactions of similar lodging properties as
appropriate as a basis for the Market Value of each Hotel; (iii) reviewed the
methodologies used by each of the General Partners in their determination of the
Exchange Value of each Partnership, including the nature and amount of all
adjustments to the Appraised Values in determining such Exchange Values; AAA
reviewed and tested for the fairness and reasonableness of all adjustments as
well as for consideration of all adjustments deemed to be appropriate by AAA;
(iv) reviewed the methodologies used by each of the General Partners in their
determination of the value of an OP Unit and the allocation of the equity
interest in the Operating Partnership to be received by the limited partners of
each Partnership, and AAA reviewed and tested for the fairness and
reasonableness of the methods and measurements made by the General Partners; (v)
reviewed the General Partners' determination of the Liquidation Value of each
Partnership, and AAA reviewed and tested for the fairness and reasonableness of
all adjustments proposed by the General Partners, as well as for consideration
of all adjustments deemed appropriate by AAA; (vi) provided an estimate of the
Continuation Value of each Partnership based upon the estimated present value of
expected benefits to be received by each limited partner interest as though the
Mergers did not occur and each Partnership's assets were sold within a twelve
year period; AAA, as part of its analysis and review, determined appropriate
rates of growth in house profit or net operating income, as well as reviewed
other key variables affecting partnership cash flows and other
economic/financial factors affecting the Partnerships' expected operations and
results; (vii) reviewed the terms of the ground leases of the Hotels and the
partnership agreement of each Partnership; (viii) reviewed audited and unaudited
historical income statements, balance sheets and statements of sources and uses
of funds of each Partnership and Host and pro forma financial information for
Host REIT; (ix) reviewed audited and unaudited historical operating statements
of each Hotel, as well as current operating statements and budgets; (x)
conducted real estate valuation and financial due diligence with respect to the
Partnerships and their underlying assets, liabilities and equity; (xi) reviewed
internal Marriott International, Host and Partnership financial analyses and
other internally generated data for each Hotel; and (xii) discussed all of the
foregoing
73
<PAGE>
information, where appropriate, with management of Marriott International, Host
and the Partnerships, and their respective employees.
Assumptions. In rendering its opinion, AAA relied, without independent
verification, on the accuracy and completeness in all material respects of
certain relevant publicly available information and information provided to AAA
by the Host and the Hotels AAA assured that all information furnished by Host,
the Hotels and the Partnerships and their representatives, upon which AAA
relied, presented an accurate description in all material respects of the
current and prospective status of the Hotels and the Partnerships from an
operational and financial point of view. AAA also noted that the Fairness
Opinion was based upon financial, economic, market and other considerations as
they existed and could be evaluated on the date thereof.
Conclusions. AAA concluded that, based upon and subject to its analysis
and assumptions and limiting conditions, and as of the date of the Fairness
Opinion: (i) the methodologies and underlying assumptions used to determine the
Exchange Value, the Adjusted Appraised Value, the Continuation Value and
Liquidation Value of each Partnership, including, without limitation, the
assumptions used to determine the various adjustments to the Appraised Values of
the Hotels, are fair and reasonable, from a financial point of view, to the
Limited Partners of each Partnership, and (ii) the methodologies used to
determine the value of an OP Unit and to allocate the equity interest in the
Operating Partnership to be received by the Limited Partners of each Partnership
are fair and reasonable to the Limited Partners of each Partnership.
Summary of Methodology. AAA evaluated each Partnership's Hotel(s) based
upon the income capitalization approach and broadly applied the sales comparison
approach. Appraisers typically use up to three approaches in valuing real
property: the cost approach, the income capitalization approach and the sales
comparison approach. The type and age of a property, market
74
<PAGE>
conditions and the quantity and quality of data affect the applicability of each
approach in a specific appraisal situation. Since the Hotels are viable,
existing, ongoing enterprises with established market presence, work force and
management team, the cost approach was not considered by AAA in the Appraisals.
The income capitalization approach estimates a Hotel's capacity to produce
income through an analysis of the market, operating expenses and net income. Net
income may then be processed into a value through either (or a combination of)
two methods: direct capitalization or discounted cash flow analysis. The sales
comparison approach looks at similar properties which have recently sold or are
currently offered for sale in the market and are analyzed and compared with the
Hotel being valued. For further description of the methodology employed by AAA
in the Appraisals, see "Determination of Exchange Values and Allocation of
OP Units."
75
<PAGE>
Compensation and Material Relationships. AAA has been paid a fee of
$________ for its services as described herein, including the Appraisals and
preparing to deliver the Fairness Opinion. In addition, AAA will be reimbursed
for all reasonable out-of-pocket expenses, including legal fees, and will be
indemnified against certain liabilities, including certain liabilities under the
securities laws. The fee was negotiated between Host, the General Partners and
AAA. Payment of the fee to AAA is not dependent upon completion of the Mergers.
AAA has been previously engaged by Host and its affiliates to provide fairness
opinions in connection with other transactions.
76
<PAGE>
THE MERGERS AND THE REIT CONVERSION
General
Limited Partners of each Partnership are being asked to approve the
acquisition of their Partnership by the Operating Partnership through the merger
of their Partnership with a Merger Partnership as part of the REIT Conversion.
In each Merger, the Participating Partnership will survive, and each Limited
Partner thereof will receive OP Units with a deemed value equal to the Exchange
Value of his Partnership Interests (or, if the Limited Partner elects to tender
such OP Units to the Operating Partnership, a Note in a principal amount equal
to the Note Election Amount of his Partnership Interests). If the REIT
Conversion, including the Mergers and the Blackstone Acquisition, is consummated
as contemplated, the Operating Partnership will acquire and initially own, or
have controlling interests in, approximately 120 full-service Hotels located
throughout the United States and Canada, containing approximately 57,000
rooms and operating primarily under the Marriott, Ritz-Carlton, Four Seasons,
Swissotel and Hyatt brand names. The Operating Partnership will be one of the
largest owners of full-service hotels in the United States.
The REIT Conversion
The transactions summarized below collectively constitute the REIT
Conversion. If the required approvals for the various transactions are obtained
and other conditions to the different steps in the REIT Conversion are satisfied
or waived, these transactions are expected to occur at various times prior to
the end of 1998 (or as soon thereafter as practicable). The Mergers of the
Participating Partnerships are expected to occur at the final stage of the REIT
Conversion.
. Contribution of Host Lodging Assets to Operating Partnership. As a
preliminary step, at various times during 1998, Host will contribute
its wholly owned full-service hotel assets, its interests in the Hotel
Partnerships and its other assets (excluding its senior living assets)
to the Operating Partnership in exchange for (i) a number of OP Units
equal to the number of outstanding shares of common stock of Host at
the time of the REIT Conversion, (ii) preferred partnership interests
in the Operating Partnership corresponding to any shares of Host
preferred stock outstanding at the time of the REIT Conversion and
(iii) the assumption by the Operating Partnership of certain
liabilities of Host. Following these contributions, the Operating
Partnership and its subsidiaries will directly own all of Host's
wholly owned hotels and all of Host's interests in the Hotel
Partnerships and Host's other assets (excluding its senior living
assets).
. Debt Refinancing. Prior to or concurrently with the initial
contribution of assets by Host to the Operating Partnership, Host
expects to refinance $1.55 billion of outstanding public bonds through
offers to purchase such debt securities for cash and a concurrent
solicitation of consents to amend the terms of the debt securities to
permit the transactions constituting the REIT Conversion. Host expects
to obtain the funds for this Bond Refinancing primarily from the
issuance of new debt securities by the Operating Partnership, the
issuance of preferred stock by Host or a new $1.25 billion unsecured
New Credit Facility for the Operating Partnership, or any combination
thereof. The proceeds of the New Credit Facility also will be used to
repay the $22 million of outstanding indebtedness under the existing
secured credit facility of HMC Capital Resources Holding Corp., a
subsidiary of Host. See "Business and Properties -- Indebtedness."
. Treatment of Convertible Preferred Securities. Prior to the Closing
Date, Host will seek the consent of holders of the $550 million of
outstanding Convertible Preferred Securities to the REIT Conversion.
In the REIT Conversion, the Operating Partnership will assume primary
liability for repayment of the convertible subordinated debentures of
Host underlying the Convertible Preferred Securities. As the successor
to Host, Host REIT also will be liable on the debentures and the
debentures
77
<PAGE>
will become convertible into Common Shares, but the Operating
Partnership will have primary responsibility for payment of the
debentures, including all costs of conversion. Upon conversion by a
Convertible Preferred Securities holder, the Operating Partnership
will acquire Common Shares from Host REIT in exchange for an equal
number of OP Units and distribute the Common Shares to the Convertible
Preferred Securities holder. As a result of the REIT Conversion,
including the distribution of SLC common stock and cash to Host
shareholders and the Blackstone Entities in the merger of Host into
Host REIT, the conversion ratio of the Convertible Preferred
Securities will be adjusted pursuant to the anti-dilution provisions
of the convertible debentures. See "Business and Properties --
Indebtedness."
. The Mergers. On the Closing Date, each Participating Partnership will
merge with a Merger Partnership. The Participating Partnerships will
be the surviving entities of the Mergers and will continue in
existence as direct or indirect subsidiaries of the Operating
Partnership. In the Mergers, each Limited Partner will receive a
number of OP Units with a deemed value equal to the Exchange Value of
his respective Partnership Interests. If, at the time of the vote on
the Merger of his Partnership, a Limited Partner elects to receive a
Note instead of OP Units, such Limited Partner will, upon receipt of
his OP Units, tender such OP Units in exchange for a Note with a
principal amount equal to the Note Election Amount of his Partnership
Interest. Partnerships that do not participate in a Merger will
continue as separate partnerships, but the Operating Partnership may
contribute some or all of the interests in certain of these
Partnerships (such as Atlanta Marquis, Desert Springs, Hanover, MHP
and MHP2) that it receives from Host and its subsidiaries to a Non-
Controlled Subsidiary.
. Restructuring of the Private Partnerships. The Operating Partnership
will acquire the partnership interests from unaffiliated partners of
certain Private Partnerships in exchange for OP Units and,
accordingly, will own all of the interests in those Private
Partnerships. For those Private Partnerships in which the unaffiliated
partners have not elected to exchange their interests for OP Units,
(i) the Operating Partnership will be a partner in the partnership if
the unaffiliated partners consent to a Lease of the partnership's
Hotel(s) to a Lessee or (ii) if the requisite consents to enter into
a Lease are not obtained, the Operating Partnership may transfer its
interest in such partnership to a Non-Controlled Subsidiary.
. The Blackstone Acquisition. On the Closing Date, the Operating
Partnership will acquire from the Blackstone Entities ownership of, or
controlling interests in, twelve hotels and two mortgage loans, one
secured by one of the acquired hotels and one secured by an additional
hotel. In addition, Host will acquire a 25% interest in the Swissotel
management company from the Blackstone Entities, which Host will
transfer to SLC in connection with the distribution of SLC common
stock to Host shareholders and the Blackstone Entities. In exchange
for these assets, the Operating Partnership will issue approximately
43.7 million OP Units, assume or repay debt and make cash payments
totaling approximately $862 million and distribute approximately ___%
of the shares of SLC common stock to the Blackstone Entities. Fifty
percent of the OP Units issuable in the Blackstone Acquisition will
become redeemable on July 1, 1999, an additional 25% will become
redeemable on October 1, 1999, and the balance will become redeemable
on January 1, 2000. Holders of OP Units issuable in the Blackstone
Acquisition will have registration rights under a shelf registration
statement with respect to REIT Shares received in connection with the
exercise of their redemption rights.
In connection with the Blackstone Acquisition, Host agreed to cause a
person designated by Blackstone Real Estate Acquisitions L.L.C.
("Blackstone") to be appointed to serve as a director of Host (or a
trustee of Host REIT following the REIT Conversion) and to continue to
include a person designated by Blackstone in the slate of directors or
trustees nominated by the board of directors or trustees for so long
as Blackstone and its affiliates own at least 5% of the outstanding OP
Units. Mr. Schreiber has been appointed to be the initial Blackstone
designee. If the Blackstone Acquisition does not close, the Blackstone
designee will resign. Host also agreed that, if more than two
directors of SLC also are directors of Host REIT, Blackstone will be
entitled to designate a director of SLC. The Operating Partnership
does not expect that there will be more than two common directors of
SLC and Host REIT.
Host also agreed to certain limitations on sales and refinancing of
the properties acquired in the Blackstone Acquisition lasting for five
years after the REIT Conversion for 50% of the properties and for an
additional five years for the remaining properties.
. Contribution of Assets to Non-Controlled Subsidiaries. The Operating
Partnership will organize the Non-Controlled Subsidiaries to hold
various assets contributed by Host and its subsidiaries to the
Operating Partnership, the direct ownership of which by the Operating
Partnership would jeopardize Host REIT's status as a REIT. These
assets primarily will consist of partnership or other interests in
hotels which are not leased and certain international hotels in which
Host owns interests. In exchange for the contribution of these assets
to the Non-Controlled Subsidiaries, the Operating Partnership will
receive nonvoting common stock representing 95% of the total economic
interests of the Non-Controlled Subsidiaries. In addition, the
Operating Partnership and, prior to the Mergers (assuming they
participate in the Mergers), Atlanta Marquis, Hanover, MHP and PHLP,
will sell to a Non-Controlled Subsidiary an estimated $___ million in
value of
78
<PAGE>
personal property associated with certain Hotels for cash that has
been contributed or loaned to the Non-Controlled Subsidiary by the
Operating Partnership. The Operating Partnership could not lease this
personal property to the Lessees without potentially jeopardizing Host
REIT's qualification as a REIT. The Non-Controlled Subsidiary will
lease such personal property to the applicable Lessees. One or more
affiliates of Host will acquire all of the voting common stock
representing the remaining 5% of the total economic interests (and
100% of the control) of each Non-Controlled Subsidiary.
. Leases of Hotels. The Operating Partnership, its subsidiaries and its
controlled partnerships, including the Partnerships, will lease
virtually all of their Hotels to the Lessees pursuant to the Leases.
See "Business and Properties -- The Leases." The leased Hotels will be
operated by the Lessees under their existing brand names pursuant to
their existing Management Agreements, which will be assigned to the
Lessees for the terms of the applicable Leases but under which the
Operating Partnership will remain obligated. See "Business and
Properties -- The Management Agreements."
. Host REIT Merger and Shareholder Distribution. Host will merge into
Host REIT upon obtaining shareholder approval of the merger. Pursuant
to the merger agreement, Host shareholders will receive, for each
share of Host common stock, one Host REIT Common Share, a fraction of
a share of common stock of SLC and an amount of cash to be determined.
The aggregate value of the SLC common stock and cash to be distributed
to Host shareholders is currently estimated to be approximately $400
to $550 million. The actual amount of the distribution will be based
upon the estimated amount of accumulated earnings and profits of Host
as of the last day of its taxable year ending on or immediately
following the Closing Date. Following the distribution, SLC will own
the senior living assets of Host, which are expected to consist of 31
retirement communities, a 25% interest in the Swissotel management
company acquired from the Blackstone Entities and controlling
interests in the Lessees.
79
<PAGE>
Following the REIT Conversion, assuming the Full Participation Scenario,
the organizational structure of Host REIT will be as follows:
[ORGANIZATIONAL STRUCTURE OF HOST REIT APPEARS HERE]
(1) Immediately following the distribution of SLC common stock to Host's
shareholders and the Blackstone Entities and the merger of Host into Host
REIT, all of the public shareholders of Host REIT (and the Blackstone
Entities) will be the shareholders of SLC. The common ownership of the two
public companies, however, will diverge over time.
(2) Represents Limited Partners and others who receive OP Units and not Notes;
excludes Host and its subsidiaries.
(3) The Operating Partnership will own all or substantially all of the equity
interests in the Participating Partnerships, certain Private Partnerships
and other Host subsidiaries that own Hotels, both directly and through other
direct or indirect, wholly owned subsidiaries of the Operating Partnership
or Host REIT. Host will contribute its partial equity interests in the Non-
Participating Partnerships and those Private Partnerships whose partners
have not elected to exchange their interests for OP Units to the Operating
Partnership, and the Operating Partnership will either hold such partial
interests or contribute them to the Non-Controlled Subsidiaries.
80
<PAGE>
The Mergers
Issuance of OP Units or Notes. If Limited Partners holding the requisite
percentage of outstanding Partnership Interests in a Partnership vote to approve
a Merger, then such Participating Partnership will merge with a Merger
Partnership, with the Participating Partnership being the surviving entity.
Each Limited Partner of the Participating Partnership will receive OP Units with
an aggregate deemed value equal to the Exchange Value of such Limited Partner's
Partnership Interests. The deemed value of an OP Unit and the Exchange Value of
each Partnership have been established in the manner described in detail under
"Determination of Exchange Values and Allocation of OP Units."
At the time they vote on the Merger of their Partnership, Limited Partners
can elect to tender the OP Units they will receive in the Merger (if their
Partnership approves the Merger) in exchange for a Note. The principal amount of
the Note received by a Limited Partner will be equal to the Note Election Amount
of his Partnership Interest, which will be less than the value of the OP Units
that such Limited Partner otherwise would have received (because the Note
Election Amount is less than the Exchange Value for each Partnership). Holders
of Notes will receive interest payments on a semi-annual basis on June 15 and
December 15 of each year. Such election will, however, cause a Limited Partner
to recognize gain at the time he receives the Note. See "Description of the
Notes" and "Federal Income Tax Considerations -- Tax Treatment of Limited
Partners who Exercise Their Right to Make the Note Election."
No fractional OP Units will be issued by the Operating Partnership in the
Mergers. In lieu thereof, fractional amounts less than or equal to 0.50 of a OP
Unit will be rounded down to the next whole number of OP Units and fractional
amounts greater than 0.50 will be rounded up to the next whole number of OP
Units.
For a description of the OP Units, including restrictions on transfer and
the Unit Redemption Right, see "Description of OP Units."
1998 Distributions. Limited Partners who receive OP Units will receive
cash distributions from their respective Partnerships for all of 1998 and, if
the Mergers do not occur in 1998, any portion of 1999 prior to the Mergers for
which they do not receive a cash distribution from the Operating Partnership.
Limited Partners who receive a Note will participate in the same distributions
from the Partnerships as Limited Partners who receive OP Units but will not
receive any distributions from the operating partnership.
Vote Required for Merger. In the case of Atlanta Marquis, Chicago Suites,
MDAH and PHLP, the approval required for each Merger is a majority of the
outstanding limited partner interests in such Partnership. Host is entitled to
vote its limited partner interests in Atlanta Marquis and PHLP on the Mergers,
but Host is not entitled to vote its limited partner interest in MDAH, and it
does not own a limited partner interest in Chicago Suites. In the case of Desert
Springs, Hanover, MHP and MHP2, a majority of the limited partner interests held
by Limited Partners (a "quorum") must be voted on the Merger (either for,
against or abstain) for the vote to be recognized and a majority of the quorum
must vote for the Merger to approve it. Host is required to vote its limited
partner interests in such Partnerships (except for Desert Springs, in which Host
does not own a limited partner interest) in the same manner as the majority of
the other limited partner interests are voted. The approval of the Merger by the
requisite percentage of limited partner interests of a Partnership will cause
the Partnership to participate in the Merger and will bind all Limited Partners
of such Partnership, including Limited Partners who voted against or abstained
from voting with respect to the Merger. See "Voting Procedures -- Required Vote
and Other Conditions."
Amendments to Partnership Agreements. In order to consummate each Merger
as currently proposed, there are a number of amendments required to be made to
the partnership agreements of the Partnerships. A vote in favor of a Merger
will be deemed to constitute consent to such amendments. The effectiveness of
such amendments will be conditioned upon the Partnership's participation in a
Merger. The required amendments include (i) permitting the Partnerships to
81
<PAGE>
enter into the Leases with the Lessees; (ii) reducing to one the number of
appraisals of the fair market value of a Partnership's Hotel(s) that the
Partnership must provide to the Limited Partners before the General Partner can
cause a Partnership to sell its assets to the General Partner or an affiliate;
and (iii) other amendments required to delete obsolete references, reflect the
passage of time or allow the transactions constituting the Mergers or otherwise
necessary or desirable to consummate the Mergers and the REIT Conversion.
No Indemnification. Each Partnership will make certain representations and
warranties to the Operating Partnership regarding itself and its Hotels in
connection with its Merger. These representations and warranties will not
survive the closing of the Merger. In addition, neither the Partnerships nor
the General Partners will be required to indemnify the Operating Partnership for
inaccuracies in such representations and warranties.
Closing Adjustments. The General Partners currently expect that the
Adjusted Appraised Value of each Partnership will be greater than either the
Continuation Value or Liquidation Value of such Partnership (except for Atlanta
Marquis and PHLP, where the Continuation Value is expected to be the greatest of
the three values), which means that the Exchange Values of such Partnerships
(other than Atlanta Marquis and PHLP) will be equal to their Adjusted Appraised
Values. The Adjusted Appraised Values of the Partnerships may increase or
decrease as a result of adjustments made prior to the Closing Date to reflect
(i) the amount of lender and capital expenditure reserves and the amount of
deferred management fees, (ii) any amounts actually expended by a Partnership
after the Initial Valuation Date to perform deferred maintenance previously used
in determining the estimated Exchange Value of such Partnership and (iii) any
changes in the Partnership's other reserves, such as for litigation expenses and
indemnification costs and for any revised estimates of transfer and recordation
taxes and fees. See "Determination of Exchange Values and Allocation of OP
Units."
Effective Time of the Mergers. The Effective Time will be the time that
the merger of Host into Host REIT becomes effective, which is expected to be the
final step in the REIT Conversion. This is expected to occur on or about
December 31, 1998, subject to satisfaction or waiver of the conditions to the
REIT Conversion. There is no assurance that the Effective Time will occur before
January 1, 1999, and if the Effective Time occurs on or after January 1, 1999,
the effectiveness of Host REIT's election of REIT status could be delayed until
January 1, 2000, which would result in Host REIT continuing to pay
corporate-level income taxes in 1999 and could cause the Blackstone Acquisitions
not to be consummated.
Conditions to Consummation of the Mergers
Participation by each Partnership in a Merger is subject to the
satisfaction or waiver of certain conditions, including, among other things,
consent of (i) Limited Partners holding the requisite percentage of Partnership
Interests in such Partnership (as described above) and (ii) certain lenders and
other third parties. Each Merger also is contingent upon the consummation of the
remainder of the REIT Conversion.
Conditions to Consummation of the REIT Conversion
The consummation of the REIT Conversion is subject to the satisfaction or
waiver of a number of conditions, including the conditions set forth below.
. Host Shareholder Approval. Shareholders owning a majority of the
outstanding shares of Host's common stock shall have approved the
merger of Host into Host REIT.
. REIT Qualification. Host's Board of Directors shall have determined,
based upon the advice of counsel, that Host REIT can elect to be
treated as a REIT for federal income tax purposes effective no later
than the first full taxable year commencing after the REIT Conversion.
. NYSE Listing. The Common Shares shall have been approved for listing
on the NYSE.
82
<PAGE>
. Debt Refinancing. The Bond Refinancing shall have been completed, the
New Credit Facility shall have been obtained and the requisite
percentage of holders of the Convertible Preferred Securities and
other lenders to Host shall have consented to the REIT Conversion.
. Consents of Partners of Other Partnerships. The outside partners in a
sufficient number of Private Partnerships shall have elected to
exchange their interests for OP Units or consented to a lease of one
or more Hotels of their Private Partnerships so that Host REIT will be
able to qualify as a REIT.
. Third-Party Consents. Host shall have received all required third-
party consents to the REIT Conversion, including consents of lenders,
Marriott International and certain of its subsidiaries and ground
lessors, and consents to transfer material operating licenses and
permits and the Management Agreements.
. No Adverse Tax Legislation. The United States Congress shall not have
enacted legislation, or proposed legislation with a reasonable
possibility of being enacted, that would have the effect of (i)
substantially impairing the ability of Host REIT to qualify as a REIT
or the Operating Partnership to qualify as a partnership or (ii)
substantially increasing the federal tax liabilities of Host REIT
resulting from the REIT Conversion. The determination that this
condition has been satisfied will be made by Host, in its sole and
absolute discretion.
Right to Exclude Partnerships
The Operating Partnership has reserved the right to exclude any Partnership
from participation in the REIT Conversion (even if the requisite percentage of
Limited Partners has voted to approve the Merger of the Partnership and each of
the other conditions to such Merger has been satisfied or waived) if the
Operating Partnership determines, in its sole discretion, that such exclusion is
in the best interests of the Operating Partnership. Any such Partnership that
is so excluded shall be treated as a Non-Participating Partnership, as described
below, and its Limited Partners will continue to hold their respective
Partnership Interests.
Extension, Amendment and Termination of the Mergers
The Operating Partnership and the General Partners reserve the right,
subject to limitations under applicable law, to (i) amend the terms of any
Merger or the REIT Conversion by giving written notice of such amendment to the
Limited Partners, (ii) extend the Solicitation Period or delay consummation of
any Merger, (iii) terminate the solicitation of consents pursuant to this
Consent Solicitation as to any or all of the Partnerships, and (iv) terminate
the REIT Conversion or any Merger whether or not all of the conditions thereto
have been satisfied or waived. If the terms of any Merger or the REIT
Conversion are amended in a manner determined by the Operating Partnership and
the General Partners to constitute a material adverse change with respect to any
Limited Partner, they will promptly disclose such amendment in a manner
reasonably calculated to inform the applicable Limited Partners of such
amendment and will extend the Solicitation Period for an appropriate time period
if the Solicitation Period would otherwise expire during such extension period.
If an event occurs or any matter is brought to the attention of the
Operating Partnership that, in its judgment, materially affects, whether
adversely or not, one or more of the Partnerships, any Merger or the REIT
Conversion, the Operating Partnership reserves the right (but does not have the
obligation) to terminate the solicitation of consents with respect to the Merger
of any Partnership, decide not to consummate the REIT Conversion, modify the
terms of REIT Conversion or any Merger or take such other actions as may be in
its best interests.
83
<PAGE>
Effect of REIT Conversion on Non-Participating Partnerships
Each Non-Participating Partnership will continue to operate as a separate
legal entity with its own assets and liabilities and with its current Limited
Partners. There will be no change in its investment objectives, policies or
restrictions or the fees or distributions payable to the applicable General
Partner or Manager. Each Non-Participating Partnership will remain subject to
the terms of its current partnership agreement.
Expenses
The Operating Partnership and the Partnerships will incur substantial costs
and expenses in connection with structuring and consummating the Mergers,
including legal fees, accounting fees and other costs and expenses associated
with these transactions.
The Merger Expenses, whether or not the Mergers are approved by the
Partnerships, will be borne as follows: If some or all of the Mergers are
consummated, the Merger Expenses of the Participating Partnerships would be
borne by the Operating Partnership. Transfer and recordation taxes and fees
incurred in connection with any Merger will be paid by the Operating
Partnership, but the amount of such taxes will be taken into account in
determining the Exchange Value for the applicable Partnership (except Atlanta
Marquis and PHLP, which have an Exchange Value equal to their respective
Continuation Values). If a Merger is rejected, then the General Partner of such
Partnership would pay such Partnership's share of the Merger Expenses. The REIT
Conversion Expenses, other than the Merger Expenses, will be borne by the
Operating Partnership.
Assuming the Full Participation Scenario, the expenses of the Mergers are
estimated to be as follows:
<TABLE>
<CAPTION>
Merger Expenses
<S> <C>
Information Agent $
Printing, postage and brochures...................................
Travel, public relations, graphics, etc...........................
Transfer fees, taxes and title....................................
Legal fees and expenses...........................................
Appraisals (including fees and expenses)..........................
Fairness Opinion (including fees and expenses)....................
Environmental and Engineering (including fees and expenses).......
Accounting fees and expenses......................................
----------
Total Merger Expenses.......................................... $
==========
</TABLE>
Accounting Treatment
The contribution by Host of its assets (other than its senior living
assets) to the Operating Partnership in exchange for OP Units and the subsequent
contributions by the Operating Partnership of certain of such assets to the Non-
Controlled Subsidiaries will be accounted for at Host's historical (carryover)
basis. The acquisition of the Hotel Partnerships in exchange for OP Units and
the Blackstone Acquisition will be accounted for as purchases.
84
<PAGE>
BUSINESS AND PROPERTIES
BUSINESS OF THE OPERATING PARTNERSHIP
Host REIT and the Operating Partnership have been formed primarily to
continue, in an UPREIT structure the hotel real estate ownership business
currently conducted by Host. The primary business objectives of Host REIT and
the Operating Partnership will be to (i) achieve long-term sustainable growth in
Funds From Operations per OP Unit or Common Share, (ii) increase asset values by
improving and expanding the initial Hotels, as appropriate, (iii) acquire
additional existing and newly developed upscale and luxury full-service hotels
in targeted markets, (iv) develop and construct upscale and luxury full-service
hotels and (v) potentially pursue other real estate investments. Host REIT will
operate as a self-managed and self-administered REIT and its operations will be
conducted solely through the Operating Partnership and its subsidiaries.
Following the REIT Conversion, the Hotels will consist of approximately 120
hotels representing approximately 57,000 rooms, located throughout the United
States and Canada.
Host REIT will be one of the largest hotel REITs in the United States. The
Hotels are generally operated under the Marriott or Ritz-Carlton brand name and
managed by subsidiaries of Marriott International and other companies. The
Marriott and Ritz-Carlton brand names are among the most respected and widely
recognized brand names in the lodging industry. Subsequent to the REIT
Conversion, the Hotels will be leased by the Operating Partnership to the
Lessees and will be managed on behalf of the Lessees by subsidiaries of Marriott
International and other companies (the "Managers").
Host REIT will be the sole general partner of the Operating Partnership and
will manage all aspects of the business of the Operating Partnership. This will
include decisions with respect to (i) sales and purchases of hotels, (ii) the
financing of the hotels, (iii) the leasing of the hotels and (iv) capital
expenditures for the hotels. Host REIT will be managed by its Board of
Trustees and will have no employees who are not also employees of the
Operating Partnership.
Under current federal income tax law, REITs are not permitted to derive
revenues directly from the operations of hotels. Therefore, the Operating
Partnership will lease the Hotels, through its subsidiaries, to the Lessees
under the Leases. See "-- The Leases" below. The Lessees will pay rent to the
Operating Partnership generally equal to a specified Base Rent plus, to the
extent it would exceed Base Rent, Percentage Rent. The Lessees will operate the
Hotels pursuant to the Management Agreements with the Managers. Each of the
Management Agreements provides for certain base and incentive management fees,
plus reimbursement of certain costs, as further described below. See "-- The
Management Agreements." Such fees will be the obligation of the Lessees and not
the Operating Partnership (although the obligation to pay such fees could
adversely affect the ability of the Lessees to pay the required rent to the
Operating Partnership).
The Leases, through the Percentage Rent provisions, are designed to allow
the Operating Partnership to participate in any growth in room sales at the
Hotels above specified levels, which management expects can be achieved through
increases in room rates and occupancies. Although the economic trends affecting
the hotel industry will be the major factor in generating growth in lease
revenues, the abilities of the Lessees and the Managers will also have a
material impact on future sales growth.
In addition to external growth generated by new acquisitions, the Operating
Partnership intends to carefully and periodically review its portfolio to
identify opportunities to selectively
85
<PAGE>
enhance existing assets to improve operating performance. The Operating
Partnership's Leases will provide the Operating Partnership with the right to
approve and finance major capital improvements.
GENERAL
The Company's primary focus is on the acquisition of upscale and luxury
full-service hotel lodging properties. Since the beginning of 1994 through
May 29, 1998, the Company has acquired 74 full-service hotels representing more
than 34,000 rooms for an aggregate purchase price of approximately $3.5 billion.
Based upon data provided by Smith Travel Research, the Company believes that its
full-service hotels consistently outperform the industry's average occupancy
rate by a significant margin and averaged 78.4% occupancy for 1997 compared to a
71.1% average occupancy for competing hotels in the upscale and luxury full-
service segment of the lodging industry, the segment which is most
representative of the Company's full-service hotels.
The upscale and luxury full-service segments of the lodging industry are
benefiting from a favorable supply and demand relationship in the United States,
especially in the principal sub-markets in which the Company operates,
considering hotels of similar size and quality. Management believes that demand
increases have primarily resulted from a strong domestic economic environment
and a corresponding increase in business travel. In spite of increased demand
for rooms, the room supply growth rate in the full-service segment has not
similarly increased. Management believes that this slower increase in the supply
growth rate in the full-service segment is attributable to many factors,
including (i) the limited availability of attractive building sites for full-
service hotels, (ii) the lack of available financing for new full-service hotel
construction and (iii) the availability of existing full-service properties for
sale at a discount to their replacement cost. The relatively high occupancy
rates of the Company's hotels, along with increased demand for full-service
hotel rooms, have allowed the Managers of the Company's hotels to increase
average daily room rates by selectively raising room rates and by replacing
certain discounted group business with higher-rate group and transient business.
As a result, on a comparable basis, room revenue per available room ("REVPAR")
for the Company's full-service properties increased approximately 12.6% in 1997.
The Company expects this supply/demand imbalance in the upscale and luxury full-
service segments to continue, which should result in improved REVPAR at its
hotel properties in the near term; however, there can be no assurance that such
supply/demand imbalance will continue or that REVPAR will continue to improve.
BUSINESS OBJECTIVES
The Operating Partnership's primary business objective is to maximize its
cash available for distribution and enhance its value by:
. Acquiring additional existing upscale and luxury full-service hotels,
including Marriott and Ritz-Carlton hotels and other hotels operated by
leading management companies such as Four Seasons, Hyatt and Swissotel,
which satisfy the Operating Partnership's investment criteria, including
entering into joint ventures when the Operating Partnership believes its
return on investment will be maximized by doing so.
. Developing new upscale and luxury full-service hotels, including Marriott
and Ritz-Carlton hotels and other hotels operated by leading management
companies such as Four Seasons, Hyatt and Swissotel, which satisfy the
Operating Partnership's investment criteria, employing transaction
structures which mitigate risk to the Operating Partnership.
86
<PAGE>
. Participating in the growth in sales for each of the hotels through leases
which provide for the payment of rent based upon the lessees' gross hotel
sales in excess of specified thresholds.
. Enhancing existing hotel operations by completing selective capital
improvements which are designed to increase gross hotel sales.
BUSINESS STRATEGY
The Company's primary business strategy is to continue to focus on
maximizing the profitability of its existing full-service hotel portfolio and
acquiring and, in limited cases, constructing, additional high quality, full-
service hotel properties, including controlling interests in joint ventures,
partnerships or other entities holding such hotel properties. Although
competition for acquisitions has increased, the Company believes that the
upscale and luxury full-service segments of the market offer opportunities to
acquire assets at attractive multiples of cash flow and at discounts to
replacement value, including underperforming hotels which can be improved by
conversion to the Marriott or Ritz-Carlton brands. The Company believes that
the upscale and luxury full-service segment is very promising because:
. There is a limited supply of new upscale and luxury full-service hotel
rooms currently under construction in the sub-markets in which the Company
operates. According to Smith Travel Research, from 1988 to 1991, upscale
and luxury full-service room supply for the Company's competitive set
increased an average of approximately 4% annually which resulted in an
oversupply of rooms in the industry. However, this growth slowed to an
average of approximately 1% from 1992 through 1997. Furthermore, the lead
time from conception to completion of construction of a full-service hotel
is generally three to five years or more in the markets in which the
Company is principally pursuing acquisitions, which management believes
will contribute to the continued low growth of room supply relative to the
growth of room demand in the upscale and luxury full-service segments
through 2000.
. Many desirable hotel properties continue to be held by inadvertent owners
such as banks, insurance companies and other financial institutions, both
domestic and international, which are motivated and willing sellers. In
recent years, the Company has acquired a number of properties from
inadvertent owners at significant discounts to replacement cost, including
luxury hotels operating under the Ritz-Carlton brand. While in the
Company's experience to date, these sellers have been primarily U.S.
financial organizations, the Company believes that numerous international
financial institutions are also inadvertent owners of U.S. lodging
properties and have only recently begun to dispose of such properties. The
Company expects that there will be increased opportunities to acquire
lodging properties from international financial institutions and expects to
dedicate significant resources to aggressively pursue these opportunities.
. The Company believes that there are numerous opportunities to improve the
performance of acquired hotels by replacing the existing hotel manager with
Marriott International and converting the hotel to the Marriott brand.
Based upon data provided by Smith Travel Research, the Company believes
that Marriott-flagged properties have consistently outperformed the
industry. Demonstrating the strength of the Marriott brand name, the
average occupancy rate for the Company's comparable full-service properties
was 79.4%, compared to the average occupancy rate of 71.1% for competing
upscale and luxury full-service hotels. In addition, the Company's
comparable properties generated a 29% REVPAR premium over its competitive
set. Accordingly, management anticipates that any additional full-service
properties acquired by the Company in the future and converted from other
brands to the Marriott brand should achieve higher occupancy rates and
average room rates
87
<PAGE>
than has previously been the case for those properties as the properties
begin to benefit from Marriott's brand name recognition, reservation system
and group sales organization. The Company intends to pursue additional
full-service hotel acquisitions, some of which may be conversion
opportunities. Sixteen of the Company's 74 acquired full-service hotels
from the beginning of 1994 through May 29, 1998 were converted to the
Marriott brand following their acquisition.
. The Company intends to increase its pool of potential acquisition
candidates by considering acquisitions of select non-Marriott and non-Ritz-
Carlton hotels that offer long-term growth potential and are consistent
with the overall quality of its current portfolio. The Company will focus
on upscale and luxury full-service properties in difficult to duplicate
locations with high barriers to entry, such as hotels located in downtown,
airport and resort/convention locations, which are operated by quality
managers. In April 1998, the Company reached a definitive agreement with
the Blackstone Entities to acquire interests in twelve upscale and luxury
full-service hotels and a mortgage loan secured by a thirteenth hotel in
the U.S. and certain other assets in a transaction valued at the time of
the agreement at approximately $1.735 billion, including the assumption of
debt. The Company expects to pay approximately $862 million in cash and
assumed debt, issue approximately 43.7 million OP Units and distribute ___%
of the shares of SLC common stock to the Blackstone Entities in exchange
for the assets received from the Blackstone Entities. The Blackstone
portfolio consists of two Ritz-Carltons, three Four Seasons (including one
in which the Operating Partnership's only interest will be a mortgage
loan), one Grand Hyatt, three Hyatt Regencies and four Swissotel
properties.
The Company believes it is well qualified to pursue its acquisition and
development strategy. Management has extensive experience in acquiring and
financing lodging properties and believes its industry knowledge, relationships
and access to market information provide a competitive advantage with respect to
identifying, evaluating and acquiring hotel assets.
During 1997, the Company acquired, or purchased controlling interests in,
17 full-service hotels, containing 8,624 rooms, for an aggregate purchase price
of approximately $765 million (including the assumption of approximately $418
million of debt). The Company also completed the acquisition of the 504-room
New York Marriott Financial Center, following the acquisition of the mortgage on
the hotel for $101 million in late 1996.
The Company holds minority interests and serves as a general partner or
limited partner in various partnerships that own, as of May 29, 1998, an
aggregate of 240 hotel properties, 20 of which are full-service properties,
managed or franchised by Marriott International. In 1997, the Company acquired,
or obtained controlling interests in, five affiliated partnerships, adding 10
hotels to its portfolio. In January, the Company acquired a controlling
interest in MHP. MHP owns the 1,503-room Marriott Orlando World Center and a
50.5% interest in the 624-room Marriott Harbor Beach Resort. In April, the
Company acquired a controlling interest in the 353-room Hanover Marriott. In
the fourth quarter, the Company acquired the Chesapeake Hotel Limited
Partnership ("CHLP"). CHLP owns the 430-room Boston Marriott Newton; the 681-
room Chicago Marriott O'Hare; the 595-room Denver Marriott Southeast; the 588-
room Key Bridge Marriott in Virginia; the 479-room Minneapolis Marriott
Bloomington; and the 221-room Saddle Brook Marriott in New Jersey. In December
1997, the Company obtained an interest in the partnership that owns the 884-room
Marriott's Desert Springs Resort and Spa in California.
In 1998, the Company acquired a controlling interest in the partnership
that owns the Atlanta Marriott Marquis, containing 1,671 rooms, for
approximately $239 million, including the assumption of approximately $164
million of mortgage debt. The Company also acquired a controlling interest in a
partnership that owns three full-service hotels, containing a total of 1,029
rooms, for approximately $50 million and the outstanding interest in the 289-
room Park Ridge Marriott in New Jersey for $24 million. In addition, the Company
acquired the 281-room Ritz-Carlton, Phoenix for $75 million. The Company is
continually engaged in discussions with
88
<PAGE>
respect to other potential acquisition properties and has entered into an
agreement to acquire a controlling interest in the 397-room Ritz-Carlton in
Tysons Corner, Virginia.
In addition to investments in partnerships in which it already held
minority interests, the Company has been successful in adding properties to its
portfolio through partnership arrangements with either the seller of the
property or the incoming managers (typically Marriott International or a
Marriott franchisee). During 1997, the Company acquired interests in five such
partnerships which owned five full-service hotels, including the 197-room
Waterford Hotel in Oklahoma City, Oklahoma; the 404-room Norfolk Waterside
Marriott in Norfolk, Virginia; the 380-room Hartford/Farmington Marriott near
Farmington, Connecticut; the 380-room former Manhattan Beach Radisson Plaza in
Manhattan Beach, California; and the 299-room Ontario Airport Marriott in
Ontario, California. The Waterford Hotel and the Manhattan Beach Radisson Plaza
have been converted to the Marriott brand. As discussed above, in 1998, the
Company acquired a controlling interest in a partnership that owns three hotels:
the 359-room Albany Marriott in New York; the 350-room San Diego Marriott
Mission Valley in California; and the 320-room Minneapolis Marriott Southwest in
Minnesota. The Company has the financial flexibility and, due to its existing
partnership investment portfolio, the administrative infrastructure in place to
accommodate such arrangements. The Company views this ability as a competitive
advantage and expects to enter into similar arrangements to acquire additional
properties in the future.
The Company believes there is a significant opportunity to acquire
additional Ritz-Carlton hotels due to the Company's relationship with Marriott
International and due to the number of Ritz-Carlton brand hotels currently owned
by inadvertent owners. The Company also intends to purchase upscale and luxury
hotels with the intention of converting them to the Ritz-Carlton brand.
The Company currently owns six international properties, with 2,550 rooms,
located in Canada and Mexico. The overbuilding and economic stress currently
being experienced in some European and Pacific Rim countries may eventually lead
to additional international acquisition opportunities. The Company will acquire
international properties only when such acquisitions achieve satisfactory
returns after adjustments for currency and country risks.
In addition to acquisitions, the Company plans to selectively develop new
upscale and luxury full-service hotels in major urban markets and
convention/resort locations with strong growth prospects, unique or difficult to
duplicate sites, high barriers to entry for other new hotels and limited new
supply. The Company intends to target only development projects that show
promise of providing financial returns that represent a premium to acquisitions.
In 1997, the Company announced that it will develop the 717-room Tampa
Convention Center Marriott for $104 million, including a $16 million subsidy
provided by the City of Tampa.
The Company may also expand certain existing hotel properties where strong
performance and market demand exists. Expansions to existing properties creates
a lower risk to the Company as the success of the market is generally known and
development time is significantly shorter than new construction. The Company
recently committed to add approximately 500 rooms and an additional 15,000
square feet of meeting space to the 1,503-room Marriott Orlando World Center.
HOTEL LODGING INDUSTRY
The upscale and luxury full-service segments of the lodging industry
continue to benefit from a favorable cyclical imbalance in the supply/demand
relationship in which room demand growth has exceeded supply growth, which has
remained fairly limited. The lodging industry posted strong gains in revenues
and profits in 1997, as demand growth continued to outpace additions to supply.
The Company believes that upscale and luxury full-service hotel room supply
growth will remain limited through at least 1998. Accordingly, the Company
believes this supply/demand imbalance will
89
<PAGE>
result in improving occupancy and room rates which should result in improved
REVPAR and operating profit.
Following a period of significant overbuilding in the mid-to-late 1980s,
the lodging industry experienced a severe downturn. Since 1991, new hotel
construction, excluding casino-related construction, has been modest and largely
offset by the number of rooms taken out of service each year. Due to an
increase in travel and an improving economy, hotel occupancy has grown steadily
over the past several years and room rates have improved. The Company believes
that room demand for upscale and luxury full-service properties will continue to
grow at approximately the rate of inflation. Increased room demand should
result in increased hotel occupancy and room rates. According to Smith Travel
Research, upscale and luxury full-service occupancy for the Company and its
competitive set grew in 1997 to 72.5%, while room rate growth continued to
exceed inflation. While room demand has been rising, new hotel supply growth
has been minimal. Smith Travel Research data shows that upscale and luxury
full-service room supply increased an average of only 1% annually from 1991
through 1997. According to Coopers & Lybrand, hotel supply in the upscale and
luxury full-service segment is expected to grow annually at 1.8% to 1.9% through
1998. The increase in room demand and minimal growth in new hotel supply has
also led to increased room rates. The Company believes that these recent trends
will continue, with overall occupancy increasing slightly and room rates
increasing at more than one and one-half times the rate of inflation in 1998.
As a result of the overbuilding in the mid-to-late 1980s, many full-service
hotels built have not performed as originally planned. Cash flow has often not
covered debt service requirements, causing lenders (e.g., banks, insurance
companies and savings and loans) to foreclose and become "inadvertent owners"
who are motivated to sell these assets. In the Company's experience to date,
these sellers have been primarily U.S. financial organizations. The Company
believes that numerous international financial institutions are also inadvertent
owners of lodging properties and expects there will be increased opportunities
to acquire lodging properties from international financial institutions. While
the interest of inadvertent owners to sell has created attractive acquisition
opportunities with strong current yields, the lack of supply growth and
increasing room night demand should contribute to higher long-term returns on
invested capital. Given the relatively long lead time to develop urban,
convention and resort hotels, as well as the lack of project financing,
management believes the growth in room supply in this segment will be limited,
at least until the year 2000.
HOTEL LODGING PROPERTIES
The Company's lodging portfolio, as of May 29, 1998, consists of 99 upscale
and luxury full-service hotels with over 48,000 rooms. The Company's hotel
lodging properties represent quality assets in the upscale and luxury full-
service lodging segment. All but three of the Company's hotel properties are
currently operated under the Marriott or Ritz-Carlton brand names.
90
<PAGE>
The following tables set forth certain information with respect to the
operations of the Hotels to be owned by the Operating Partnership following the
REIT Conversion on a historical and pro forma basis for fiscal year 1997 and for
the First Quarter 1998.
<TABLE>
<CAPTION>
Fiscal Year 1997
---------------------------------------------
Average
Daily
Partnership No. of Hotels No. of Rooms Hotel Revenues Occupancy Rate REVPAR
- ----------------------- ---------------- ------------ -------------- ---------- -------- -------
(in thousands)
<S> <C> <C> <C> <C> <C> <C>
Atlanta Marquis(1) 1 1,671 $ 36,471 69.8% $127.36 $ 88.95
Chicago Suites 1 256 6,568 83.2 146.83 122.14
Desert Springs 1 884 26,626 73.0 169.55 123.77
Hanover 1 353 6,735 80.8 123.55 99.82
MDAH 6 1,692 26,699 76.4 102.97 78.63
MHP(2) 2 2,127 75,211 80.3 155.44 124.84
MHP2(3) 4 3,411 69,014 80.7 133.75 107.91
PHLP(4) 8 3,181 50,323 78.5 105.21 82.63
Blackstone Hotels 12 5,520 147,524 72.8 166.72 121.33
Host (historical)(5) 95 45,718 946,726 78.4 133.74 104.84
Host (pro forma)(5)(6) 121 57,048 1,281,520 77.7 132.73 103.17
</TABLE>
<TABLE>
<CAPTION>
First Quarter 1998
---------------------------------------------
Average
Hotel Daily
Partnership No. of Hotels No. of Rooms Hotel Revenues Occupancy Rate REVPAR
- ------------------- ---------------- ------------ -------------- ---------- -------- -------
(in thousands)
<S> <C> <C> <C> <C> <C> <C>
Atlanta Marquis(1) 1 1,671 $ 10,410 71.9% $135.45 $ 97.40
Chicago Suites 1 256 1,516 77.2 157.30 121.36
Desert Springs 1 884 16,153 82.2 236.40 194.37
Hanover 1 353 1,285 62.0 152.47 94.46
MDAH 6 1,692 6,877 75.6 114.04 86.16
MHP(2) 2 2,127 27,575 85.5 192.84 164.82
MHP2(3) 4 3,411 19,348 80.0 154.12 123.31
PHLP(4) 8 3,181 16,533 80.3 125.99 102.44
Blackstone Hotels 12 5,520 34,105 72.3 166.95 120.66
Host (historical)(5) 96 47,304 286,082 76.6 146.49 112.25
Host (pro forma)(5)(6) 121 57,048 330,751 76.2 146.24 111.39
</TABLE>
______________
(1) Atlanta Marquis has an 80% residual interest in the Atlanta Marriott Marquis
and for 1998 is expected to receive substantially all of the cash flow from
the hotel.
(2) Includes Marriott's Harbor Beach Resort, of which MHP owns a 50.5% interest.
(3) Includes the Santa Clara Marriott, of which MHP2 owns the remaining 50%
interest and Host owns a 50% interest.
(4) Includes the Tampa Westshore Marriott and the Raleigh Crabtree Marriott,
which are currently consolidated by Host. A subsidiary of Host provided 100%
non-recourse financing totaling approximately $35 million to PHLP, in which
Host owns the sole general partner interest, for the acquisition of these
two hotels.
(5) Includes Desert Springs, Hanover, MHP and MHP2 for both fiscal year 1997 and
First Quarter 1998 and Atlanta Marquis for First Quarter 1998.
(6) Includes all Hotel Partnerships and the Blackstone Hotels, assuming the Full
Participation Scenario.
One commonly used indicator of market performance for hotels is room
revenue per available room, or REVPAR, which measures daily room revenues
generated on a per room basis. This does not include food and beverage or other
ancillary revenues generated by the property. REVPAR represents the combination
of the average daily room rate charged and the average daily occupancy achieved.
The Company has reported annual increases in REVPAR since 1993.
To maintain the overall quality of the Company's lodging properties, each
property undergoes refurbishments and capital improvements on a regularly
scheduled basis. Typically, refurbishing has been provided at intervals of five
years, based on an annual review of the condition of each property. For the
First Quarter 1998, fiscal year 1997, 1996 and 1995, the Company spent $40
million, $131 million, $87 million and $56 million, respectively, on capital
improvements to existing properties. As a result of these expenditures, the
Company will be able to maintain high quality rooms at its properties.
The Company's hotels average nearly 500 rooms. Twelve of the Company's
hotels have more than 750 rooms. Hotel facilities typically include meeting and
banquet facilities, a variety of restaurants and lounges, swimming pools, gift
shops and parking facilities. The Company's hotels primarily serve business
and pleasure travelers and group meetings at locations in downtown and suburban
areas, near airports and at resort convention locations throughout the United
States. The
91
<PAGE>
properties are well situated in locations where there are significant barriers
to entry by competitors. Marriott International serves as the manager for 83 of
the 99 hotels owned by the Company and all but three are part of Marriott
International's full-service hotel system. The average age of the properties is
15 years, although several of the properties have had substantial, more recent
renovations or major additions. In 1997, for example, the Company substantially
completed a two-year $30 million capital improvement program at the New York
Marriott Marquis which included renovations to all guestrooms, refurbishment of
ballrooms, restaurant updates and retail additions. In early 1998, the Company
completed a $15 million capital improvement program at the Denver Marriott Tech
Center. The program included replacement of guestroom interiors, remodeling of
the lobby, ballroom, meeting rooms and corridors, as well as renovations to the
exterior of the building.
The chart below sets forth performance information for the Company's
comparable hotels:
<TABLE>
<CAPTION>
First Quarter Fiscal Year
----------------------- ------------------
1998 1997 1997 1996
-------- -------- -------- --------
<S> <C> <C> <C> <C>
COMPARABLE FULL-SERVICE HOTELS(1)
Number of properties............... 80 80 54 54
Number of rooms.................... 39,442 39,442 27,074 27,044
Average daily rate................. $148.30(2) $136.56 $134.49 $121.58
Occupancy percentage............... 78.4%(2) 78.1% 79.4% 78.0%
REVPAR............................. $116.20(2) $106.60 $106.76 $ 94.84
REVPAR % change.................... 9.0%(2) -- 12.6% --
</TABLE>
______________
(1) Consists of properties owned by the Company for all of 1997 and 1996 and for
all of the First Quarter 1998 and First Quarter 1997, except for the 85-room
Sacramento property, which is operated as an independent hotel.
(2) Includes the information related to the New York Marriott East Side and the
Napa Valley Marriott which were sold in the second quarter of 1998.
The chart below sets forth certain performance information for the
Company's hotels:
<TABLE>
<CAPTION>
First Quarter Fiscal Year
------------------------ --------------------------------
1998 1997 1997 1996 1995
---------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C>
Number of properties........... 96 82 95 79 55
Number of rooms................ 47,304 40,034 45,718 37,210 25,932
Average daily rate(1).......... $146.49(2) $136.34 $133.74 $119.94 $110.30
Occupancy percentage(1)........ 76.6%(2) 77.8% 78.4% 77.3% 75.5%
REVPAR(1)...................... $112.25(2) $106.00 $104.84 $ 92.71 $ 83.32
</TABLE>
______________
(1) Excludes the information related to the 255-room Elk Grove Suites hotel,
which was leased to a national hotel chain through September 1997, and the
85-room Sacramento property, which is operated as an independent hotel.
(2) Includes the information related to the New York Marriott East Side and the
Napa Valley Marriott which were sold in the second quarter of 1998.
Revenues in 1997 for nearly all of the Company's hotels were improved or
comparable to 1996. This improvement was achieved through steady increases in
customer demand, as well as yield management techniques applied by the manager
to maximize REVPAR on a property-by-property basis. REVPAR for comparable
properties increased 12.6% for fiscal year 1997 as average room rates increased
almost 11% and average occupancy increased over one percentage point. Overall,
this resulted in outstanding sales growth. Sales expanded at a 9% rate for
comparable hotels and house profit margins increased by over two percentage
points. For First Quarter 1998, REVPAR for comparable properties increased 9% as
average room rates increased 8.6% and average occupancy increased slightly.
Sales for First Quarter 1998 expanded at a 10% rate for comparable hotels and
the house profit margins increased by one percentage point. The Company believes
that its hotels consistently outperform the industry's average REVPAR growth
rates. The relatively high occupancy rates of the Company's hotels, along with
increased demand for upscale and luxury full-service hotel rooms, allowed the
managers of the Company's hotels to increase average room rates by
92
<PAGE>
selectively raising room rates and replacing certain discounted group business
with higher-rate group and transient business. The Company believes that these
favorable REVPAR growth trends should continue due to the limited new
construction of full-service properties and the expected improvements from the
conversion of seven properties to the Marriott brand in 1996 and 1997.
A number of the Company's full-service hotel acquisitions were converted to
the Marriott brand upon acquisition -- most recently the Coronado Island
Marriott Resort and the Manhattan Beach Marriott were converted in the second
half of 1997. The conversion of these properties to the Marriott brand is
intended to increase occupancy and room rates as a result of Marriott
International's nationwide marketing and reservation systems, its Marriott
Rewards program, group sales force, as well as customer recognition of the
Marriott brand name. The Marriott brand name has consistently delivered
occupancy and REVPAR premiums over other brands. Based upon data provided by
Smith Travel Research, the Company's comparable properties have an eight
percentage point occupancy premium and a 29% REVPAR premium over its competitive
set for 1997. The Company actively manages the conversions and, in many cases,
has worked closely with the manager to selectively invest in enhancements to the
physical product to make the property more attractive to guests or more
efficient to operate. The invested capital with respect to these properties is
primarily used for the improvement of common areas, as well as upgrading soft
and hard goods (i.e., carpets, drapes, paint, furniture and additional
amenities). The conversion process typically causes periods of disruption to
these properties as selected rooms and common areas are temporarily taken out of
service. Historically, the conversion properties have shown improvements as the
benefits of Marriott International's marketing and reservation programs, group
sales force and customer service initiatives take hold. In addition, these
properties have generally been integrated into Marriott International's systems
covering purchasing and distribution, insurance, telecommunications and payroll
processing.
Following the REIT Conversion, the Lessees and the Managers will continue
to focus on cost control in an attempt to ensure that hotel sales increases
serve to maximize house and operating profit. While control of fixed costs
serves to improve profit margins as hotel sales increase, it also results in
more properties reaching financial performance levels that allow the Managers to
share in the growth of profits in the form of incentive management fees. The
Company believes this is a positive development as it strengthens the alignment
of the Company's, the Lessees' and the Managers' interests.
During 1996, the Company completed its divestiture of limited-service
properties through the sale and leaseback of 16 Courtyard and 18 Residence Inn
properties. These properties, along with 37 Courtyard properties sold and leased
back during 1995, continue to be reflected in the Company's revenues and are
managed by Marriott International under long-term management agreements. During
1997, limited-service properties represented 2% of the Company's hotel EBITDA,
compared to 5% in 1996, and the Company expects this percentage to continue to
decrease as the Company continues to acquire primarily full-service properties.
93
<PAGE>
Hotel Properties
The following table sets forth, as of May 29, 1998, the location and number
of rooms relating to each of the Company's hotels. All of the properties are
operated under Marriott brands by Marriott International, unless otherwise
indicated.
<TABLE>
<CAPTION>
LOCATION ROOMS LOCATION ROOMS
- -------- ----- -------- -----
<S> <C> <C> <C>
Alabama Illinois
Grand Hotel Resort and Golf Club............. 306 Chicago/Deerfield Suites............................ 248
Arizona Chicago/Downers Grove Suites........................ 254
Scottsdale Suites............................ 251 Chicago/Downtown Courtyard.......................... 334
The Ritz-Carlton, Phoenix(11)................ 281 Chicago O'Hare (12)................................. 681
California Indiana
Coronado Island Resort (1)................... 300 South Bend (5)...................................... 300
Costa Mesa Suites............................ 253 Louisiana
Desert Springs Resort and Spa (2)(3)......... 884 New Orleans (3)..................................... 1,290
Manhattan Beach (4).......................... 380 Maryland
Marina Beach (5)............................. 368 Bethesda (5)........................................ 407
Newport Beach................................ 570 Gaithersburg/Washingtonian Center................... 284
Newport Beach Suites......................... 250 Massachusetts
Ontario Airport (6).......................... 299 Boston/Newton (12).................................. 430
Sacramento Airport (5)(7).................... 85 Michigan
San Diego Marriott Hotel and Marina (5)...... 1,355 Detroit Romulus..................................... 245
San Diego Mission Valley (8)................. 350 Minnesota
San Francisco Airport........................ 684 Minneapolis/Bloomington (12)........................ 479
San Francisco Fisherman's Wharf (9).......... 285 Minneapolis City Center (5)......................... 583
San Francisco Moscone Center (5)............. 1,498 Minneapolis Southwest (8)........................... 320
San Ramon (5)................................ 368 Missouri
Santa Clara (5).............................. 754 Kansas City Airport (5)............................. 382
The Ritz-Carlton, Marina del Rey (10)(11).... 306 St. Louis Pavilion (5).............................. 672
Colorado New Hampshire
Denver Southeast (12)........................ 595 Nashua.............................................. 251
Denver Tech Center........................... 625 New Jersey
Denver West (5).............................. 307 Hanover (2)(3)...................................... 353
Marriott's Mountain Resort at Vail........... 349 Newark Airport (5).................................. 590
Connecticut Park Ridge.......................................... 289
Hartford/Farmington (6)...................... 380 Saddle Brook (12)................................... 221
Hartford/Rocky Hill (5)...................... 251 New York
Florida Albany (8).......................................... 359
Fort Lauderdale Marina....................... 580 New York Marriott Financial Center (14)............. 504
Harbor Beach Resort (2)(3)................... 624 New York Marriott Marquis (5)....................... 1,911
Jacksonville (9)............................. 256 Marriott World Trade Center (5)..................... 820
Miami Airport (5)............................ 782 North Carolina
Orlando World Center (2)(3).................. 1,503 Charlotte Executive Park (9)........................ 298
Palm Beach Gardens (5)(9).................... 279 Raleigh Crabtree Valley (13)........................ 375
Singer Island (Holiday Inn) (7).............. 222 Oklahoma
Tampa Airport (5)............................ 295 Oklahoma City....................................... 354
Tampa Westshore (5)(13)...................... 309 Oklahoma City Waterford (4)......................... 197
The Ritz-Carlton, Naples (11)................ 463 Oregon
Georgia Portland............................................ 503
Atlanta Marriott Marquis (2)(3).............. 1,671 Pennsylvania
Atlanta Midtown Suites (5)................... 254 Philadelphia (Convention Center) (5)................ 1,200
Atlanta Norcross............................. 222 Philadelphia Airport (5)............................ 419
Atlanta Northwest............................ 400 Pittsburgh City Center (5)(9)....................... 400
Atlanta Perimeter (5)........................ 400 Texas
JW Marriott Hotel at Lenox (5)............... 371 Dallas/Fort Worth................................... 492
The Ritz-Carlton, Atlanta (11)............... 447 Dallas Quorum (5)................................... 547
The Ritz-Carlton, Buckhead (11).............. 553 El Paso (5)......................................... 296
</TABLE>
94
<PAGE>
<TABLE>
<CAPTION>
HOTEL PROPERTIES (CONTINUED) Properties that are currently not consolidated by Host
and are subject to the Mergers:
LOCATION ROOMS HOTEL STATE ROOMS
- -------- ----- ----- ----- -----
<S> <C> <C>
Texas (Continued)
Houston Airport (5)......................... 566
JW Marriott Houston......................... 503 MDAH
Plaza San Antonio (9)....................... 252 Fairview Park....................... Virginia 395
San Antonio Rivercenter (3)(5).............. 999 Dayton.............................. Ohio 399
San Antonio Riverwalk (5)................... 500 Research Triangle Park.............. North Carolina 224
Utah Detroit Marriott Southfield......... Michigan 226
Salt Lake City (5).......................... 510 Detroit Marriott Livonia............ Michigan 224
Virginia Fullerton (5)....................... California 224
Dulles Airport (5).......................... 370 -----
Key Bridge (12)............................. 588 1,692
Norfolk Waterside (6)....................... 404 -----
Pentagon City............................... 300 Chicago Suites
Washington Dulles Suites.................... 254 Marriott O'Hare Suites (5).......... Illinois 256
Westfields.................................. 335 -----
Williamsburg................................ 295 PHLP
Washington, D.C. Albuquerque (5)..................... New Mexico 411
Washington Metro Center..................... 456 Greensboro-High Point (5)........... North Carolina 299
Canada Houston Medical Center (5).......... Texas 386
Calgary..................................... 380 Miami Biscayne Bay (5).............. Florida 605
Toronto Airport (15)........................ 423 Marriott Mountain Shadows Resort.... Arizona 337
Toronto Eaton Centre (5).................... 459 Seattle SeaTac Airport.............. Washington 459
Toronto Delta Meadowvale (7)................ 374 -----
Mexico 2,497
Mexico City Airport (15).................... 600 -----
JW Marriott Hotel, Mexico City (15)......... 314 TOTAL......................................... 4,445
------ =====
TOTAL................................. 48,135
======
<CAPTION>
Properties that are included in the Blackstone portfolio
are as follows:
HOTEL STATE ROOMS
----- ----- -----
<S> <C> <C> <C>
Four Seasons, Atlanta................. Georgia 246
Four Seasons, Philadelphia............ Penn. 365
Grand Hyatt, Atlanta.................. Georgia 439
Hyatt Regency, Burlingame............. California 793
Hyatt Regency, Cambridge.............. Massachusetts 469
Hyatt Regency, Reston................. Virginia 514
Swissotel, Atlanta.................... Georgia 348
Swissotel, Boston..................... Massachusetts 498
Swissotel, Chicago.................... Illinois 630
The Drake (Swissotel), New York....... New York 494
The Ritz-Carlton, Amelia Island....... Florida 449
The Ritz-Carlton, Boston (4).......... Massachusetts 275
-----
TOTAL........................................ 5,520
=====
</TABLE>
______________
(1) This property was acquired by the Company and converted to the Marriott
brand in 1997.
(2) The Company acquired a controlling interest in the partnership that owns
this property in 1997 or 1998. The Company previously owned a general
partner interest in the partnership.
(3) Property is held within a partnership and is currently consolidated by Host.
(4) The Company acquired a controlling interest in the newly-formed partnership
that owns this property in 1997. The property was converted to the Marriott
brand and is operated as a Marriott franchised property.
(5) The land on which the hotel is built is leased under a long-term lease
agreement.
(6) The Company acquired a controlling interest in the newly-formed partnership
that owns this property in 1997. The property is operated as a Marriott
franchised property.
(7) Property is not operated as a Marriott and is not managed by Marriott
International.
(8) The Company acquired a controlling interest in the partnership that owns
this property in 1998. The property will be operated as a Marriott
franchised property.
(9) Property is operated as a Marriott franchised property.
(10) Property was acquired by the Company in 1997.
(11) Property is operated as a Ritz-Carlton. The Ritz-Carlton Hotel Company,
L.L.C. manages the property and is 49% owned by Marriott International.
95
<PAGE>
(12) The Company acquired the partnership that owns this property in 1997. The
Company previously owned a general partner interest in the partnership.
(13) Property is owned by PHLP. A subsidiary of the Company provided 100% non-
recourse financing totaling approximately $35 million to PHLP, in which the
Company owns the sole general partner interest, for the acquisition of
these two hotels. The Company consolidates these properties in the
accompanying financial statements.
(14) The Company completed the acquisition of this property in early 1997. The
Company previously had purchased the mortgage loan secured by the hotel in
late 1996.
(15) Property will be transferred to the Non-Controlled Subsidiary in
conjunction with the REIT Conversion and no longer consolidated by the
Company.
1998 ACQUISITIONS
In January 1998, the Company acquired an interest in Atlanta Marquis, which
owns an interest in the 1,671-room Atlanta Marriott Marquis Hotel, for
approximately $239 million, including the assumption of approximately $164
million of mortgage debt. The Company previously owned a 1.3% general and
limited partnership interest. In March 1998, the Company acquired a controlling
interest in the partnership that owns three hotels: the 359-room Albany
Marriott, the 350-room San Diego Marriott Mission Valley and the 320-room
Minneapolis Marriott Southwest for approximately $50 million. In the second
quarter of 1998, the Company acquired the partnership that owns the 289-room
Park Ridge Marriott in Park Ridge, New Jersey for $24 million. The Company
previously owned a 1% managing general partner interest and a note receivable
interest in such partnership. In addition, the Company acquired the 281-room
Ritz-Carlton, Phoenix for $75 million. The Company has also entered into an
agreement to acquire The Ritz-Carlton in Tysons Corner, Virginia (397 rooms). In
April 1998, the Company, through the Operating Partnership, entered into an
agreement to acquire certain assets from various affiliates of The Blackstone
Group. See " -- Blackstone Acquisition."
BLACKSTONE ACQUISITION
In April 1998, the Company reached a definitive agreement with the
Blackstone Entities to acquire ownership of, or controlling interests in, twelve
hotels and two mortgage loans, one secured by one of the acquired hotels and one
secured by an additional hotel. In addition, the Company will acquire a 25%
interest in the Swissotel management company from the Blackstone Entities, which
96
<PAGE>
the Company will transfer to SLC in connection with the distribution of SLC
common stock to the Company's shareholders and the Blackstone Entities. In
exchange for these assets, the Operating Partnership will issue approximately
43.7 million OP Units, assume or repay debt and make cash payments totaling
approximately $862 million and distribute approximately ___% of the shares of
SLC common stock to the Blackstone Entities. Each OP Unit will be exchangeable
for one Host REIT Common Share (or its cash equivalent at the Company's
election). Upon completion of the Blackstone Acquisition and the REIT
Conversion, Blackstone Entities will own approximately __% of the primary shares
outstanding of Host REIT Common Shares. John G. Schreiber, co-chairman of the
Blackstone Real Estate Partners' investment committee, has joined the Board of
Directors of the Company.
The Blackstone portfolio is one of the premier collections of hotel real
estate properties. It includes: The Ritz-Carlton, Amelia Island (449 rooms);
The Ritz-Carlton, Boston (275 rooms); Hyatt Regency Burlingame at San Francisco
Airport (793 rooms); Hyatt Regency Cambridge, Boston (469 rooms); Hyatt Regency
Reston, Virginia (514 rooms); Grand Hyatt Atlanta (439 rooms); Four Seasons
Philadelphia (365 rooms); Four Seasons Atlanta (246 rooms); The Drake
(Swissotel) New York (494 rooms); Swissotel Chicago (630 rooms); Swissotel
Boston (498 rooms) and Swissotel Atlanta (348 rooms). Additionally, the
transaction includes: the first mortgage loan on the Four Seasons Beverly Hills
(285 rooms) as well as a letter of intent to purchase the equity interest in the
property; two office buildings in Atlanta -- the offices at The Grand (97,879
sq. ft.) and the offices at the Swissotel (67,110 sq. ft.); and a 25% interest
in the Swissotel U.S. management company.
At the closing of the REIT Conversion, the Blackstone portfolio will be
contributed to the Operating Partnership and its hotels will be leased to
subsidiaries of SLC and will continue to be managed on behalf of the Lessees
under their existing management contracts. The Operating Partnership's
acquisition of the Blackstone portfolio is subject to certain conditions,
including the REIT Conversion being consummated by March 31, 1999.
INVESTMENTS IN AFFILIATED PARTNERSHIPS
The Company and certain of its subsidiaries also manage the Company's
partnership investments and conduct the partnership services business. As such,
at May 29, 1998, the Company and/or its subsidiaries own an investment in, and
generally serve as a general partner or managing general partner for, 18
unconsolidated partnerships which collectively own 20 Marriott full-service
hotels, 120 Courtyard hotels, 50 Residence Inns and 50 Fairfield Inns. In
addition, the Company holds notes receivable (net of reserves) from partnerships
totaling approximately $23 million at January 2, 1998. Fifteen of the 20 full-
service hotels will be acquired by the Operating Partnership in connection with
the Mergers.
As the managing general partner of these partnerships, the Company and its
subsidiaries are responsible for the day-to-day management of partnership
operations, which includes payment of partnership obligations from partnership
funds, preparation of financial reports and tax returns and communications with
lenders, limited partners and regulatory bodies. The Company or its
subsidiaries are usually reimbursed for the cost of providing these services.
Hotel properties owned by the unconsolidated partnerships generally were
acquired from the Company or its subsidiaries in connection with limited
partnership offerings. These hotel properties are currently operated under
management agreements with Marriott International. As the managing general
partner of such partnerships, the Company or its subsidiaries oversee and
monitor Marriott International's performance pursuant to these agreements.
The Company's interests in these partnerships range from 1% to 50%. Cash
distributions provided from these partnerships are tied to the overall
performance of the underlying properties and the overall level of debt owed by
the partnership. Partnership distributions to the Company
97
<PAGE>
were $1 million in the First Quarter 1998, $5 million in each of 1997 and 1996
and $3 million in 1995. All partnership debt is nonrecourse to the Company and
its subsidiaries, except that the Company is contingently liable under various
guarantees of debt obligations of certain of these partnerships. Such
commitments are limited in the aggregate to $60 million at January 2, 1998.
Subsequent to year-end, such maximum commitments were reduced to $20 million in
connection with the refinancing and acquisition of a controlling interest in the
Atlanta Marriott Marquis. In most cases, fundings of such guarantees represent
loans to the respective partnerships.
Marketing
At May 29, 1998, 83 of the Company's 99 hotel properties are managed or
franchised by Marriott International as Marriott or Ritz-Carlton brand hotels.
Thirteen of the 16 remaining hotels are operated as Marriott brand hotels under
franchise agreements with Marriott International. The Company believes that
these Marriott-managed and franchised properties will continue to enjoy
competitive advantages arising from their participation in the Marriott
International hotel system. Marriott International's nationwide marketing
programs and reservation systems as well as the advantage of the strong customer
preference for Marriott brands should also help these properties to maintain or
increase their premium over competitors in both occupancy and room rates.
Repeat guest business in the Marriott hotel system is enhanced by the Marriott
Rewards program, which expanded the previous Marriott Honored Guest Awards
program. Marriott Rewards membership includes more than 7.5 million members.
The Marriott reservation system provides Marriott reservation agents
complete descriptions of the rooms available for sale and up-to-date rate
information from the properties. The reservation system also features
connectivity to airline reservation systems, providing travel agents with
access to available rooms inventory for all Marriott and Ritz-Carlton lodging
properties. In addition, software at Marriott's centralized reservations
centers enables agents to immediately identify the nearest Marriott or Ritz-
Carlton brand property with available rooms when a caller's first choice is
fully occupied.
COMPETITION
The Company's hotels compete with several other major lodging brands in
each segment in which they operate. Competition in the industry is based
primarily on the level of service, quality of accommodations, convenience of
locations and room rates. The following table presents key participants in
segments of the lodging industry in which the Company competes:
SEGMENT REPRESENTATIVE PARTICIPANTS
- ------- ---------------------------
Luxury Full-Service....... Ritz-Carlton; Four Seasons
Upscale Full-Service...... Crowne Plaza; Doubletree; Hyatt; Hilton;
Marriott Hotels, Resorts and Suites; Radisson;
Red Lion; Sheraton; Swissotel; Westin; Wyndham
RELATIONSHIP WITH HM SERVICES
On December 29, 1995, the Company distributed to its shareholders through a
special dividend (the "Special Dividend") all of the outstanding shares of
common stock of Host Marriott Services Corporation ("HM Services"), formerly a
direct, wholly owned subsidiary of the Company which, as of the date of the
Special Dividend, owned and operated the food, beverage and merchandise
concessions at airports, on tollroads and at stadiums and arenas and other
tourist attractions. The Special Dividend provided Company shareholders with
one share of common stock of HM Services for every five shares of Company common
stock held by such shareholders on the record date of December 22, 1995.
For the purpose of governing certain of the ongoing relationships between
the Company and HM Services after the Special Dividend, and to provide an
orderly transition, the Company and HM Services have entered into various
agreements, including agreements to (i) allocate certain responsibilities with
respect to employee compensation, benefit and labor matters; (ii) define the
respective parties' rights and obligations with respect to deficiencies and
refunds of Federal, state and other income or franchise taxes relating to the
Company's businesses for tax years prior to the Special Dividend and with
respect to certain tax attributes of the Company's after the Special Dividend;
(iii) provide certain administrative and other support services to each other
for a transitional period on an as-needed basis; and (iv) to provide for the
issuance of HM Services common stock in connection with the exercise of certain
outstanding warrants to purchase shares of Company common stock.
RELATIONSHIP WITH MARRIOTT INTERNATIONAL; MARRIOTT INTERNATIONAL DISTRIBUTION
Prior to October 8, 1993, the Company was named "Marriott Corporation." In
addition to conducting its existing hotel ownership business and the business of
HM Services (prior to its distribution to shareholders through the Special
Dividend), Marriott Corporation engaged in lodging and senior living services
management, timeshare resort development and operation, food service and
facilities management and other contract services businesses (the "Management
Business"). On October 8, 1993, the Company completed the Marriott International
Distribution (as defined herein). Marriott International conducts the Management
Business as a separate publicly traded company.
98
<PAGE>
The Company and Marriott International have entered into agreements which
provide, among other things, for Marriott International to (i) manage or
franchise various hotel properties owned or leased by the Company, (ii) advance
up to $225 million to the Company under the Marriott International line of
credit, which was terminated in 1997, (iii) provide first mortgage financing of
$109 million for the Philadelphia Marriott Hotel, which was repaid in December
1996, (iv) provide financing for certain Company acquisitions, (v) guarantee the
Company's performance in connection with certain loans or other obligations and
(vi) provide certain limited administrative services. The Company views its
relationship with Marriott International as providing various advantages,
including access to high quality management services, strong brand names and
superior marketing and reservation systems.
Marriott International has the right to purchase up to 20% of the voting
stock of the Company if certain events involving a change of control of the
Company occur, subject to certain limitations.
EMPLOYEES
Currently, the Company and its subsidiaries collectively have approximately
225 corporate employees, and approximately 300 other employees (primarily
employed at one of its non-U.S. hotels) which are covered by collective
bargaining agreements that are subject to review and renewal on a regular basis.
The Company believes that it has good relations with its labor unions and has
not experienced any material business interruptions as a result of labor
disputes. Following the REIT Conversion, the Operating Partnership expects to
have ____ employees.
ENVIRONMENTAL AND REGULATORY MATTERS
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 may impose liability whether or not
the owner or operator knew of, or was responsible for, the presence of such
hazardous or toxic substances. In addition, certain environmental laws and
common law principles could be used to impose liability for release of asbestos-
containing materials ("ACMs"), 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 property may be used or business may be operated, and these restrictions
may require expenditures. In connection with its current or prior ownership or
operation of hotels, the Company may be potentially liable for any such costs or
liabilities. Although the Company is currently not aware of any material
environmental claims pending or threatened against it, no assurance can be given
that a material environmental claim will not be asserted against the Company.
LEGAL PROCEEDINGS
Following the Mergers and the REIT Conversion, the Operating Partnership
will assume all liability arising under legal proceedings filed against Host and
will indemnify Host REIT as to all such matters. Host and the other defendants
believe all of the lawsuits in which Host is a defendant, including the
following lawsuits, are without merit and the defendants intend to defend
vigorously against such claims. However, no assurance can be given as to the
outcome of any of the lawsuits.
Texas Multi-Partnership Lawsuit. On March 16, 1998, limited partners in
several limited partnerships sponsored by Host filed a lawsuit, Robert M. Haas,
---------------
Sr. and Irwin Randolph Joint Tenants, et al. v. Marriott International, Inc., et
- --------------------------------------------------------------------------------
al, Case NO. CI-04092, in the 57th Judicial District Court of Bexar County,
- --
Texas.
99
<PAGE>
alleging that the defendants conspired to sell hotels to the partnerships for
inflated prices and that they charged the partnerships excessive management fees
to operate the partnerships' hotels. The plaintiffs further allege that the
Defendants committed fraud, breached fiduciary duties and violated the
provisions of various contracts. The plaintiffs are seeking unspecified damages.
Although the partnerships have not been named as defendants, their partnership
agreements include provisions which require the partnerships to indemnify the
general partners against losses, expenses and fees.
Limited Service Transaction. On February 11, 1998, a group of four
individuals, all of whom are limited partners in partnerships sponsored by Host,
filed a putative class action lawsuit Ruben, et al v. Host Marriott Corporation,
------------------------------------------
et al, Civil Action NO. 16186 in Delaware State Chancery Court, several limited
- -----
partnerships alleging that the proposed merger of the partnerships (the
"Consolidation") into an UPREIT Structure constitutes a breach of the fiduciary
duties owed to the limited partners of the partnerships by Host and the general
partners of the partnerships. In addition, the plaintiffs allege that the
Consolidation breaches various agreements relating to the partnerships. Although
the partnerships have not been named as defendants, their partnership agreements
include provisions which require the partnerships to indemnify the general
partners against losses, expenses and fees.
Atlanta Marquis. Certain limited partners of Atlanta Marriott Marquis
Limited Partnership ("AMMLP"), filed a putative class-action lawsuit Hiram and
---------
Ruth Strum v. Marriott Marquis Corporation, et al, Case NO. 97-CV-3706, in the
- -------------------------------------------------
U.S. District Court for the Northern District of Georgia, against AMMLP's
general partner, its directors and Host, regarding the merger of AMMLP into a
new partnership (the "AMMLP Merger") as part of a refinancing of the
partnership's debt. The plantiffs allege that the defendants misled the limited
partners in order to induce them to approve the AMMLP Merger, violated
securities regulations and federal roll-up regulations and breached their
fiduciary duties to the partners.
100
<PAGE>
Although the partnerships have not been named as defendants, their partnership
agreements include provisions which require the partnerships to indemnify the
general partners against losses, expenses and fees.
Courtyard II. A group of partners in Courtyard by Marriott II Limited
Partnership ("CBM II") filed a lawsuit, Whiley Ford, et al. V. Host Marriott
Corporation, et al., Case NO. 96-CI-08327, in the 285th Judicial Court of Bekar
County, Texas, and later a putative class action lawsuit against Host, Marriott
International and others alleging breach of fiduciary duty, breach of contract,
fraud, negligent misrepresentation, tortious interference, violation of the
Texas Free Enterprise and Antitrust Act of 1983, and conspiracy in connection
with the formation, operation, and management of CBM II and its hotels. The
plaintiffs also claim that they were damaged by CBM II's failure to refinance in
1992 and by the 1993 division of Marriott Corporation into Host and Marriott
International. Although the partnership has not been named as a defendant, its
partnership agreeement includes a provision which requires the partnership to
indemnify the general partner against losses, expenses and fees.
101
<PAGE>
MHP2. Two groups of limited partners of Marriott Hotel Properties II
Limited Partnership ("MHP2"), are each asserting putative class claims in a
lawsuit, Leonard Rosenblum, as Trustee of the Sylvia Bernie Rosenblum Trust, et
----------------------------------------------------------------------
al. V. Marriott MHP TWO Corporation, et al., case NO. 96-8377-CIV-HURLEY, and
- ------------------------------------------
Mackenzie Patterson Special Fund 2, L.P. et al. V. Marriott MHP TWO Corporation,
- --------------------------------------------------------------------------------
et al., Case NO. 97-8989-CIV-HURLEY respectively, against Host and certain of
- -----
its affiliates alleging that the defendants violated their fiduciary duties and
engaged in fraud and coersion in connection with a tender offer for MHP2 units.
102
<PAGE>
THE LEASES
In order for Host REIT to qualify as a REIT, neither Host REIT nor the
Operating Partnership may operate the Hotels or related properties.
Accordingly, the Operating Partnership will lease the Hotels to the Lessees,
which will be subsidiaries of SLC. The following summary of the principal terms
of the Leases is qualified in its entirety by reference to the Leases, a form of
which has been filed as an exhibit to the Registration Statement of which this
Consent Solicitation is a part.
Lessees. There will be a separate Lessee for each Hotel or group of Hotels
that has separate mortgage financing or that has owners other than the Operating
Partnership and its wholly owned subsidiaries. Each Lessee will be a Delaware
limited liability company, whose purpose will be limited to acting as lessee
under the applicable Lease(s) and will be a subsidiary of SLC.
The Lessees under leases of Hotels that are managed by subsidiaries of
Marriott International will be owned 99% by a wholly owned subsidiary of SLC and
1% by Marriott International or its appropriate subsidiary. The operating
agreement for such lessees will provide that the SLC member of the Lessee will
have full control over the management of the business of the Lessee, except with
respect to certain decisions for which the consent of both members will be
required. These decisions include (i) terminating any Management Agreement for
the Hotels leased by the Lessee, except by reason of a default by the Manager or
pursuant to an express termination right in the Management Agreement; (ii)
asserting that the Manager is not an independent contractor or is not entitled
to injunctive relief preventing termination (except for terminations described
in clause (i)); (iii) dissolving, liquidating, consolidating, merging or selling
all or substantially all of the assets of the Lessee; (iv) engaging in any other
business or acquiring any assets or incurring any liabilities not reasonably
related to the conduct of the Lessee's business; or (v) instituting voluntary
bankruptcy proceedings or consenting to involuntary bankruptcy proceedings.
Upon any termination of the applicable Management Agreement, these special
voting rights of the Manager will cease and the SLC member will be required to
purchase the Manager's interest in the Lessee at its fair market value.
Lease Terms. Each Lease will have a fixed term ranging from 7 to 10 years
(depending upon the lease), subject to earlier termination upon the occurrence
of certain contingencies described in the Leases (including, particularly, the
provisions described herein under "Damage to the Hotels," "Condemnation of the
Hotels," "Termination of Leases upon Disposition of the Hotels" and "Termination
of the Leases upon Changes in Tax Laws"). The Lessee will have a right of first
offer to renew its Leases within a specified period prior to expiration. If the
Lessee does not accept the terms offered by the Operating Partnership, the
Operating Partnership will be free to lease the applicable Hotel for rental
rates that are at least 90% of the rates offered to the Lessee.
Base Rent; Percentage Rent; Additional Charges. Each Lease will require
the Lessee to pay (i) Adjusted Base Rent (as defined below) in a fixed dollar
amount per annum plus (ii) to the extent it exceeds Base Rent, Percentage Rent
based upon specified percentages of aggregate sales from the applicable Hotel,
including room sales, food and beverage sales and telephone and other sales
("Gross Revenues"), in excess of specified thresholds.
"Adjusted Base Rent" will equal Base Rent less the FF&E Adjustment (which
is described under "Personal Property Limitation" below). "Base Rent" will be a
fixed dollar amount specified in each Lease.
The amount of Base Rent and the Percentage Rent thresholds will be adjusted
annually, based upon the calendar year. Base Rent will be increased each year
by a percentage of the increase in the Consumer Price Index ("CPI") during the
previous twelve months. Percentage Rent thresholds will be adjusted by the
percentage increase in the CPI.
103
<PAGE>
Rental payments will be calculated on a calendar year basis. Payments of
rent will be made within 10 days of the end of each accounting period, based
upon the timing for remittance of operating profit by the Manager to the Lessee
under the management agreements. The amount of rent payable for each accounting
period (which will be the accounting period used in the management agreement,
unless otherwise agreed) will be the sum of Adjusted Base Rent payable year-to-
date, plus, to the extent it would exceed Base Rent payable year-to-date, the
cumulative Percentage Rent payable year-to-date. Payments of rent with respect
to the period commencing on the first day of the accounting period including
December 31 and ending December 31 of each year will be prorated based upon the
number of days from the end of the last accounting period prior to December 31
through December 31 relative to the total number of days in such accounting
period. Similarly, rent for the period commencing January 1 of each year and
ending on the last day of the accounting period including January 1 will be
prorated based upon the number of days from January 1 through the end of such
accounting period relative to the total number of days in such accounting
period. A final adjustment of the Percentage Rent for each calendar year will
be made after financial statements are available. The rent payable on any
payment date will never be less than zero, other than at the time of the final
adjustment of the Percentage Rent for any calendar year.
The Leases will provide for a rent reduction in the event of damage,
destruction or a partial taking.
Lessee Expenses. Each Lessee will be responsible for paying all of the
expenses of operating the applicable Hotel(s), including all personnel costs,
utility costs and general repair and maintenance of the facilities. The Lessee
will also be responsible for all fees payable to the applicable manager,
including base and incentive management fees, chain services payments and
franchise or system fees, with respect to periods covered by the term of the
Lease. The Lessee will not be obligated to bear the cost of any capital
improvements or capital repairs to the Hotels or the other expenses borne by the
Lessor, as described below.
Lessor Expenses. The Lessor will be responsible for the following
expenses: real estate taxes, personal property taxes, casualty insurance on the
structures, ground rent payments, required expenditures for FF&E (including
maintaining the FF&E reserve, to the extent such is required by the manager) and
major capital expenditures.
The consent of the Lessor and Lessee will be required for major capital
expenditures or a change in the amount of the FF&E reserve payment.
Parent Guarantee. SLC will enter into limited guarantees of the lease
obligations of each Lessee. The cumulative limit of the guarantees at any time
will be 15% of the aggregate rents under all Leases paid with respect to the
preceding 12 full calendar months (with an annualized amount based on the Base
Rent for Leases that have not been in effect for 12 full calendar months).
Security. The obligations of the Lessee will be secured by a pledge of all
personal property (tangible and intangible) of the Lessee related to or used in
connection with the operation of the Hotels (including any cash and receivables
from the manager or others held by the Lessee as part of "hotel working
capital").
Working capital. Each Lessor will sell the existing working capital
(including Inventory and Fixed Asset Supplies (as defined), net receivables due
from the manager, net of accounts payable and accrued expenses) to the
applicable Lessee upon the commencement of the Lease at a price equal to the
book value of such assets. The purchase price will be represented by a note
that bears interest at a rate per annum equal to the applicable federal rate. A
portion of the Base Rent under the Lease will represent payment of interest on
the working capital. The principal amount of the purchase price will be payable
upon termination of the Lease. At the termination or expiration of the Lease,
the Lessee will transfer to the Lessor the then existing working capital, in
satisfaction, in whole or in
104
<PAGE>
part, of the principal of such loan. To the extent that the value of the working
capital delivered to the Lessor exceeds the value of the working capital
delivered by the Lessor to the Lessee at the commencement of the Lease, the
Lessor shall pay to the Lessee cash equal to the difference. To the extent that
the value of the working capital delivered to the Lessor is less than the value
of the working capital delivered by the Lessor to the Lessee at the commencement
of the Lease, the Lessee shall pay to the Lessor cash equal to the difference.
Termination of Leases upon Disposition of Hotels. In the event the Lessor
enters into an agreement to sell or otherwise transfer any Hotel free and clear
of the applicable Lease, the Lessor must pay the Lessee a termination fee equal
to the fair market value of the Lessee's leasehold interest in the remaining
term of the Lease. For purposes of determining the fair market value, a
discount rate of 12% will be assumed, and the annual income for each remaining
year of the Lease will be assumed to be the profit generated by the Lessee
during the last 12 months by the current Hotel (which shall be determined on a
pro forma basis if the Hotel has not been in operation for at least 12 months).
Alternatively, the Lessor will be entitled to substitute a comparable Hotel or
Hotels (in terms of economics for the Lessor and the Lessee) for any Hotel that
is sold, without being required to pay a termination fee.
Termination of Leases upon Changes in Tax Laws. In the event that changes
in the federal income tax laws allow the Lessors, or a subsidiary or an
affiliate of the Lessors to directly operate the Hotels without jeopardizing
Host REIT's status as a REIT, the Lessors will have the right to terminate the
Leases, in return for paying the Lessee the fair market value of the remaining
terms of the Leases, valued in the same manner as provided above under
"Termination of Leases upon Disposition of the Hotels." The payment will be
payable in cash or shares of Host REIT, at the election of Host REIT.
Damage or Destruction. If a Hotel is partially or totally destroyed, and
is no longer suitable for use as a Hotel (as determined by the applicable
Lessor), the Lease of such Hotel shall automatically terminate and the insurance
proceeds shall be retained by the Lessor, except to the extent of any personal
property owned by the Lessee. In this event, no termination fee shall be owed
to Lessee. If a Hotel is partially destroyed, but is still suitable for use as
a Hotel (as determined by the applicable Lessor), the Lessee shall apply the
insurance proceeds to restore the Hotel to its preexisting condition, with the
Lessor being responsible for any shortfall in insurance proceeds. If and to the
extent any damage or destruction results in a reduction of Gross Revenues which
would otherwise be realizable from the operation of the Hotel, the applicable
Lessor shall receive all loss of income insurance and Lessee shall have no
obligation to pay rent in excess of the Percentage Rent realizable from Gross
Revenues generated by the Hotel during the period of destruction.
Default. A Lease may be terminated without penalty by the applicable
Lessor if any of the following Events of Default occur:
. Failure to pay Rent;
. Failure to properly maintain the Hotel (other than by reason of the
failure of the Lessor to perform its obligations under the Lease);
. Failure to comply with the terms of the operating agreements relating
to the Hotel (other than by reason of the failure of the Lessor to
perform its obligations under the Lease);
. Failure of SLC to maintain minimum required total asset value;
. Filing of any petition for relief, bankruptcy or liquidation by the
Lessee or any parent company of the Lessee; or
105
<PAGE>
. Failure to observe or perform any of the terms of the Leases.
Assignment of Lease. A Lessee will be permitted to sublet all or part of
the Hotel or assign its interest under its Lease, without the consent of the
Lessor, to any wholly owned or majority controlled subsidiary of SLC, provided
the subsidiary meets the Minimum Net Worth test and all other requirements of
the Lease. Transfers to other parties will be permitted if approved by the
Lessor.
Subordination to Qualifying Mortgage Debt. The rights of each Lessee will
be expressly subordinate to qualifying mortgage debt and any refinancing
thereof. A default under the loan documents may result in the termination of
the Lease by the lender. The lender will not be required to provide a non-
disturbance agreement to the lessee.
The Lessor (and the Operating Partnership) will be obligated to compensate
the Lessee, on a basis equal to the lease termination provision, if the Lease is
terminated because of a non-monetary default under the terms of a loan that
occurs because of an action or omission by the Lessor (or its affiliates) or a
monetary default where the Lessee is not in default. In addition, if any loan
is not refinanced in a timely manner, and the loan amortization schedule is
converted to a cash flow sweep amortization structure, the Lease will terminate
after a twelve-month cure period and the Lessor (and the Operating Partnership)
will owe a termination fee as provided above.
Indemnification. Each Lessee will indemnify the applicable Lessor for any
loss suffered by the Lessor as a result of the Lessee's actions or inactions in
operating the properties, including accident or injury to any person on the
properties or misuse of the properties by Lessee (including actions of the
manager and its employees). Each Lessee will maintain liability insurance as
required by the applicable management agreement.
Each Lessee will indemnify the applicable Lessor for any liability
resulting from environmental matters except for any liability resulting from the
Lessor's intentionally wrongful acts or grossly negligent failures and pre-
existing conditions.
Personal Property Limitation. If a Lessor reasonably anticipates that the
average tax basis of the items of the Lessor's FF&E and other personal property
that are leased to the applicable Lessee will exceed 15% of the aggregate
average tax basis of the real and personal property subject to the applicable
Lease, the following procedures will apply:
. The Lessor would not be obligated to acquire and lease to the Lessee any
replacement FF&E that would cause the applicable limits to be exceeded (the
"Excess FF&E").
. The Lessee would be responsible for obtaining the Excess FF&E from another
source, but would agree to give a right of first opportunity to a Non-
Controlled Subsidiary to lease the Excess FF&E to the Lessee at an annual
rental equal to the Market Leasing Factor (as defined below) times the cost
of the replacement FF&E. If the Non-Controlled Subsidiary does not agree to
such a lease, then Lessee will obtain the Excess FF&E from another source.
. The annual Base Rent under the applicable Lease would be reduced by an amount
(the "FF&E Adjustment") equal to (x) the Market Leasing Factor times the cost
of the replacement FF&E (if the Non-Controlled Subsidiary agrees to acquire
and lease the FF&E to the Lessee) or (y) 110% of the Market Leasing Factor
times the cost of the replacement FF&E (if the Non-Controlled Subsidiary does
not agree to acquire and lease the FF&E to the Lessee), for a period equal to
the weighted average useful life of the Excess FF&E.
The Market Leasing Factor for the first two years under a Lease will be
determined at the time the Lease is executed and will be based upon the median
of the leasing rates of at least three
106
<PAGE>
nationally recognized companies engaged in the business of leasing similar
personal property. For each year thereafter, the Market Leasing Factor will be
determined by an independent valuation expert, mutually acceptable to the Lessor
and the Lessee, who shall determine the amount based upon the median of the
leasing rates of at least three nationally recognized companies engaged in the
business of leasing similar personal property.
Assignment of Management Agreements. The Management Agreements applicable
to each Hotel will be assigned to the applicable Lessee for the term of the
Lease of such Hotel. The Lessee will be obligated to perform all of the
obligations of the Lessor under the Management Agreement during the term of its
Lease, other than the obligations relating to payment of property taxes,
insurance, and ground rent, maintaining a reserve fund for FF&E replacements,
and capital expenditures, for which the Lessor will retain responsibility.
Although the Lessee will assume obligations of the Lessor under the Management
Agreement, the Lessor will not be released from its obligations and, if the
Lessee fails to perform any obligations, the Manager will be entitled to seek
performance by or damages from the Lessor.
The assignment of each Management Agreement will prohibit the Lessee from
taking the following actions with respect to the Management Agreement without
notice to the Lessor and, if the action would have a material adverse effect on
the Lessor, the consent of the Lessor: (i) terminate the Management Agreement
prior to the expiration of the term thereof; (ii) amend or modify the Management
Agreement; (iii) waive (or fail to enforce) any right of "Owner" under the
Management Agreement; (iv) waive any breach or default by the Manager under the
Management Agreement (or fail to enforce any right of "Owner" in connection
therewith); (v) agree to any change in the Manager or consent to any assignment
by the Manager; or (vi) take any other action which materially adversely affects
Lessor's rights or obligations under the Management Agreement for periods
following termination of the Lease (whether upon the expiration of its term or
upon earlier termination as provided for herein).
Change in Manager. A Lessee will be permitted to change the Manager or the
brand affiliation of a Hotel only with the approval of the applicable Lessor,
which approval will not be unreasonably withheld, provided that the replacement
manager is a nationally recognized manager with substantial experience at
managing hotels of comparable quality. No such replacement can extend beyond
the term of the Lease without the consent of the Lessor, and any replacement
must be acceptable to the lender under any qualifying mortgage debt of the
Lessor.
THE MANAGEMENT AGREEMENTS
GENERAL
The Lessees will lease the Hotels from the Hotel Partnerships subject to
the Management Agreements between the Hotel Partnerships and the subsidiaries of
Marriott International and other companies that currently manage the Hotels.
Following the REIT Conversion, the Lessees will have substantially all of the
rights and obligations of the owners of the Hotels under the Management
Agreements for the period during which the Leases are in effect (including the
obligation to pay the management and other certain fees thereunder) and will
hold the Operating Partnership harmless with respect thereto.
107
<PAGE>
RELATIONSHIP WITH MARRIOTT INTERNATIONAL
Subsidiaries of Marriott International will serve as Managers for a
majority of the Operating Partnership's Hotels which will be leased to the
Lessees, pursuant to the Management Agreements. Marriott International and its
subsidiaries also provide various other services to Host REIT and its
affiliates. With respect to these contractual arrangements, the potential
exists for disagreement as to contract compliance. Additionally, the possible
desire of Host REIT and the Operating Partnership to finance, refinance or
effect a sale of any of the Hotels managed by subsidiaries of Marriott
International may, depending upon the structure of such transactions, result in
a need to modify the Management Agreements with respect to such Hotel. Any such
modification proposed by Host REIT or the Operating Partnership may not be
acceptable to Marriott International or the applicable Lessee, and the lack of
consent from either Marriott International or the applicable Lessee that has
assumed the Management Agreement could adversely affect the Operating
Partnership's ability to consummate such financing or sale. In addition,
certain situations could arise where actions taken by Marriott International in
its capacity as manager of competing lodging properties would not necessarily be
in the best interests of the Operating Partnership, Host REIT or the Lessees.
Nevertheless, the Operating Partnership believes that there is sufficient
mutuality of interest between the Operating Partnership, the Lessees and
Marriott International to result in a mutually productive relationship.
MANAGEMENT SERVICES PROVIDED BY MARRIOTT INTERNATIONAL AND AFFILIATES
Under each Management Agreement related to a Marriott International-managed
Hotel, the Manager will provide complete management services to the applicable
Lessees in connection with its management of such Lessee's Hotels following the
REIT Conversion. Except where specifically noted, these relationships are
identical to those that exist between the applicable Manager and Host or the
applicable Hotel Partnership currently, and that would exist between the
Operating Partnership's subsidiaries and the Manager in the event the Leases
expire or otherwise terminate while the Management Agreements remain in effect.
The services provided by each Manager to each Lessee will include the following:
Operational Services. The Managers will have sole responsibility and
exclusive authority for all activities necessary for the day-to-day operation of
the Hotels, including establishment of all room rates, the processing of
reservations, procurement of inventories, supplies and services, periodic
inspection and consultation visits to the Hotels by the Managers' technical and
operational experts and promotion and publicity of the Hotels. The Manager will
receive compensation from the Lessee in the form of a Base Management Fee and an
Incentive Management Fee, which are normally calculated as percentages of gross
revenues and operating profits, respectively.
Executive Supervision and Management Services. The Managers will provide
all managerial and other employees for the Hotels; review the operation and
maintenance of the Hotels; prepare reports, budgets and projections; provide
other administrative and accounting support services, such as planning and
policy services, financial planning, divisional financial services, risk
planning services, product planning and development, employee planning,
corporate executive management, legislative and governmental representation and
certain in-house legal services; and protect the "Marriott," trademark and other
tradenames and service marks. The Manager also will provide a national
reservations system.
Chain Services. The Management Agreements will require the Manager to
furnish certain services (the "Chain Services") that are furnished generally on
a central or regional basis to hotels in the Marriott hotel system. Such
services will include the following: (i) the development and operation of
computer systems and reservation services, (ii) regional management and
administrative services, regional marketing and sales services, regional
training services, manpower development and relocation costs of regional
personnel and (iii) such additional central or regional
108
<PAGE>
services as may from time to time be more efficiently performed on a regional or
group level. Costs and expenses incurred in providing such services are
allocated among all hotels in the Marriott hotel system managed by the Manager
or its affiliates and each applicable Lessee will be required to reimburse the
Manager for its allocable share of such costs and expenses.
Working Capital and Fixed Asset Supplies. The Lessee will be required to
maintain working capital for each Hotel and fund the cost of fixed asset
supplies, which principally consist of linen and similar items. The applicable
Lessee will also be responsible for providing funds to meet the cash needs for
the operations of the Hotels if at any time the funds available from operations
are insufficient to meet the financial requirements of the Hotels.
Use of Affiliates. The Manager employs the services of its affiliates to
provide certain services under the Management Agreements. Certain of the
Management Agreements provide that the terms of any such employment must be no
less favorable to the applicable Lessee, in the reasonable judgment of the
Manager, than those that would be available from the Manager.
FF&E Replacements. The Management Agreements generally provide that once
each year the Manager will prepare a list of FF&E to be acquired and certain
routine repairs that are normally capitalized to be performed in the next year
("FF&E Replacements") and an estimate of the funds necessary therefor. For
purposes of funding the FF&E Replacements, a specified percentage (generally of
the gross revenues of the Hotel will be deposited by the Manager into book entry
account (the "FF&E Reserve Account"). If the Manager determines that more than
5% of the gross revenues of the Hotel will be required to fund repairs for a
certain period, the Manager may increase the percentage of gross revenues to be
deposited into the FF&E Reserve Account for such periods. In such event, the
Operating Partnership may elect to agree to such increases which shall be
treated as deductions for purposes of calculating operating profits under the
Management Agreement or to make a lump-sum contribution to the FF&E Reserve
Account of the additional amounts required. If the Operating Partnership fails
to elect either option within thirty days of the request for additional funds or
fails to pay the lump-sum within 60 days of its election to do so, the Manager
may terminate the Management Agreement. Under certain circumstances, the Manager
may make repairs in addition to those set forth on its list, but in no event may
it expend more than the amount in the FF&E Reserve Account without the consent
of the Operating Partnership and the Lessee.
Under certain of the Management Agreements, the Operating Partnership must
approve the FF&E Replacements, including any FF&E Replacements proposed by the
Manager that are not contained on the annual list which was approved by the
Operating Partnership and the Lessee. If the Manager and the Operating
Partnership agree, the Operating Partnership will acquire or otherwise provide
the FF&E Replacements set forth on the approved list. If the Operating
Partnership and the Manager are unable to agree on the list within 60 days of
its submission, the Operating Partnership will be required to make only those
FF&E Replacements specified on such list that are no more extensive than the
system standards for FF&E Replacements that the Manager requires for Marriott
hotels. For purposes of funding the FF&E Replacements required to be paid for
by the Operating Partnership, each Management Agreement and the Operating
Partnership's loan agreements require the Operating Partnership to deposit a
designated amount into the FF&E Reserve Account periodically. The Lessees will
have no obligation to fund the FF&E Reserve Accounts.
Under each Lease, the Operating Partnership will be responsible for the
costs of FF&E Replacements and for decisions with respect thereto (subject to
its obligations to the Lessee under the Lease).
Building Alterations, Improvements and Renewals. The Management Agreements
require the Manager to prepare an annual estimate of the expenditures necessary
for major repairs,
109
<PAGE>
alterations, improvements, renewals and replacements to the structural,
mechanical, electrical, heating, ventilating, air conditioning, plumbing and
vertical transportation elements of each Hotel. Such estimate will be submitted
to the Operating Partnership and the Lessee for their approval. In addition to
the foregoing, the Management Agreements generally provide that the Manager may
propose such changes, alterations and improvements to the Hotel as are required,
in the Manager's reasonable judgment, to keep the Hotel in a competitive,
efficient and economical operating condition or in accordance with Marriott
standards. The cost of the foregoing shall be paid from the FF&E Reserve
Account; to the extent that there are insufficient funds in such account, the
Operating Partnership is required to pay any shortfall. Under the Management
Agreements (and the Leases), neither the Operating Partnership nor the Lessee
may unreasonably withhold consent to repairs and other changes which are
required under applicable law or any of the Manager's "life-safety" standards
and, if the Operating Partnership and the Lessee fail to approve any of the
other proposed repairs or other changes within 60 days of the request therefor,
the Manager may terminate the Management Agreement. Under certain other of the
Management Agreements, if the Operating Partnership and the Manager are unable
to agree on the estimate within 60 days of its submission, the Operating
Partnership will be required to make only those expenditures that are no more
extensive than the Manager requires for Marriott hotels generally, as the case
may be. Under the terms of the Leases, the Operating Partnership will be
responsible for the costs of the foregoing items and for decisions with respect
thereto (subject to its obligations to the Lessees under the Leases).
Service Marks. During the term of the Management Agreements, the service
mark "Marriott" and other symbols, logos and service marks currently used by the
Manager and its affiliates may be used in the operation of the Hotels. Marriott
International (or its applicable affiliates) intends to retain its legal
ownership of these marks. Any right to use the service marks, logo and symbols
and related trademarks at a Hotel will terminate with respect to that Hotel upon
termination of the Management Agreement with respect to such Hotel.
Termination Fee. Certain of the Management Agreements provide that if the
Management Agreement is terminated prior to its full term due to casualty,
condemnation or the sale of the Hotel, the Manager will receive a termination
fee as specified in the specific Management Agreement. Under the Leases, the
responsibility for the payment of any such termination fee as between the Lessee
and the Operating Partnership will depend upon the cause for such termination.
Termination for Failure to Perform. Substantially all of the Management
Agreements may be terminated based upon a failure to meet certain financial
performance criteria, subject to the Manager's right to prevent such termination
by making certain payments to the Lessee based upon the shortfall in such
criteria.
Events of Default. Events of default under the Management Agreements
include, among others, the following: (i) the failure of either party to make
payments pursuant to the Management Agreement within ten days after written
notice of such nonpayment has been made, (ii) the failure of either party to
perform, keep or fulfill any of the covenants, undertakings, obligations or
conditions set forth in the Management Agreement and the continuance of such
default for a period of 30 days after notice of said failure or, if such default
is not susceptible of being cured within 30 days, the failure to commence said
cure within 30 days or thereafter fails to diligently pursue such efforts to
completion, (iii) if either party files a voluntary petition in bankruptcy or
insolvency or a petition for reorganization under any bankruptcy law or admits
that it is unable to pay its debts as they become due, (iv) if either party
consents to an involuntary petition in bankruptcy or fails to vacate, within 90
days from the date of entry thereof, any order approving an involuntary petition
by such party; or (v) if an order, judgment or decree by any court of competent
jurisdiction, on the application of a creditor, adjudicating either party as
bankrupt or insolvent or approving a petition seeking reorganization or
appointing a receiver, trustee, or liquidator or all or a substantial part of
such
110
<PAGE>
party's assets is entered, and such order, judgment or decree's continues
unstayed and in effect for any period of 90 days.
As described above, all fees payable under the Management Agreements will
become obligations of the Lessees, to be paid by the Lessees, as modified prior
to the consummation of the REIT Conversion, for so long as the Leases remain in
effect. The Lessees' obligations to pay these fees, however, could adversely
affect the ability of one or more Lessees to pay Base Rent or Percentage Rent
payable under the Leases, even though such amounts otherwise are due and owing
to the Operating Partnership.
NONCOMPETITION AGREEMENTS
Following the REIT Conversion, Host REIT, the Operating Partnership and SLC
will be subject to the noncompetition agreements currently in effect between
Host and Marriott International. See "Certain Relationships and Related
Transactions-- Relationship Between Host and Marriott International."
111
<PAGE>
INDEBTEDNESS
As of March 27, 1998, the Operating Partnership had the following debt
outstanding:
<TABLE>
<CAPTION>
OUTSTANDING
PRINCIPAL
BALANCE AT
MARCH 27, 1998
(IN MILLIONS)
--------------------------
<S> <C>
Properties Notes, with a rate of 9 1/2% due May 2005.................................... $ 600
New Properties Notes, with a rate of 8 7/8% due July 2007............................... 600
Acquisitions Notes, with a rate of 9% due December 2007................................. 350
Senior Notes, with an average rate of 9 3/4% at March 27, 1998, maturing through 2012... 35
--------
Total Senior Notes................................................................. 1,585
--------
Mortgage debt (non-recourse) secured by $2.6 billion of real estate assets, with an
average rate of 8.3% at March 27, 1998, maturing through 2022.......................... 1,921(1)
Line of Credit, secured by $500 million of real estate assets, with a variable rate of
Eurodollar plus 1.7% or Base Rate (as defined) plus 0.7% at the option of the
Operating Partnership (7.4% at March 27, 1998) due June 2004........................... 22
--------
Total Mortgage Debt................................................................ 1,943
--------
Other notes, with an average rate of 7.4% at March 27, 1998, maturing through 2017...... 88
Capital lease obligations............................................................... 8
--------
Total Other Debt................................................................... 96
--------
Total Debt......................................................................... $ 3,624(2)
========
</TABLE>
________________________
(1) Includes consolidated mortgage indebtedness of Atlanta Marquis, Desert
Springs, Hanover, MHP and MHP2, which, on an individual Partnership basis,
is as follows:
<TABLE>
<CAPTION>
OUTSTANDING PRINCIPAL BALANCE 1998
AT MARCH 27, 1998 DEBT SERVICE
(IN MILLIONS) MATURITY DATE INTEREST RATE (IN MILLIONS)
------------------------------- ------------- ------------- -------------
<S> <C> <C> <C> <C>
ATLANTA MARQUIS
First mortgage debt......................... $164 02/11/10 7.4% $12.4
DESERT SPRINGS
First mortgage debt......................... 103 12/11/22 7.8% 9.4
Mezzanine debt.............................. 20 12/12/10 10.365% 2.8
---- -----
Total Desert Springs debt................... 123 12.2
---- -----
HANOVER
Mortgage debt............................... 30 08/01/04 8.58% 3.0
---- -----
MHP
First mortgage debt......................... 152 01/01/08 7.48% 12.7
Second mortgage debt........................ 84 05/01/00 9.125% 9.2
---- -----
Total MHP debt.............................. 236 21.9
---- -----
MHP2
Mortgage debt............................... 221 10/11/07 8.22% 22.6
---- -----
Total consolidated debt included above....
$774 $72.1
==== =====
</TABLE>
112
<PAGE>
(2) The consolidated Company debt of $3,624 million does not include
indebtedness of Chicago Suites, MDAH and PHLP, which, on an individual
Partnership basis, is as follows, and would increase the Operating
Partnership's total indebtedness to $3,939 million at March 27, 1998.
<TABLE>
<CAPTION>
OUTSTANDING PRINCIPAL 1998
BALANCE AT MARCH 27, 1998 DEBT SERVICE
(IN MILLIONS) MATURITY DATE INTEREST RATE (IN MILLIONS)
---------------------------- -------------- ------------------ -------------
<S> <C> <C> <C> <C>
CHICAGO SUITES
Mortgage debt.................. $ 24.3 06/12/01 3 month LIBOR + 2% $ 3.4
------ ----
MDAH
Note A......................... 76.4 12/15/99 LIBOR + 1% 6.4
Note B......................... 36.3 12/15/99 LIBOR 2.2
Note C......................... 9.3 12/15/10 No interest --
------ ----
122 8.6
------ ----
PHLP
Mortgage debt.................. 168.9 12/22/98(1) LIBOR + 1.5% N/A(2)
------
Total unconsolidated debt...... $315.2
======
</TABLE>
____________
(1) Maturity can be extended to December 1999.
(2) Interest expense is budgeted at $14.2 million for 1998. Minimum principal
payments are $6.0 million. On February 23, 1998, $3.8 million was repaid in
principal from 1997 excess cash. A principal payment is budgeted to be made
in February 1999 from 1998 excess cash.
Aggregate debt maturities at March 27, 1998, excluding capital lease
obligations, are (in millions):
<TABLE>
<S> <C>
1998.............................................. $ 316
1999.............................................. 29
2000.............................................. 133
2001.............................................. 126
2002.............................................. 144
Thereafter........................................ 2,868
------
$3,616
======
</TABLE>
113
<PAGE>
DISTRIBUTION AND OTHER POLICIES
The following is a discussion of the anticipated policies with respect to
distributions, investments, financing, lending, conflicts of interest and
certain other activities of the Operating Partnership and Host REIT. Upon
consummation of the REIT Conversion, the Operating Partnership's policies with
respect to these activities will be determined by the Board of Trustees of Host
REIT and may be amended or revised from time to time at the discretion of the
Board of Trustees without notice to, or a vote of, the shareholders of Host REIT
or the limited partners of the Operating Partnership, except that changes in
certain policies with respect to conflicts of interest must be consistent with
legal and contractual requirements.
DISTRIBUTION POLICY
Host REIT and the Operating Partnership intend to pay regular quarterly
distributions to holders of Common Shares and OP Units. The distributions to
shareholders per Common Share will be in an amount equal to the amount
distributed by the Operating Partnership per OP Unit. The Operating Partnership
will establish its initial distribution at a level that will enable the
Operating Partnership to distribute an amount equal to 100% of its taxable
income. On a preliminary basis, Host currently estimates that this policy will
result in an initial annual distribution of approximately $--- to $--- per OP
Unit ($-- to $-- per quarter). Investors are cautioned that Host expects that
its preliminary estimate will change, and the changes may be material, as a
result of issuances of additional equity securities by Host prior to the REIT
Conversion, changes in operations, changes in the preliminary estimate of
taxable income for 1999 and various other factors (some of which may be beyond
the control of Host). The actual distributions made by the Operating Partnership
will be affected by a number of factors, including the rental payments received
by the Operating Partnership from the Lessees with respect to the Leases on the
Hotels, the operating expenses of the Operating Partnership, the interest
expense incurred in borrowing, the taxable income of the Operating Partnership
and unanticipated capital expenditures. No assurance can be given that the
Operating Partnership's estimates will prove accurate or that any level of
distributions will be made or sustained. The Operating Partnership anticipates
that distributions will exceed net income determined in accordance with
generally accepted accounting principles due to non-cash expenses, primarily
depreciation and amortization.
For a discussion of the tax treatment of distributions to holders of OP
Units, see "Federal Income Tax Considerations--Tax Treatment of Holders of OP
Units--Treatment of Operating Partnership Distributions." For a discussion of
the annual distribution requirements applicable to REITs, see "Federal Income
Tax Considerations--Taxation of Host REIT Following the REIT Conversion--Annual
Distribution Requirements Applicable to REITs." For a discussion of the tax
treatment of distributions to the holders of Common Shares, see "Federal Income
Tax Considerations--Taxation of Taxable U.S. Shareholders of Host REIT
Generally," "--Taxation of Tax-Exempt Shareholders of Host REIT" and "--Taxation
of Non-U.S. Shareholders of Host REIT."
INVESTMENT POLICIES
Investments in Real Estate or Interests in Real Estate. Host REIT is
required to conduct all of its investment activities through the Operating
Partnership. The Operating Partnership's investment objectives are to (i)
achieve long-term sustainable growth in Funds From Operations per OP Unit or
Common Share, (ii) increase asset values by improving and expanding the initial
Hotels, as appropriate, (iii) acquire additional existing and newly developed
upscale and luxury full-service hotels in targeted markets, (iv) develop and
construct upscale and luxury full-service hotels and (v) potentially pursue
other real estate investments. The Operating Partnership's business will be
focused on upscale and luxury full-service hotels. Where appropriate, and
subject to REIT qualification rules and limitations contained in the Partnership
Agreement, the Operating Partnership may sell certain of its hotels.
114
<PAGE>
The Operating Partnership also may participate with other entities in
property ownership through joint ventures or other types of co-ownership.
Equity investments may be subject to existing mortgage financing and other
indebtedness or such financing or indebtedness may be incurred in connection
with acquiring investments. Any such financing or indebtedness will have
priority over the Operating Partnership's equity interest in such property.
Investments in Real Estate Mortgages. While the Operating Partnership will
emphasize equity real estate investments, it may, in its discretion, invest in
mortgages and other similar interests. The Operating Partnership does not
intend to invest to a significant extent in mortgages or deeds of trust, but may
acquire mortgages as a strategy for acquiring ownership of a property or the
economic equivalent thereof, subject to the investment restrictions applicable
to REITs. See "Business and Properties--Blackstone Acquisition," "Federal
Income Tax Considerations--Taxation of Host REIT Following the REIT Conversion
- --Income Tests Applicable to REITs" and "--Asset Tests Applicable to REITs."
As of March 27, 1998, the Operating Partnership held two mortgages secured by
hotels. In addition, the Operating Partnership may invest in mortgage-related
securities and/or may seek to issue securities representing interests in such
mortgage-related securities as a method of raising additional funds.
Securities of or Interests in Persons Primarily Engaged in Real Estate
Activities and Other Issuers. Subject to the percentage of ownership
limitations and gross and asset income tests necessary for REIT qualification,
the Operating Partnership also may invest in securities of other entities
engaged in real estate activities or invest in securities of other issuers,
including for the purpose of exercising control over such entities. The
Operating Partnership may acquire all or substantially all of the securities or
assets of other REITs or similar entities where such investments would be
consistent with the Operating Partnership's investment policies. No such
investments will be made, however, unless the Board of Trustees determines that
the proposed investment would not cause either Host REIT or the Operating
Partnership to be an "investment company" within the meaning of the Investment
Company Act of 1940, as amended.
FINANCING POLICIES
The Operating Partnership's and Host REIT's organizational documents
currently contain no restrictions on incurring debt. Host REIT and the
Operating Partnership, however, will have a policy of incurring debt only if
upon such incurrence the debt-to-total market capitalization of Host REIT and
the Operating Partnership would be __% or less. In addition, the Indenture
limits the amount of Debt (as defined in the Indenture, see "Description of the
Notes-Limitations on Incurrence of Debt") that the Operating Partnership may
incur if, immediately after giving effect to the incurrence of such additional
Debt, the aggregate principal amount of all outstanding Debt of the Operating
Partnership and its Subsidiaries (as defined in the Indenture) on a consolidated
basis is greater than 60% of the Total Market Capitalization (as defined herein)
of the Operating Partnership on the date of such incurrence. Indentures for
debt issued to replace the public bonds may contain other restrictions. The
Operating Partnership may, from time to time, reduce its outstanding
indebtedness by repurchasing a portion of such outstanding indebtedness, subject
to certain restrictions contained in the Partnership Agreement and the terms of
its outstanding indebtedness. The Operating Partnership will from time to time
reevaluate its borrowing policies in light of then current economic conditions,
relative costs of debt and equity capital, market values of properties, growth
and acquisition opportunities and other factors. Consequently, the Operating
Partnership's financing policy is subject to modification and change. The
Operating Partnership may modify its borrowing policy without any vote of the
shareholders of Host REIT or the limited partners of the Operating Partnership.
To the extent that the Board of Trustees determines to seek additional
capital, Host REIT or the Operating Partnership may raise such capital through
equity offerings, debt financing or
115
<PAGE>
retention of cash flow or a combination of these methods. As long as the
Operating Partnership is in existence, the net proceeds of all equity capital
raised by Host REIT will be contributed to the Operating Partnership in exchange
for OP Units in the Operating Partnership, which will dilute the ownership
interest of limited partners of the Operating Partnership.
In the future, the Operating Partnership may seek to extend, expand, reduce
or renew its existing Credit Facility, or obtain new credit facilities or lines
of credit, subject to its general policy relating to the ratio of debt-to-total
market capitalization, for the purpose of making acquisitions or capital
improvements or providing working capital or meeting the taxable income
distribution requirements for REITs under the Code. In the future, Host REIT
and the Operating Partnership also may determine to issue securities senior to
the Common Shares or OP Units, including preferred shares and debt securities
(either of which may be convertible into Common Shares or OP Units or may be
accompanied by warrants to purchase Common Shares or OP Units).
The Operating Partnership has not established any limit on the number or
amount of mortgages that may be placed on any single hotel or on its portfolio
as a whole, although the Operating Partnership's objective is to reduce its
reliance on secured indebtedness.
LENDING POLICIES
The Operating Partnership may consider offering purchase money financing in
connection with the sale of a hotel where the provision of such financing will
increase the value received by the Operating Partnership for the hotel sold.
CONFLICTS OF INTEREST POLICIES
Host REIT's Board of Trustees is subject to provisions of Maryland law
designed to address conflicts of interest. There can be no assurance, however,
that these policies and provisions or these agreements always will be successful
in eliminating the influence of such conflicts. If they are not successful,
decisions could be made that may fail to reflect fully the interests of all
limited partners of the Operating Partnership.
Absence of Arm's Length Negotiations. Pursuant to Maryland law (where Host
REIT is organized), any contract or transaction between Host REIT and a trustee,
or any entity in which the trustee is a trustee or has a material financial
interest, generally must be (i) disclosed to the Board of Trustees and approved
by the affirmative vote of a majority of the trustees not having such an
interest ("disinterested trustees"), (ii) disclosed to the shareholders and
approved by the affirmative vote of a majority of the disinterested shareholders
or (iii) be in fact fair and reasonable to Host REIT. In addition, under
Delaware law (where the Operating Partnership is formed), Host REIT, as general
partner, has a fiduciary duty to the Operating Partnership and, consequently,
such transactions are subject to the duties of care and loyalty that Host REIT,
as general partner, owes to limited partners of the Operating Partnership (to
the extent such duties have not been eliminated pursuant to the terms of the
Partnership Agreement). The Partnership Agreement provides that (i) in
considering to dispose of any of the assets of the Operating Partnership, Host
REIT shall take into account the tax consequences to it of any such disposition
and shall have no liability to the Operating Partnership or the limited partners
for decisions based upon or influenced by such tax consequences (and the
Operating Partnership generally is obligated to pay any taxes Host REIT incurs
as a result of such transactions), and (ii) Host REIT, as general partner, is
under no obligation to consider the separate interests of the limited partners
(including, without limitation, tax consequences) in deciding whether to cause
the Operating Partnership to take, or decline to take, any action and (iii) any
act or omission by Host REIT, as a general partner, undertaken in the good faith
belief that such action is necessary or desirable to protect the ability of Host
REIT to continue to qualify as a REIT or to allow Host REIT to avoid incurring
liability for taxes under Section 857 or 4981 of the Code (relating to required
distributions) is deemed approved by all limited partners.
116
<PAGE>
OFFICERS AND TRUSTEES OF HOST REIT
Host REIT expects to adopt a policy which would require that all material
contracts and transactions between Host REIT, the Operating Partnership or any
of its subsidiaries, on the one hand, and a trustee or executive officer of Host
REIT or any entity in which such trustee or executive officer is a trustee or
has a material financial interest, on the other hand, must be approved by the
affirmative vote of a majority of the disinterested trustees. Where appropriate
in the judgment of the disinterested trustees, the Board of Trustees may obtain
a fairness opinion or engage independent counsel to represent the interests of
nonaffiliated security holders, although the Board of Trustees will have no
obligation to do so.
POLICIES WITH RESPECT TO OTHER ACTIVITIES
The Operating Partnership may, but does not presently intend to, make
investments other than as previously described. Host REIT will make investments
only through the Operating Partnership. Host REIT and the Operating Partnership
will have authority to offer their securities and to repurchase or otherwise
reacquire their securities and may engage in such activities in the future.
Host REIT and the Operating Partnership also may make loans to joint ventures in
which they may participate in the future to meet working capital needs. Neither
Host REIT nor the Operating Partnership will engage in trading, underwriting,
agency distribution or sale of securities of other issuers. At all times Host
REIT intends to cause the Operating Partnership to make investments in such a
manner as to be consistent with the requirements of the Code for Host REIT to
qualify as a REIT unless, because of changing circumstances or changes in the
Code (or the regulations promulgated thereunder), the Board of Trustees
determines that (i) it is no longer in the best interests of Host REIT to
continue to qualify as a REIT and (ii) that the Operating Partnership will still
qualify as a partnership for federal income tax purposes, or, alternatively, it
is no longer in the interests of the holders of OP Units for the Operating
Partnership to continue to qualify as a partnership. Host REIT's policies with
respect to such activities may be reviewed and modified from time to time by
Host REIT's trustees without notice to, or the vote of, its shareholders.
117
<PAGE>
SELECTED FINANCIAL DATA
The following table presents certain selected historical financial data of the
Company which has been derived from the Company's audited Combined Consolidated
Financial Statements for the five most recent fiscal years ended January 2, 1998
and the unaudited condensed combined consolidated financial statements for the
First Quarter 1998 and First Quarter 1997. The income statement data for fiscal
year 1993 does not reflect the Marriott International Distribution and related
transactions and, accordingly, the table presents data for the Company for 1993
that includes amounts attributable to Marriott International. As a result of the
Marriott International Distribution and related transactions, the assets,
liabilities and businesses of the Company have changed substantially.
<TABLE>
<CAPTION>
First Quarter Fiscal Year
------------- -----------------------------------------------------------
1998 1997 1997/(1)/ 1996/(2)/ 1995/(3)/ 1994/(1)/ 1993/(1)//(4)/
---- ---- ------- ------- ------- ------- --------------
(unaudited) (in millions)
<S> <C> <C> <C> <C> <C> <C> <C>
Income Statement Data:
Revenues................................ $ 325 $ 252 $ 1,110 $ 732 $ 484 $ 380 $ 659
Operating profit before minority
interest, corporate expenses
and interest.......................... 147 91 432 233 114 152 92
Interest expense........................ 76 63 287 237 178 165 164
Income (loss) from
continuing operations................. 28 6 47 (13) (62) (13) 56
Net income (loss) /(5)/................. 28 11 50 (13) (143) (25) 50
Other Operating Data:
Cash from continuing operations......... 98 90 432 201 142 146 415
Cash provided by (used in) investing
activities from continuing operations. 24 (135) (807) (504) (208) (178) (262)
Cash provided by (used in) financing
activities from continuing operations. (77) (129) 165 806 200 26 (389)
EBITDA /(6)/ (unaudited)................ 204 154 683 442 311 269 N/A
Comparative FFO /(7)/ (unaudited)....... 85 60 285 164 136 N/A N/A
Cash interest expense/(8)/ (unaudited).. 73 59 271 223 170 158 N/A
Depreciation and amortization........... 54 51 231 168 122 113 N/A
Ratio Data (unaudited):
EBITDA to cash interest expense......... 2.8x 2.6x 2.5x 2.0x 1.8x 1.7x N/A
Ratio of earnings to
fixed charges /(9)/................... 1.7x 1.3x 1.3x 1.0x -- -- N/A
Deficiency of earnings to
fixed charges /(9)/................... -- -- -- -- 70 12 N/A
Balance Sheet Data:
Cash, cash equivalents and short-term
marketable securities................. $ 700 $ 530 $ 844 $ 704 $ 201 $ 67 $ 73
Total assets............................ 6,120 5,301 5,907 5,152 3,557 3,366 3,362
Debt.................................... 3,624 2,731 3,466 2,647 2,178 1,871 2,113
</TABLE>
(1) In the First Quarter 1997 and fiscal year 1997, the Company recognized a
$5 million and $3 million, respectively, extraordinary gain, net of taxes,
on the extinguishment of certain debt. In 1994, the Company recognized a $6
million extraordinary loss, net of taxes, on the required redemption of
senior notes. In 1993, the Company recognized a $4 million extraordinary
loss, net of taxes, on the completion of an exchange offer for its then
outstanding bonds.
(2) Fiscal year 1996 includes 53 weeks.
(3) Operating results for 1995 include a $10 million pre-tax charge to write
down the carrying value of five limited service properties to their net
realizable value and a $60 million pre-tax charge to write down an
undeveloped land parcel to its estimated sales value. In 1995, the Company
recognized a $20 million extraordinary loss, net of taxes, on the
extinguishment of debt.
(4) Operating results for 1993 include the operations of Marriott International
through the Marriott International Distribution date of October 8, 1993.
These operations had a net pre-tax effect on income of $211 million for the
year ended December 31, 1993 and are recorded as "Profit from operations
distributed to Marriott International" on the Company's consolidated
statements of operations and are, therefore, not included in sales,
operating profit before corporate expenses and interest, interest expense
and interest income for the same period. The net pre-tax effect of these
operations is, however, included in income before income taxes,
extraordinary item and cumulative effect of changes in accounting
principles and in net income for the same periods. Statement of Financial
Accounting Standards ("SFAS") No. 109, "Accounting for Income Taxes," was
adopted in the first quarter of 1993. In the second quarter of 1993, the
Company changed its accounting method for assets held for sale. During
1993, the Company recorded a $34 million credit to reflect the adoption of
SFAS No. 109 and a
118
<PAGE>
$32 million charge, net of taxes, to reflect the change in its accounting
method for assets held for sale. Operating results in 1993 included pre-tax
expenses related to the Marriott International Distribution totaling $13
million.
(5) The Company recorded a loss from discontinued operations, net of taxes, as
a result of the Special Dividend (as defined herein) of $61 million in
1995, $6 million in 1994, and $4 million in 1993. The 1995 loss from
discontinued operations includes a pre-tax charge of $47 million for the
adoption of SFAS No. 121, "Accounting For the Impairment of Long-Lived
Assets and Long-Lived Assets to be Disposed Of," a pre-tax $15 million
restructuring charge and an extraordinary loss of $10 million, net of
taxes, on the extinguishment of debt.
(6) EBITDA consists of the sum of consolidated net income from continuing
operations, interest expense, depreciation and amortization and certain
other noncash charges (principally noncash write-downs of lodging
properties and equity in earnings of affiliates, net of distributions
received). The Company considers EBITDA to be an indicative measure of the
Company's operating performance due to the significance of the Company's
long-lived assets and because EBITDA can be used to measure the Company's
ability to service debt, fund capital expenditures and expand its business;
however, such information should not be considered as an alternative to net
income, operating profit, cash flows from operations, or any other
operating or liquidity performance measure prescribed by generally accepted
accounting principles ("GAAP"). Cash expenditures for various long-term
assets and interest expense have been, and will be, incurred which are not
reflected in the EBITDA presentations.
(7) The Company considers Comparative Funds From Operations ("Comparative
FFO," which represents Funds From Operations, as defined by the National
Association of Real Estate Investment Trusts ("NAREIT"), plus deferred tax
expense) a meaningful disclosure that will help the investment community to
better understand the financial performance of the Company, including
enabling its shareholders and analysts to more easily compare the Company's
performance to REITs. FFO is defined by NAREIT as net income computed in
accordance with GAAP, excluding gains or losses from debt restructurings
and sales of properties, plus depreciation and amortization, and after
adjustments for unconsolidated partnerships and joint ventures. FFO should
not be considered as an alternative to net income, operating profit, cash
flows from operations, or any other operating or liquidity performance
measure prescribed by GAAP. FFO is also not an indicator of funds available
to fund the Company's cash needs, including its ability to make
distributions.
(8) Cash interest expense is calculated as GAAP cash interest expense less
amortization of deferred financing costs.
(9) The ratio of earnings to fixed charges is computed by dividing net income
before interest expense and other fixed charges by total fixed charges,
including interest expense, amortization of debt issuance costs and the
portion of rent expense that is deemed to represent interest. The
deficiency of earnings to fixed charges is largely the result of
depreciation and amortization of $122 million and $113 million in 1995 and
1994, respectively.
119
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS
AND FINANCIAL CONDITION
Lack of Comparability Following the Consolidation
Because the Company's Hotels will be leased following the Mergers and the
REIT Conversion, the Company does not believe that the historical results of
operations will be comparable to the results of operations of the Company
following the Mergers and the REIT Conversion. For pro forma information giving
effect to the Mergers and the REIT Conversion (including the Leases), see
"Unaudited Pro Forma Financial Information."
Historical Results of Operations
Revenues primarily represent house profit from the Company's hotel properties,
net gains (losses) on property transactions and equity in the earnings (losses)
of affiliates. House profit reflects the net revenues flowing to the Company as
property owner and represents gross hotel sales less property-level expenses
(excluding depreciation, management fees, property taxes, ground and equipment
rent, insurance and certain other costs which are classified as operating costs
and expenses included in the accompanying financial statements). Other operating
costs and expenses include idle land carrying costs and certain other costs.
The Company's hotel operating costs and expenses are, to a great extent,
fixed. Therefore, the Company derives substantial operating leverage from
increases in revenue. This operating leverage is somewhat diluted, however, by
the impact of base management fees which are calculated as a percentage of
sales, variable lease payments and incentive management fees tied to operating
performance above certain established levels. Successful hotel performance
resulted in certain of the Company's properties reaching levels which allowed
the manager to share in the growth of profits in the form of higher management
fees. The Company expects that this trend will continue in 1998 as the upscale
and luxury full-service segments continue to strengthen. At these higher
operating levels, the Company's and the managers' interests are closely aligned,
which helps to drive further increases in profitability, but moderates operating
leverage.
For the periods discussed herein, the Company's hotel properties have
experienced substantial increases in room revenues generated per available room
("REVPAR"). REVPAR is a commonly used indicator of market performance for
hotels which represents the combination of the average daily room rate charged
and the average occupancy achieved. REVPAR does not include food and beverage
or other ancillary revenues generated by the property. The REVPAR increase
primarily represents strong percentage increases in room rates, while average
occupancy increases have been more moderate. Increases in average room rates
have generally been achieved by the managers through shifting occupancies away
from discounted group business to higher-rated group and transient business and
by selectively increasing room rates. This has been made possible by increased
travel due to improved economic conditions and by the favorable supply/demand
characteristics existing in the upscale and luxury full-service segments of the
lodging industry. The Company expects this favorable relationship between supply
growth and demand growth to continue in the luxury and upscale markets in which
it operates, which should result in improved REVPAR and operating profits at its
hotel properties in the near term. However, there can be no assurance that
REVPAR will continue to increase in the future.
First Quarter 1998 Compared to First Quarter 1997 (Historical)
Revenues. Revenues primarily represent house profit from the Company's hotel
properties, net gains (losses) on property transactions and equity in earnings
(losses) of affiliates. Revenues increased $73 million, or 29%, to $325 million
for the twelve weeks ended March 27, 1998 ("First Quarter 1998") from $252
million for the for the twelve weeks ended March 28, 1997 ("First Quarter
1997"). The Company's revenue and operating profit were
120
<PAGE>
impacted by improved lodging results for comparable full-service hotel
properties and the addition of 18 full-service hotel properties during 1997 and
four full-service properties during the First Quarter 1998.
Hotel sales (gross hotel sales, including room sales, food and beverage sales,
and other ancillary sales such as telephone sales) increased $167 million, or
27%, to $787 million in the First Quarter 1998, reflecting the REVPAR increases
for comparable units and the addition of full-service properties in 1997 and
1998. Improved results for the Company's full-service hotels were driven by
strong increases in REVPAR for comparable units of 9.0% to $116.20 for the First
Quarter 1998. Results were further enhanced by a one percentage point increase
in the house profit margin for comparable full-service properties. On a
comparable basis for the Company's full-service hotel properties, average room
rates increased almost nine percent, while average occupancy increased slightly.
Operating Costs and Expenses. Operating costs and expenses principally consist
of depreciation, management fees, property taxes, ground, building and equipment
rent, insurance and certain other costs. Operating costs and expenses increased
$17 million to $178 million in the First Quarter 1998 from $161 million in the
First Quarter 1997, primarily representing increased hotel operating costs,
including depreciation and management fees. Hotel operating costs increased $22
million to $173 million for the First Quarter 1998 primarily due to the addition
of 22 full-service properties during 1997 and the First Quarter 1998 and
increased management fees and rentals tied to improved property results. As a
percentage of hotel revenues, hotel operating costs and expenses decreased to
54% of revenues in the First Quarter 1998 from 61% of revenues in the First
Quarter 1997 due to the significant increases in REVPAR discussed above, as well
as the operating leverage as a result of a significant portion of the Company's
hotel operating costs and expenses being fixed.
Operating Profit. As a result of the changes in revenues and operating costs
and expenses discussed above, the Company's operating profit increased $56
million, or 62%, to $147 million for the First Quarter 1998. Hotel operating
profit increased $51 million, or 53%, to $148 million, or 46% of hotel revenues,
for the First Quarter 1998 from $97 million, or 39% of hotel revenues, for the
First Quarter 1997. Specifically, hotels in New York City, Toronto and Atlanta
reported significant improvements for the First Quarter 1998. Properties on the
Pacific coast and Florida reported some minor softness in results due to
exceptionally rainy weather in 1998. Results in 1998 for the New Orleans
Marriott have been adversely impacted by a rooms renovation at the hotel and the
SuperBowl (which was held in New Orleans in 1997).
Minority Interest. Minority interest expense increased $5 million to $16
million for the First Quarter 1998, primarily reflecting the impact of the
consolidation of affiliated partnerships and the acquisition of controlling
interests in newly-formed partnerships during 1997 and the First Quarter 1998.
Corporate Expenses. Corporate expenses increased $2 million to $11 million for
the First Quarter 1998. As a percentage of revenues, corporate expenses
decreased to 3.4% of revenues in the First Quarter 1998 from 3.6% in the First
Quarter 1997, reflecting the Company's efforts to carefully control its
corporate expenses in spite of the substantial growth in revenues.
Interest Expense. Interest expense increased 21% to $76 million in the First
Quarter 1998, primarily due to additional debt of approximately $580 million
assumed in connection with the 1997 and 1998 full-service hotel additions, as
well as the issuance of $600 million of 8 7/8% senior notes in July 1997.
Dividends on Convertible Preferred Securities. The Dividends on Convertible
Preferred Securities reflect the dividends accrued during the first twelve weeks
of fiscal year 1998 and 1997 on the $550 million in 6.75% Convertible Preferred
Securities issued by the Company in December 1996.
Interest Income. Interest income increased $2 million to $14 million for the
First Quarter 1998, primarily reflecting interest earned on cash held for future
hotel investments.
121
<PAGE>
Income before Extraordinary Item. Income before extraordinary item for the
First Quarter 1998 was $28 million, compared to $6 million for the First Quarter
1997.
Extraordinary gain. In March 1997, the Company purchased 100% of the
outstanding bonds secured by a first mortgage on the San Francisco Marriott
Hotel. The Company purchased the bonds for $219 million, which was an $11
million discount to the face value of $230 million. In connection with the
redemption and defeasance of the bonds, the Company recognized an extraordinary
gain of $5 million, which represents the $11 million discount and the write-off
of deferred financing fees, net of taxes.
Net Income. The Company's net income for the First Quarter 1998 was $28 million
compared to $11 million for the First Quarter 1997.
1997 Compared to 1996 (Historical)
Revenues. Revenues increased $378 million, or 52%, to $1.1 billion for 1997.
The Company's revenue and operating profit were impacted by:
- improved lodging results for comparable full-service hotel properties;
- the addition of 23 full-service hotel properties during 1996 and 18
full-service properties during 1997;
- the 1996 sale and leaseback of 16 Courtyard properties and 18 Residence
Inns;
- the 1997 results including 52 weeks versus 53 weeks in 1996.
Hotel sales increased $864 million, or 44%, to over $2.8 billion in 1997,
reflecting the REVPAR increases for comparable units and the addition of full-
service properties during 1996 and 1997. Improved results for the Company's
full-service hotels were driven by strong increases in REVPAR for comparable
units of 12.6% in 1997. Results were further enhanced by a more than two
percentage point increase in the house profit margin for comparable full-service
properties. On a comparable basis for the Company's full-service properties,
average room rates increased almost 11%, while average occupancy increased over
one percentage point.
Operating Costs and Expenses. Operating costs and expenses increased $179
million to $678 million for 1997, primarily representing increased hotel
operating costs, including depreciation and management fees. Hotel operating
costs increased $188 million to $649 million, primarily due to the addition of
41 full-service properties during 1996 and 1997, and increased management fees
and rentals tied to improved property results. As a percentage of hotel
revenues, hotel operating costs and expenses decreased to 59% of revenues for
1997, from 64% of revenues for 1996, reflecting the impact of increased 1997
revenues on relatively fixed operating costs and expenses.
Operating Profit. As a result of the changes in revenues and operating costs
and expenses discussed above, the Company's operating profit increased $199
million, or 85%, to $432 million in 1997. Hotel operating profit increased $188
million, or 73%, to $444 million, or 41% of hotel revenues, for 1997 compared to
$256 million, or 36% of hotel revenues, for 1996. In nearly all markets, the
Company's hotels recorded improvements in comparable operating results. In
particular, the Company's hotels in the Northeast, Mid-Atlantic and Pacific
coast regions benefited from the upscale and luxury full-service room supply and
demand imbalance. Hotels in New York City, Philadelphia, San Francisco/Silicon
Valley and in Southern California performed particularly well. In 1998, the
Company expects results to be strong in these markets and other gateway cities
in which the Company owns hotels. In 1997, the Company's suburban Atlanta
properties (three properties totaling 1,022 rooms) generally reported decreased
results due to higher activity in 1996 related to the Summer Olympics and the
impact of the additional supply added to the suburban areas. However, the
majority of the Company's hotel rooms in Atlanta are in the core business
districts in downtown and Buckhead where they realized strong year-over-year
results and were only marginally impacted by the additional supply.
122
<PAGE>
Minority Interest. Minority interest expense increased $26 million to $32
million for 1997, primarily reflecting the impact of the consolidation of
affiliated partnerships and the acquisition of controlling interests in newly-
formed partnerships during 1996 and 1997.
Corporate Expenses. Corporate expenses increased $2 million to $45 million
in 1997. As a percentage of revenues, corporate expenses decreased to 4.1% of
revenues in 1997 from 5.9% of revenues in 1996. This reflects the Company's
efforts to carefully control its corporate expenses in spite of the substantial
growth in revenues.
Interest Expense. Interest expense increased $50 million to $287 million in
1997, primarily due to the additional mortgage debt of approximately $1.1
billion assumed in connection with the 1996 and 1997 full-service hotel
additions, as well as the issuance of $600 million of 8-7/8% senior notes (the
"New Senior Notes") in July 1997.
Dividends on Convertible Preferred Securities of Subsidiary Trust. The
dividends on the Convertible Preferred Securities reflect the dividends on the
$550 million in 6.75% Convertible Preferred Securities issued by the Company in
December 1996.
Interest Income. Interest income increased $4 million to $52 million for
1997, primarily reflecting the interest income on the available proceeds
generated by the December 1996 offering of Convertible Preferred Securities and
the proceeds generated by the issuance of the New Senior Notes in July 1997.
Income (Loss) Before Extraordinary Items. Income before extraordinary items
for 1997 was $47 million, compared to a $13 million loss before extraordinary
items for 1996 as a result of the items discussed above.
Extraordinary Gain (Loss). In March 1997, the Company purchased 100% of the
outstanding bonds secured by a first mortgage on the San Francisco Marriott
Hotel. The Company purchased the bonds for $219 million, which was an $11
million discount to the face value of $230 million. In connection with the
redemption and defeasance of the bonds, the Company recognized an extraordinary
gain of $5 million, which represents the $11 million discount less the write-off
of unamortized deferred financing fees, net of taxes. In December 1997, the
Company refinanced the mortgage debt secured by the Marriott's Orlando World
Center. In connection with the refinancing, the Company recognized an
extraordinary loss of $2 million, which represents payment of a prepayment
penalty and the write-off of unamortized deferred financing fees, net of taxes.
Net Income (Loss). The Company's net income in 1997 was $50 million,
compared to a net loss of $13 million in 1996.
1996 Compared to 1995 (Historical)
Revenues. Revenues increased $248 million, or 51%, to $732 million in 1996.
The Company's revenue and operating profit were impacted by:
- improved lodging results for comparable full-service hotel properties;
- the addition of nine full-service hotel properties during 1995 and 23 full-
service properties during 1996;
- the 1996 and 1995 sale and leaseback of 53 of the Company's Courtyard
properties and 18 of the Company's Residence Inns;
- the 1996 change in the estimated depreciable lives and salvage values for
certain hotel properties which resulted in additional depreciation expense
of $15 million;
- the 1996 results including 53 weeks versus 52 weeks in 1995;
123
<PAGE>
- the $60 million pre-tax charge in 1995 to write down the carrying value of
one undeveloped land parcel to its estimated sales value;
- a $10 million pre-tax charge in 1995 to write down the carrying value of
certain Courtyard and Residence Inn properties held for sale to their net
realizable values included in "Net gains (losses) on property
transactions"; and
- the 1995 sale of four Fairfield Inns.
Hotel revenues increased $243 million, or 51%, to $717 million in 1996, as all
three of the Company's lodging concepts reported growth in REVPAR. Hotel sales
increased $590 million, or 44%, to $1.9 billion in 1996, reflecting the REVPAR
increases for comparable units and the addition of full-service properties
during 1995 and 1996.
Improved results for the Company's full-service hotels were driven by strong
increases in REVPAR for comparable units of 11% in 1996. Results were further
enhanced by almost a two percentage point increase in the house profit margin
for comparable full-service properties. On a comparable basis for the Company's
full-service properties, average room rates increased 8%, while average
occupancy increased over two percentage points.
Operating Costs and Expenses. Operating costs and expenses increased $129
million to $499 million for 1996, primarily representing increased hotel
operating costs, including depreciation, partially offset by the $60 million
pre-tax charge in 1995 to write down the carrying value of one undeveloped land
parcel to its estimated sales value. Hotel operating costs increased $180
million to $461 million, primarily due to the addition of 32 full-service
properties during 1995 and 1996, increased management fees and rentals tied to
improved property results and a change in the depreciable lives and salvage
values of certain large hotel properties ($15 million). As a percentage of hotel
revenues, hotel operating costs and expenses increased to 64% of revenues for
1996, from 59% of revenues for 1995, reflecting the impact of the lease payments
on the Courtyard and Residence Inn properties which have been sold and leased
back, and the change in depreciable lives and salvage values for certain large
hotel properties discussed above, as well as the shifting emphasis to full-
service properties. Full-service hotel rooms accounted for 100% of the Company's
total hotel rooms on January 3, 1997, versus 84% on December 29, 1995.
Operating Profit. As a result of the changes in revenues and operating costs
and expenses discussed above, the Company's operating profit increased $119
million, or 104%, to $233 million in 1996. Hotel operating profit increased $63
million, or 33%, to $256 million, or 36% of hotel revenues, for 1996 compared to
$193 million, or 41% of hotel revenues, for 1995. Across the board, the
Company's hotels recorded substantial improvements in comparable operating
results. In addition, several hotels, including the New York Marriott Marquis,
the New York Marriott East Side, the Philadelphia Marriott, the San Francisco
Marriott and the Miami Airport Marriott posted particularly significant
improvements in operating profit for the year. The Company's Atlanta properties
also posted outstanding results, primarily due to the 1996 Summer Olympics.
Additionally, several hotels which recently converted to the Marriott brand,
including the Denver Marriott Tech Center, the Marriott's Mountain Resort at
Vail and the Williamsburg Marriott, recorded strong results compared to the
prior year as they completed renovations and began to realize the benefit of
their conversions.
Corporate Expenses. Corporate expenses increased $7 million to $43 million
in 1996. As a percentage of revenues, corporate expenses decreased to 5.9% of
revenues in 1996 from 7.4% of revenues in 1995. This reflects the Company's
efforts to carefully control its corporate administrative expenses in spite of
the substantial growth in revenues.
Interest Expense. Interest expense increased 33% to $237 million in 1996,
primarily due to the additional mortgage debt of approximately $696 million
incurred in connection with the 1996 full-service hotel additions and the
issuance of $350 million of notes by HMC Acquisition Properties, Inc., a
124
<PAGE>
wholly-owned subsidiary of the Company, in December 1995, partially offset by
the net impact of the 1995 redemptions of Host Marriott Hospitality, Inc. notes
("Hospitality Notes").
Loss from Continuing Operations. The loss from continuing operations for
1996 decreased $49 million to $13 million, as a result of the changes discussed
above.
Net Loss. The Company's net loss in 1996 was $13 million, compared to a net
loss of $143 million in 1995, which included a $61 million loss from
discontinued operations and a $20 million extraordinary loss primarily
representing premiums paid on bond redemptions and the write-off of deferred
financing fees and discounts on the debt.
125
<PAGE>
Pro Forma Results of Operations
Because the Company's Hotels will be leased following the Mergers and the
REIT Conversion the Company does not believe that the historical results of
operations will be comparable to the results of operations of the Company
following the Mergers and the REIT Conversion. Accordingly, a comparison of the
Company's pro forma results of operations for the First Quarter 1998 to First
Quarter 1997 and fiscal year 1997 to fiscal year 1996 have been included below.
The following discussion and analysis should be read in conjunction with the
Company's combined consolidated financial statements and the Company's unaudited
pro forma financial statements and related notes thereto included elsewhere in
this Consent Solicitation. The following discussion and analysis has been
prepared assuming the following two scenarios:
. All Partnerships participate and no Notes are issued ("100% Participation
with No Notes Issued")
. All Partnerships participate and Notes are issued with respect to 100% of
the OP Units allocable to each partnership ("100% Participation with Notes
Issued")
These presentations do not purport to represent what combination will result
from the Mergers and the REIT Conversion, but instead are designed to illustrate
what the Company would have been like under the above scenarios. Furthermore,
the unaudited pro forma financial statements do not purport to represent what
the Company's results of operations or cash flows would actually have been if
the Mergers and REIT Conversion had in fact occurred on such date or at the
beginning of such period or to project the Company's results of operations or
cash flows for any future date or period.
The following table presents the results of operations for the First Quarter
1998 and the First Quarter 1997 on a pro forma basis under the scenarios
discussed above:
100% Participation 100% Participation
with No Notes Issued with Notes Issued
---------------------- ----------------------
First Quarter First Quarter
---------------------- ----------------------
1998 1997 1998 1997
----- ---- ----- ----
Rental revenues(1)......... $ 278 $ 249 $ 278 $ 249
Total revenues............. 285 251 285 251
Operating costs and
expenses.................. 125 128 125 128
Operating profit before
minority interest, corporate
expenses and interest..... 160 123 160 123
Minority interest.......... (4) (2) (4) (2)
Corporate expenses......... (10) (8) (10) (8)
Interest expense........... (96) (105) (100) (109)
Dividends on Convertible
Preferred Securities...... (9) (9) (9) (9)
Interest income............ 8 3 8 3
----- ----- ----- -----
Income (loss) before
income taxes.............. 49 2 45 (2)
Provision for
income taxes.............. (2) -- (2) --
----- ----- ----- -----
Income (loss) before
extraordinary items and
REIT Conversion
expenses(2)............... $ 47 $ 2 $ 43 $ (2)
===== ===== ===== =====
- ------------
(1) Lease amounts reflect estimates as the leases are currently subject to
negotiation. The lease amounts included may not reflect the final terms of
the leases.
(2) The amount of REIT Conversion expenses to be incurred is not known at this
time and will be filed by amendment.
100% Participation with No Notes Issued - First Quarter 1998 Compared to First
Quarter 1997 (Pro Forma)
Revenues. Revenues primarily represent lease revenues, net gains (losses) on
property transactions and equity in earnings (losses) of affiliates, including
the Non-Controlled Subsidiary. Revenues increased $34 million, or 14%, to $285
million for the First Quarter 1998 from $251 million for the First Quarter 1997.
Hotel sales (gross hotel sales, including room sales, food and beverage
sales, and other ancillary sales such as telephone sales) increased $71 million,
or 9%, to $866 million in the First Quarter 1998, reflecting the REVPAR
increases for the Company's hotels. Improved results for the Company's hotels
were driven by strong increases in REVPAR of 8.6% to $111.39 for the First
Quarter 1998. Results were further enhanced by a one percentage point increase
in the house profit margin. Average room rates increased nearly ten percent,
while average occupancy decreased slightly to 76.2%.
126
<PAGE>
Operating Costs and Expenses. Operating costs and expenses principally
consist of depreciation, property taxes, ground, building and equipment rent,
insurance and certain other costs. Operating costs and expenses decreased $3
million to $125 million in the First Quarter 1998. As a percentage of rental
revenues, hotel operating costs and expenses decreased to 43% of rental revenues
in the First Quarter 1998 from 50% of rental revenues in the First Quarter 1997
due to the significant increases in REVPAR discussed above, as well as the
operating leverage as a result of a significant portion of the Company's hotel
operating costs and expenses being fixed.
Operating Profit. As a result of the changes in revenues and operating costs
and expenses discussed above, the Company's operating profit increased $37
million, or 30%, to $160 million for the First Quarter 1998. Hotel operating
profit increased $34 million, or 27%, to $158 million, or 57% of rental
revenues, for the First Quarter 1998 from $124 million, or 50% of rental
revenues, for the First Quarter 1997. Once again, the Company's hotels recorded
significant improvements in comparable operating results. Specifically, hotels
in New York City, Toronto and Atlanta reported significant improvements for the
First Quarter 1998. Properties on the Pacific coast and Florida reported some
minor softness in results due to exceptionally rainy weather in 1998. Results in
1998 for the New Orleans Marriott have been adversely impacted by a rooms
renovation at the hotel and the Superbowl (which was held in New Orleans in
1997).
Minority Interest. Minority interest expense increased $2 million to $4
million for the First Quarter 1998, primarily reflecting improved lodging
results.
Corporate Expenses. Corporate expenses increased $2 million to $10 million
for the First Quarter 1998.
Interest Expense. Interest expense decreased $9 million to $96 million in
the First Quarter 1998, primarily due to the impact of principal amortization on
the Company's mortgage debt.
Dividends on Convertible Preferred Securities. The Dividends on Convertible
Preferred Securities reflect the dividends accrued during the First Quarter 1998
and First Quarter 1997 on the $550 million in 6.75% Convertible Preferred
Securities issued by the Company in December 1996.
Interest Income. Interest income increased $5 million to $8 million for the
First Quarter 1998, primarily reflecting interest earned on cash, cash
equivalents and short-term marketable securities held for future hotel
investments.
Income before Extraordinary Items and REIT Conversion Expenses. Income
before extraordinary items and REIT Conversion expenses for the First Quarter
1998 was $47 million, compared to $2 million for the First Quarter 1997.
100% Participation with Notes Issued - First Quarter 1998 Compared to First
Quarter 1997 (Pro Forma)
Revenues. Revenues increased $34 million, or 14%, to $285 million for the
First Quarter 1998 from $251 million for the First Quarter 1997.
Hotel sales (gross hotel sales, including room sales, food and beverage
sales, and other ancillary sales such as telephone sales) increased $72 million,
or 9%, to $878 million in the First Quarter 1998, reflecting the REVPAR
increases for the Company's hotels. Improved results for the Company's hotels
were driven by strong increases in REVPAR of 8.6% to $111.39 for the First
Quarter 1998. Results were further enhanced by a one percentage point increase
in the house profit margin. Average room rates increased nearly ten percent,
while average occupancy decreased slightly to 76.2%.
Operating Costs and Expenses. Operating costs and expenses decreased $3
million to $125 million in the First Quarter 1998. As a percentage of rental
revenues, hotel operating costs and expenses decreased to 43% of rental revenues
in the First Quarter 1998 from 50% of rental revenues in the First Quarter 1997
due to the significant increases in REVPAR discussed above, as well as the
operating leverage as a result of a significant portion of the Company's hotel
operating costs and expenses being fixed.
Operating Profit. As a result of the changes in revenues and operating costs
and expenses discussed above, the Company's operating profit increased $37
million, or 30%, to $160 million for the First Quarter 1998. Hotel operating
profit increased
127
<PAGE>
$34 million, or 27%, to $158 million, or 57% of hotel revenues, for the First
Quarter 1998 from $124 million, or 50% of rental revenues, for the First Quarter
1997. Once again, the Company's hotels recorded significant improvements in
comparable operating results. Specifically, hotels in New York City, Toronto and
Atlanta reported significant improvements for the First Quarter 1998. Properties
on the Pacific coast and Florida reported some minor softness in results due to
exceptionally rainy weather in 1998. Results in 1998 for the New Orleans
Marriott have been adversely impacted by a rooms renovation at the hotel and the
Superbowl (which was held in New Orleans in 1997).
Minority Interest. Minority interest expense increased $2 million to $4
million for the First Quarter 1998 primarily reflecting improved lodging
results.
Corporate Expenses. Corporate expenses increased $2 million to $10 million
for the First Quarter 1998.
Interest Expense. Interest expense decreased $9 million to $100 million in
the First Quarter 1998 primarily due to the impact of principal amortization on
the Company's mortgage debt.
Dividends on Convertible Preferred Securities. The Dividends on Convertible
Preferred Securities reflect the dividends accrued during the First Quarter 1998
and First Quarter 1997 on the $550 million in 6.75% Convertible Preferred
Securities issued by the Company in December 1996.
Interest Income. Interest income increased $5 million to $8 million for the
First Quarter 1998 primarily reflecting interest earned on cash, cash
equivalents and short-term marketable securities held for future hotel
investments.
Income (loss) before Extraordinary Items and REIT Conversion Expenses.
Income before extraordinary items and REIT Conversion expenses for the First
Quarter 1998 was $43 million, compared to a $2 million loss for the First
Quarter 1997.
The following table presents the results of operations for 1997 and 1996 on
a pro forma basis under the two pro forma scenarios:
100% Participation 100% Participation
with No Notes Issued with Notes Issued
-------------------- ------------------
Fiscal Year Fiscal Year
-------------------- ------------------
1997 1996 1997 1996
----- ---- ----- ----
Rental revenues(1)......... $1,041 $ 958 $1,041 $ 958
Total revenues............. 1,061 972 1,061 972
Operating costs and
expenses.................. 532 518 530 517
Operating profit before
minority interest,
corporate expenses and
interest.................. 529 454 531 455
Minority interest.......... (9) (9) (9) (9)
Corporate expenses......... (41) (36) (41) (36)
Interest expense........... (417) (429) (434) (446)
Dividends on convertible
preferred securities...... (37) (37) (37) (37)
Interest income............ 14 14 14 14
------ ----- ------ -----
Income (loss) before
income taxes.............. 39 (43) 24 (59)
Benefit (provision) for
income taxes.............. (2) 1 (1) 1
------ ----- ------ -----
Income (loss) before
extraordinary
items and REIT Conversion
expenses(2)............... $ 37 $ (42) $ 23 $ (58)
====== ===== ====== =====
- -------------
(1) Lease amounts reflect estimates as the leases are currently subject to
negotiation. The lease amounts included may not reflect the final terms of
the leases.
(2) The amount of REIT Conversion expenses to be incurred is not known at this
time and will be filed by amendment.
100% Participation with No Notes Issued - 1997 Compared to 1996 (Pro Forma)
Revenues. Revenues increased $89 million, or 9%, to $1,061 million for
1997. The Company's revenue and operating profit were principally impacted by
improved lodging results for its hotel properties, which led to a substantial
increase in rental revenues. The 1997 results also included 52 weeks versus 53
weeks in 1996.
128
<PAGE>
Hotel sales increased $237 million, or 7%, to over $3.5 billion in 1997,
reflecting increases in REVPAR. Improved results for the Company's full-service
hotels were driven by strong increases in REVPAR of 9.8% to $103.17 in 1997.
Results were further enhanced by more than a one percentage point increase in
the house profit margin. Average room rates increased over 9%, while average
occupancy increased slightly to 77.7%.
Operating Costs and Expenses. Operating costs and expenses increased $14
million to $532 million for 1997. As a percentage of rental revenues, hotel
operating costs and expenses decreased to 50% of rental revenues for 1997, from
53% of rental revenues for 1996, reflecting the impact of increased 1997
revenues on relatively fixed operating costs and expenses.
Operating Profit. As a result of the changes in revenues and operating costs
and expenses discussed above, the Company's operating profit increased $75
million, or 17%, to $529 million in 1997. Hotel operating profit increased $67
million, or 15%, to $519 million, or 50% of rental revenues, for 1997 compared
to $452 million, or 47% of rental revenues, for 1996. In nearly all markets, the
Company's hotels recorded improvements in comparable operating results. In
particular, the Company's hotels in the Northeast, Mid-Atlantic and Pacific
coast regions benefited from the upscale and luxury full-service room supply and
demand imbalance. Hotels in New York City, Philadelphia, San Francisco/Silicon
Valley and in Southern California performed particularly well. In 1998, the
Company expects results to be strong in these markets and other gateway cities
in which the Company owns hotels. In 1997, the Company's suburban Atlanta
properties (three properties totaling 1,022 rooms) generally reported decreased
results due to higher activity in 1996 related to the Summer Olympics and the
impact of the additional supply added to the suburban areas. However, the
majority of the Company's hotel rooms in Atlanta are in the core business
districts in downtown and Buckhead where they realized strong year-over-year
results and were only marginally impacted by the additional supply.
Minority Interest. Minority interest expense remained at $9 million for
1997.
Corporate Expenses. Corporate expenses increased $5 million to $41 million
in 1997.
Interest Expense. Interest expense decreased $12 million to $417 million in
1997 primarily due to the impact of principal amortization on the Company's
mortgage debt.
Dividends on Convertible Preferred Securities of Subsidiary Trust. The
dividends on the Convertible Preferred Securities reflect the dividends on the
$550 million in 6.75% Convertible Preferred Securities issued by the Company in
December 1996.
Interest Income. Interest income remained unchanged at $14 million for 1997,
reflecting the interest income earned on the loan to the Non-Controlled
Subsidiary for its acquisition of furniture and equipment.
Income (Loss) Before Extraordinary Items and REIT Conversion Expenses.
Income before extraordinary items and REIT Conversion expenses for 1997 was $37
million, compared to a $42 million loss for 1996 as a result of the items
discussed above.
100% Participation With Notes Issued - 1997 Compared to 1996 (Pro Forma)
Revenues. Revenues increased $89 million, or 9%, to $1,061 million for
1997. The Company's revenue and operating profit were principally impacted by
improved lodging results for the Company's hotel properties, which led to a
substantial increase in rental revenues. The 1997 results also included 52 weeks
versus 53 weeks in 1996.
Hotel sales increased $235 million, or 7%, to over $3.4 billion in 1997,
reflecting increases in REVPAR. Improved results for the Company's full-service
hotels were driven by strong increases in REVPAR of 9.8% to $103.17 in 1997.
Results were further enhanced by more than a one percentage point increase in
the house profit margin. Average room rates increased over 9%, while average
occupancy increased slightly to 77.7%.
129
<PAGE>
Operating Costs and Expenses. Operating costs and expenses increased $13
million to $530 million for 1997. As a percentage of rental revenues, hotel
operating costs and expenses decreased to 50% of rental revenues for 1997, from
53% of rental revenues for 1996, reflecting the impact of increased 1997
revenues on relatively fixed operating costs and expenses.
Operating Profit. As a result of the changes in revenues and operating costs
and expenses discussed above, the Company's operating profit increased $76
million, or 17%, to $531 million in 1997. Hotel operating profit increased $67
million, or 15%, to $521 million, or 50% of rental revenues, for 1997 compared
to $454 million, or 47% of rental revenues, for 1996. In nearly all markets, the
Company's hotels recorded improvements in comparable operating results. In
particular, the Company's hotels in the Northeast, Mid-Atlantic and Pacific
coast regions benefited from the upscale and luxury full-service room supply and
demand imbalance. Hotels in New York City, Philadelphia, San Francisco/Silicon
Valley and in Southern California performed particularly well. In 1998, the
Company expects results to be strong in these markets and other gateway cities
in which the Company owns hotels. In 1997, the Company's suburban Atlanta
properties (three properties totaling 1,022 rooms) generally reported decreased
results due to higher activity in 1996 related to the Summer Olympics and the
impact of the additional supply added to the suburban areas. However, the
majority of the Company's hotel rooms in Atlanta are in the core business
districts in downtown and Buckhead where they realized strong year-over-year
results and were only marginally impacted by the additional supply.
130
<PAGE>
Minority Interest. Minority interest expense remained at $9 million for
1997.
Corporate Expenses. Corporate expenses increased $5 million to $41 million
in 1997.
Interest Expense. Interest expense decreased $12 million to $434 million in
1997, reflecting the impact of principal amortization on the Company's mortgage
debt.
Dividends on Convertible Preferred Securities of Subsidiary Trust. The
dividends on the Convertible Preferred Securities reflect the dividends on the
$550 million in 6.75% Convertible Preferred Securities issued by the Company in
December 1996.
Interest Income. Interest income remained unchanged at $14 million for 1997,
reflecting the interest income earned on the loan to the Non-Controlled
Subsidiary for its acquisition of furniture and equipment.
Income (Loss) Before Extraordinary Items and REIT Conversion Expenses.
Income before extraordinary items and REIT Conversion expenses for 1997 was $23
million, compared to a $58 million loss for 1996 as a result of the items
discussed above.
131
<PAGE>
Liquidity and Capital Resources
REIT Conversion. The transactions summarized below collectively constitute
the REIT Conversion. If the required approvals for the various transactions are
obtained and other conditions to the different steps in the REIT Conversion are
satisfied or waived, these transactions are expected to occur at various times
prior to the end of 1998.
. Debt Refinancing. Concurrently with the initial contribution of assets
by Host to the Operating Partnership, Host expects to refinance $1.55
billion of outstanding public bonds (the "Bond Refinancing") through
offers to purchase such debt securities for cash and a concurrent
solicitation of consents to amend the terms of the debt securities to
permit the transactions constituting the REIT Conversion. Host expects
to obtain the funds for the Bond Refinancing by the issuance of new
debt securities by the Operating Partnership and a new $1.25 billion
unsecured revolving credit facility for the Operating Partnership. The
proceeds of that new credit facility also will be used to repay the
$22 million of outstanding indebtedness under the existing secured
credit facility of HMC Capital Resources Holding Corp.
132
<PAGE>
. Treatment of Convertible Preferred Securities. Prior to the Closing
Date, Host will seek the consent of holders of the $550 million of
outstanding Convertible Preferred Securities to the REIT Conversion. In
the REIT Conversion, the Operating Partnership will assume primary
liability for repayment of the convertible subordinated debentures of
Host underlying the Convertible Preferred Securities. As the successor
to Host, Host REIT also will be liable on the debentures and the
debentures will become convertible into Common Shares, but the
Operating Partnership will have primary responsibility for payment of
the debentures, including all costs of conversion. Upon conversion by a
Convertible Preferred Securities holder, the Operating Partnership will
purchase Common Shares from Host REIT in exchange for an equal number
of OP Units and distribute the Common Shares to the holder. As a result
of the distribution of SLC stock and cash to Host shareholders in the
merger of Host into Host REIT, the conversion ratio of the Convertible
Preferred Securities will be adjusted under the anti-dilution
provisions of the convertible debentures.
. Mergers. On the Closing Date, each Participating Partnership will merge
with a Merger Partnership. The Participating Partnerships will be the
surviving entities of the Mergers and will continue in existence as
direct or indirect subsidiaries of the Operating Partnership. In each
Merger, each Limited Partner will receive a number of OP Units with a
deemed value equal to the Exchange Value of its respective Partnership
Interests in exchange for such interest. Dissenting Partners who vote
against a Merger and comply with certain specified procedures, as
discussed below (see "Rights of Dissenting Partners"), will be entitled
to exchange the OP Units they receive in the Merger for Notes. Public
Partnerships that do not participate in a Merger will continue as
separate partnerships, but the Operating Partnership may contribute
some or all of the interests in certain of these partnerships (such as
Atlanta Marquis, Desert Springs, Hanover, MHP, or MHP2) that it
receives from Host and its subsidiaries to a Non-Controlled Subsidiary.
. Restructuring of Private Partnerships. The Operating Partnership will
acquire the Partnership Interests from unaffiliated partners of certain
Private Partnerships in exchange for OP Units and, accordingly, will
own all of the interests in those Private Partnerships. For those
Private Partnerships in which the unaffiliated partners do not elect to
exchange their interests for OP Units, (i) the Operating Partnership
will be a partner in the partnership if the unaffiliated partners have
consented to a lease of the partnership's Hotels or (ii) if the
requisite consents to enter into a lease are not obtained, the
Operating Partnership will transfer its interests in such partnerships
to a Non-Controlled Subsidiary.
. The Blackstone Acquisition. On the Closing Date, the Operating
Partnership will acquire from the Blackstone Entities ownership of, or
controlling interests in, 12 hotels and two mortgage loans, one secured
by one of the acquired hotels and one secured by an additional hotel.
In addition, Host will acquire a 25% interest in the Swissotel
management company from the Blackstone Entities, which Host will
contribute to SLC prior to the distribution of SLC stock to Host
stockholders and Blackstone. In exchange for the assets, the Operating
Partnership will issue approximately 43.7 million OP Units, assume or
repay debt and make cash payments totaling approximately $862 million,
and distribute shares of SLC stock to the Blackstone Entities.
. Contribution of Assets to Non-Controlled Subsidiaries. The Operating
Partnership will organize one or more taxable corporations (the "Non-
Controlled Subsidiaries") to hold various assets contributed by Host
and its subsidiaries to the Operating Partnership, the ownership of
which by the Operating Partnership might jeopardize Host REIT's status
as a REIT. These assets primarily will consist of partnership or other
interests in hotels which are not leased and certain foreign hotels in
which Host owns interests. In exchange for the contribution of these
assets to the Non-Controlled Subsidiaries, the Operating Partnership
will receive nonvoting common stock representing 95% of the total
economic interests of the Non-Controlled Subsidiaries. In addition, the
Operating Partnership will sell to a Non-Controlled Subsidiary
approximately $____ million in
133
<PAGE>
value of personal property associated with certain Hotels (including
certain Hotels owned by the Public Partnerships), which personal
property the Operating Partnership could not lease to the Lessees
without potentially jeopardizing Host REIT's qualification as a REIT,
for cash that has been contributed or loaned to the Non-Controlled
Subsidiary by the Operating Partnership. The Non-Controlled Subsidiary
will lease such personal property to the applicable Lessees. One or
more affiliates of Host will purchase for cash or notes 100% of the
voting common stock representing the remaining 5% of the total economic
interests of each Non-Controlled Subsidiary.
. Leases of Hotels. The Operating Partnership and its subsidiaries and
controlled partnerships, including the former Public Partnerships, will
lease virtually all of their Hotels to the Lessees pursuant to the
Leases. See "Business and Properties -- The Leases." The leased Hotels
will be operated by the Lessees under their existing brand names
pursuant to the existing Management Agreements, which will be assigned
to the Lessees for the terms of the applicable Leases. See "Business
and Properties -- The Management Agreements."
. Host REIT Merger and Shareholder Distribution. Host will merge into
Host REIT upon obtaining shareholder approval of the merger. Pursuant
to the merger agreement, Host shareholders will receive, for each share
of Host common stock, one Host REIT Common Share, a fraction of a share
of common stock of SLC and an amount of cash to be determined. The
aggregate value of the SLC common stock and cash to be distributed to
Host shareholders is currently estimated to be approximately $400
million to $550 million. The actual amount of the distribution will be
based upon the estimated amount of accumulated earnings and profits of
Host as of the last day of its taxable year ending on or immediately
following the Closing Date. Following the distribution, SLC initially
will own the senior living assets of Host, which currently consist of
31 retirement communities, a 25% interest in the Swissotel management
company, and controlling ownership interests in the Lessees.
The Company funds its capital requirements with a combination of operating
cash flow measured as EBITDA, debt and equity financing, and proceeds from sales
of selected properties and other assets. The Company utilizes these sources of
capital to acquire new properties, fund capital additions and improvements, and
make principal payments on debt.
Capital Transactions. In June 1997, HMC Capital Resources Holding Corporation
("Capital Resources"), a wholly-owned subsidiary of the Company, entered into a
revolving line of credit agreement ("Line of Credit") with a group of commercial
banks under which it may borrow up to $500 million for certain permitted uses.
On June 19, 2000, any then outstanding borrowings on the Line of Credit convert
to a term loan arrangement with all unpaid advances due June 19, 2004.
Borrowings under the Line of Credit bear interest at either the Eurodollar rate
plus 1.7%, or the Base Rate (as defined in the agreement) plus 0.7%, at the
option of the Company. An annual fee of 0.35% is charged on the unused portion
of the commitment. The Line of Credit was originally secured by six hotel
properties, with a carrying value of approximately $500 million at January 2,
1998, which were contributed to Capital Resources. The Line of Credit is
guaranteed by the Company. As a result of this transaction, the Company
terminated its line of credit with Marriott International. During the fourth
quarter of 1997, the Company borrowed approximately $22 million under the Line
of Credit for the acquisition of the Ontario Airport Marriott.
In July 1997, HMH Properties, Inc. ("Properties") and HMC Acquisition
Properties, Inc. ("Acquisitions"), indirect, wholly-owned subsidiaries of the
Company, completed consent solicitations (the "Consent Solicitations") with
holders of their senior notes to amend certain provisions of their senior notes
indentures. The Consent Solicitations facilitated the merger of Acquisitions
with and into Properties (the "Properties Merger"). The amendments to the
indentures also increased the ability of Properties to acquire, through certain
subsidiaries, additional properties subject to non-recourse indebtedness and
controlling interests in corporations, partnerships and other entities holding
attractive properties and increased the threshold for distributions to
affiliates to the excess of Properties' earnings before interest expense, income
taxes, depreciation and amortization and other non-cash items subsequent to the
134
<PAGE>
Consent Solicitations over 220% of Properties' interest expense. Properties paid
dividends to the Company of $54 million, $29 million and $36 million in 1997,
1996 and 1995, respectively, as permitted under the indentures.
Concurrent with the Consent Solicitations and the Properties Merger,
Properties issued an aggregate of $600 million of 8 7/8% senior notes (the "New
Properties Notes") at par with a maturity of July 2007. Properties received net
proceeds of approximately $570 million, net of the costs of the 1997 Consent
Solicitations and the offering, which will be used to fund future acquisitions
of, or the purchase of controlling interests in, full-service hotels and other
lodging-related properties.
In December 1996, the Host Marriott Financial Trust (the "Issuer"), a wholly-
owned subsidiary trust of Host Marriott, issued 11 million shares of 6 3/4%
convertible quarterly income preferred securities (the "Convertible Preferred
Securities"), with a liquidation preference of $50 per share (for a total
liquidation amount of $550 million). The Convertible Preferred Securities
represent an undivided beneficial interest in the assets of the Issuer and,
pursuant to various agreements entered into in connection with the transaction,
are fully, irrevocably and unconditionally guaranteed by Host Marriott.
Proceeds from the issuance of the Convertible Preferred Securities were invested
in 6 3/4% Convertible Subordinated Debentures (the "Debentures") due December 2,
2026 issued by Host Marriott. The Issuer exists solely to issue the Convertible
Preferred Securities and its own common securities (the "Common Securities") and
invest the proceeds therefrom in the Debentures, which are its sole assets.
Each of the Convertible Preferred Securities is convertible at the option of the
holder into shares of Host Marriott common stock at the rate of 2.6876 shares
per Convertible Preferred Security (equivalent to a conversion price of $18.604
per share of Host Marriott common stock). The Debentures are convertible at the
option of the holders into shares of Company common stock at a conversion rate
of 2.6876 shares for each $50 in principal amount of Debentures. The Issuer will
only convert Debentures pursuant to a notice of conversion by a holder of
Securities. During 1997 and 1996, no Debentures were converted into common
stock. Holders of the Convertible Preferred Securities are entitled to receive
preferential cumulative cash distributions at an annual rate of 6 3/4% accruing
from the original issue date, commencing March 1, 1997, and payable quarterly in
arrears thereafter. The distribution rate and the distribution and other payment
dates for the Convertible Preferred Securities will correspond to the interest
rate and interest and other payment dates on the Debentures. Host Marriott may
defer interest payments on the Debentures for a period not to exceed 20
consecutive quarters. If interest payments on the Debentures are deferred, so
too are payments on the Convertible Preferred Securities. Under this
circumstance, Host Marriott will not be permitted to declare or pay any cash
distributions with respect to its capital stock or debt securities that rank
pari passu with or junior to the Debentures. Subject to certain restrictions,
the Convertible Preferred Securities are redeemable at the Issuer's option upon
any redemption by Host Marriott of the Debentures after December 2, 1999. Upon
repayment at maturity or as a result of the acceleration of the Debentures upon
the occurrence of a default, the Debentures shall be subject to mandatory
redemption, from which the proceeds will be applied to redeem Convertible
Preferred Securities and Common Securities, together with accrued and unpaid
distributions.
The obligation for the Convertible Preferred Securities has been pushed down
to the financial statements of Host Marriott Hotels because it is expected that
upon the REIT Conversion, the Operating Partnership will assume primary
liability for repayment of the convertible debentures of Host Marriott
underlying the Convertible Preferred Securities. Upon conversion by a
Convertible Preferred Securities holder, the Operating Partnership will purchase
common shares from Host Marriott in exchange for a like number of OP Units and
distribute the common shares to the Convertible Preferred Securities holder.
In March 1996, Host Marriott completed the issuance of 31.6 million shares of
common stock for net proceeds of nearly $400 million.
In December 1995, Acquisitions issued $350 million of 9% senior notes (the
"Acquisitions Notes"). The Acquisitions Notes were issued at par and have a
final maturity of December 2007. The net proceeds totaled $340 million and were
utilized to repay in full the outstanding borrowings of $210 million under
135
<PAGE>
Acquisitions' $230 million revolving credit facility (the "Revolver"), which was
then terminated to acquire three full-service properties and to finance future
acquisitions of full-service hotel properties with the remaining proceeds.
In May 1995, two wholly-owned subsidiaries of Host Marriott Hospitality, Inc.
("Hospitality"), a wholly-owned subsidiary of the Company, issued an aggregate
of $1 billion of 9.5% senior secured notes in two concurrent offerings.
Properties, the owner of 58 of the Company's 95 full-service hotel properties at
January 2, 1998 and Host Marriott Travel Plazas, Inc. ("HMTP"), the
operator/manager of HM Services' food, beverage and merchandise concessions
business, issued $600 million (the "Properties Notes") and $400 million,
respectively, of senior notes. The bonds were issued at par and have a final
maturity of May 2005. The net proceeds of approximately $971 million were used
to defease, and subsequently redeem, all of Hospitality's remaining bonds (the
"Hospitality Notes") and to repay borrowings under the line of credit with
Marriott International. The HMTP senior notes were included in the HM Services'
Special Dividend.
The Properties Notes, the Acquisitions Notes and the New Senior Notes are
guaranteed on a joint and several basis by certain of Properties' subsidiaries
and rank pari passu in right of payment with all other existing future senior
indebtedness of Properties. The net assets of Properties at January 2, 1998 were
approximately $518 million, substantially all of which were restricted. The
indentures governing the Properties Notes, the Acquisitions Notes and the New
Senior Notes contain covenants that, among other things, limit the ability to
incur additional indebtedness and issue preferred stock, pay dividends or make
other distributions, repurchase capital stock or subordinated indebtedness,
create certain liens, enter into certain transactions with affiliates, sell
certain assets, issue or sell stock of subsidiaries, and enter into certain
mergers and consolidations.
During 1995, the Company replaced its line of credit with a line of credit
from Marriott International pursuant to which the Company had the right to
borrow up to $225 million. The line of credit with Marriott International was
terminated as a result of the Capital Resources transaction discussed above.
On April 20, 1998, the Company filed a Shelf Registration on Form S-3 with the
Securities and Exchange Commission for $2.5 billion in securities, which may
include debt, equity or a combination thereof. The Company anticipates that any
net proceeds from the sale of offered securities will be used for refinancing of
the Company's indebtedness, including approximately $1.55 billion of the
Company's outstanding long-term debt securities, the potential refinancing of
portions of the Company's approximately $1.9 billion of mortgage debt and the
potential issuance of perpetual preferred stock.
Asset Dispositions. The Company historically has sold, and may from time to
time in the future consider opportunities to sell, certain of its real estate
properties at attractive prices when the proceeds could be redeployed into
investments with more favorable returns. During the second quarter of 1998, the
Company sold the 662-room New York Marriott East Side for proceeds of $191
million and recorded a pre-tax gain of approximately $40 million and the Napa
Valley Marriott for proceeds of $21 million and recorded a pre-tax gain of
approximately $10 million. During 1997, the Company sold the 255-room Sheraton
Elk Grove Suites for proceeds of approximately $16 million. The Company also
sold 90% of its 174-acre parcel of undeveloped land in Germantown, Maryland, for
approximately $11 million, which approximated its carrying value. During the
first and second quarters of 1996, 16 of the Company's Courtyard properties and
18 of the Company's Residence Inn properties were sold (subject to a leaseback)
to Hospitality Properties Trust for approximately $314 million and the Company
will receive approximately $35 million upon expiration of the leases. A gain on
the Courtyard and Residence Inn transactions of approximately $46 million was
deferred and is being amortized over the initial term of the leases. During the
first and third quarters of 1995, 37 of the Company's Courtyard properties were
sold to and leased back from Hospitality Properties Trust for approximately $330
million. The Company received net proceeds from the two 1995 transactions of
approximately $297 million and will receive approximately $33 million upon
expiration of the leases. A deferred gain of $14 million on the sale/leaseback
transactions is being amortized over the initial term of the leases. In 1995,
136
<PAGE>
the Company also sold its four remaining Fairfield Inns for net cash proceeds of
approximately $6 million, which approximated their carrying value.
In cases where the Company has made a decision to dispose of particular
properties, the Company assesses impairment of each individual property to be
sold on the basis of expected sales price less estimated costs of disposal.
Otherwise, the Company assesses impairment of its real estate properties based
on whether it is probable that undiscounted future cash flows from such
properties will be less than their net book value. If a property is impaired,
its basis is adjusted to its fair market value. In the second quarter of 1995,
the Company made a determination that its owned Courtyard and Residence Inn
properties were held for sale and recorded a $10 million charge to write down
the carrying value of five individual Courtyard and Residence Inn properties to
their estimated net sales values.
Capital Acquisitions, Additions and Improvements. The Company seeks to grow
primarily through opportunistic acquisitions of full-service hotels. The Company
believes that the upscale and luxury full-service hotel segments of the market
offer opportunities to acquire assets at attractive multiples of cash flow and
at discounts to replacement value, including under performing hotels which can
be improved by conversion to the Marriott or Ritz-Carlton brands. During 1997,
the Company acquired eight full-service hotels (3,600 rooms) and controlling
interests in nine additional full-service hotels (5,024 rooms) for an aggregate
purchase price of approximately $766 million (including the assumption of
approximately $418 million of debt). The Company also completed the acquisition
of the 504-room New York Marriott Financial Center, after acquiring the mortgage
on the hotel for $101 million in late 1996. During 1996, the Company acquired
six full-service hotels (1,964 rooms) for an aggregate purchase price of $189
million and controlling interests in 17 additional full-service properties
(8,917 rooms) for an aggregate purchase price of approximately $1.1 billion
(including the assumption of $696 million of debt). During 1995, the Company
acquired nine hotels totaling approximately 3,900 rooms in separate transactions
for approximately $390 million ($141 million of which was financed through first
mortgage financing on four of the hotels).
In First Quarter 1998, the Company acquired a controlling interest in the
partnership that owns the 1,671-room Atlanta Marriott Marquis Hotel for $239
million, including the assumption of $164 million of mortgage debt. The Company
also acquired a controlling interest in the partnership that owns the 359-room
Albany Marriott, the 350-room San Diego Marriott Mission Valley and the 320-room
Minneapolis Marriott Southwest for approximately $50 million. In the second
quarter of 1998, the Company acquired the 289-room Park Ridge Marriott for $24
million and the 281-room Ritz-Carlton, Phoenix for $75 million. The Company is
continually engaged in discussions with respect to other potential acquisition
properties and, subsequent to January 2, 1998, entered into an agreement to
acquire the 397-room Ritz-Carlton, Tysons Corner, Virginia.
On April 17, 1998, the Company announced that it had reached a definitive
agreement with various affiliates of The Blackstone Group and Blackstone Real
Estate Partners (collectively, "Blackstone") to acquire interests in 12 world-
class luxury hotels and a mortgage note secured by a thirteenth full-service
property in the United States and certain other assets in a transaction valued
at approximately $1.735 billion, including the assumption of debt. The Company
expects to pay approximately $862 million in cash and assumed debt and to issue
approximately 43.7 million Operating Partnership units. The Blackstone portfolio
consists of two Ritz-Carltons, two Four Seasons, one Grand Hyatt, three Hyatt
Regencies and four Swissotel properties and a mortgage on a third Four Seasons.
These hotels are located in major urban and convention/resort markets with
significant barriers to new competition. The Blackstone transaction is expected
to close simultaneously with the Conversion. At that time, Blackstone's hotels
and other assets will be contributed into the Operating Partnership. The hotels
will continue to be managed under the existing management contracts.
Under the terms of its hotel management agreements, the Company is generally
required to spend approximately 5% of gross hotel sales to cover the capital
needs of the properties, including major guest room and common area renovations
which occur every five to six years.
137
<PAGE>
The Company completed the construction of the 1,200-room Philadelphia
Marriott, which opened on January 27, 1995. The construction costs of this
hotel were funded 60% through a loan from Marriott International which was
repaid in the fourth quarter of 1996. In March 1997, the Company obtained a $90
million mortgage which bears interest at a fixed rate of 8.49% and matures in
2009. Construction of a second hotel in Philadelphia, the 419-room Philadelphia
Airport Marriott (the "Airport Hotel"), was completed and opened on November 1,
1995. The Airport Hotel was financed principally with $40 million of proceeds
from an industrial development bond financing. The Company also completed
construction of a 300-room Residence Inn in Arlington, Virginia, which opened in
March 1996. Capital expenditures for these three hotels totaled $11 million in
1996 and $64 million in 1995.
In November 1997, the Company announced that it had committed to develop and
construct the 717-room Tampa Convention Center Marriott for a cost estimated at
approximately $88 million, net of an approximate $16 million subsidy provided by
the City of Tampa.
The Company may also expand certain existing hotel properties where strong
performance and market demand exists. Expansions to existing properties creates
a lower risk to the Company as the success of the market is generally known and
development time is significantly shorter than new construction. The Company
recently committed to add approximately 500 rooms and an additional 15,000
square feet of meeting space to the 1,503-room Marriott's Orlando World Center.
Debt Payments. At January 2, 1998, the Company and its subsidiaries had
$1,585 million of senior notes, $1,784 million of non-recourse mortgage debt
secured by real estate assets and $97 million of unsecured and other debt.
Scheduled maturities over the next five years were $763 million as of January
2, 1998, a significant portion of which represents the maturity of the mortgage
on the New York Marriott Marquis of approximately $270 million in December
1998. Management anticipates that the mortgage will be refinanced by the end of
1998 on comparable terms. The Company's interest coverage, defined as EBITDA
divided by cash interest expense, improved to nearly 2.5 times in 1997 from 2.0
times in 1996.
At January 2, 1998, the Company was party to an interest rate exchange
agreement with a financial institution (the contracting party) with an aggregate
notional amount of $100 million. Under this agreement, the Company collects
interest based on specified floating interest rates of one month LIBOR (rate of
6% at January 2, 1998) and pays interest at fixed rates (rate of 7.99% at
January 2, 1998). This agreement expires in 1998, in conjunction with the
maturity of the mortgage on the New York Marriott Marquis. Also in 1997, the
Company was party to two additional interest rate swap agreements with an
aggregate notional amount of $400 million. These agreements expired in May
1997. The Company realized a net reduction of interest expense of $1 million in
1997, $6 million in 1996 and $5 million in 1995 related to interest rate
exchange agreements. The Company monitors the creditworthiness of its
contracting parties by evaluating credit exposure and referring to the ratings
of widely accepted credit rating services. The Standard and Poors' long-term
debt ratings for the contracting party is A- for its sole outstanding interest
rate exchange agreement. The Company is exposed to credit loss in the event of
non-performance by the contracting party to the interest rate swap agreement;
however, the Company does not anticipate non-performance by the contracting
party.
Cash Flows. The Company's cash flow from continuing operations in 1997, 1996
and 1995 totaled $432 million, $205 million and $110 million, respectively.
Cash flow from operations in the First Quarter 1998 and First Quarter 1997
totaled $98 million and $90 million, respectively. Cash flow from operations
increased principally due to improved lodging results and the significant
acquisitions of hotels.
The Company's cash used in investing activities from continuing operations in
1997, 1996 and 1995 totaled $807 million, $504 million and $156 million,
respectively. Cash provided by investing activities was $24 million for the
First Quarter 1998, the cash used in investing activities was $135 million for
the
138
<PAGE>
First Quarter 1997. Cash from investing activities primarily consists of net
proceeds from the sales of certain assets, offset by the acquisition of hotels
and other capital expenditures previously discussed, as well as the purchases
and sales of short-term marketable securities. Cash used in investing activities
was significantly impacted by the purchase of $354 million of short-term
marketable securities in 1997 and the sale of $246 million of short-term
marketable securities in the First Quarter 1998.
The Company's cash from financing activities from continuing operations was
$165 million for 1997, $806 million for 1996 and $204 million for 1995. Cash
used in financing activities was $77 million and $129 million, respectively, for
the First Quarter 1998 and First Quarter 1997. The Company's cash from
financing activities primarily consists of the proceeds from debt and equity
offerings, the issuance of the Convertible Preferred Securities, mortgage
financing on certain acquired hotels and borrowings under the Line of Credit,
offset by redemptions and payments on senior notes, prepayments on certain hotel
mortgages, and other scheduled principal payments.
EBITDA and Comparative FFO. The Company's consolidated earnings before
interest expense, taxes, depreciation, amortization and other non-cash items
("EBITDA") increased $50 million, or 32%, to $204 million in the First Quarter
1998 from $154 million in the First Quarter 1997. EBITDA increased $241
million, or 55%, to $683 million in 1997 from $442 million in 1996.
Hotel EBITDA increased $252 million, or 57%, to $691 million in 1997 from $439
million in 1996. The EBITDA increases reflect comparable full-service hotel
EBITDA growth, as well as incremental EBITDA from acquisitions. Full-service
hotel EBITDA from comparable hotel properties increased 14.4% on a REVPAR
increase of 9% in the First Quarter 1998 and 17.3% on a REVPAR increase of 12.6%
for 1997.
The following is a reconciliation of EBITDA to the Company's income (loss)
before extraordinary items (in millions):
<TABLE>
<CAPTION>
First Quarter Fiscal Year
------------- -----------
1998 1997 1997 1996
---- ---- ---- ----
<S> <C> <C> <C> <C>
EBITDA.............................. $ 204 $ 154 $ 683 $ 442
Interest expense.................... (76) (63) (287) (237)
Dividends on Convertible
Preferred Securities.............. (9) (9) (37) (3)
Depreciation and amortization....... (54) (51) (231) (168)
Minority interest expense........... (16) (11) (32) (6)
Income taxes........................ (21) (5) (36) (5)
Loss on disposition of assets
and other non-cash charges, net.. -- (9) (13) (36)
----- ----- ----- -----
Income (loss) before
extraordinary items.............. $ 28 $ 6 $ 47 $ (13)
===== ===== ===== =====
</TABLE>
The ratio of earnings to fixed charges was 1.7 to 1.0, 1.3 to 1.0, 1.3 to
1.0, 1.0 to 1.0 and .7 to 1.0 for the First Quarter 1998, the First Quarter
1997, 1997, 1996 and 1995, respectively. The deficiency of earnings to fixed
charges of $70 million for 1995 is largely the result of depreciation and
amortization of $122 million. In addition, the deficiency for 1995 was impacted
by the $60 million pre-tax charge to write down the carrying value of one
undeveloped land parcel to its estimated sales value.
The Company also believes that Comparative Funds From Operations ("Comparative
FFO," which represents Funds From Operations, as defined by the National
Association of Real Estate Investment Trusts, plus deferred tax expense) is a
meaningful disclosure that will help the investment community to better
understand the financial performance of the Company, including enabling its
shareholders and analysts to more easily compare the Company's performance to
REITs. Comparative FFO increased $25 million, or 42%, to $85 million in the
First Quarter 1998. Comparative
139
<PAGE>
FFO increased $121 million, or 74%, to $285 million in 1997. The following is a
reconciliation of the Company's income (loss) before extraordinary items to
Comparative FFO (in millions):
<TABLE>
<CAPTION>
First Quarter Fiscal Year
------------- -----------
1998 1997 1997 1996
---- ---- ---- ----
<S> <C> <C> <C> <C>
Income (loss) before extraordinary
items............................. $ 28 $ 6 $ 47 $ (13)
Depreciation and amortization...... 54 51 231 168
Other real estate activities....... (1) 4 5 7
Partnership adjustments............ (6) (3) (13) 1
Deferred taxes..................... 10 2 15 1
------ ----- ------ ------
Comparative Funds
From Operations................. $ 85 $ 60 $ 285 $ 164
====== ===== ====== ======
</TABLE>
The Company considers EBITDA and Comparative FFO to be indicative measures of
the Company's operating performance due to the significance of the Company's
long-lived assets and because such data is considered useful by the investment
community to better understand the Company's results, and can be used to measure
the Company's ability to service debt, fund capital expenditures and expand its
business; however, such information should not be considered as an alternative
to net income, operating profit, cash from operations, or any other operating or
liquidity performance measure prescribed by generally accepted accounting
principles. Cash expenditures for various long-term assets, interest expense
(for EBITDA purposes only) and income taxes have been, and will be, incurred
which are not reflected in the EBITDA and Comparative FFO presentation.
Partnership Activities. The Company has general and limited partner
interests in numerous limited partnerships which own 240 hotels (including 20
full-service hotels) as of May 15, 1998, managed by Marriott International.
Debt of the hotel limited partnerships is typically secured by first mortgages
on the properties and is generally nonrecourse to the partnership and the
partners. However, the Company has committed to advance amounts to certain
affiliated limited partnerships, if necessary, to cover certain future debt
service requirements. Such commitments were limited, in the aggregate, to an
additional $60 million at January 2, 1998. Subsequent to year-end, this amount
was reduced to $20 million in connection with the refinancing and acquisition of
a controlling interest in the partnership which owns the Atlanta Marriott
Marquis. Amounts repaid to the Company under these guarantees totaled $2
million and $13 million in 1997 and 1996, respectively. Fundings by the Company
under these guarantees amounted to $10 million in 1997 and $8 million for 1995.
Leases. The Company leases certain property and equipment under
noncancelable operating leases, including the long-term ground leases for
certain hotels, generally with multiple renewal options. The leases related to
the 53 Courtyard properties and 18 Residence Inn properties sold during 1995 and
1996 are non-recourse to the Company and contain provisions for the payment of
contingent rentals based on a percentage of sales in excess of stipulated
amounts. The Company remains contingently liable on certain leases related to
divested non-lodging properties. Management considers the likelihood of any
substantial funding related to these divested properties' leases to be remote.
140
<PAGE>
Inflation. The Company's hotel lodging properties are impacted by inflation
through its effect on increasing costs and on the managers' ability to increase
room rates. Unlike other real estate, hotels have the ability to change room
rates on a daily basis, so the impact of higher inflation generally can be
passed on to customers.
A substantial portion of the Company's debt bears interest at fixed rates.
This debt structure largely mitigates the impact of changes in the rate of
inflation on future interest costs. However, the Company currently is exposed
to variable interest rates through an interest rate exchange agreement with a
financial institution with an aggregate notional amount of $100 million. Under
this agreement, the Company collects interest based on the specified floating
rates of one month LIBOR (rate of 6% at January 2, 1998) and pays interest at
fixed rates (rate of 7.99% at January 2, 1998). This agreement expires in 1998
in conjunction with the maturity of the mortgage on the New York Marriott
Marquis. The Company's Line of Credit and the mortgage on the San Diego
Marriott Hotel and Marina ($199 million at January 2, 1998) bears interest based
on variable rates. Accordingly, the amount of the Company's interest expense
under the interest rate swap agreements and the floating rate debt for a
particular year will be affected by changes in short-term interest rates.
Year 2000 Issues. Over the last few years, the Company has invested in
implementing new accounting systems which are Year 2000 compliant. Accordingly,
the Company believes that future costs associated with Year 2000 issues will be
minimal and not material to the Company's consolidated financial statements.
However, the Company does rely upon accounting software used by the managers
and operators of its properties to obtain financial information. Management
believes that the managers and operators have begun to implement changes to the
property specific software to ensure that software will function properly in the
Year 2000 and does not expect to incur significant costs related to these
modifications.
Accounting Standards. The Company adopted Statements of Financial Accounting
Standards ("SFAS") No. 114, "Accounting by Creditors for Impairment of a Loan"
and SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to be Disposed Of" during 1995. Adoption of these statements
did not have a material effect on the Company's continuing operations. See the
discussion below for a discussion of the impact of the adoption of SFAS No. 121
on discontinued operations.
SFAS No. 121 requires that an impairment loss be recognized when the carrying
amount of an asset exceeds the sum of the undiscounted estimated future cash
flows associated with the asset. Under SFAS No. 121, the Company reviewed the
impairment of its assets employed in its operating group business lines
(airport, toll plaza and sports and entertainment) on an individual operating
unit basis. For each individual operating unit determined to be impaired, an
impairment loss equal to the difference between the carrying value and the fair
market value of the unit's assets was recognized. Fair market value was
estimated to be the present value of expected future cash flows of the
individual operating unit, as determined by management, after considering such
factors as future air travel and toll-pay vehicle data and inflation. As a
result of the adoption of SFAS No. 121, the Company recognized a non-cash, pre-
tax charge against earnings during the fourth quarter 1995 of $47 million, which
was reflected in discontinued operations.
In the fourth quarter of 1996, the Company adopted SFAS No. 123, "Accounting
for Stock Based Compensation." The adoption of SFAS No. 123 did not have a
material effect on the Company's financial statements.
During 1997, the Company adopted SFAS No. 128, "Earnings Per Share;" SFAS No.
129, "Disclosure of Information About Capital Structure" and SFAS No. 131,
"Disclosures About Segments of an Enterprise and Related Information." The
adoption of these statements did not have a material effect on
141
<PAGE>
the Company's consolidated financial statements and the appropriate disclosures
required by these statements have been incorporated herein.
In the First Quarter 1998, the Company adopted SFAS No. 130, "Reporting
Comprehensive Income," ("SFAS 130"). SFAS 130 establishes standards for
reporting and display of comprehensive income and its components in financial
statements. The objective of SFAS 130 is to report a measure of all changes in
equity of an enterprise that result from transactions and other economic events
of the period other than transactions with owners. Comprehensive income is the
total of net income and all other nonowner changes in equity.
The Company's only component of other comprehensive income is the right to
receive up to 1.4 million shares of Host Marriott Services Corporation's common
stock or an equivalent cash value subsequent to exercise of the options held by
certain former and current employees of Marriott International. For the First
Quarter 1998 and First Quarter 1997, the Company had no other comprehensive
income. As of March 27, 1998 and January 2, 1998, the Company's accumulated
other comprehensive income was approximately $10 million.
142
<PAGE>
MANAGEMENT
Trustees and Executive Officers of Host REIT
The following table sets forth certain information with respect to persons
who will be Trustees immediately after the completion of the REIT Conversion,
and the executive officers and other key employees of Host REIT (or the
Operating Partnership), all of whom are currently directors, executive officers
or key employees of Host.
<TABLE>
<CAPTION>
Name Age Position with Host REIT (or the Operating Partnership)
- -------------------------------------------------------------------------------------------------
<S> <C> <C>
Richard E. Marriott/(1)/ 59 Chairman of the Board of Trustees
J.W. Marriott, Jr./(1)/ 66 Trustee
R. Theodore Ammon 48 Trustee
Robert M. Baylis 59 Trustee
Ann Dore McLaughlin 56 Trustee
Harry L. Vincent, Jr. 78 Trustee
John G. Schreiber 51 Trustee
Terence C. Golden 53 Trustee, President and Chief Executive Officer
Robert E. Parsons, Jr. 42 Executive Vice President and Chief Financial Officer
Christopher J. Nassetta 35 Executive Vice President and Chief Operating Officer
Christopher G. Townsend 50 Senior Vice President, General Counsel and Corporate Secretary
Donald D. Olinger 39 Senior Vice President and Corporate Controller
</TABLE>
- ---------------------
(1) Richard E. Marriott and J.W. Marriott, Jr. are brothers.
The following is a biographical summary of the experience of the
Trustees and officers of Host REIT:
Richard E. Marriott. Mr. Richard E. Marriott has been a Director of
Host since 1979 and is a Director of Marriott International, Inc., Host Marriott
Services Corporation, Potomac Electric Power Company and the Polynesian Cultural
Center, and he is Chairman of the Board of First Media Corporation. He also
serves as a Director of certain subsidiaries of Host and is a past President of
the National Restaurant Association. In addition, Mr. Marriott is the President
and a Trustee of the Marriott Foundation for People with Disabilities. Mr.
Marriott's term as a Director of Host expires at the 2001 annual meeting of
shareholders. Mr. Marriott joined Host in 1965 and has served in various
executive capacities. In 1984, he was elected Executive Vice President, and in
1986, he was elected Vice Chairman of the Board of Directors. In 1993, Mr.
Marriott was elected Chairman of the Board. Mr. Marriott also has been
responsible for management of Host's government affairs functions.
J.W. Marriott, Jr. Mr. J.W. Marriott, Jr. has been a Director of Host
since 1964 and is Chairman of the Board and Chief Executive Officer of Marriott
International, Inc., and a Director of Host Marriott Services Corporation,
General Motors Corporation and the U.S.-Russia Business Council. He also serves
on the Boards of Trustees of the Mayo Foundation, Georgetown University and the
National Geographic Society. He is on the President's Advisory Committee of the
American Red Cross, the Executive Committee of the World Travel & Tourism
Council and is a member of the Business Council and the Business Roundtable.
Mr. Marriott's term as a Director of Host expires at the 1999 annual meeting of
shareholders.
R. Theodore Ammon. Mr. Ammon has been a Director of Host since 1992
and is a private investor and Chairman of Big Flower Holdings, Inc. He was
formerly a General Partner of Kohlberg Kravis Roberts & Company (a New York and
San Francisco-based investment firm) from 1990 to
143
<PAGE>
1992, and was an executive of such firm prior to 1990. Mr. Ammon is also a
member of the Board of Directors of Samsonite Corporation and Culligan Water
Technologies, Inc. In addition, he serves on the Board of Directors of the New
York YMCA, Jazz @ Lincoln Center and the Institute of International Education
and on the Board of Trustees of Bucknell University. Mr. Ammon's term as a
Director of Host expires at the 2001 annual meeting of shareholders.
Robert M. Baylis. Mr. Baylis has been a Director of Host since 1996
and is a Director of The International Forum, an executive education program of
the Wharton School of the University of Pennsylvania. He was formerly Vice
Chairman of CS First Boston. Mr. Baylis also serves as a Director of New York
Life Insurance Company, Covance, Inc. and Gryphon Holdings, Inc. In addition, he
is an overseer of the University of Pennsylvania Museum of Archeology and
Anthropology. Mr. Baylis's term as a Director of Host expires at the 2000 annual
meeting of shareholders.
Ann Dore McLaughlin. Ms. McLaughlin has been a Director of Host since
1993 and currently is Chairman of the Aspen Institute. She formerly served as
President of the Federal City Council from 1990 until 1995. Ms. McLaughlin has
served with distinction in several U.S. Administrations in such positions as
Secretary of Labor and Under Secretary of the Department of the Interior. She
also serves as a Director of AMR Corporation, Fannie Mae, General Motors
Corporation, Kellogg Company, Nordstrom, Potomac Electric Power Company, Union
Camp Corporation, Donna Karan International, Inc., Vulcan Materials Company,
Harman International Industries, Inc. and Sedgwick Group plc. Ms. McLaughlin's
term as a Director of Host expires at the 2000 annual meeting of shareholders.
Harry L. Vincent, Jr. Mr. Vincent has been a Director of Host since
1969 and is a retired Vice Chairman of Booz-Allen & Hamilton, Inc. He also
served as a Director of Signet Banking Corporation from 1973 until 1989. Mr.
Vincent's term as a Director of Host expires at the 1999 annual meeting of
shareholders.
John G. Schreiber. Mr. Schreiber has been a Director of Host since
1998 and is President of Schreiber Investments, Inc. and a Senior Advisor and
Partner of Blackstone Real Estate Advisors, L.P. Mr. Schreiber serves as a
Trustee of AMLI Residential Properties Trust and as a Director of Urban Shopping
Centers, Inc., JMB Realty Corporation and a number of mutual funds advised by T.
Rowe Price Associates, Inc. Prior to his retirement as an officer of JMB Realty
Corporation in 1990, Mr. Schreiber was Chairman and CEO of JMB/Urban Development
Company and an Executive Vice President of JMB Realty Corporation.
Terence C. Golden. Mr. Golden has been a Director of Host since 1995
and was named President and Chief Executive Officer of Host in 1995. Mr. Golden
also serves as a Director of certain subsidiaries of Host. He also serves as
Chairman of Bailey Realty Corporation and Bailey Capital Corporation and various
affiliated companies. In addition, Mr. Golden is Chairman of the Washington
Convention Center and a Director of Prime Retail, Inc., Cousins Properties,
Inc., The Morris and Gwendolyn Cafritz Foundation and the District of Columbia
Early Childhood Collaborative. He is also a member of the Executive Committee of
the Federal City Council. Mr. Golden's term as a Director of Host expires at the
2000 annual meeting of shareholders. Prior to joining Host, Mr. Golden was
Chairman of Bailey Realty Corporation and prior to that had served as Chief
Financial Officer of The Oliver Carr Company. Before joining The Oliver Carr
Company, he served as Administrator of the General Services Administration and
as Assistant Secretary of Treasury, and he was co-founder and national managing
partner of Trammel Crow Residential Companies.
Robert E. Parsons, Jr. Mr. Parsons joined Host's Corporate Financial
Planning staff in 1981 and was made Assistant Treasurer in 1988. In 1993, Mr.
Parsons was elected Senior Vice President
144
<PAGE>
and Treasurer of Host, and in 1995, he was elected Executive Vice President and
Chief Financial Officer of Host.
Christopher J. Nassetta. Mr. Nassetta joined Host in October 1995 as
Executive Vice President and was elected Chief Operating Officer of Host in
1997. Prior to joining Host, Mr. Nassetta served as President of Bailey Realty
Corporation from 1991 until 1995. He had previously served as Chief Development
Officer and in various other positions with The Oliver Carr Company from 1984
through 1991.
Christopher G. Townsend. Mr. Townsend joined Host's Law Department in
1982 as a Senior Attorney. In 1984, Mr. Townsend was made Assistant Secretary of
Host, and in 1986, he was made Assistant General Counsel. In 1993, Mr. Townsend
was elected Senior Vice President, Corporate Secretary and Deputy General
Counsel. In January 1997, he was elected General Counsel.
Donald D. Olinger. Mr. Olinger joined Host in 1993 as Director --
Corporate Accounting. Later in 1993, Mr. Olinger was promoted to Senior Director
and Assistant Controller. He was promoted to Vice President -- Corporate
Accounting in 1995. In 1996, he was elected Senior Vice President and Corporate
Controller. Prior to joining Host, Mr. Olinger was with the public accounting
firm of Deloitte & Touche.
Committees of the Board of Trustees
Promptly following the consummation of the REIT Conversion, the Board
of Trustees of Host REIT will establish the following committees:
Audit Committee. The Audit Committee will be comprised of five
Trustees who are not employees of the Trust, namely, R. Theodore Ammon (Chair),
Harry L. Vincent, Jr., Ann Dore McLaughlin, John G. Schreiber and Robert M.
Baylis. The Audit Committee will meet at least three times a year with the
independent auditors, management representatives and internal auditors;
recommend to the Board of Trustees appointment of independent auditors; approve
the scope of audits and other services to be performed by the independent and
internal auditors; consider whether the performance of any professional service
by the auditors other than services provided in connection with the audit
function could impair the independence of the outside auditors; and review the
results of internal and external audits, the accounting principles applied in
financial reporting, and financial and operational controls. The independent
auditors and internal auditors will have unrestricted access to the Audit
Committee and vice versa.
Compensation Policy Committee. The Compensation Policy Committee will
be comprised of six Trustees who are not employees of the Trust, namely, Harry
L. Vincent, Jr. (Chair), R. Theodore Ammon, John G. Schreiber, Robert M. Baylis,
J.W. Marriott, Jr. and Ann Dore McLaughlin. The Compensation Policy Committee's
functions will include recommendations on policies and procedures relating to
senior officers' compensation and various employee stock plans, and approval of
individual salary adjustments and stock awards in those areas.
Nominating and Corporate Governance Committee. The Nominating and
Corporate Governance Committee will be comprised of six Trustees who are not
employees of the Trust,
145
<PAGE>
namely, Ann Dore McLaughlin (Chair), Harry L. Vincent, Jr., John G. Schreiber,
R. Theodore Ammon, J.W. Marriott, Jr. and Robert M. Baylis. It will consider
candidates for election as Trustees and will be responsible for keeping abreast
of and making recommendations with regard to corporate governance in general. In
addition, the Nominating and Corporate Governance Committee will fulfill an
advisory function with respect to a range of matters affecting the Board of
Trustees and its Committees, including the making of recommendations with
respect to qualifications of Trustee candidates, compensation of Trustees, the
selection of committee chairs, committee assignments and related matters
affecting the functioning of the Board.
Host REIT may from time to time form other committees as circumstances
warrant. Such committees will have authority and responsibility as delegated by
the Board of Trustees.
Compensation of Trustees
Trustees who are also officers of Host REIT will receive no additional
compensation for their services as Trustees. Trustees elected by the holders of
Common Shares and who are not officers will receive an annual retainer fee of
$25,000 as well as an attendance fee of $1,250 for each shareholders' meeting,
meeting of the Board of Trustees or meeting of a committee of the Board of
Trustees, regardless of the number of meetings held on a given day. The chair of
each committee of the Board of Trustees will receive an additional annual
retainer fee of $1,000, except for the chair of the Compensation Policy
Committee, Mr. Vincent, who will receive an annual retainer fee of $6,000. (The
higher annual retainer fee paid to the chair of the Compensation Policy
Committee relates to his additional duties which include, among other things,
the annual performance appraisal of the chief executive officer on behalf of the
Board, although the final appraisal is determined by the Board. Any individual
Trustee receiving these fees may elect to defer payment of all such fees or any
portion thereof pursuant to Host REIT's Executive Deferred Compensation Plan
and/or Host REIT's Non-Employee Trustees' Deferred Stock Compensation Plan.
Trustees will also be reimbursed for travel expenses and other out-of-pocket
costs incurred in attending meetings or in visiting hotels or other properties
controlled by Host REIT or by Marriott International.
In 1997, the following Trustees of the Company received special one-
time awards of Company common stock in the amounts indicated: Mr. Ammon, 4,000
shares; Mr. Baylis, 7,000 shares; Ms. McLaughlin, 7,000 shares and Mr. Vincent,
7,000 shares. The special one-time awards of Company common stock vest at the
rate of 10% per year of a Trustees service on the Board, with credit given for
each year of service already completed, and will also become fully vested upon
the death or disability of the Trustees.
146
<PAGE>
Executive Compensation
The table below sets forth a summary of the compensation paid by Host for
the last three fiscal years to the Chief Executive Officer and the four
additional most highly compensated executive officers of Host for Host's fiscal
year 1997 (the "Named Executive Officers").
<TABLE>
<CAPTION>
Long-Term
Compensation
----------------------------------
Annual Compensation Awards Payouts
-------------------------------------- ----------------- ------------
Restricted
Name and Fiscal Other Annual Stock LTIP All Other
Principal Position Year Salary/(1)//(2)/ Bonus/(3)/ Compensation Awards/(4)//(5)/ Payouts Compensation/(6)/
- ---------------------- ------ ---------------- ---------- ------------ ---------------- ------- -----------------
<S> <C> <C> <C> <C> <C> <C> <C>
Richard E. Marriott 1997 $271,449 $108,580 $110,789/(7)/ $ 0 $ $ 22,668/(8)/
Chairman of the 1996 262,951 105,180 114,969/(7)/ 0 21,439/(8)/
Board 1995 250,554 100,000 107,463/(7)/ 0 12,634
Terence C. Golden/(9)/ 1997 619,045 557,141 58,783/(10)/ 354,693 66,105
President and Chief 1996 600,017 480,013 0 10,476,603 560,827/(11)/
Executive Officer 1995 190,656 152,152 0 0
Robert E. Parsons, Jr. 1997 338,889 254,167 0 0 36,231
Executive Vice 1996 328,447 263,490 0 3,658,277 26,273
President and Chief 1995 213,767 123,649 0 0 10,951
Financial Officer
Christopher J. Nassetta/(9)/ 1997 338,889 254,167 0 0 36,231
Executive Vice 1996 328,447 263,490 0 3,647,513 119,168/(11)/
President and Chief 1995 78,000 50,700 0 0
Operating Officer
Christopher G. Townsend 1997 202,962 111,629 0 1,015,800 18,405
Senior Vice President, 1996 186,232 102,428 0 0 15,891
General Counsel 1995 156,375 93,825 0 0 7,658
</TABLE>
________________
(1) Fiscal year 1996 base salary earnings were for 53 weeks.
(2) Salary amounts include base salary earned and paid in cash during the fiscal
year, the amount of base salary deferred at the election of the executive
officer under the Host Marriott Corporation Executive Deferred
Compensation Plan (the "Deferred Compensation Plan") and the increase in
base salary for the period October 1, 1997 through the end of the fiscal
year which was paid in 1998.
(3) Bonus includes the amount of cash bonus earned pursuant to the Host's
Performance-Based Annual Incentive Bonus Plan (which was approved by the
shareholders in 1996) and to the named individual's performance-based bonus
plan during the fiscal year, which is either paid subsequent to the end of
each fiscal year or deferred under the Deferred Compensation Plan.
(4) During 1997, the Compensation Policy Committee (the "Committee") of the
Board of Directors approved the grant of restricted stock to certain key
employees of Host, including Mr. Townsend. In 1996, the Committee approved
similar grants of restricted stock to certain key employees of Host,
including Messrs. Golden, Parsons and Nassetta. Mr. Golden also received
grants of restricted stock on November 6, 1997 and on August 1, 1996 which
were pursuant to the terms of his restricted stock agreement with Host.
Messrs. Golden, Parsons and Nassetta each received awards which vest over a
five-year period, and Mr. Townsend received an award which vests over a
three-year period. All such awards consist of shares subject to restrictions
relating primarily to continued employment ("General Restrictions") and
shares subject to annual performance objectives such as financial
performance of Host ("Performance Restrictions"). Performance objectives are
established by the Committee and are subject to annual review and revision.
Sixty percent of the shares awarded to each executive officer have annual
Performance Restrictions, and forty percent of the shares awarded have
General Restrictions conditioned upon continued employment. In addition,
Messrs. Parsons and Nassetta each received an award of restricted stock
which vests sixty percent on December 31, 1998 and forty percent on December
31, 2000, subject to the attainment of certain performance criteria and to
the named individual's continued employment ("Special Team Awards"). All
Special Team Awards are presented on the table as "Restricted Stock Awards,"
and the value stated in the table is the fair market value on the date of
the grant. At Mr. Golden's request and in order to motivate the management
team to enhance shareholder value, the Committee issued these Special Team
Awards of the shares of restricted stock to key executives of Host in
connection with Mr. Golden's joining Host. The dollar value of those awards
has been reflected in the Restricted Stock Awards column of the table for
the Named Executive Officers. In the event that the executives to whom
restricted stock was granted do not continue in the employ of Host or do not
meet the performance criteria set by the Committee, those shares will be
forfeited, and the Committee has retained the right to grant any forfeited
restricted shares to Mr. Golden.
(5) The aggregate number and value of shares of deferred stock and restricted
stock subject to "General Restrictions" and "Performance Restrictions" (see
footnote 4 above) held by each Named Executive Officer as of the end of
fiscal year 1997 are as follows: Mr. R.E. Marriott, 264,000 shares valued at
$5,071,440; Mr. Golden, 655,231 shares valued at $12,586,987; Mr. Nassetta,
240,267 shares valued at $4,615,529; Mr. Parsons, 261,531 shares valued at
$5,073,335; and Mr. Townsend, 56,321 shares valued at $1,078,485. During the
period in which any restrictions apply, holders of restricted stock are
entitled to receive all dividends or other distributions paid with respect
to such stock. Under the terms of certain restricted stock award agreements
granted under the long-term incentive plan, each share of restricted stock
vests upon a change in control of Host.
147
<PAGE>
The stock bonus awards granted by Host are generally derived based on
dividing 20% of each individual's annual cash bonus award by the average of
the high and low trading prices for a share of Common Stock on the last
trading day of the fiscal year. No voting rights or dividends are
attributed to award shares until such award shares are distributed. Stock
bonus awards may be denominated as current awards or deferred awards. A
current award is distributed in 10 annual installments commencing one year
after the award is granted. A deferred award is distributed in a lump sum
or in up to 10 annual installments following termination of employment.
Deferred award shares contingently vest pro rata in annual installments
commencing one year after the stock bonus award is granted to the employee.
Awards are not subject to forfeiture once the employee reaches age 55 with
10 years of service with Host or upon (i) retirement after 20 years of
service, (ii) disability or (iii) death.
(6) Amounts included in "All Other Compensation" represent total matching Host
contribution amounts received under the Retirement and Savings Plan and the
Deferred Compensation Plan. In 1997, the amounts attributable to the
Retirement and Savings Plan account for each Named Executive Officer were
as follows: Mr. R.E. Marriott, $9,024; Mr. Golden, $7,939; Mr. Nassetta,
$9,024; Mr. Parsons, $9,500; and Mr. Townsend, $8,448. The amounts
attributable to the Host Marriott Corporation Deferred Compensation Plan
for each named executive officer were as follows: Mr. R.E. Marriott,
$13,644; Mr. Golden, $58,166; Mr. Nassetta, $27,207; Mr. Parsons, $26,731;
and Mr. Townsend, $9,957.
(7) Amount includes $92,000 in 1997, $86,700 in 1996, and $86,200 in 1995 for
the allocation of Host personnel for non-Host business.
(8) Effective beginning in 1996, Mr. R.E. Marriott waived (i) payments due to
be made to him under the Deferred Compensation Plan following his
retirement and (ii) Common Stock due to be distributed to him under Host's
1993 Comprehensive Stock Incentive Plan (the "1993 Stock Incentive Plan")
following his retirement. In connection with this waiver, Host entered into
an arrangement to purchase life insurance policies for the benefit of a
trust established by Mr. R.E. Marriott. The cost of the life insurance
policies to Host has been actuarially determined and will not exceed the
projected after-tax cost Host expected to incur in connection with the
payments under the Deferred Compensation Plan and the stock distributions
under the 1993 Stock Incentive Plan that were waived by Mr. R.E. Marriott.
(9) Mr. Golden joined Host as President and Chief Executive Officer on
September 1, 1995. Mr. Nassetta joined Host as Executive Vice President on
October 1, 1995.
(10) Amount represents reimbursement of travel expenses of Mr. Golden's spouse
when she accompanies him on Host business trips.
(11) As part of their restricted stock agreements with Host, Messrs. Golden and
Nassetta were awarded 44,910 and 8,421 shares of Host Common Stock,
respectively, on February 1, 1996. The value of the shares was $516,465 for
Mr. Golden and $96,842 for Mr. Nassetta.
For a comparison of the reimbursements and distributions currently payable
to the General Partners and their affiliates and the reimbursements and
distributions to be paid by Host REIT, on a pro forma basis, to the General
Partners following the Consolidation, see "Background and Reasons for the
Mergers and the REIT Conversion -- Reimbursements and Distributions to General
Partners."
Employment Agreements
The Operating Partnership will have employment agreements with certain of
its executive officers. The terms of such agreements currently are under
negotiation.
Comprehensive Stock Incentive Plan
Host sponsors the Host Marriott Corporation 1997 Comprehensive Stock
Incentive Plan (the "Comprehensive Stock Incentive Plan") for purposes of
attracting and retaining highly qualified employees. Host has reserved _________
shares of Host common stock and SLC common stock for issuance pursuant to the
Comprehensive Stock Incentive Plan. As part of the REIT Conversion, Host intends
to exchange the shares of Host common stock and SLC common stock issued or
reserved under the Comprehensive Stock Incentive Plan for Host REIT Common
Shares using the applicable conversion ratio.
Under the terms of the Comprehensive Stock Incentive Plan, the Host may
award eligible full-time employees (i) options to purchase Host common stock,
(ii) deferred shares of Host common stock, (iii) restricted shares of Host
common stock, (iv) stock appreciation rights, (v) special recognition awards or
(vi) other equity-based awards, including but not limited to, phantom shares of
Host common stock, performance shares of Host common stock, bonus shares of Host
common stock, dividend equivalent units or similar securities or rights. After
the REIT Conversion, all grants under the Comprehensive Stock Incentive Plan
will be for Host REIT Common Shares.
Host intends to continue to award options under the Comprehensive Stock
Incentive Plan after the REIT Conversion. Options granted to officers and key
employees of Host have an exercise price of not less than the fair market value
on the date of grant. Incentive stock options granted
148
<PAGE>
under the Comprehensive Stock Incentive Plan expire no later than 10 years after
the date of grant and non-qualified stock options expire up to 15 years after
the date of grant.
Under the terms of the Comprehensive Stock Incentive Plan, Host may award
deferred shares of Host common stock to eligible full-time employees. Deferred
shares may be granted as part of a bonus award or deferred stock agreement.
After the REIT Conversion, Host intends to award deferred shares of Host REIT
Common Shares under the Comprehensive Stock Incentive Plan. Deferred shares
generally vest over ten years in annual installments commencing one year after
the date of grant.
The Comprehensive Stock Incentive Plan also provides for the issuance of
restricted shares of Host common stock to officers and key executives to be
distributed over the next three or five years in annual installments based on
continued employment and the attainment of certain performance criteria. Host
intends to issue restricted shares of Host REIT Common Shares after the REIT
Conversion.
Under the terms of the Comprehensive Stock Incentive Plan, Host may grant
bonus awards to eligible full-time employees. Bonus awards may be part of a
management incentive program which pays part of the annual performance bonus
awarded to managers and other key employees in shares of Host common stock. A
bonus award entitles the holder to receive a distribution of Host's common stock
in accordance with the underlying agreement. Holders of bonus awards vest in the
shares covered by their award over 10 years in annual installments commencing
one year after grant. Unless the holder of a bonus award elects otherwise,
vested shares are distributed in 10 consecutive, approximately equal, annual
installments. After the REIT Conversion, Host intends to award bonus awards for
shares of Host REIT Common Shares.
The Comprehensive Stock Incentive Plan authorizes Host to grant stock
appreciation rights ("SAR") to eligible full-time employees. SARs awarded under
the Comprehensive Stock Incentive Plan give the holder the right to an amount
equal to the appreciation in the value of the Host common shares over the fair a
specified price. SARs may be paid in the Host common stock, cash or other form
or combination form of payout. After the REIT Conversion, Host intends to award
SARs on Host REIT Common Shares.
Under the Comprehensive Stock Incentive Plan, Host may award an eligible
full-time employee or officer a Special Recognition Award. Special Recognition
Awards may be paid in the form of Host common stock or an option to purchase
Host common stock at an amount not less than fair market value on the date of
grant. After the REIT conversion, Host intends to award Special Recognition
Awards or Host REIT Common Share to eligible full-time employees or officers.
Stock Purchase Plan
Host sponsors the Host Marriott Corporation Employee Stock Purchase Plan
(the "Stock Purchase Plan"). Under the terms of the Stock Purchase Plan, an
individual who is: (i) an active eligible employee on the last day of the prior
plan year, (ii) working 20 hours or more per week, and (iii) employed more than
five months in a calendar year may, on the first day of the plan year, purchase
Host common stock through contributions or payroll deductions at the lower of
the fair market value on the first or last day of such plan year. Host intends
to continue the Stock Purchase Plan after the REIT Conversion.
401(k) Plan
Host sponsors the Host Marriott Corporation Retirement and Saving Plan (the
"401(k) Plan"). The 401(k) Plan has received a favorable ruling from the IRS as
to its tax-qualified status. The 401(k) Plan is available to all eligible
employees immediately upon their date of hire. A
149
<PAGE>
participant may elect to contribute from 1% to 15% of his compensation to the
401(K) Plan. Each year, Host makes a fixed matching contribution equal to 50% of
the first 6% of compensation contributed to the 401(K) Plan by employees. In
addition, Host may make a discretionary contribution, in an amount, if any,
determined annually by the Board, to the 401(K) Plan for the benefit of
eligible employees.
Under the terms of the 401(k) Plan, participants may elect to invest part
or all of their plan benefits in Host common stock. As part of the REIT
Conversion, all shares of Host common stock held under the 401(k) Plan will be
converted to Host REIT Common Shares. After the REIT Conversion, Host intends to
allow the 401(k) Plan's participants to elect to invest all or part of their
plan benefits in Host REIT Common Shares and SLC Common Stock. To the extent
that Host REIT Common Shares will not be deemed to be a "qualifying employer
security" as that term is used in section 407(d)(5) of ERISA, Host intends to
seek administrative relief from the U.S. Department of Labor to allow 401(k)
Plan participants to elect to invest plan benefits on Common Shares.
Deferred Compensation Plan
Host sponsors the Host Marriott Corporation Executive Deferred Compensation
Plan for Non-Employee Trustees (the "Deferred Compensation Plan") for purposes
of attracting and retaining qualified non-employee Trustees. Under the terms of
the Deferred Compensation Plan, a non-employee Trustee may elect to defer
payment of part or all of his Trustees fees from Host until such individual is
no longer a member of the Board. Currently, fees that are deferred under the
Deferred Compensation Plan are converted into shares of Host common stock using
the fair market value of such shares on the date of deferral. After the REIT
Conversion, Host intends to invest Trustees, fees deferred under the Deferred
Compensation Plan in Host REIT Common Shares.
Non-Employee Trustees may elect to receive payment of their benefits under
the Deferred Compensation Plan in cash or Host common stock. After the REIT
Conversion, Host intends to allow participants of the Deferred Compensation Plan
to elect to receive their benefits in cash or Host REIT Common Shares.
Limitation of Liability and Indemnification
The Maryland REIT Law permits a Maryland real estate investment trust to
include in its Declaration of Trust a provision limiting the liability of its
trustees and officers to the trust and its shareholders for money damages except
for liability resulting from (a) actual receipt of an improper benefit or profit
in money, property or services or (b) acts committed in bad faith or active and
deliberate dishonesty established by a final judgment as being material to the
cause of action. The Declaration of Trust of Host REIT contains such a provision
which eliminates such liability to the maximum extent permitted by Maryland law.
The Declaration of Trust of Host REIT authorizes it, to the maximum extent
permitted by Maryland law, to obligate itself to indemnify and to pay or
reimburse reasonable expenses in advance of final disposition of a proceeding to
(i) any present or former trustee or officer or (ii) any individual who, while a
trustee of Host REIT and at the request of Host REIT, serves or has served
another real estate investment trust, corporation, partnership, joint venture,
trust, employee benefit plan or any other enterprise from and against any claim
or liability to which such person may become subject or which such person may
incur by reason of his or her status as a present or former Trustee or officer
of Host REIT. The Bylaws of Host REIT obligate it, to the maximum extent
permitted by Maryland law, to indemnify and to pay or reimburse reasonable
expenses in advance of final disposition of a proceeding to (a) any present or
former trustee or officer who is made party to the proceeding by reason of his
service in that capacity or (b) any individual who, while a trustee or officer
of Host REIT and at the request of Host REIT, serves or has served another real
estate investment trust, corporation, partnership, joint venture, trust,
employee benefit plan or any other enterprise as a trustee, director, officer or
partner of such real estate investment trust, corporation, partnership, joint
venture, trust, employee benefit plan or other enterprise and who is made a
party to the proceeding by reason of his service in that capacity, against any
claim or liability to which he may become subject by reason of such status. The
Declaration of Trust and Bylaws also permit Host REIT to indemnify and advance
expenses to any person who served as a predecessor of Host REIT in any of the
capacities described above and to any employee or agent of Host REIT or a
predecessor of Host REIT. The Bylaws require Host REIT to indemnify a trustee or
officer who has been successful, on the merits or otherwise, in the defense of
any proceeding to which he is made a party by reason of his service in that
capacity.
The Maryland REIT Law permits a Maryland real estate investment trust to
indemnify and advance expenses to its trustees, officers, employees and agents
to the same extent as permitted by the MGCL for directors and officers of
Maryland corporations. The MGCL permits a corporation to indemnify its present
and former directors and officers, among others, against judgments, penalties,
fines, settlements and reasonable expenses actually incurred by them in
connection with any proceeding to which they may be made a party by reason of
their service in those or other capacities
150
<PAGE>
unless it is established that (a) the act or omission of the director or officer
was material to the matter giving rise to the proceeding and (i) was committed
in bad faith or (ii) was the result of active and deliberate dishonesty, (b) the
director or officer actually received an improper personal benefit in money,
property or services or (c) in the case of any criminal proceeding, the director
or officer had reasonable cause to believe that the act or omission was
unlawful. However, under the MGCL, a Maryland corporation may not indemnify for
an adverse judgment in a suit by or in the right of the corporation. In
accordance with the MGCL, the Bylaws of Host REIT require it, as a condition to
advancing expenses, to obtain (1) a written affirmation by the trustee or
officer of his good faith belief that he has met the standard of conduct
necessary for indemnification by Host REIT as authorized by the Bylaws and (2) a
written statement by or on his behalf to repay the amount paid or reimbursed by
Host REIT if it shall ultimately be determined that the standard of conduct was
not met.
The Partnership Agreement also provides for indemnification of Host REIT
and its officers and trustees to the same extent that indemnification is
provided to officers and trustees of Host REIT in its Declaration of Trust, and
limits the liability of Host REIT and its officers and trustees to the Operating
Partnership and its respective partners to the same extent that the liability of
the officers and trustees of Host REIT to Host REIT and its shareholders is
limited under Host REIT's Declaration of Trust.
Insofar as indemnification for liabilities arising under the Securities Act
may be permitted to trustees, officers or persons controlling the registrant
pursuant to the foregoing provisions, Host REIT has been informed that in the
opinion of the Securities and Exchange Commission such indemnification is
against public policy as expressed in the Securities Act and is therefore
unenforceable.
151
<PAGE>
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Relationship Between Host and Marriott International
Host and Marriott International, prior to October 8, 1993, were operated as
a single consolidated company. On October 8, 1993 in connection with the
issuance of a special dividend (the "Marriott International Distribution") the
consolidated company's businesses were split between Host and Marriott
International. Thereafter, Host retained the capital intensive lodging real
estate business (the "Ownership Business") and the airport/tollroad concessions
business (the "Host/Travel Plazas Business"), while Marriott International took
over the management of the lodging and service management businesses (the
"Management Business"). (On December 29, 1995, Host distributed the Host/Travel
Plazas Business to the shareholders of Host Marriott Services Corporation;
see "--Relationship between Host and Host Marriott Services Corporation" below.)
On the date of the Marriott International Distribution, Host and its
subsidiaries and Marriott International and its subsidiaries entered into
certain contractual arrangements governing their relationship following the
Marriott International Distribution.
J.W. Marriott, Jr. and Richard E. Marriott beneficially own approximately
10.6%, and 10.2%, respectively, of the outstanding shares of common stock of
Marriott International. By reason of their ownership of such shares of common
stock of Marriott International and their positions as Chairman and a Director,
respectively, of Marriott International, J.W. Marriott, Jr. and Richard E.
Marriott, who will also be a Trustee and Chairman, respectively, of Host REIT,
could be deemed in control of Marriott International within the meaning of the
federal securities laws. Other members of the Marriott family might also be
deemed control persons of Marriott International by reason of their ownership of
shares of Marriott International and/or their relationship to other family
members.
Prior to the Marriott International Distribution, Host and Marriott
International entered into a Distribution Agreement (the "Marriott International
Distribution Agreement"), which provided for, among other things, (i) the
division between Host and Marriott International of certain liabilities and (ii)
certain other agreements governing the relationship between Host and Marriott
International following the Marriott International Distribution.
Subject to certain exceptions, the Marriott International Distribution
Agreement provided for, among other things, assumptions of liabilities and
cross-indemnities designed to allocate, effective as of the Marriott
International Distribution, financial responsibility for the liabilities arising
out of or in connection with the Management Business to Marriott International
and its subsidiaries, and financial responsibility for the liabilities arising
out of or in connection with the Ownership Business and Host/Travel Plazas
Business, along with the consolidated company's liabilities under a substantial
portion of its pre-existing financing and long-term debt obligations, to Host
and its retained subsidiaries. The agreements executed in connection with the
Marriott International Distribution Agreement also set forth certain specific
allocations of liabilities between Host and Marriott International.
Under the Marriott International Distribution Agreement, Marriott
International has a right to purchase up to 20% of each class of Host or Host
REIT's voting stock (determined after assuming full exercise of the right) at
its then fair market value (based on an average of trading prices during a
specified period), upon the occurrence of certain specified events generally
involving a change in control of Host or Host REIT.
For the purpose of governing certain of the ongoing relationships between
Host and Marriott International after the Marriott International Distribution,
Host and Marriott International have entered into other agreements. Host
believes that the agreements are fair to both parties and contain terms which
are generally comparable to those which would have been reached in arm's-
152
<PAGE>
length negotiations with unaffiliated parties. Among such other agreements
between Host and Marriott International are:
(i) Lodging Management and Franchise Agreements. Marriott International and
certain of its subsidiaries have entered into management agreements with
Host and certain of its subsidiaries to manage for fees the Marriott
Hotels, Resorts and Suites, Ritz-Carlton hotels, Courtyard hotels and
Residence Inns owned or leased by Host and its subsidiaries. Marriott
International has also entered into franchise agreements with Host and
certain of its subsidiaries to allow Host to use the Marriott brand,
associated trademarks, reservation systems and other related items in
connection with Host's operation of ten Marriott hotels not managed by
Marriott International.
Each of those management and franchise agreements reflects market terms and
conditions and is substantially similar to the terms of management and
franchise agreements with other third-party owners regarding lodging
facilities of a similar type. In 1997, Host paid to Marriott International
fees of $166 million from the managed and franchised lodging properties
owned or leased by Host.
In addition, Host or one of its subsidiaries is a partner in several
unconsolidated partnerships (some of which will be consolidated in
connection with the REIT Conversion) that at the end of 1997 owned 241
lodging properties operated by Marriott International or certain of its
subsidiaries under long-term agreements. In such cases, Host or its
subsidiary typically serves as the general partner. In 1997, these
unconsolidated partnerships paid to Marriott International fees of $119
million pursuant to such agreements. The partnerships also paid $23 million
in rent to Marriott International in 1997 for land leased from Marriott
International upon which certain of the limited service partnerships'
hotels are located.
(ii) Credit Agreement. In 1995, Marriott International and a subsidiary of
Host entered into a Credit Agreement pursuant to which the subsidiary had
the right to borrow up to $225 million from Marriott International. In
1997, however, Host entered into a revolving line of credit agreement with
third parties, and as a result, Host terminated the revolving line of
credit under the Credit Agreement with Marriott International. Host remains
subject to various covenants and guaranty reimbursement obligations under
the Credit Agreement.
(iii) Tax Sharing Agreement. Host and Marriott International have entered
into a tax sharing agreement that defines the parties' rights and
obligations with respect to deficiencies and refunds of federal, state and
other income or franchise taxes relating to Host's businesses for tax years
prior to the Marriott International Distribution and with respect to
certain tax attributes of Host after the Marriott International
Distribution. Host and Marriott International have agreed to cooperate with
each other and to share information in preparing tax returns and in dealing
with other tax matters.
(iv) Noncompetition Agreements. Host and Marriott International entered
into a noncompetition agreement that defines the parties' rights and
obligations with respect to certain businesses operated by Marriott
International and Host. In general, under the noncompetition agreements,
Host and its subsidiaries are prohibited from entering into or acquiring
any business that competes with the hotel management business as conducted
by Marriott International until October 8, 2000. See "--Senior Living
Communities Acquisitions."
(v) Administrative Services Agreements. Marriott International and Host
have entered into a number of agreements pursuant to which Marriott
International has agreed to provide certain continuing administrative
services to Host and its subsidiaries. Such services are provided on market
terms and conditions. In general, the administrative services agreements
can be kept in place at least through the end of 1998.
153
<PAGE>
(vi) Marriott International Guarantees. In connection with the Marriott
International Distribution, Host and Marriott International entered into
agreements pursuant to which Marriott International has agreed to guarantee
Host's performance in connection with certain partnership, real estate and
project loans and other Host obligations. Such guarantees are limited in an
aggregate principal amount of up to $107 million at March 27, 1998.
Marriott International has not been required to make any payments pursuant
to the guarantees.
In addition to the foregoing agreements, Host and Marriott International
have had occasion to enter into other agreements in the ordinary course of
business. Host believes that such agreements are fair to both parties and
contain terms which are generally comparable to those which would have been
reached in arm's-length negotiations with unaffiliated parties. Among such other
agreements between Host and Marriott International are:
(a) Hotel Acquisitions. Marriott International has provided, and Host
expects that Marriott International in the future will provide, financing
to Host for a portion of the cost of acquiring properties to be operated or
franchised by Marriott International. In 1997, Marriott International did
not provide any new acquisition financing, although Host remained indebted
to Marriott International for acquisition financing from prior years.
Marriott International provided Host with $70 million of mortgage financing
in 1995 for the acquisition of three full-service hotels at an average
interest rate of 8.5%. Marriott International subsequently sold one of the
loans in 1996. In 1996, Marriott International and Host formed a joint
venture (which will be owned by a Non-Controlled Subsidiary) and Marriott
International provided Host with $29 million in debt financing at an
average interest rate of 12.7% and with $28 million in preferred equity,
for the acquisition of two full-service hotels in Mexico City.
(b) Senior Living Communities Acquisitions. On June 21, 1997, Host acquired
the outstanding common stock of Forum Group, Inc. (the "Forum Group") from
Marriott Senior Living Services, Inc., a subsidiary of Marriott
International. Host purchased the Forum Group portfolio of 29 premier
senior living communities for approximately $460 million, including
approximately $270 million in debt ($59 million of which was provided by
Marriott International). In 1997, Host had completed $56 million of the
approximately $107 million expansion plan to add approximately 1,060 units
to these communities. As a result, an additional $33 million of debt
financing has been provided by Marriott International, and Marriott
International may provide additional financing as the expansion plan is
completed. The properties will continue to be managed by Marriott
International. From the date of acquisition through the end of 1997, Host
paid to Marriott International management fees of $6 million from the
senior living properties owned by Host. In connection with the acquisition,
Host and Marriott International entered into a noncompetition agreement
that defines the parties' rights and obligations with respect to the
operation of senior living services by Marriott International and Host. In
general, under the noncompetition agreement, Host and its subsidiaries are
prohibited from entering into or acquiring any business that competes with
the senior living management business as conducted by Marriott
International until 2017. In 1997, Host also acquired all but 1% of the
remaining 50% interest in the joint venture which owned the 418-unit
Leisure Park senior living community from Marriott International for
approximately $23 million, including approximately $15 million of mortgage
debt assumed by Host. As part of the REIT Conversion, the senior living
communities business will be distributed to Host's shareholders; thus, the
Limited Partners whose Partnership participates in a Merger will not own an
interest in this business.
154
<PAGE>
Relationship Between Host and Host Marriott Services Corporation
On December 29, 1995, Host issued a special dividend (the "HMSC
Distribution") which split Host's businesses between Host and Host Marriott
Services Corporation ("HM Services"). Prior to December 29, 1995, HM Services
was a wholly owned subsidiary of Host. Thereafter, Host retained the capital
intensive lodging real estate business (the "Ownership Business"), while HM
Services took over the airport/tollroad concessions business (the "Host/Travel
Plazas Business"). Host and its subsidiaries and HM Services and its
subsidiaries have entered into certain relationships following the HMSC
Distribution.
Richard E. Marriott and J.W. Marriott, Jr. beneficially own approximately
6.75% and 6.88%, respectively, of the outstanding shares of common stock of HM
Services. By reason of their ownership of such shares of common stock of HM
Services and their positions as Directors of HM Services, Richard E. Marriott
and J.W. Marriott, Jr., who are also Chairman and a Director, respectively, of
Host, could be deemed in control of HM Services within the meaning of the
federal securities laws. Other members of the Marriott family might also be
deemed control persons of HM Services by reason of their ownership of shares of
HM Services and/or their relationship to other family members.
Prior to the HMSC Distribution, Host and HM Services entered into a
Distribution Agreement (the "HMSC Distribution Agreement"), which provided for,
among other things, (i) certain asset transfers to occur prior to the HMSC
Distribution, (ii) the HMSC Distribution, (iii) the division between Host and HM
Services of certain liabilities and (iv) certain other agreements governing the
relationship between Host and HM Services following the HMSC Distribution.
Subject to certain exceptions, the HMSC Distribution Agreement provides
for, among other things, assumptions of liabilities and cross-indemnities
designed to allocate, effective as of the HMSC Distribution, financial
responsibility for the liabilities arising out of or in connection with the
Host/Travel Plazas Business to HM Services and its subsidiaries, and financial
responsibility for the liabilities arising out of or in connection with the
Ownership Business to Host and its retained subsidiaries. The agreements
executed in connection with the HMSC Distribution Agreement also set forth
certain specific allocations of liabilities between Host and HM Services. The
HMSC Distribution Agreement also provides that HM Services will assume its
proportionate share of Host's current obligation for certain employee benefit
awards denominated in Host Common Stock currently held by employees of Marriott
International.
For the purpose of governing certain of the ongoing relationships between
Host and HM Services after the HMSC Distribution, Host and HM Services have
entered into other agreements. Host believes that the agreements are fair to
both parties and contain terms which are generally comparable to those which
would have been reached in arm's-length negotiations with unaffiliated parties.
Among such other agreements between Host and HM Services are:
(i) Tax Sharing Agreement. Host and HM Services have entered into a tax
sharing agreement that defines the parties' rights and obligations with
respect to deficiencies and refunds of federal, state and other income or
franchise taxes relating to Host's businesses for tax years prior to the
HMSC Distribution and with respect to certain tax attributes of Host after
the HMSC Distribution. Host and HM Services have agreed to cooperate with
each other and to share information in preparing tax returns and in dealing
with other tax matters.
(ii) Guarantees of Concession Agreements. Host and HM Services have entered
into agreements pursuant to which Host has agreed to guarantee HM Services'
performance in connection with certain tollroad concessions operated by HM
Services. Host has not been
155
<PAGE>
required to make any payment pursuant to the guarantees and does not anticipate
making any such payment in 1998.
(iii) Employee Benefits Allocation Agreement. Host and HM Services have
entered into an Employee Benefits Allocation and Other Employment Matters
Agreement (the "Employee Benefits Allocation Agreement") that provides for
the allocation of certain responsibilities with respect to employee
compensation, benefits and labor matters. In general, the Employee Benefits
Allocation Agreement provides that Host retain all employee liabilities for
employees who on or after the HMSC Distribution were employees of Host, and
that HM Services retain all employee liabilities for employees who on or
after the HMSC Distribution were employees of HM Services. Pursuant to the
Employee Benefits Allocation Agreement, and in connection with the HMSC
Distribution, Host also adjusted outstanding awards under Host employee
benefit plans.
156
<PAGE>
PRINCIPAL SECURITY HOLDERS
The following table sets forth, as of ________ __, 1998, the beneficial
ownership of OP Units and Common Shares of (i) each person who is expected to
hold more than a 5% interest in the Operating Partnership or Host REIT, (ii)
trustees of Host REIT, (iii) the Chief Executive Officer and the four most
highly compensated executive officers of Host REIT and (iv) the trustees and
executive officers of Host REIT as a group. Unless otherwise indicated in the
footnotes, all of such interests are owned directly and the indicated person or
entity has sole voting and investment power.
The "Percent of All Common Shares and OP Units" represents the number of
Common Shares and OP Units the person is expected to hold immediately after the
REIT Conversion, as a percentage of the total number of Common Shares and OP
Units expected to be outstanding immediately after the REIT Conversion
(including OP Units held by Host REIT). The information in this table assumes
that all transactions comprising the REIT Conversion are consummated as
currently expected. The address of each beneficial owner is 10400 Fernwood
Road, Bethesda, Maryland 20817 unless otherwise indicated.
<TABLE>
<CAPTION>
Percent of
Percent of Number of Percent of Percent of All Common
Number of OP All OP Common Common All Common Shares and
Name Units Units/(1)/ Shares/(2)/ Shares/(3)/ Shares/(4)/ OP Units/(5)/
---- ------------ ----------- ----------- ----------- ----------- -------------
<S> <C> <C> <C> <C> <C> <C>
R. Theodore Ammon 14,750 *
Robert M. Baylis 12,750 *
Terence C. Golden/(6)/ 828,085 *
J.W. Marriott, Jr./(6)//(7)//(8)/ 13,276,630 6.51
Richard E. Marriott/(6)//(8)//(9)/ 13,212,326 6.48
Ann Dore McLaughlin 8,750 *
John G. Schreiber 0 0
Harry L. Vincent, Jr. 21,850 *
Christopher J. Nassetta/(6)/ 371,230 *
Robert E. Parsons, Jr./(6)/ 428,413 *
Christopher G. Townsend/(6)/ 115,274 *
Blackstone Entities/(11)/ 0 0
Dresdner RCM Global
Investors LLC/(12)/ 13,595,975 6.66
FMR Corp./(13)/ 22,532,574 11.04
Southeastern Asset
Management, Inc./(14)/ [ ] 26,469,000 12.97
All Directors and
Executive Officers as a
Group (11 Persons)/(6)//(10)/ 24,308,476 11.71
</TABLE>
- ---------------------------
(1) Represents the number of OP Units held by the person as a percentage of the
total number of OP Units issued to participants in the REIT Conversion
(______________ OP Units).
(2) Consists of Common Shares received in the REIT Conversion as a result of
ownership of Host.
(3) Represents the number of Common Shares held by the person as a percentage of
the total number of Common Shares expected to be outstanding immediately
following the REIT Conversion (_________________ Common Shares). Ownership
of less than 1% is reflected as * in the table.
(4) Assumes that all OP Units held by the person are redeemed for Common Shares.
The total number of Common Shares outstanding used in calculating this
percentage (___________ Common Shares plus the number of OP Units
beneficially owned) assumes that none of the OP Units held by other persons
are redeemed for Common Shares.
(5) Assumes that all OP Units held by the person are redeemed for Common Shares.
The total number of Common Shares outstanding used in calculating this
percentage (___________ Common Shares) assumes that all of the OP Units held
by other persons are redeemed for Common Shares.
(6) Includes (i) the shares of unvested restricted stock granted under Host's
1993 and 1997 Comprehensive Stock Incentive Plans, which are voted by the
holder thereof, and (ii) the following number of shares which could be
acquired by the named persons through the exercise of stock options within
60 days of January 31, 1998: for J.W. Marriott, Jr., 810,447 shares; for
Richard E. Marriott, 55,700 shares; for Mr. Parsons, 20,225 shares; for Mr.
Townsend, 6,975 shares; and for all directors and executive officers as a
group, 918,147 shares. Does not include any other shares reserved,
contingently vested or awarded under the above-named Plan.
(7) Includes: (i) 1,977,450 shares held in trust for which J.W. Marriott, Jr. is
the trustee or a co-trustee; (ii) 68,426 shares held by the wife of J.W.
Marriott, Jr.; (iii) 703,031 shares held in trust for which the wife of J.W.
Marriott, Jr. is the trustee or a co-trustee; (iv) 2,451,787 shares held by
the J. Willard Marriott Foundation of which J.W. Marriott, Jr. is a co-
trustee; (v)
157
<PAGE>
2,707,590 shares held by a limited partnership whose general partner is a
corporation of which J.W. Marriott, Jr. is the controlling shareholder; and
(vi) 80,000 shares held by a limited partnership whose general partner is
J.W. Marriott, Jr. Does not include shares held by the adult children of
J.W. Marriott, Jr.; J.W. Marriott, Jr. disclaims beneficial ownership of
all such shares.
(8) By virtue of their ownership of shares of Host Common Stock and their
positions as Chairman and Director, respectively, Richard E. Marriott and
J.W. Marriott, Jr. could be deemed in control of Host within the meaning of
the federal securities laws. Other members of the Marriott family might
also be deemed control persons by reason of their ownership of shares
and/or their relationship to other family members. J.W. Marriott, Jr.,
Richard E. Marriott, their mother Alice S. Marriott and other members of
the Marriott family and various trusts established by members of the
Marriott family owned beneficially an aggregate of 25,446,833 shares, or
12.47% of the total shares outstanding of Host Common Stock as of January
31, 1998.
(9) Includes: (i) 1,874,709 shares held in trust for which Richard E. Marriott
is the trustee or a co-trustee; (ii) 68,219 shares held by the wife of
Richard E. Marriott; (iii) 603,828 shares held in trust for which the wife
of Richard E. Marriott is the trustee or a co-trustee; (iv) 2,451,787
shares held by the J. Willard Marriott Foundation of which Richard E.
Marriott is a co-trustee; and (v) 2,302,729 shares held by a corporation of
which Richard E. Marriott is the controlling shareholder. Does not include
shares held by the adult children of Richard E. Marriott; Richard E.
Marriott disclaims beneficial ownership of all such shares.
(10) Includes the total number of shares held by trusts for which both J.W.
Marriott, Jr. and Richard E. Marriott are co-trustees. Beneficial
ownership of such shares is attributable to each of J.W. Marriott, Jr. and
Richard E. Marriott in the table above under the Director subheading, but
such shares are included only once in reporting the total number of shares
owned by all directors and executive officers as a group. All directors
and executive officers as a group (other than members of the Marriott
family) owned beneficially an aggregate of 1,846,327 shares, or 0.90% of
the total shares outstanding of Host Common Stock as of January 31, 1998.
In addition, Host's Retirement and Savings Plan owned 57,318 shares, or
0.03% of the total shares outstanding of Host Common Stock as of January
31, 1998.
(11) The Blackstone Entities constitute a series of affiliated partnerships.
Initially, a majority of the OP Units received pursuant to the Blackstone
Acquisition will be held within such affiliated partnerships, but
eventually will be distributed by such affiliated partnerships to their
partners.
(12) Represents shares of Host Common Stock held by Dresdner RCM Global
Investors LLC ("Dresdner RCM") and its affiliates, RCM Limited L.P. ("RCM
Limited") and RCM General Corporation ("RCM General"), and by Dresdner Bank
AG, of which Dresdner RCM is a wholly owned subsidiary. Dresdner RCM has
reported in a Schedule 13G under the Exchange Act, filed with the
Commission, sole dispositive power over 12,943,675 shares and shared
dispositive power over 282,000 shares. Of these shares, Dresdner RCM has
reported sole voting power over 8,854,200 shares and does not share voting
power with respect to any shares. In addition, Dresdner Bank AG has re
ported in a separate Schedule 13G under the Exchange Act, filed with the
Commission, sole dispositive and voting power over 370,300 shares of Host
Common Stock, and such shares are included in the number reported in this
table. The principal business address of Dresdner RCM, RCM Limited and RCM
General is Four Embarcadero Center, San Francisco, California 94111. The
principal business address of Dresdner Bank AG is Jurgen Ponto-Platz 1,
60301 Frankfurt, Germany.
(13) Represents shares of Host Common Stock held by FMR Corp. ("FMR") and its
subsidiaries, Fidelity Management Trust Company ("FMT") and Fidelity
Management & Research Company ("FM&R"). FMR has reported in a Schedule 13G
under the Exchange Act, filed with the Commission, that FMR, through its
control of FM&R and certain investment funds for which FM&R acts as an
investment adviser, has sole power to dispose of 22,474,835 shares of Host
Common Stock owned by such investment funds, including the 15,610,500
shares of Host Common Stock (or 7.65% of the total shares outstanding of
Host Common Stock as of January 31, 1998) held by the Fidelity Magellan
Fund. FMR has no power to vote or direct the voting of the shares of Host
Common Stock owned by the investment funds, which power resides with the
Board of Trustees of such investment funds. FMR, through its control of
FMT and certain institutional accounts for which FMT serves as investment
manager, has sole dispositive power over 57,739 shares, the sole power to
vote or direct the voting of 44,301 shares, and no power to vote or direct
the voting of 13,438 shares of Host Common Stock owned by the institutional
accounts. The principal business address for FMR, FMT and FM&R is 82
Devonshire Street, Boston, Massachusetts 02109.
(14) Represents shares of Host Common Stock held by Southeastern Asset
Management, Inc. ("SAM"). SAM has reported in a Schedule 13G under the
Exchange Act, filed with the Commission, sole dispositive power over
14,466,900 shares and shared dispositive power over 11,322,100 shares. Of
these shares, SAM has reported sole voting power over 12,191,900 shares and
shared voting power over 11,322,100 shares. The principal business address
of SAM is 6075 Poplar Avenue, Suite 900, Memphis, Tennessee 38119.
158
<PAGE>
DESCRIPTION OF OP UNITS
Limited Partners whose Partnership participates in a Merger will
receive OP Units in exchange for their Partnership Interests. Limited Partners
who elect to receive Notes will tender the OP Units they receive to the
Operating Partnership in exchange for Notes. See "The Mergers and the REIT
Conversion--The Mergers--Issuance of OP Units or Notes." After the Initial
Holding Period, each limited partner in the Operating Partnership (other than
Host REIT) will be entitled to have each of his OP Units redeemed by the
Operating Partnership at any time for cash equal to the fair market value at the
time of redemption of one Common Share (subject to adjustment to reflect any
stock split, stock dividend or other transaction affecting the number of Common
Shares outstanding but not affecting the number of OP Units outstanding), or, at
the option of Host REIT, one Common Share (subject to adjustment as described
herein). The material terms of the Common Shares, including a summary of certain
provisions of Host REIT's Declaration of Trust and Bylaws, are set forth in
"Description of Shares of Beneficial Interest." The material terms of the OP
Units, including a summary of certain provisions of the Partnership Agreement,
are set forth below. The following description of the terms and provisions of
the OP Units and certain other matters does not purport to be complete and is
subject to, and qualified in its entirety by, reference to applicable provisions
of Delaware law and the Partnership Agreement. A copy of the Partnership
Agreement in substantially the form in which it will be adopted (subject to such
modifications as do not materially and adversely affect the rights of the
holders of OP Units to be issued in the Mergers) is attached as Appendix A to
this Consent Solicitation. Each person acquiring OP Units in the Mergers or
thereafter will be deemed bound by the terms and conditions of the Partnership
Agreement. For a comparison of the voting and certain other rights of Limited
Partners of the Partnerships, holders of OP Units in the Operating Partnership
and shareholders of Host REIT, see "Comparison of Ownership of Partnership
Interests, OP Units and Common Shares."
General
Holders of OP Units (other than Host REIT in its capacity as general
partner) will hold a limited partnership interest in the Operating Partnership,
and all holders of OP Units (including Host REIT in its capacity as general
partner) will be entitled to share in cash distributions from, and in the
profits and losses of, the Operating Partnership. Because Host REIT will hold a
number of OP Units equal to the number of Common Shares outstanding, each OP
Unit generally will receive distributions in the same amount paid on each Common
Share. See "Distribution and Other Policies -- Distribution Policy."
Holders of OP Units will have the rights to which limited partners are
entitled under the Partnership Agreement and the Delaware Revised Uniform
Limited Partnership Act (the "Delaware Act"). The OP Units to be issued in the
Mergers will not be listed on any exchange or quoted on any national market
system. The Partnership Agreement imposes certain restrictions on the transfer
of OP Units, as described below.
Formation
The Operating Partnership was formed as a Delaware limited partnership
under the Delaware Act on April 15, 1998. Upon the consummation of the REIT
Conversion, Host REIT will be admitted to the Operating Partnership as the sole
general partner of the Operating Partnership. Following the REIT Conversion,
Host REIT is expected to hold a substantial amount of the interests in the
Operating Partnership. Of the interests in the Operating Partnership allocated
to Host REIT, a 1% interest in the Operating Partnership will be held by Host
REIT as the general partner of the
159
<PAGE>
Operating Partnership, and the remaining interests in the Operating Partnership
allocated to Host REIT will be held by Host REIT as a limited partner in the
Operating Partnership.
Purposes, Business and Management
The purpose of the Operating Partnership includes the conduct of any
business that may be lawfully conducted by a limited partnership formed under
the Delaware Act, except that the Partnership Agreement requires the business of
the Operating Partnership to be conducted in such a manner that will permit Host
REIT to qualify as a REIT under Section 856 of the Code, unless Host REIT ceases
to qualify as a REIT for reasons other than the conduct of the business of the
Operating Partnership. Subject to the foregoing limitation, the Operating
Partnership may enter into partnerships, joint ventures or similar arrangements
and may own interests directly or indirectly in any other entity.
Host REIT, as general partner of the Operating Partnership, has the
exclusive power and authority to conduct the business of the Operating
Partnership subject to the consent of the limited partners in certain limited
circumstances discussed below. No limited partner may take part in the
operation, management or control of the business of the Operating Partnership by
virtue of being a holder of OP Units.
In particular, the limited partners expressly acknowledge in the
Partnership Agreement that Host REIT is acting on behalf of the Operating
Partnership's limited partners and Host REIT's shareholders collectively, and is
under no obligation to consider the tax consequences to limited partners when
making decisions for the benefit of the Operating Partnership. Host REIT
intends to make decisions in its capacity as general partner of the Operating
Partnership so as to maximize the profitability of Host REIT and the Operating
Partnership as a whole, independent of the tax effects on the limited partners.
See "Federal Income Tax Considerations -- Tax Treatment of Limited Partners Who
Hold OP Units Following the Mergers." Host REIT and the Operating Partnership
will have no liability to a limited partner as a result of any liabilities or
damages incurred or suffered by, or benefits not derived by, a limited partner
as a result of the act or omission of Host REIT as general partner of the
Operating Partnership unless Host REIT acted, or failed to act, in bad faith and
the act or omission was material to the loss, liability or benefit not derived.
Ability of Host REIT to Engage in Other Businesses; Conflicts of Interest
Host REIT, as general partner, may not conduct any business other than
the business of the Operating Partnership without the consent of the holders of
a majority of the limited partnership interests (not including the limited
partnership interests held by Host REIT in its capacity as a limited partner in
the Operating Partnership). Other persons (including officers, trustees,
employees, agents and other affiliates of Host REIT) will not be prohibited
under the Partnership Agreement from engaging in other business activities.
However, Host REIT, on behalf of the Operating Partnership, has adopted certain
policies regarding noncompetition provisions and avoidance of conflicts of
interest. See "Distribution and Other Policies -- Conflicts of Interest
Policies." In addition, the Partnership Agreement does not prevent another
person or entity that acquires control of Host REIT in the future from
conducting other businesses or owning other assets, even though such businesses
or assets may be ones that it would be in the best interests of the limited
partners for the Operating Partnership to own.
Distributions; Allocations of Income and Loss
The Partnership Agreement provides for the quarterly distribution of
Available Cash (as defined below), so as, among other things, to preserve Host
REIT's qualification as a REIT, as
160
<PAGE>
determined in the manner provided in the Partnership Agreement, to Host REIT and
the limited partners in proportion to their percentage interests in the
Operating Partnership. "Available Cash" is generally defined as net income plus
depreciation and amortization and any reduction in reserves and minus interest
and principal payments on debt, capital expenditures, any additions to reserves
and other adjustments. At the time of the REIT Conversion, neither Host REIT nor
the limited partners will be entitled to any preferential or disproportionate
distributions of Available Cash (except to the extent that Host REIT receives
preferred Units in the Operating Partnership with economic rights that mirror
the economic rights of any preferred stock that Host has outstanding at the time
of the REIT Conversion). The Partnership Agreement provides for the allocation
to Host REIT, as general partner, and the limited partners of items of Operating
Partnership income and loss as described in "Federal Income Tax Considerations--
Tax Treatment of Limited Partners Who Hold OP Units Following the Mergers --
Allocations of Operating Partnership Income, Gain, Loss and Deductions."
Borrowing by the Operating Partnership
Host REIT is authorized to cause the Operating Partnership to borrow
money and to issue and guarantee debt as it deems necessary for the conduct of
the activities of the Operating Partnership, including financing and refinancing
the assets of the Operating Partnership. Such debt may be secured by mortgages,
deeds of trust, liens or encumbrances on properties of the Operating
Partnership. Host REIT also may cause the Operating Partnership to borrow money
to enable the Operating Partnership to make distributions, including
distributions to holders of OP Units, including Host REIT, in an amount
sufficient to permit Host REIT, as long as it qualifies as a REIT, to avoid the
payment of any federal income tax. See "Distribution and Other Policies --
Financing Policies."
Reimbursement of Host REIT; Transactions with Host REIT and its Affiliates
Host REIT will not receive any compensation for its services as
general partner of the Operating Partnership. Host REIT, however, as a partner
in the Operating Partnership, has the same right to allocations and
distributions as other partners in the Operating Partnership. In addition, the
Operating Partnership will pay all expenses relating to the Operating
Partnership's organization, the REIT Conversion, the acquisition and ownership
of its assets and its operations. The Operating Partnership will be responsible
for and will pay (or reimburse) all expenses and liabilities of any nature that
Host REIT may incur (including expenses and liabilities arising out of the REIT
Conversion and expenses related to the ongoing operations of Host REIT and to
the management and administration of any subsidiaries of Host REIT permitted
under the Partnership Agreement. The Operating Partnership also will be
responsible for paying any and all taxes incurred by Host REIT, except that the
Operating partnership will not be responsible for any taxes that Host REIT would
not have been required to pay if it qualified as a REIT for federal income tax
purposes or any taxes imposed on Host REIT by reason of its failure to
distribute to its shareholders an amount equal to its taxable income. The
Operating Partnership, however, will not be responsible for expenses or
liabilities incurred by Host REIT that are excluded from the scope of the
indemnification provisions of the Partnership Agreement.
Except as expressly permitted by the Partnership Agreement, Host REIT
and its affiliates will not engage in any transactions with the Operating
Partnership, except on terms that are fair and reasonable and no less favorable
to the Operating Partnership than would be obtained from an unaffiliated third
party.
Liability of Host REIT and Limited Partners
Host REIT, as general partner of the Operating Partnership, will be
liable for all general recourse obligations of the Operating Partnership to the
extent not paid by the Operating Partnership. Host REIT will not be liable for
the nonrecourse obligations of the Operating Partnership.
The limited partners of the Operating Partnership will not be required
to make additional capital contributions to the Operating Partnership. Assuming
that a limited partner does not take
161
<PAGE>
part in the control of the business of the Operating Partnership and otherwise
acts in conformity with the provisions of the Partnership Agreement, the
liability of a limited partner for obligations of the Operating Partnership
under the Partnership Agreement and the Delaware Act will be limited, subject to
certain exceptions, generally to the loss of such limited partner's investment
in the Operating Partnership represented by his OP Units. Under the Delaware
Act, a limited partner may not receive a distribution from the Operating
Partnership if, at the time of the distribution and after giving effect thereto,
the liabilities of the Operating Partnership, other than liabilities to parties
on account of their interests in the Operating Partnership and liabilities for
which recourse is limited to specified property of the Operating Partnership,
exceed the fair value of the Operating Partnership's assets, other than the fair
value of any property subject to nonrecourse liabilities of the Operating
Partnership, but only to the extent of such liabilities. The Delaware Act
provides that a limited partner who receives a distribution knowing at the time
that it violates the foregoing prohibition is liable to the Operating
Partnership for the amount of the distribution. Unless otherwise agreed, such a
limited partner will not be liable for the return of such distribution after the
expiration of three years from the date of such distribution.
The Operating Partnership expects to qualify to conduct business in
various states in which the conduct of its business requires such qualification.
Maintenance of limited liability may require compliance with certain legal
requirements of those jurisdictions and certain other jurisdictions.
Limitations on the liability of a limited partner for the obligations of a
limited partnership have not been clearly established in many jurisdictions.
Accordingly, if it were determined that the right, or exercise of the right by
the limited partners, to make certain amendments to the Partnership Agreement or
to take other action pursuant to the Partnership Agreement constituted "control"
of the Operating Partnership's business for the purposes of the statutes of any
relevant jurisdiction, the limited partners might be held personally liable for
the Operating Partnership's obligations. The Operating Partnership will operate
in a manner Host REIT deems reasonable, necessary and appropriate to preserve
the limited liability of the limited partners.
Exculpation and Indemnification of Host REIT
The Partnership Agreement generally provides that Host REIT, as
general partner of the Operating Partnership, will incur no liability to the
Operating Partnership or any limited partner for losses sustained, liabilities
incurred or benefits not derived as a result of errors in judgment or mistakes
of fact or law or of any act or omission, unless Host REIT acted, or failed to
act, in bad faith and the act or omission was material to the loss, liability or
benefit not derived. In addition, Host REIT is not responsible for any
misconduct or negligence on the part of its agents, provided Host REIT appointed
such agents in good faith. Host REIT may consult with legal counsel,
accountants, appraisers, management consultants, investment bankers and other
consultants and advisors, and any action it takes or omits to take in reliance
upon the opinion of such persons, as to matters that Host REIT reasonably
believes to be within their professional or expert competence, shall be
conclusively presumed to have been done or omitted in good faith and in
accordance with such opinion.
The Partnership Agreement also provides for indemnification of Host
REIT, the trustees and officers of Host REIT and such other persons as Host REIT
may from time to time designate against any judgments, penalties, fines,
settlements and reasonable expenses actually incurred by such person in
connection with the proceeding unless it is established that: (i) the act or
omission of the indemnified person was material to the matter giving rise to the
proceeding and either was committed in bad faith or was the result of active and
deliberate dishonesty; (ii) the indemnified person actually received an improper
personal benefit in money, property or services; or (iii) in the case of any
criminal proceeding, the indemnified person had reasonable cause to believe that
the act or omission was unlawful. The Operating Partnership is obligated to
advance to an indemnified person reasonable expenses incurred or expected to be
incurred by such indemnified person if such
162
<PAGE>
indemnified person certifies to the Operating Partnership that his conduct has
met the standards for indemnification and that he will repay any amounts
received if it is determined subsequently that his conduct did not meet such
standards.
Sales of Assets
Under the Partnership Agreement, Host REIT generally has the exclusive
authority to determine whether, when and on what terms the assets of the
Operating Partnership (including the Hotels) will be sold. In addition, Host
REIT is not required to take into account the tax consequences to the limited
partners in deciding whether to cause the Operating Partnership to undertake a
specific transaction. A sale of all or substantially all of the assets of the
Operating Partnership (or a merger of the Operating Partnership with another
entity) requires an affirmative vote of a majority of the outstanding OP Units
(including OP Units held by Host REIT).
Removal or Withdrawal of Host REIT; Transfer of Host REIT's Interests
The Partnership Agreement provides that the limited partners may not
remove Host REIT as general partner of the Operating Partnership with or without
cause (unless neither Host REIT nor its parent entity is a "public company," in
which case Host REIT may be removed for cause). In addition, Host REIT may not
transfer any of its interests as general or limited partner of the Operating
Partnership or withdraw as a general partner, except, in each case, in
connection with a merger or sale of all or substantially all of its assets,
provided that (i) the limited partners of the Operating Partnership either will
receive, or will have the right to receive, substantially the same consideration
as holders of Common Shares, (ii) following such merger or other consolidation,
substantially all of the assets of the surviving entity consist of OP Units and
(iii) such transaction has been approved by the holders of a majority of the
interests in the Operating Partnership (including interests held by Host REIT).
Host REIT initially will hold a majority of the OP Units and thus would control
the outcome of this vote. See "-- Sales of Assets."
Although Host REIT cannot transfer its partnership interests except in
a transaction in which substantially all of the assets of the surviving entity
consist of OP Units, the Partnership Agreement does not prevent a transaction in
which another entity acquires control (or all of the shares of beneficial
interest) of Host REIT and that other entity owns assets and conducts businesses
outside of the Operating Partnership.
Certain Voting Rights of Holders of OP Units During the Initial Holding Period
During the Initial Holding Period, if a vote of the shareholders of
Host REIT is required, then (i) a sale of all or substantially all of the assets
of the Operating Partnership, (ii) a merger involving the Operating Partnership
and (iii) any issuance of OP Units in connection with an issuance of Common
Shares representing 20% or more of the outstanding Common Shares which would
require shareholder approval under the rules of the NYSE, would require the
approval of a majority of all outstanding OP Units (or, in the case of clause
(iii), a majority of the OP Units that are voted, provided that at least a
majority of the OP Units are voted), including OP Units held by Host REIT,
voting as a single class with Host REIT voting its OP Units in the same
proportion as its shareholders vote. In addition, during the Initial Holding
Period, any taxable sale or sales of Hotels representing more than 10% of the
aggregate Appraised Value of the Hotels of any Partnership would require, in
addition to any other approval requirements, the approval of a majority of all
outstanding OP Units held by persons who formerly were Limited Partners of such
Partnership, voting as a separate class.
163
<PAGE>
Restrictions on Transfers of Interests by Limited Partners
The Partnership Agreement provides that no limited partner shall,
without the prior written consent of Host REIT, sell, assign, distribute or
otherwise transfer all or any portion of his interest in the Operating
Partnership, except that a limited partner may transfer, with or without the
consent of Host REIT, all or a portion of its limited partnership interest (i)
in the case of a limited partner who is an individual, to a member of his
immediate family, any trust formed for the benefit of himself and/or members of
his immediate family, or any partnership, limited liability company, joint
venture, corporation or other business entity comprised only of himself and/or
members of his immediate family and entities the ownership interests in which
are owned by or for the benefit of himself and/or members of his immediate
family, (ii) in the case of a limited partner which is a trust, to the
beneficiaries of such trust, (iii) in the case of a limited partner which is a
partnership, limited liability company, joint venture, corporation or other
business entity to which OP Units were transferred pursuant to (i) above, to its
partners, owners, or stockholders, as the case may be, who are members of the
immediate family of or are actually the person(s) who transferred OP Units to it
pursuant to (i) above, (iv) in the case of a limited partner which acquired OP
Units as of the closing of the Mergers and which is a partnership, limited
liability company, joint venture, corporation or other business entity, to its
partners, owners, stockholders or Affiliates thereof, as the case may be, or the
Persons owning the beneficial interests in any of its partners, owners or
stockholders or Affiliates thereof (it being understood that this clause (iv)
will apply to all of each Person's partnership interests whether the OP Units
relating thereto were acquired on the date hereof or hereafter), (v) in the case
of a limited partner which is a partnership, limited liability company, joint
venture, corporation or other business entity other than any of the foregoing
described in clause (iii) or (iv), in accordance with the terms of any agreement
between such limited partner and the Operating Partnership pursuant to which
such partnership interest was issued, (vi) pursuant to a gift or other transfer
without consideration, (vii) pursuant to applicable laws of descent or
distribution, (viii) to another limited partner and (ix) pursuant to a grant of
security interest or other encumbrance effected in a bona fide transaction or as
---- ----
a result of the exercise of remedies related thereto. All of the foregoing
transfers are subject to the provisions of the Partnership Agreement which
require compliance with securities laws, prohibit transfers affecting the tax
status of the Operating Partnership, prohibit transfers to holders of
nonrecourse liabilities of the Operating Partnership, and are also subject to
the rules on substitution of limited partners. In addition, Limited Partners
will be permitted to dispose of their OP Units following the expiration of the
Initial Holding Period by exercising their OP Unit Redemption Right. See "--
Unit Redemption Right" below.
The right of any permitted transferee of OP Units to become a
substitute limited partner is subject to the consent of Host REIT, which consent
Host REIT may withhold in its sole and absolute discretion. If Host REIT does
not consent to the admission of a transferee of OP Units as a substitute limited
partner, the transferee will succeed to all economic rights and benefits
attributable to such OP Units (including the Unit Redemption Right), but will
not become a limited partner or possess any other rights of limited partners
(including the right to vote).
Transfers of OP Units may be effected only by means of entries in the
record of the Operating Partnership, and Host REIT will require evidence
satisfactory to it of compliance with all transfer restrictions prior to
recording any transfer.
Unit Redemption Right
Subject to certain limitations, holders of OP Units (other than Host
REIT) may exercise the Unit Redemption Right by providing notice to the
Operating Partnership at any time after the Initial Holding Period. Unless Host
REIT elects to assume and perform the Operating Partnership's obligation with
respect to the Unit Redemption Right, as described below, the redeeming holder
of
164
<PAGE>
OP Units will receive cash from the Operating Partnership in an amount equal to
the market value of the OP Units to be redeemed. The market value of an OP Unit
for this purpose will be equal to the average of the daily market price of a
Common Share on the NYSE for the ten consecutive trading days before the day on
which the redemption notice was given. The market price for each such trading
day shall be the closing price, regular way, on such day, or if no such sales
take place on such day, the average of the closing bid and asked prices on such
day. In lieu of the Operating Partnership's acquiring the OP Units for cash,
Host REIT will have the right (except as described below, if the Common Shares
are not publicly traded) to elect to acquire the OP Units directly from a holder
of OP Units exercising the Unit Redemption Right, in exchange for either cash or
Common Shares, and, upon such acquisition, Host REIT will become the owner of
such OP Units. In either case, acquisition of such OP Units by Host REIT will be
treated as a sale of the OP Units to Host REIT for federal income tax purposes.
See "Federal Income Tax Considerations -- Tax Consequences of the Mergers --
Unit Redemption Right." Upon exercise of the Unit Redemption Right, the right of
the holder of OP Units to receive distributions for the OP Units so redeemed or
exchanged will cease. At least 1,000 OP Units (or all remaining OP Units owned
by the holder of OP Units if less than 1,000 OP Units) must be redeemed each
time the Unit Redemption Right is exercised. The redemption generally will occur
on the tenth business day after notice of the exercise of the Unit Redemption
Right by a holder of OP Units is given to the Operating Partnership, except that
no redemption or exchange can occur if delivery of Common Shares would be
prohibited either under the provisions of Host REIT's Declaration of Trust
relating to restrictions on ownership and transfer of Common Shares or under
applicable federal or state securities laws as long as the Common Shares are
publicly traded. See "Description of Shares of Beneficial Interest --
Restrictions on Ownership and Transfer."
In the event that the Common Shares are not publicly traded but
another entity whose stock is publicly traded owns more than 50% of the
beneficial interests of Host REIT (referred to as the "Parent Entity"), the Unit
Redemption Right will be determined by reference to the publicly traded shares
of the Parent Entity and the general partner will have the right to elect to
acquire the OP Units to be redeemed for publicly traded stock of the Parent
Entity. In the event that the Common Shares are not publicly traded and there
is no Parent Entity with publicly traded stock, the Unit Redemption Right would
be based upon the fair market value of the Operating Partnership's assets at the
time the Unit Redemption Right is exercised (as determined in good faith by Host
REIT), and, unless otherwise agreed by the redeeming limited partner, Host REIT
and the Operating Partnership would be obligated to satisfy the Unit Redemption
Right in cash, payable on the thirtieth business day after notice to the
Operating Partnership of exercise of the Unit Redemption Right.
No Withdrawal by Limited Partners
No limited partner has the right to withdraw from or reduce his
capital contribution to the Operating Partnership, except as a result of the
redemption, exchange or transfer of OP Units pursuant to the terms of the
Partnership Agreement.
Issuance of Limited Partnership Interests
Host REIT is authorized, without the consent of the limited partners,
to cause the Operating Partnership to issue additional OP Units to Host REIT, to
the limited partners or to other persons for such consideration and upon such
terms and conditions as Host REIT deems appropriate. The Operating Partnership
also may issue to any of the foregoing persons or entities partnership interests
in different series or classes, which may be senior to the OP Units, including
with respect to distributions and upon liquidation. If additional OP Units or
partnership interests in different series or classes of equity securities are
issued to Host REIT, then Host REIT must issue additional
165
<PAGE>
Common Shares or securities having substantially similar rights to such
partnership interests, and must contribute the proceeds received by Host REIT
from such issuance to the Operating Partnership. Consideration for additional
partnership interests may be cash or any property or other assets permitted by
the Delaware Act. No limited partner has preemptive, preferential or similar
rights with respect to capital contributions to the Operating Partnership or the
issuance or sale of any partnership interests therein.
Meetings; Voting
Meetings of the limited partners may be called only by Host REIT, on
its own motion or upon written request of limited partners owning at least 25%
of the then outstanding OP Units (including Host REIT). Limited partners may
vote either in person or by proxy at meetings. Any action that is required or
permitted to be taken by the limited partners may be taken either at a meeting
of the limited partners or without a meeting if consents in writing setting
forth the action so taken are signed by limited partners owning not less than
the minimum number of OP Units that would be necessary to authorize or take such
action at a meeting of the limited partners at which all limited partners
entitled to vote on such action were present. On matters in which limited
partners are entitled to vote, each limited partner (including Host REIT to the
extent it holds OP Units) will have a vote equal to the number of OP Units it
holds. A transferee of OP Units who has not been admitted as a substituted
limited partner with respect to such OP Units will have no voting rights with
respect to such OP Units, even if such transferee holds other OP Units as to
which it has been admitted as a limited partner. The Partnership Agreement does
not provide for annual meetings of the limited partners, and Host REIT does not
anticipate calling such meetings.
Amendment of the Partnership Agreement
Amendments to the Partnership Agreement may be proposed by Host REIT
or by limited partners owning at least 25% of the then outstanding OP Units.
Generally, the Partnership Agreement may be amended with the approval of Host
REIT, as general partner, and limited partners (including Host REIT) holding a
majority of the OP Units. Certain provisions regarding, among other things, the
rights and duties of Host REIT as general partner (e.g., restrictions on Host
REIT's power to conduct businesses other than owning OP Units, the dissolution
of the Operating Partnership or the rights of limited partners), may not be
amended without the approval of a majority of the OP Units not held by Host
REIT. Notwithstanding the foregoing, Host REIT, as general partner, will have
the power, without the consent of the limited partners, to amend the Partnership
Agreement as may be required to (i) add to the obligations of Host REIT as
general partner or surrender any right or power granted to Host REIT as general
partner, (ii) reflect the admission, substitution, termination or withdrawal of
partners in accordance with the terms of the Partnership Agreement, (iii)
establish the rights, powers, duties and preferences of any additional
partnership interests issued in accordance with the terms of the Partnership
Agreement, (iv) reflect a change that does not materially adversely affect any
limited partner, or cure any ambiguity, correct or supplement any provisions of
the Partnership Agreement not inconsistent with law or with other provisions of
the Partnership Agreement, or make other changes concerning matters under the
Partnership Agreement that are not otherwise inconsistent with the Partnership
Agreement or applicable law or (v) satisfy any requirements of federal, state or
local law.
Certain amendments that would, among other things, (i) convert a
limited partner's interest into a general partner's interest, (ii) modify the
limited liability of a limited partner, (iii) alter the interest of a partner in
profits or losses, or the rights to receive any distributions (except as
permitted under the Partnership Agreement with respect to the admission of new
partners or the issuance of additional OP Units (including partnership interests
in a different class or series to the extent otherwise authorized under the
Partnership Agreement), which actions will have the effect of changing the
percentage interests of the partners and thus altering their interests in
profits, losses
166
<PAGE>
and distributions), (iv) amend the limited partners' right to transfer or (v)
alter the Unit Redemption Right, must be approved by Host REIT and each limited
partner that would be adversely affected by such amendment.
Books and Reports
Host REIT is required to keep the Operating Partnership's books and
records at the principal office of the Operating Partnership. The books of the
Operating Partnership are required to be maintained for financial and tax
reporting purposes on an accrual basis. The limited partners will have the
right, subject to certain limitations, to receive copies of the most recent
Securities and Exchange Commission filings by Host REIT and the Operating
Partnership, the Operating Partnership's federal, state and local income tax
returns, a list of limited partners, the Partnership Agreement, the partnership
certificate and all amendments thereto and certain information about the capital
contributions of the partners. Host REIT may keep confidential from the limited
partners any information that Host REIT believes to be in the nature of trade
secrets or other information the disclosure of which Host REIT in good faith
believes is not in the best interests of the Operating Partnership or which the
Operating Partnership is required by law or by agreements with unaffiliated
third parties to keep confidential.
Host REIT will furnish to each limited partner, no later than the date
on which Host REIT mails its annual report to its shareholders, an annual report
containing financial statements of the Operating Partnership (or Host REIT, if
it prepares consolidated financial statements including the Operating
Partnership) for each fiscal year, including a balance sheet and statements of
operations, cash flow, partners' equity and changes in financial position. The
financial statements will be audited by a nationally recognized firm of
independent public accountants selected by Host REIT. In addition, if and to
the extent that Host REIT mails quarterly reports to its shareholders, Host REIT
will furnish to each limited partner, no later than the date on which Host REIT
mails such reports to its shareholders, a report containing unaudited financial
statements of the Operating Partnership (or Host REIT, if it prepares
consolidated financial statements including the Operating Partnership) as of the
last day of the calendar quarter and such other information as may be required
by applicable law or regulation or as Host REIT deems appropriate.
Host REIT will use reasonable efforts to furnish to each limited
partner, within 90 days after the close of each taxable year, the tax
information reasonably required by the limited partners for federal and state
income tax reporting purposes.
Power of Attorney
Pursuant to the terms of the Partnership Agreement, each limited
partner and each assignee appoints Host REIT, any liquidator and the authorized
officers and attorneys-in-fact of each, as such limited partner's or assignee's
attorney-in-fact to do the following: execute, swear to, acknowledge, deliver,
file and record in the appropriate public offices various certificates,
documents and other instruments (including, among other things, the Partnership
Agreement and the certificate of limited partnership and all amendments or
restatements thereof) that Host REIT deems appropriate or necessary to
effectuate the terms or intent of the Partnership Agreement. The Partnership
Agreement provides that such power of attorney is irrevocable, will survive the
subsequent incapacity of any limited partner and the transfer of all or any
portion of such limited partner's or assignee's OP Units and will extend to such
limited partner's or assignee's heirs, successors, assigns and personal
representatives.
167
<PAGE>
Dissolution, Winding Up and Termination
The Operating Partnership will continue until December 31, 2098,
unless sooner dissolved and terminated. The Operating Partnership will be
dissolved prior to the expiration of its term and its affairs wound up upon the
occurrence of the earliest of: (i) the withdrawal of Host REIT as general
partner without the permitted transfer of Host REIT's interest to a successor
general partner (except in certain limited circumstances); (ii) an election to
dissolve the Operating Partnership made by Host REIT with the consent of the
limited partners who hold 90% of the OP Units (including OP Units held by Host
REIT), (iii) the sale of all or substantially all of the Operating Partnership's
assets and properties for cash or for marketable securities; (iv) the entry of a
decree of judicial dissolution of the Operating Partnership pursuant to the
provisions of the Delaware Act; (v) the entry of a final non-appealable order
for relief in a bankruptcy proceeding of the general partner, or the entry of a
final non-appealable judgment ruling that the general partner is bankrupt or
insolvent (except that, in either such case, in certain circumstances the
limited partners (other than Host REIT) may vote to continue the Operating
Partnership and substitute a new general partner in place of Host REIT); or (vi)
December 31, 2058. Upon dissolution, Host REIT, as general partner, or any
liquidator will proceed to liquidate the assets of the Operating Partnership and
apply the proceeds therefrom in the order of priority set forth in the
Partnership Agreement.
Ownership Limitation
In order to help the Operating Partnership avoid being treated as a
corporation for federal income tax purposes, the Partnership Agreement expressly
provides that no person (other than Host REIT and the wholly-owned subsidiaries
(direct and indirect) thereof) may own, actually or constructively, more than
4.9% by value of any class of interests in the Operating Partnership. The
Partnership Agreement contains self-executing mechanisms intended to enforce
this prohibition. For a description of the consequences of the Operating
Partnership being treated as a corporation for federal income tax purposes, see
"Federal Income Tax Considerations -- Tax Status of the Operating Partnership."
As general partner of the Operating Partnership, Host REIT, in its sole and
absolute discretion, may waive or modify this ownership limitation if it is
satisfied that ownership in excess of this limit will not cause the Operating
Partnership to be treated as a corporation for federal income tax purposes.
Host has agreed to grant The Blackstone Group an exception to this prohibition
subject to the condition that neither The Blackstone Group, nor any person or
entity that would be considered to own OP Units owned by the Blackstone Group,
may own directly or by attribution, more than 10% of the stock of SLC or the
equities of any of the Lessees.
168
<PAGE>
DESCRIPTION OF SHARES OF BENEFICIAL INTEREST
The summary of the terms of the shares of beneficial interest of Host REIT
set forth below does not purport to be complete and is subject to and qualified
in its entirety by reference to the Declaration of Trust and Bylaws of Host
REIT, copies of which have been filed as Exhibits to the Registration Statement
of which this Consent Solicitation is a part.
General
The Declaration of Trust of Host REIT provides that Host REIT may issue up
to 751 million shares of beneficial interest, consisting of 750 million Common
Shares and one million preferred shares. As of _________ __, 1998, _____ Common
Shares were issued and outstanding.
As permitted by the Maryland REIT Law, the Declaration of Trust contains a
provision permitting the Board of Trustees, without any action by the
shareholders of Host REIT, to amend the Declaration of Trust to increase or
decrease the aggregate number of shares of beneficial interest or the number of
shares of any class of shares of beneficial interest that Host REIT has
authority to issue.
Both the MGCL and Host REIT's Declaration of Trust provide that no
shareholder of Host REIT will be liable for any debt or obligation of Host REIT
solely as a result of his status as a shareholder of Host REIT. Host REIT's
Bylaws further provide that Host REIT shall indemnify each present or former
shareholder against any claim or liability to which the shareholder may become
subject by reason of his being or having been a shareholder and that Host REIT
shall reimburse each shareholder for all reasonable expenses incurred by him in
connection with any such claim or liability. However, with respect to tort
claims, contractual claims where shareholder liability is not so negated, claims
for taxes and certain statutory liability, the shareholders may, in some
jurisdictions, be personally liable to the extent that such claims are not
satisfied by Host REIT. Inasmuch as Host REIT carries public liability
insurance which it considers adequate, any risk of personal liability to
shareholders is limited to situations in which Host REIT's assets plus its
insurance coverage would be insufficient to satisfy the claims against Host REIT
and its shareholders.
Common Shares
Subject to the preferential rights of any other shares of beneficial
interest and to the provisions of the Declaration of Trust regarding
restrictions on transfers of shares of beneficial interest, holders of Common
Shares are entitled to receive distributions if, as and when authorized and
declared by the Board of Trustees, out of assets legally available therefor and
to share ratably in the assets of Host REIT legally available for distribution
to its shareholders in the event of its liquidation, dissolution or winding-up
after payment of, or adequate provision for, all known debts and liabilities of
Host REIT. Host REIT currently intends to pay regular quarterly distributions.
Subject to the provisions of Host REIT's Declaration of Trust regarding
restrictions on transfer of shares of beneficial interest, each outstanding
Common Share entitles the holder to one vote on all matters submitted to a vote
of shareholders, including the election of trustees, and, except as provided
with respect to any other class or series of shares of beneficial interest, the
holders of Common Shares will possess the exclusive voting power. There is no
cumulative voting in the election of trustees, which means that the holders of a
majority of the outstanding Common Shares can elect all of the trustees then
standing for election and the holders of the remaining shares of beneficial
interest, if any, will not be able to elect any trustees.
Holders of Common Shares have no preferences, conversion, sinking fund,
redemption rights or preemptive rights to subscribe for any securities of Host
REIT. Assuming, as expected, that the
169
<PAGE>
Common Shares are listed on the NYSE, holders of the Common Shares will
generally have no dissenters' appraisal rights. Subject to the exchange
provisions of Host REIT's Declaration of Trust regarding restrictions on
transfer, Common Shares have equal distribution, liquidation and other rights.
Pursuant to the Maryland REIT Law, a Maryland REIT generally cannot
dissolve, amend its declaration of trust or merge, unless approved by the
affirmative vote or written consent of shareholders holding at least two-thirds
of the shares entitled to vote on the matter unless a lesser percentage (but not
less than a majority of all of the votes entitled to be cast on the matter) is
set forth in the Maryland REIT's declaration of trust. Host REIT's Declaration
of Trust does not provide for a lesser percentage in such situations. Under the
Maryland REIT Law, a declaration of trust may permit the trustees by a two-
thirds vote to amend the declaration of trust from time to time to qualify as a
REIT under the Code or the Maryland REIT Law without the affirmative vote or
written consent of the shareholders. Host REIT's Declaration of Trust permits
such action by the Board of Trustees.
Preferred Shares
The Declaration of Trust authorizes the Board of Trustees to issue one
million preferred shares and to classify any unissued preferred shares or to
reclassify any previously classified but unissued preferred shares of any series
from time to time, in one or more series. Prior to issuance of shares of each
series, the Board of Trustees is required by Maryland REIT Law and the
Declaration of Trust to set, subject to the provisions of the Declaration of
Trust regarding the restriction on transfer of shares of beneficial interest,
the terms, preferences, conversion or other rights, voting powers, restrictions,
limitations as to dividends or other distributions, qualifications and terms or
conditions of redemption for each such series. Thus, the Board of Trustees
could authorize the issuance of preferred shares with terms and conditions which
could have the effect of delaying, deferring or preventing a transaction or a
change in control of Host REIT that might involve a premium price for holders of
Common Shares or otherwise be in their best interest. As of the date hereof, no
preferred shares are outstanding, but Host REIT may issue preferred shares in
the future, including as a result of the issuance of perpetual preferred stock
by Host prior to the REIT Conversion.
Power to Issue Additional Common Shares and Preferred Shares
Host REIT believes that the power of the Board of Trustees to issue
additional authorized but unissued Common Shares or preferred shares and to
classify or reclassify unissued Common Shares or preferred shares and thereafter
to cause Host REIT to issue such classified or reclassified shares of beneficial
interest in one or more series will provide Host REIT with increased flexibility
in structuring possible future financings and acquisitions and in meeting other
needs which might arise. The additional classes or series, as well as the
Common Shares, will be available for issuance without further action by Host
REIT's shareholders, unless such action is required by applicable law or the
rules of any stock exchange or automated quotation system on which Host REIT's
securities may be listed or traded. Although the Board of Trustees has no
intention at the present time of doing so, it could authorize Host REIT to issue
a class or series that could, depending upon the terms of such class or series,
delay, defer or prevent a transaction or a change in control of Host REIT that
might involve a premium price for holders of Common Shares or otherwise be in
their best interest.
Restrictions on Ownership and Transfer
For Host REIT to qualify as a REIT under the Code, no more than 50% in
value of its outstanding shares of beneficial interest may be owned, actually or
constructively, by five or fewer individuals (as defined in the Code to include
certain entities) during the last half of a taxable year (other than the first
year for which an election to be treated as a REIT has been made) or during a
170
<PAGE>
proportionate part of a shorter taxable year. In addition, if Host REIT, or one
or more owners (actually or constructively) of 10% or more of Host REIT,
actually or constructively owns 10% or more of a tenant of Host REIT (or a
tenant of any partnership in which Host REIT is a partner), the rent received by
Host REIT (either directly or through any such partnership) from such tenant
will not be qualifying income for purposes of the REIT gross income tests of the
Code. A REIT's shares also must be beneficially owned by 100 or more persons
during at least 335 days of a taxable year of twelve months or during a
proportionate part of a shorter taxable year (other than the first year for
which an election to be treated as a REIT has been made).
Because the Board of Trustees believes it is desirable for Host REIT to
qualify as a REIT, the Declaration of Trust, subject to certain exceptions,
provides that no holder may own, or be deemed to own by virtue of the
attribution provisions of the Code, more than (i) 9.8% of the lesser of the
number or value of Common Shares outstanding or (ii) 9.8% of the lesser of the
number or value of the issued and outstanding preferred shares of any class or
series of Host REIT (the "Ownership Limit"). The Ownership Limit prohibits
Marriott International and its subsidiaries and affiliates (including members of
the Marriott family) from collectively owning shares of beneficial interests in
excess of the Ownership Limit, but contains an exception that would permit
Marriott International to exercise its right to purchase up to 20% of each class
of Host REIT'S voting stock in connection with a change in control of Host REIT
(but only in the event that Marriott International and its subsidiaries and
affiliates (including members of the Marriott family) do not own at such time or
thereafter, directly and by attribution, 10% or more of SLC or any of the
Lessees). See "Certain Relationships and Related Transactions -- Relationship
Between Host and Marriott International." The ownership attribution rules under
the Code are complex and may cause Common Shares owned actually or
constructively by a group of related individuals and/or entities to be owned
constructively by one individual or entity. As a result, the acquisition of less
than 9.8% of the Common Shares (or the acquisition of an interest in an entity
that owns, actually or constructively, Common Shares) by an individual or
entity, could, nevertheless cause that individual or entity, or another
individual or entity, to own constructively in excess of 9.8% of the outstanding
Common Shares and thus subject such Common Shares to the Ownership Limit. The
Board of Trustees may grant an exemption from the Ownership Limit with respect
to one or more persons who would not be treated as "individuals" for purposes of
the Code if it is satisfied, based upon an opinion of counsel and such other
evidence as is satisfactory to the Board of Trustees in its sole discretion,
that such ownership will not cause a person who is an individual to be treated
as owning Common Shares in excess of the Ownership Limit, applying the
applicable constructive ownership rules, and will not otherwise jeopardize Host
REIT's status as a REIT (for example, by causing any tenant of the Operating
Partnership or the Partnerships (including but not limited to SLC and the
Lessees) to be considered a "related party tenant" for purposes of the REIT
qualification rules). As a condition of such waiver, the Board of Trustees may
require undertakings or representations from the applicant with respect to
preserving the REIT status of Host REIT.
The Board of Trustees of Host REIT will have the authority to increase the
Ownership Limit from time to time, but will not have the authority to do so to
the extent that after giving effect to such increase, five beneficial owners of
Common Shares could beneficially own in the aggregate more than 49.5% of the
outstanding Common Shares.
The Declaration of Trust further prohibits (a) any person from actually or
constructively owning shares of beneficial interest of Host REIT that would
result in Host REIT being "closely held" under Section 856(h) of the Code or
otherwise cause Host REIT to fail to qualify as a REIT and (b) any person from
transferring shares of beneficial interest of Host REIT if such transfer would
result in shares of beneficial interest of Host REIT being owned by fewer than
100 persons.
Any person who acquires or attempts or intends to acquire actual or
constructive ownership of shares of beneficial interest of Host REIT that will
or may violate any of the foregoing restrictions on transferability and
ownership is required to give notice immediately to Host REIT and provide Host
171
<PAGE>
REIT with such other information as Host REIT may request in order to determine
the effect of such transfer on Host REIT's status as a REIT.
If any purported transfer of shares of beneficial interest of Host REIT or
any other event would otherwise result in any person violating the Ownership
Limit or the other restrictions in the Declaration of the Trust, then any such
purported transfer will be void and of no force or effect with respect to the
purported transferee (the "Prohibited Transferee") as to that number of shares
that exceeds the Ownership Limit (referred to as "excess shares") and the
Prohibited Transferee shall acquire no right or interest (or, in the case of any
event other than a purported transfer, the person or entity holding record title
to any such shares in excess of the Ownership Limit (the "Prohibited Owner")
shall cease to own any right or interest) in such excess shares. Any such
excess shares described above will be transferred automatically, by operation of
law, to a trust, the beneficiary of which will be a qualified charitable
organization selected by Host REIT (the "Beneficiary"). Such automatic transfer
shall be deemed to be effective as of the close of business on the Business Day
(as defined in the Declaration of Trust) prior to the date of such violating
transfer. Within 20 days of receiving notice from Host REIT of the transfer of
shares to the trust, the trustee of the trust (who shall be designated by Host
REIT and be unaffiliated with Host REIT and any Prohibited Transferee or
Prohibited Owner) will be required to sell such excess shares to a person or
entity who could own such shares without violating the Ownership Limit, and
distribute to the Prohibited Transferee an amount equal to the lesser of the
price paid by the Prohibited Transferee for such excess shares or the sales
proceeds received by the trust for such excess shares. In the case of any
excess shares resulting from any event other than a transfer, or from a transfer
for no consideration (such as a gift), the trustee will be required to sell such
excess shares to a qualified person or entity and distribute to the Prohibited
Owner an amount equal to the lesser of the fair market value of such excess
shares as of the date of such event or the sales proceeds received by the trust
for such excess shares. In either case, any proceeds in excess of the amount
distributable to the Prohibited Transferee or Prohibited Owner, as applicable,
will be distributed to the Beneficiary. Prior to a sale of any such excess
shares by the trust, the trustee will be entitled to receive, in trust for the
Beneficiary, all dividends and other distributions paid by Host REIT with
respect to such excess shares, and also will be entitled to exercise all voting
rights with respect to such excess shares. Subject to Maryland law, effective
as of the date that such shares have been transferred to the trust, the trustee
shall have the authority (at the trustee's sole discretion and subject to
applicable law) (i) to rescind as void any vote cast by a Prohibited Transferee
prior to the discovery by Host REIT that such shares have been transferred to
the trust and (ii) to recast such vote in accordance with the desires of the
trustee acting for the benefit of the Beneficiary. However, if Host REIT has
already taken irreversible corporate action, then the trustee shall not have the
authority to rescind and recast such vote. Any dividend or other distribution
paid to the Prohibited Transferee or Prohibited Owner (prior to the discovery by
Host REIT that such shares had been automatically transferred to a trust as
described above) will be required to be repaid to the trustee upon demand for
distribution to the Beneficiary. If the transfer to the trust as described
above is not automatically effective (for any reason) to prevent violation of
the Ownership Limit, then the Declaration of Trust provides that the transfer of
the excess shares will be void.
In addition, shares of beneficial interest of Host REIT held in the trust
shall be deemed to have been offered for sale to Host REIT, or its designee, at
a price per share equal to the lesser of (i) the price per share in the
transaction that resulted in such transfer to the trust (or, in the case of a
devise or gift, the market value at the time of such devise or gift) and (ii)
the market value of such shares on the date Host REIT, or its designee,
accepts such offer. Host REIT will have the right to accept such offer until
the trustee has sold the shares of beneficial interest held in the Trust. Upon
such a sale to Host REIT, the interest of the Beneficiary in the shares sold
will terminate and the trustee will distribute the net proceeds of the sale to
the Prohibited Owner.
The foregoing restrictions on transferability and ownership will not apply
if the Board of Trustees determines that it is no longer in the best interests
of Host REIT to attempt to qualify, or to continue to qualify, as a REIT.
172
<PAGE>
All certificates representing shares of beneficial interest shall bear a
legend referring to the restrictions described above.
All persons who own, directly or by virtue of the attribution provisions of
the Code, more than 5% (or such other percentage between 1/2 of 1% and 5% as
provided in the rules and regulations promulgated under the Code) of the lesser
of the number or value of the outstanding shares of beneficial interest of Host
REIT must give a written notice to the Operating Partnership within 30 days
after the end of each taxable year. In addition, each shareholder will, upon
demand, be required to disclose to Host REIT in writing such information with
respect to the direct, indirect and constructive ownership of shares of
beneficial interest as the Board of Trustees deems reasonably necessary to
comply with the provisions of the Code applicable to a REIT, to comply with the
requirements of any taxing authority or governmental agency or to determine any
such compliance.
These ownership limitations could have the effect of delaying, deferring or
preventing a takeover or other transaction in which holders of some, or a
majority, of Common Shares might receive a premium for their Common Shares over
the then prevailing market price or which such holders might believe to be
otherwise in their best interest.
Changes in Control Pursuant to Maryland Law
Possible Limitations on Changes in Control Pursuant to Maryland Law. Under
the MGCL, as applicable to REITs, certain "business combinations" (including
certain issuances of equity securities) between a Maryland REIT and any
Interested Shareholder or an affiliate of the Interested Shareholder, are
prohibited for five years after the most recent date on which the Interested
Shareholder becomes an Interested Shareholder. Thereafter, any such business
combination must be approved by two super-majority shareholder votes unless,
among other conditions, the trust's common shareholders receive a minimum price
(as defined in the MGCL) for their shares and the consideration is received in
cash or in the same form as previously paid by the Interested Shareholder for
its common shares. The Board of Trustees of Host REIT has not opted out of the
business combination provisions of the MGCL. Consequently, the five-year
prohibition and the super-majority vote requirements will apply to a business
combination involving Host REIT; however, as permitted by the MGCL, Host REIT's
Board of Trustees may elect to opt out of these provisions in the future.
In addition, also under the MGCL, as applicable to real estate investments,
"control shares" acquired in a "control share acquisition" have no voting rights
except to the extent approved by a vote of two-thirds of the votes entitled to
be cast on the matter, excluding shares owned by the acquiror, by officers or by
trustees who are employees of the trust. "Control shares" are voting shares
which, if aggregated with all other such shares previously acquired by the
acquiror or in respect of which the acquiror is able to exercise or direct the
exercise of voting power (except solely by virtue of a revocable proxy), would
entitle the acquiror to exercise voting power in electing trustees within one of
the following ranges of voting power: (i) one-fifth or more but less than one-
third, (ii) one-third or more but less than a majority or (iii) a majority or
more of all voting power. Control shares do not include shares the acquiring
person is then entitled to vote as a result of having previously obtained
shareholder approval. A "control share acquisition" means the acquisition of
control shares, subject to certain exceptions.
A person who has made or proposes to make a control share acquisition, upon
satisfaction of certain conditions (including an undertaking to pay expenses),
may compel the board of trustees of the trust to call a special meeting of
shareholders to be held within 50 days of demand to consider the voting rights
of the shares. If no request for a meeting is made, the trust may itself
present the question at any shareholders meeting.
173
<PAGE>
If voting rights are not approved at the meeting or if the acquiring person
does not deliver an acquiring person statement as required by the statute, then,
subject to certain conditions and limitations, the trust may redeem any or all
of the control shares (except those for which voting rights have previously been
approved) for fair value determined, without regard to the absence of voting
rights for the control shares, as of the date of the last control share
acquisition by the acquiror or of any meeting of shareholders at which the
voting rights of such shares are considered and not approved. If voting rights
for control shares are approved at a shareholders meeting and the acquiror
becomes entitled to vote a majority of the shares entitled to vote, all other
shareholders may exercise appraisal rights. The fair value of the shares as
determined for purposes of such appraisal rights may not be less than the
highest price per share paid by the acquiror in the control share acquisition.
The control share acquisition statute does not apply to (a) shares acquired
in a merger, consolidation or share exchange if the trust is a party to the
transaction or (b) acquisitions approved or exempted by the declaration of trust
or bylaws of the trust. The Board of Trustees of Host REIT has not opted out of
the control share provisions of the MGCL but, as permitted by the MGCL, may
elect to opt out of these provisions in the future.
174
<PAGE>
DESCRIPTION OF THE NOTES
The Notes will be issued under the Indenture between the Operating
Partnership and _____________________, as trustee (the "Indenture Trustee"). A
copy of the form of Indenture is filed as an exhibit to the Registration
Statement of which this Consent Solicitation is a part. The terms of the Notes
include those provisions contained in the Indenture and those made part of the
Indenture by reference to the Trust Indenture Act of 1939, as amended (the
"Trust Indenture Act"). The Notes are subject to all such terms, and holders of
Notes are referred to the Indenture and the Trust Indenture Act for a statement
thereof. The following summary of certain provisions of the Indenture does not
purport to be complete and is subject to and qualified in its entirety by
reference to the Indenture. As used in this section, the term "Operating
Partnership" means Host Marriott, L.P. and not any of its Subsidiaries, unless
otherwise expressly stated or the context otherwise requires.
General
A separate series of Notes will be issued to Limited Partners of each
Partnership who elect to receive Notes in exchange for the OP Units issued to
them in the Mergers. The terms of each series of Notes will be substantially
identical, except with respect to the provisions for mandatory prepayment of
principal, as described below (see "-- Principal and Interest"). The Notes will
be direct, senior unsecured and unsubordinated obligations of the Operating
Partnership and will rank pari passu with each other and with all other
unsecured and unsubordinated indebtedness of the Operating Partnership from time
to time outstanding. The Notes will be recourse obligations of the Operating
Partnership, but the holders thereof will not have recourse against any partner
of the Operating Partnership (including Host REIT, as general partner of the
Operating Partnership). The Notes will be effectively subordinated to mortgages
and other secured indebtedness of the Operating Partnership to the extent of the
value of the property securing such indebtedness. The Notes also will be
effectively subordinated to all existing and future third party indebtedness and
other liabilities of the Operating Partnership's Subsidiaries (including the
Partnerships). As of March 27, 1998, on a pro forma basis assuming the Full
Participation Scenario, the Operating Partnership and its Subsidiaries would
have had aggregate consolidated debt of approximately $4.6 billion to which the
Notes were effectively subordinated or which ranked equal with such Notes.
The Notes will mature on December 15, 2005 (the "Maturity Date") or
approximately seven years following the Closing Date. The Notes are not subject
to any sinking fund provisions, although the Operating Partnership is required
to make mandatory prepayments of principal in certain events. See "-- Principal
and Interest."
Except as described under "-- Limitations on Incurrence of Debt" and "--
Merger, Consolidation or Sale," the Indenture does not contain any other
provisions that would limit the ability of the Operating Partnership or any of
its Subsidiaries to incur indebtedness or that would afford Holders (as defined
below) of the Notes protection in the event of (i) a highly leveraged or similar
transaction involving the Operating Partnership, the management of the Operating
Partnership or Host REIT, or any subsidiary of any of them, (ii) a change of
control of the Operating Partnership or Host REIT or (iii) a reorganization,
restructuring, merger or similar transaction involving the Operating Partnership
that may adversely affect the holders of the Notes. In addition, subject to the
limitations set forth under "-- Merger, Consolidation or Sale," the Operating
Partnership may, in the future, enter into certain transactions such as the sale
of all or substantially all of its assets or the merger or consolidation of the
Operating Partnership that would increase the amount of the Operating
Partnership's indebtedness or substantially reduce or eliminate the Operating
Partnership's assets, which may have an adverse effect on the Operating
Partnership's ability to service its indebtedness, including the Notes. The
Operating Partnership and its management have
175
<PAGE>
no present intention of engaging in a highly leveraged or similar transaction
involving the Operating Partnership.
The Notes will be issued in fully registered form.
Principal and Interest
The principal amount of the Notes with respect to each Partnership will be
equal to the Note Election Amount for such Partnership, which will be equal to
the Liquidation Value or, if greater, 60% of the Exchange Value for such
Partnership.
The Notes will bear interest at a fixed rate of interest equal __ % per
annum, which was determined based on 120% of the applicable federal rate as of
the Record Date. Interest will accrue from the closing of the Mergers or from
the immediately preceding Interest Payment Date (as defined below) to which
interest has been paid, payable semi-annually in arrears on each June 15 and
December 15, commencing June 15, 1999 (each, an "Interest Payment Date"), and on
the Maturity Date, to the persons (the "Holders") in whose names the Notes are
registered in the security register for the Notes at the close of business on
the date 15 calendar days prior to such payment day regardless of whether such
day is a Business Day, as defined below (each, a "Regular Record Date").
Interest on the Notes will be computed on the basis of a 360-day year of twelve
30-day months. As of May 28, 1998, the interest rate on the Notes would have
been approximately 7.0% per annum.
The principal of each Note payable on the Maturity Date will be paid
against presentation and surrender of such Note at the corporate trust office of
the Trustee, located initially c/o __________________________________, in such
coin or currency of the United States of America as at the time of payment is
legal tender for payment of public and private debts.
If any Interest Payment Date or a Maturity Date falls on a day that is not
a Business Day, the required payment shall be made on the next Business Day as
if it were made on the date such payment was due and no interest shall accrue on
the amount so payable for the period from and after such Interest Payment Date
or such Maturity Date, as the case may be. "Business Day" means any day, other
than a Saturday or Sunday, on which banking institutions in The City of New York
are open for business.
In the event that, following the closing of the Mergers, any Partnership
(i) sells or otherwise disposes of any Hotel and realizes net cash proceeds in
excess of (a) the amount required to repay mortgage indebtedness (outstanding
immediately prior to the Mergers) secured by such Hotel or otherwise required to
be applied to the reduction of indebtedness of such Partnership and (b) the
costs incurred by the Partnership in connection with such sale or other
disposition or (ii) refinances (whether at maturity or otherwise) any
indebtedness secured by any Hotel and realizes net cash proceeds in excess of
(a) the amount of indebtedness secured by such Hotel at the time of the Mergers,
calculated prior to any repayment or other reduction in the amount of such
indebtedness in the Mergers and (b) the costs incurred by the Operating
Partnership or such Partnership in connection with such refinancing ("Net Cash
Proceeds"), the Operating Partnership will be required to prepay an aggregate
amount of principal of the series of Notes related to such Partnership equal to
80% of such Net Cash Proceeds, together with interest accrued on the principal
being prepaid to the date of prepayment. Notice of any mandatory principal
prepayment will be given to Holders of the applicable series at their addresses,
as shown in the security register for the Notes, not more than 60 nor less than
30 days prior to the date fixed for prepayment, which date shall be not more
than 60 days after the applicable sale or other disposition of such Hotel. The
notice of redemption will specify, among other items, the principal amount of
the Notes held by each Holder to be redeemed.
176
<PAGE>
Optional Redemption
The Notes of any series may be redeemed at any time at the option of the
Operating Partnership, in whole or from time to time in part, at a redemption
price equal to the sum of the principal amount of the Notes being redeemed plus
accrued interest thereon to the redemption date (collectively, the "Redemption
Price").
If notice has been given as provided in the Indenture and funds for the
redemption of any Notes called for redemption shall have been made available on
the redemption date referred to in such notice, such Notes will cease to bear
interest on the date fixed for such redemption specified in such notice and the
only right of the Holders of the Notes will be to receive payment of the
Redemption Price.
Notice of any optional redemption of any Notes will be given to Holders at
their addresses, as shown in the security register for the Notes, not more than
60 nor less than 30 days prior to the date fixed for redemption. The notice of
redemption will specify, among other items, the Redemption Price and the
principal amount of the Notes held by such Holder to be redeemed.
If less than all the Notes of any series are to be redeemed at the option
of the Operating Partnership, the Operating Partnership will notify the
Indenture Trustee at least 45 days prior to giving notice of redemption (or such
shorter period as is satisfactory to the Indenture Trustee) of the aggregate
principal amount of Notes to be redeemed and their redemption date. The
Indenture Trustee shall select, in such manner as it shall deem fair and
appropriate, Notes to be redeemed in whole or in part.
Limitations on Incurrence of Debt
The Operating Partnership will not, and will not permit a Subsidiary to,
incur any Debt (as defined below), other than intercompany Partnership Debt
(representing Debt to which the only parties are Host REIT, the Operating
Partnership and/or any of their Subsidiaries, but only so long as such Debt is
held solely by any of Host REIT, the Operating Partnership and any Subsidiary)
that is subordinate in right of payment to the Notes, if, immediately after
giving effect to the incurrence of such additional Debt, the aggregate principal
amount of all outstanding Debt of the Operating Partnership and its Subsidiaries
on a consolidated basis, determined in accordance with GAAP, is greater than 60%
of the Total Market Capitalization (as defined below) of the Operating
Partnership on the date of such incurrence.
As used in the Indenture and the description thereof herein:
"Debt" of the Operating Partnership or any Subsidiary means, without
duplication, any indebtedness of the Operating Partnership and its
Subsidiaries, whether or not contingent, in respect of (i) borrowed money
evidenced by bonds, notes, debentures or similar instruments, (ii)
indebtedness secured by any mortgage, pledge, lien, charge, encumbrance or
any security interest existing on property owned by the Operating
Partnership and its Subsidiaries, (iii) the reimbursement obligations,
contingent or otherwise, in connection with any letters of credit actually
issued or amounts representing the balance deferred and unpaid of the
purchase price of any property except any such balance that constitutes an
accrued expense or trade payable or (iv) any lease of property by the
Operating Partnership and its Subsidiaries as lessee which is reflected in
the Operating Partnership's consolidated balance sheet as a capitalized
lease in accordance with GAAP, in the case of items of indebtedness under
(i) through (iii) above to the extent that any such items (other than
letters of credit) would appear as a liability on the Operating
Partnership's consolidated balance sheet in accordance with GAAP, and also
includes, to the extent not otherwise included, any
177
<PAGE>
obligation by the Operating Partnership or any Subsidiary to be liable for,
or to pay, as obligor, guarantor or otherwise (other than for purposes of
collection in the ordinary course of business), indebtedness of another
person (other than the Operating Partnership or any Subsidiary) (it being
understood that "Debt" shall be deemed to be incurred by the Operating
Partnership and its Subsidiaries on a consolidated basis whenever the
Operating Partnership and its Subsidiaries on a consolidated basis shall
create, assume, guarantee or otherwise become liable in respect thereof;
Debt of a Subsidiary of the Operating Partnership existing prior to the
time it became a Subsidiary of the Operating Partnership shall be deemed to
be incurred upon such Subsidiary's becoming a Subsidiary of the Operating
Partnership; and Debt of a person existing prior to a merger or
consolidation of such person with the Operating Partnership or any
Subsidiary of the Operating Partnership in which such person is the
successor to the Operating Partnership or such Subsidiary shall be deemed
to be incurred upon the consummation of such merger or consolidation);
provided, however, that the term Debt shall not include any such
indebtedness that has been the subject of an "in substance" defeasance in
accordance with GAAP.
"Total Market Capitalization" means, as of any date, the sum of (i) the
product of (x) the closing price of a Common Share on the NYSE on the
immediately preceding trading day times (y) the total number of OP Units
then outstanding (including OP Units held by Host REIT), plus (ii) the
aggregate liquidation preference of all outstanding preferred units of
limited partnership interest in the Operating Partnership, plus (iii) the
aggregate principal amount of all outstanding Debt of Host REIT and its
subsidiaries on a consolidated basis determined in accordance with GAAP
(determined on a pro forma basis after giving effect to the incurrence of
any Debt on such date and the application of the proceeds thereof).
"Subsidiary" means a corporation, partnership, limited liability
company, trust, real estate investment trust or other entity a majority of
the voting power of the voting equity securities of which are owned,
directly or indirectly, by the Operating Partnership or by one or more
Subsidiaries of the Operating Partnership, or a partnership or limited
liability company, of which the general partner or managing member is the
Operating Partnership or a Subsidiary of the Operating Partnership or one
or more corporations which, either individually or in the aggregate, would
be Significant Subsidiaries (as defined below, except that the investment,
asset and equity thresholds for purposes of this definition shall be 5%),
the majority of the value of the equity interests of which are owned,
directly or indirectly, by the Operating Partnership or by one or more
Subsidiaries.
Merger, Consolidation or Sale
The Operating Partnership may consolidate with, or sell, lease or convey
all or substantially all of its assets to, or merge with or into, any other
corporation, limited liability company, association, partnership, real estate
investment trust, company or business trust (any such entity, a "Corporation"),
provided that (i) the Operating Partnership shall be the continuing Corporation,
or the successor Corporation or its transferees or assignees of such assets (if
other than the Operating Partnership) formed by or resulting from any such
consolidation or merger or which shall have received the transfer of such assets
by lease (subject to the continuing obligations of the Operating Partnership set
forth in the Indenture) or otherwise shall expressly assume payment of the
principal of and interest on all the Notes and the due and punctual performance
and observance of all of the covenants and conditions contained in the
Indenture; (ii) the successor Corporation formed by or resulting from any such
consolidation or merger or which shall have received the transfer of assets
shall be a United States Corporation; (iii) immediately after giving effect to
such transaction and treating any indebtedness which becomes an obligation of
the Operating Partnership or any Subsidiary of the Operating Partnership as a
result thereof as having been incurred by the Operating Partnership or such
Subsidiary at the time of such transaction, no Event of Default under
178
<PAGE>
the Indenture, and no event which, after notice or the lapse of time, or both,
would become such an Event of Default, shall have occurred and be continuing;
and (iv) an officer's certificate and legal opinion covering such conditions
shall be delivered to the Indenture Trustee.
Events of Default, Notice and Waiver
The following events are "Events of Default" with respect to the Notes of
any series: (i) default for 30 days in the payment of any installment of
interest on any Note of such series; (ii) default in the payment of the
principal of any Note at its maturity; (iii) default in the payment of any
mandatory prepayment of principal on or before the date 90 days after the
applicable sale or other disposition of a Hotel giving rise to the obligation to
make such prepayment; (iv) default in the performance of any other covenant or
warranty of the Operating Partnership contained in the Indenture, such default
having continued for 60 days after written notice as provided in the Indenture;
(v) certain events of bankruptcy, insolvency or reorganization, or court
appointment of a receiver, liquidator or trustee of the Operating Partnership or
any Significant Subsidiary or any of their respective property; (vi) any other
Event of Default provided in the Indenture with respect to the Notes. The term
"Significant Subsidiary" means each significant subsidiary (as defined in
Regulation S-X promulgated under the Securities Act) of the Operating
Partnership.
If an Event of Default under the Indenture occurs and is continuing, then
in every such case the Indenture Trustee or the Holders of not less than 25% in
principal amount of the Outstanding Notes (as defined below) may declare the
principal amount of all of the Notes to be due and payable immediately by
written notice thereof to the Operating Partnership (and to the Indenture
Trustee if given by the Holders). However, at any time after such a declaration
of acceleration with respect to Notes has been made, but before a judgment or
decree for payment of the money due has been obtained by the Indenture Trustee,
the Holders of not less than a majority in principal amount of Outstanding Notes
may rescind and annul such declaration and its consequences if (i) the Operating
Partnership shall have paid or deposited with the Indenture Trustee all required
payments of the principal of and interest on the Notes, plus certain fees,
expenses, disbursements and advances of the Indenture Trustee and (ii) all
Events of Default, other than the nonpayment of accelerated principal of (or
specified portion thereof), or premium (if any) or interest on the Notes have
been cured or waived as provided in the Indenture. The Indenture also provides
that the Holders of not less than a majority in principal amount of the
Outstanding Notes (as defined below) may waive any past default with respect to
such series and its consequences, except a default (x) in the payment of the
principal of or interest payable on any Note or (y) in respect of a covenant or
provision contained in the Indenture that cannot be modified or amended without
the consent of the Holder of each Outstanding Note (as defined below) affected
thereby.
The Indenture Trustee will be required to give notice to the Holders of
Notes within 90 days of a default under the Indenture unless such default has
been cured or waived; provided, however, that the Indenture Trustee may withhold
notice to the Holders of any default (except a default in the payment of the
principal of or interest on any Note or in the payment of any mandatory
prepayment installment in respect of any Note) if specified Responsible Officers
(as defined in the Indenture) of the Indenture Trustee consider such withholding
to be in the interest of such Holders.
The Indenture provides that no Holders of Notes may institute any
proceedings, judicial or otherwise, with respect to the Indenture or for any
remedy thereunder, except in the case of failure of the Indenture Trustee, for
60 days, to act after it has received a written request to institute proceedings
in respect of an Event of Default from the Holders of not less than 25% in
principal amount of the Outstanding Notes (as defined below), as well as an
offer of indemnity reasonably satisfactory to it. This provision will not
prevent, however, any Holder of Notes from instituting suit for the enforcement
of payment of the principal of (and premium, if any) interest on such Notes at
the respective due dates thereof.
179
<PAGE>
Subject to provisions in the Indenture relating to its duties in case of
default, the Indenture Trustee is under no obligation to exercise any of its
rights or powers under the Indenture at the request or direction of any Holders
of any Outstanding Notes (as defined below) under the Indenture, unless such
Holders shall have offered to the Indenture Trustee thereunder reasonable
security or indemnity. The Holders of not less than a majority in principal
amount of the Outstanding Notes (as defined below) shall have the right to
direct the time, method and place of conducting any proceeding for any remedy
available to the Indenture Trustee, or of exercising any trust or power
conferred upon the Indenture Trustee. However, the Indenture Trustee may refuse
to follow any direction which is in conflict with any law or the Indenture,
which may involve the Indenture Trustee in personal liability or which may be
unduly prejudicial to the Holders of Notes of such series not joining therein.
Within __ days after the close of each fiscal year, the Operating
Partnership must deliver to the Indenture Trustee a certificate, signed by one
of several specified officers of Host REIT, stating whether or not such officer
has knowledge of any default under the Indenture and, if so, specifying each
such default and the nature and status thereof.
Modification of the Indenture
Modifications and amendments of the Indenture will be permitted to be made
only with the consent of the Holders of not less than a majority in principal
amount of all Outstanding Notes (as defined below) which are affected by such
modification or amendment; provided, however, that no such modification or
amendment may, without the consent of the Holders of each such Note affected
thereby, (i) change the Stated Maturity of the principal of or premium (if any)
or any installment of interest on, any such Note; (ii) reduce the principal
amount of, or the rate or amount of interest on, any such Note, (iii) change the
place of payment, or the coin or currency, for payment of principal of, premium,
if any, or interest on any such Note; (iv) impair the right to institute suit
for the enforcement of any payment on or with respect to any such Note; (v)
reduce the above stated percentage of outstanding Notes of any series necessary
to modify or amend the Indenture, to waive compliance with certain provisions
thereof or certain defaults and consequences thereunder or to reduce the quorum
or voting requirements set forth in the Indenture; or (vi) modify any of the
foregoing provisions or any of the provisions relating to the waiver of certain
past defaults or certain covenants, except to increase the required percentage
to effect such action or to provide that certain other provisions may not be
modified or waived without the consent of the Holders of each such Note affected
thereby. A Note shall be deemed outstanding (an "Outstanding Note") if it has
been authenticated and delivered under the Indenture unless, among other things,
such Note has been canceled or redeemed.
The Indenture provides that the Holders of not less than a majority in
principal amount of Outstanding Notes have the right to waive compliance by the
Operating Partnership with certain covenants in the Indenture.
Modifications and amendments of the Indenture will be permitted to be made
by the Operating Partnership and the Indenture Trustee without the consent of
any Holder of Notes for any of the following purposes: (i) to evidence the
succession or addition of another Person to the Operating Partnership as obligor
under the Indenture; (ii) to add to the covenants of the Operating Partnership
for the benefit of the Holders of the Notes or to surrender any right or power
conferred upon the Operating Partnership in the Indenture; (iii) to add Events
of Default for the benefit of the Holders of the Notes; (iv) to permit or
facilitate the issuance of the Notes in uncertificated form, provided, that such
action shall not adversely affect the interests of the Holders of Notes in any
material respect; (v) to secure the Notes; (vi) to establish the form or terms
of additional notes of any series; (vii) to provide for the acceptance of
appointment by a successor Indenture Trustee or facilitate the administration of
the trusts under the Indenture by more than one Indenture Trustee; (viii) to
cure any ambiguity, defect or inconsistency in the Indenture, provided that such
action shall not adversely affect the interests of Holders of Notes in any
material respect; and (ix) to supplement any
180
<PAGE>
of the provisions of the Indenture to the extent necessary to permit or
facilitate defeasance and discharge of any series of Notes or additional notes
under the Indenture, provided that such action shall not adversely affect the
interests of the Holders of the Notes in any material respect.
The Indenture contains provisions for convening meetings of the Holders of
Notes. A meeting will be permitted to be called at any time by the Trustee, and
also, upon request, by the Operating Partnership or the Holders of at least 10%
in principal amount of the Outstanding Notes, in any such case upon notice given
as provided in the Indenture. Except for any consent that must be given by the
Holder of each Note affected by certain modifications and amendments of the
Indenture, any resolution presented at a meeting or adjourned meeting duly
reconvened at which a quorum is present will be permitted to be adopted by the
affirmative vote of the Holders of a majority in principal amount of the
Outstanding Notes of that series; provided, however, that, except as referred to
above, any resolution with respect to any request, demand, authorization,
direction, notice, consent, waiver or other action that may be made, given or
taken by the Holders of a specified percentage, which is less than a majority,
in principal amount of the Outstanding Notes may be adopted at a meeting or
adjourned meeting duly reconvened at which a quorum is present by the
affirmative vote of the Holders of such specified percentage in principal amount
of the Outstanding Notes. Any resolution passed or decision taken at any
meeting of Holders of Notes duly held in accordance with the Indenture will be
binding on all Holders of Notes. The quorum at any meeting called to adopt a
resolution, and at any reconvened meeting, will be Persons holding or
representing a majority in principal amount of the Outstanding Notes; provided,
however, that if any action is to be taken at such meeting with respect to a
consent or waiver which may be given by the Holders of not less than a specified
percentage in principal amount of the Outstanding Notes, the Persons holding or
representing such specified percentage in principal amount of the Outstanding
Notes will constitute a quorum.
Notwithstanding the foregoing provisions, if any action is to be taken at a
meeting of Holders of Notes of any series with respect to any request, demand,
authorization, direction, notice, consent, waiver or other action that the
Indenture expressly provides may be made, given or taken by the Holders of a
specified percentage in principal amount of all Outstanding Notes affected
thereby, or of the Holders of such series and one or more additional series: (i)
there shall be no minimum quorum requirement for such meeting and (ii) the
principal amount of the Outstanding Notes that vote in favor of such request,
demand, authorization, direction, notice, consent, waiver or other action shall
be taken into account in determining whether such request, demand,
authorization, direction, notice, consent, waiver or other action has been made,
given or taken under the Indenture.
Satisfaction and Discharge
The Operating Partnership may discharge certain obligations to Holders of
Notes that have not already been delivered to the Indenture Trustee for
cancellation and that either have become due and payable or will become due and
payable within one year (or scheduled for redemption within one year) by
irrevocably depositing with the Indenture Trustee, in trust, funds in such
currency or currencies, currency unit or units or composite currency or
currencies in which such Notes are payable in an amount sufficient to pay the
entire indebtedness on such Notes in respect of principal and interest to the
date of such deposit (if such Notes have become due and payable) or to the
Stated Maturity or Redemption Date, as the case may be.
No Conversion Rights
The Notes will not be convertible into or exchangeable for any capital
stock of Host REIT or equity interest in the Operating Partnership.
181
<PAGE>
Governing Law
The Indenture will be governed by and shall be construed in accordance with
the laws of the State of New York.
182
<PAGE>
COMPARISON OF OWNERSHIP OF PARTNERSHIP
INTERESTS, OP UNITS AND COMMON SHARES
The information below highlights a number of the significant differences
between the Partnerships, the Operating Partnership and Host REIT relating to,
among other things, form of organization, investment objectives, policies and
restrictions, asset diversification, capitalization, management structure,
compensation and fees and investor rights, and compares certain legal rights
associated with the ownership of Partnership Interests, OP Units and Common
Shares, respectively. These comparisons are intended to assist Limited Partners
in understanding how their investments will be changed if, as a result of the
Mergers and REIT Conversion, their Partnership Interests are exchanged for OP
Units, which are redeemable at the option of the holder thereof beginning one
year after the REIT Conversion, at the option of Host REIT, for either Common
Shares or the cash equivalent thereof. This discussion is summary in nature and
does not constitute a complete discussion of these matters, and Limited Partners
should carefully review the balance of this Consent Solicitation for additional
important information.
- --------------------------------------------------------------------------------
PARTNERSHIPS OPERATING PARTNERSHIP HOST REIT
- --------------------------------------------------------------------------------
Form of Organization and Purpose
--------------------------------
All of the Partnerships The Operating Host REIT is a Maryland
are Delaware limited Partnership is a REIT and will be the
partnerships, except for Delaware limited sole general partner of
Chicago Suites, which is partnership. Following the Operating
a Rhode Island limited the Mergers, the Partnership. Host REIT
partnership. The General Operating Partnership will make an election
Partner of each will succeed to the to be taxed as a REIT
Partnership is Host or a ownership of the under the Code and
wholly owned subsidiary Participating intends to maintain its
of Host. The purpose of Partnerships through qualification as a
each Partnership wholly owned REIT. Host REIT's only
generally includes subsidiaries. The sole significant asset will
acquiring, operating, general partner of the be its interest in the
selling or disposing of Operating Partnership Operating Partnership
hotel properties or will be Host REIT. The and consequently an
interests in hotel Participating indirect investment in
properties and engaging Partnerships, as wholly the Hotels owned by
in other activities owned subsidiaries of subsidiaries of the
related or incidental the Operating Operating Partnership.
thereto. Partnership, will own See "Distribution and
the Partnership Hotels Other Policies."
and lease them to the
Lessees. Following the
REIT Conversion and the
Blackstone Acquisition,
the Operating
Partnership and its
subsidiaries initially
will own approximately
130 full-service hotels
operating primarily
under the Marriott,
Ritz-Carlton, Four
Seasons, Swissotel and
Hyatt brand names. The
Operating Partnership
will seek to invest in a
real estate portfolio
primarily consisting of
upscale and luxury
full-service hotels.
The business of the
Operating Partnership
will be limited to and
conducted in such a
manner as to permit Host
REIT at all times to be
qualified as a REIT
under the Code. See
"Distribution and Other
Policies."
183
<PAGE>
- --------------------------------------------------------------------------------
PARTNERSHIPS OPERATING PARTNERSHIP HOST REIT
- --------------------------------------------------------------------------------
Length and Type of Investment
-----------------------------
Each of the Partnerships The Operating Partnership Host REIT has a
is a finite-life entity has a stated term of perpetual term and
which expire as follows: approximately 100 years. intends to continue its
Atlanta Marquis, 2085; Events which may cause the operations for an
Chicago Suites, 2063; dissolution of the indefinite time period.
Desert Springs, 2087; Operating Partnership To the extent Host REIT
Hanover, 2086; MDAH, prior to the expiration of sells or refinances its
2089; MHP, 2106; MHP2, the stated term include: assets, the net
2088 and PHLP, 2080. (i) the withdrawal of Host proceeds therefrom will
Other events which may REIT as general partner generally be retained
cause the dissolution of without the permitted by Host REIT (through
certain Partnerships transfer of Host REIT's the Operating
include: (i) the interest to a successor Partnership) for
bankruptcy of the general partner (except in working capital and
Partnership, (ii) the certain limited other general purposes,
withdrawal or removal of circumstances), (ii) the except to the extent
the General Partner, entry of a decree of distributions thereof
unless a substitute judicial dissolution of must be made to permit
general partner is the Operating Partnership Host REIT to qualify as
elected by the Limited pursuant to the provisions a REIT for tax
Partners, (iii) the of the Delaware Act, (iii) purposes. See
dissolution or the entry of a final "Distribution and Other
bankruptcy of the non-appealable order for Policies Investment
General Partner, unless relief in a bankruptcy Policies."
a substitute general proceeding of the general
partner is elected by partner, or the entry of a
the Limited Partners, final non-appealable
(iv) the sale or judgment ruling that the
disposition of all or general partner is
substantially all of the bankrupt or insolvent
property of the (except that, in either
Partnership or (v) any such case, in certain
event that makes it circumstances the limited
unlawful for the partners (other than Host
business of the REIT) may vote to continue
Partnership to be the Operating Partnership
carried on or for the and substitute a new
Partners to carry it on general partner in place
in a limited of Host REIT), or (iv) on
partnership. Partners or after December 31,
are entitled to receive 2058, on election by Host
cash distributions out REIT, in its sole and
of the Partnership's net absolute discretion. The
operating income, if Operating Partnership has
any, and to receive cash no specific plans for
distributions, if any, disposition of the assets
upon refinancing of a acquired through the REIT
Partnership's debt or Conversion or that may be
liquidation of the subsequently acquired. To
Partnership's real the extent the Operating
estate investments. See Partnership sells or
"Background and Reasons refinances its assets, the
for the Mergers and the net proceeds therefrom
REIT Conversion -- will generally be retained
Background of the by the Operating
Partnerships." Partnership for working
capital and new
investments rather than
being distributed to its
partners (including Host
REIT), except to the
extent distributions
thereof must be made to
permit Host REIT to
qualify as a REIT for tax
purposes. See "Background
and Reasons for the
Mergers and the REIT
Conversion -- Reasons for
the Mergers" and
"Distribution and Other
Policies -- Investment
Policies."
The Partnerships are structured to dissolve when the assets of the
Partnerships are liquidated (or after approximately 75-120 years, if no
liquidation occurs sooner). In contrast, the Operating Partnership and Host
REIT generally will constitute an operating company and will reinvest the
proceeds of asset dispositions, if any, in new properties or other appropriate
investments consistent with the Operating Partnership's and Host REIT's
investment objectives.
184
<PAGE>
- --------------------------------------------------------------------------------
PARTNERSHIPS OPERATING PARTNERSHIP HOST REIT
- --------------------------------------------------------------------------------
Liquidity
---------
The Partnership Units in Each limited partner The Common Shares of
each of the Partnerships will have the right, Host REIT will be
represent relatively beginning one year after freely transferable
illiquid investments with the closing of the upon registration under
a limited resale market Mergers, to exercise the Securities Act. The
for such Partnership his Unit Redemption Common Shares will be
Units. The trading volume Right. Upon redemption, listed on the NYSE. A
of such Partnership Units such limited partner public market currently
in the resale market is will receive, at the exists for Host common
thin and the prices at election of Host REIT, stock. The breadth and
which Partnership Units either Common Shares of strength of this market
trade are generally not Host REIT or the cash will depend upon, among
equal to their net asset equivalent thereof in other things, the
value (and applicable exchange for such OP number of Common Shares
federal income tax rules Units. A limited outstanding, Host
and the partnership partner may in certain REIT's financial
agreements of the circumstances transfer results and prospects
Partnerships effectively his OP Units. See and the general
prevent the development "Description of OP interest in Host REIT's
of a more active or Units -- Restrictions on dividend yield compared
substantial market for Transfers of OP Units by to that of other debt
these interests). No Limited Partners." and equity securities.
Limited Partner can See "Background and
require a Partnership to Reasons for the Mergers
dispose of the and the REIT
Partnership's assets or Conversion -- Reasons
redeem the Limited for the Mergers."
Partner's interest in the
Partnership.
Partnership Units in the Partnerships have a relatively limited resale
market. Beginning one year after the Mergers, limited partners of the
Operating Partnership (other than Host REIT) will be able to exercise their Unit
Redemption Right and receive, at the option of Host REIT, either cash or Common
Shares on a one-for-one basis. The Common Shares of Host REIT will be freely
transferable upon registration under the Securities Act. Shareholders of Host
REIT are expected to achieve liquidity of their investments by trading the
Common Shares in the open market.
185
<PAGE>
- --------------------------------------------------------------------------------
PARTNERSHIPS OPERATING PARTNERSHIP HOST REIT
- --------------------------------------------------------------------------------
Nature of Investment
--------------------
The Partnership Interests The OP Units constitute The Common Shares
of each Partnership equity interests constitute equity
constitute equity entitling each limited interests in Host REIT.
interests entitling each partner to his pro rata Host REIT is entitled
partner to his pro rata share of cash to receive its pro rata
share of cash distributions made to share of distributions
distributions made to the the limited partners of made by the Operating
partners of the the Operating Partnership with
Partnership. The Partnership. The respect to the OP Units
Partnerships generally Operating Partnership it holds, and each
maintain a policy of generally intends to shareholder will be
long-term ownership for retain and reinvest entitled to his pro
current cash flow and proceeds of the sale of rata share of any
long-term appreciation. property or excess dividends or
The partnership agreement refinancing proceeds in distributions paid with
for each Partnership its business. See respect to the Common
specifies how the cash "Distribution and Other Shares. The dividends
available for Policies." payable to the
distribution, whether shareholders are not
arising from operation, fixed in amount and are
sales or refinancing, is only paid if, when and
to be shared among the as declared by the
General Partner and the Board of Trustees. In
Limited Partners. The order to qualify as a
distributions payable to REIT, Host REIT must
the partners are not distribute at least 95%
fixed in amount and of its taxable income
depend upon the operating (excluding capital
results and net sale or gains), and any taxable
refinancing proceeds income (including
available from the capital gains) not
disposition of the distributed will be
Partnership's assets. subject to corporate
income tax. See
"Distribution and Other
Policies."
The limited partnership interests in the Partnerships and the Operating
Partnership, and the Common Shares in Host REIT, constitute equity interests in
each, respectively. Each limited partner is entitled to his pro rata share of
the cash distributions of his respective Partnership or the Operating
Partnership, and each shareholder is entitled to his pro rata share of any
dividends or distributions of Host REIT which are paid with respect to the
Common Shares.
186
<PAGE>
- --------------------------------------------------------------------------------
PARTNERSHIPS OPERATING PARTNERSHIP HOST REIT
- --------------------------------------------------------------------------------
Properties and Diversification
------------------------------
The investment portfolio As a result of the REIT As a result of the REIT
of each of the Conversion, the Conversion, Host REIT
Partnerships currently Operating Partnership will be the sole
consists of one to eight will initially own a general partner and a
Hotels and certain portfolio of substantial limited
related assets. The approximately 120 partner of the
small number of Hotels in Hotels. The ownership Operating Partnership,
each Partnership limits of these Hotels, along which will initially
each Partnership's with future hotel own a portfolio of
ability to diversify its acquisitions by the approximately 120
investment risk over Operating Partnership, Hotels.
geographic locations, will diversify the
markets and economic investment risks to
conditions. See Limited Partners over a
"Background and Reasons broader and more varied
for the Mergers and the group of hotels and
REIT Conversion -- geographic locations and
Background of the will reduce the
Partnerships." dependence of an
investment upon the
performance of, and the
exposure to the risks
associated with, any one
or more Hotels currently
owned by a Partnership.
The investment portfolio of each Partnership is currently limited to
between one and eight Hotels (and certain related assets) in limited geographic
locations. Through the REIT Conversion, and through additional investments that
may be made from time to time, Host REIT and the Operating Partnership intend to
create an investment portfolio substantially larger, more varied and more
geographically diversified than the assets of any of the Partnerships
individually. In addition, the larger portfolio will diversify the risks to the
limited partners and shareholders over a broader group of Hotels, thereby
reducing the dependence of an investment upon the performance of, and the
exposure to the risks associated with, any particular Hotel or group of Hotels
currently owned by an individual Partnership.
187
<PAGE>
- --------------------------------------------------------------------------------
PARTNERSHIPS OPERATING PARTNERSHIP HOST REIT
- --------------------------------------------------------------------------------
Additional Equity/Potential Dilution
------------------------------------
Each Partnership was The Operating Host REIT may issue
designed as a finite-life Partnership is additional equity
investment vehicle. None authorized to issue OP securities, including
of the Partnerships are Units and other shares of beneficial
authorized to raise partnership interests interest which may be
additional funds for (or (including partnership classified as one or
reinvest net sale or interests of different more classes or series
refinancing proceeds in) series or classes that of common or preferred
new investments, absent may be senior to OP shares and contain
amendments to their Units) as determined by certain preferences, in
partnership agreements or Host REIT, in its sole the discretion of the
approval of a majority of discretion, including Board of Trustees. Any
the outstanding limited in connection with proceeds from the
partnership interests. acquisitions of issuance of equity
Since such Partnerships properties. The securities by Host REIT
were not structured to Operating Partnership must be contributed to
issue additional equity may issue OP Units and the Operating
securities, there is other partnership Partnership in exchange
little chance for interests to Host REIT, for OP Units. The
dilution of the partners' as long as such issuance of additional
share of cash available interests are issued in equity securities by
for distribution. connection with a Host REIT may result in
comparable issuance of the dilution of the
Common Shares of Host interests of the
REIT and proceeds shareholders, as well as
raised in connection interests of holders of
with the issuance of OP Units in the
such shares are Operating Partnership.
contributed to the See "Distribution and
Operating Partnership. Other Policies --
In addition, the Investment Policies."
Operating Partnership
may issue additional OP
Units upon exercise of
the options granted
pursuant to option
plans or restricted
shares issued under
restricted share plans
or other employee
benefit plans adopted
by Host REIT.
188
<PAGE>
- --------------------------------------------------------------------------------
PARTNERSHIPS OPERATING PARTNERSHIP HOST REIT
- --------------------------------------------------------------------------------
Borrowing Policies
------------------
The General Partner of The Operating Host REIT is not
each Partnership is Partnership may incur restricted under its
generally authorized to debt or enter into Declaration of Trust
borrow money from itself similar credit, from incurring debt.
or others and issue guarantee, financing or However, under the
evidence of indebtedness refinancing Partnership Agreement,
necessary, convenient or arrangements for any Host REIT, as general
incidental to the purpose with any person partner of the Operating
accomplishment of the that is not Host REIT Partnership, may not
purposes of the upon such terms that incur any debts except
Partnership. Host REIT, as sole those for which it may
general partner, be liable as general
determines appropriate; partner of the Operating
provided, that, the Partnership and certain
Operating Partnership other limited
shall not incur any circumstances.
debt that is recourse Therefore, all
to Host REIT, except to indebtedness incurred by
the extent otherwise Host REIT will be
agreed to by Host REIT, through the Operating
in its sole discretion. Partnership. Host REIT
See "Distribution and will have a policy of
Other Policies -- incurring debt only if
Borrowing Policies." immediately following
such incurrence the
debt-to-total market
capitalization ratio
would be __% or less.
The Board of Trustees
could alter or eliminate
this policy. See
"Distribution and Other
Policies -- Borrowing
Policies."
In conducting their business, each of the Partnerships, Host REIT and the
Operating Partnership may incur indebtedness to the extent deemed appropriate by
their general partner or Board of Trustees, as the case may be.
189
<PAGE>
- --------------------------------------------------------------------------------
PARTNERSHIPS OPERATING PARTNERSHIP HOST REIT
- --------------------------------------------------------------------------------
Other Investment Restrictions
-----------------------------
The partnership agreements There are no restrictions Neither Host REIT's
of all of the upon the Partnership's Declaration of Trust
Partnerships contain authority to enter into nor its Bylaws impose
restrictions upon the certain transactions, any restrictions upon
acquiring of interests in including among others, the types of
other partnerships or making investments, investments that may be
hotel properties in lending Operating made by Host REIT,
addition to such Partnership funds or except that under the
Partnership's current reinvesting the Declaration of Trust,
assets. None of the Operating Partnership's the Board of Trustees
Partnerships are cash flow and net sale is prohibited from
authorized to raise or refinancing proceeds taking any action that
additional funds for (or except (i) restrictions would terminate Host
reinvest net sale or precluding investments REIT's status as a
refinancing proceeds in) by the Operating REIT, unless a majority
new investments, absent Partnership that would of the shareholders
amendments to their adversely affect Host vote to terminate such
partnership agreements or REIT's status as a REIT, status. Host REIT's
approval of a majority of (ii) general restrictions Declaration of Trust
the outstanding limited on transactions with and Bylaws do not
partnership interests. Affiliates and (iii) the impose any restrictions
Noncompetition Agreement. upon dealings between
Host REIT and trustees,
officers and affiliates
thereof. Maryland's
REIT Law, however,
requires that the
material facts of the
relationship, the
interest and the
transaction must be (i)
disclosed to the Board
of Trustees and
approved by the
affirmative vote of a
majority of the
disinterested trustees,
(ii) disclosed to the
shareholders and
approved by the
affirmative vote of a
majority of the
disinterested
shareholders or (iii)
in fact fair and
reasonable. In
addition, Host REIT has
adopted a policy which
requires that all
material
contracts and
transactions between
Host REIT and trustees,
officers or affiliates
thereof in which such
person has a material
financial interest
must be
approved by the
affirmative vote of a
majority of the
disinterested trustees.
Lastly, Host REIT has
adopted a policy that
it must conduct its
investment activities
through the Operating
Partnership for so long
as the Operating
Partnership exists.
See "Distribution and
Other Policies --
Policies with Respect
to Other Activities."
All of the partnership agreements of the Partnerships contain provisions
which hinder further investment by the Partnership. The Partnership Agreement
permits the Operating Partnership wide latitude in choosing the type of
investments to pursue. Host REIT has adopted a policy to conduct all investment
activities through the Operating Partnership.
190
<PAGE>
- --------------------------------------------------------------------------------
PARTNERSHIPS OPERATING PARTNERSHIP HOST REIT
- --------------------------------------------------------------------------------
Management Control
------------------
Under each of the All management powers The Board of Trustees
partnership agreements of over the business and will direct the
the Partnerships, the affairs of the Operating management of Host
General Partners are, Partnership are vested REIT's business and
subject to certain in Host REIT, as sole affairs subject to
limitations, vested with general partner, and no restrictions contained
the exclusive right and limited partner of the in Host REIT's
power to conduct the Operating Partnership Declaration of Trust
business and affairs of will have any right to and Bylaws, the
the Partnership and may participate in or Partnership Agreement
appoint, contract or exercise control or and applicable law.
otherwise deal with any management power over The Board of Trustees
person, including the business and affairs will be classified into
employees of its of the Operating three classes of
affiliates, to perform Partnership except (i) trustees, the majority
any acts or services for Host REIT, as sole of which will be
the Partnership necessary general partner, may independent trustees.
or appropriate for the not, without written At each annual meeting
conduct of the business consent of all the of the shareholders,
and affairs of the limited partners or such the successors of the
Partnership. A Limited lower percentage of OP class of trustees whose
Partner has no right to Units as may be terms expire at that
participate in the specifically provided meeting will be
management and control of for in the Partnership elected. The policies
a Partnership and has no Agreement or the adopted by the Board of
voice in its affairs Delaware Act, take any Trustees may be altered
except on certain limited action in contravention or eliminated without a
matters that may be of the Partnership vote of the
submitted to a vote of Agreement; (ii) Host shareholders.
the Limited Partners REIT, as sole general Accordingly, except for
under the terms of the partner, may not dispose their vote in the
partnership agreements of of all or substantially elections of trustees
the Partnerships. Under all of the Operating and their vote in
each partnership Partnership's assets certain major
agreement, Limited without the consent of transactions,
Partners have the right the holders of a shareholders will have
to remove their General majority of the no control over the
Partner by a majority outstanding OP Units ordinary business
vote (except for Atlanta (including OP Units held policies of Host REIT.
Marquis, which requires a by Host REIT); and (iii) The Board of Trustees
66 2/3% vote of its Class until December 31, 2058, cannot change Host
A limited partner Host REIT may not cause REIT's policy of
interests) subject to or permit the Operating maintaining its status
certain conditions. Each Partnership to dissolve as a REIT, however,
of the partnership if more than 10% of the without the approval of
agreements permits limited partners object a majority of the votes
removal of the general to such dissolution. entitled to be cast
partner only for breach Host REIT may not be thereon.
of certain provisions of removed as general
the partnership partner by the limited
agreement, fraud or partners with or without
unremedied acts of bad cause unless Host REIT
faith or gross ceases to be a "public
negligence. Furthermore, company." See "Risk
the Hanover, MDAH and Factors -- Risks and
MHP2 partnership Effect of the REIT
agreements allow removal Conversion -- Reduced
of the General Partner Control Over Major
only if certain favorable Decisions," "Description
legal opinions concerning of OP Units -- Purposes,
liability of the Limited Business and Management"
Partners and tax status and " Dissolution,
of the Partnership are Winding Up and
obtained. In all cases Termination."
of removal of the General
Partner, however, the
Partnership may continue
only if the Limited
Partners find a successor
general partner.
Under the partnership agreements of the Partnerships and the Partnership
Agreement of the Operating Partnership, the general partners are vested with the
exclusive right and power to conduct the business and affairs of the
partnerships. In both cases, limited partners have no voice in the affairs of
the partnership except on certain limited matters. All of the Partnerships
permit removal of the General Partner by the Limited Partners with cause. The
Partnership Agreement of the Operating Partnership does not permit removal of
Host REIT as general partner by the limited partners with or without cause.
Under the Declaration of Trust and Bylaws, the Board of Trustees directs the
management of Host REIT. Except for their vote in the elections of trustees and
their vote in certain major transactions, shareholders have no control over the
management of Host REIT.
191
<PAGE>
- --------------------------------------------------------------------------------
PARTNERSHIPS OPERATING PARTNERSHIP HOST REIT
- --------------------------------------------------------------------------------
Fiduciary Duties
----------------
The Delaware Act and Rhode Under the Delaware Act, Under Maryland law,
Island Act provide that Host REIT, as general the trustees must
the General Partners are partner of the Operating perform their duties
accountable as Partnership, is in good faith, in a
fiduciaries to the accountable to the manner that they
Partnerships and are Operating Partnership as reasonably believe to
required to exercise good a fiduciary and, be in the best
faith, loyalty and consequently, is required interests of Host REIT
integrity in their to exercise good faith and with the care of
dealings in conducting and integrity in all of an ordinary prudent
the affairs of the its dealings with respect person in a like
Partnerships. The duty to partnership affairs. position. Trustees of
of good faith requires However, under the Host REIT who act in
that the General Partners Partnership Agreement, such a manner
deal fairly and with Host REIT, as general generally will not be
complete candor toward partner, is under no liable to Host REIT
the Limited Partners. obligation to consider for monetary damages
The duty of loyalty the separate interests of arising from their
requires that, without the limited partners in activities.
the Limited Partners' deciding whether to cause
consent, the General the Operating Partnership
Partners may not have to take (or decline to
business or other take) any actions, and
interests that are Host REIT, as general
adverse to the interests partner, is not liable
of the Partnerships. The for monetary damages for
duty of fair dealing also losses sustained,
requires that all liabilities incurred, or
transactions between the benefits not derived by
General Partners and the limited partners in
Partnerships be fair in connection with such
the manner in which the decision, provided that
transactions are effected Host REIT, as general
and in the amount of the partner, has acted in
consideration received by good faith and pursuant
the General Partners. to its authority under
the Partnership Agreement.
The General Partners, Host REIT, as general partner of the Operating
Partnership, and the Board of Trustees of Host REIT, respectively, owe fiduciary
duties to their constituent parties. Although some courts have interpreted the
fiduciary duties of the Board of Trustees in the same way as the duties of a
general partner in a limited partnership, it is unclear whether, or to what
extent, there are differences in such fiduciary duties. It is possible that the
fiduciary duties of the trustees of Host REIT to the shareholders may be less
than those of the General Partners to the Limited Partners and Host REIT, as
general partner of the Operating Partnership, to the limited partners of the
Operating Partnership.
The Partnership Agreement contains a specific provision to the effect that
Host REIT, as general partner of the Operating Partnership, is under no
obligation to consider the separate interests of the limited partners of the
Operating Partnership in taking partnership action. Since the partnership
agreements of the Partnerships do not contain such a provision, the fiduciary
duties of Host REIT, as general partner of the Operating Partnership, to the
limited partners of the Operating Partnership may be less than those of the
General Partners to their Limited Partners.
192
<PAGE>
- --------------------------------------------------------------------------------
PARTNERSHIPS OPERATING PARTNERSHIP HOST REIT
- --------------------------------------------------------------------------------
Management Liability and Indemnification
----------------------------------------
Under the Delaware Act and Under the Delaware Act, Host REIT's Declaration
the Rhode Island Act, Host REIT, as general of Trust provides that
each General Partner is partner of the Operating the liability of Host
liable for the payment of Partnership, is liable REIT's trustees and
partnership obligations for the payment of the officers to Host REIT
and debts, unless obligations and debts of and its shareholders
limitations upon such the Operating for money damages is
liability are expressly Partnership unless limited to the fullest
stated in the document or limitations upon such extent permitted under
instrument evidencing the liability are stated in Maryland law. The
obligation (e.g., a loan the document or Declaration of Trust
structured as a instrument evidencing and Maryland law
nonrecourse obligation). the obligation. Under provide broad
Each partnership the Partnership indemnification to
agreement of the Agreement, the Operating trustees and officers,
Partnerships generally Partnership agrees to whether serving Host
provides that the General indemnify Host REIT or REIT, or at its
Partner will not be held any trustee or officer request, any other
liable for any costs of Host REIT from and entity, to the fullest
arising out of its action against all losses, extent permitted under
or inaction except that claims, damages, Maryland law. Host
the General Partner will liabilities, joint or REIT will indemnify its
be liable for any costs several, expenses present and former
which arise from the (including legal fees), trustees and officers,
General Partner's own fines, settlements and among others, against
fraud, negligence, other amounts incurred judgments, penalties,
misconduct or other in connection with any fines, settlements and
breach of fiduciary duty. actions relating to the reasonable expenses
In cases in which the operations of the actually incurred by
General Partner is Operating Partnership as them in connection with
indemnified, any set forth in the any proceeding to which
indemnity is payable only Partnership Agreement in they may be made a
from the assets of the which Host REIT or any party by reason of
Partnership. such trustee or officer their service in those
is involved, unless (i) or other capacities
the act or omission of unless it is
Host REIT was material established that (a)
to the matter giving the act or omission of
rise to the proceeding the trustee or officer
and either was committed was material to the
in bad faith or was the matter giving rise to
result of active and the proceeding and (i)
deliberate dishonesty; was committed in bad
(ii) Host REIT or the faith or (ii) was the
other person to be result of active and
indemnified actually deliberate dishonesty,
received an improper (b) the trustee or
personal benefit in officer actually
money, property or received an improper
services or (iii) in the personal benefit in
case of any criminal money, property or
proceeding, Host REIT or services or (c) in the
the other person to be case of any criminal
indemnified had proceeding, the trustee
reasonable cause to or officer had
believe the act or reasonable cause to
omission was unlawful. believe that the act or
The reasonable expenses omission was unlawful.
incurred by Host REIT However, under Maryland
may be reimbursed by the law, Host REIT may not
Operating Partnership in indemnify for an
advance of the final adverse judgment in a
disposition of the suit by or in the right
proceeding upon receipt of the trust. The
by the Operating Bylaws of Host REIT
Partnership of an require it, as a
affirmation by Host REIT condition to advancing
or the other person to expenses, to obtain (a)
be indemnified of its a written affirmation
good faith belief that by the trustee or
the standard of conduct officer of his good
necessary for faith belief that he
indemnification has been has met the standard of
met and an undertaking conduct necessary for
by Host REIT to repay indemnification by Host
the amount if it is REIT as authorized by
determined that such the Bylaws and (b) a
standard was not met. written statement by or
on his behalf to repay
the amount paid or
reimbursed by Host REIT
if it shall ultimately
be determined that the
standard of conduct was
not met.
In each of the Partnerships, the General Partners will only be held liable
for costs which arise from the General Partners' own fraud, negligence,
misconduct or other breach of fiduciary duty, and may be indemnified in certain
cases. While Host REIT, as general partner of the Operating Partnership, is
generally liable for the payment of the obligations and debts of the Operating
Partnership, the Operating Partnership generally agrees to indemnify Host REIT,
except regarding certain unauthorized acts of Host REIT. The liability of Host
REIT's trustees and officers is limited to the fullest extent permitted under
Maryland law and such trustees and officers are indemnified by Host REIT to the
fullest extent permitted by Maryland law.
193
<PAGE>
- --------------------------------------------------------------------------------
PARTNERSHIPS OPERATING PARTNERSHIP HOST REIT
- --------------------------------------------------------------------------------
Liability of Investors
----------------------
Under each of the Under the Partnership Under Maryland law,
partnership agreements, Agreement and the shareholders are not
the Delaware Act and the Delaware Act, the personally liable for
Rhode Island Act, the liability of limited the debts or
liability of Limited partners for the obligations of Host
Partners for the Operating Partnership's REIT.
Partnership's debts and debts and obligations is
obligations is generally generally limited to the
limited to the amount of amount of their
their investment in the investment in the
Partnership, together Operating Partnership,
with an interest in together with an
undistributed income, if interest in
any. undistributed income, if
any.
In the Partnerships and the Operating Partnership, a limited partner's
liability is limited to the amount of his investment. Shareholders of Host REIT
generally have no liability for the debts and obligations of Host REIT.
194
<PAGE>
- --------------------------------------------------------------------------------
PARTNERSHIPS OPERATING PARTNERSHIP HOST REIT
- --------------------------------------------------------------------------------
Antitakeover Provisions
-----------------------
For each of the Except in limited The Declaration of
Partnerships, a change in circumstances (see Trust and Bylaws of
management may be "Voting Rights" below) Host REIT contain a
effected only by removal Host REIT, in its number of provisions
of the General Partner. capacity as general that may have the
See " Management Control" partner of the Operating effect of delaying or
above for a discussion of Partnership, has discouraging a change
the ability to remove a exclusive management in control of Host REIT
General Partner. A power over the business that might be in the
transfer of limited and affairs of the best interests of
partnership interests in Operating Partnership. shareholders. These
a Partnership is Host REIT may not be provisions include,
generally restricted if removed as general among others, (i) a
(i) it is on a day other partner of the Operating Board of Trustees with
than the first day in an Partnership by the three-year staggered
accounting period, (ii) limited partners with or terms, (ii) authorized
it would, when combined without cause (unless capital stock that may
with the total of other Host REIT is no longer a be classified and
partnership interests "public company," in issued as a variety of
transferred within past which case the general equity securities in
12 consecutive months, partner may be removed the discretion of the
result in the Partnership for cause). Under the Board of Trustees,
being deemed to have been Partnership Agreement, including securities
terminated within the Host REIT may, in its having superior voting
meaning of Section 708 of sole discretion, prevent rights to the Common
the Code, (iii) it would, a limited partner from Shares, (iii)
in the opinion of transferring his restrictions on
counsel, require the interest or any rights business combinations
filing of a registration as a limited partner with persons who
statement under the except in certain acquire more than a
Securities Act, or would limited circumstances. certain percentage of
otherwise be in violation Host REIT may exercise Common Shares, (iv) a
of any federal or state this right of approval requirement that
securities or blue sky to deter, delay or trustees be removed
laws, (iv) it would hamper attempts by only for cause and only
result in the assignor or Persons to acquire a by a vote of
assignee holding a majority interest in the shareholders holding at
fraction of a partnership Operating Partnership. least a majority of all
unit, (v) it would, in In addition, Host REIT the shares entitled to
the opinion of counsel, has the power to impose be cast for the
result in the Partnership limits on transfers if, election of trustees
being treated as an and to the extent, and (v) certain
association taxable as a necessary to cause the ownership limitations
corporation, (vi) it Operating Partnership which are designed to
would, in the opinion of not to be a "publicly protect Host REIT's
counsel, result in the traded partnership" that status as a REIT under
Partnership failing to would be taxed as a the Code. See
obtain or continue in corporation. "Description of Shares
effect any license of Beneficial Interest."
permitting the service or
sale of alcoholic
beverages at one or more
hotels or (vii) it is an
assignment to a
tax-exempt entity. In
addition to such
restrictions, the General
Partners of Atlanta
Marquis, Chicago Suites,
Hanover, Desert Springs
and MHP may, in their
sole discretion, restrict
any transfer of limited
partnership interests.
In each of the
Partnerships an assignee
of a limited partnership
interest may not become a
substitute limited
partner, entitling him to
vote on matters that may
be submitted to the
Limited Partners for
approval, unless the
General Partner consents
to such substitution.
Certain provisions of the governing documents of the Partnerships, the
Operating Partnership and Host REIT could be used to deter attempts to obtain
control of the Partnerships, the Operating Partnership and Host REIT in
transactions not approved by the General Partners, the general partner of the
Operating Partnership or the Board of Trustees, respectively.
195
<PAGE>
- --------------------------------------------------------------------------------
PARTNERSHIPS OPERATING PARTNERSHIP HOST REIT
- --------------------------------------------------------------------------------
Voting Rights
-------------
Generally, the Limited Under the Partnership Host REIT will be
Partners of the Agreement, the limited managed and controlled
Partnerships have voting partners have voting by a Board of Trustees
rights only as to major rights as to the sale of consisting of three
partnership transactions substantially all of the classes having
to the extent provided in assets of the Operating staggered terms of
the partnership Partnership, certain office. Each class is
agreements of each consolidations and to be elected by the
Partnership. Such voting mergers and amendments shareholders at annual
rights include: of the Partnership meetings of Host REIT.
acquiring of interests in Agreement. Otherwise, Maryland law requires
other properties, all decisions relating that certain major
incurrence of certain to the operation and transactions, including
debt, merger or management of the most amendments to Host
consolidation with Operating Partnership REIT's Declaration of
another entity, sale of will be made by Host Trust, may not be
all or substantially all REIT, in its capacity as consummated without the
of the assets of a general partner of the approval of
Partnership, certain Operating Partnership. shareholders. Each
amendments to the During the Initial Common Share will have
partnership agreement, Holding Period, the one vote and Host
expansion of one or more limited partners have REIT's Declaration of
hotels in certain cases voting rights as to the Trust permits the Board
or removal of the General sale of all or of Trustees to classify
Partner. substantially all of the and issue shares of
assets of the Operating capital stock in one or
Partnership, a merger more series having
involving the Operating voting power which may
Partnership, certain differ from that of the
issuances of OP Units Common Shares. See
and for certain limited "Description of Shares
partners, certain sales of Beneficial Interest."
of hotels that are held
by the Operating
Partnership.
The limited partners of the Partnerships and the Operating Partnership have
only limited voting rights. The shareholders of Host REIT will have voting
rights that permit them to elect the Board of Trustees and to approve or
disapprove certain major transactions. See "Risk Factors Reduced Control over
Major Decisions."
196
<PAGE>
- --------------------------------------------------------------------------------
PARTNERSHIPS OPERATING PARTNERSHIP HOST REIT
- --------------------------------------------------------------------------------
Sale
- ----
The Atlanta Marquis, Under the Partnership Under Maryland law, the
Desert Springs and Agreement, Host REIT Board of Trustees is
Hanover partnership generally has the required to obtain
agreements allow the sale exclusive authority to approval of the
of all or substantially determine whether, when shareholders by the
all of the assets of the and on what terms the affirmative vote of
partnership to an assets of the Operating two-thirds of all the
unaffiliated buyer Partnership (including votes entitled to be
without the consent of the Hotels) will be cast on the matter in
the Limited Partners. sold. See "Description order to sell all or
The Chicago Suites of OP Units Sales of substantially all of
partnership agreement Assets." However, Host the assets of Host
allows the sale of its REIT, as general partner REIT. No approval of
Hotel or a material of the Operating the shareholders is
portion of Chicago Partnership, generally required for the sale
Suite's assets with the may not sell, exchange, of less than
consent of a majority of transfer or otherwise substantially all of
the outstanding limited dispose of all or Host REIT's assets.
partnership interests. substantially all of the
The MDAH partnership Operating Partnership's
agreement allows the sale assets in a single
of the Fairview Park transaction or a series
Hotel, or more than two of related transactions
other MDAH Hotels, only (including by way of
with the consent of a merger, consolidation or
majority of the other combination with
outstanding limited any other Persons),
partnership interests without the consent of
including any limited more than 50% of the
partnership interests outstanding limited
held by the General partnership interests,
Partner, unless the including any limited
General Partner has an partnership interests
interest in the held by Host REIT. In
transaction, in which addition, during the
case it may not vote its Initial Holding Period,
limited partnership the holders of OP Units
interests. The MHP of the Operating
partnership agreement Partnership have certain
allows the General voting rights if a vote
Partner to sell or of shareholders is
dispose of any assets of required. In connection
MHP to any person, with a sale of all or
provided that if the substantially all of the
assets to be disposed of assets of the Operating
or sold had an original Partnership, the
cost in excess of 25% of approval of a majority
the original cost of all of all outstanding OP
assets of MHP, the buyer Units would be required,
must not be the General including the OP Units
Partner or an affiliate held by Host REIT,
of the General Partner. voting as single class
Furthermore the General with Host REIT voting
Partner may not sell, its OP Units in the same
assign, pledge, transfer proportion as its
or otherwise dispose of shareholders vote, would
all or any portion of be required. In
MHP's interest in the addition, during the
Harbor Beach Partnership Initial Holding Period,
to a person other than any taxable sale or
the General Partner, a sales of Hotels
general partner of the representing more than
Harbor Beach Partnership 10% of the aggregate
or an affiliate of Appraised Value of the
either. The MHP2 Hotels of any
partnership agreement Partnership would
allows the sale of all or require, in addition to
substantially all of the any other approval
assets of the MHP2 with requirements, the
the consent of a majority approval of a majority
of the outstanding of all outstanding OP
limited partnership Units held by persons
interests, including any who formerly were
limited partnership Limited Partners of such
interests held by the Partnership, voting as a
General Partner, unless separate class.
the General Partner has
an interest in the
transaction, in which
case it must vote all of
its limited partnership
interests in the same
manner that the majority
of "outside" limited
partnership interests
which constitute a quorum
vote.
197
<PAGE>
- --------------------------------------------------------------------------------
PARTNERSHIPS OPERATING PARTNERSHIP HOST REIT
- --------------------------------------------------------------------------------
Sale (cont'd)
- ----
The PHLP partnership agreement
allows the sale of an asset
which had an original cost in
excess of 5% of the original
cost basis of all assets of
PHLP only with the consent of
a majority of the outstanding
limited partnership interests
including any limited
partnership interests held by
the General Partner.
Under each of the partnership agreements, the Partnership Agreement and
Host REIT's Declaration of Trust, the sale of assets may be effected with
various levels of limited partner or shareholder consent. Under most of the
partnership agreements and the Declaration of Trust, the sale of assets which do
not amount to all or substantially all of the assets of the Partnerships, the
Operating Partnership or Host REIT does not require any consent of the limited
partners or shareholders, respectively.
198
<PAGE>
- --------------------------------------------------------------------------------
PARTNERSHIPS OPERATING PARTNERSHIP HOST REIT
- --------------------------------------------------------------------------------
Sale to the General
Partner or Its Affiliates
- -------------------------
The General Partners of The Operating The Declaration of
MDAH and MHP2 may cause Partnership shall not, Trust has no specified
those Partnerships to directly or indirectly, additional requirements
sell all or substantially sell, transfer or convey for sales of assets to
all of their assets to any property to any affiliates of Host REIT.
its General Partner (or affiliate of Host REIT
an affiliate of the that is not also a
General Partner) (A) with subsidiary of the
the consent of the Operating Partnership,
Limited Partners holding except as expressly
of a majority of the permitted in the
outstanding limited Partnership Agreement or
partnership interests in except on terms that are
the Partnership (with, in fair and reasonable and
the case of MDAH, the no less favorable to the
General Partner being Operating Partnership
barred from voting any than would be obtained
limited partnership from an unaffiliated
interests it (or its third party.
affiliate) holds or, in
the case of MHP2, being
required to vote its (or
its affiliate's) limited
partnership interests in
the same manner that the
majority of "outside"
limited partnership
interests which
constitute a quorum vote)
and (B) by complying with
certain notice and
independent appraisal
requirements as follows:
(i) the General Partner
must provide to its
Limited Partners at least
30 days' notice of the
proposed sale, which
notice must set forth the
price and other material
terms and conditions of
the proposed transaction,
(ii) the Partnership must
obtain three appraisals
of the fair market sales
value of the Hotel(s) to
be sold, which appraisals
must be prepared by
independent, nationally
recognized appraisers who
have been selected by the
General Partner and are
experienced in the
valuation of hotel
properties (the cost of
all such appraisals must
be borne by the General
Partner or an affiliate),
(iii) such appraisers may
not have, directly or
indirectly, any material
interest in or material
business or professional
relationship with the
General Partner or any of
its affiliates and the
compensation of each such
appraiser must be
determined in accordance
with a written contract
before such appraisal is
prepared, (iv) the price
at which the sale is
effected must not be less
than the average of the
three amounts determined
by the three appraisers,
disregarding entirely any
appraisal that differs by
more than 20% from the
amount determined by the
appraiser whose
determination is between
the highest and lowest of
the amounts determined by
the three appraisers, (v)
the purchase price must
be payable in cash, (vi)
no real estate commission
may be paid by the
Partnership in connection
with such sale and (vii)
the General Partner must
include copies of such
appraisals with the
above-described notice to
its Limited Partners.
199
<PAGE>
- --------------------------------------------------------------------------------
PARTNERSHIPS OPERATING PARTNERSHIP HOST REIT
- --------------------------------------------------------------------------------
The General Partners of
Atlanta Marquis, Desert
Springs, Hanover and MHP may
cause those Partnerships to
sell any hotels to the General
Partner or any affiliate (A)
with the consent of Limited
Partners holding of a majority
of the outstanding limited
partnership interests in the
Partnership (with the General
Partners (or their affiliates)
of Desert Springs, Hanover and
MHP being required to vote any
limited partnership interests
it holds in the same manner that
the majority of "outside"
limited partnership interests
which constitute a quorum vote),
and (B) by complying with
certain notice and independent
appraisal requirements as
follows: (i) the General
Partner must provide notice of
the proposed sale to its Limited
Partners, who thereafter have 30
days to elect a nationally
recognized appraiser having the
approval of the holders of a
majority of the limited
partnership interests, (ii) such
appraiser has 30 days from the
date of election to prepare and
submit to the General Partner an
appraisal of the fair market value
of the Hotel in question, (iii)
the purchaser must submit to the
General Partner an appraisal of
the fair market value of the Hotel,
such appraisal to be submitted
within the time limit provided by
clause (ii) above in the case of
the appraisal to be submitted by
the appraiser elected by the
Limited Partners, and (iv) the
General Partner must thereafter
seek the required consent and
include therewith copies of the
two appraisals. The Chicago Suites
and PHLP partnership agreements
contain no special provisions
concerning a sale of partnership
assets to the General Partner or
its affiliates.
Under most of the partnership agreements and the Partnership Agreement, in
addition to the general restrictions on sale of assets, there are provisions
which must be met when partnership assets are sold to an affiliate of the
general partner. Under the Declaration of Trust of Host REIT, however, there
are no specified additional requirements.
200
<PAGE>
- --------------------------------------------------------------------------------
PARTNERSHIPS OPERATING PARTNERSHIP HOST REIT
- --------------------------------------------------------------------------------
Merger
- ------
The partnership agreement Under the Partnership Under Maryland law, the
of MDAH allows a merger Agreement, Host REIT Board of Trustees is
of the Partnership with generally may not cause required to obtain
the consent of a majority a merger or approval of the
of the outstanding consolidation of the shareholders by the
limited partnership Operating Partnership affirmative vote of
interests, including the without the consent of a two-thirds of all the
limited partnership majority of the votes entitled to be
interests held by the outstanding limited cast on the matter in
General Partner, unless partnership interests order to merge or
the General Partner has (including the limited consolidate Host REIT.
an interest in the partnership interests
transaction, in which held by Host REIT) and
case it may not vote its the general partner. In
limited partnership addition, during the
interests. Each of the Initial Holding Period,
Atlanta Marquis, Chicago the holders of OP Units
Suites, Desert Springs, of the Operating
Hanover, MHP, MHP2 and Partnership have certain
PHLP partnership voting rights if a vote
agreements contain no of shareholders is
merger provision. Under required in connection
the Delaware Act and the with a merger. In such
Rhode Island Act, a case, approval of a
merger of each of these majority of all
Partnerships may be outstanding OP Units,
effected upon approval by including the OP Units
its General Partner and held by Host REIT,
the holders of a majority voting as a single class
of the limited with Host REIT voting
partnership interests of its OP Units in the same
each class of limited proportion as its
partner. In Atlanta shareholders vote, would
Marquis and PHLP, the be required.
General Partner may vote
the limited partnership
interests it holds. In
Chicago Suites, the
General Partner holds no
limited partnership
interests and a merger
may be effectuated by the
affirmative vote of a
majority of the
outstanding limited
partnership interests.
In Desert Springs,
Hanover, MHP and MHP2,
the General Partner (or
its affiliate) must vote
all of its limited
partnership interests in
the same manner as the
majority of limited
partnership interests
constituting a quorum
vote. A majority of the
limited partnership
interests held by Limited
Partners constitutes a
quorum in each
Partnership.
Under applicable law, the partnership agreements of the Partnerships, the
Partnership Agreement, and the Declaration of Trust of Host REIT, the merger of
the respective partnerships and Host REIT is permitted subject to a certain
level of limited partner or shareholder consent, respectively.
201
<PAGE>
- --------------------------------------------------------------------------------
PARTNERSHIPS OPERATING PARTNERSHIP HOST REIT
- --------------------------------------------------------------------------------
Dissolution
- -----------
Upon breach of certain The Operating Partnership Under Maryland law,
provisions of its will continue until the Board of Trustees
partnership agreement, December 31, 2098, unless must obtain approval
fraud or unremedied acts sooner dissolved and of holders of at least
of bad faith or gross terminated. The two-thirds of the
negligence, each of Operating Partnership outstanding Common
Chicago Suites, Hanover, will be dissolved prior Shares in order to
MDAH, MHP and MHP2 may be to the expiration of its dissolve Host REIT.
dissolved with the term, and its affairs
consent of a majority of wound up, with the
the outstanding limited consent of the limited
partnership interests. partners who hold 90% of
In the case of Desert the OP Units (including
Springs, Hanover, MHP and OP Units held by Host
MHP2, the General Partner REIT) to dissolve the
must vote any limited Operating Partnership
partnership interests it made by Host REIT or with
holds in the same manner the consent of a majority
that the majority of of the partners holding
"outside" limited at least a majority of
partnership interests the outstanding OP Units
which constitute a quorum to sell all or
vote. The Atlanta substantially all of the
Marquis and PHLP Operating Partnership's
partnership agreements assets and properties,
contain no provision Upon dissolution, Host
concerning the REIT, as general partner,
requirement of a limited or any liquidator will
partner vote to effect a proceed to liquidate the
dissolution. In the assets of the Operating
absence of such a Partnership and apply the
provision, the Delaware proceeds therefrom in the
Act provides that a order of priority set
limited partnership may forth in the Partnership
be dissolved by the Agreement.
affirmative vote of the
general partner and 66
2/3% of the limited
partnership interests.
Under each of the partnership agreements, the Partnership Agreement and
Host REIT's Declaration of Trust, the respective entities may be dissolved with
the consent of a certain percentage of the outstanding interests.
202
<PAGE>
- --------------------------------------------------------------------------------
PARTNERSHIPS OPERATING PARTNERSHIP HOST REIT
- --------------------------------------------------------------------------------
Amendments
- ----------
The Atlanta Marquis, Amendments to the Amendments to Host
Chicago Suites and PHLP Partnership Agreement REIT's Declaration of
partnership agreements may be proposed by Host Trust must be approved
allow the General Partner REIT, as general by the Board of Trustees
to amend the partnership partner of the and by the vote of at
agreement with the Operating Partnership, least two-thirds of the
consent of a majority of or any limited partner votes entitled to be
the outstanding limited holding 25% or more of cast at a meeting of
partnership interests the limited partnership shareholders, except
(including those limited interests. Subject to that an amendment of the
partnership interests certain exceptions, provisions relating to
held by the General such proposed amendment the classified Board of
Partner). The Desert must be approved by the Trustees and the power
Springs, Hanover, MHP and vote of Host REIT, as to remove trustees must
MHP2 partnership general partner, and be approved by an 80%
agreements allow the the holders of at least vote. An amendment
General Partner to amend a majority of the relating to termination
the partnership agreement outstanding limited of REIT status requires
with the consent of a partnership interests a majority of the votes
majority of outstanding of the Operating entitled to be cast
limited partnership Partnership, including thereon.
interests, including any limited partnership
such interests held by interests held by Host
the General Partner, REIT. In addition,
unless the General with certain
Partner has an interest exceptions, Host REIT,
in the vote, in which as general partner, has
case, the General Partner broad discretion to
must vote any limited amend the Partnership
partnership interests it Agreement without the
holds in the same manner consent of the limited
that the majority of partners.
"outside" limited
partnership interests
which constitute a quorum
vote. The MDAH
partnership agreement
allows the General
Partner to amend the
partnership agreement
with the consent of a
majority of outstanding
limited partnership
interests, including
those held by the General
Partner, unless the
General Partner has an
interest in the vote, in
which case the General
Partner will be
prohibited from voting
its limited partnership
interests. Certain
amendments to the
partnership agreements
generally require the
unanimous consent of the
limited partners,
including: (i)
converting the interest
of a Limited Partner into
a general partner's
interest; (ii) any act
adversely affecting the
liability of a Limited
Partner; (iii) altering
the interest of a Partner
in net profits, net
losses, gain, loss or
distributions of cash
available for
distribution, sale
proceeds or refinancing
proceeds; (iv) reducing
the percentage of
Partners which is
required to consent to
any action in the
partnership agreement;
(v) limiting in any
manner the liability of
the General Partner or
(vi) causing the
Partnership to be taxed,
for federal income tax
purposes, as an
association taxable as a
corporation.
Under both the partnership agreements and the Partnership Agreement,
amendment to the respective partnership agreement may be made with the consent
of the limited partners. Under the provisions of the Partnership Agreement,
Host REIT, as general partner of the Operating Partnership, has broad discretion
to make amendments even without the consent of the limited partners. Amendment
of Host REIT's Declaration of Trust requires the consent of both the Board of
Trustees and a certain percentage of the votes entitled to be cast at a meeting
of shareholders.
203
<PAGE>
- --------------------------------------------------------------------------------
PARTNERSHIPS OPERATING PARTNERSHIP HOST REIT
- --------------------------------------------------------------------------------
Compensation, Fees and Distributions
------------------------------------
Under the partnership Host REIT will not The trustees of Host
agreements of the receive any compensation REIT will receive
Partnerships, the General for its services as compensation for their
Partners do not receive general partner of the services as described
any fees or other Operating Partnership. herein under
compensation from their Host REIT, however, has "Management."
Partnerships in exchange the same right to
for their services as allocations and
general partner. The distributions as other
General Partner of each partners of the
Partnership is entitled, Operating Partnership.
however, to reimbursement In addition, the
for the cost of providing Operating Partnership
any administrative or will pay (or reimburse
other services rendered Host REIT for) all
to its Partnership. The expenses that Host REIT
General Partners are also incurs (subject to
entitled to distributions several very limited
with respect to their exceptions), including
respective percentage expenses incurred
interests in the relating to the REIT
Partnerships, as well as Conversion, the ongoing
certain additional operation of Host REIT
back-end participations and any other offering
in cash flow and excess of additional OP Units
sale and refinancing or Common Shares,
proceeds after the including all expenses,
Limited Partners have damages and other
received certain payments resulting from
investment returns. See or arising in connection
"Background and Reasons with litigation related
for the Mergers and the to any of the foregoing,
REIT Conversion -- and expenses for federal
Reimbursements and state and local income
Distributions to the taxes incurred by Host
General Partners." REIT.
Neither the General Partners nor Host REIT, as general partner of the
Operating Partnership, receive compensation in exchange for their services as
general partner. The trustees of Host REIT, however, do receive compensation
for their services as trustees.
204
<PAGE>
ERISA CONSIDERATIONS
Status of Host REIT and the Operating Partnership Under ERISA
This section discusses the extent to which the fiduciary requirements of
ERISA and the prohibited transaction provisions of ERISA and the Code would
apply to Host REIT or the Operating Partnership because one or more investors in
Host REIT or the Operating Partnership is an ERISA Plan or Other Plan.
If the underlying assets of Host REIT are deemed to be assets of an
investing ERISA Plan and Other Plan ("Plan Assets"), (i) the prudence standards
and other provisions of Part 4 of Title I of ERISA and the prohibited
transaction provisions of ERISA and the Code would be applicable to any
transactions involving Host REIT's assets, and (ii) persons who exercise any
authority or control over Host REIT's assets, or who provide investment advice
to Host REIT for a fee or other compensation, would be (for purposes of ERISA
and the Code) fiduciaries of ERISA Plans and Other Plans that acquire Common
Shares of Host REIT. Similarly, if the underlying assets of the Operating
Partnership are deemed to be Plan Assets, (i) the prudence standards and other
provisions of Part 4 of Title I of ERISA and the prohibited transaction
provisions of ERISA and the Code would be applicable to any transactions
involving the Operating Partnership's assets, and (ii) persons who exercise any
authority or control over the Operating Partnership's assets, or who provide
investment advice to the Operating Partnership for a fee or other compensation,
would be (for purposes of ERISA and the Code) fiduciaries of ERISA Plans and
Other Plans that acquire Common Shares of Host REIT.
The United States Department of Labor ("DOL"), which has certain
administrative responsibility over ERISA Plans and certain Other Plans, has
issued a regulation defining plan assets for certain purposes ("DOL
Regulation"). The DOL Regulation generally provides that when an ERISA Plan or
Other Plan acquires a security that is an equity interest in an entity and that
security is neither a "publicly offered security" nor a security issued by an
investment company registered under the 1940 Act, the assets of the ERISA Plan
or Other Plan include both the equity interest and an undivided interest in each
of the underlying assets of the entity, unless it is established either that the
entity is an "operating company" (as defined in the DOL Regulation) or that
equity participation in the entity by "benefit plan investors" is not
"significant."
The DOL Regulation defines a "publicly offered security" as a security that
is "widely-held," "freely transferable," and either part of a class of
securities registered under the Exchange Act, or sold pursuant to an effective
registration statement under the Securities Act (provided the securities are
registered under the Exchange Act within 120 days, or such later time as may be
allowed by the Commission (the "Registration Period"), after the end of the
fiscal year of the issuer during which the offering occurred). Host REIT
anticipates that the Common Shares will be considered "publicly offered
securities," and therefore the underlying assets of Host REIT would not be
deemed to be Plan Assets of any ERISA Plan or Other Plan that invests in the
Common Shares.
The DOL Regulation defines "benefit plan investors" to consist of any
employee benefit plan as defined in section 3(3) of ERISA, any Other Plan, or
any entity whose underlying assets include Plan Assets by reason of an employee
benefit plan's investment in the entity. Equity participation in an entity by
"benefit plan investors" is deemed "significant" if, immediately after the most
recent acquisition of any equity interest in the entity, 25% or more of the
value of any class of equity interest is held by "benefit plan investors."
Furthermore, for purposes of determining the percentage interest in a class of
equity held by "benefit plan investors," the value of interests held by persons
who either have discretionary authority or control over the entity's assets, or
who provide investment advice for a fee, or are affiliates of such persons, is
disregarded.
205
<PAGE>
Based upon the value of the interests in the Partnerships owned by "benefit
plan investors" relative to the value of the interests in the Partnerships owned
by other Partnership investors, and the expected Exchange Value for each of the
Partnerships, the Operating Partnership believes that immediately following the
REIT Conversion "benefit plan investors" will not own a "significant" percentage
of OP Units, and, thus, the underlying assets of the Operating Partnership will
not constitute Plan Assets of any ERISA Plan or Other Plan that owns OP Units.
Furthermore, the Partnership Agreement will restrict ownership of OP Units by
benefit plan investors to less than 25%.
206
<PAGE>
FEDERAL INCOME TAX CONSIDERATIONS
Introduction
The following discussion summarizes the federal income tax considerations
reasonably anticipated to be material to a Limited Partner in connection with
(i) the acquisition of the Partnerships by the Operating Partnership through the
mergers of the Merger Partnerships into the Partnerships and the resulting
distribution of OP Units to the Limited Partners; (ii) the ownership and
subsequent disposition by the Limited Partners of such OP Units; (iii) the
acquisition and ownership of Notes received by Limited Partners who elect to
tender the OP Units received in the Mergers to the Operating Partnership in
exchange for Notes (the "Note Election"); and (iv) the ownership and disposition
of Common Shares that could be issued to Limited Partners upon the exercise of
their Unit Redemption Right. The following discussion is intended to address
only those federal income tax considerations that are generally applicable for
all Limited Partners in the Partnerships. Accordingly, it does not discuss all
aspects of federal income taxation that might be relevant to a specific Limited
Partner in light of his particular investment or tax circumstances. Therefore,
it is imperative that a Limited Partner review the following discussion and
consult with his own tax advisors to determine the interaction of his individual
tax situation with the anticipated tax consequences of the Mergers and the REIT
Conversion and the subsequent ownership and disposition of OP Units, Notes
and/or Common Shares, as applicable.
The following discussion provides general information only, is not
exhaustive of all possible tax considerations, and is not intended to be (and
should not be construed as) tax advice. For example, this summary does not give
a detailed description of any state, local or foreign tax considerations. In
addition, the discussion does not purport to deal with all aspects of taxation
that may be relevant to Limited Partners subject to special treatment under the
federal income tax laws, including, without limitation, insurance companies,
financial institutions or broker-dealers, tax-exempt organizations (except to
the extent discussed under the heading "Taxation of Tax-Exempt Shareholders of
Host REIT") or foreign corporations and persons who are not citizens or
residents of the United States (except to the extent discussed under the heading
"Taxation of Non-U.S. Shareholders of Host REIT").
The information in this section is based on the Code, current, temporary
and proposed Treasury Regulations thereunder, the legislative history of the
Code, current administrative interpretations and practices of the IRS (including
its practices and policies as endorsed in private letter rulings, which are not
binding on the IRS), and court decisions, all as of the date hereof. No
assurance can be given that future legislation, Treasury Regulations,
administrative interpretations and court decisions will not significantly change
the current law or adversely affect existing interpretations of current law.
Any such change could apply retroactively to transactions preceding the date of
the change. No assurance can be provided that the statements set forth herein
(which do not bind the IRS or the courts) will not be challenged by the IRS or
will be sustained by a court if so challenged. With the one exception described
in the next sentence below, neither Host REIT, the Operating Partnership nor the
General Partners have requested or plan to request any rulings from the IRS
concerning the tax consequences of the Mergers or the treatment of either the
Operating Partnership or Host REIT subsequent to the REIT Conversion. The
Operating Partnership has requested from the IRS a ruling to the effect that
certain indebtedness that might be incurred by the Operating Partnership that is
not secured by any particular property of the Operating Partnership, the
proceeds of which may be used to repay indebtedness of the Operating Partnership
or one or more Hotel Partnerships after the REIT Conversion, would qualify as
"nonrecourse liabilities" for purposes of Code Section 752 and as "qualified
nonrecourse financing" for purposes of Code Section 465. This ruling request is
discussed below, in "Tax Consequences of the Mergers -- IRS Ruling Request
Regarding Allocation of Partnership Liabilities."
207
<PAGE>
Host REIT, the Operating Partnership and the General Partners have obtained
an opinion of counsel to the effect that the discussion set forth in this
section, to the extent it contains descriptions of applicable federal income tax
law, is correct in all material respects. Such opinion, however, does not
purport to address the tax consequences of the Mergers and the REIT Conversion
to any particular Limited Partner in a Partnership in light of his particular
circumstances, nor does it purport to predict whether, and the extent to which,
future events and transactions, only some of which may be within the control of
Host REIT and/or the Operating Partnership, will have a material adverse impact
on the income tax positions of Limited Partners, either in particular
Partnerships or as a whole.
The following description does not address the income tax consequences of
the Mergers for Host or the General Partners.
The following discussion is not intended to be, and should not be construed
by a Limited Partner as, tax advice. THE SPECIFIC TAX ATTRIBUTES OF A
PARTICULAR LIMITED PARTNER COULD HAVE A MATERIAL IMPACT ON THE TAX CONSEQUENCES
OF THE MERGERS, THE SUBSEQUENT OWNERSHIP AND DISPOSITION OF OP UNITS OR NOTES
AND/OR THE SUBSEQUENT OWNERSHIP AND DISPOSITION OF COMMON SHARES. THEREFORE, IT
IS ESSENTIAL THAT EACH LIMITED PARTNER CONSULT WITH HIS OWN TAX ADVISORS WITH
REGARD TO THE APPLICATION OF THE FEDERAL INCOME TAX LAWS TO SUCH LIMITED
PARTNER'S PERSONAL TAX SITUATION, AS WELL AS ANY TAX CONSEQUENCES ARISING UNDER
THE LAWS OF ANY STATE, LOCAL, OR FOREIGN TAXING JURISDICTION. THE FOLLOWING
DISCUSSION IS NOT INTENDED AS A SUBSTITUTE FOR CAREFUL TAX PLANNING, AND A
LIMITED PARTNER SHOULD RELY ONLY ON THE ADVICE OF HIS OWN TAX ADVISORS WITH
RESPECT TO THE TAX CONSEQUENCES OF THE MERGERS AND THE REIT CONVERSION AND THE
SUBSEQUENT OWNERSHIP AND DISPOSITION OF OP UNITS, NOTES AND/OR COMMON SHARES.
Summary of Tax Opinions
Hogan & Hartson L.L.P. ("Hogan & Hartson"), counsel to Host REIT, Host and
the Operating Partnership, has provided to Host REIT and the Operating
Partnership an opinion letter (substantially in the form of Appendix C hereto)
as to certain federal income tax consequences to the Operating Partnership and
the Limited Partners resulting from the REIT Conversion and the Mergers. The
opinion letter is based upon certain assumptions and certain representations
provided by Host REIT, Host, the Operating Partnership and the Hotel Partnership
General Partners. These representations generally involve factual matters
relating to the organization, ownership and operations (including the income,
assets, businesses, liabilities and properties) of the Partnerships and the
Hotels contributed to the Operating Partnership by Host and the Blackstone
Entities prior to the REIT Conversion and the Mergers and of Host REIT, the
Operating Partnership and the Partnerships following the REIT Conversion and the
Mergers.
The specific opinions that Hogan & Hartson has provided (as they relate to
the Limited Partners and the impact on them of the Mergers and the REIT
Conversion) are:
1. The proposed method of operation of the Operating Partnership is such
that it and each of the Partnerships will be treated as a partnership
for federal income tax purposes and will not be subject to tax as a
corporation or an association taxable as a corporation.
2. Except for any gain attributable to the sale of personal property to a
Non-Controlled Subsidiary in connection with the REIT Conversion, the
Mergers will not result in the recognition of taxable gain or loss at
the time of the Mergers to a Limited Partner
208
<PAGE>
(i) who does not exercise his Unit Redemption Right on a date sooner
than the date two years after the date of the consummation of the
Mergers; (ii) who does not receive a cash distribution (or a deemed
cash distribution resulting from relief from liabilities, including as
a result of the prepayment of certain indebtedness) in connection with
the Mergers in excess of such Limited Partner's aggregate adjusted
basis in his Partnership Interest at the time of the Mergers; (iii)
who does not receive a Note upon the exercise of his right to make the
Note Election; (iv) who is not required to recognize gain by reason of
the exercise by another Limited Partner in the same Partnership of his
right to make the Note Election; and (v) whose "at risk" amount does
not fall below zero as a result of the Mergers.
3. The Unit Redemption Right will not be considered "other consideration"
such that its receipt in the Mergers would result in a Limited Partner
being treated under the "disguised sale" rules as having sold all or a
portion of his Partnership Interest to the Operating Partnership in
the Mergers.
4. A Limited Partner's exercise of his Unit Redemption Right more than
two years after the date of consummation of the Mergers will not cause
the Mergers to constitute a taxable transaction for the Limited
Partner (or for the other Limited Partners in the same Partnership).
5. It is more likely than not that a Limited Partner's exercise of his
Unit Redemption Right more than one year after the date of
consummation of the Mergers but less than two years after such date
will not cause the Mergers to constitute a taxable transaction for the
Limited Partner (or for the other Limited Partners in the same
Partnership).
6. Although the matter is not free from doubt, a Limited Partner who does
not exercise his right to make the Note Election should not be
required to recognize gain by reason of the exercise of such right by
another Limited Partner in the same Partnership. In any event, such
Limited Partner would not recognize gain in excess of the amount of
such Limited Partner's allocable share of such gain (determined
pursuant to his Partnership's partnership agreement).
7. A Limited Partner's relief from Partnership liabilities allocable to
such Limited Partner in connection with the Mergers and the REIT
Conversion and/or any subsequent repayment of certain indebtedness
encumbering the Hotels will not cause such Limited Partner to
recognize taxable gain at the time of the Mergers unless (and only to
the extent that) the amount thereof exceeds such Limited Partner's
adjusted basis in his Partnership Interest at the time of the Mergers.
8. The discussion herein under the heading "Federal Income Tax
Considerations," to the extent it contains descriptions of applicable
federal income tax law, is correct in all material respects.
In addition, on the Closing Date, Hogan & Hartson expects to provide to
Host REIT and the Operating Partnership an opinion letter (substantially in the
form of Appendix D hereto) to the effect that (i) Host REIT, beginning with its
first taxable year commencing after the REIT Conversion, will be organized in
conformity with the requirements for qualification as a REIT, and its proposed
method of operation will enable it to meet the requirements for qualification
and taxation as a REIT under the Code; and (ii) the Leases will be respected as
leases for federal income tax purposes. This opinion letter will be based upon
certain assumptions and certain representations provided by Host REIT, Host, the
Operating Partnership and the Hotel Partnership general partners. These
representations generally will involve factual matters relating to the
organization,
209
<PAGE>
ownership and operations (including the income, assets, businesses, liabilities
and properties) of Host REIT, the Operating Partnership, the Hotel Partnerships,
the Subsidiary Partnerships (as defined below), the Non-Controlled Subsidiaries,
and SLC and the Lessees following the REIT Conversion.
The opinions already rendered by Hogan & Hartson are based on the Code and
Treasury Regulations in effect on the date hereof, current administrative
interpretations and positions of the IRS and existing court decisions, and the
opinions to be rendered by Hogan & Hartson L.L.P. on the Closing Date will be
based on the same authorities as of the Closing Date. No assurance can be given
that future legislation, Treasury Regulations, administrative interpretations
and court decisions will not significantly change the law or the above
conclusions reached by counsel. In addition, any such change could apply
retroactively to transactions preceding the date of change. Moreover, opinions
of counsel merely represent counsel's best judgment with respect to the probable
outcome on the merits and are not binding on the IRS or the courts.
Accordingly, even if there is no change in applicable law, no assurance can be
provided that such opinions (which do not bind the IRS or the courts) will not
be challenged by the IRS or will be sustained by a court if so challenged. With
the exception of the ruling request described below in "Tax Consequences of the
Mergers -- IRS Ruling Request Regarding Allocation of Partnership Liabilities,"
neither Host REIT, the Operating Partnership nor the General Partners have
requested or plan to request any rulings from the IRS concerning the tax
consequences of the Mergers or the treatment of either the Operating Partnership
or Host REIT subsequent to the REIT Conversion.
Tax Status of the Operating Partnership
An entity classified as a partnership for federal income tax purposes
generally is not itself a taxable entity and incurs no federal income tax
liability. Therefore, partners are required to take into account in computing
their federal income tax liability their allocable shares of income, gains,
losses, deductions and credits of the partnership, regardless of whether cash
distributions are made by the partnership to the partners. A distribution of
money by a partnership to a partner generally is not taxable unless the amount
of the distribution is in excess of the partner's adjusted basis in his
partnership interest.
Pursuant to Treasury Regulations under Section 7701 of the Code, a
partnership will be treated as a partnership for federal income tax purposes
unless it elects to be treated as a corporation or would be treated as a
corporation because it is a "publicly traded partnership." Neither the
Operating Partnership, any of the Hotel Partnerships, nor any of the
partnerships or limited liability companies in which either the Operating
Partnership or the Hotel Partnerships will have an interest following the REIT
Conversion (the "Subsidiary Partnerships") will elect to be treated as a
corporation, and therefore, subject to the disclosure below, each will be
treated as a partnership for federal income tax purposes (or if it has only one
partner or member, disregarded entirely for federal income tax purposes).
Pursuant to Section 7704 of the Code, however, a partnership that does not
elect to be treated as a corporation nevertheless will be treated as a
corporation for federal income tax purposes if it is a "publicly traded
partnership," unless at least ninety percent (90%) of its income consists of
"qualifying income" under that section. A "publicly traded partnership" is any
partnership (i) the interests in which are traded on an established securities
market, or (ii) the interests in which are readily tradable on a "secondary
market (or the substantial equivalent thereof)." OP Units will not be traded on
an established securities market. There is a significant risk, however, that
after the Unit Redemption Right becomes exercisable, the OP Units would be
considered readily tradable on the substantial equivalent of a secondary market.
Hogan & Hartson is of the opinion, based upon representations by Host REIT
and the Operating Partnership as to the expected ownership and operations of the
Operating Partnership,
210
<PAGE>
that even if the Operating Partnership were considered to be a publicly traded
partnership because OP Units were considered to be readily tradable on the
substantial equivalent of a secondary market, the proposed method of operation
of the Operating Partnership is such that it will qualify as a partnership for
federal income tax purposes because it will have sufficient "qualifying income."
In this regard, the income requirements generally applicable to REITs and the
definition of "qualifying income" under Section 7704 of the Code are similar in
most key respects. There is one significant difference, however, that is
relevant to the Operating Partnership. For a REIT, rent from a tenant does not
qualify as "rent from real property" if the REIT and/or one or more actual or
constructive owners of 10% or more of the REIT actually or constructively own
10% or more of the tenant; under Section 7704 of the Code, however, rent from a
tenant is not qualifying income if a partnership and/or one or more actual or
constructive owners of 5% or more of the partnership actually or constructively
own 10% or more of the tenant. A substantial majority of the Operating
Partnership's income will come from rent payments by the Lessees, which will be
indirect controlled subsidiaries of SLC. Accordingly, because The Blackstone
Group, Host REIT and any owner of 10% or more of Host REIT will own (or be
deemed to own) 5% or more of the Operating Partnership, if The Blackstone Group,
Host REIT, and/or any owner of 10% or more of Host REIT were to own (or be
deemed to own) 10% or more of SLC, none of the rent from the Lessees would be
qualifying income for purposes of determining whether the Operating Partnership
should be taxed as a corporation. In order to avoid this result, the SLC
Articles of Incorporation expressly provide that no person, including The
Blackstone Group, Host REIT, and any owner of 10% or more of Host REIT, may own
more than 9.8% by value of the interests in SLC, and the SLC Articles of
Incorporation contain self-executing mechanisms intended to enforce this
prohibition. In addition, the Partnership Agreement prohibits any person or
entity (other than The Blackstone Group and Host REIT) from owning, actually
and/or constructively, more than 4.9% of the Operating Partnership, and Host
REIT's Declaration of Trust prohibits any person or entity (including The
Blackstone Group and the Marriott family as a group) from owning, actually
and/or constructively, more than 9.8% of the total outstanding stock, by value,
of Host REIT. Assuming that all of these prohibitions are enforced at all times,
then so long as the Operating Partnership's income is such that Host REIT could
meet the gross income tests applicable to REITs (see "Federal Income Taxation of
Host REIT Following the Mergers -- Income Tests Applicable to REITs" and "--
Ownership of Partnership Interests by a REIT"), the Operating Partnership's
"qualifying income" should be sufficient for it to avoid being classified as a
corporation even if it were considered a publicly traded partnership.
If the Operating Partnership were considered a publicly traded partnership
(because the OP Units were considered readily tradable on the substantial
equivalent of a secondary market) but not treated as a corporation for federal
income tax purposes (because it meets the "qualifying income" exception), a
Limited Partner still could be subject to certain special rules applicable to
publicly traded partnerships. In particular, if the Operating Partnership were
a publicly traded partnership, a Limited Partner would be unable to use passive
losses from other passive activities including losses attributable to the
Partnerships for periods prior to the Mergers to offset his allocable share of
Operating Partnership gain and income. Conversely, any Operating Partnership
losses allocable to a Limited Partner could be used only as an offset against
such Limited Partner's allocable share of Operating Partnership income and gain
and not against income and gain from other passive activities.
The entire discussion of the federal income tax consequences of the Mergers
and the subsequent ownership of OP Units is based on the Operating Partnership
being classified as a partnership for federal income tax purposes. If the
Operating Partnership instead were taxable as a corporation, most, if not all,
of the tax consequences described below would be inapplicable. In particular,
the Operating Partnership itself would be subject to federal and state income
tax, thereby reducing the cash available for distribution to holders of OP
Units. Under such circumstances, the Mergers should be treated for federal
income tax purposes as contributions of the Partnership Interests to a
corporation under Section 351 of the Code, and accordingly, a Limited Partner
would recognize gain or loss on the transaction to the extent that the
Partnership liabilities allocable to the Limited Partner at the time of the
Mergers (see "Tax Consequences of the Mergers -- Relief from
211
<PAGE>
Liabilities/Deemed Cash Distribution" below) exceeded the Limited Partner's
adjusted basis in his Partnership Interest (i.e., the Limited Partner had a
"negative capital account"). Finally, under such circumstances, Host REIT would
not qualify as a REIT because the value of Host REIT's ownership interest in the
Operating Partnership would exceed 5% of Host REIT's assets and Host REIT would
be considered to hold more than 10% of the voting securities of another
corporation (see "Federal Income Taxation of Host REIT Following the Mergers --
Asset Tests Applicable to REITs"), which would adversely affect the value of the
Common Shares (and, indirectly, the value of the OP Units) (see "Federal Income
Taxation of Host REIT Following the Mergers -- Failure of Host REIT to Qualify
as a REIT"). However, as described above, Hogan & Hartson, counsel to the
Operating Partnership, is of the opinion that the proposed method of operation
of the Operating Partnership (as represented by the Operating Partnership and
Host) is such that it will be treated as a partnership for federal income tax
purposes and will not be subject to tax as a corporation or an association
taxable as a corporation. As noted previously, an opinion of counsel does not
bind the courts, and no assurance can be provided that such opinion will not be
challenged by the IRS or will be sustained by a court if so challenged.
Tax Consequences of the Mergers
Overview. As described in greater detail above (see "The REIT conversion
and the Mergers"), the Operating Partnership will acquire the Partnerships
through the mergers of the Merger Partnerships into the Partnerships, resulting
in the receipt of OP Units by the Partners of the Partnerships. The Operating
Partnership intends that the Mergers will be treated for federal income tax
purposes as the transfer by the Partners of their interests in the Partnerships
to the Operating Partnership in exchange for OP Units, and the discussion herein
assumes that the Mergers will be so treated. There can be no assurance, however,
that the IRS will not seek to recharacterize each Merger as either (i) the
liquidation of a Partnership followed by the distribution by the Partnership of
its assets to its Partners and the subsequent transfers by such Partners of such
assets to the Operating Partnership in exchange for OP Units or (ii) the
transfer by a Partnership of its assets to the Operating Partnership in exchange
for OP Units and the subsequent distribution of such OP Units to its Partners.
For a discussion of the tax consequences that would occur if the Mergers are
recharacterized in either of these two alternative manners, see "-- Alternative
Recharacterizations of the Mergers."
Section 721 of the Code provides that no gain or loss is recognized in the
case of a contribution of property to the partnership in exchange for an
interest in the partnership. The nonrecognition rule of Section 721 ordinarily
applies even when the property transferred is subject to liabilities (so long as
the assumption of such liabilities does not result in a deemed distribution of
cash in excess of a transferor's basis in the property transferred to a
partnership). Accordingly, Section 721 generally would apply to prevent the
recognition of gain by a Limited Partner in the Mergers. However, there are
several potential exceptions to the availability of nonrecognition treatment
under Section 721, including the following:
1. Any decrease in a contributing partner's liabilities (including its
share of liabilities with respect to a partnership interest contributed to
another partnership), if not offset by a corresponding increase in the partner's
share of other partnership liabilities, could cause the partner to recognize
taxable gain as a result of the partner being deemed to have received a cash
distribution from the partnership. This recognition of gain could occur even if
the decrease arose in connection with a contribution that would otherwise
qualify for tax-free treatment under Section 721 of the Code. A decrease in a
partner's liabilities (and a resulting deemed cash distribution) also might
occur after a contribution upon a repayment by the partnership of part or all of
such liabilities. For example, a Limited Partner would be deemed to receive a
cash distribution upon the prepayment or repayment of existing indebtedness of
his Partnership, unless such prepayment or repayment were accompanied by the
incurrence of new debt in an equal or greater amount that would be considered
212
<PAGE>
to be nonrecourse liabilities properly attributable to the Hotels owned by the
Partnership whose existing debt was repaid.
2. A contribution of property that is treated in whole or in part as a
"disguised sale" of the contributed property under the Code.
3. A contribution of property to a partnership that is classified as an
"investment company" under the Code.
4. Recapture under Section 465(e) of the Code.
The Operating Partnership, the General Partners and Hogan & Hartson believe
that the foregoing exceptions, which are discussed in greater detail below,
should not result in the recognition of taxable gain or loss at the time of the
Mergers to a Limited Partner (i) who does not receive a distribution (or a
deemed distribution resulting from relief from liabilities) that exceeds such
Limited Partner's aggregate adjusted basis in his OP Units after the Mergers;
and (ii) whose at risk amount does not go below zero as a result of the Mergers.
See, however, "-- Taxable Income Attributable to Sales of Personal Property in
Connection with the REIT Conversion." The Operating Partnership, the General
Partners and Hogan & Hartson also believe that a Limited Partner who acquired
his Partnership Interest in the original offering of such Interests and who has
held such Interest at all times since (a) should not be considered to receive,
as a result of the Mergers, a distribution (or a deemed distribution resulting
from relief from liabilities) that exceeds such Limited Partner's aggregate
adjusted basis in his OP Units at the time of the Mergers, and (b) should not
have his "at risk" amount fall below zero as a result of the Mergers. See "--
Assumptions Used in Determining Tax Consequences of the Mergers" below. (The
adjusted tax basis of a Limited Partner who did not acquire his Partnership
Interest in the original offering of such Interests for cash, however, could
vary materially from that of a Limited Partner who did so, and, thus, the
Mergers could result in the receipt by such Limited Partner of a distribution
(or deemed distribution) of cash in excess of such Limited Partner's adjusted
tax basis in his Partnership Interest and/or a reduction in his "at risk" amount
below zero, either of which could result in the recognition of income or gain by
such Limited Partner.)
Even if a Limited Partner does not recognize gain at the time of the
Mergers as a result of the foregoing exceptions to nonrecognition treatment, a
variety of events and transactions subsequent to the Mergers (including a sale
or other disposition of one or more Hotels owned by the Partnerships or a
refinancing or repayment of indebtedness currently secured by one or more of the
Hotels owned by the Partnerships) could cause a Limited Partner to recognize all
or part of the gain that has been deferred through the Mergers. See "-- Effect
of Subsequent Events" below. Certain Hotels (including all of the Blackstone
Hotels) will be covered by agreements with third parties which will restrict the
Operating Partnership's ability to dispose of those properties or refinance
their indebtedness. In addition, if Atlanta Marquis chooses to participate in
the Mergers, the Operating Partnership will succeed to an existing agreement
that will restrict its ability to dispose of the Hotel owned by Atlanta Marquis
or refinance the indebtedness secured by such Hotel for approximately 11 1/2
years following the Mergers. As for the remaining properties (including the
Hotels owned by the Partnerships other than Atlanta Marquis), the Partnership
Agreement of the Operating Partnership does not impose any restrictions on the
Operating Partnership's ability to dispose of the Hotels or to refinance
indebtedness secured by the Hotels. In addition, the Partnership Agreement
expressly provides that Host REIT, as general partner of the Operating
Partnership, is not required to take into account the tax consequences for the
limited partners in the Operating Partnership in deciding whether to cause the
Operating Partnership to undertake specific transactions and the limited
partners, as holders of OP Units, have no right to approve or disapprove such
transactions owned by the Partnerships. See "Description of OP Units--Sales of
Assets."
Taxable Income Attributable to Sales of Personal Property in Connection
with the REIT Conversion. As discussed below in "Federal Income Taxation of
Host REIT Following the REIT Conversion -- Income Tests Applicable to REITs," if
the rent attributable to personal property leased
213
<PAGE>
in connection with the lease of each Hotel is greater than 15% of the total rent
received under the lease of such Hotel, the portion of the rent attributable to
the personal property will not constitute qualifying income to Host REIT (the
"15% Personal Property Test"). The Operating Partnership and the General
Partners have determined that the percentage of rent attributable to the
personal property to be leased in connection with the lease of certain of the
Hotels owned by PHLP, MHP, Atlanta Marquis and Hanover would not satisfy the 15%
Personal Property Test. Accordingly, immediately prior to the Mergers, the
Operating Partnership will require each of those Partnerships, if it chooses to
participate in the Mergers, to sell to a Non-Controlled Subsidiary a portion of
the personal property associated with some or all of its Hotels. This sale,
which will be a taxable transaction, will result in the recognition by each such
Partnership of a relatively modest amount of taxable income to the extent that
there is a difference between the fair market value of the personal property at
the time of the sale and the adjusted tax basis of such property at that time.
This taxable income will be allocated to the partners of each such Partnership,
except that the Limited Partners of Hanover will not be allocated any portion of
such taxable income. The actual amount of such income will be determinable only
at the time of the sale and will be affected by the specific personal property
selected to be sold and the fair market value and adjusted basis of that
personal property. Pursuant to the partnership agreement of each Partnership,
all of such taxable gain will be recharacterized as ordinary recapture income
and will be allocated to the Partners in the same proportions and to the same
extent that such Partners were allocated any deductions directly or indirectly
giving rise to the treatment of such gains as recapture income prior to the
Mergers.
Relief from Liabilities/Deemed Cash Distribution. A Limited Partner will
be deemed to receive a cash distribution in connection with the Mergers to the
extent that his share of Operating Partnership liabilities immediately after the
Mergers is less than his share of Partnership liabilities immediately prior to
the Mergers. A Limited Partner will recognize taxable gain as a result of this
deemed cash distribution, however, only to the extent that the deemed cash
distribution exceeds such Limited Partner's adjusted tax basis in his
Partnership Interest immediately prior to the Mergers. Whether the deemed cash
distribution results in taxable gain depends upon a number of circumstances that
can be determined only with full knowledge of the circumstances of both the
Operating Partnership and the particular Limited Partner.
Under the applicable provisions of the Code, partners in a partnership
include their share of the partnership's liabilities, as determined in
accordance with the Treasury Regulations under Section 752 of the Code, in
calculating the basis of their partnership interests. Partners also include in
the basis of their partnership interests the adjusted tax basis of any capital
contributions that they have actually made to the partnership and their
allocable share of all partnership income and gains; partners reduce the basis
in their partnership interests by the amount of all distributions that they
receive from the partnership and their allocable share of all partnership
losses. For purposes of these rules, if a partner's share of the partnership's
liabilities is reduced for any reason, the partner is deemed to have received a
cash distribution equal to the amount of such reduction.
In the case of the Mergers, these rules generally will be applied by
reference to a Limited Partner's share of liabilities in a Partnership
immediately before the Mergers and such Limited Partner's share of liabilities
in the Operating Partnership immediately after the Mergers. Any deemed cash
distribution resulting from a reduction in such Limited Partner's share of
liabilities will be considered to be a deemed cash distribution from the
Operating Partnership (rather than from the Partnership with respect to which
such Limited Partner's share of liabilities would be reduced). A Limited
Partner may offset his share of the liabilities of the Operating Partnership
against the elimination of the Limited Partner's share of liabilities of a
Partnership in determining the amount of the deemed cash distribution to the
Limited Partner from the Operating Partnership; however, if a Limited Partner is
deemed under these rules to receive a cash distribution from the Operating
Partnership in an amount in excess of the basis of the Partnership Interest
owned by that Limited Partner immediately prior to the Mergers, the Limited
Partner may recognize taxable gain. If a Limited Partner owns interests in more
than one Participating Partnership, then such Limited Partner should be able to
aggregate his bases in such Partnership Interests in determining whether
214
<PAGE>
such Limited Partner is deemed to receive a taxable cash distribution from the
Operating Partnership so long as the intended characterization of the Mergers is
respected (i.e., the Mergers are treated as contributions by the Limited
Partners of their Partnership Interests in exchange for OP Units).
Section 752 of the Code and the Treasury Regulations thereunder provide
that a partner's share of partnership liabilities includes the partner's share
of partnership recourse liabilities plus the partner's share of partnership
nonrecourse liabilities. A partnership liability is a recourse liability to the
extent that any partner (or a person related to any partner) bears the "economic
risk of loss" for that liability within the meaning of the Treasury Regulations;
a partnership liability is nonrecourse to the extent that no partner (or related
person) bears the "economic risk of loss." No Limited Partner (other than
possibly Host REIT or an affiliate of Host REIT) will have any share of any
recourse liability of the Operating Partnership, but each Limited Partner will
have a share of the nonrecourse liabilities of the Operating Partnership. The
following paragraphs describe the manner in which a Limited Partner's share of
the nonrecourse liabilities of the Operating Partnership will be determined.
Pursuant to Section 752 of the Code and the Treasury Regulations
thereunder, a partner's share of partnership nonrecourse liabilities is
determined under a three-tier approach. Under this approach, a partner's share
of partnership nonrecourse liabilities equals the sum of (i) the partner's share
of "partnership minimum gain," determined in accordance with the rules of
Section 704(b) of the Code and the Treasury Regulations thereunder ("tier one");
(ii) the amount of any taxable gain that would be allocated to the partner under
Section 704(c) of the Code (or in the same manner as Section 704(c) of the Code
in connection with a revaluation of partnership property) if the partnership
disposed of all partnership property (in a taxable transaction) subject to one
or more nonrecourse liabilities of the partnership in full satisfaction of such
liabilities and for no other consideration ("Section 704(c) Minimum Gain" or
"tier two"); and (iii) the partner's share of "excess nonrecourse liabilities"
(i.e., those not allocated under (i) and (ii) above), which are allocated in
accordance with the partner's "share of partnership profits" ("tier three"). A
partner's "share of partnership profits" is determined by taking into account
all facts and circumstances of the economic arrangement among the partners.
At the time of the Mergers, the Operating Partnership will not have any
"partnership minimum gain," determined in accordance with the rules of Section
704(b) of the Code and the Treasury Regulations thereunder. Therefore, each
nonrecourse liability of the Operating Partnership secured by a Hotel will be
allocated to each Limited Partner in accordance with "tiers" two and three
described in the Treasury Regulations under Section 752 of the Code. First,
pursuant to "tier two," such liabilities will be allocated to each Limited
Partner in the amount of such Limited Partner's share of any Section 704(c)
Minimum Gain with respect to such Hotel, after taking into account any reduction
in the liabilities occurring in connection with the Mergers. Next, pursuant to
"tier three," any remaining nonrecourse liabilities will be allocated to each
Limited Partner in accordance with such Limited Partner's share of Operating
Partnership profits, taking into account for such purposes Host REIT's share of
Operating Partnership profits.
The nonrecourse liabilities, if any, allocable to a Limited Partner by
reason of Section 704(c) Minimum Gain will depend upon a number of factors,
including, for example, (i) the Limited Partner's share of existing Section
704(c) Minimum Gain of the Hotel Partnerships at the time of the Mergers; (ii)
the extent to which the Operating Partnership causes nonrecourse liabilities as
to which there exists Section 704(c) Minimum Gain immediately prior to the
Mergers to be repaid or refinanced in connection with the Mergers in a manner
that reduces or eliminates that Section 704(c) Minimum Gain; and (iii) the
method selected by the Operating Partnership to allocate gain under Section
704(c) of the Code. The Operating Partnership will elect to allocate gain under
Section 704(c) of the Code under the "traditional method," which in the case of
the Limited Partners of a Participating Partnership that owns a Hotel with
Section 704(c) Minimum Gain, will not result in as
215
<PAGE>
great an allocation of Operating Partnership nonrecourse liabilities by reason
of Section 704(c) Minimum Gain to the Limited Partners as might be allocated
pursuant to another method. However, the use of this method will decrease the
ordinary taxable income that will be allocated to such Limited Partners (by
reason of depreciation adjustments), as compared with the amount that would be
allocated had another method been selected. See "Tax Treatment of Limited
Partners Who Hold OP Units Following the Mergers -- Tax Allocations With Respect
to Book-Tax Difference on Contributed Hotels."
The Operating Partnership will allocate any "excess nonrecourse
liabilities" in accordance with a Limited Partner's share of Operating
Partnership profits as represented by the Limited Partner's percentage ownership
interest the Operating Partnership.
Host REIT and the Operating Partnership believe that immediately after the
Mergers, and taking into account the election described above and the
assumptions set forth below (see "--Assumptions Used in Determining Tax
Consequences of the Mergers"), each Limited Partner who does not exercise his
right to make the Note Election and whose adjusted basis in his Partnership
Interest is equal to or greater than the Original Limited Partner's Adjusted
Basis for that Partnership will be allocated nonrecourse liabilities in an
amount such that such Limited Partner will not be deemed for federal income tax
purposes to have received a deemed cash distribution in excess of such Limited
Partner's basis in his Partnership Interest as a result of the Mergers. A
Limited Partner, however, whose adjusted basis in his Partnership Interest is
less than the Original Limited Partner's Adjusted Basis for that Partnership
could be deemed for federal income tax purposes, although it is unlikely, to
have received a deemed cash distribution in excess of such Limited Partner's
basis in his Partnership Interest as a result of the Mergers.
IRS Ruling Request Regarding Allocation of Partnership Liabilities. Except
as described herein, the Operating Partnership has no current plan or intention
to cause the prepayment of the nonrecourse liabilities encumbering the Hotels
owned by the Partnerships. The Operating Partnership, however, will have to
repay mortgage indebtedness securing the Hotels owned by the Partnerships at the
time such indebtedness matures. There can be no assurance that at such time the
Operating Partnership will be able to secure nonrecourse mortgage indebtedness
secured only by those Hotels in an amount sufficient to avoid a deemed cash
distribution to the former Limited Partners in that Partnership. (These
considerations are particularly relevant with respect to the Limited Partners in
PHLP, where the existing mortgage indebtedness, which matures in December 1998
but can be extended until December 1999, will have to be refinanced within one
year following the Mergers.) Moreover, the Operating Partnership's current
long-term financing strategy is to have as little debt as possible that is
secured by individual Hotels and to have as much debt as possible in the form of
unsecured debt, held either by the public or by institutional investors, which
debt may or may not be recourse to Host REIT, as general partner of the
Operating Partnership. In view of these considerations and the potential
adverse consequences to Limited Partners in certain Partnerships, the Operating
Partnership has requested from the IRS a ruling to the effect that such
unsecured indebtedness of the Operating Partnership that is issued initially to
institutional investors and is not recourse to Host REIT (i) would qualify as
"nonrecourse liabilities" for purposes of Code Section 752, (ii) to the extent
the proceeds thereof are applied to repay existing nonrecourse mortgage
indebtedness secured by one or more Hotels, would be considered to be "secured"
by those Hotels for purposes of computing the Section 704(c) Minimum Gain with
respect to such Hotels (and thus would be allocable under "tier two" to the
former Limited Partners in the Partnership owning those Hotels), and (iii) would
constitute "qualified nonrecourse financing" secured by such Hotels for purposes
of Code Section 465. The IRS has recently issued a ruling to that effect to
another taxpayer, and has indicated to the Operating Partnership's
representatives that it is favorably inclined to issue that ruling to the
Operating Partnership.
216
<PAGE>
Assumptions Used in Determining Tax Consequences of the Mergers. The
estimated adjusted tax basis in the OP Units used by the Operating Partnership
and the General Partners for purposes of this discussion has been computed based
on the assumption that each of the Limited Partners acquired his Partnership
Interest in the original offering of such Interests (this basis is referred to
as an "Original Limited Partner's Adjusted Basis"). The General Partners have
set forth on Appendix E to this Consent Solicitation for each Partnership (i)
the Original Limited Partner's Adjusted Basis as of December 31, 1997, and (ii)
an estimate of the Original Limited Partner's Adjusted Basis as of December 31,
1998 (computed without regard to the Mergers and based upon the assumptions set
forth in Appendix C to this Consent Solicitation). The General Partners also
have set forth on Appendix E to this Consent Solicitation for each Limited
Partner whose adjusted basis in his Partnership Interest is the same as the
Original Limited Partner's Adjusted Basis (i) the Partnership liabilities
allocable to such Limited Partner as of December 31, 1997, and (ii) an estimate
of the Partnership liabilities allocable to such Limited Partner as of December
31, 1998 (computed without regard to the Mergers and based upon the assumptions
set forth in Appendix C to this Consent Solicitation). The actual adjusted
tax basis of a Limited Partner in his Partnership Interest (and thus the
Partnership liabilities allocable to such Limited Partner and the gain, if any,
to such Limited Partner resulting from the Mergers and the REIT Conversion)
could vary materially from the amount set forth in Appendix E to this Consent
Solicitation, depending upon a number of factors, including when, and the manner
in which, such Limited Partner acquired his Partnership Interest. See "Tax
Treatment of Limited Partners Who Hold OP Units Following the Mergers -- Initial
Basis of OP Units."
Also, the determination of the amount of the Operating Partnership's
nonrecourse liabilities that will be allocated to a Limited Partner following
the Mergers assumes that the method to be used by the Operating Partnership to
allocate the liabilities among the Hotels will be respected for federal income
tax purposes. Finally, the Operating Partnership and the General Partners
assumed that the Mergers will be treated for federal income tax purposes as the
transfer by the Partners of their interests in the Partnerships to the Operating
Partnership in exchange for OP Units. There can be no assurance, however, that
the IRS will not seek to recharacterize each Merger as either (i) the
liquidation of a Partnership followed by the distribution by the Partnership of
its assets to its Partners and the subsequent transfers by such Partners of such
assets to the Operating Partnership in exchange for OP Units, or (ii) the
transfer by a Partnership of its assets to the Operating Partnership in exchange
for OP Units and the subsequent distribution of such OP Units to its Partners.
If the Mergers are recharacterized in such a manner, the tax consequences of the
Mergers to the Limited Partners likely will be materially affected.
Disguised Sale Regulations. The Mergers also will not be tax free to a
Limited Partner to the extent that a Merger is treated as a "disguised sale" of
all or a portion of such Limited Partner's Partnership Interest under the Code
or Treasury Regulations. Section 707 of the Code and the Treasury Regulations
thereunder (the "Disguised Sale Regulations") generally provide that, unless one
of certain prescribed exceptions is applicable, a partner's contribution of
property to a partnership and a simultaneous transfer of money or other
consideration (other than an interest in the partnership) from the partnership
to the partner will be treated as a sale, in whole or in part, of such property
by the partner to the partnership. Further, the Disguised Sale Regulations
provide generally that transfers of money or other consideration between a
partnership and a partner that are made within two years of each other are
presumed to be a sale unless the facts and circumstances clearly establish that
either the transfers do not constitute a sale or an exception to disguised sale
treatment applies.
For purposes of these rules, certain reductions in a partner's share of
partnership liabilities are treated as a transfer of money or other property
from the partnership to the partner which may give rise to a disguised sale,
even if that reduction would not otherwise result in a taxable deemed cash
distribution in excess of the partner's basis in his partnership interest. The
method of computing the existence and amount of any such reduction under the
Disguised Sale Regulations is
217
<PAGE>
different from, and generally more onerous than, that applied under the rules
discussed at "-- Relief From Liabilities/Deemed Cash Distribution," above.
However, if a transfer of property by a partner to a partnership is not
otherwise treated as part of a disguised sale, then any reduction in the
partner's share of "qualified liabilities" (discussed below) also will not be
treated as part of a disguised sale. Moreover, even if some or all of the
transfer does otherwise constitute a disguised sale, the amount of the reduction
in the partner's share of "qualified liabilities" may in some cases be computed
under a more favorable method than the amount of the reduction in the partner's
share of other liabilities.
1. Impact of Distributions of Cash Flow from the Operating Partnership.
-------------------------------------------------------------------
Cash distributions from a partnership to a partner may be treated as a transfer
of property for purposes of the "disguised sale" rules. However, one exception
to "disguised sale" treatment in the Disguised Sale Regulations relates to
distributions of "operating cash flow," as such term is defined in the Disguised
Sale Regulations. Operating cash flow distributions are presumed not to be a
part of a sale of property to a partnership unless the facts and circumstances
clearly establish that the distribution of operating cash flow is part of a
sale. The Disguised Sale Regulations define operating cash flow distributions
as distributions which (i) are not presumed to be guaranteed payments for
capital under the Disguised Sale Regulations, (ii) are not reasonable preferred
returns under the Disguised Sale Regulations, and (iii) are not characterized by
the parties as distributions to the partner acting in a capacity other than as a
partner, to the extent of the net cash flow of the partnership from operations
multiplied by the lesser of the percentage interest of the partner receiving the
distribution for that year or the partner's percentage interest in overall
partnership profits for the life of the partnership. The Disguised Sale
Regulations contain a safe harbor for calculating a partner's interest in such
operating cash flow.
Except with respect to Limited Partners who exercise the Note Election (see
"Impact of Limited Partners Who Exercise the Note Election" and "Tax Treatment
of Limited Partners Who Exercise Their Right to Make the Note Election") no
distribution of cash or other property will be made by the Operating Partnership
to the participating Limited Partners at the time of the Mergers. Host REIT and
the Operating Partnership believe that the Operating Partnership's periodic
distributions of cash to holders of OP Units subsequent to the Mergers will
qualify as distributions of "operating cash flow" under the Disguised Sale
Regulations, and that there will be no facts or circumstances indicating that
such distributions should be considered part of a sale. (Immediately prior to
the Mergers, the Partnerships may distribute to their partners any excess cash
on hand as well as cash flow for the period ending with the Mergers. However,
because such distributions will be made by the Partnerships, rather than the
Operating Partnership, the distributions should not give rise to a "disguised
sale" issue so long as the distributions were not financed with debt which was
incurred in anticipation of the Mergers.)
2. Impact of Assumption of Liabilities by the Operating Partnership. As
----------------------------------------------------------------
described above, a second exception to the "disguised sale" presumption relates
to the assumption of "qualified liabilities" in connection with a contribution
of property to a partnership. For purposes of the Disguised Sale Regulations, a
"qualified liability" in connection with a transfer of property to a partnership
includes (i) any liability incurred more than two years prior to the earlier of
the transfer of the property or the date the partner agrees in writing to the
transfer, as long as the liability has encumbered the transferred property
throughout the two-year period; (ii) a liability that was not incurred in
anticipation of the transfer of the property to a partnership, but that was
incurred by the partner within the two-year period prior to the earlier of the
date the partner agrees in writing to transfer the property or the date the
partner transfers the property to a partnership and that has encumbered the
transferred property since it was incurred; (iii) a liability that is traceable
under the Treasury Regulations to capital expenditures with respect to the
property; and (iv) a liability that was incurred in the ordinary course of the
trade or business in which property transferred to the partnership was used or
held, but only if all the assets related to that trade or business are
transferred, other than assets that are not material to a continuation of the
trade or business.
218
<PAGE>
However, a recourse liability is not a "qualified liability" unless the amount
of the liability does not exceed the fair market value of the transferred
property (less any other liabilities that are senior in priority and encumber
such property or any allocable liabilities described in (iii) or (iv), above) at
the time of transfer. A liability incurred within two years of the transfer is
presumed to be incurred in anticipation of the transfer unless the facts and
circumstances clearly establish that the liability was not incurred in
anticipation of the transfer. However, to the extent that the proceeds of a
partner or partnership liability are allocable under the Treasury Regulations to
payments discharging all or part of any other liability of that partner or of
the partnership, as the case may be, the newer liability is considered the same
as the older liability for purposes of the Disguised Sale Regulations. Finally,
if a partner treats a liability described in (ii) above as a "qualified
liability" because the facts clearly establish that it was not incurred in
anticipation of the transfer, such treatment must be disclosed to the IRS in the
manner set forth in the Disguised Sale Regulations.
The Operating Partnership and the General Partners believe that all direct
or indirect liabilities of the Partnerships fall into one of the four categories
of "qualified liabilities" described above. However, the Operating Partnership
and the General Partner estimate that approximately $19.3 million of Desert
Springs indebtedness ($22,200 per Desert Springs Partnership Unit) and $8.8
million of MHP indebtedness ($8,800 per MHP Partnership Unit), as of December
31, 1998, may be "qualified liabilities" solely by reason of exception (ii) in
the preceding paragraph (i.e., a liability incurred within two years of the
Mergers but not in anticipation of the Mergers), and thus Desert Springs and MHP
and their Limited Partners may be required to make disclosure with respect to
the indebtedness in their tax returns for the year in which the Mergers occur.
There can be no assurance, however, that the IRS will not challenge the position
of Desert Springs and MHP that this indebtedness is a "qualified liability."
3. Impact of Unit Redemption Right. For a discussion of the impact of the
-------------------------------
receipt and exercise of the Unit Redemption Right upon the potential
characterization of the Mergers as disguised sales, see "-- Unit Redemption
Right," below.
4. Impact of Limited Partners Who Exercise the Note Election. If the
---------------------------------------------------------
Mergers are recharacterized as partnership level transfers of the Partnership
assets, as described below in "-- Alternative Recharacterizations of the Mergers
- -- Transfer of Partnership Assets," there can be no assurance that the IRS would
not assert that a Limited Partner who does not exercise his right to make the
Note Election in connection with the Mergers must nevertheless recognize gain
under the Disguised Sale Regulations if another Limited Partner in the
Partnership does exercise such rights and receives Notes in connection with the
Mergers. As described in such section below, however, Hogan & Hartson is of the
opinion that, although the matter is not free from doubt, a Limited Partner who
does not exercise his right to make the Note Election should not be required to
recognize gain by reason of another Limited Partner's exercise of such right.
As noted previously, an opinion of counsel does not bind the courts, and no
assurance can be provided that such opinion will not be challenged by the IRS or
will be sustained by a court if so challenged.
5. Effect of Disguised Sale Characterization. If a transfer of property
------------------------------------------
to a partnership and one or more transfers of money or other consideration
(including the assumption or taking subject to a liability) by the partnership
to that partner are treated as a disguised sale, then the transfers will be
treated as a sale of property, in whole or in part, to the partnership by the
partner acting in a capacity other than as a member of a partnership, rather
than as a contribution under Section 721 of the Code followed by a partnership
distribution. Accordingly, in any case in which a Limited Partner's transfer of
his Partnership Interest to the Operating Partnership is found to be a
"disguised sale," all or a substantial portion of the gain represented by the
excess of the fair market value of such Partnership Interest (plus all
liabilities attributable to such Partnership Interest) over the Limited
Partner's tax basis in the Partnership Interest could be recognized by the
Limited Partner.
A transfer that is treated as a sale is treated as a sale for all purposes
of the Code and the sale is considered to take place on the date that, under
general principles of federal income tax law,
219
<PAGE>
the partnership is considered to become the owner of the property. If the
transfer of money or other consideration from the partnership to the partner
occurs after the transfer of property to the partnership, the partner and the
partnership are treated as if, on the date of the transfer of the property, the
partnership transferred to the partner an obligation to transfer to the partner
money or other consideration. Moreover, if a transfer of property to a
partnership is treated as part of a sale without regard to the partnership's
assumption of or taking subject to a "qualified liability," as defined above,
then the partnership's assumption of or taking subject to that liability is
treated as a transfer of additional consideration to the transferring partner.
The amount of such "qualified liability" treated as additional consideration is
generally the lesser of (x) the amount of the "qualified liability" and (y) an
amount determined by multiplying the "qualified liability" by the partner's "net
equity percentage." The "net equity percentage" is generally the amount of
consideration received by such partner (other than relief from "qualified
liabilities") divided by the partner's net equity in the property sold, as
calculated under the Disguised Sale Regulations.
Investment Partnership Regulations. If a transfer of property to a
partnership (such as the transfer of the Partnership Interests to the Operating
Partnership which will be deemed to occur when the Merger Partnerships merge
into the Partnerships) were considered to be a transfer to an "investment
company," as defined in the Treasury Regulations, gain would be recognized on
such transfer under Section 721 of the Code. In the case of a transfer of
property to a partnership, the Treasury Regulations provide that such transfer
would be treated as having been made to an investment company if the transfer
results in a diversification of the interests of two or more transferors, and
the transferee is a partnership more than 80% of the value of whose assets
(excluding cash and nonconvertible debt) are held for investment and are readily
marketable stock or securities or interests in Regulated Investment Companies
("RICs") or REITs. The Treasury Regulations further provide that a transfer
ordinarily will result in diversification for this purpose if two or more
persons contribute non-identical assets. Although the transfers to the
Operating Partnership will result in the diversification of the interests of the
Partners, no significant portion of the Operating Partnership's assets will
constitute readily marketable stocks or securities or interests in RICs or
REITs. Accordingly, the transfers to the Operating Partnership will not
constitute transfers to an investment company as defined in the current Treasury
Regulations.
The tax consequences of the Mergers described above are based in part on
the conclusion that the deemed contributions of the Partnership Interests to the
Operating Partnership will not be treated as transfers to an investment company
under Section 721 of the Code and the Treasury Regulations. The Operating
Partnership, however, might not meet the IRS's guidelines for obtaining an
advance ruling with respect to this issue. Revenue Procedure 98-3 states that
the question of whether Section 721 of the Code applies to the contribution of
widely held developed or undeveloped real property to a partnership in exchange
for an interest in the partnership is an area under "extensive study" with
respect to which the IRS will not issue rulings or determination letters when
(i) the contribution is the result of solicitation by promoters, brokers, or
investment houses, or (ii) the interest in the transferee partnership is issued
in a form designed to render it readily tradable. The key terms used in this
Revenue Procedure have not been defined, and the IRS has not issued Treasury
Regulations, proposed Treasury Regulations, rulings, or other pronouncements
with respect to such contributions. The IRS could take the position in the
future that contributions of the sort described in the Revenue Procedure do not
qualify for nonrecognition treatment under Section 721 of the Code, that such
contributions should include the contributions of Partnership Interests to the
Operating Partnership as part of the Mergers and that such conclusions should
apply retroactively. It is by no means clear, however, that even if the IRS
were to take such position, a court would sustain it.
If Section 721 of the Code were not to apply to the deemed contributions of
Partnership Interests to the Operating Partnership, then such contributions
would be treated as taxable exchanges for federal income tax purposes. Each
Limited Partner would be treated as if he had sold, in a fully taxable
transaction, his Partnership Interest to the Operating Partnership in exchange
for
220
<PAGE>
an amount equal to (x) the value of the OP Units received and (y) the
liabilities of the Partnership allocable to his Partnership Interest. Any gain
or loss on such a sale would generally be treated as capital gain or loss under
the Code. For a discussion of the treatment of capital gain and loss under the
Code, see "Tax Treatment of Limited Partners Who Hold OP Units Following the
Mergers -- Disposition of OP Units by Limited Partners," below.
Section 465(e) Recapture. In general, the "at risk" rules of Section 465
of the Code limit the use of losses, see "-- Tax Treatment of Limited Partners
Who Hold OP Units Following the Mergers -- Limitations on Deductibility of
Losses," below. Under Section 465(e) of the Code, a taxpayer may be required to
include in gross income (i.e., to "recapture") losses previously allowed to the
taxpayer with respect to an "activity," if the amount for which the taxpayer is
"at risk" in the activity is less than zero at the close of the taxable year.
The identification of a taxpayer's activities for purposes of the "at risk"
rules and the determination of a taxpayer's amount at risk in an activity are
complex and uncertain. However, as a general matter a taxpayer's amount at risk
in an activity is increased by the taxpayer's income, and reduced by the
taxpayer's losses, from the activity. Therefore, any income taken into account
by a Limited Partner as a result of a deemed cash distribution, disguised sale
treatment or investment company treatment is likely to reduce the extent to
which Section 465(e) of the Code would apply to that Limited Partner.
Nevertheless, it is possible that the consummation of the Mergers and the
REIT Conversion or the repayment of certain "qualified nonrecourse financing"
(as defined in Section 465(b)(6) of the Code) of the Operating Partnership or
the Hotel Partnerships at the time of or following the Mergers and the REIT
Conversion could, singularly or in combination, cause a Limited Partner's amount
at risk in relation to the OP Units received in the Mergers to be reduced below
zero and could, therefore, cause an income inclusion to the Limited Partner
under Section 465(e) of the Code. In this regard, the definition of "qualified
nonrecourse financing" is different from, and more restrictive than, the
definition of "nonrecourse liabilities" under Section 752 of the Code. Hence,
it is possible that a Limited Partner could incur a reduction in his share of
"qualified nonrecourse financing" that causes him to recognize income under
Section 465(e) of the Code even though he has a sufficient share of "nonrecourse
liabilities" under Section 752 of the Code so that he would not be deemed to
have received a taxable deemed cash distribution in connection with the Mergers.
However, the Operating Partnership and the General Partners expect that the
majority of the current indebtedness with respect to the Hotel Partnerships and
the Hotels contributed by the Blackstone Entities that will be assumed by the
Operating Partnership as part of the Mergers and the REIT Conversion should
qualify as "qualified nonrecourse financing." The Operating Partnership and the
General Partners believe, based upon and subject to the assumptions and other
limitations described above in "-- Assumptions Used in Determining the Tax
Consequences of the Mergers," that a Limited Partner who acquired his
Partnership Interest in the original offering by his Partnership of such
Interests for cash and has held the Interest at all times since will have a
positive at risk amount immediately following the Mergers and the REIT
Conversion. However, there can be no assurance that indebtedness incurred by
the Operating Partnership in the future to refinance existing debt would qualify
as "qualified nonrecourse financing," or that the repayment of obligations
assumed by the Operating Partnership in connection with a refinancing of such
obligations would not cause income inclusion to a Limited Partner under Section
465(e) of the Code. If, however, the Operating Partnership can obtain the
requested ruling from the IRS described above (see "-- IRS Ruling Request
Regarding Allocation of Partnership Liabilities"), the Operating Partnership
believes that most, if not all, of the indebtedness incurred by the Operating
Partnership to refinance existing mortgage indebtedness of the Partnerships
should constitute "qualified nonrecourse financing" for purposes of the "at
risk" rules.
221
<PAGE>
The "at risk" provisions of the Code generally do not apply to losses
attributable to real property placed in service by the taxpayer prior to January
1, 1987, or to losses attributable to a partnership in which the taxpayer
acquired its interests before that date. Pursuant to these guidelines, the "at
risk" rules have not been applicable to date to those PHLP, MHP and Hanover
Limited Partners who acquired their Interests at the time of the original
offerings of the Interests in their Partnerships or at any time prior to January
1, 1987 and who have held those Interests since that time. These Limited
Partners, however, will become subject to the "at risk" rules as a result of the
Mergers and their receipt of OP Units in connection therewith (since the OP
Units do not qualify for the "grandfather" rule).
Unit Redemption Right. The Partnership Agreement provides that, subject to
certain limitations, a Limited Partner may, commencing one year after the
consummation of the Mergers, upon notice to the Operating Partnership, require
the Operating Partnership to redeem all or a portion of such Limited Partner's
OP Units for an amount of cash equal to the deemed fair market value of such OP
Units at the time of redemption (the "Redemption Amount"). See "Description of
OP Units -- Unit Redemption Right." The Redemption Amount shall equal the value
on a defined valuation date of a number of Common Shares per Unit determined
pursuant to a defined "conversion factor," which the Operating Partnership
expects will be one. Thus, it is intended that the Redemption Amount will be
determined by reference to a number of Common Shares equal to the number of OP
Units being redeemed. In addition, Host REIT may, in its sole and absolute
discretion, elect to assume and satisfy the Operating Partnership's redemption
obligation by purchasing from a redeeming Limited Partner the OP Units that such
Limited Partner wishes to redeem for an amount equal to the Redemption Amount,
payable at the option of Host REIT in either Common Shares or cash. If Host
REIT assumes the redemption obligation in the manner just described, the
Partnership Agreement provides that the redemption will be treated by Host REIT,
the Operating Partnership, and the redeeming Limited Partner as a sale of OP
Units by such Limited Partner to Host REIT at the time of such purchase. (A
Limited Partner's rights described in this paragraph are referred to as the
"Unit Redemption Right.")
Based on certain representations of the Operating Partnership and Host
REIT, Hogan & Hartson, counsel to Host REIT, has opined as follows with respect
to the Unit Redemption Right: (1) the Unit Redemption Right will not be
considered "other consideration" such that its receipt would result in a Limited
Partner being treated under the Disguised Sale Regulations as having sold all or
a portion of his Partnership Interest to the Operating Partnership in the
Mergers; (2) a Limited Partner's exercise of his Unit Redemption Right more than
two years after the date of consummation of the Mergers will not cause the
Mergers to constitute a taxable transaction for the Limited Partner (or for the
other Limited Partners in the same Partnership); and (3) it is more likely than
not that a Limited Partner's exercise of his Unit Redemption Right more than one
year after the date of consummation of the Mergers but less than two years after
such date will not cause the Mergers to constitute a taxable transaction for the
Limited Partner (or for the other Limited Partners in the same Partnership). As
noted previously, however, an opinion of counsel does not bind the courts, and
no assurance can be provided that such opinion will not be challenged by the IRS
or will be sustained by a court if so challenged.
In the event the Disguised Sale Regulations were determined to apply to a
Limited Partner who exercises his Unit Redemption Right, such Limited Partner
would be treated as though he sold in a fully taxable transaction property to
the Operating Partnership on the date of the consummation of the Mergers and
received on such date an obligation of the Operating Partnership to transfer
money or other consideration to him. Such disguised sale treatment might result
in taxable gain being allocated only to the redeeming Limited Partner. If,
however, the Mergers were recharacterized as partnership level transfers of the
Partnership assets as described below in "-- Alternative Recharacterizations of
the Mergers -- Transfer of Hotel Partnership Assets," there could be no
assurance that the IRS would not assert that any such gain is allocable to all
partners who
222
<PAGE>
were partners in a Partnership with such redeeming Limited Partner on the date
of consummation of the Mergers.
For a discussion of the expected federal income tax effects of a Limited
Partner's exercise of his Unit Redemption Right (other than the effects of such
exercise on the Mergers described in this section), see "Tax Treatment of
Limited Partners Who Hold OP Units Following the Mergers -- Tax Treatment of
Exercise of Unit Redemption Right" below.
Impact of Partnership Anti-Abuse Regulations. The United States Treasury
has issued a final regulation (the "Anti-Abuse Rule") under the partnership
provisions of the Code (the "Partnership Provisions") that authorizes the IRS,
in certain "abusive" transactions involving partnerships, to disregard the form
of the transaction and recast it for federal tax purposes as the IRS deems
appropriate. The Anti-Abuse Rule applies where a partnership is formed or
utilized in connection with a transaction (or series of related transactions)
with a principal purpose of substantially reducing the present value of the
partners' aggregate federal tax liability in a manner inconsistent with the
intent of the Partnership Provisions. The Anti-Abuse Rule states that the
Partnership Provisions are intended to permit taxpayers to conduct joint
business (including investment) activities through a flexible economic
arrangement that accurately reflects the partners' economic agreement and
clearly reflects the partners' income without incurring any entity-level tax.
The purposes for structuring a transaction involving a partnership are
determined based on all of the facts and circumstances, including a comparison
of the purported business purpose for a transaction and the claimed tax benefits
resulting from the transaction. A reduction in the present value of the
partner's aggregate federal tax liability through the use of a partnership does
not, by itself, establish inconsistency with the intent of the Partnership
Provisions.
The Anti-Abuse Rule contains an example in which a corporation that elects
to be treated as a REIT contributes substantially all of the proceeds from a
public offering to a partnership in exchange for a general partnership interest.
The limited partners of the partnership contribute real property assets to the
partnership, subject to liabilities that exceed their respective aggregate bases
in such property. In addition, some of the limited partners have the right,
beginning two years after the formation of the partnership, to require the
redemption of their limited partnership interests in exchange for cash or REIT
stock (at the REIT's option) equal to the fair market value of their respective
interests in the partnership at the time of the redemption. The example
concludes that the use of the partnership is not inconsistent with the intent of
the Partnership Provisions and, thus, cannot be recast by the IRS.
Based on the foregoing, Hogan & Hartson and Host REIT believe that the
Anti-Abuse Rule will not have any adverse impact on either Host REIT's ability
to qualify as a REIT, or the federal income tax consequences of the Mergers and
the REIT Conversion with respect to the Limited Partners. However, the Unit
Redemption Right does not conform in all respects to the redemption rights
contained in the foregoing example. Moreover, the Anti-Abuse Rule is
extraordinarily broad in scope and is applied based on an analysis of all of the
facts and circumstances. As a result, there can be no assurance that the IRS
will not attempt to apply the Anti-Abuse Rule to the Operating Partnership and
Host REIT. If the conditions of the Anti-Abuse Rule are met, the IRS is
authorized to take appropriate enforcement action, including disregarding the
Operating Partnership for federal income tax purposes or treating one or more of
its partners as nonpartners (including, perhaps, as shareholders of Host REIT).
If the Operating Partnership were ignored for federal income tax purposes, the
Partnerships could be treated as receiving (and then distributing to the
Partners) Common Shares in the mergers of the Merger Partnerships into the
Partnerships, instead of OP Units, which would be a fully taxable exchange for
the Limited Partners.
Withholding. If a Limited Partner is not considered a U.S. resident for
tax purposes, withholding (in an amount equal to 10% of the "amount realized" by
such Limited Partner, which would include both the value of the OP Units
received and such Limited Partner's share of the
223
<PAGE>
liabilities of his Partnership, as determined for federal income tax purposes)
under the Foreign Investment in Real Property Tax Act of 1980 ("FIRPTA") may be
required. As a condition to the receipt of OP Units in the Mergers, each Limited
Partner who does not want to be subject to such withholding will have to provide
to the Operating Partnership either a certification, made under penalties of
perjury, that it is a United States citizen or resident (or if an entity, an
entity organized under the laws of the United States) or, alternatively, a
withholding certificate from the IRS providing that no withholding is required
with respect to such Limited Partner in connection with the Mergers. A Limited
Partner who is not a United States citizen or resident (or if an entity, not an
entity organized under the laws of the United States) should consult with his
U.S. tax advisor with respect to obtaining a withholding certificate from the
IRS.
Alternative Recharacterizations of the Mergers. As described above, the
Operating Partnership intends that the Mergers will be treated for federal
income tax purposes as the transfer by the Partners of their interests in the
Partnerships to the Operating Partnership in exchange for OP Units, and the
discussion herein assumes that the Mergers will be so treated. The IRS,
however, may seek to recharacterize each Merger as either (i) the liquidation of
a Partnership, followed by the distribution by the Partnership of its assets to
its Partners and the subsequent transfers by such Partners of such assets to the
Operating Partnership in exchange for OP Units, or (ii) the transfer by a
Partnership of its assets to the Operating Partnership in exchange for OP Units
and the subsequent distribution of such OP Units to its Partners.
1. Liquidation of Partnerships. If each of the Mergers were treated as
---------------------------
the liquidation of a Partnership followed by the distribution by the Partnership
of its assets to its Partners and the subsequent transfers by such Partners of
such assets to the Operating Partnership in exchange for OP Units, the resulting
tax consequences to a Limited Partner would be the same in all material respects
as those described in "-- Overview," above. Section 731 of the Code provides
that a distribution by a partnership to a partner of property, other than
"money" (which would include a distribution of "marketable securities" in
certain circumstances), does not result in taxable gain to the partner. A
partner will recognize gain on a partnership distribution of money only to the
extent that the money exceeds the partner's basis in his partnership interest.
If the Partnerships are treated as having distributed their assets to their
Partners, the General Partners believe that any money (or marketable securities,
where applicable) deemed distributed to a Limited Partner whose adjusted basis
in his Partnership Interest is equal to or greater than the Original Limited
Partner's Adjusted Basis for his Partnership Interest would not exceed such
Limited Partner's basis in his Partnership Interest. Accordingly, Section 731
would generally apply to prevent the recognition of gain by such a Limited
Partner upon the distribution to such Limited Partner of his share of the assets
of the Partnership. (If a Limited Partner's adjusted basis in his Partnership is
materially less than the Original Limited Partner's Adjusted Basis for his
Partnership, then such a Limited Partner might be required to recognize gain
under Section 731 by reason of such a recharacterization.)
Pursuant to Section 732 of the Code, upon receipt of the liquidating
distribution, the Limited Partner would take a basis in the assets received
equal to his basis in his Partnership Interest. The contribution of such assets
by such Limited Partner to the Operating Partnership would be treated under
Section 721 of the Code in the same manner as the contributions by the Limited
Partners of their Partnership Interests to the Operating Partnership described
above in "-- Overview." Accordingly, subject to the exceptions discussed above
in "-- Overview" Section 721 of the Code would generally apply to prevent the
recognition of gain by a Limited Partner in the Mergers (i) who does not receive
a cash distribution (or a deemed cash distribution resulting from relief from
liabilities) that exceeds such Limited Partner's aggregate adjusted basis in his
OP Units after the Mergers; (ii) whose "at risk" amount does not go below zero
as a result of the Mergers, and (iii) who does not make the Note Election.
2. Transfer of Partnership Assets. The IRS also may seek to
------------------------------
recharacterize each of the Mergers as the transfer by the Partnership of its
assets to the Operating Partnership in exchange for
224
<PAGE>
OP Units (and possibly Notes, to the extent the Limited Partners in such
Partnership make the Note Election) and the subsequent distribution of such OP
Units (and possibly Notes) to its Partners. If the Mergers are treated for
federal income tax purposes as partnership level transfers of Partnership assets
to the Operating Partnership, Host REIT and the Operating Partnership intend to
take the position that in exchange for such assets, each Partnership would
receive solely OP Units from the Operating Partnership, which the Partnership
then would distribute to its Partners. A Limited Partner who exercised his right
to make the Note Election would then redeem the OP Units for a Note. For a
discussion of the treatment of such Limited Partners, see "Tax Treatment of
Limited Partners Who Exercise Their Right to Make the Note Election." If the
partnership level transfer of assets were so treated, the Partnerships would not
recognize gain on such transfers under Section 721 of the Code, and accordingly,
the Limited Partners, subject to the exception discussed in "-- Overview" above
would not recognize gain.
There can be no assurance, however, that the IRS would not assert that in
exchange for its assets, each Partnership should be deemed to have received from
the Operating Partnership a mixture of OP Units and Notes, to the extent the
Limited Partners in such Partnership make the Note Election. If so treated, a
Partnership would recognize gain equal to the difference between (x) the initial
issue price (i.e., the face amount) of the Notes that it would be deemed to have
received from the Operating Partnership, and (y) the adjusted basis of the
portion of the assets considered transferred to the Operating Partnership for
the Notes. In that event, all Limited Partners in the Partnership would
recognize their share of such gain, regardless of whether or not they exercised
their right to make the Note Election. Hogan & Hartson is of the opinion,
however, that although the matter is not entirely free from doubt, the
Partnerships should not be treated as receiving from the Operating Partnership
the Notes that are ultimately issued to the Limited Partners who exercise their
right to make the Note Election. As noted previously, however, an opinion of
counsel does not bind the courts, and no assurance can be provided that such
opinion will not be challenged by the IRS or will be sustained by a court if so
challenged.
Under Section 731 of the Code, the deemed subsequent distribution of OP
Units (and possibly Notes) by each Partnership to its Partners would not result
in the recognition of gain by the Limited Partners, unless the distribution of
the OP Units is treated as a distribution of "marketable securities" under
Section 731(c) of the Code.
Section 731(c) of the Code provides that "money" includes marketable
(actively traded) securities, which would include publicly traded REIT shares,
or equity interests in another entity that are readily convertible into or
exchangeable for money or marketable securities. The Common Shares that can be
issued to a Limited Partner upon exercise of the Unit Redemption Right (and
which in any event will determine the amount received by a Limited Partner upon
such exercise) will be marketable securities. Accordingly, the OP Units might
be considered "exchangeable for money or marketable securities" and therefore
treated as "money" under Section 731(c). Regulations under Section 731(c)
provide, however, that a distribution of a marketable security will not be
treated as a distribution of "money" under Section 731(c) if (i) the security
was acquired by the partnership in a nonrecognition transaction; (ii) the value
of any marketable securities and money exchanged by the partnership (that is, by
a Partnership) in the nonrecognition transaction was less than 20 percent of the
value of all the assets exchanged in such transaction; and (iii) the partnership
distributes the security within 5 years of the date the security was acquired by
the partnership. The Operating Partnership and General Partners believe that,
if the Mergers were characterized in this manner, the distributions of OP Units
by the Partnerships would not be treated as distributions of "money" because the
conditions described above will be satisfied. Hence, even if the Mergers were
recharacterized in this manner, the Limited Partners should not be required to
recognize gain under Section 731(c) of the Code on the deemed distributions by
the Partnerships of the OP Units.
Effect of Subsequent Events. In addition to any gain that might be
recognized by the Limited Partners at the time of the Mergers, a variety of
future events and transactions could cause some or
225
<PAGE>
all of the Limited Partners holding OP Units to recognize part or all of the
taxable gain that otherwise has been deferred through the Mergers, including,
but not limited to, the following:
(i) the sale or other taxable disposition of one or more of the
individual Hotels (see "-- Tax Treatment of Limited Partners Who Hold
OP Units Following the Mergers -- Sale of Individual Hotels," below);
(ii) the reduction in the amount of existing nonrecourse liabilities
secured by one or more of the individual Hotels as a result of a
refinancing or repayment thereof, or any other refinancing or
repayment of nonrecourse liabilities with the proceeds of public or
private debt financing obtained by the Operating Partnership, which
debt financing is not secured by individual assets of the Operating
Partnership or is secured by assets of the Operating Partnership
other than those that were owned by a Partnership immediately prior
to the Mergers (except to the extent covered by the ruling from the
IRS that the Operating Partnership is seeking, as described in "IRS
Ruling Request Regarding Allocation of Partnership Liabilities"
above) (see "Financing Transactions" above and "-- Tax Treatment of
Limited Partners Who Hold OP Units Following the Mergers --
Refinancing of the Indebtedness Secured by Individual Hotels,"
below);
(iii) the issuance of additional OP Units, including in connection with
either the issuance of Common Shares or other equity interests by
Host REIT or the acquisition of additional properties in exchange for
OP Units or other equity interests in the Operating Partnership;
(iv) an increase to the tax basis of the Hotels resulting from capital
expenditures; and
(v) the elimination over time of the disparity between the current tax
basis of the Hotels and the "book basis" of the Hotels based upon
their fair market values at the time of the Mergers (see "-- Tax
Treatment of Limited Partners Who Hold OP Units Following the
Mergers -- Tax Allocations with Respect to Book-Tax Difference on
Contributed Hotels," below), which could have the effect of reducing
the amount of indebtedness allocable to the Limited Partners for
basis purposes and therefore can result in deemed cash distributions.
In addition, Limited Partners can expect that the aggregate adjusted tax
basis in their OP Units following the Mergers will be substantially lower
following the Mergers than such Limited Partners' aggregate adjusted basis in
their Partnership Interests immediately before the Mergers. See "-- Tax
Treatment of Limited Partners Who Hold OP Units Following the Mergers -- Initial
Tax Basis of OP Units" below. The Limited Partners of Atlanta, MHP, PHLP and
Desert Springs can expect to receive taxable distributions of cash and taxable
deemed cash distributions resulting from the reduction of their share of
Operating Partnership and Partnership nonrecourse liabilities sooner than would
have been the case if the Mergers had not occurred. See "-- Relief From
Liabilities/Deemed Cash Distributions," above.
Certain Hotels (including all of the Blackstone Hotels) will be covered by
agreements with third parties that will restrict the Operating Partnership's
ability to dispose of those properties or refinance their debt. In addition, if
Atlanta Marquis chooses to participate in the Mergers, the Operating Partnership
will succeed to an existing agreement that will restrict its ability to dispose
of the Hotel owned by Atlanta Marquis or refinance the indebtedness secured by
such Hotels for approximately 11 1/2 years following the Mergers. As for the
remaining properties (including all of the Hotels owned by the Partnerships,
other than Atlanta Marquis), the Partnership Agreement does not impose any
restrictions on the Operating Partnership's ability to dispose of the Hotels or
to refinance debt secured by the Hotels (or to direct that the Partnerships
engage in such transactions). In addition, Host REIT, as general partner of the
Operating Partnership, specifically is not required to take into account the tax
consequences to the limited partners in deciding whether to cause the Operating
Partnership to undertake specific
226
<PAGE>
transactions, and such limited partners have no right to approve or disapprove
such transactions. See "Description of OP Units -- Sales of Assets."
Tax Treatment of Limited Partners Who Exercise Their Right to Make the Note
Election
A Limited Partner who exercises his right to make the Note Election and
receives a Note in connection with the Mergers will be treated as having made a
taxable disposition of his Partnership Interest. The amount realized in
connection with such disposition will equal the sum of the "issue price" of the
Note (i.e., the face amount of the Note) plus the portion of the Partnership's
liabilities allocable to the Limited Partner for federal income tax purposes
immediately prior to the disposition of the Interests. To the extent the amount
realized exceeds the Limited Partner's adjusted basis in his Partnership
Interest, the Limited Partner will recognize gain. For a discussion of the
federal income tax rates applicable to the net capital gain from the sale of a
capital asset, see "-- Tax Treatment of Limited Partners Who Hold OP Units
Following the Mergers -- Disposition of OP Units by Limited Partners."
A Limited Partner who exercises his right to make the Note Election may be
eligible to defer at least a portion of that gain under the "installment sale"
rules. Those rules, however, may not permit the Limited Partner to defer all of
the gain, and to the extent that the face amount of the Note outstanding at the
end of the taxable year (plus any other installment obligations received by the
Limited Partner during the year) exceeds $5,000,000, will require that the
Limited Partner who defers gain pay to the IRS interest on the resulting tax
that has been deferred. The Limited Partner, for instance, will not be eligible
to defer gain to the extent that such gain would be taxed as ordinary income
under Section 1245 or Section 1250 of the Code. In addition, to the extent that
the Limited Partner's share of Partnership liabilities exceeds his adjusted tax
basis in his Partnership Interest immediately prior to the Mergers (that is, to
the extent the Limited Partner has a "negative capital account" for tax
purposes), the Limited Partner will not be eligible to defer that amount of gain
recognized upon the receipt of the Note (and thus a Limited Partner who has a
"negative capital account" and makes the Note Election will recognize "phantom
income" to the extent of that "negative capital account"). Lastly, if a Limited
Partner disposes of his Note, any gain that had been deferred would be
recognized in the year of disposition.
The gain, if any, required to be recognized by a Limited Partner in
connection with the Note Election can be offset by unused passive activity
losses from the Partnerships and other investments. For purposes of determining
the gain recognized by a Limited Partner as a result of making the Note
Election, an Original Limited Partner's Adjusted Basis will reflect such Limited
Partner's share of the syndication costs incurred by his Partnership at
formation.
THE SPECIFIC TAX ATTRIBUTES OF A PARTICULAR PARTNER WHO EXERCISES HIS RIGHT
TO MAKE THE NOTE ELECTION COULD HAVE A MATERIAL IMPACT ON THE TAX CONSEQUENCES
OF THE MERGERS, AND THE SUBSEQUENT OWNERSHIP AND DISPOSITION OF NOTES.
THEREFORE, IT IS ESSENTIAL THAT EACH LIMITED PARTNER CONSIDERING MAKING THE NOTE
ELECTION CONSULT WITH HIS OWN TAX ADVISORS WITH REGARD TO THE APPLICATION OF THE
FEDERAL INCOME TAX LAWS TO SUCH PARTNER'S RESPECTIVE PERSONAL TAX SITUATION, AS
WELL AS ANY TAX CONSEQUENCES ARISING UNDER THE LAWS OF ANY STATE, LOCAL, OR
FOREIGN TAXING JURISDICTION.
Tax Treatment of Limited Partners Who Hold OP Units Following the Mergers
Income and Deductions in General. Each Limited Partner that holds OP Units
following the Mergers will be required to report on his income tax return, his
allocable share of income, gains, losses, deductions and credits of the
Operating Partnership. Such items must be included on the Limited Partner's
federal income tax return without regard to whether the Operating Partnership
227
<PAGE>
makes a distribution of cash or other assets to the Limited Partner. No federal
income tax will be payable by the Operating Partnership.
Treatment of Operating Partnership Distributions. Distributions of money
(including, for such purposes, deemed distributions resulting from decreases in
a Limited Partner's share of Operating Partnership liabilities) by the Operating
Partnership to a Limited Partner generally will not be taxable to such Limited
Partner for federal income tax purposes to the extent of the Limited Partner's
aggregate basis in his OP Units immediately before the distribution.
Distributions of money in excess of such basis generally will be considered to
be gain in the amount of such excess, a portion of which may be ordinary income.
As discussed above (see "Tax Consequences of the Mergers -- Relief from
Liabilities/Deemed Cash Distribution"), any reduction in a Limited Partner's
share of the Operating Partnership's nonrecourse liabilities, either through
repayment, refinancing with recourse liabilities, refinancing with nonrecourse
liabilities secured by the other Hotels or otherwise, will be treated as a
distribution of money to such Limited Partner. An issuance of additional OP
Units by the Operating Partnership without a corresponding increase in debt,
which causes a decline in the overall debt to capitalization ratio of the
Operating Partnership, will also decrease the existing Limited Partners' share
of nonrecourse liabilities of the Operating Partnership thus resulting in a
corresponding deemed distribution of money.
A non-pro rata distribution of money or property may result in ordinary
income to a Limited Partner, regardless of his basis in his OP Units, if such
distribution reduces the Limited Partner's share of the Operating Partnership's
"unrealized receivables" (including depreciation recapture) and/or
"substantially appreciated inventory items" (both as defined in Section 751 of
the Code) (collectively, "Section 751 Assets"). To that extent, the Limited
Partner will be treated as having received a distribution of his proportionate
share of the Section 751 Assets and having exchanged such assets with the
Operating Partnership in return for a portion of the actual distribution made
equal to the fair market value of his proportionate share of the Section 751
Assets. This latter deemed exchange will generally result in the Limited
Partner's realization of ordinary income under Section 751(b) of the Code. Such
income will equal the excess of (1) the portion of such distribution deemed
received in exchange for his proportionate share of the Section 751 Assets over
(2) the Limited Partner's basis in the share of such Section 751 Assets deemed
relinquished in the exchange. Although the Operating Partnership does not
currently expect to make an actual non-pro rata distribution of money or
property, a deemed distribution of money resulting in connection with the
Mergers and the REIT Conversion or upon the Operating Partnership's subsequent
issuance of additional OP Units (as a result of a reduction in nonrecourse
liabilities or the shifting of nonrecourse liabilities from existing partners to
new partners or Host REIT) would constitute a non-pro rata distribution for
purposes of Section 751(b).
The IRS has ruled that the change in an existing partner's share of Section
751 Assets that would normally occur upon such an issuance, when coupled with
such deemed distribution of money, will cause the application of Section 751(b)
of the Code. The Partnership Agreement provides, however, that recapture income
will be allocated, to the extent possible, to the partners of the Operating
Partnership who were allocated the deductions giving rise to the treatment of
gain as recapture income (including by reason of any deductions previously
allocated to the Limited Partners as holders of Partnership Interests). Such
allocations, if respected, along with allocations in accordance with Section
704(c) principles, should minimize the risk of recognition of ordinary income
under Section 751(b) of the Code upon an Operating Partnership offering of
additional interests. The IRS may contend, however, that such a deemed exchange
of Section 751 Assets has occurred and, therefore, that ordinary income must be
realized under Section 751(b) of the Code by partners whose percentage interests
in the Operating Partnership have decreased due to such offering of additional
interests.
228
<PAGE>
Initial Tax Basis of OP Units. In general, a Limited Partner will have an
initial tax basis in his OP Units received in the Mergers ("Initial Basis")
equal to the aggregate basis in his Partnership Interest, adjusted as set forth
below to reflect the effects of the Mergers (that is, reduced to reflect any
deemed cash distribution resulting from a reduction in the Limited Partner's
share of Partnership liabilities and increased to reflect any income or gain
required to be recognized in connection with the Mergers (including income
attributable to the sale of personal property by certain Partnerships in
connection with the REIT Conversion)).
If a Limited Partner's share of nonrecourse liabilities decreases as a
result of the Mergers (see "-- Tax Consequences of the Mergers -- Relief from
Liabilities/Deemed Cash Distribution"), such Limited Partner may have an Initial
Basis in his OP Units that is significantly lower than the basis in his
Partnership Interest immediately before the Mergers. A Limited Partner whose
basis is so reduced can expect to receive taxable distributions of cash and
taxable deemed distributions of cash resulting from a reduction of such Limited
Partner's share of Operating Partnership nonrecourse liabilities sooner than he
would have if such basis reduction had not occurred. Such basis reduction also
will affect the Limited Partner's ability to deduct his share of any Operating
Partnership tax losses. For the effect on a Limited Partner of a reduction in
basis that may result from the Mergers, see "-- Tax Consequences of the Mergers
- -- Relief from Liabilities/Deemed Cash Distribution" and "-- Treatment of
Operating Partnership Distributions," above and "-- Limitations on Deductibility
of Losses," below.
A Limited Partner's Initial Basis in his OP Units generally will be
increased by any capital contributions made by the Limited Partner to the
Operating Partnership and by the Limited Partner's share of (a) Operating
Partnership taxable income and (b) subsequent increases in nonrecourse
liabilities incurred by the Operating Partnership, if any. Generally, a Limited
Partner's Initial Basis in his OP Units will be decreased (but not below zero)
by his share of (i) Operating Partnership distributions, (ii) subsequent
decreases in liabilities of the Operating Partnership, including any decrease in
his share of nonrecourse liabilities of the Operating Partnership (see "-- Tax
Consequences of the Mergers -- Relief from Liabilities/Deemed Cash
Distribution"), (iii) losses of the Operating Partnership, and (iv)
nondeductible expenditures of the Operating Partnership that are not chargeable
to capital.
Allocations of Operating Partnership Income, Gain, Loss and Deduction. The
Partnership Agreement provides that if the Operating Partnership operates at a
net loss, net losses shall be allocated to Host REIT and the limited partners in
proportion to their respective percentage ownership interests in the Operating
Partnership, provided that net losses that would have the effect of creating a
deficit balance in a limited partner's capital account (as specially adjusted
for such purpose) ("Excess Losses") will be reallocated to Host REIT, as general
partner of the Operating Partnership. The Partnership Agreement also provides
that, if the Operating Partnership operates at a net profit, net income shall be
allocated first to Host REIT to the extent of Excess Losses with respect to
which Host REIT has not previously been allocated net income and any remaining
net income shall be allocated in proportion to the respective percentage
ownership interests of Host REIT and the limited partners. Finally, the
Partnership Agreement provides that if the Operating Partnership has preferred
units outstanding, income will first be allocated to such preferred units to the
extent necessary to reflect and preserve the economic rights associated with
such preferred units.
Under Section 704(b) of the Code, a partnership's allocation of any item of
income, gain, loss, or deduction to a partner will be given effect for federal
income tax purposes so long as it has "substantial economic effect," or is
otherwise in accordance with the "partner's interest in the partnership." If an
allocation of an item does not satisfy this standard, it will be reallocated
among the partners on the basis of their respective interests in the
partnership, taking into account all facts and circumstances. The Operating
Partnership believes that the allocations of items of income, gain, loss and
deduction under the Partnership Agreement, as described above, will be
considered to have substantial economic effect under the applicable Treasury
Regulations.
229
<PAGE>
Tax Allocations with Respect to Book-Tax Difference on Contributed Hotels.
Pursuant to Section 704(c) of the Code, income, gain, loss and deduction
attributable to appreciated or depreciated property that is contributed to a
partnership must be allocated for federal income tax purposes in a manner such
that the contributor is charged with, or benefits from, the unrealized gain or
unrealized loss associated with the property at the time of contribution. The
amount of such unrealized gain or unrealized loss is generally equal to the
difference between the fair market value of the contributed property and the
adjusted tax basis of such property at the time of contribution (referred to as
"Book-Tax Difference"). It is anticipated that, at the time of the Mergers,
there will exist a substantial amount of Book-Tax Difference with respect to
each of the Hotels. Because of prior depreciation deductions, this will be the
case even if a particular Hotel has not appreciated in value in economic terms.
The Partnership Agreement requires allocations of income, gain, loss and
deduction attributable to the Hotels with respect to which there is a Book-Tax
Difference be made in a manner that is consistent with Section 704(c) of the
Code. The Partnership Agreement provides Host REIT, as general partner, with
substantial latitude in determining how to apply the Section 704(c) requirements
to the Operating Partnership. Host REIT intends to use the "traditional method"
described in the Treasury Regulations under Section 704(c) (with a provision for
a curative allocation of gain on sale to the extent prior allocations of
depreciation with respect to a specific Hotel were limited by the "ceiling rule"
applicable under the traditional method). Under the traditional method, in the
case of a Hotel with respect to which there is a Book-Tax Difference, a Limited
Partner who was a Limited Partner in the Partnership that is deemed to have
contributed such Hotel will be allocated less depreciation (or perhaps no
depreciation) with respect to such Hotel (and thus more taxable income) than
would be the case if the Mergers had not occurred and the Limited Partner
continued to hold his Partnership Interest. For such a Limited Partner, these
incremental allocations of income should be offset, at least in part, by
depreciation deductions allocable to such Limited Partner with respect to (i)
the Hotels held by the Operating Partnership through its ownership interests in
Hotel Partnerships in which the Limited Partner was not a limited partner prior
to the Mergers and (ii) the Hotels contributed by Host and the Blackstone
Entities in connection with the Mergers. Nevertheless, it is possible that,
as a result of these various allocations, the income allocable to a Limited
Partner from the Operating Partnership (and, possibly, in the case of Limited
Partners from some Partnerships, the resulting tax liability attributable to
such income) could equal or exceed, perhaps by a substantial amount, the actual
cash distributions to be received by the Limited Partner from the Operating
Partnership.
In light of the complexity of the governing rules affecting the calculation
and allocation of depreciation with respect to properties contributed to a
partnership, particularly when a number of those properties are subject to the
separate adjustments required in connection with a technical termination under
Section 708 of the Code, the number of Hotels that the Operating Partnership
will be acquiring in connection with the Mergers and the REIT Conversion, and
the impact on these calculations of other outside events, including equity
offerings by Host or Host REIT and other acquisitions undertaken by Host, Host
REIT or the Operating Partnership prior to or in connection with the REIT
Conversion, the Operating Partnership and the General Partners believe that it
is impossible to predict with any degree of precision the impact that the
Mergers and the REIT Conversion will have on the future depreciation allocable
by the Operating Partnership to the Limited Partners who participate in the
Mergers.
If a Hotel with a Book-Tax Difference is sold, any Book-Tax Difference
remaining at the time the Hotel is sold would be required to be allocated
exclusively to the Partners who were Partners in the Partnership that owned that
Hotel, even though the proceeds of such sale would be allocated proportionately
among all the partners in the Operating Partnership (and likely would be
retained by the Operating Partnership, rather than distributed to holders of OP
Units and Common Shares of Host REIT). Under the "traditional method" of
allocation that will be used by the Operating Partnership, however, the gain
required to be specially allocated under these rules would not exceed
230
<PAGE>
the gain that is actually recognized by the Partnership on the sale and
allocated to the Operating Partnership (unlike under certain alternative
allocation methods available, pursuant to which the gain allocated to the former
partners of a Partnership that sells a Hotel after the Mergers could exceed the
gain actually recognized by the Partnership and allocated to the Operating
Partnership). For a discussion of the impact to the Limited Partners of the
Book-Tax Difference from a sale of a Hotel, see "-- Sale of Individual Hotels"
below.
The Partnership Agreement also requires that any gain allocated to the
Limited Partners (i) upon the sale or other taxable disposition of any Operating
Partnership asset or (ii) due to the allocation of gain to the Operating
Partnership from its interest in a Partnership, shall, to the extent possible,
and after taking into account other required allocations of gain pursuant to the
Partnership Agreement, be characterized as recapture income in the same
proportions and to the same extent that such Limited Partners have been
allocated any deductions directly or indirectly giving rise to the treatment of
such gains as recapture income (including by reason of any deductions previously
allocated to them as holders of Partnership Interests).
Sale of Individual Hotels. The current value of each of the Hotels exceeds
its adjusted basis by a significant amount. Therefore, the Hotels owned by the
Partnerships have significant Book-Tax Differences. In the event Host REIT were
to cause a Partnership to sell a Hotel, the former Partners in that Partnership
who hold OP Units would be specially allocated by the Operating Partnership an
amount of taxable gain equal to the Hotel's Book-Tax Difference at the time of
the sale, which will equal the Book-Tax Difference at the time of the Mergers,
adjusted as described above in "Tax Allocations with Respect to Book-Tax
Difference on Contributed Hotels." This special allocation will be made to the
former Limited Partners in that Partnership in accordance with the manner in
which gain would have been allocated under the applicable Partnership agreement
if the Partnership had sold all of its assets at the time of the Mergers for an
amount equal to aggregate Appraised Value of its Hotels. Such former Limited
Partners would report the additional gain on their individual federal income tax
returns. In addition, such former Limited Partners would not be entitled to any
special distributions from the Operating Partnership in connection with such a
sale, and thus they would not necessarily receive cash distributions from the
Operating Partnership sufficient to pay such additional taxes. Although certain
Hotels (including all of the Blackstone Hotels and the Hotel owned by Atlanta
Marquis) will be covered by agreements with third parties that will restrict the
Operating Partnership's ability to dispose of those properties, the Partnership
Agreement does not impose any restriction upon the Operating Partnership's
ability to cause a Partnership to sell any of the individual Hotels owned by the
Partnerships. If a former Limited Partner is required to recognize gain from the
sale of a Hotel, however, such a Limited Partner with passive losses or passive
loss carry forwards may be able to use such losses to offset such gain, unless
the Operating Partnership is treated as a publicly traded partnership for
federal income tax purposes. See "Tax Status of the Operating Partnership"
above.
The estimated Book-Tax Difference per Partnership Unit with respect to the
Hotels owned by each of the Partnerships (computed assuming that the value of
the OP Units received in the Mergers equals, but does not exceed, the Exchange
Value of each Partnership) is set forth below. The amount of the Book-Tax
Difference could be substantially different for a Limited Partner in a
Partnership who acquired his Partnership Interest subsequent to the formation of
such Partnership.
231
<PAGE>
704(c)
Book-Tax Difference
(per Partnership Unit)
Partnership ------------------------
-----------
Atlanta Marquis
Chicago Suites
Desert Springs
Hanover
MDAH
MHP
MHP2
PHLP
Refinancing of the Indebtedness Secured by Individual Hotels. As described
above under "Tax Consequences of the Mergers -- Relief from Liabilities/Deemed
Cash Distribution," Host REIT does not expect that a participating Limited
Partner whose adjusted basis in his Partnership Interest is equal to or greater
than the Original Limited Partner's Adjusted Basis for his Partnership would
recognize taxable gain at the time of the Mergers as a result of relief from
liabilities resulting in a taxable deemed distribution in connection with the
Mergers (based on the assumptions set forth under the caption "Assumptions Used
in Determining Tax Consequences of the Mergers" above). However, there can be
no assurance that any future refinancing of the indebtedness securing the Hotels
would not result in a reduction of the liabilities allocated to the Limited
Partners, thus resulting in a taxable deemed distribution. Although certain
Hotels (including all of the Blackstone Hotels and the Hotel owned by the
Atlanta Marquis) will be covered by agreements with third parties which will
restrict the Operating Partnership's ability to refinance the indebtedness
encumbering those Hotels, the Partnership Agreement does not impose any
restriction on the Operating Partnership's ability to refinance (or cause a
Partnership to refinance) the indebtedness secured by any of the Hotels owned by
the Partnership. The Operating Partnership has no present plan to prepay any of
the indebtedness secured by the Hotels owned by the Partnerships. The Operating
Partnership, however, will have to repay mortgage indebtedness securing the
Hotels owned by the Partnerships at the time such indebtedness matures. There
can be no assurance that at such time the Operating Partnership will be able to
obtain nonrecourse mortgage indebtedness secured only by those Hotels in an
amount sufficient to avoid a deemed cash distribution to the former Limited
Partners in that Partnership. (These considerations are particularly relevant
with respect to the Limited Partners in PHLP, where the existing mortgage
indebtedness, which matures in December 1998 but can be extended until December
1999, will need to be refinanced within one year following the Mergers.)
Moreover, it is important to note that the Operating Partnership's current long-
term financing strategy is to have as little debt as possible that is secured by
individual Hotels and to have as much of its debt as is possible in the form of
unsecured debt, held either by the public or by institutional investors, which
debt may or may not be recourse to Host REIT, as general partner of the
Operating Partnership. Depending upon its terms, such debt may not qualify as
either "nonrecourse liabilities" for purposes of the rules under Section 752 of
the Code (see "Tax Consequences of the Mergers -- Relief from Liabilities/Deemed
Cash Distribution") or as "qualified nonrecourse financing" for purposes of the
"at risk" rules (see "Tax Consequences of the Mergers -- Section 465(e)
Recapture"). As described above
232
<PAGE>
(see "Tax Consequences of the Mergers -- IRS Ruling Request Regarding Allocation
of Partnership Liabilities"), the Operating Partnership has requested from the
IRS a ruling to the effect that such unsecured indebtedness of the Operating
Partnership that is issued initially to institutional investors and is not
recourse to Host REIT (i) would qualify as "nonrecourse liabilities" for
purposes of Code Section 752, (ii) to the extent the proceeds thereof are
applied to repay existing nonrecourse mortgage indebtedness secured by one or
more Hotels, would be considered to be "secured" by those Hotels) for purposes
of computing the Section 704(c) Minimum Gain with respect to such Hotels (and
thus would be allocable under "tier two" to the former Limited Partners in the
Partnership owning those Hotels), and (iii) would constitute "qualified
nonrecourse financing" secured by such Hotels for purposes of Code Section 465.
Generally, the maximum amount of gain that a Limited Partner could
recognize as a result of a reduction in nonrecourse liabilities is (i) the
amount by which his share of the liabilities of his Partnership (determined as
set forth in "Tax Consequences of the Mergers -- Relief from Liabilities/Deemed
Cash Distribution") immediately prior to the Mergers exceeds his adjusted basis
in his Partnership Interest immediately prior to the Mergers (which amount
generally should be reflected as a "negative capital account" with respect to
the Partnership Interest held at the time of the Mergers), plus (ii) actual cash
distributions received with respect to OP Units subsequent to the Mergers to the
extent such cash distributions exceed the net taxable income allocated to the
Limited Partner with respect to the OP Units. The chart below sets forth the
estimated "capital accounts" for Limited Partners in each of the Partnerships
(per Partnership Unit) as of the time of the Mergers (computed assuming that
such Limited Partner's adjusted basis in his Partnership Interest is the same as
the Original Limited Partner's Adjusted Basis for his Partnership, as described
under "Assumptions Used in Determining Tax Consequences of the Mergers" above).
Estimated
Capital Account
(per Partnership Unit)
Partnership ----------------------
-----------
Atlanta Marquis ($157,536)
Chicago Suites $ 17,478
Desert Springs ($ 19,072)/1/
Hanover $ 59,522/2/
MDAH $ 46,600/3/
MHP ($ 82,935)
MHP2 $ 54,863/4/
PHLP ($ 51,825)
/1/ For a Limited Partner who purchased his Partnership Unit for cash.
($18,871) for a Limited Partner who purchased his Partnership Unit for an
installment note.
/2/ For a Limited Partner who purchased his Partnership Unit for cash. $71,922
for a Limited Partner who purchased his Partnership Unit for an installment
note.
/3/ For a Limited Partner who purchased his Partnership Unit for cash and did
not elect to reduce his basis in such Partnership Unit to defer the
recognition of "cancellation of debt income" in 1993 ($41,746 for a Limited
Partner who paid cash and did elect to reduce basis). $45,660 for a Limited
Partner who purchased his Partnership Unit for an installment note and did
not reduce basis ($40,806 for a Limited Partner who purchased an installment
note and did elect to reduce basis).
/4/ For a Limited Partner who purchased his Partnership Unit for cash. $55,773
for a Limited Partner who purchased his Partnership Unit for an installment
note.
Dissolution of the Operating Partnership. In the event of the dissolution
of the Operating Partnership, see "Description Of OP Units -- Dissolution,
Winding Up and Termination," above, a distribution of Operating Partnership
property (other than money) will not result in taxable gain to a holder of OP
Units (except to the extent provided in Code Sections 737, 704(c)(1)(B) and
731(c) of the
233
<PAGE>
Code), and a Limited Partner that holds OP Units at the time of the dissolution
will hold such distributed property with a basis equal to the adjusted basis of
his OP Units, reduced by any money distributed in liquidation. The liquidation
of the Operating Partnership, however, will be taxable to a Limited Partner that
holds OP Units to the extent that any money distributed in liquidation
(including any money deemed distributed as a result of relief from liabilities)
exceeds such Limited Partner's adjusted tax basis in his OP Units. If Host REIT
were to issue to Limited Partners Common Shares of Host REIT upon dissolution of
the Operating Partnership, a Limited Partner likely would be treated as if it
had exchanged his OP Units for such Common Shares and would recognize gain or
loss as if such OP Units were sold in a fully taxable exchange. See " Tax
Treatment of Exercise of Unit Redemption Right," below.
Limitations on Deductibility of Losses; Treatment of Passive Activities and
Portfolio Income. The passive loss limitations generally provide that
individuals, estates, trusts and certain closely held corporations and personal
service corporations can only deduct losses from passive activities (generally
activities in which the taxpayer does not materially participate, which would
include the Operating Partnership for Limited Partners) to the extent that such
losses are not in excess of the taxpayer's income from passive activities or
investments. A Limited Partner will be able to offset losses from other passive
activities against income from the Operating Partnership that is considered
passive income (but not portfolio income) so long as the Operating Partnership
is not treated as a publicly traded partnership. The Operating Partnership and
the General Partners believe, however, that there is a substantial risk that the
Operating Partnership will be treated as a publicly traded partnership for
purposes of the passive loss rules. See "Tax Status of the Operating
Partnership," above. In the event that the Operating Partnership is classified
as a publicly traded partnership, any losses or deductions of the Operating
Partnership allocable to a Limited Partner could not be used to offset passive
income from other passive activities. Similarly, losses from other passive
activities (including losses attributable to the Partnerships for periods prior
to the Mergers) could not be applied to offset income of the Operating
Partnership allocated to a Limited Partner.
In addition to the foregoing limitations, a Limited Partner that holds OP
Units may not deduct from taxable income his share of Operating Partnership
losses, if any, to the extent that such losses exceed the lesser of (i) the
adjusted tax basis of his OP Units at the end of the Operating Partnership's
taxable year in which the loss occurs and (ii) the amount for which such holder
is considered "at risk" at the end of that year. In general, a Limited Partner
will initially be "at risk" to the extent of the basis in his OP Units (unless
he borrowed amounts on a nonrecourse basis to acquire or carry his Partnership
Interest), including for such purpose only such Limited Partner's share of the
Operating Partnership's liabilities, as determined under Section 752 of the
Code, that are considered "qualified nonrecourse financing" for purposes of the
"at risk" rules. The Operating Partnership believes that the existing debt
secured by the Hotels (to the extent not guaranteed by or loaned by Host or one
of the General Partners) will constitute qualified nonrecourse financing for
this purpose, but there can be no assurance that the IRS might not contend
otherwise. Moreover, there can be no assurance that debt incurred by the
Operating Partnership in the future to refinance existing debt would be
considered qualified nonrecourse financing. After consummation of the Mergers,
in general, a Limited Partner's "at risk" amount will increase or decrease as
the adjusted basis in his OP Units increases or decreases. Losses disallowed to
a holder of OP Units as a result of these rules can be carried forward and may
be allowable to such holder to the extent that his adjusted basis or "at risk"
amount (whichever was the limiting factor) is increased in a subsequent year.
The "at risk" rules apply to an individual partner, an individual shareholder of
a corporate partner that is an S corporation and a corporate partner if fifty
percent (50%) or more of the value of stock of such corporate partner is owned
directly or indirectly by five or fewer individuals at any time during the last
half of the taxable year.
234
<PAGE>
The "at risk" provisions of the Code generally do not apply to losses
attributable to real property placed in service prior to January 1, 1987, by the
taxpayer or by or to losses attributable to a partnership in which the taxpayer
acquired its interests before that date. Pursuant to these rules, the "at risk"
rules have not been applicable to date to those PHLP, MHP and Hanover Limited
Partners who acquired their Interests at the time of the original offerings of
the Interests in their Partnerships and who have held those Interests since that
time. These Limited Partners, however, will become subject to the "at risk"
rules as a result of the Mergers and their receipt of OP Units in connection
therewith (since the OP Units do not qualify for the "grandfather" rule).
Section 754 Election. The Operating Partnership will make the election
permitted by Section 754 of the Code effective for its first taxable year
commencing immediately after the REIT Conversion. It is irrevocable unless the
consent of the IRS is obtained. The election will generally permit a purchaser
of OP Units in 1999 or thereafter, such as Host REIT when it acquires OP Units
from Limited Partners upon a redemption of OP Units, to adjust its share of the
basis in the Operating Partnership's properties ("inside basis") pursuant to
Section 743(b) of the Code to fair market value (as reflected by the value of
consideration paid for the OP Units), as if such purchaser had acquired a direct
interest in the Operating Partnership's assets. The Section 743(b) adjustment
is attributed solely to a purchaser of OP Units and is not added to the bases of
the Operating Partnership's assets associated with all of the holders of OP
Units in the Operating Partnership. An acquirer of OP Units (such as Host REIT
when it acquires OP Units from Limited Partners upon a redemption of OP Units)
that obtains a Section 743(b) adjustment by reason of such acquisition will be
allowed depreciation with respect to such adjustment beginning as of the date of
the exchange as if the adjustment were new property placed in service as of that
date. A similar basis adjustment would be permitted for the Operating
Partnership when there is a distribution or a deemed distribution to a holder of
OP Units that results in the recognition of gain to such holder of OP Units.
Effect of the Mergers on Depreciation. Under Section 708(b)(1)(B) of the
Code, a partnership will be considered to have been terminated if within a
twelve-month period there is a sale or exchange of 50% or more of the interests
in partnership capital and profits. As a result of the Mergers, each of the
Partnerships will terminate under Section 708(b)(1)(B) of the Code. Section
168(i)(7) of the Code provides, in effect, that when a partnership terminates
under Section 708(b)(1)(B) of the Code the partnership must begin new
depreciation periods for its property. As a result, the remaining bases of the
Hotels owned by the Partnerships acquired by the Operating Partnership in the
Mergers will be depreciated over 39 years, rather than over the remaining
current life of the Hotels (which range from less than one year to 39 years).
The Partnerships are presently depreciating such remaining bases over shorter,
in some cases significantly shorter, periods of time. Thus, the Mergers will
adversely affect the computation of depreciation deductions with respect to the
Hotels owned by the Participating Partnerships (as well as certain other Private
Partnerships in which the Operating Partnership will acquire an interest in
connection with the REIT Conversion), as compared to the computation of
depreciation deductions with respect to the Hotels by such Partnerships prior to
the Mergers. The effect upon the depreciation deductions to be taken with
respect to the Hotels held by each such Partnership will (in a majority, but not
in all, of the cases) be significant.
Disposition of OP Units by Limited Partners. If OP Units are sold or
otherwise disposed of, the determination of gain or loss from the sale or other
disposition will be based on the difference between the amount realized and the
tax basis for such OP Units. See " Initial Tax Basis of OP Units," above. Upon
the sale of OP Units, the "amount realized" will be measured by the sum of the
cash and fair market value of other property received for the OP Units plus the
portion of the Operating Partnership's liabilities considered allocable to the
OP Units sold. Similarly, upon a gift of OP Units, a Limited Partner will be
deemed to have received cash equal to the portion of the Operating Partnership's
235
<PAGE>
nonrecourse liabilities considered allocable to such OP Units. To the extent
that the amount of cash or property received plus the allocable share of the
Operating Partnership's nonrecourse liabilities exceeds the Limited Partner's
basis for the OP Units disposed of, such Limited Partner will recognize gain.
The tax liability resulting from such gain could exceed the amount of cash
received upon such disposition.
Such gain will be capital gain if the OP Units have been held by the
Limited Partner as a capital asset. However, to the extent that the amount
realized upon the sale of OP Units attributable to a Partner's share of the
Operating Partnership's inventory items and/or "unrealized receivables" (as
defined in Section 751 of the Code) exceeds the basis attributable to those
assets, such excess will be treated as ordinary income. Unrealized receivables
include, to the extent not previously includible in Operating Partnership
income, any rights to payment for services rendered or to be rendered.
Unrealized receivables also include amounts that would be subject to recapture
as ordinary income if the Operating Partnership had sold its assets at their
fair market value at the time of the transfer of the OP Units, such as
"depreciation recapture" under Sections 1245 and 1250 of the Code.
For corporations, the maximum rate of tax on the net capital gain from a
sale or exchange of a capital asset held for more than 12 months is currently
35%. The Taxpayer Relief Act of 1997 (the "1997 Act") altered the taxation of
capital gain income for non-corporate taxpayers. Pursuant to the 1997 Act, for
individuals, trusts and estates, the maximum rate of tax on the net capital gain
from a sale or exchange of a capital asset held for more than 18 months is
currently 20%, and the maximum rate for capital assets held for more than one
year but not more than 18 months is currently 28%. In addition, the maximum
rate for net capital gains attributable to the sale of depreciable real property
held for more than 18 months is currently 25% (rather than 20%) to the extent of
the prior deductions for "unrecaptured Section 1250 gain" (that is, previously
claimed depreciation deductions that would not be recaptured as ordinary
income). The 1997 Act also provides special rules for "qualified 5-year gain,"
and other changes to prior law.
The 1997 Act provides the IRS with authority to issue regulations that
could, among other things, apply these rates on a look-through basis in the case
of "pass-through" entities such as the Operating Partnership. The IRS has not
yet issued such regulations, and if it does not issue such regulations in the
future, the rate of tax that would apply to the disposition of OP Units by an
individual, trust or estate likely would be determined based upon the period of
time over which such individual, trust or estate held such Units. No
assurance, however, can be provided that the IRS will not issue regulations that
would provide that the rate of tax that would apply to the disposition of Units
by an individual, trust or estate would be determined based upon the nature of
the assets of the Operating Partnership and the periods of time over which the
Operating Partnership held such assets. Moreover, no assurance can be provided
that such regulations would not be applied retroactively. If such regulations
were to apply to the disposition of OP Units, any gain on such sale possibly
could be treated partly as gain from the sale of a capital asset held for more
than 18 months, partly as gain from the sale of a capital asset held for more
than one year but not more than 18 months, partly as gain from the sale of a
capital asset held for one year or less, and partly as gain that is considered
"unrecognized Section 1250 gain." Limited Partners are urged to consult with
their own tax advisors with respect to the new rules contained in the 1997 Act.
Tax Treatment of Exercise of Unit Redemption Right. In the event that a
Limited Partner exercises his Unit Redemption Right (see "Description of OP
Units -- Unit Redemption Right") it is generally anticipated that Host REIT will
elect to exercise its right (under the Partnership Agreement) to acquire the
redeeming Limited Partner's OP Units in exchange for cash or Common Shares;
however, Host REIT will be under no obligation to exercise such right. In the
event that Host REIT does so elect, such transaction will be a fully taxable
sale to the redeeming Limited Partner, and such redeeming Limited Partner will
be treated as realizing in connection with such sale an amount equal to the
amount of the cash or the value of the Common Shares received in the exchange
plus the amount of Operating Partnership liabilities allocable to the redeemed
OP Units at the time of the redemption.
236
<PAGE>
If Host REIT does not elect to assume the obligation to redeem a Limited
Partner's OP Units, the Operating Partnership generally will be required to
redeem such OP Units for cash. If the Operating Partnership redeems OP Units
for cash that Host REIT contributes to the Operating Partnership to effect such
redemption, the redemption likely will be treated as a sale of such OP Units to
Host REIT in a fully taxable transaction, although the matter is not free from
doubt. In that event, the redeeming Limited Partner will recognize taxable gain
or loss to the extent that the amount he is treated as realizing (the amount of
the cash received in the exchange plus the amount of Operating Partnership
liabilities allocable to the redeemed OP Units at the time of the redemption)
exceeds or is less than, respectively, his adjusted tax basis in his OP Units
redeemed. If, instead, the Operating Partnership chooses to redeem a Limited
Partner's OP Units for cash that is not contributed by Host REIT to effect the
redemption, the tax consequences will be the same as described in the previous
sentence, except that if the Limited Partner redeems less than all of his OP
Units, the Limited Partner will not be permitted to recognize any taxable loss
in connection with the redemption and will recognize taxable gain on the
redemption only to the extent that the sum of cash and the share of Operating
Partnership liabilities allocable to the redeemed OP Units exceeds the Limited
Partner's adjusted tax basis in all of his OP Units held immediately before the
redemption (rather than just the basis of the OP Units redeemed).
For a discussion of the impact of the receipt and exercise of a Limited
Partner's Unit Redemption Right upon the tax consequences of the Mergers, see
"Tax Consequences of the Mergers -- Unit Redemption Right," above.
Tax Shelter Registration. Under Section 6111 of the Code, the person
principally responsible for organizing certain "tax shelters" must register the
"tax shelter" with the IRS. Host REIT may be required to register the Operating
Partnership with the IRS as a "tax shelter" pursuant to this provision. The
following rules will apply if such registration is required. Host REIT will be
required to provide each Limited Partner with the tax shelter registration
number assigned to the Operating Partnership by the IRS. Each Limited Partner
will then be required to include this tax shelter registration number on any tax
return on which the Limited Partner claims any deduction, credit, loss, or other
tax benefit, or reports any income, from the Operating Partnership. Each
Limited Partner must report the tax shelter registration number by preparing a
Form 8271 ("Investor Reporting of Tax Shelter Registration Number") with respect
to the Operating Partnership and attaching it to his return. The penalty for
failure to include the tax shelter registration number in a return is $250 per
failure per return.
In addition, if a Limited Partner transfers any OP Units, he is required to
provide the transferee with the Operating Partnership's tax shelter registration
number generally in the same manner and form in which such registration number
is originally provided to the Limited Partner by Host REIT. The penalty for
failure to provide the tax shelter registration number to a transferee of OP
Units is $100 per occurrence.
In connection with the registration of the Operating Partnership as a tax
shelter, Host REIT would be required, under Section 6112 of the Code, to
maintain a list of all investors purchasing OP Units. Such list must include
the name, address and taxpayer identification number of each purchaser, the
number of OP Units acquired and the date of acquisition. Section 6112 requires
that such list be maintained and made available for inspection upon the request
of the Service for a period of seven years.
In addition, Section 6112 requires that any Limited Partner who transfers
any OP Units maintain and make available to the Service, for seven years, a list
specifying the name, address and taxpayer identification number of the
transferee of such OP Units, as well as the date of transfer. As an alternative
to maintaining such list for seven years, a Limited Partner may satisfy its
obligation under Section 6112 by sending the information required to be included
on such list to Host REIT
237
<PAGE>
at the time the OP Units are transferred. The penalty for failure either to
maintain such a list or to send the required information to Host REIT is $50.
REGISTRATION OF THE OPERATING PARTNERSHIP WITH THE INTERNAL REVENUE SERVICE
AND THE ISSUANCE OF A REGISTRATION NUMBER DOES NOT INDICATE THAT THIS INVESTMENT
OR THE CLAIMED TAX BENEFITS HAVE BEEN REVIEWED, EXAMINED, OR APPROVED BY THE
INTERNAL REVENUE SERVICE.
Operating Partnership Income Tax Information Returns and Operating
Partnership Audit Procedures. The Operating Partnership plans to furnish the
holders of OP Units with the tax information reasonably required by the holders
of OP Units for federal and state income tax reporting purposes within 90 days
of the close of each of the Operating Partnership's taxable years.
The federal income tax information returns filed by the Operating
Partnership may be audited by the IRS. The Code contains partnership audit
procedures governing the manner in which IRS audit adjustments of partnership
items are resolved. The Operating Partnership will be able to elect (i) to
participate in the simplified pass-through system for audits that was enacted as
part of the 1997 Act, which election is available to partnerships that have 100
or more partners and meet certain other requirements set forth in the 1997 Act;
or (ii) to have its audits governed under the audit rules which were enacted as
part of the Tax Equity and Fiscal Responsibility Act of 1982 ("TEFRA"). The
Operating Partnership has not yet made this determination, but in making the
determination, Host REIT, as general partner of the Operating Partnership, will
not be required (but will be expressly permitted) to take into account the tax
consequences of the determination to any holder of OP Units, and the holders of
OP Units will have no right to approve or disapprove of such determination.
Partnerships generally are treated as separate entities for purposes of
federal tax audits, judicial review of administrative adjustments by the IRS and
tax settlement proceedings. The tax treatment of partnership items of income,
gain, loss, deduction and credit is determined at the partnership level in a
unified partnership proceeding, rather than in separate proceedings with each
partner. The Code provides for one person to be designated as the "Tax Matters
Partner" for these purposes. The Partnership Agreement appoints Host REIT as
the Tax Matters Partner for the Operating Partnership.
Under TEFRA, the Tax Matters Partner is authorized, but not required, to
take certain actions on behalf of the Operating Partnership and the Limited
Partners and can extend the statute of limitations for assessment of tax
deficiencies against Limited Partners with respect to Operating Partnership
items. The Tax Matters Partner will make a reasonable effort to keep each
Limited Partner informed of administrative and judicial tax proceedings with
respect to Operating Partnership items in accordance with Treasury Regulations
issued under Section 6223 of the Code. In connection with adjustments to
Operating Partnership tax returns proposed by the IRS, the Tax Matters Partner
may bind any Limited Partner with less than a one percent (1%) profits interest
in the Operating Partnership to a settlement with the IRS unless the Limited
Partner elects, by filing a statement with the IRS, not to give such authority
to the Tax Matters Partner. The Tax Matters Partner may seek judicial review
(to which all the Limited Partners are bound) of a final Operating Partnership
administrative adjustment and, if the Tax Matters Partner fails to seek judicial
review, such review may be sought by any Limited Partner having at least a one
percent (1%) interest in the profits of the Operating Partnership and by
partners in the Operating Partnership having, in the aggregate, at least a five
percent (5%) profits interest. Only one judicial proceeding will go forward,
however, and each Limited Partner with an interest in the outcome may
participate.
The Limited Partners will generally be required to treat Operating
Partnership items on their federal income tax returns in a manner consistent
with the treatment of the items on the Operating Partnership information return.
In general, that consistency requirement is waived if the
238
<PAGE>
Limited Partner files a statement with the IRS identifying the inconsistency.
Failure to satisfy the consistency requirement, if not waived, will result in an
adjustment to conform the treatment of the item by the Limited Partner to the
treatment on the Operating Partnership return. Even if the consistency
requirement is waived, adjustments to the Limited Partner's tax liability with
respect to Operating Partnership items may result from an audit of the Operating
Partnership's or the Limited Partner's tax return. Intentional or negligent
disregard of the consistency requirement may subject a Limited Partner to
substantial penalties. In addition, an audit of the Operating Partnership return
may also lead to an audit of an individual Limited Partner's tax return and such
audit could result in adjustment of nonpartnership items.
If a partnership makes an election to have the simplified audit procedure
for large partnerships enacted as part of the 1997 Act apply, there would be
differences in the rights of Limited Partners. For example, as under the TEFRA
rules, the IRS would challenge a reporting position taken by the Operating
Partnership by conducting a single administrative proceeding, the outcome under
which would bind all partners. Unlike partners in a TEFRA partnership, however,
partners in an electing large partnership under the 1997 Act have no individual
right to notice of the adjustment proceedings, and no individual right to
participate in the proceedings. Like other partnerships, an electing
partnership under the 1997 Act may request judicial review of a partnership
adjustment. However, unlike partnerships governed by TEFRA, the individual
partners in an electing large partnership have no right to file petitions for
readjustment of the partnership items. Finally, a partner in an electing
partnership must report all partnership items consistently with their treatment
on the partnership return. Unlike the comparable TEFRA audit rule, an
inconsistency cannot be excused by notifying the IRS of the differing treatment.
Limited Partners who fail to report partnership items consistently with their
treatment on the partnership return are subject to accuracy-related and fraud
penalties.
Alternative Minimum Tax on Items of Tax Preference. The Code contains
different sets of minimum tax rules applicable to corporate and non-corporate
taxpayers. The discussion below relates only to the alternative minimum tax
applicable to non-corporate taxpayers. LIMITED PARTNERS THAT ARE CORPORATIONS
SHOULD CONSULT WITH THEIR TAX ADVISORS WITH RESPECT TO THE EFFECT OF THE
CORPORATE MINIMUM TAX PROVISIONS FOLLOWING CONSUMMATION OF THE MERGERS.
Non-corporate taxpayers are subject to an alternative minimum tax to the
extent the tentative minimum tax ("TMT") exceeds the regular income tax
otherwise payable. The rate of tax imposed on alternative minimum taxable
income ("AMTI") in computing TMT is 26% for AMTI under $175,000 and 28% for AMTI
over $175,000. AMTI consists of the taxpayer's taxable income, as adjusted
under Section 56 and 58 of the Code, plus its items of tax preference; certain
taxpayers are entitled to an exemption amount equal to $45,000 for a joint
return or as surviving spouse, $33,750 for a single return and $22,500 for
married persons filing separate returns, estates and trusts. These exemption
amounts will be phased out if the AMTI of a taxpayer exceeds certain thresholds.
In computing alternative minimum taxable income, for all depreciable
property placed in service after May 13, 1993, an alternative cost recovery
(depreciation) system is substituted for the regular tax cost recovery
(depreciation) system. For example, cost recovery for real property is computed
on the straight-line basis over a 40-year life, rather than the 27.5- or 39-year
lives used under the regular tax system. The 1997 Act eliminates this
requirement for any property placed in service after December 31, 1998. The
limitation on deduction of passive activity losses (as recomputed for AMTI
purposes) applies to the calculation of AMTI. The utilization of itemized
deductions is also limited.
The Operating Partnership will not be subject to the alternative minimum
tax, but the Limited Partners are required to take into account on their own tax
returns their respective shares of the Operating Partnership's tax preference
items and adjustments (and their shares of tax
239
<PAGE>
preference items and adjustments of the Partnerships and other Subsidiaries
which are allocated to the Operating Partnership) in order to compute
alternative minimum taxable income. Since the impact of this tax depends on each
Limited Partner's particular situation, the Limited Partners are urged to
consult their own tax advisors as to the applicability of the alternative
minimum tax following consummation of the Mergers.
State and Local Taxes. In addition to the federal income tax aspects
described above, a Limited Partner should consider the potential state and local
tax consequences of owning OP Units. Tax returns may be required and tax
liability may be imposed both in the state or local jurisdictions where a
Limited Partner resides and in each state or local jurisdiction in which the
Operating Partnership has assets or otherwise does business. Thus, Limited
Partners holding OP Units in the Operating Partnership either directly or
through one or more partnerships or limited liability companies may be subject
to state and local taxation in a number of jurisdictions in which the Operating
Partnership directly or indirectly holds real property and would be required to
file periodic tax returns in those jurisdictions. In this regard, immediately
following the Mergers, the Operating Partnership expects that it will own
properties in approximately 28 states across the United States as well as the
District of Columbia. The Operating Partnership anticipates providing the
Limited Partners with any information reasonably necessary to permit them to
satisfy state and local return filing requirements. Furthermore, the Operating
Partnership will be subject to a wide outlet of state filing requirements and,
in certain states, may elect to file composite returns on behalf of its non-
resident partners and in other states may be required to withhold state taxes
with respect to its non-resident partners. The Operating Partnership will direct
the former Limited Partners' share of any such state taxes imposed from its
distribution to its partners. To the extent that a Limited Partner pays income
tax with respect to the Operating Partnership to a state where it is not
resident (or the Operating Partnership is required (or elects) to pay such tax
on behalf of the Limited Partner), the Limited Partner may be entitled, in whole
or in part, to a deduction or credit against income tax that otherwise would be
owed to his state of residence with respect to the same income. A Limited
Partner should consult with his personal tax advisor with respect to the state
and local income tax implications for such Limited Partner of owning OP Units.
Federal Income Taxation of Host REIT Following the Mergers
General. Host REIT plans to make an election to be taxed as a REIT under
Sections 856 through 859 of the Code, effective for its first taxable year
commencing immediately after the REIT Conversion. Host REIT believes that,
commencing with such first taxable year, it will be organized and will operate
in such a manner as to qualify for taxation as a REIT under the Code, and Host
REIT intends to continue to operate in such a manner, but no assurance can be
given that it in fact will continue to operate in such a manner so as to qualify
or remain qualified.
These sections of the Code and the corresponding Treasury Regulations are
highly technical and complex. The following sets forth the material aspects of
the rules that govern the federal income tax treatment of a REIT and its
shareholders. This summary, however, is qualified in its entirety by the
applicable Code provisions, rules and regulations promulgated thereunder, and
administrative and judicial interpretations thereof.
Hogan & Hartson has acted as counsel to Host REIT in connection with the
Mergers and Host REIT's election to be taxed as a REIT. Host REIT expects that
Hogan & Hartson will provide to Host REIT at the Closing an opinion to the
effect that, commencing with Host REIT's first taxable year commencing after the
REIT Conversion, Host REIT will be organized in conformity with the requirements
for qualification as a REIT, and its proposed method of operation will enable it
to meet the requirements for qualification and taxation as a REIT under the
Code. It must be emphasized that this opinion will be conditioned upon certain
representations made by Host REIT and the Operating Partnership as to factual
matters relating to the organization and operation of Host REIT, the Operating
Partnership, the Hotel Partnerships, the Non-Controlled Subsidiaries, and SLC
and the Lessees, including the structure of each Lease. In addition, this
opinion will be based upon the factual representations of Host REIT concerning
its business and properties as described in this Consent Solicitation and will
assume that the actions described in this Consent Solicitation are
240
<PAGE>
completed in a timely fashion. Moreover, such qualification and taxation as a
REIT depends upon Host REIT's ability to meet on an ongoing basis (through
actual annual operating results, distribution levels and diversity of share
ownership) the various qualification tests imposed under the Code discussed
below, the results of which will not be reviewed by Hogan & Hartson.
Accordingly, no assurance can be given that the actual results of Host REIT's
operations for any particular taxable year will satisfy such requirements.
Further, the anticipated income tax treatment described in this Consent
Solicitation may be changed, perhaps retroactively, by legislative,
administrative or judicial action at any time. See "-- Failure of Host REIT to
Qualify as a REIT," below.
If Host REIT qualifies for taxation as a REIT, it generally will not be
subject to federal corporate income taxes on its net income that is currently
distributed to shareholders. This treatment substantially eliminates the
"double taxation" (at the corporate and shareholder levels) that generally
results from investment in a regular corporation. However, Host REIT will be
subject to federal income tax as follows:
1. Host REIT will be taxed at regular corporate rates on any
undistributed "REIT taxable income," including undistributed net
capital gains (provided, however, that properly designated
undistributed capital gains will effectively avoid taxation at the
shareholder level). A REIT's "REIT taxable income" is the otherwise
taxable income of the REIT subject to certain adjustments, including a
deduction for dividends paid.
2. Under certain circumstances, Host REIT may be subject to the
"alternative minimum tax" on its items of tax preference.
3. If Host REIT has (i) net income from the sale or other disposition of
"foreclosure property" which is held primarily for sale to customers
in the ordinary course of business or (ii) other nonqualifying income
from foreclosure property, it will be subject to tax at the highest
corporate rate on such income.
4. If Host REIT has net income from "prohibited transactions" (which are,
in general, certain sales or other dispositions of property held
primarily for sale to customers in the ordinary course of business
other than foreclosure property), such income will be subject to a
100% tax.
5. If Host REIT should fail to satisfy the 75% gross income test or the
95% gross income test (as discussed below), but has nonetheless
maintained its qualification as a REIT because certain other
requirements have been met, it will be subject to a 100% tax on an
amount equal to (a) the gross income attributable to the greater of
the amount by which Host REIT fails the 75% or 95% test multiplied by
(b) a fraction intended to reflect Host REIT's profitability.
6. If Host REIT should fail to distribute during each calendar year at
least the sum of (i) 85% of its REIT ordinary income for such year,
(ii) 95% of its REIT capital gain net income for such year, and (iii)
any undistributed taxable income from prior periods, Host REIT would
be subject to a 4% excise tax on the excess of such required
distribution over the sum of amounts actually distributed and amounts
retained but with respect to which federal income tax was paid.
7. If Host REIT acquires any asset from a C corporation (i.e., generally
a corporation subject to full corporate-level tax) in a transaction in
which the basis of the asset in the hands of Host REIT is determined
by reference to the basis of the asset in the hands of the C
corporation (a "Built-In Gain Asset"), and Host REIT recognizes gain
on the disposition of such asset during the ten-year period beginning
on the date on
241
<PAGE>
which such asset was acquired by Host REIT (the "Recognition Period"),
then, to the extent of the asset's "Built-In Gain" (i.e., the excess
of (a) the fair market value of such asset over (b) Host REIT's
adjusted basis in the asset, determined when Host REIT acquired the
asset), such gain will be subject to tax at the highest regular
corporate rate applicable.
Host REIT will own an indirect interest in appreciated assets that Host
held before the REIT Conversion. Such appreciated assets will have a
"carryover" basis and thus will be "Built-In Gain Assets" with respect to Host
REIT. Under IRS Notice 88-19, unless Host REIT were to elect to be subject to
corporate income tax on any Built-In Gain recognized with respect to such Built-
In Gain Assets during the Recognition Period commencing on the first day of Host
REIT's first taxable year as a REIT, Host would have to pay federal corporate
income tax on the Built-In Gain at the time of the REIT Conversion. In
connection with the REIT Conversion, Host REIT will make the election provided
for in Notice 88-19 with respect to all of Host's assets that will be owned by
the Operating Partnership subsequent to the REIT Conversion. As a result of
this election, if such appreciated property is sold within the 10-year period
following the REIT Conversion, Host REIT will generally be subject to regular
corporate tax on that gain to the extent of the Built-In Gain in that property
at the time of the REIT Conversion. The total amount of gain on which Host REIT
can be taxed is limited to its net Built-In Gain (defined for these purposes as
the excess of the aggregate fair market value of its assets at the time it
became a REIT over the adjusted tax bases of those assets at that time) at the
time of the REIT Conversion. This tax could be very material, however, and may
result in the Operating Partnership and Host REIT seeking to avoid a taxable
disposition of any significant assets owned by Host at the time of the REIT
Conversion for the ten taxable years following the REIT Conversion (even though
such disposition might otherwise be in the best interests of the Operating
Partnership and Host REIT).
The Operating Partnership will pay (or reimburse Host REIT for) all taxes
incurred by Host REIT (except for taxes imposed on Host REIT by reason of its
failure to qualify as a REIT or to distribute to its shareholders an amount
equal to its "REIT taxable income", including net capital gains). This
obligation by the Operating Partnership would include any federal corporate
income tax imposed on Built-in Gain.
Requirements for Qualification. The Code defines a REIT as a corporation,
trust or association (i) which is managed by one or more trustees or directors;
(ii) the beneficial ownership of which is evidenced by transferable shares, or
by transferable certificates of beneficial interest; (iii) which would be
taxable as a domestic corporation, but for Sections 856 through 859 of the Code;
(iv) which is neither a financial institution nor an insurance company subject
to certain provisions of the Code; (v) the beneficial ownership of which is held
by 100 or more persons; (vi) during the last half of each taxable year not more
than 50% in value of the outstanding stock of which is owned, actually or
constructively, by five or fewer individuals (as defined in the Code to include
certain entities) (the "not closely held" requirement); and (vii) which meets
certain other tests, described below, regarding the nature of its income and
assets.
The Code provides that conditions (i) to (iv), inclusive, must be met
during the entire taxable year and that condition (v) must be met during at
least 335 days of a taxable year of twelve months, or during a proportionate
part of a taxable year of less than twelve months. Conditions (v) and (vi) will
not apply until after the first taxable year for which Host REIT makes the
election to be taxed as a REIT. For purposes of conditions (v) and (vi),
pension funds and certain other tax-exempt entities are treated as individuals,
subject to a "look-through" exception in the case of condition (vi). In
connection with condition (vi), Host REIT is required to send annual letters to
its shareholders requesting information regarding the actual ownership of its
shares. If Host REIT complies with this requirement, and it does not know, or
exercising reasonable diligence would not have known, whether it failed to meet
condition (vi), then it will be treated as having met condition (vi). If Host
REIT fails to properly send such annual letters, it will be required to pay
either a $25,000 penalty or, if the failure is intentional, a $50,000 penalty.
The IRS may require Host REIT, under those circumstances, to take further action
to ascertain actual ownership of its shares, and failure to comply with such an
additional requirement would result in an additional $25,000 (or $50,000)
penalty. No penalty would be assessed in the first instance, however, if the
failure to properly send the letters is due to reasonable cause and not to
willful neglect.
242
<PAGE>
Host REIT believes that it will meet conditions (i) through (iv). In
addition, Host REIT believes that it will have outstanding (commencing with its
first taxable year as a REIT) Common Shares with sufficient diversity of
ownership in the Offering to allow it to satisfy conditions (v) and (vi). With
respect to condition (vi), Host REIT intends to comply with the requirement that
it send annual letters to its shareholders requesting information regarding the
actual ownership of its shares. In addition, Host REIT's Declaration of Trust
provides for restrictions regarding the transfer and ownership of Common Shares,
which restrictions are intended to assist Host REIT in continuing to satisfy the
share ownership requirements described in (v) and (vi) above. Such ownership
and transfer restrictions are described in "Description of Shares of Beneficial
Interest Restrictions on Ownership and Transfer." These restrictions, together
with compliance with the annual shareholder letter requirement described above,
however, may not ensure that Host REIT will, in all cases, be able to satisfy
the share ownership requirements described above. If Host REIT fails to satisfy
such share ownership requirements, Host REIT's status as a REIT will terminate.
See "-- Failure of Host REIT to Qualify as a REIT."
A corporation may not elect to become a REIT unless its taxable year is the
calendar year. Although Host currently uses a 52-53 week year ending on the
Friday closest to January 1, Host REIT will adopt a calendar year taxable year
in connection with the REIT Conversion.
In order to qualify as a REIT, Host REIT cannot have at the end of any
taxable year any undistributed "earnings and profits" that are attributable to a
"C corporation" taxable year. A REIT has until the close of its first taxable
year in which it has non-REIT earnings and profits to distribute such
accumulated earnings and profits. In connection with the REIT Conversion, Host
intends to make a distribution to its existing shareholders of cash and that
portion of the SLC stock that will not be transferred to the Blackstone
Entities. The aggregate amount of such distribution is currently expected to be
in the range of $400-$550 million and is intended to eliminate a substantial
portion, if not all, of Host's undistributed earnings and profits. To the
extent, however, that Host has any such undistributed earnings and profits at
the time of the REIT Conversion (including earnings and profits resulting from
either transactions undertaken in contemplation of the REIT Conversion or the
REIT Conversion itself), such earnings and profits (the "Acquired Earnings")
will carry over to Host REIT and will be treated as accumulated earnings and
profits of a REIT attributable to non-REIT years. Host REIT will be required to
distribute these earnings and profits prior to the end of 1999 (the first
taxable year for which the REIT election of Host REIT is expected to be
effective). Failure to do so would result in disqualification of Host REIT as a
REIT for taxable year 1999. If Host REIT should be so disqualified for taxable
year 1999, subject to the satisfaction by Host REIT of certain "deficiency
dividend" procedures described below in "-- Annual Distribution Requirements
Applicable to REITs" and assuming that Host REIT otherwise satisfies the
requirements for qualification as a REIT, Host REIT should qualify as a REIT for
taxable year 2000 and thereafter. Host REIT believes that, prior to December
31, 1999, the distributions made in connection with the REIT Conversion,
together with any distributions of Acquired Earnings made after the REIT
Conversion but prior to December 31, 1999, will be sufficient to distribute all
of the Acquired Earnings, but, as described below, there are substantial
uncertainties relating to the estimate of the Acquired Earnings.
The estimated amount of the Acquired Earnings will be based on the
consolidated earnings and profits of Host (including each of its predecessors)
accumulated from 1929, the first year that the predecessor of Host was a C
corporation, through and including Host's 1998 taxable year, determined based on
the available tax returns and certain assumptions with respect to both such
returns and other matters. The calculation of the Acquired Earnings, however,
depends upon a number of factual and legal interpretations related to the
activities and operations of Host and its corporate affiliates during its entire
corporate existence and is subject to review and challenge by the IRS. There
can be no assurance that the IRS will not examine the tax returns of Host and
its affiliates for all years prior to and including the REIT Conversion and
propose adjustments to increase their taxable
243
<PAGE>
income. The impact of such proposed adjustments, if any, may be material. If the
IRS were to examine Host's calculation of its earnings and profits (and thus the
amount of Acquired Earnings, if any), the IRS can consider all taxable years of
Host, its affiliates and its predecessors as open for review for purposes of
such determination.
Qualified REIT Subsidiary. If Host REIT owns a corporate subsidiary that
is a "qualified REIT subsidiary," that subsidiary will be disregarded for
federal income tax purposes, and all assets, liabilities and items of income,
deduction and credit of the subsidiary will be treated as assets, liabilities
and items of Host REIT itself. Generally, a qualified REIT subsidiary is a
corporation all of the capital stock of which is owned by the REIT. Host REIT
anticipates owning one or more qualified REIT subsidiaries for purposes of
holding de minimis indirect interests in the Hotel Partnerships. A "qualified
REIT subsidiary" will not be subject to federal corporate income taxation,
although it may be subject to state and local taxation in certain jurisdictions.
Ownership of Partnership Interests by a REIT. In the case of a REIT which
is a partner in a partnership, Treasury Regulations provide that the REIT will
be deemed to own its proportionate share of the assets of the partnership and
will be deemed to be entitled to the income of the partnership attributable to
such share. In addition, the character of the assets and gross income of the
partnership shall retain the same character in the hands of the REIT for
purposes of Section 856 of the Code (including satisfying the gross income tests
and the asset tests). Thus, Host REIT's proportionate share of the assets and
items of income of the Operating Partnership (including the Operating
Partnership's share of such items of the Hotel Partnerships and any other
subsidiaries that are partnerships or LLCs) will be treated as assets and items
of income of Host REIT for purposes of applying the requirements described
herein. A summary of the rules governing the federal income taxation of
partnerships and their partners is provided below in "-- Tax Aspects of Host
REIT's Ownership of OP Units." As the sole general partner of the Operating
Partnership, Host REIT will have direct control over the Operating Partnership
(and indirect control over the Hotel Partnerships and the partnerships in which
the Operating Partnership or the Hotel Partnerships have a controlling interest)
and intends to operate these entities consistent with the requirements for
qualification of Host REIT as a REIT.
Income Tests Applicable to REITs. In order to maintain qualification as a
REIT, Host REIT annually must satisfy two gross income requirements. First, at
least 75% of Host REIT's gross income (excluding gross income from "prohibited
transactions") for each taxable year must be derived directly or indirectly from
investments relating to real property or mortgages on real property (including
"rents from real property" and, in certain circumstances, interest) or from
certain types of temporary investments. Second, at least 95% of Host REIT's
gross income (excluding gross income from "prohibited transactions") for each
taxable year must be derived from such real property investments, dividends,
interest, certain hedging instruments, and gain from the sale or disposition of
stock or securities, including certain hedging instruments (or from any
combination of the foregoing).
Rents paid pursuant to the Leases (together with dividends and interest
received from the Non-Controlled Subsidiaries) will constitute substantially all
of the gross income of Host REIT. Several conditions must be satisfied in order
for rents received by Host REIT, including the rents received pursuant to the
Leases, to qualify as "rents from real property" in satisfying the gross income
requirements for a REIT described in the preceding paragraph. First, the amount
of rent must not be based in whole or in part on the income or profits of any
person. However, an amount received or accrued generally will not be excluded
from the term "rents from real property" solely by reason of being based on a
fixed percentage or percentages of receipts or sales. Second, rents received
from a tenant will not qualify as "rents from real property" in satisfying the
gross income tests if Host REIT, or an actual or constructive owner of 10% or
more of Host REIT, actually or constructively owns 10% or more of such tenant (a
"Related Party Tenant"). Third, if rent attributable to personal property,
leased in connection with a lease of real property, is greater than
244
<PAGE>
15% of the total rent received under the lease, then the portion of rent
attributable to such personal property will not qualify as "rents from real
property," (as discussed above in " Tax Consequences of the Mergers-Taxable
Income Attributable to Sale of Personal Property in Connection with the REIT
Conversion," the "15% Personal Property Test").
Finally, if (i) Host REIT operates or manages a property or furnishes or
renders services to the tenants at the property other than through an
independent contractor from whom Host REIT derives no revenue, excluding for
these purposes services "usually or customarily rendered" in connection with the
rental of real property and not otherwise considered "rendered to the occupant,"
and (ii) the greater of (a) the income derived from such services or (b) 150% of
the cost of providing such services (the "Impermissible Tenant Service Income")
exceeds one percent of the total amount received by Host REIT with respect to
the property (or, if such services are not available to all tenants at a
property, possibly with respect to each tenant to whom the services are made
available), then no amount received by Host REIT with respect to the property
(or, where possibly applicable, such tenant) will qualify as "rents from real
property." If the Impermissible Tenant Service Income is one percent or less of
the total amount received by the REIT with respect to the property (or, where
possibly applicable, such tenant), then only the Impermissible Tenant Service
Income will not qualify as "rents from real property." To the extent that
services (other than those customarily furnished or rendered in connection with
the rental of real property) are rendered to the tenants of the property by an
independent contractor, the cost of the services must be borne by the
independent contractor.
The Operating Partnership and each Hotel Partnership that owns Hotels
(together with certain other subsidiaries of the Operating Partnership that may
own Hotels) will enter into a Lease with a Lessee that is an SLC subsidiary,
pursuant to which the owner of such Hotels will lease the Hotels that it owns to
the Lessee for a term of years (ranging from 7 to 10 years, depending upon the
particular Hotel) commencing on or before the Closing Date of the REIT
Conversion. In addition, the Operating Partnership will lease to the Lessees,
on similar terms, the Hotels contributed by The Blackstone Entities. Each Lease
will provide for thirteen payments per annum of the specified Base Rent plus, to
the extent that it would exceed the Base Rent, Percentage Rent, which Percentage
Rent will be calculated based upon the gross sales of the Hotels subject to the
particular Lease, plus certain other amounts. See "Business and Properties --
The Leases."
Neither Host REIT nor the Operating Partnership will (i) provide any
services to the Lessees with respect to the operation of the Hotels; (ii) charge
rent for any Hotel that is based in whole or in part on the income or profits of
any person (except by reason of being based on a percentage of receipts or
sales, as described above); (iii) rent any Hotel to a Related Party Tenant
(unless the Board of Trustees determines in its discretion that the rent
received from such Related Party Tenant is not material and will not jeopardize
Host REIT's status as a REIT); or (iv) derive rental income attributable to
personal property (other than personal property leased in connection with the
lease of real property, the amount of which is less than 15% of the total rent
received under the lease) (unless the Board of Trustees determines in its
discretion that the amount of such rent attributable to personal property is not
material and will not jeopardize Host REIT's status as a REIT).
In order for the rent paid pursuant to the Leases to constitute "rents from
real property," (i) the Lessees must not be regarded as Related Party Tenants;
and (ii) the Leases must be respected as true leases for federal income tax
purposes and not treated as service contracts, joint ventures or some other type
of arrangement. A Lessee will be regarded as a Related Party Tenant only if
Host REIT and/or one or more actual or constructive owners of 10% or more of
Host REIT, actually or constructively own 10% or more of such Lessee through an
ownership interest in SLC. In order to preclude the Lessees from being regarded
as Related Party Tenants, (i) the Articles of Incorporation of SLC will
expressly prohibit any person, including Host REIT (and/or any 10% or greater
shareholder of Host REIT), from owning more than 9.8% of the value of SLC; (ii)
the Declaration of
245
<PAGE>
Trust of Host REIT will expressly prohibit any person or entity from owning,
directly or by attribution more than 9.8% of Host REIT's Common Shares or any
other class or series of shares of Host REIT; and (iii) the Partnership
Agreement of the Operating Partnership will expressly prohibit any person or
entity (other than Host REIT and The Blackstone Entities) from owning more than
4.9% of any class of interests in the Operating Partnership. Each of these
prohibitions will contain self-executing enforcement mechanisms. Assuming that
these prohibitions are enforced at all times (and no waivers thereto are
granted), the Lessees will not be regarded as Related Party Tenants.
The determination of whether the Leases are true leases depends on an
analysis of all the surrounding facts and circumstances. In making such a
determination, courts have considered a variety of factors, including the
following: (i) the intent of the parties; (ii) the form of the agreement; (iii)
the degree of control over the property that is retained by the property owner
(e.g., whether the lessee has substantial control over the operation of the
property or whether the lessee was required simply to use its best efforts to
perform its obligations under the agreement); and (iv) the extent to which the
property owner retains the risk of loss with respect to the property (e.g.,
whether the lessee bears the risk of increases in operating expenses or the risk
of damage to the property) or the potential for economic gain (e.g.,
appreciation) with respect to the property.
In addition, Section 7701(e) of the Code provides that a contract that
purports to be a service contract (or a partnership agreement) is treated
instead as a lease of property if the contract is properly treated as such,
taking into account all relevant factors, including whether or not: (i) the
service recipient is in physical possession of the property; (ii) the service
recipient controls the property; (iii) the service recipient has a significant
economic or possessory interest in the property (e.g., the property's use is
likely to be dedicated to the service recipient for a substantial portion of the
useful life of the property, the recipient shares the risk that the property
will decline in value, the recipient shares in any appreciation in the value of
the property, the recipient shares in savings in the property's operating costs,
or the recipient bears the risk of damage to or loss of the property); (iv) the
service provider does not bear any risk of substantially diminished receipts or
substantially increased expenditures if there is nonperformance under the
contract; (v) the service provider does not use the property concurrently to
provide significant services to entities unrelated to the service recipient; and
(vi) the total contract price does not substantially exceed the rental value of
the property for the contract period. Since the determination of whether a
service contract should be treated as a lease is inherently factual, the
presence or absence or any single factor may not be dispositive in every case.
The Leases have been structured with the intent to qualify as true leases
for federal income tax purposes. For example, with respect to each Lease (i)
the Operating Partnership (or, where appropriate, the applicable Hotel
Partnership or other lessor entity) and the Lessee intend for their relationship
to be that of a lessor and lessee and such relationship is documented by a lease
agreement, (ii) the Lessee has the right to exclusive possession and use and
quiet enjoyment of the Hotels covered by the Lease during the term of the Lease,
(iii) the Lessee bears the cost of, and will be responsible for, day-to-day
maintenance and repair of the Hotels (other than the cost of certain capital
expenditures), and will dictate how the Hotels are operated and maintained, (iv)
the Lessee bears all of the costs and expenses of operating the Hotels
(including the cost of any inventory used in their operation) during the term of
the Lease (other than the cost of certain furniture, fixtures and equipment, and
certain capital expenditures), (v) the Lessee benefits from any savings (and
bears the burdens of any increases) in the costs of operating the Hotels during
the term of the Lease, (vi) in the event of damage or destruction to a Hotel,
the Lessee is at economic risk because it will be obligated either (A) to
restore the property to its prior condition, in which event it will bear all
costs of such restoration in excess of any insurance proceeds or (B) in certain
circumstances, terminate the Lease, (vii) the Lessee has indemnified the
Operating Partnership (or, where appropriate, the applicable Hotel Partnership
or other lessor entity) against all liabilities imposed on the Operating
Partnership (or, where appropriate, the applicable Hotel Partnership or other
lessor entity) during the term of the Lease by reason of (A) injury to persons
or damage to property occurring at the Hotels or (B) the
246
<PAGE>
Lessee's use, management, maintenance or repair of the Hotels, (viii) the Lessee
is obligated to pay, at a minimum, substantial Base Rent for the period of use
of the Hotels under the Lease, (ix) the Lessee stands to incur substantial
losses (or reap substantial gains) depending on how successfully it operates the
Hotels, and (x) Host REIT and the Operating Partnership believe that each Lessee
reasonably expects to derive a meaningful profit, after expenses and taking into
account the risks associated with the Lease, from the operation of the Hotels
during the term of its Leases. Moreover, upon termination of a Lease, each Hotel
is expected to have a remaining useful life equal to at least 20% of its
expected useful life on the date of the consummation of the REIT Conversion, and
a fair market value equal to at least 20% of its fair market value on the date
of the consummation of the REIT Conversion.
Based upon representations made by Host REIT and the Operating Partnership
(including but not limited to a representation as to the matters described in
the previous paragraph) Hogan & Hartson, counsel to Host REIT, expects to
provide to Host REIT an opinion letter to the effect that the Leases will be
respected as leases for federal income tax purposes. As noted previously,
however, an opinion of counsel does not bind the IRS or the courts. Moreover,
Limited Partners should be aware that there are no controlling Treasury
Regulations, published IRS rulings, or judicial decisions involving leases with
terms substantially the same as the Leases that discuss whether such leases
constitute true leases for federal income tax purposes. Therefore, there can be
no assurance that the IRS will not assert a contrary position or that such
position will be sustained by a court if so challenged. If the Leases are
recharacterized as service contracts or partnership agreements, rather than true
leases, or disregarded altogether for tax purposes, part or all of the payments
that the Operating Partnership receives from the Lessees would not be considered
rent or would not otherwise satisfy the various requirements for qualification
as "rents from real property." In that case, Host REIT very likely would not be
able to satisfy either the 75% or 95% gross income tests and, as a result, would
lose its REIT status.
As indicated above, "rents from real property" must not be based in whole
or in part on the income or profits of any person. Payments made pursuant to
the Leases should qualify as "rents from real property" since they will be based
on either a fixed dollar amount (i.e., Base Rent) or specified percentages of
gross sales (i.e., Percentage Rents) which percentages will be fixed at the time
the Leases are entered into. The foregoing assumes that the Leases (i) are not
renegotiated during their term in a manner that has the effect of basing either
Percentage Rent or Base Rent on income or profits and (ii) are not in reality
used as a means of basing rent on income or profits. More generally, the rent
payable under the Leases would not qualify as "rents from real property" if,
considering the Leases and all the surrounding circumstances, the arrangement
does not conform with normal business practice, but is in reality used as a
means of basing rent on income or profits. Because each of the Percentage Rent
and the Base Rent will be based on fixed dollar amounts and fixed percentages of
the gross sales of each Hotel that are established in the Leases, and Host REIT
has represented that (i) the percentages will not be renegotiated during the
terms of the Leases in a manner that has the effect of basing rent on income or
profits and (ii) the Leases conform with normal business practice, the rent
payable under the Leases should not be considered based in whole or in part on
the income or profits of any person. Furthermore, Host REIT has represented
that, with respect to other properties that it acquires in the future, it will
not charge rent for any property that is based in whole or in part on the income
or profits of any person (except by reason of being based on a fixed percentage
of gross revenues, as described above).
Host REIT may lease certain items of personal property to the Lessees in
connection with the Leases. The 15% Personal Property Test provides that if a
lease provides for the rental of both real and personal property and the portion
of the rent attributable to personal property is 15% or less of the total rent
due under the lease, then all rent paid pursuant to such lease qualifies as
"rent from real property." If, however, a lease provides for the rental of both
real and personal property, and the portion of the rent attributable to personal
property exceeds 15% of the total rent due under the lease, then the portion of
the rent that is attributable to personal property does not qualify as "rent
247
<PAGE>
from real property." The amount of rent attributable to personal property is
that amount which bears the same ratio to total rent for the taxable year as the
average of the adjusted tax bases of the personal property at the beginning and
end of the year bears to the average of the aggregate adjusted tax bases of both
the real and personal property at the beginning and end of such year. Host REIT
has represented that with respect to each Lease that includes a lease of items
of personal property, the amount of rent attributable to personal property with
respect to such Lease, determined as set forth above, will not exceed 15% of the
total rent due under the Lease (except for several Leases where the rent
attributable to personal property, which would constitute non-qualifying income
for purposes of the 75% and 95% gross income tests would not be material
relative to the overall gross income of Host REIT). Each Lease permits the
Operating Partnership to take certain measures, including requiring the Lessee
to purchase certain furniture, fixtures and equipment from the Operating
Partnership or to lease such property from a third party (including a Non-
Controlled Subsidiary), if necessary to ensure that all of the rent attributable
to personal property with respect to such Lease will qualify as "rent from real
property." In order to protect Host REIT's ability to qualify as a REIT, the
Operating Partnership will require, immediately prior to the Mergers, that
certain of the Hotel Partnerships (including PHLP, MHP, Hanover and Atlanta
Marquis) sell a portion of the personal property associated with some or all of
the Hotels owned by such Partnerships to a Non-Controlled Subsidiary. See "Tax
Consequences of the Mergers--Taxable Income Attributable to Sales of Personal
Property in Connection with the REIT Conversion." In connection with the REIT
Conversion, the Operating Partnership also plans to sell to a Non-Controlled
Subsidiary substantial personal property associated with a number of Hotels
currently owned by Host or being acquired in connection with the REIT
Conversion. The Non-Controlled Subsidiary will separately lease all such
personal property directly to the applicable Lessee and will receive rental
payments which Host REIT believes represents the fair rental value of such
personal property directly from the Lessees.
If any of the Hotels were to be operated directly by the Operating
Partnership or a Hotel Partnership as a result of a default by a Lessee under
the applicable Lease, such Hotel would constitute foreclosure property until the
close of the third tax year following the tax year in which it was acquired (or
for up to an additional three years if an extension is granted by the IRS),
provided that (i) the operating entity conducts operations through an
independent contractor (which might, but would not necessarily in all
circumstances, include Marriott International and its subsidiaries) within 90
days after the date the Hotel is acquired as the result of a default by a
Lessee, (ii) the operating entity does not undertake any construction on the
foreclosed property other than completion of improvements that were more than
10% complete before default became imminent, and (iii) foreclosure was not
regarded as foreseeable at the time the applicable Hotel Partnership entered
into such Leases. For as long as any of these Hotels constitute foreclosure
property, the income from the Hotels would be subject to tax at the maximum
corporate rates, but it would qualify under the 75% and 95% gross income tests.
However, if any of these Hotels does not constitute foreclosure property at any
time in the future, income earned from the disposition or operation of such
property will not qualify under the 75% and 95% gross income tests.
"Interest" generally will not qualify under the 75% or 95% gross income
tests if it depends in whole or in part on the income or profits of any person.
However, interest will not fail to so qualify solely by reason of being based on
a fixed percentage or percentages of receipts or sales. Host REIT does not
expect to derive significant amounts of interest that will not qualify under the
75% and 95% gross income tests.
One or more Non-Controlled Subsidiaries will hold various assets
contributed by Host and its Subsidiaries to the Operating Partnership, the
ownership of which by the Operating Partnership might jeopardize Host REIT's
status as a REIT. These assets primarily will consist of partnership or other
interests in Hotels that are not leased and certain foreign hotels in which Host
owns interests. In addition, as described above, the Operating Partnership and
the Hotel Partnerships will sell to a Non-Controlled Subsidiary approximately
$___ in value of personal property associated with
248
<PAGE>
certain Hotels, in order to facilitate Host REIT's compliance with the 15%
Personal Property Test. The Operating Partnership will own 100% of the nonvoting
stock of each Non-Controlled Subsidiary but none of the voting stock of that
Non-Controlled Subsidiary. Each Non-Controlled Subsidiary is taxable as a
regular "C" corporation. The Operating Partnership's share of any dividends
received from a Non-Controlled Subsidiary should qualify for purposes of the 95%
gross income test, but not for purposes of the 75% gross income test. The
Operating Partnership does not anticipate that it will receive sufficient
dividends from the Non-Controlled Subsidiaries to cause it to exceed the limit
on non-qualifying income under the 75% gross income test.
Given the magnitude and scope of Host's existing operations, Host REIT
inevitably will have some gross income from various sources (including, but not
limited to, "safe harbor" leases, the operation of the Hotel in Sacramento,
minority partnership interests in partnerships that own hotels that are not
leased under leases that produce rents qualifying as "rents from real property",
and rent attributable to personal property at a few Hotels that does not
satisfy the 15% Personal Property Test) that fails to constitute qualifying
income for purposes of one or both of the 75% or 95% gross income tests. Host
REIT, however, believes that, even taking into account the anticipated sources
of non-qualifying income, its aggregate gross income from all sources will
satisfy the 75% and 95% gross income tests applicable to REITs for each taxable
year commencing subsequent to the date of the REIT Conversion.
If Host REIT fails to satisfy one or both of the 75% or 95% gross income
tests for any taxable year, it may nevertheless qualify as a REIT for such year
if it is entitled to relief under certain provisions of the Code. These relief
provisions will be generally available if Host REIT's failure to meet such tests
was due to reasonable cause and not due to willful neglect, Host REIT attaches a
schedule of the sources of its income to its federal income tax return, and any
incorrect information on the schedule was not due to fraud with intent to evade
tax. It is not possible, however, to state whether in all circumstances Host
REIT would be entitled to the benefit of these relief provisions. For example,
if Host REIT fails to satisfy the gross income tests because nonqualifying
income that Host REIT intentionally incurs exceeds the limits on such income,
the IRS could conclude that Host REIT's failure to satisfy the tests was not due
to reasonable cause. If these relief provisions are inapplicable to a
particular set of circumstances involving Host REIT, Host REIT will not qualify
as a REIT. As discussed above in "Federal Income Taxation of Host REIT
Following the Mergers -- General," even if these relief provisions apply, a tax
would be imposed with respect to the excess net income.
Any gain realized by Host REIT on the sale of any property held as
inventory or other property held primarily for sale to customers in the ordinary
course of business (including Host REIT's share of any such gain realized by the
Operating Partnership) will be treated as income from a "prohibited transaction"
that is subject to a 100% penalty tax. Such prohibited transaction income may
also have an adverse effect upon Host REIT's ability to satisfy the income tests
for qualification as a REIT. Under existing law, whether property is held as
inventory or primarily for sale to customers in the ordinary course of a trade
or business is a question of fact that depends on all the facts and
circumstances with respect to the particular transaction. The Operating
Partnership intends that both it and the Hotel Partnerships will hold the Hotels
for investment with a view to long-term appreciation, to engage in the business
of acquiring and owning the Hotels (and other hotels) and to make such
occasional sales of the Hotels as are consistent with the Operating
Partnership's investment objectives. There can be no assurance, however, that
the IRS might not contend that one or more of such sales is subject to the 100%
penalty tax.
Asset Tests Applicable to REITs. Host REIT, at the close of each quarter
of its taxable year, must also satisfy three tests relating to the nature of its
assets. First, at least 75% of the value of Host REIT's total assets must be
represented by real estate assets, including for this purpose (i) its allocable
share of real estate assets held by partnerships in which Host REIT owns an
interest
249
<PAGE>
(including its allocable share of the assets held through the Operating
Partnership) and (ii) stock or debt instruments held for not more than one year
purchased with the proceeds of a stock offering or long-term (at least five
years) debt offering of Host REIT, cash, cash items and government securities.
Second, not more than 25% of Host REIT's total assets may be represented by
securities other than those in the 75% asset class. Third, of the investments
included in the 25% asset class, the value of any one issuer's securities owned
by Host REIT may not exceed 5% of the value of Host REIT's total assets, and
Host REIT may not own more than 10% of any one issuer's outstanding voting
securities.
The Operating Partnership does not own any of the voting stock of a Non-
Controlled Subsidiary but it will own 100% of the nonvoting stock of each Non-
Controlled Subsidiary. The Operating Partnership may also own nonvoting stock,
representing substantially all of the equity, in other corporate entities that
serve as partners or members in the various entities that hold title to the
Properties. Host REIT will represent, however, that neither Host REIT, the
Operating Partnership nor any of the Hotel Partnerships nor other Subsidiary
Partnerships will own more than 10% of the voting securities of any entity that
would be treated as a corporation for federal income tax purposes. In addition,
Host REIT and its senior management believe, and Host REIT will represent, that
the securities of any one issuer owned by Host REIT, the Operating Partnership,
the Hotel Partnerships and any other Subsidiary Partnerships (including Host
REIT's pro rata share of the value of the securities of each Non-Controlled
Subsidiary) will not exceed 5% of the total value of Host REIT's assets. There
can be no assurance, however, that the IRS might not contend that the value of
such securities exceeds the 5% value limitation or that nonvoting stock of a
Non-Controlled Subsidiary or another corporate entity owned by the Operating
Partnership should be considered "voting stock" for this purpose.
After initially meeting the asset tests at the close of any quarter, Host
REIT will not lose its status as a REIT for failure to satisfy the asset tests
at the end of a later quarter solely by reason of changes in asset values. If
the failure to satisfy the asset tests results from an acquisition of securities
or other property during a quarter (including, for example, as a result of Host
REIT increasing its interest in the Operating Partnership as a result of the
exercise of the Unit Redemption Right or an additional capital contribution of
proceeds from an offering of Common Shares by Host REIT), the failure can be
cured by disposition of sufficient nonqualifying assets within 30 days after the
close of that quarter. Host REIT intends to maintain adequate records of the
value of its assets to ensure compliance with the asset tests and to take such
other actions within 30 days after the close of any quarter as may be required
to cure any noncompliance. If Host REIT fails to cure noncompliance with the
asset tests within such time period, Host REIT would cease to qualify as a REIT.
Clinton Administration's Proposed Changes to REIT Asset Test. The Clinton
Administration's fiscal year 1999 budget proposal, announced on February 2,
1998, includes a proposal to amend the 10% voting securities test. The proposal
would require a REIT to own no more than 10% of the vote or value of all classes
of stock of any corporation (except for qualified REIT subsidiaries or
corporations that qualify as REITs). Corporations (referred to herein as
"subsidiary corporations") existing prior to the effective date of the proposal
generally would be "grandfathered"; i.e., the REIT would be subject to the
existing 10% voting securities test (described above) with respect to
grandfathered subsidiary corporations. However, such grandfathered status would
terminate with respect to a subsidiary corporation if the subsidiary corporation
engaged in a new trade or business or acquired substantially new assets.
Because the Operating Partnership will own 100% of the nonvoting stock of
each Non-Controlled Subsidiary, and Host REIT will be deemed to own an interest
in each Non-Controlled Subsidiary equal to its proportionate interest in the
Operating Partnership, Host REIT would not satisfy the proposed 10% value
limitation with respect to any of the Non-Controlled Subsidiaries. Whether any
of the Non-Controlled Subsidiaries would qualify as a grandfathered subsidiary
250
<PAGE>
corporation as the proposal is currently drafted would depend on the effective
date of the proposal (which is not yet known). If a Non-Controlled Subsidiary
otherwise eligible for "grandfathered" status were to engage in a new trade or
business or were to acquire substantial new assets, or if Host REIT were to make
a capital contribution to a Non-Controlled Subsidiary otherwise eligible for
"grandfathered" status, its grandfathered status would terminate and Host REIT
would fail to qualify as a REIT. Moreover, Host REIT would not be able to own,
directly or indirectly, more than 10% of the vote or value of any subsidiary
corporation formed or acquired after the effective date of the proposal. Thus,
the proposal, if enacted, would materially impede Host REIT's ability to engage
in new third-party management or similar activities (and, if enacted prior to
the REIT Conversion, might materially impair Host's ability to complete the REIT
Conversion.)
Annual Distribution Requirements Applicable to REITs. Host REIT, in order
to qualify as a REIT, is required to distribute dividends (other than capital
gain dividends) to its shareholders in an amount at least equal to (i) the sum
of (a) 95% of Host REIT's REIT taxable income (computed without regard to the
dividends paid deduction and Host REIT's net capital gain) and (b) 95% of the
net income (after tax), if any, from foreclosure property, minus (ii) the sum of
certain items of noncash income. In addition, if Host REIT disposes of any
Built-In Gain Asset during its Recognition Period, Host REIT will be required,
pursuant to Treasury Regulations which have not yet been promulgated, to
distribute at least 95% of the Built-In Gain (after tax), if any, recognized on
the disposition of such asset. See "General" above for a discussion of "Built-
In Gain Assets." Such distributions must be paid in the taxable year to which
they relate, or in the following taxable year if declared before Host REIT
timely files its tax return for such year and if paid on or before the first
regular dividend payment date after such declaration. Host REIT intends to make
timely distributions sufficient to satisfy these annual distribution
requirements. In this regard, the Partnership Agreement authorizes Host REIT,
as general partner, to take such steps as may be necessary to cause the
Operating Partnership to distribute to its partners an amount sufficient to
permit Host REIT to meet these distribution requirements.
To the extent that Host REIT does not distribute all of its net capital
gain or distributes at least 95%, but less than 100%, of its REIT taxable
income, as adjusted, it will be subject to tax thereon at regular ordinary and
capital gain corporate tax rates. Host REIT, however, may designate some or all
of its retained net capital gain, so that, although the designated amount will
not be treated as distributed for purposes of this tax, a shareholder would
include its proportionate share of such amount in income, as capital gain, and
would be treated as having paid its proportionate share of the tax paid by Host
REIT with respect to such amount. The shareholder's basis in its Common Shares
would be increased by the amount the shareholder included in income and
decreased by the amount of the tax the shareholder is treated as having paid.
Host REIT would make an appropriate adjustment to its earnings and profits. For
a more detailed description of the tax consequences to a shareholder of such a
designation, see "Taxation of Taxable U.S. Shareholders of Host REIT Generally."
It is expected that Host REIT's REIT taxable income will be less than its
cash flow due to the allowance of depreciation and other non-cash charges in
computing REIT taxable income. Accordingly, Host REIT anticipates that it will
generally have sufficient cash or liquid assets to enable it to satisfy the
distribution requirements described above. It is possible, however, that Host
REIT, from time to time, may not have sufficient cash or other liquid assets to
meet these distribution requirements due to timing differences between (i) the
actual receipt of income and actual payment of deductible expenses and (ii) the
inclusion of such income and deduction of such expenses in arriving at taxable
income of Host REIT. If such timing differences occur, in order to meet the
distribution requirements, Host REIT may find it necessary to arrange for short-
term, or possibly long-term, borrowings or to pay dividends in the form of
taxable stock dividends.
251
<PAGE>
Host REIT intends to calculate its REIT taxable income based upon the
conclusion that the Hotel Partnerships, the Subsidiary Partnerships or the
Operating Partnership, as applicable, are the owners of the Hotels for federal
income tax purposes. As a result, Host REIT expects that the depreciation
deductions with respect to the Hotels will reduce its REIT taxable income. This
conclusion is consistent with the conclusion above that the Leases will be
treated as true leases for federal income tax purposes. If the IRS were to
successfully challenge this position, in addition to failing in all likelihood
the 75% and 95% gross income tests described above, Host REIT also might be
deemed retroactively to have failed to meet the REIT distribution requirements
and would have to rely on the payment of a "deficiency dividend" in order to
retain its REIT status.
Under certain circumstances, Host REIT may be able to rectify a failure to
meet the distribution requirement for a year by paying "deficiency dividends" to
shareholders in a later year, which may be included in Host REIT's deduction for
dividends paid for the earlier year. Thus, Host REIT may be able to avoid being
taxed on amounts distributed as deficiency dividends; however, Host REIT will be
required to pay interest based upon the amount of any deduction taken for
deficiency dividends.
Furthermore, if Host REIT should fail to distribute during each calendar
year at least the sum of (i) 85% of its REIT ordinary income for such year, (ii)
95% of its REIT capital gain income for such year, and (iii) any undistributed
taxable income from prior periods, Host REIT would be subject to a 4% excise tax
on the excess of such required distribution over the sum of amounts actually
distributed and amounts retained with respect to which the REIT pays federal
income tax.
Failure of Host REIT to Qualify as a REIT. If Host REIT fails to qualify
for taxation as a REIT in any taxable year, and if the relief provisions do not
apply, Host REIT will be subject to tax (including any applicable alternative
minimum tax) on its taxable income at regular corporate rates. Distributions to
shareholders in any year in which Host REIT fails to qualify will not be
deductible by Host REIT nor will they be required to be made. As a result, Host
REIT's failure to qualify as a REIT would significantly reduce the cash
available for distribution by Host REIT to its shareholders and would materially
reduce the value of the Common Shares and, consequently, the OP Units. In
addition, if Host REIT fails to qualify as a REIT, all distributions to
shareholders will be taxable as ordinary income, to the extent of Host REIT's
current and accumulated earnings and profits, and, subject to certain
limitations of the Code, corporate distributees may be eligible for the
dividends received deduction. Unless entitled to relief under specific
statutory provisions, Host REIT also will be disqualified from taxation as a
REIT for the four taxable years following the year during which qualification
was lost. It is not possible to state whether in all circumstances Host REIT
would be entitled to such statutory relief.
Taxation of Taxable U.S. Shareholders of Host REIT Generally
As used herein, the term "U.S. Shareholder" means a holder of Common Shares
who (for United States federal income tax purposes) is (i) a citizen or resident
of the United States, (ii) a corporation, partnership, or other entity created
or organized in or under the laws of the United States or of any political
subdivision thereof, (iii) an estate or trust the income of which is subject to
United States federal income taxation regardless of its source, or (iv) a trust
whose administration is subject to the primary supervision of a United States
court and which has one or more United States persons who have the authority to
control all substantial decisions of the trust.
Distributions by Host REIT. As long as Host REIT qualifies as a REIT,
distributions made by Host REIT out of its current or accumulated earnings and
profits (and not designated as capital gain dividends) will constitute dividends
taxable to its taxable U.S. Shareholders as ordinary income. Such distributions
will not be eligible for the dividends received deduction in the case of U.S.
Shareholders that are corporations. To the extent that Host REIT makes
distributions (not
252
<PAGE>
designated as capital gain dividends) in excess of its current and accumulated
earnings and profits, such distributions will be treated first as a tax-free
return of capital to each U.S. Shareholder, reducing the adjusted basis which
such U.S. Shareholder has in its Common Shares for tax purposes by the amount of
such distribution (but not below zero), with distributions in excess of a U.S.
Shareholder's adjusted basis in its Common Shares taxable as capital gains
(provided that the Common Shares have been held as a capital asset). Dividends
declared by Host REIT in October, November, or December of any year and payable
to a shareholder of record on a specified date in any such month shall be
treated as both paid by Host REIT and received by the shareholder on December 31
of such year, provided that the dividend is actually paid by Host REIT on or
before January 31 of the following calendar year.
Distributions made by Host REIT that are properly designated by Host REIT
as capital gain dividends will be taxable to taxable non-corporate U.S.
Shareholders (i.e., individuals, estates or trusts) as gain from the sale or
exchange of a capital asset held for more than one year (to the extent that they
do not exceed Host REIT's actual net capital gain for the taxable year) without
regard to the period for which such non-corporate U.S. Shareholder has held his
Common Shares. In the event that Host REIT designates any portion of a dividend
as a "capital gain dividend," a U.S. Shareholder's share of such capital gain
dividend would be an amount which bears the same ratio to the total amount of
dividends paid to such U.S. Shareholder for the year as the aggregate amount
designated as a capital gain dividend bears to the aggregate amount of all
dividends paid on all classes of shares for the year. On November 10, 1997, the
IRS issued Notice 97-64, which provides generally that Host REIT may classify
portions of its designated capital gain dividend as (i) a 20% gain distribution
(which would be taxable to non-corporate U.S. Shareholders at a maximum rate of
20%), (ii) an unrecaptured Section 1250 gain distribution (which would be
taxable to non-corporate U.S. Shareholders at a maximum rate of 25%), or (iii) a
28% rate gain distribution (which would be taxable to non-corporate U.S.
Shareholders at a maximum rate of 28%). (If no designation is made, the entire
designated capital gain dividend will be treated as a 28% rate gain
distribution. For a discussion of the 20%, 25% and 28% tax rates applicable to
non-corporate U.S. Shareholders, see "-- 1997 Act Changes to Capital Gain
Taxation," below.) Notice 97-64 provides that a REIT must determine the maximum
amounts that it may designate as 20% and 25% rate capital gain dividends by
performing the computation required by the Code as if the REIT were an
individual whose ordinary income were subject to a marginal tax rate of at least
28%. Notice 97-64 further provides that designations made by the REIT only will
be effective to the extent that they comply with Revenue Ruling 89-81, which
requires that distributions made to different classes of shares be composed
proportionately of dividends of a particular type.
Distributions made by Host REIT that are properly designated by Host REIT
as capital gain dividends will be taxable to taxable corporate U.S. Shareholders
as long-term gain (to the extent that they do not exceed Host REIT's actual net
capital gain for the taxable year) at a maximum rate of 35% without regard to
the period for which such corporate U.S. Shareholder has held his Common Shares.
Such U.S. Shareholders may, however, be required to treat up to 20% of certain
capital gain dividends as ordinary income.
U.S. Shareholders may not include in their individual income tax returns
any net operating losses or capital losses of Host REIT. Instead, such losses
would be carried over by Host REIT for potential offset against future income
(subject to certain limitations). Distributions made by Host REIT and gain
arising from the sale or exchange by a U.S. Shareholder of Common Shares will
not be treated as passive activity income, and, as a result, U.S. Shareholders
generally will not be able to apply any "passive losses" against such income or
gain. In addition, taxable distributions from Host REIT generally will be
treated as investment income for purposes of the investment interest limitation.
Capital gain dividends and capital gains from the disposition of shares
(including distributions treated as such), however, will be treated as
investment income only if the U.S. Shareholder so elects, in which case such
capital gains will be taxed at ordinary income rates.
253
<PAGE>
Host REIT will notify shareholders after the close of its taxable year as
to the portions of distributions attributable to that year that constitute
ordinary income, return of capital and capital gain. Host REIT may designate
(by written notice to its shareholders) its net capital gain so that with
respect to retained net capital gains, a U.S. Shareholder would include its
proportionate share of such gain in income, as long-term capital gain, and would
be treated as having paid its proportionate share of the tax paid by Host REIT
with respect to the gain. The U.S. Shareholder's basis in its Common Shares
would be increased by its share of such gain and decreased by its share of such
tax. With respect to such long-term capital gain of a U.S. Shareholder that is
an individual or an estate or trust, the IRS, as described above in this
section, has authority to issue regulations that could apply the special tax
rate applicable generally to the portion of the long-term capital gains of an
individual or an estate or trust attributable to deductions for depreciation
taken with respect to depreciable real property. IRS Notice 97-64, described
above in this section, did not address the taxation of non-corporate REIT
shareholders with respect to retained net capital gains.
Sale of Shares. Upon any sale or other disposition of Common Shares, a
U.S. Shareholder will recognize gain or loss for federal income tax purposes in
an amount equal to the difference between (i) the amount of cash and the fair
market value of any property received on such sale or other disposition and (ii)
the holder's adjusted basis in such Common Shares for tax purposes. Such gain
or loss will be capital gain or loss if the Common Shares have been held by the
U.S. Shareholder as a capital asset. In the case of a U.S. Shareholder who is
an individual or an estate or trust, such gain or loss will be long-term capital
gain or loss, subject to a 28% tax rate, if such shares have been held for more
than one year but not more than 18 months, and long-term capital gain or loss,
subject to a 20% tax rate, if such shares have been held for more than 18
months. In the case of a U.S. Shareholder that is a corporation, such gain or
loss will be long-term capital gain or loss if such shares have been held for
more than one year. In general, any loss recognized by a U.S. Shareholder upon
the sale or other disposition of Common Shares that have been held for six
months or less (after applying certain holding period rules) will be treated as
a long-term capital loss, to the extent of distributions received by such U.S.
Shareholder from Host REIT that were required to be treated as long-term capital
gains. For a U.S. Shareholder that is an individual, trust or estate, the long-
term capital loss will be apportioned among the applicable long-term capital
gain groups to the extent that distributions received by such U.S. Shareholder
were previously so treated.
1997 Act Changes to Capital Gain Taxation. The 1997 Act altered the
taxation of capital gain income. Under the 1997 Act, individuals, trusts and
estates that hold certain investments for more than 18 months may be taxed at a
maximum long-term capital gain rate of 20% on the sale or exchange of those
investments. Individuals, trusts and estates that hold certain assets for more
than one year but not more than 18 months may be taxed at a maximum long-term
capital gain rate of 28% on the sale or exchange of those investments. The 1997
Act also provides a maximum rate of 25% for "unrecaptured section 1250 gain" for
individuals, trusts and estates, special rules for "qualified 5-year gain," and
other changes to prior law. The 1997 Act allows the IRS to prescribe
regulations on how the 1997 Act's new capital gain rates will apply to sales of
capital assets by "pass-through entities," which include REITs, such as Host
REIT, and to sales of interests in "pass-through entities." For a discussion of
new rules under the 1997 Act that apply to the taxation of distributions by the
Company to its shareholders that are designated by Host REIT as "capital gain
dividends," see " Distributions by Host REIT" above. Shareholders are urged to
consult with their own tax advisors with respect to the new rules contained in
the 1997 Act.
Backup Withholding for Host REIT Distributions
Host REIT will report to its U.S. Shareholders and the IRS the amount of
dividends paid during each calendar year, and the amount of tax withheld, if
any. Under the backup withholding rules, a U.S. Shareholder may be subject to
backup withholding at the rate of 31% with respect to dividends paid unless such
holder (a) is a corporation or comes within certain other exempt
254
<PAGE>
categories and, when required, demonstrates this fact, or (b) provides a
taxpayer identification number, certifies as to no loss of exemption from backup
withholding, and otherwise complies with applicable requirements of the backup
withholding rules. A U.S. Shareholder that does not provide Host REIT with a
correct taxpayer identification number may also be subject to penalties imposed
by the IRS. Any amount paid as backup withholding will be creditable against the
shareholder's income tax liability. In addition, Host REIT may be required to
withhold a portion of its capital gain distributions to any U.S. Shareholders
who fail to certify their non-foreign status to Host REIT. See "Taxation of
Non-U.S. Shareholders of Host REIT."
Taxation of Tax-Exempt Shareholders of Host REIT
The IRS has ruled that amounts distributed as dividends by a qualified REIT
do not constitute unrelated business taxable income ("UBTI") when received by a
tax-exempt entity. Based on that ruling, provided that a tax-exempt shareholder
(except certain tax-exempt shareholders described below) has not held its Common
Shares as "debt financed property" within the meaning of the Code and such
Common Shares are not otherwise used in a trade or business, the dividend income
from Host REIT will not be UBTI to a tax-exempt shareholder. Similarly, income
from the sale of Common Shares will not constitute UBTI unless such tax-exempt
shareholder has held such Common Shares as "debt financed property" within the
meaning of the Code or has used the Common Shares in a trade or business.
For tax-exempt shareholders that are social clubs, voluntary employee
benefit associations, supplemental unemployment benefit trusts, and qualified
group legal services plans exempt from federal income taxation under Code
Sections 501 (c)(7), (c)(9), (c)(17) and (c)(20), respectively, income from an
investment in Host REIT will constitute UBTI unless the organization is properly
able to deduct amounts set aside or placed in reserve for certain purposes so as
to offset the income generated by its investment in Host REIT. Such prospective
shareholders should consult their own tax advisors concerning these "set aside"
and reserve requirements.
Notwithstanding the above, however, the Omnibus Budget Reconciliation Act
of 1993 (the "1993 Act") provides that, effective for taxable years beginning in
1994, a portion of the dividends paid by a "pension held REIT" shall be treated
as UBTI as to any trust which (i) is described in Section 401(a) of the Code,
(ii) is tax-exempt under Section 501(a) of the Code, and (iii) holds more than
10% (by value) of the interests in the REIT. Tax-exempt pension funds that are
described in Section 401(a) of the Code are referred to below as "qualified
trusts."
A REIT is a "pension held REIT" if (i) it would not have qualified as a
REIT but for the fact that Section 856(h)(3) of the Code (added by the 1993 Act)
provides that stock owned by qualified trusts shall be treated, for purposes of
the "not closely held" requirement, as owned by the beneficiaries of the trust
(rather than by the trust itself), and (ii) either (a) at least one such
qualified trust holds more than 25% (by value) of the interests in the REIT, or
(b) one or more such qualified trusts, each of which owns more than 10% (by
value) of the interests in the REIT, hold in the aggregate more than 50% (by
value) of the interests in the REIT. The percentage of any REIT dividend
treated as UBTI is equal to the ratio of (i) the UBTI earned by the REIT
(treating the REIT as if it were a qualified trust and therefore subject to tax
on UBTI) to (ii) the total gross income of the REIT. A de minimis exception
applies where the percentage is less than 5% for any year. The provisions
requiring qualified trusts to treat a portion of REIT distributions as UBTI will
not apply if the REIT is able to satisfy the "not closely held" requirement
without relying upon the "look-through" exception with respect to qualified
trusts.
Based on the anticipated ownership of Common Shares immediately following
the REIT Conversion, and, as a result of certain limitations on transfer and
ownership of Common Shares
255
<PAGE>
contained in the Declaration of Trust, Host REIT does not expect to be
classified as a "pension held REIT."
Taxation of Non-U.S. Shareholders of Host REIT
The rules governing federal income taxation of the ownership and
disposition of Common Shares by persons that are, for purposes of such taxation,
nonresident alien individuals, foreign corporations, foreign partnerships or
foreign estates or trusts (collectively, "Non-U.S. Shareholders") are complex,
and no attempt is made herein to provide more than a brief summary of such
rules. Accordingly, the discussion does not address all aspects of federal
income tax and does not address state, local or foreign tax consequences that
may be relevant to a Non-U.S. Shareholder in light of its particular
circumstances. In addition, this discussion is based on current law, which is
subject to change, and assumes that Host REIT qualifies for taxation as a REIT.
Prospective Non-U.S. Shareholders should consult with their own tax advisers to
determine the impact of federal, state, local and foreign income tax laws with
regard to an investment in Common Shares, including any reporting requirements.
Distributions by Host REIT. Distributions by Host REIT to a Non-U.S.
Shareholder that are neither attributable to gain from sales or exchanges by
Host REIT of United States real property interests nor designated by Host REIT
as capital gains dividends will be treated as dividends of ordinary income to
the extent that they are made out of current or accumulated earnings and profits
of Host REIT. Such distributions ordinarily will be subject to withholding of
United States federal income tax on a gross basis (that is, without allowance of
deductions) at a 30% rate or such lower rate as may be specified by an
applicable income tax treaty, unless the dividends are treated as effectively
connected with the conduct by the Non-U.S. Shareholder of a United States trade
or business. Under certain treaties, however, lower withholding rates generally
applicable to dividends do not apply to dividends from a REIT, such as Host
REIT. Certain certification and disclosure requirements must be satisfied to be
exempt from withholding under the effectively connected income exemption.
Dividends that are effectively connected with such a trade or business will be
subject to tax on a net basis (that is, after allowance of deductions) at
graduated rates, in the same manner as U.S. Shareholders are taxed with respect
to such dividends, and are generally not subject to withholding. Any such
dividends received by a Non-U.S. Shareholder that is a corporation may also be
subject to an additional branch profits tax at a 30% rate or such lower rate as
may be specified by an applicable income tax treaty. Host REIT expects to
withhold United States income tax at the rate of 30% on any distribution made to
a Non-U.S. Shareholder unless (i) a lower treaty rate applies and any required
form or certification evidencing eligibility for that lower rate is filed with
Host REIT or (ii) a Non-U.S. Shareholder files an IRS Form 4224 with Host REIT
claiming that the distribution is effectively connected income.
Distributions in excess of current or accumulated earnings and profits of
Host REIT will not be taxable to a Non-U.S. Shareholder to the extent that they
do not exceed the adjusted basis of the shareholder's Common Shares, but rather
will reduce the adjusted basis of such Common Shares. To the extent that such
distributions exceed the adjusted basis of a Non-U.S. Shareholder's Common
Shares, they will give rise to gain from the sale or exchange of its Common
Shares, the tax treatment of which is described below. As a result of a
legislative change made by the Small Business Job Protection Act of 1996, it
appears that Host REIT will be required to withhold 10% of any distribution in
excess of Host REIT's current and accumulated earnings and profits.
Consequently, although Host REIT intends to withhold at a rate of 30% on the
entire amount of any distribution (or a lower applicable treaty rate), to the
extent that Host REIT does not do so any portion of a distribution not subject
to withholding at a rate of 30% (or a lower applicable treaty rate) will be
subject to withholding at a rate of 10%. However, the Non-U.S. Shareholder may
seek a refund of such amounts from the IRS if it subsequently determined that
such distribution was, in fact, in excess of current or accumulated earnings and
profits of Host REIT, and the amount withheld
256
<PAGE>
exceeded the Non-U.S. Shareholder's United States tax liability, if any, with
respect to the distribution.
Distributions to a Non-U.S. Shareholder that are designated by Host REIT at
the time of distribution as capital gains dividends (other than those arising
from the disposition of a United States real property interest) generally will
not be subject to United States federal income taxation, unless (i) the
investment in the Common Shares is effectively connected with the Non-U.S.
Shareholder's United States trade or business, in which case the Non-U.S.
Shareholder will be subject to the same treatment as U.S. Shareholders with
respect to such gain (except that a shareholder that is a foreign corporation
may also be subject to the 30% branch profits tax, as discussed above), or (ii)
the Non-U.S. Shareholder is a nonresident alien individual who is present in the
United States for 183 days or more during the taxable year and has a "tax home"
in the United States, in which case the nonresident alien individual will be
subject to a 30% tax on the individual's capital gains.
Pursuant to the Foreign Investment in Real Property Tax Act ("FIRPTA"),
distributions to a Non-U.S. Shareholder that are attributable to gain from sales
or exchanges by Host REIT of United States real property interests (whether or
not designated as capital gain dividends) will cause the Non-U.S. Shareholder to
be treated as recognizing such gain as income effectively connected with a
United States trade or business. Non-U.S. Shareholders would thus generally be
taxed at the same rates applicable to U.S. Shareholders (subject to a special
alternative minimum tax in the case of nonresident alien individuals). Also,
such gain may be subject to a 30% branch profits tax in the hands of a Non-U.S.
Shareholder that is a corporation, as discussed above. Host REIT is required to
withhold 35% of any such distribution. That amount is creditable against the
Non-U.S. Shareholder's federal income tax liability.
Although the law is not entirely clear on the matter, it appears that
amounts designated by Host REIT pursuant to the 1997 Act as undistributed
capital gains in respect of the Common Shares held by U.S. Shareholders (see "--
Annual Distribution Requirements Applicable to REITs" above) would be treated
with respect to Non-U.S. Shareholders in the manner outlined in the preceding
two paragraphs for actual distributions by Host REIT of capital gain dividends.
Under that approach, the Non-U.S. Shareholders would be able to offset as a
credit against their United States federal income tax liability resulting
therefrom their proportionate share of the tax paid by Host REIT on such
undistributed capital gains (and to receive from the IRS a refund to the extent
their proportionate share of such tax paid by Host REIT were to exceed their
actual United States federal income tax liability).
Sale of Common Shares. Gain recognized by a Non-U.S. Shareholder upon the
sale or exchange of Common Shares generally will not be subject to United States
taxation unless such shares constitute a "United States real property interest"
within the meaning of FIRPTA. The Common Shares will not constitute a "United
States real property interest" so long as Host REIT is a "domestically
controlled REIT." A "domestically controlled REIT" is a REIT in which at all
times during a specified testing period less than 50% in value of its stock is
held directly or indirectly by Non-U.S. Shareholders. Host REIT is unable at
this time to predict whether it will be a "domestically controlled REIT," and
therefore whether the sale of Common Shares will be subject to taxation under
FIRPTA. Moreover, even if Host REIT initially qualifies as a "domestically
controlled REIT," because the Common Shares are expected to be publicly traded,
no assurance can be given that Host REIT would continue to be a "domestically
controlled REIT." Notwithstanding the foregoing, gain from the sale or exchange
of Common Shares not otherwise subject to FIRPTA will be taxable to a Non-U.S.
Shareholder if the Non-U.S. Shareholder is a nonresident alien individual who is
present in the United States for 183 days or more during the taxable year and
has a "tax home" in the United States. In such case, the nonresident alien
individual will be subject to a 30% United States withholding tax on the amount
of such individual's gain.
257
<PAGE>
Even if Host REIT does not qualify as or ceases to be a domestically-
controlled REIT, gain arising from the sale or exchange by a Non-U.S.
Shareholder of Common Shares would not be subject to United States taxation
under FIRPTA as a sale of a United States real property interest if (i) the
Common Shares are "regularly traded" (as defined by applicable Treasury
Regulations) on an established securities market (e.g., the NYSE), and (ii) such
Non-U.S. Shareholder owned 5% or less of the Common Shares throughout the five-
year period ending on the date of the sale or exchange. If gain on the sale or
exchange of Common Shares were subject to taxation under FIRPTA, the Non-U.S.
Shareholder would be subject to regular United States income tax with respect to
such gain in the same manner as a taxable U.S. Shareholder (subject to any
applicable alternative minimum tax, a special alternative minimum tax in the
case of nonresident alien individuals and the possible application of the 30%
branch profits tax in the case of foreign corporations), and the purchaser of
the Common Shares would be required to withhold and remit to the IRS 10% of the
purchase price.
Backup Withholding Tax and Information Reporting. Backup withholding tax
(which generally is a withholding tax imposed at the rate of 31% on certain
payments to persons that fail to furnish certain information under the United
States information reporting requirements) and information reporting will
generally not apply to distributions paid to Non-U.S. Shareholders outside the
United States that are treated as (i) dividends subject to the 30% (or lower
treaty rate) withholding tax discussed above, (ii) capital gains dividends or
(iii) distributions attributable to gain from the sale or exchange by Host REIT
of United States real property interests. As a general matter, backup
withholding and information reporting will not apply to a payment of the
proceeds of a sale of Common Shares by or through a foreign office of a foreign
broker. Information reporting (but not backup withholding) will apply, however,
to a payment of the proceeds of a sale of Common Shares by a foreign office of a
broker that (a) is a United States person, (b) derives 50% or more of its gross
income for certain periods from the conduct of a trade or business in the United
States or (c) is a "controlled foreign corporation" (generally, a foreign
corporation controlled by United States shareholders) for United States tax
purposes, unless the broker has documentary evidence in its records that the
holder is a Non-U.S. Shareholder and certain other conditions are met, or the
shareholder otherwise establishes an exemption. Payment to or through a United
States office of a broker of the proceeds of a sale of Common Shares is subject
to both backup withholding and information reporting unless the shareholder
certifies under penalty of perjury that the shareholder is a Non-U.S.
Shareholder, or otherwise establishes an exemption. A Non-U.S. Shareholder may
obtain a refund of any amounts withheld under the backup withholding rules by
filing the appropriate claim for refund with the IRS.
The IRS has recently finalized regulations regarding the withholding and
information reporting rules discussed above. In general, these regulations do
not alter the substantive withholding and information reporting requirements but
unify certifications procedures and forms and clarify and modify reliance
standards. These regulations generally are effective for payments made after
December 31, 2000, subject to certain transition rules. Valid withholding
certificates that are held on December 31, 1999, will remain valid until the
earlier of December 31, 2000 or the date of expiration of the certificate under
rules currently in effect (unless otherwise invalidated due to changes in the
circumstances of the person whose name is on such certificate). A Non-U.S.
Shareholder should consult its own advisor regarding the effect of the new
Treasury Regulations.
Tax Aspects of Host REIT's Ownership of OP Units
General. Substantially all of Host REIT's investments will be held through
the Operating Partnership, which will hold the Hotels either directly or through
the Hotel Partnerships (which, in turn, may hold Hotels through certain
Subsidiary Partnerships). In general, partnerships are "pass-through" entities
that are not subject to federal income tax. Rather, partners are allocated
their proportionate shares of the items of income, gain, loss, deduction and
credit of a partnership, and are potentially subject to tax thereon, without
regard to whether the partners receive a distribution from
258
<PAGE>
the partnership. Host REIT will include in its income its proportionate share of
the foregoing partnership items for purposes of the various REIT income tests
and in the computation of its REIT taxable income. Moreover, for purposes of the
REIT asset tests, Host REIT will include its proportionate share of assets held
through the Operating Partnership, the Hotel Partnerships and any Subsidiary
Partnerships. See "-- Federal Income Taxation of Host REIT Following the
Mergers -- Ownership of Partnership Interests by a REIT."
Entity Classification. If the Operating Partnership, any of the Hotel
Partnerships, any of the Subsidiary Partnerships, or any other partnership or
LLC in which the Operating Partnership has a direct or indirect interest were
treated as an association, the entity would be taxable as a corporation and
therefore would be subject to an entity level tax on its income. In such a
situation, the character of Host REIT's assets and items of gross income would
change and could preclude Host REIT from qualifying as a REIT (see "Federal
Income Taxation of Host REIT Following the Mergers -- Asset Tests Applicable to
REITs" and "-- Income Tests Applicable to REITs").
At the time of the closing of the Mergers, Hogan & Hartson will deliver an
opinion to Host REIT stating that, based on certain factual assumptions and
representations described in the opinion, the Operating Partnership, each of the
Hotel Partnerships, and each of the Subsidiary Partnerships will be treated as a
partnership (or disregarded) for federal income tax purposes (and not treated as
an association taxable as a corporation).
Partnership Allocations. Although a partnership agreement will generally
determine the allocation of income and loss among partners, such allocations
will be disregarded for tax purposes if they do not comply with the provisions
of Section 704(b) of the Code and the Treasury Regulations promulgated
thereunder. Generally, Section 704(b) and the Treasury Regulations promulgated
thereunder require that partnership allocations respect the economic arrangement
of the partners.
If an allocation is not recognized for federal income tax purposes, the
item subject to the allocation will be reallocated in accordance with the
partners' interests in the partnership, which will be determined by taking into
account all of the facts and circumstances relating to the economic arrangement
of the partners with respect to such item. The allocations of taxable income
and loss provided for in the Partnership Agreement and the partnership
agreements for the Hotel Partnerships (and any Subsidiary Partnerships) are
intended to comply with the requirements of Section 704(b) of the Code and the
Treasury Regulations promulgated thereunder.
Tax Allocations with Respect to the Hotels. As described above, pursuant
to Section 704(c) of the Code, income, gain, loss and deduction attributable to
appreciated or depreciated property (such as the Hotels) that is contributed to
a partnership in exchange for an interest in the partnership must be allocated
in a manner such that the contributing partner is charged with, or benefits
from, respectively, the Book-Tax Difference associated with the property at the
time of the contribution. The Partnership Agreement requires that such
allocations be made in a manner consistent with Section 704(c) of the Code.
In general, the partners of the Operating Partnership who contributed
depreciated assets having an adjusted tax basis less than their fair market
value at the time of contribution (which includes all of the Limited Partners
owning interests in the Partnerships) will be allocated depreciation deductions
for tax purposes that are lower than such deductions would be if determined on a
pro rata basis. In addition, in the event of the disposition of any of the
contributed assets which have such a Book-Tax Difference, all income
attributable to such Book-Tax Difference generally will be allocated to such
partners. These allocations will tend to eliminate the Book-Tax Difference over
the life of the Operating Partnership. However, the special allocation rules of
Section 704(c) do not always entirely eliminate the Book-Tax Difference on an
annual basis or with respect to a specific taxable transaction such as a sale.
Thus, the carryover basis of the contributed assets in the hands
259
<PAGE>
of the Operating Partnership may cause Host REIT to be allocated lower
depreciation and other deductions, and possibly an amount of taxable income in
the event of a sale of such contributed assets in excess of the economic or book
income allocated to it as a result of such sale. Such an allocation might cause
Host REIT to recognize taxable income in excess of cash proceeds, which might
adversely affect Host REIT's ability to comply with the REIT distribution
requirements. See "Federal Income Taxation of Host REIT Following the Mergers --
Annual Distribution Requirements Applicable to REITs."
As described above in "Tax Consequences of the Merger Relief from
Liabilities/Deemed Cash Distribution", the Operating Partnership and Host REIT
have determined to use the traditional method to account for Book-Tax
Differences with respect to the Hotels contributed to the Operating Partnership
in connection with the Mergers. This method is generally the most favorable
method for accounting for Book-Tax Differences from the perspective of those
partners (including Host REIT) receiving OP Units in exchange for property with
a low basis relative to value at the time of the Mergers and is the least
favorable method from the perspective of those partners contributing cash (or
"high basis" assets) to the Operating Partnership (including Host REIT, to the
extent it contributes cash to the Operating Partnership).
With respect to any property purchased by the Operating Partnership
subsequent to the Mergers, such property will initially have a tax basis equal
to its fair market value, and Section 704(c) of the Code will not apply.
Other Tax Consequences for Host REIT and Its Shareholders
Host REIT and its shareholders may be subject to state or local taxation in
various state or local jurisdictions, including those in which it or they
transact business or reside. The state and local tax treatment of Host REIT and
its shareholders may not conform to the federal income tax consequences
discussed above. Consequently, prospective shareholders of Host REIT should
consult their own tax advisors regarding the effect of state and local tax laws
on an investment in Host REIT.
A portion of the cash to be used by Host REIT to fund distributions is
expected to come from each Non-Controlled Subsidiary through payments of
dividends on the shares of such corporation held by the Operating Partnership
(and interest on notes held by the Operating Partnership). Each Non-Controlled
Subsidiary will pay federal and state income tax at the full applicable
corporate rates. To the extent that a Non-Controlled Subsidiary is required to
pay federal, state or local taxes, the cash otherwise available for distribution
by Host REIT to its shareholders will be reduced accordingly.
260
<PAGE>
VOTING PROCEDURES
Distribution of Solicitation Materials
This Consent Solicitation, together with the accompanying transmittal
letter, the power of attorney and the Limited Partner consent (the power of
attorney and Limited Partner consent are referred to collectively as the
"Consent Form"), constitute the Solicitation Materials being distributed to the
Limited Partners to obtain their votes for or against a Merger.
In order to participate in a Merger, the Limited Partners of each
Partnership must approve such participation by a certain vote of limited
partnership interests as set forth in the table below under "-- Required Vote
and Other Conditions." Each Partnership that approves the Merger will effect a
Merger as set forth below and in the Supplement relating to the individual
Partnership. Each Limited Partner, therefore, should complete and return the
Consent Form before the expiration of the Solicitation Period. The Solicitation
Period is the time period during which Limited Partners may vote for, against
the Mergers or abstain and select their consideration, either OP Units or Notes.
The Solicitation Period will commence upon delivery of the Solicitation
Materials to the Limited Partners (on or about ________ __, 1998) and will
continue until the later of (a) _______ __, 1998 (a date not less than 60
calendar days from the initial delivery of the Solicitation Materials) or (b)
such later date as may be selected by the General Partners and the Operating
Partnership and as to which notice is given to the Limited Partners. At their
discretion, the General Partners and the Operating Partnership may elect to
extend the Solicitation Period. Under no circumstances will the Solicitation
Period be extended beyond ______ __, 1998. Any Consent Form received by the
information agent (the "Information Agent") prior to 5:00 p.m., Eastern time, on
the last day of the Solicitation Period will be effective provided that such
Consent Form has been properly completed and signed. The Partnership Interests
of Atlanta Marquis, Chicago Suites, MDAH or PHLP Limited Partners who fail to
return a signed Consent Form by the end of the Solicitation Period or abstain
will be counted as voting AGAINST the Merger. The Partnership Interests of
Desert Springs, Hanover, MHP or MHP2 Limited Partners who fail to return a
signed Consent Form by the end of the Solicitation Period will not be counted
for purposes of establishing a quorum, while the Partnership Interests of those
who abstain will be counted for purposes of establishing a quorum but will
effectively be counted as voting AGAINST the Merger. Failure of a Limited
Partner to return a signed Consent Form, whether it counts as a vote against the
Merger or hinders the establishment of a quorum, may jeopardize completion of
the Merger.
The Consent Form seeks a Limited Partner's consent to the Merger and
certain related matters. The exact matters which a vote in favor of the Merger
will be deemed to approve differ for each Partnership and are explained in
detail in the individual Supplement for each Partnership. If a Limited Partner
has interests in more than one Partnership, all of such interests will be set
forth on the Consent Form and the Consent Form will provide for separate votes
by the Limited Partner for each Partnership listed. Limited Partners who return
a signed Consent Form but fail to indicate their approval or disapproval as to
any matter (including the Merger) will be deemed to have voted to APPROVE such
matter.
261
<PAGE>
No Special Meetings
None of the Partnerships has scheduled a special meeting of its Limited
Partners to discuss the Solicitation Materials or the terms of the Mergers. The
General Partners, members of Host REIT's management and the Information Agent
intend to solicit actively the support of the Limited Partners for the Mergers
and, subject to applicable federal and state securities laws, hold informal
meetings with Limited Partners, answer questions about the Mergers and the
Solicitation Materials and explain the reasons for the recommendation that
Limited Partners vote to approve the Mergers. Costs of solicitation will be
allocated as set forth in "The REIT Conversion -- Expenses." No person will
receive compensation contingent upon solicitation of a favorable vote.
Required Vote and Other Conditions
The General Partners and the Operating Partnership have conditioned
participation in the Mergers by each Partnership upon obtaining the required
votes set forth in the table below. See "The REIT Conversion -- Conditions to
the Consummation of the Mergers."
Partnership Required Vote
----------- -------------
Atlanta Marquis Consent of limited partners holding more
than 50% of the outstanding limited
partnership interests in each class of
Partnership Units and the approval of the
General Partner. The General Partner
holds 0.28% of the outstanding Class A
limited partnership interests. The
General Partner may vote its Class A
limited partnership interests.
Chicago Suites Consent of limited partners holding more
than 50% of the outstanding limited
partnership interests and the approval of
the General Partner. The General Partner
holds no limited partnership interests.
Desert Springs Consent of limited partners holding more
than 50% of the outstanding limited
partnership interests constituting a
quorum and the approval of the General
Partner. A majority of limited
partnership interests held by the Limited
Partners constitutes a quorum. The
General Partner holds no limited
partnership interests.
Hanover Consent of limited partners holding more
than 50% of the outstanding limited
partnership interests and the approval of
the General Partner. An affiliate of the
General Partner holds 47.6% of the
outstanding limited partnership interests.
The affiliate of the General Partner must
262
<PAGE>
vote all of its limited partnership
interests in the same manner as the
majority of limited partnership interests
constituting a quorum vote. A majority of
limited partnership interests held by
Limited Partners constitutes a quorum.
MDAH Consent of limited partners holding more
than 50% of the outstanding limited
partnership interests and the approval of
the General Partner. The General Partner
holds 0.60% of the limited partnership
interests. The General Partner may not
vote its limited partnership interests.
MHP Consent of limited partners holding more
than 50% of the outstanding limited
partnership interests and the approval of
the General Partner. The General Partner
and its affiliate collectively hold 48.3%
of the outstanding limited partnership
interests. The General Partner and its
affiliate must vote all of their limited
partnership interests in the same manner
as the majority of limited partnership
interests constituting a quorum vote. A
majority of limited partnership interests
held by Limited Partners constitutes a
quorum.
MHP2 Consent of limited partners holding more
than 50% of the outstanding limited
partnership interests and the approval of
the General Partner. The General Partner
and its affiliate collectively hold 52.7%
of the outstanding limited partnership
interests. The General Partner and its
affiliate must vote all of their limited
partnership interests in the same manner
as the majority of limited partnership
interests constituting a quorum vote. A
majority of limited partnership interests
held by Limited Partners constitutes a
quorum.
PHLP Consent of limited partners holding more
than 50% of the outstanding limited
partnership interests and the approval of
the General Partner. The General Partner
holds 0.06% of the limited partnership
interests. The General Partner may vote
its limited partnership interests.
263
<PAGE>
Record Date and Outstanding Partnership Units. The Record Date is ________
__, 1998 for all Partnerships. As of the Record Date, the following number of
Partnership Units were held of record by the number of Limited Partners
indicated below:
<TABLE>
<CAPTION>
Number of Number of Number of Units
Limited Units Held Required for Approval
Partnership Partners of Record of the Merger
- ----------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Atlanta Marquis 530 266
Chicago Suites 335 168
Desert Springs 900 N/A(1)
Hanover 84 N/A(1)
MDAH 414 206(2)
MHP 1,000 N/A(1)
MHP2 745 N/A(1)
PHLP 1,800 901
</TABLE>
(1) The number of Partnership Units required for approval of a Merger cannot be
calculated because approval requires the affirmative vote of more than 50%
of the number of Partnership Units actually voted by Limited Partners;
provided that, the total number of Partnership Units voted by Limited
Partners constitutes a quorum. In each Partnership that requires a quorum, a
majority of the outstanding Partnership Units held by Limited Partners
constitutes such quorum.
(2) The General Partner of MDAH holds 2.5 Partnership Units and may not vote
such Partnership Units. Therefore only 411.5 Partnership Units are eligible
to be voted and the total number of Partnership Units required to approve
the MDAH Merger is 206.
Each Limited Partner is entitled to one vote for each Partnership Unit
held. Accordingly, the number of Partnership Units entitled to vote with
respect to the Merger is equivalent to the number of Partnership Units held of
record at the Record Date.
Investor Lists. Under Rule 14a-7 of the Exchange Act, each Partnership is
required, upon the written request of a Limited Partner, to provide to the
requesting Limited Partner (i) a statement of the approximate number of Limited
Partners in such Limited Partner's Partnership, and (ii) the estimated cost of
mailing a proxy statement, form of proxy or other similar communication to such
Limited Partners. In addition, a Limited Partner has the right, at his or her
option, either (a) to have his Partnership mail (at the Limited Partner's
expense) copies of any proxy statement, proxy form or other soliciting materials
furnished by the Partnership to the Partnership's Limited Partners designated by
the Limited Partner, or (b) to have the Partnership deliver to the requesting
Limited Partner, within five business days of the receipt of the request, a
reasonably current list of the names, addresses and class of Partnership Units
held by the Partnership's Limited Partners. The right to receive the list of
Limited Partners is subject to the requesting Limited Partner's payment of the
cost of mailing and duplication at a rate of $0.15 per page.
Tabulation of Votes. An automated system administered by ________________
will tabulate the votes. Abstentions will be tabulated with respect to the
Mergers and related matters. Abstentions will have the effect of a vote against
the Merger. The failure to return a Consent Form and broker nonvotes (where a
broker submits a consent but does not have authority to vote a Limited Partner's
Partnership Units on one or more matters) will either have the effect of a vote
against the Merger or will not be counted toward fulfillment of a quorum
requirement, depending on the Partnership. The number of Partnership Units that
must be voted in favor of the Merger for it to be approved by the respective
Partnerships is shown in the table above.
264
<PAGE>
EXPERTS
The financial statements and schedule of Host Marriott Hotels as of January
2, 1998 and January 3, 1997 and for each of the three years in the period ended
January 2, 1998, the financial statements of HMC Senior Living Communities, Inc.
as of January 2, 1998 and for the period June 21, 1997 (inception) through
January 2, 1998 and the financial statements of Atlanta Marriott Marquis II
Limited Partnership, Mutual Benefit Chicago Marriott Suite Hotel Partners, L.P.,
Desert Springs Marriott Limited Partnership, Hanover Marriott Limited
Partnership, Marriott Diversified American Hotels, L.P., Marriott Hotel
Properties Limited Partnership, Marriott Hotel Properties II Limited Partnership
and Potomac Hotel Limited Partnership as of December 31, 1997 and 1996 and each
of the three years ended December 31, 1997 included in this Consent Solicitation
and in the Supplements hereto have been audited by Arthur Andersen LLP,
independent public accountants, as indicated in their reports with respect
thereto, and are included herein in reliance upon the authority of said firm as
experts in giving said reports.
The Appraisals and the Fairness Opinion included in this Consent
Solicitation Statement or the Registration Statement of which it is a part have
been prepared by American Appraisal Associates, Inc. and are included herein
and therein in reliance upon the authority of said firm as experts are giving
such reports.
LEGAL MATTERS
Certain legal matters, including certain tax matters, will be passed upon
for the Operating Partnership and Host REIT by Hogan & Hartson L.L.P.,
Washington, D.C.
AVAILABLE INFORMATION
The Partnerships (except Chicago Suites, Hanover and MDAH) are subject to
the reporting requirements of the Securities Exchange Act of 1934, as amended
(the "Exchange Act"), and are required to file reports and other information
with the Securities and Exchange Commission (the "Commission"), 450 Fifth Street
N.W., Washington, D.C. 20549. In addition, the Operating Partnership has filed
a Registration Statement on Form S-4 under the Securities Act of 1933, as
amended (the "Securities Act") and the rules and regulations thereunder, with
respect to the securities offered pursuant to this Prospectus/Consent
Solicitation Statement. This Prospectus/Consent Solicitation Statement, which
is part of the Registration Statement, does not contain all of the information
set forth in the Registration Statement and the exhibits and financial schedules
thereto. For further information concerning the Mergers, please refer to the
reports of the Partnerships (except Chicago Suites, Hanover and MDAH) filed
under the Exchange Act and the Operating Partnership's Registration Statement
and such exhibits and schedules, copies of which may be examined without charge
at, or obtained upon payment of prescribed fees from, the Public Reference
Section of the Commission at Judiciary Plaza, 450 Fifth Street, N.W.,
Washington, D.C. 20549, and which will also be available for inspection and
copying at the regional offices of the Commission located at Room 1400, 75 Park
Place, New York, New York 10007 and at 500 West Madison Street, Suite 1400,
Chicago, Illinois 60661-2511. The Commission maintains a web site that contains
reports, proxy and information statements and other information regarding
registrants that file electronically with the Commission at
"http:\\www.sec.gov".
A separate Supplement to this Prospectus/Consent Solicitation Statement has
been prepared for each Partnership and will be delivered to each Limited Partner
of the Partnership covered thereby. Upon receipt of a written request by a
Limited Partner or representative so designated in writing, the General Partners
will send a copy of any Supplement without charge. All requests should be
directed to: Investor Relations, 10400 Fernwood Road, Bethesda, Maryland 20817,
telephone number: (301) 380-2070.
265
<PAGE>
Statements contained in this Prospectus/Consent Solicitation Statement or
any supplements hereto as to the contents of any contract or other document
which is filed as an exhibit to the Registration Statement are not necessarily
complete, and each such statement is qualified in its entirety by reference to
the full text of such contract or document.
Upon consummation of the REIT Conversion, Host REIT and the Operating
Partnership will be required to file reports and other information with the
Commission pursuant to the Exchange Act. In addition to applicable legal or
NYSE requirements, if any, holders of the OP Units and the Common Shares will
receive annual reports containing audited financial statements with a report
thereon by Host REIT's and the Operating Partnership's independent public
accountants, and quarterly reports containing unaudited financial information
for each of the first three quarters of each fiscal year. If a Partnership does
not participate in the Mergers and REIT Conversion, such Partnership will
continue to file reports and other information with the Commission as required
by law, if applicable.
266
<PAGE>
GLOSSARY
"100% Participation with No Notes Issued" means all Partnerships
participate in the Mergers and the REIT Conversion and no Notes are issued.
"100% Participation with Notes Issued" means all Partnerships participate
in the Mergers and the REIT Conversion and every Limited Partner elects to
receive Notes.
"15% Personal Property Test" means rent paid to Host REIT will not be
considered "rent from real property" if personal property accounts for more than
15% of the total rent received under the lease of real property.
"1993 Act" means the Omnibus Budget Reconciliation Act of 1993.
"1997 Act" means the Taxpayer Relief Act of 1997.
"AAA" means American Appraisal Associates, Inc., an independent, nationally
recognized hotel valuation and financial advisory firm that performed the
Appraisals as to the Hotel(s) owned by each Partnership, provided estimates of
the Continuation Value of each Partnership and rendered the Fairness Opinion.
"Acquired Earnings" mean undistributed earnings and profits at the time of
the REIT Conversion (including earnings and profits resulting from either
transactions undertaken in contemplation of the REIT Conversion or the REIT
Conversion itself).
"ADA" means the Americans with Disabilities Act.
"Adjusted Appraised Value" of a Partnership equals the Appraised Value of
its Hotels, adjusted as of the Final Valuation Date for lender reserves, capital
expenditure reserves, existing indebtedness (including a "mark to market"
adjustment to reflect the market value of such indebtedness), certain deferred
maintenance costs, deferred management fees and transfer and recordation taxes
and fees.
"Adjusted Base Rent" means an amount equal to the Base Rent less the FF&E
Adjustment.
"Adjusted NOI" means NOI as adjusted for incentive management fees and
certain capital expenditures.
"AMTI" means alternative minimum taxable income.
"Anti-Abuse Rule" means a regulation under the Partnership Provisions of
the Code that authorizes the IRS, in certain "abusive" transactions involving
partnerships, to disregard the form of the transaction and recast it for federal
tax purposes as the IRS deems appropriate.
"Appraisal" means an appraisal of a Partnership's Hotel performed by AAA as
of March 1, 1998 that is an evaluation of the Market Value of a property as if
available for sale in the open market.
"Appraised Value" means the fair market value of each Partnership's
Hotels as of March 1, 1998 as determined by AAA.
"Atlanta Marquis" means Atlanta Marriott Marquis II Limited Partnership, a
Delaware limited partnership or, as the context may require, such entity
together with its subsidiaries, or any of such subsidiaries.
267
<PAGE>
"Available Cash" means net income plus depreciation and amortization and
any reduction in reserves and minus interest and principal payments on debt,
capital expenditures, any additions to reserves and other adjustments.
"Base Rent" means a fixed dollar amount of rent payable monthly by the
Lessee to the Operating Partnership unless the amount payable under the
Percentage Rent provision is higher, in which case only Percentage Rent will be
payable.
"Blackstone Acquisition" means the acquisition, on the Closing Date, by the
Operating Partnership of 12 full-service hotels and certain other assets from
the Blackstone Entities in exchange for approximately 45.0 million OP Units,
assumption of debt or cash payments totaling approximately $835 million and a
distribution of ___% of the shares of SLC common stock.
"Blackstone Entities" mean The Blackstone Group, a Delaware limited
partnership and a series of funds controlled by Blackstone Real Estate
Partners, a Delaware limited partnership.
"Blackstone Hotels" mean the 12 upscale and luxury full-service hotel
properties to be acquired by Host from the Blackstone Entities in the Blackstone
Acquisition.
"Bond Refinancing" means the refinancing, to occur prior to or concurrently
with the initial contribution of assets by Host to the Operating Partnership, of
$1.25 billion of outstanding public bonds through offers to purchase such debt
securities for cash and a concurrent solicitation of consents to amend the terms
of the debt securities to permit the transactions constituting the REIT
Conversion.
"Book-Tax Difference" means the difference between the fair market value of
the contributed property at the time of contribution and the adjusted tax basis
of such property at the time of such contribution.
"Built-In Gain Asset" means an asset which has been acquired from a C
corporation in a transaction in which the basis of the asset in the hands of
Host REIT is determined by reference to the basis of the asset in the hands of
the C corporation.
"Business Day" means any day, other than a Saturday or Sunday, on which the
banking institutions in the City of New York are open for business.
"Chain Services" mean services generally furnished on a central or regional
basis to the Hotels. Such services include the following: (i) the development
and operation of computer systems and reservation services, (ii) regional
management and administrative services, regional marketing and sales services,
regional training services, manpower development and relocation costs of
regional personnel and (iii) such additional central or regional services as may
from time to time be more efficiently performed on a regional or group level.
"Chicago Suites" means Mutual Benefit Chicago Marriott Suite Hotel
Partners, L.P., a Rhode Island limited partnership.
"Closing Date" means the date of the closing of the Mergers.
"Code" means the Internal Revenue Code of 1986, as amended.
"Commission" means the Securities and Exchange Commission.
268
<PAGE>
"Common Share" means a common share of beneficial interest, $.01 par value
per share, of Host REIT.
"Company" means Host, with respect to periods prior to the REIT Conversion,
and Host REIT and the Operating Partnership, or either of them or any of their
subsidiaries, with respect to the period after the REIT Conversion.
"Consent Form" means the consent form and power of attorney, collectively.
"Consent Solicitation" means the Prospectus/Consent Solicitation Statement
of the Operating Partnership dated _________ __, 1998.
"Continuation Value" of a Partnership represents AAA's estimate, as adopted
by the General Partners, of the discounted present value, as of January 1, 1998
of the limited partners' share of estimated future cash distributions and
estimated net sales proceeds (plus lender reserves) assuming that the
Partnership continues as an operating business for twelve years and its assets
are sold on December 31, 2009 for their then estimated market value.
"Control share acquisition" means the acquisition of Control shares,
subject to certain exceptions.
"Control shares" mean voting shares which, if aggregated with all other
voting shares previously acquired by the acquiror or in respect of which the
acquiror is able to exercise or direct the exercise of voting power (except
solely by virtue of a revocable proxy), would entitle the acquiror to exercise
voting power in electing trustees within one of the following ranges of voting
power: (i) one-fifth or more but less than one-third, (ii) one third or more
but less than a majority or (iii) a majority or more of all voting power.
Control shares do not include shares the acquiring person is then entitled to
vote as a result of having previously obtained shareholder approval.
"Convertible Preferred Securities" means the 6 3/4% Convertible Quarterly
Income Preferred Securities issued by Host Marriott Financial Trust, with an
aggregate liquidation amount of $550 million, which are guaranteed on a
subordinated basis by, and convertible into the common stock of, Host.
"CPI" means the Consumer Price Index.
"Declaration of Trust" means the Declaration of Trust of Host REIT, dated
_______ __, 1998.
"Delaware Act" means the Delaware Revised Uniform Limited Partnership Act.
"Desert Springs" means Desert Springs Marriott Limited Partnership, a
Delaware limited partnership or, as the context may require, such entity
together with its subsidiaries, or any of such subsidiaries.
"Disguised Sale Regulations" mean Section 707 of the Code and the Treasury
Regulations thereunder.
"EBITDA" consists of the sum of consolidated net income, interest expense,
depreciation and amortization. EBITDA data is presented because such data is
used by certain investors to determine the Operating Partnership's ability to
meet debt service requirements. The Operating Partnership considers EBITDA to
be an indicative measure of the Operating Partnership's operating performance
due to the significance of the Operating Partnership's long-lived assets and
because EBITDA can be used to measure the Operating Partnership's ability to
service debt, fund capital expenditures and expand its business; however, such
information should not be considered as an alternative to net income, operating
profit, cash flows from operations, or any other operating or liquidity
performance measure prescribed by GAAP. Cash expenditures for various long-term
assets and interest expense have been, and will be, incurred which are not
reflected in the EBITDA presentations.
269
<PAGE>
"Effective Time" means the time at which the Certificates of Merger with
respect to the Mergers of the Merger Partnerships with and into the
Participating Partnerships are filed with the Secretaries of State of the State
of Delaware and the State of Rhode Island.
"EITF" means the Emerging Issues Task Force of the Financial Accounting
Standards Board.
"Employee Benefits Allocation Agreement" means the Employee Benefits
Allocation and Other Employment Matters Agreement entered into by Host and HM
Services that provides for the allocation of certain responsibilities with
respect to employee compensation, benefits and labor matters.
"Engineering Study" means a study prepared by an engineer retained by Host.
"Excess FF&E" means replacement FF&E that would cause the average tax basis
of the items of the Lessor's FF&E and other personal property that are leased to
the applicable Lessee to exceed 15% of the aggregate average tax basis of the
real and personal property subject to the applicable Lease.
"Excess Losses" mean losses that would have the effect of creating a
deficit balance in a Limited Partner's capital account.
"Exchange Act" means the Securities Exchange Act of 1934, as amended.
"Exchange Value" of a Partnership or Partnership Interest means the value
equal to the greatest of its Adjusted Appraised Value, Continuation Value and
Liquidation Value.
"Fairness Opinion" means the fairness opinion rendered by AAA which
concluded that: (i) the methodologies used to determine the Exchange Value of
each Partnership, including, without limitation, the assumptions used to
determine the various adjustments to the Appraised Values of the Hotels, are
fair and reasonable, from a financial point of view, to the Limited Partners of
each Partnership, (ii) the methodology used to determine the value of an OP Unit
is fair and reasonable to the Limited Partners of each Partnership and (iii) the
methodologies and underlying assumptions used to determine the Continuation
Value and the Liquidation Value of each Partnership, including, without
limitation, the assumptions used to determine the various adjustments to the
Appraised Values of the Hotels, are fair and reasonable, from the standpoint of
each Partnership.
"FF&E" means furniture, fixtures and equipment.
"FF&E Adjustment" means the amount by which the annual Base Rent would be
reduced in the case that the average tax basis of the items of the Lessor's FF&E
and other personal property that are leased to the applicable Lessee exceed 15%
of the aggregate average tax basis of the real and personal property subject to
the applicable Lease. The FF&E Adjustment is equal to (i) the Market Leasing
Factor times the cost of the replacement FF&E (if the Special Subsidiary leases
the FF&E to the Lessee) or (ii) 110% of the Market Leasing Factor times the cost
of the replacement FF&E (if the Special Subsidiary does not lease the FF&E to
the Lessee), for a period equal to the weighted average useful life of the
Excess FF&E.
"FF&E Replacements" mean FF&E to be acquired and certain routine repairs
that are normally capitalized to be performed in the next year.
"Final Valuation Date" means the date that is the end of the four week
accounting period ending at least 20 days prior to the Closing Date and
is the date when the Exchange Value will be finally determined.
"FIRPTA" means the Foreign Investment in Real Property Tax Act of 1980.
270
<PAGE>
"Forum Group" means the Forum Group, Inc., which was acquired by Host on
June 21, 1997 from Marriott Senior Living Services, Inc., a subsidiary of
Marriott International. The Forum Group holds interests in 29 premier senior
living communities.
"Full Participation Scenario" means the REIT Conversion occurs, all the
Partnerships participate and no Notes are issued.
"Funds From Operations" or "FFO" means net income (loss) computed in
accordance with GAAP, excluding gains (or losses) from debt restructuring and
sales of properties, plus real estate depreciation and amortization, and after
adjustments for unconsolidated partnerships and joint ventures, in accordance
with the NAREIT White Paper.
"GAAP" means generally accepted accounting principles.
"General Partner" means the general partner of a Partnership, each of which
general partners is a wholly owned, direct or indirect subsidiary of Host
(except in the case of PHLP, in which Host is the general partner).
"Gross Revenues" mean proceeds from aggregate sales from a Hotel, including
room sales, food and beverage sales and telephone and other sales.
"Hanover" means Hanover Marriott Limited Partnership, a Delaware limited
partnership.
"Holders" mean persons in whose names the Notes are registered in the
security register for the Notes.
"Host" means Host Marriott Corporation, a Delaware corporation.
"Host REIT" means Host Marriott Trust, a Maryland real estate investment
trust, which will be the sole general partner of the Operating Partnership and
the successor to Host.
"Hotel Partnership" means any Partnership or Private Partnership.
"Hotels" mean the approximately 120 full-service hotels operating primarily
under the Marriott, Ritz-Carlton, Four Seasons, Swissotel and Hyatt brand names
in which the Operating Partnership and its subsidiaries will initially have
controlling interests or own outright following the REIT Conversion and the
Blackstone Acquisition.
"Impermissible Tenant Service Income" means any amount charged to a tenant
for services rendered by Host REIT or its affiliates which is greater than 150%
of the cost of providing such services.
"Indenture" means the indenture entered into between the Operating
Partnership and ________ pursuant to which the Notes will be issued.
"Indenture Trustee" means ________________, the trustee under the
Indenture.
"Information Agent" means ___________________.
"Initial Basis" means a Limited Partner's initial tax basis in his OP
Units.
"Initial Holding Period" means the one-year period beginning after the
Closing Date during which Limited Partners will be prohibited from redeeming OP
Units acquired in the Mergers.
271
<PAGE>
"Initial Valuation Date" means ___________ __, 1998.
"Interest Payment Date" means each June 15 and December 15 commencing June
15, 1999.
"Interested Shareholder" means a person who owns 10% or more of the voting
power of a trust's then outstanding shares of beneficial interests or his
affiliate.
"IRS" means the Internal Revenue Service.
"Leases" mean the lease agreements under which the Lessees will lease the
Hotels from the Operating Partnership.
"Lessees" mean the entities to which the Operating Partnership will lease
the Hotels and who will operate the Hotels under the existing management
agreements and pay rent to the Operating Partnership.
"LIBOR" means the London Interbank Offered Rate.
"Limited Partners" mean the limited partners, excluding those affiliated
with Host, of the Partnerships.
"Liquidation Value" of a Partnership represents the General Partners'
estimate of the net proceeds to limited partners resulting from the assumed sale
as of December 31, 1998 of the Hotel(s) of the Partnership, each at its Adjusted
Appraised Value (after eliminating any "mark to market" adjustment and adding
back the deduction for transfer taxes, if any, made in deriving the Adjusted
Appraised Value), less (i) estimated liquidation costs, expenses and
contingencies equal to 2.5% of Appraised Value and (ii) prepayment penalties or
defeasance cost, as applicable.
"Management Agreements" mean the current management agreements pursuant to
which the Managers manage the Hotels. Following REIT Conversion, the management
agreements will be assigned to the Lessees.
"Managers" mean the subsidiaries of Marriott International and other
companies who manage the Hotels on behalf of Host or the Hotel Partnerships (and
following the REIT Conversion on behalf of the Lessees) pursuant to the existing
management agreements.
"Market Leasing Factor" means the amount, 110% of which times the cost of
replacement FF&E, that the annual Base Rent would be reduced in the case that
the average tax basis of the items of the Lessor's FF&E and other personal
property that are leased to the applicable Lessee exceed 15% of the aggregate
average tax basis of the real and personal property subject to the applicable
Lease. The Market Leasing Factor will be determined for the first two years
under a Lease at the time the Lease is executed. Each year thereafter, the
Market Leasing Factor will be determined by an independent valuation expert,
mutually acceptable to the Lessor and the Lessee, who shall determine the amount
based upon the median of the leasing rates of at least three nationally
recognized companies engaged in the business of leasing similar personal
property.
"Market Value" means the most probable price which a property should bring
in a competitive and open market under all conditions requisite to a fair sale,
the buyer and seller each acting prudently and knowledgeably and assuming the
price is not affected by undue stimuli. Implicit in this definition is the
consummation of a sale as of a specific date and the passing of title from
seller to buyer under conditions whereby: (i) the buyer and seller are
typically motivated; (ii) both parties are well informed or well advised, and
each is acting in what he considers his own best interest; (iii) a reasonable
time frame is allowed for exposure in the open market; (iv) payment is made in
terms of cash in U.S. dollars or in terms of financial arrangements comparable
thereto and
272
<PAGE>
(v) the price represents the normal consideration for the property sold
unaffected by special or creative financing or sales concessions granted by
anyone associated with the sale.
"Marriott International" means Marriott International, Inc., a Delaware
corporation.
"Maryland REIT Law" means Title 8 of the Maryland General Corporation Law.
"Maturity Date" means December 15, 2005.
"MDAH" means Marriott Diversified American Hotels, L.P., a Delaware limited
partnership.
"Merger" means the proposed merger of a Merger Partnership into a
Partnership pursuant to this Consent Solicitation, in which the Partnership is
the surviving entity.
"Merger Expenses" mean all costs and expenses incurred in connection with
the proposed Mergers, including transfer and recordation taxes and costs.
"Merger Partnership" means a newly formed direct or indirect wholly owned
subsidiary of the Operating Partnership which will merge with and into a
Partnership.
"MGCL" means the Maryland General Corporation Law.
"MHP" means Marriott Hotel Properties Limited Partnership, a Delaware
limited partnership or, as the context may require, such entity together with
its subsidiaries, or any of such subsidiaries.
"MHP2" means Marriott Hotel Properties II Limited Partnership, a Delaware
limited partnership or, as the context may require, such entity together with
its subsidiaries, or any of such subsidiaries.
"NAREIT" means the National Association of Real Estate Investment Trusts,
Inc.
"Net Cash Proceeds" mean net cash proceeds from the (i) sale or other
disposition of a Hotel for an amount in excess of (a) the amount required to
repay mortgage indebtedness (outstanding immediately prior to the Mergers)
secured by such Hotel or otherwise required to be applied to the reduction of
indebtedness of such Partnership and (b) the costs incurred by the Partnership
in connection with such sale or other disposition or (ii) refinancing (whether
at maturity or otherwise) of any indebtedness secured by any Hotel in an amount
in excess of (a) the amount of indebtedness secured by such Hotel at the time of
the Mergers, calculated prior to any repayment or other reduction in the amount
of such indebtedness in the Mergers and (b) the costs incurred by the Operating
Partnership or such Partnership in connection with such refinancing.
"New Credit Facility" means a new $1.5 billion unsecured credit facility
for the Operating Partnership.
"NOI" means net operating income or the income before interests, taxes,
depreciation and amortization.
"Non-Controlled Subsidiaries" mean the one or more taxable corporations
in which the Operating Partnership will own 95% of the economic interest but no
voting stock and which will hold various assets contributed by Host and its
subsidiaries to the Operating Partnership, which assets, if owned directly by
the Operating Partnership, might jeopardize Host REIT's status as a REIT.
"Non-Participating Partnership" means a Partnership whose Limited Partners
do not vote in favor of the Merger and which does not participate in a Merger.
273
<PAGE>
"Non-U.S. Shareholders" mean persons that are, for purposes of federal
income taxation, nonresident alien individuals, foreign corporations, foreign
partnerships or foreign estates or trusts.
"Note" means an unsecured __% Note due December 15, 2005 of the Operating
Partnership which a Limited Partner, having previously so elected at the time of
voting, can receive at the time of the Mergers with a principal amount equal to
the Note Election Amount of the Limited Partner's Partnership Interest in
exchange for OP Units.
"Note Election Amount" means the principal amount of a Note received by a
Limited Partner who elects to receive such Note in exchange for OP Units, which
is equal to the greater of (i) the Liquidation Value or (ii) 60% of the Exchange
Value.
"Note Election" means the acquisition and ownership of Notes received by a
Limited Partner who elects to tender the OP Units received in the Mergers to the
Operating Partnership in exchange for Notes.
"NYSE" means the New York Stock Exchange, Inc.
"OP Unit" means a unit of limited partnership interest in the Operating
Partnership.
"Operating Partnership" means Host Marriott, L.P., a Delaware limited
partnership, or, as the context may require, such entity together with its
subsidiaries, including the Non-Controlled Subsidiaries, or any of them; also
means Host when used to describe such entity on a pro forma basis before the
REIT Conversion.
"Original Limited Partner's Original Basis" means the amount of basis, for
tax purposes, that a Limited Partner who purchased his Partnership Interest in
the original offering by the Partnership of Partnership Interests and who has
held such Partnership Interest at all times since would have.
"Ownership Limit" means the prohibition against ownership, directly or by
virtue of the attribution provisions of the Code, by any single shareholder of
more than (i) 9.8% of the lesser of the number or value of Common Shares
outstanding or (ii) 9.8% of the lesser of the number or value of the issued and
outstanding preferred shares of any class or series of Host REIT.
"Participating Partnership" means a Partnership whose Limited Partners vote
in favor of the Merger and which participates in a Merger.
"Partnership" means any of Atlanta Marquis, Chicago Suites, Desert Springs,
Hanover, MDAH, MHP, MHP2 or PHLP or, as the context may require, any such entity
together with its subsidiaries, or any of such subsidiaries.
"Partnership Agreement" means the partnership agreement of the Operating
Partnership, dated as of April 15, 1998, and attached hereto as Appendix A.
"Partnership Interests" mean the interests of the Limited Partners in their
respective Partnerships.
"Partnership Provisions" mean the partnership provisions of the Code.
"Partnership Unit" means a unit of limited partnership interest in a
Partnership.
"Percentage Rent" means an amount of rent based upon specified percentages
of aggregate sales (including room sales, food and beverage sales and telephone
and other sales) at each Hotel which is subject to a Lease.
"Person" means an individual, corporation, partnership, limited liability
company, trust or other entity.
274
<PAGE>
"PHLP" means Potomac Hotel Limited Partnership, a Delaware limited
partnership.
"Plan Assets" mean the underlying assets of Host REIT which are deemed to
be assets of an investing ERISA Plan.
"Private Partnership" means a partnership (other than a Partnership) or
limited liability company that owns one or more full-service Hotels and that,
prior to the REIT Conversion, is partially but not wholly owned by Host or one
of its subsidiaries.
"Projected Year" means the twelve month period ending February 28, 1999,
used by AAA to estimate the Appraised Value of each Hotel.
"Prohibited Owner" means a Person holding record title to any shares in
excess of the Ownership Limit.
"Prohibited Transferee" means a Person who would violate the Ownership
Limit or any other restriction in the Declaration of Trust because of a transfer
of shares of beneficial interest of Host REIT to such Person or any other event.
"Recognition Period" means the ten-year period beginning on the date on
which a Built-In Gain Asset is acquired.
"Record Date" means _________________________________________________.
"Redemption Amount" means an amount of cash equal to the deemed fair market
value of OP Units at the time of redemption.
"Redemption Price" means an amount of cash equal to the sum of the
principal amount of the Notes being redeemed plus accrued interest thereon to
the redemption date.
"Regular Record Date" means a date 15 days prior to an Interest Payment
Date, on which the Holders of the Notes are determined, regardless of whether
such day is a Business Day.
"REIT" means a real estate investment trust.
"REIT Conversion" means (i) the contribution by Host of its wholly owned
Hotels, its interests in the Hotel Partnerships, and certain other businesses
and assets to the Operating Partnership, (ii) the refinancing and amendment of
the debt securities and certain credit facilities of Host substantially in the
manner described herein, (iii) the Mergers (if and to the extent consummated),
(iv) the acquisition (whether by merger or otherwise) by the Operating
Partnership of certain Private Partnerships or interests therein, (v) the
Blackstone Acquisition (if and to the extent such acquisition is consummated),
(vi) the creation and capitalization of the Non-Controlled Subsidiaries, (vii)
the merger of Host into Host REIT and related distribution by Host of SLC common
stock and cash to Host's shareholders and SLC common stock to the Blackstone
Entities, (viii) the leasing of the Hotels to subsidiaries of SLC or others and
(ix) the related transactions described herein and such other steps as may be
necessary or desirable to complete the transactions contemplated herein or
otherwise to permit Host REIT to elect to be treated as a REIT for federal
income tax purposes.
"Related Party Tenant" means a tenant in which Host REIT, or an actual or
constructive owner of 10% or more of Host REIT, actually or constructively owns
10% or more.
"REVPAR" means revenue per available room. REVPAR measures daily room
revenues generated on a per room basis by combining the average daily room rate
charged and the average daily occupancy achieved. REVPAR excludes food and
beverage and other ancillary revenues generated by the hotel.
275
<PAGE>
"Rhode Island Act" means the Rhode Island Uniform Limited Partnership Act.
"RIC" means a Regulated Investment Company.
"SAR" means stock appreciation rights.
"Section 704(c) Minimum Gain" means the amount of any taxable gain that
would be allocated to the partner under Section 704(c) of the Code (or in the
same manner as Section 704(c) of the Code in connection with a revaluation of
partnership property) if the partnership disposed of all partnership property
(in a taxable transaction) subject to one or more nonrecourse liabilities of the
partnership in full satisfaction of such liabilities and for no other
consideration.
"Section 751 Assets" mean "unitized receivables" (including depreciation
recapture) and/or "substantially appreciated inventory items" as defined in
Section 751 of the Code.
"Securities Act" means the Securities Act of 1933, as amended.
"SFAS" means Statement of Financial Accounting Standard.
"Significant Subsidiary" means each significant subsidiary (as defined in
Rule 1-02(w) of Regulation S-X promulgated under the Securities Act) of the
Operating Partnership.
"SLC" means HMC Senior Communities, Inc., a Delaware corporation, or, as
the context may require, such entity together with the Lessees and its other
subsidiaries or any of them, which currently is a wholly owned subsidiary of
Host but will become a separate public company as part of the REIT Conversion
when Host distributes the common stock of SLC to Host's existing shareholders
and the Blackstone Entities.
"Solicitation Materials" mean the Consent Solicitation and the Consent
Form.
"Solicitation Period" means the period of time commencing at the time the
Consent Solicitation and other Solicitation Materials are first distributed to
the Limited Partners and ending at the later of (i) _______________ __, 1998 or
(ii) such later date as the Operating Partnership may elect, in its sole and
absolute discretion.
"Subsidiary Partnerships" mean partnerships or limited liability companies
in which either the Operating Partnership or the Hotel Partnerships have an
interest.
"Tax Matters Partner" means the Person designated at the partnership level
to represent the partnership in a unified partnership proceeding to determine
income, gain, loss, deduction and credit for each Partner. The Partnership
Agreement appoints Host REIT as the Tax Matters Partner for the Operating
Partnership.
"TEFRA" means the Tax Equity and Fiscal Responsibility Act of 1982.
"TMT" means tentative minimum tax.
"Treasury Regulations" mean the regulations promulgated by the IRS under
the Code.
"Trust Indenture Act" means the Trust Indenture Act of 1939, as amended.
"U.S. Shareholder" means a holder of Common Shares who (for United States
federal income tax purposes) is (i) a citizen or resident of the United States,
(ii) a corporation, partnership, or other entity created or organized in or
under the laws of the United States or any political subdivision
276
<PAGE>
thereof, (iii) an estate or trust the income of which is subject to United
States federal income taxation regardless of its source, or (iv) a trust whose
administration is subject to the primary supervision of a United States court
and which has one or more United States persons who have authority to control
all substantial decisions of the trust.
"UBTI" means unrelated business taxable income.
"Unit Redemption Right" means the right of Limited Partners to redeem,
after the Initial Holding Period, their OP Units and receive, at Host REIT's
election, either Common Shares on a one-for-one basis (subject to adjustment) or
cash in an amount equal to the market value of such shares.
"UPREIT" means an umbrella partnership real estate investment trust.
277
<PAGE>
INDEX TO FINANCIAL STATEMENTS
The following financial information is included on the pages indicated:
Page
----
HISTORICAL FINANCIAL STATEMENTS
Host Marriott Hotels (predecessor to the Operating Partnership)
- --------------------------------------------------------------
Report of Independent Public Accountants.................................. F-2
Combined Consolidated Balance Sheets as of January 2, 1998 and January 3,
1997..................................................................... F-3
Combined Consolidated Statements of Operations for the Fiscal Years Ended
January 2, 1998, January 3, 1997 and December 29, 1995................... F-4
Combined Consolidated Statements of Cash Flows for the Fiscal Years Ended
January 2, 1998, January 3, 1997 and December 29, 1995................... F-5
Notes to Combined Consolidated Financial Statements....................... F-6
Condensed Combined Consolidated Balance Sheet as of March 27, 1998
(unaudited).............................................................. F-29
Condensed Combined Consolidated Statements of Operations for the Twelve
Weeks Ended March 27, 1998 and March 28, 1997 (unaudited)................ F-30
Condensed Combined Consolidated Statements of Cash Flows for the Twelve
Weeks Ended March 27, 1998 and March 28, 1997 (unaudited)................ F-31
Notes to Condensed Combined Consolidated Financial Statements (unaudited). F-32
HMC Senior Communities, Inc., which is the Senior Living Communities' Business
- ------------------------------------------------------------------------------
of Host Marriott Corporation (Tenant financial statements)
- ---------------------------------------------------------
Report of Independent Public Accountants.................................. F-36
Consolidated Balance Sheet as of January 2, 1998.......................... F-37
Consolidated Statement of Operations for the Period from June 21, 1997
(inception) through January 2, 1998...................................... F-38
Consolidated Statement of Shareholders' Equity for the Period from
June 21, 1997 (inception) through January 2, 1998........................ F-39
Consolidated Statement of Cash Flows for the Period from June 21, 1997
(inception) through January 2, 1998...................................... F-40
Notes to Consolidated Financial Statements................................ F-41
Condensed Consolidated Balance Sheet as of March 27, 1998 (unaudited)..... F-51
Condensed Consolidated Statement of Operations for the Twelve Weeks Ended
March 27, 1998 (unaudited).............................................. F-52
Condensed Consolidated Statement of Cash Flows for the Twelve Weeks Ended
March 27, 1998 (unaudited).............................................. F-53
Notes to Condensed Consolidated Financial Statements (unaudited).......... F-54
UNAUDITED PRO FORMA FINANCIAL STATEMENTS
Introduction to Unaudited Pro Forma Financial Statements.................. F-56
100% Participation with No Notes Issued
Pro Forma Balance Sheet as of March 27, 1998........................... F-58
Pro Forma Statements of Operations for the First Quarter 1998,
the First Quarter 1997 and the Fiscal Year Ended January 2, 1998..... F-61
Pro Forma Statements of Cash Flows for the First Quarter 1998
and the Fiscal Year Ended January 2, 1998............................ F-65
100% Participation with Notes Issued
Pro Forma Balance Sheet as of March 27, 1998........................... F-68
Pro Forma Statements of Operations for the First Quarter 1998,
the First Quarter 1997 and the Fiscal Year Ended January 2, 1998..... F-71
Pro Forma Statements of Cash Flows for the First Quarter 1998
and the Fiscal Year Ended January 2, 1998............................ F-75
F-1
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To Host Marriott Corporation:
We have audited the accompanying combined consolidated balance sheets of Host
Marriott Hotels (as defined in Note 1) as of January 2, 1998 and January 3,
1997, and the related combined consolidated statements of operations and cash
flows for each of the three fiscal years in the period ended January 2, 1998.
These financial statements are the responsibility of Host Marriott Corporation'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 an audit to obtain
reasonable assurance about whether the combined consolidated 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, the combined consolidated financial statements referred to
above present fairly, in all material respects, the financial position of Host
Marriott Hotels as of January 2, 1998 and January 3, 1997, and the results of
their operations and their cash flows for each of the three fiscal years in the
period ended January 2, 1998, in conformity with generally accepted accounting
principles.
As discussed in Notes 1 and 2 to the combined consolidated financial
statements, in 1995 Host Marriott Hotels changed its method of accounting for
the impairment of long-lived assets.
Arthur Andersen LLP
Washington, D.C.
May 22, 1998
F-2
<PAGE>
HOST MARRIOTT HOTELS
COMBINED CONSOLIDATED BALANCE SHEETS
January 2, 1998 and January 3, 1997
(in millions)
1997 1996
------ ------
ASSETS
Property and Equipment, net..................................... $4,634 $3,805
Notes and Other Receivables, net (including amounts due from
affiliates of $23 million and $156 million, respectively)...... 54 297
Due from Managers............................................... 87 89
Investments in Affiliates....................................... 13 11
Other Assets.................................................... 271 246
Short-term Marketable Securities................................ 354 -
Cash and Cash Equivalents....................................... 494 704
------ ------
$5,907 $5,152
====== ======
LIABILITIES AND EQUITY
Debt
Senior Notes................................................... $1,585 $1,021
Mortgage Debt.................................................. 1,784 1,529
Other.......................................................... 97 97
------ ------
3,466 2,647
Accounts Payable and Accrued Expenses........................... 59 74
Deferred Income Taxes........................................... 487 464
Other Liabilities............................................... 371 290
------ ------
Total Liabilities.............................................. 4,383 3,475
------ ------
Obligation to Host Marriott Corporation Related to Mandatorily
Redeemable Convertible Preferred Securities of a Subsidiary
Trust Holding Company of Host Marriott Corporation
Substantially All of Whose Assets are the Convertible
Subordinated Debentures Due 2026 ("Convertible Preferred
Securities")................................................... 550 550
Equity
Investments and Advances from Host Marriott Corporation........ 974 1,127
------ ------
$5,907 $5,152
====== ======
See Notes to Combined Consolidated Financial Statements.
F-3
<PAGE>
HOST MARRIOTT HOTELS
COMBINED CONSOLIDATED STATEMENTS OF OPERATIONS
Fiscal years ended January 2, 1998, January 3, 1997 and December 29, 1995
(in millions)
1997 1996 1995
------- ------ ------
REVENUES
Hotels................................................ $1,093 $ 717 $ 474
Net gains (losses) on property transactions........... (11) 1 (3)
Equity in earnings of affiliates...................... 5 3 -
Other................................................. 23 11 13
------ ----- -----
Total revenues....................................... 1,110 732 484
------ ----- -----
OPERATING COSTS AND EXPENSES
Hotels (including Marriott International management
fees of $162 million, $101 million and $67 million,
respectively)....................................... 649 461 281
Other (including a $60 million write-down of
undeveloped land in 1995)............................ 29 38 89
------ ----- -----
Total operating costs and expenses................... 678 499 370
------ ----- -----
OPERATING PROFIT BEFORE MINORITY INTEREST, CORPORATE
EXPENSES AND INTEREST................................. 432 233 114
Minority interest...................................... (32) (6) (2)
Corporate expenses..................................... (45) (43) (36)
Interest expense....................................... (287) (237) (178)
Dividends on Convertible Preferred Securities.......... (37) (3) -
Interest income........................................ 52 48 27
------ ----- -----
INCOME (LOSS) FROM CONTINUING OPERATIONS BEFORE
INCOME TAXES.......................................... 83 (8) (75)
Benefit (provision) for income taxes................... (36) (5) 13
------ ----- -----
INCOME (LOSS) FROM CONTINUING OPERATIONS............... 47 (13) (62)
DISCONTINUED OPERATIONS
Loss from discontinued operations (net of income tax
benefit of $3 million in 1995)....................... - - (8)
Provision for loss on disposal (net of income tax
benefit of $23 million in 1995)...................... - - (53)
------ ----- -----
INCOME (LOSS) BEFORE EXTRAORDINARY ITEMS............... 47 (13) (123)
Extraordinary items-Gain (loss) on extinguishment of
debt (net of income tax expense (benefit) of $1
million in 1997 and ($10) million in 1995)............ 3 - (20)
------ ----- -----
NET INCOME (LOSS)...................................... $ 50 $ (13) $(143)
====== ===== =====
See Notes to Combined Consolidated Financial Statements.
F-4
<PAGE>
HOST MARRIOTT HOTELS
COMBINED CONSOLIDATED STATEMENTS OF CASH FLOWS
Fiscal years ended January 2, 1998, January 3, 1997 and December 29, 1995
(in millions)
<TABLE>
<CAPTION>
1997 1996 1995
------ ------ -------
<S> <C> <C> <C>
OPERATING ACTIVITIES
Income (loss) from continuing operations................. $ 47 $ (13) $ (62)
Adjustments to reconcile to cash from operations:
Depreciation and amortization........................... 231 168 122
Income taxes............................................ (20) (35) (35)
Amortization of deferred income......................... (4) (6) (7)
Net (gains) losses on property transactions............. 19 4 70
Equity in earnings of affiliates........................ (4) (3) -
Other................................................... 62 49 33
Changes in operating accounts:
Other assets.......................................... 57 9 (2)
Other liabilities..................................... 44 32 (9)
----- ----- ------
Cash from continuing operations......................... 432 205 110
Cash from (used in) discontinued operations............. - (4) 32
----- ----- ------
Cash from operations.................................... 432 201 142
----- ----- ------
INVESTING ACTIVITIES
Proceeds from sales of assets............................ 51 373 358
Less non-cash proceeds.................................. - (35) (33)
----- ----- ------
Cash received from sales of assets....................... 51 338 325
Acquisitions............................................. (359) (702) (392)
Capital expenditures:
Capital expenditures for renewals and replacements...... (129) (87) (56)
Lodging construction funded by project financing........ - (3) (40)
New investment capital expenditures..................... (29) (69) (64)
Purchases of short-term marketable securities............ (354) - -
Notes receivable collections............................. 6 13 43
Affiliate notes receivable and collections, net.......... (6) 21 2
Other.................................................... 13 (15) 26
----- ----- ------
Cash used in investing activities from continuing
operations............................................. (807) (504) (156)
Cash used in investing activities from discontinued
operations............................................. - - (52)
----- ----- ------
Cash used in investing activities....................... (807) (504) (208)
----- ----- ------
FINANCING ACTIVITIES
Issuances of debt........................................ 857 46 1,251
Issuances of Convertible Preferred Securities, net....... - 533 -
Issuances of common stock by Host Marriott............... 6 454 13
Scheduled principal repayments........................... (90) (82) (100)
Debt prepayments......................................... (403) (173) (960)
Cash transfers to Host Marriott.......................... (226) - -
Other.................................................... 21 28 -
----- ----- ------
Cash from financing activities from continuing
operations............................................. 165 806 204
Cash used in financing activities from discontinued
operations............................................. - - (4)
----- ----- ------
Cash from financing activities.......................... 165 806 200
----- ----- ------
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS......... (210) 503 134
CASH AND CASH EQUIVALENTS, beginning of year............. 704 201 67
----- ----- ------
CASH AND CASH EQUIVALENTS, end of year................... $ 494 $ 704 $ 201
===== ===== ======
Non-cash financing activities:
Assumption of mortgage debt for the acquisition of, or
purchase of controlling interests in, certain hotel
properties............................................. $ 394 $ 696 $ 141
===== ===== ======
</TABLE>
See Notes to Combined Consolidated Financial Statements.
F-5
<PAGE>
HOST MARRIOTT HOTELS
NOTES TO COMBINED CONSOLIDATED FINANCIAL STATEMENTS
1. Summary of Significant Accounting Policies
Basis of Presentation
On April 16, 1998, the Board of Directors of Host Marriott Corporation
("Host Marriott") approved a plan to reorganize Host Marriott's current business
operations by spin-off of Host Marriott's senior living business ("Senior
Living") and contribution of Host Marriott's hotels and certain other assets and
liabilities to a newly formed Delaware limited partnership, Host Marriott, L.P.
(the "Operating Partnership") whose sole general partner will be Host Marriott
Trust, a newly formed Maryland Real Estate Investment Trust ("REIT") that will
merge with Host Marriott Corporation, a Delaware corporation. Host Marriott's
contribution of its hotels and certain assets and liabilities to the Operating
Partnership (the "Contribution") in exchange for units of limited partnership
interests in the Operating Partnership will be accounted for at Host Marriott's
historical basis.
The accompanying combined consolidated financial statements include the
accounts of the Host Marriott hotels and the assets and liabilities expected to
be included in the Contribution by Host Marriott to the Operating Partnership
upon its planned conversion to a REIT (the "REIT Conversion") and is the
predecessor to the Operating Partnership. In these combined consolidated
financial statements, the predecessor to the Operating Partnership is referred
to as "Host Marriott Hotels" or the "Company." The combined consolidated
financial statements exclude the assets, liabilities, equity, operations and
cash flows related to Host Marriott's portfolio of 31 senior living communities.
After the reorganization, Senior Living will own these assets and lease the
existing hotels from the Company.
In connection with the REIT Conversion, the Operating Partnership is
proposing the purchase of the remaining interests in eight public limited
partnerships in which Host Marriott or its subsidiaries are general partners
that own or control 24 full-service hotels. Five of the partnerships (nine
hotels) are already controlled and consolidated by Host Marriott as are two of
the hotels in another of the partnerships for which a subsidiary of Host
Marriott provided 100% non-recourse financing for the acquisition of these two
hotels. The Operating Partnership is also proposing to purchase certain private
partnerships in which Host Marriott or its subsidiaries are general partners in
exchange for units in the Operating Partnership ("OP Units"). OP Units will be
convertible into one share of Host Marriott common stock for each OP Unit owned
or, at the election of Host Marriott Trust, cash in an amount equal to the
market value of such shares beginning one year after the issuance of the OP
Unit.
However, consummation of the REIT Conversion is subject to significant
contingencies that are outside the control of the Company, including final Board
approval, consents of shareholders, partners, bondholders, lenders and ground
lessors of Host Marriott, its affiliates and other third parties. Accordingly,
there can be no assurance that the REIT Conversion will be completed.
Description of Business
As of January 2, 1998, the Company owned, or had controlling interests in,
95 upscale and luxury full-service hotel lodging properties generally located
throughout the United States and operated under the Marriott and Ritz-Carlton
brand names. Most of these properties are managed by Marriott International,
Inc. ("Marriott International"). At that date, the Company also held minority
interests in various partnerships that own 242 additional properties, including
22 full-service hotel properties, managed by Marriott International.
On December 29, 1995, Host Marriott distributed to its shareholders through
a special tax-free dividend (the "Special Dividend") its food, beverage, and
merchandise concessions business at airports, on tollroads, and at arenas and
other attractions (the "Operating Group"). See Note 2 for a discussion of the
Special Dividend. The 1995 financial statements were restated to reflect the
Operating Group as discontinued operations.
F-6
<PAGE>
HOST MARRIOTT HOTELS
NOTES TO COMBINED CONSOLIDATED FINANCIAL STATEMENTS (Cont'd.)
The structure of Host Marriott was substantially altered on October 8, 1993
(the "Marriott International Distribution Date") when the Company distributed
the stock of a wholly-owned subsidiary, Marriott International, Inc., in a
special dividend (the "Marriott International Distribution"). See Note 14 for a
description of the Marriott International Distribution and related transactions.
An analysis of the activity in the "Investments and Advances from Host
Marriott Corporation" follows (in millions):
Balance, December 30, 1994 $ 710
Net loss (143)
Distribution of Host Marriott Services Corporation 91
Issuances of common stock and other activity of Host Marriott 17
------
Balance, December 29, 1995 675
Net loss (13)
Adjustment for distribution of Host Marriott Services Corporation (4)
Issuances of common stock and other activity of Host Marriott 469
------
Balance January 3, 1997 1,127
Net income 50
Cash transfers to Host Marriott (226)
Issuances of common stock and other activity of Host Marriott 23
------
Balance, January 2, 1998 $ 974
======
The average balance in the "Investment and Advances from Host Marriott
Corporation" was $692 million for 1995, $901 million for 1996 and $1,051 million
for 1997. The "Cash transfers to Host Marriott" reflects cash transfers to Host
Marriott for the purchase of the Senior Living assets which, as contemplated,
will be spun-off in conjunction with the REIT Conversion.
Principles of Consolidation
The combined consolidated financial statements include the accounts of the
Company and its subsidiaries and controlled affiliates. Investments in
affiliates over which the Company has the ability to exercise significant
influence, but does not control, are accounted for using the equity method. All
material intercompany transactions and balances have been eliminated.
Fiscal Year
The Company's fiscal year ends on the Friday nearest to December 31.
Fiscal years 1997 and 1995 included 52 weeks compared to 53 weeks for fiscal
year 1996.
Revenues and Expenses
Revenues primarily represent house profit from the Company's hotel
properties because the Company has delegated substantially all of the operating
decisions related to the generation of house profit from its hotel properties
to the manager. Revenues also include net gains (losses) on property
transactions and equity in the earnings of affiliates. House profit reflects
the net revenues flowing to the Company as property owner and represents hotel
properties' operating results, less property-level expenses, excluding
depreciation, management fees, real and personal property taxes, ground and
equipment rent, insurance and certain other costs, which are classified as
operating costs and expenses in the accompanying combined consolidated financial
statements. See Note 17.
F-7
<PAGE>
HOST MARRIOTT HOTELS
NOTES TO COMBINED CONSOLIDATED FINANCIAL STATEMENTS (cont'd.)
Earnings (Loss) Per OP Unit
Basic and diluted earnings (loss) per OP Unit have been calculated based on
the number of Host Marriott common shares outstanding for all periods presented
because it is expected that upon the REIT Conversion the Operating Partnership
will issue OP Units to Host Marriott in exchange for the Contribution equal to
the number of shares of outstanding Host Marriott common stock, accordingly, the
following discussion of earnings (loss) per OP Unit is on a pro forma basis as
if the REIT Conversion and the Contribution had occurred.
Basic earnings (loss) per OP Unit are computed by dividing net income
(loss) by the weighted average number of shares of common stock outstanding of
Host Marriott. Diluted earnings (loss) per OP Unit are computed by dividing net
income (loss) by the weighted average number of shares of common stock
outstanding plus other dilutive securities of Host Marriott. Diluted earnings
(loss) per OP Unit has not been adjusted for the impact of the Convertible
Preferred Securities for 1997 and 1996 and for the comprehensive stock plan and
warrants for 1996 and 1995 as they are anti-dilutive.
Basic and diluted earnings (loss) per OP Unit on a pro forma basis are as
follows:
1997 1996 1995
------ ------ ------
Basic earnings (loss) per OP Unit:
Continuing operations............................ $ .23 $(.07) $(.39)
Discontinued operations (net of income taxes).... - - (.39)
Extraordinary items--Gain (loss) on
extinguishment of debt
(net of income taxes)........................... .02 - (.12)
----- ----- -----
Basic earnings (loss) per OP Unit............... $ .25 $(.07) $(.90)
===== ===== =====
Diluted earnings (loss) per OP Unit:
Continuing operations............................ $ .23 $(.07) $(.39)
Discontinued operations (net of income taxes).... - - (.39)
Extraordinary items--Gain (loss) on
extinguishment of debt
(net of income taxes)........................... .01 (.12)
----- ----- -----
Diluted earnings (loss) per OP Unit............. $ .24 $(.07) $(.90)
===== ===== =====
F-8
<PAGE>
HOST MARRIOTT HOTELS
NOTES TO COMBINED CONSOLIDATED FINANCIAL STATEMENTS (Cont'd.)
A reconciliation of the number of shares utilized (based on Host Marriott
shares) for the calculation of dilutive earnings per OP Unit follows (in
millions):
<TABLE>
<CAPTION>
1997 1996 1995
----- ----- -----
<S> <C> <C> <C>
Weighted average number of common shares outstanding.. 203.1 188.7 158.3
Assuming distribution of common shares granted under
comprehensive stock plan, less shares assumed
purchased at average market price.................... 4.8 -- --
Assuming distribution of common shares issuable for
warrants, less shares assumed purchased at average
market price......................................... 0.3 -- --
----- ----- -----
Shares utilized for the calculation of diluted
earnings per OP Unit.............................. 208.2 188.7 158.3
===== ===== =====
</TABLE>
International Operations
The combined consolidated statements of operations include the following
amounts related to non-U.S. subsidiaries and affiliates of Host Marriott:
revenues of $39 million and $18 million and loss before income taxes of $9
million and $2 million in 1997 and 1996, respectively. International revenues
and income before income taxes in 1995 were not material.
Property and Equipment
Property and equipment is recorded at cost. For newly developed properties,
cost includes interest, rent and real estate taxes incurred during development
and construction. Replacements and improvements are capitalized.
Depreciation is computed using the straight-line method over the estimated
useful lives of the assets, generally 40 years for buildings and three to ten
years for furniture and equipment. Leasehold improvements are amortized over the
shorter of the lease term or the useful lives of the related assets.
Gains on sales of properties are recognized at the time of sale or deferred to
the extent required by generally accepted accounting principles. Deferred gains
are recognized as income in subsequent periods as conditions requiring deferral
are satisfied or expire without further cost to the Company.
In cases where management is holding for sale particular hotel properties, the
Company assesses impairment based on whether the estimated sales price less
costs of disposal of each individual property to be sold is less than the net
book value. A property is considered to be held for sale when the Company has
made the decision to dispose of the property. Otherwise, the Company assesses
impairment of its real estate properties based on whether it is probable that
undiscounted future cash flows from each individual property will be less than
its net book value. If a property is impaired, its basis is adjusted to its
fair market value.
Deferred Charges
Deferred financing costs related to long-term debt are deferred and amortized
over the remaining life of the debt.
Cash, Cash Equivalents and Short-term Marketable Securities
The Company considers all highly liquid investments with a maturity of 90 days
or less at the date of purchase to be cash equivalents. Cash and cash
equivalents includes approximately $103 million and $67 million at January 2,
1998 and January 3, 1997, respectively, of cash related to certain consolidated
partnerships, the use of which is restricted generally for partnership purposes
to the extent it is not distributed to the partners. Short-term marketable
securities include investments with a maturity of 91
F-9
<PAGE>
HOST MARRIOTT HOTELS
NOTES TO COMBINED CONSOLIDATED FINANCIAL STATEMENTS (Cont'd.)
days to one year at the date of purchase. The Company's short-term marketable
securities represent investments in U.S. government agency notes and high
quality commercial paper. The short-term marketable securities are categorized
as available for sale and, as a result, are stated at fair market value.
Concentrations of Credit Risk
Financial instruments that potentially subject the Company to significant
concentrations of credit risk consist principally of cash, cash equivalents and
short-term marketable securities. The Company maintains cash and cash
equivalents and short-term marketable securities with various high credit-
quality financial institutions. The Company performs periodic evaluations of
the relative credit standing of these financial institutions and limits the
amount of credit exposure with any institution.
Use of Estimates in the Preparation of Financial Statements
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.
Self-Insurance Programs
Prior to the Marriott International Distribution Date, the Company was self-
insured for certain levels of general liability, workers' compensation and
employee medical coverage. Estimated costs of these self-insurance programs
were accrued at present values of projected settlements for known and
anticipated claims. The Company discontinued its self-insurance programs for
claims arising subsequent to the Marriott International Distribution Date.
Interest Rate Swap Agreements
The Company has entered into a limited number of interest rate swap agreements
to diversify certain of its debt to a variable rate or fixed rate basis. The
interest rate differential to be paid or received on interest rate swap
agreements is accrued as interest rates change and is recognized as an
adjustment to interest expense.
New Statements of Financial Accounting Standards
The Company adopted Statements of Financial Accounting Standards ("SFAS") No.
114, "Accounting by Creditors for Impairment of a Loan" and SFAS No. 121,
"Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to
be Disposed Of" during 1995. Adoption of these statements did not have a
material effect on the Company's continuing operations. See Note 2 for a
discussion of the adoption of SFAS No. 121 on discontinued operations.
During 1996, the Company adopted SFAS No. 123, "Accounting for Stock-Based
Compensation." The adoption of SFAS No. 123 did not have a material effect on
the Company's combined consolidated financial statements. (See Note 10.)
During 1997, the Company adopted SFAS No. 128, "Earnings Per Share" SFAS No.
129, "Disclosure of Information About Capital Structure" and SFAS No. 131,
"Disclosures About Segments of an Enterprise and Related Information." The
adoption of these statements did not have a material effect on the Company's
combined consolidated financial statements and the appropriate disclosures
required by these statements have been incorporated herein. The Company will
adopt SFAS No. 130, "Reporting
F-10
<PAGE>
HOST MARRIOTT HOTELS
NOTES TO COMBINED CONSOLIDATED FINANCIAL STATEMENTS (Cont'd.)
Comprehensive Income," in 1998 and does not expect it to have a material effect
on the Company's combined consolidated financial statements.
2. HM Services Special Dividend
On December 29, 1995, Host Marriott distributed to its shareholders through
the Special Dividend all of the outstanding shares of common stock of Host
Marriott Services Corporation ("HM Services"), formerly a wholly-owned
subsidiary of Host Marriott, which, as of the date of the Special Dividend,
owned and operated food, beverage and merchandise concessions at airports, on
tollroads and at stadiums and arenas and other tourist attractions. The Special
Dividend provided Host Marriott shareholders with one share of common stock of
HM Services for every five shares of Host Marriott common stock held by such
shareholders on the record date of December 22, 1995. Host Marriott recorded
approximately $9 million of expenses related to the consummation of the Special
Dividend in 1995. Revenues for Host Marriott's discontinued operations totaled
$1,158 million in 1995. The provision for loss on disposal includes the
operating loss from discontinued operations from August 9, 1995 (measurement
date) through December 29, 1995 of $44 million, net of taxes, and estimated
expenses related to the Special Dividend of $9 million.
Effective September 9, 1995, the Company adopted SFAS No. 121, which
requires that an impairment loss be recognized when the carrying amount of an
asset exceeds the sum of the undiscounted estimated future cash flows associated
with the asset. As a result of the adoption of SFAS No. 121, the Company
recognized a non-cash, pre-tax charge during the fourth quarter of 1995 of $47
million. Such charge has been reflected in discontinued operations for fiscal
year 1995.
For purposes of governing certain of the ongoing relationships between Host
Marriott and HM Services after the Special Dividend and to provide for an
orderly transition, Host Marriott and HM Services entered into various
agreements including a Distribution Agreement, an Employee Benefits Allocation
Agreement, a Tax Sharing Agreement and a Transitional Services Agreement.
Effective as of December 29, 1995, these agreements provide, among other things,
for the division between Host Marriott and HM Services of certain assets and
liabilities, including but not limited to liabilities related to employee stock
and other benefit plans and the establishment of certain obligations for HM
Services to issue shares upon exercise of warrants (see Note 7) and to issue
shares or pay cash to Host Marriott upon exercise of stock options held by
certain former employees of Host Marriott (see Note 10).
3. Property and Equipment
Property and equipment consists of the following:
1997 1996
------- -------
(in millions)
Land and land improvements...................... $ 418 $ 349
Buildings and leasehold improvements............ 4,325 3,507
Furniture and equipment......................... 688 548
Construction in progress........................ 38 82
------ ------
5,469 4,486
Less accumulated depreciation and amortization.. (835) (681)
------ ------
$4,634 $3,805
====== ======
Interest cost capitalized in connection with the Company's development and
construction activities totaled $1 million in 1997, $3 million in 1996 and $5
million in 1995.
In 1997, the Company, through an agreement with the ground lessor of one of
its properties terminated its ground lease and recorded a $15 million loss on
the write-off of its investment, including certain transaction costs, which has
been included in net gains (losses) on property transactions in the accompanying
combined consolidated financial statements.
F-11
<PAGE>
HOST MARRIOTT HOTELS
NOTES TO COMBINED CONSOLIDATED FINANCIAL STATEMENTS (Cont'd.)
In 1996, the Company recorded additional depreciation expense of $15
million as a result of a change in the estimated depreciable lives and salvage
values for certain hotel properties. Also, in 1996, the Company recorded a $4
million charge to write down an undeveloped land parcel to its net realizable
value based on its expected sales value.
In 1995, the Company made a determination that its owned Courtyard and
Residence Inn properties were held for sale and recorded a $10 million charge to
write down the carrying value of five of these individual properties to their
estimated net realizable values. In the fourth quarter of 1995, management
instituted a program to liquidate certain non-income producing assets and to
reinvest the proceeds in the acquisition of full-service hotels. As part of
this program, management determined that a 174-acre parcel of undeveloped land
in Germantown, Maryland that was to be developed into an office project over an
extended period of time would no longer be developed and instead decided to
attempt to sell the property. Accordingly, the Company recorded a pre-tax
charge of $60 million in the fourth quarter of 1995 to reduce the asset to its
estimated sales value. In 1997, the Company sold a portion of the land parcel
at its approximate net book value of $11 million.
4. Investments in and Receivables from Affiliates
Investments in and receivables from affiliates consist of the following:
<TABLE>
<CAPTION>
Ownership
Interests 1997 1996
----------- ------ ------
Equity investments (in millions)
<S> <C> <C> <C>
Hotel partnerships which own 22 full-
service Marriott Hotels, 120 Courtyard
hotels, 50 Residence Inns and 50
Fairfield Inns operated by Marriott
International, as of January 2, 1998... 1%-50% $ 13 $ 11
Notes and other receivables, net........ -- 23 156
----- -----
$ 36 $ 167
===== =====
</TABLE>
Hotel properties owned by affiliates generally were acquired from the
Company in connection with limited partnership offerings. The Company or one of
its subsidiaries typically serve as a general partner of each partnership and
the hotels are operated by Marriott International under long-term agreements.
In 1997, the Company acquired all of the outstanding interests in the
Chesapeake Hotel Limited Partnership ("CHLP") that owns six hotels and acquired
controlling interests in three affiliated partnerships for approximately $510
million, including the assumption of approximately $395 million of debt. These
affiliated partnerships included the partnerships that own the 353-room Hanover
Marriott and the 884-room Marriott's Desert Springs Resort and Spa and the
Marriott Hotel Properties Limited Partnership ("MHPLP") that owns the 1,503-room
Marriott Orlando World Center and a 50.5% interest in the 624-room Marriott
Harbor Beach Resort. Subsequent to year-end, the Company obtained a controlling
interest in the partnership that owns the 1,671-room Atlanta Marriott Marquis
for approximately $239 million, including the assumption of $164 million of
mortgage debt.
In 1996, the Company purchased controlling interests in four affiliated
partnerships for $640 million, including $429 million of existing debt. These
affiliated partnerships included the partnership that owns the 1,355-room San
Diego Marriott Hotel and Marina; the Marriott Hotel Properties II Limited
Partnership that owns the 1,290-room New Orleans Marriott, the 999-room San
Antonio Marriott Rivercenter, the 368-room San Ramon Marriott, and a 50% limited
partner interest in the 754-room Santa Clara Marriott; the Marriott Suites
Limited Partnership that owns four hotels; and the partnership that owns the
510-room Salt Lake City Marriott.
F-12
<PAGE>
HOST MARRIOTT HOTELS
NOTES TO COMBINED CONSOLIDATED FINANCIAL STATEMENTS (Cont'd.)
Receivables from affiliates are reported net of reserves of $144 million at
January 2, 1998 and $227 million at January 3, 1997. Receivables from
affiliates at January 2, 1998 include a $10 million debt service guarantee for
the partnership that owns the Atlanta Marriott Marquis, which was repaid in
early 1998. Receivables from affiliates at January 3, 1997 included a $140
million mortgage note at 9% that amortizes through 2003, which is eliminated in
these consolidated financial statements in 1997. The Company has committed to
advance additional amounts to affiliates, if necessary, to cover certain debt
service requirements. Such commitments are limited, in the aggregate, to an
additional $60 million at January 2, 1998. Subsequent to January 2, 1998, this
amount was reduced to $20 million in connection with the refinancing and
acquisition of a controlling interest in the Atlanta Marriott Marquis. Net
amounts repaid to the Company under these commitments totaled $2 million and $13
million in 1997 and 1996, respectively. Net amounts funded by the Company
totaled $10 million in 1997 and $8 million in 1995. There were no fundings in
1996.
The Company's pre-tax income from affiliates includes the following:
1997 1996 1995
------ ------ ------
(in millions)
Interest income....................................... $ 11 $ 17 $ 16
Equity in net income.................................. 5 3 -
------ ------ ------
$ 16 $ 20 $ 16
====== ====== ======
Combined summarized balance sheet information for the Company's affiliates
follows:
1997 1996
------ ------
(in millions)
Property and equipment................................ $1,980 $2,605
Other assets.......................................... 283 331
------ ------
Total assets........................................ $2,263 $2,936
====== ======
Debt, principally mortgages........................... $2,179 $2,834
Other liabilities..................................... 412 672
Partners' deficit..................................... (328) (570)
------ ------
Total liabilities and partners' deficit............. $2,263 $2,936
====== ======
Combined summarized operating results for the Company's affiliates follow:
1997 1996 1995
------ ------ ------
(in millions)
Revenues.............................................. $ 603 $ 731 $ 759
Operating expenses:
Cash charges (including interest).................... (376) (460) (495)
Depreciation and other non-cash charges.............. (190) (229) (240)
----- ------ ------
Income before extraordinary items..................... 37 42 24
Extraordinary items--forgiveness of debt.............. 40 12 181
----- ------ ------
Net income.......................................... $ 77 $ 54 $ 205
===== ====== ======
F-13
<PAGE>
HOST MARRIOTT HOTELS
NOTES TO COMBINED CONSOLIDATED FINANCIAL STATEMENTS (Cont'd.)
5. Debt
Debt consists of senior notes, mortgage notes and other debt, all of which
are included in these financial statements because the debt or replacement debt
is expected to be contributed to the Company upon the REIT Conversion. Prior to
the REIT Conversion, the Company plans to exchange or repay the Properties
Notes, New Properties Notes and Acquisitions Notes described below. Debt
consists of the following:
<TABLE>
<CAPTION>
1997 1996
------ ------
(in millions)
<S> <C> <C>
Properties Notes, with a rate of 9 1/2% due May 2005............ $ 600 $ 600
New Properties Notes, with a rate of 8 7/8% due July 2007....... 600 --
Acquisitions Notes, with a rate of 9% due December 2007......... 350 350
Senior Notes, with an average rate of 9 3/4% at January 2, 1998,
maturing through 2012.......................................... 35 71
------ ------
Total Senior Notes............................................ 1,585 1,021
------ ------
Mortgage debt (non-recourse) secured by $2.4 billion of real
estate assets, with an average rate of 8.5% at January 2, 1998,
maturing through 2022.......................................... 1,762 1,529
Line of Credit, secured by $500 million of real estate assets,
with a variable rate of Eurodollar plus 1.7% or Base Rate (as
defined) plus 0.7% at the option of the Company (7.6% at
January 2, 1998) due June 2004................................. 22 -
------ ------
Total Mortgage Debt........................................... 1,784 1,529
------ ------
Other notes, with an average rate of 7.4% at January 2, 1998,
maturing through 2017.......................................... 89 86
Capital lease obligations....................................... 8 11
------ ------
Total Other 97 97
------ ------
$3,466 $2,647
====== ======
</TABLE>
In May 1995, HMH Properties, Inc. ("Properties"), a wholly-owned subsidiary
of Host Marriott Hospitality, Inc., issued an aggregate of $600 million of 9
1/2% senior secured notes (the "Properties Notes"). The bonds were issued in
conjunction with a concurrent $400 million offering by a subsidiary of the
discontinued HM Services' business at par, and have a final maturity of May
2005. The net proceeds were used to defease, and subsequently redeem, all of
the senior notes issued by Host Marriott Hospitality, Inc. and to repay
borrowings under the line of credit with Marriott International. In connection
with the redemptions and defeasance, the Company recognized an extraordinary
loss in 1995 of $17 million, net of taxes, related to continuing operations.
In December 1995, HMC Acquisition Properties, Inc. ("Acquisitions"), an
indirect, wholly-owned subsidiary of Host Marriott, issued $350 million of 9%
senior notes (the "Acquisitions Notes"). The Acquisitions Notes were issued at
par and have a final maturity of December 2007. A portion of the net proceeds
were utilized to repay in full the outstanding borrowings under the $230 million
revolving line of credit (the "Acquisition Revolver"), which was then
terminated. In connection with the termination of the Acquisition Revolver, the
Company recognized an extraordinary loss in 1995 of $3 million, net of taxes.
On July 10, 1997, Properties and Acquisitions completed consent
solicitations (the "Consent Solicitations") with holders of their senior notes
to amend certain provisions of their senior notes' indentures. The Consent
Solicitations facilitated the merger of Acquisitions with and into Properties
(the "Properties Merger"). The amendments to the indentures also increased the
ability of Properties to acquire, through certain subsidiaries, additional
properties subject to non-recourse indebtedness and controlling interests in
corporations, partnerships and other entities holding attractive properties and
increased the threshold required to permit Properties to make distributions to
affiliates.
Concurrent with the Consent Solicitations and the Properties Merger,
Properties issued an aggregate of $600 million of 8 7/8% senior notes (the "New
Properties Notes") at par with a maturity of July 2007. Properties received net
proceeds of approximately $570 million, net of the costs of the Consent
Solicitations and the Offering, which will be used to fund future acquisitions
of, or the purchase of
F-14
<PAGE>
HOST MARRIOTT HOTELS
NOTES TO COMBINED CONSOLIDATED FINANCIAL STATEMENTS (Cont'd.)
interests in, full-service hotels and other lodging-related properties, as
well as for general corporate purposes.
The Properties Notes, the Acquisitions Notes and the New Properties Notes
are guaranteed on a joint and several basis by certain of Properties'
subsidiaries and rank pari passu in right of payment with all other existing
future senior indebtedness of Properties. Properties was the owner of 58 of the
Company's 95 lodging properties at January 2, 1998.
The net assets of Properties at January 2, 1998 were approximately $518
million, substantially all of which were restricted. The indentures governing
the Properties Notes, the Acquisitions Notes and the New Properties Notes
contain covenants that, among other things, limit the ability to incur
additional indebtedness and issue preferred stock, pay dividends or make other
distributions, repurchase capital stock or subordinated indebtedness, create
certain liens, enter into certain transactions with affiliates, sell certain
assets, issue or sell stock of subsidiaries, and enter into certain mergers and
consolidations.
During 1997, Host Marriott, through a newly-created, wholly-owned
subsidiary, HMC Capital Resources Corporation ("Capital Resources"), entered
into a revolving line of credit agreement (the "Line of Credit") with a group of
commercial banks under which it may borrow up to $500 million for the
acquisition of lodging real estate and for Host Marriott's working capital
purposes. On June 19, 2000, any outstanding borrowings on the Line of Credit
convert to a term loan arrangement with all unpaid advances due June 19, 2004.
Borrowings under the Line of Credit bear interest at either the Eurodollar rate
plus 1.7% or the Base Rate (as defined in the agreement) plus 0.7%, at the
option of Host Marriott. An annual fee of 0.35% is charged on the unused
portion of the commitment. The Line of Credit was originally secured by six
hotel properties contributed to Capital Resources, with a carrying value of
approximately $500 million as of January 2, 1998, and is guaranteed by the
Company. As a result of this transaction, Host Marriott terminated its line of
credit with Marriott International. As of January 2, 1998, outstanding
borrowings on the Line of Credit were approximately $22 million as a result of a
borrowing to fund the acquisition of the Ontario Airport Marriott.
Host Marriott also purchased 100% of the outstanding bonds secured by a
first mortgage on the San Francisco Marriott in 1997. Host Marriott purchased
the bonds for $219 million, an $11 million discount to the face value of $230
million. In connection with the redemption and defeasance of the bonds, the
Company recognized an extraordinary gain of $5 million, which represents the $11
million discount less the write-off of unamortized deferred financing fees, net
of taxes.
In 1997, Host Marriott incurred approximately $418 million of mortgage debt
in conjunction with the acquisition of 11 hotels.
In conjunction with the construction of the Philadelphia Marriott, which
was completed and opened in January 1995, the Company obtained first mortgage
financing from Marriott International for 60% of the construction and
development costs of the hotel. In the fourth quarter of 1996, Host Marriott
repaid the $109 million mortgage, prior to the rate increasing to 10% per annum
with an additional 2% deferred, with the proceeds from the convertible preferred
securities offering discussed in Note 6. In the first quarter of 1997, Host
Marriott obtained $90 million in first mortgage financing from two insurance
companies secured by the Philadelphia Marriott. The mortgage bears interest at
a fixed rate of 8.49% and matures in April 2009.
In December 1997, Host Marriott successfully completed the refinancing of
the MHPLP mortgage debt for approximately $152 million. The new mortgage bears
interest at 7.48% and matures in January 2008. In connection with the
refinancing, the Company recognized an extraordinary loss of $2 million which
represents payment of a prepayment penalty and the write-off of unamortized
deferred financing fees, net of taxes.
F-15
<PAGE>
HOST MARRIOTT HOTELS
NOTES TO COMBINED CONSOLIDATED FINANCIAL STATEMENTS (Cont'd.)
At January 2, 1998, the Company was party to an interest rate exchange
agreement with a financial institution (the contracting party) with an aggregate
notional amount of $100 million. Under this agreement, the Company collects
interest based on specified floating interest rates of one month LIBOR (rate of
6% at January 2, 1998) and pays interest at fixed rates (rate of 7.99% at
January 2, 1998). This agreement expires in 1998 in conjunction with the
maturity of the mortgage on the New York Marriott Marquis. Also in 1997, the
Company was party to two additional interest rate swap agreements with an
aggregate notional amount of $400 million which expired in May 1997. The
Company realized a net reduction of interest expense of $1 million in 1997, $6
million in 1996 and $5 million in 1995 related to interest rate exchange
agreements. The Company monitors the creditworthiness of its contracting
parties by evaluating credit exposure and referring to the ratings of widely
accepted credit rating services. The Standard and Poors' long-term debt rating
for the contracting party is A-. The Company is exposed to credit loss in the
event of non-performance by the contracting party to the interest rate swap
agreements; however, the Company does not anticipate non-performance by the
contracting party.
Aggregate debt maturities at January 2, 1998, excluding capital lease
obligations, are (in millions):
1998.......................................... $ 316
1999.......................................... 28
2000.......................................... 131
2001.......................................... 132
2002.......................................... 156
Thereafter.................................... 2,695
------
$3,458
======
Cash paid for interest for continuing operations, net of amounts
capitalized, was $278 million in 1997, $220 million in 1996 and $177 million in
1995. Deferred financing costs, which are included in other assets, amounted to
$96 million and $61 million, net of accumulated amortization, as of January 2,
1998 and January 3, 1997, respectively. Amortization of deferred financing
costs totaled $7 million, $5 million and $4 million in 1997, 1996 and 1995,
respectively.
6. Obligation to Host Marriott Corporation Related to Mandatorily Redeemable
Convertible Preferred Securities of a Subsidiary Trust Holding Company of
Host Marriott Corporation Substantially All of Whose Assets are the
Convertible Subordinated Debentures Due 2026
The obligation for the Convertible Preferred Securities has been pushed
down to these financial statements because it is expected that upon the REIT
Conversion the Operating Partnership will assume primary liability for repayment
of the convertible debentures of Host Marriott underlying the Convertible
Preferred Securities. Upon conversion by a Convertible Preferred Securities
holder, the Operating Partnership will purchase common shares from Host Marriott
Trust in exchange for a like number of OP Units and distribute the common shares
to the Convertible Preferred Securities holder.
In December 1996, Host Marriott Financial Trust (the "Issuer"), a wholly-
owned subsidiary trust of Host Marriott, issued 11 million shares of 6 3/4%
convertible quarterly income preferred securities (the "Convertible Preferred
Securities"), with a liquidation preference of $50 per share (for a total
liquidation amount of $550 million). The Convertible Preferred Securities
represent an undivided beneficial interest in the assets of the Issuer. The
payment of distributions out of moneys held by the Issuer and payments on
liquidation of the Issuer or the redemption of the Convertible Preferred
Securities are guaranteed by Host Marriott to the extent the Issuer has funds
available therefor. This guarantee, when taken together with Host Marriott
obligations under the indenture pursuant to which the Debentures were issued,
the Debentures, Host Marriott's obligations under the Trust Agreement and its
obligations under the indenture to pay costs, expenses, debts and liabilities of
the Issuer (other than with respect to the
F-16
<PAGE>
HOST MARRIOTT HOTELS
NOTES TO COMBINED CONSOLIDATED FINANCIAL STATEMENTS (Cont'd.)
Convertible Preferred Securities) provides a full and unconditional guarantee of
amounts due on the Convertible Preferred Securities. Proceeds from the issuance
of the Convertible Preferred Securities were invested in 6 3/4% Convertible
Subordinated Debentures (the "Debentures") due December 2, 2026 issued by Host
Marriott. The Issuer exists solely to issue the Convertible Preferred Securities
and its own common securities (the "Common Securities") and invest the proceeds
therefrom in the Debentures, which is its sole asset. Separate financial
statements of the Issuer are not presented because of Host Marriott's guarantee
described above; Host Marriott's management has concluded that such financial
statements are not material to investors and the Issuer is wholly-owned and
essentially has no independent operations.
Each of the Convertible Preferred Securities is convertible at the option
of the holder into shares of Host Marriott common stock at the rate of 2.6876
shares per Convertible Preferred Security (equivalent to a conversion price of
$18.604 per share of Company common stock). The Debentures are convertible at
the option of the holders into shares of Host Marriott common stock at a
conversion rate of 2.6876 shares for each $50 in principal amount of Debentures.
The Issuer will only convert Debentures pursuant to a notice of conversion by a
holder of Convertible Preferred Securities. During 1997 and 1996, no shares
were converted into common stock.
Holders of the Convertible Preferred Securities are entitled to receive
preferential cumulative cash distributions at an annual rate of 6 3/4% accruing
from the original issue date, commencing March 1, 1997, and payable quarterly in
arrears thereafter. The distribution rate and the distribution and other
payment dates for the Convertible Preferred Securities will correspond to the
interest rate and interest and other payment dates on the Debentures. Host
Marriott may defer interest payments on the Debentures for a period not to
exceed 20 consecutive quarters. If interest payments on the Debentures are
deferred, so too are payments on the Convertible Preferred Securities. Under
this circumstance, Host Marriott will not be permitted to declare or pay any
cash distributions with respect to its capital stock or debt securities that
rank pari passu with or junior to the Debentures.
Subject to certain restrictions, the Convertible Preferred Securities are
redeemable at the Issuer's option upon any redemption by Host Marriott of the
Debentures after December 2, 1999. Upon repayment at maturity or as a result of
the acceleration of the Debentures upon the occurrence of a default, the
Debentures shall be subject to mandatory redemption, from which the proceeds
will be applied to redeem Convertible Preferred Securities and Common
Securities, together with accrued and unpaid distributions.
As part of the Contribution, the Operating Partnership will become an
Obligor under the Convertible Preferred Securities.
7. Shareholders' Equity of Host Marriott
It is expected that upon the REIT Conversion that the Company will issue OP
Units to Host Marriott in exchange for the Contribution equal to the number of
shares of outstanding Host Marriott common stock. Additionally, limited
partnership units issued to partners of the eight public limited partnerships
and five private limited partnerships will be convertible on a one for one basis
into a share of stock of Host Marriott for each OP Unit owned or at the election
of Host Marriott Trust, in an amount equal to the market value of such shares
beginning one year after the issuance of the OP Unit.
Six hundred million shares of common stock of Host Marriott, with a par
value of $1 per share, are authorized, of which 203.8 million and 202.0 million
were issued and outstanding as of January 2, 1998 and January 3, 1997,
respectively. One million shares of no par value preferred stock are authorized
with none outstanding. During 1995, substantially all outstanding shares of
such preferred stock were converted into approximately five million shares of
Host Marriott common stock with the remainder defeased.
F-17
<PAGE>
HOST MARRIOTT HOTELS
NOTES TO COMBINED CONSOLIDATED FINANCIAL STATEMENTS (Cont'd.)
On March 27, 1996, Host Marriott completed the issuance of 31.6 million
shares of common stock for net proceeds of nearly $400 million.
In connection with a class action settlement, Host Marriott issued warrants
to purchase up to 7.7 million shares of Host Marriott's common stock at $8.00
per share through October 8, 1996 and $10.00 per share thereafter. During 1996,
6.8 million warrants were exercised at $8.00 per share and an equivalent number
of shares of Host Marriott common stock were issued. During 1997, approximately
60,000 warrants were exercised at $10.00 per share and an equivalent number of
shares of Host Marriott common stock were issued. As of January 2, 1998, there
were approximately 550,000 warrants outstanding.
In February 1989, the Board of Directors of Host Marriott adopted a
shareholder rights plan under which a dividend of one preferred stock purchase
right was distributed for each outstanding share of Host Marriott's common
stock. Each right entitles the holder to buy 1/1,000th of a share of a newly
issued series of junior participating preferred stock of Host Marriott at an
exercise price of $150 per share. The rights will be exercisable 10 days after
a person or group acquires beneficial ownership of at least 20%, or begins a
tender or exchange offer for at least 30%, of Host Marriott's common stock.
Shares owned by a person or group on February 3, 1989 and held continuously
thereafter are exempt for purposes of determining beneficial ownership under the
rights plan. The rights are non-voting and will expire on February 2, 1999,
unless exercised or previously redeemed by Host Marriott for $.01 each. If Host
Marriott is involved in a merger or certain other business combinations not
approved by the Board of Directors, each right entitles its holder, other than
the acquiring person or group, to purchase common stock of either Host Marriott
or the acquiror having a value of twice the exercise price of the right.
8. Income Taxes
The accompanying financial statements reflect the deferred income taxes
related to the expected future tax consequences of those temporary differences
specifically allocable to the Company based on the Contribution. Upon the REIT
Conversion and the Contribution it is expected that the Company will be a
limited partnership and taxable income or loss will be allocated among its
partners. Further, Host Marriott expects to qualify as a REIT and will allocate
its taxable income or loss to its shareholders. Accordingly, upon the REIT
Conversion and the Contribution, the Company will not have a Federal tax
provision or a state tax provision in many states and in accordance with
Statement of Financial Accounting Standards No. 109 will record an adjustment to
the tax provision in the fiscal year during which the REIT Conversion takes
place for the tax effect of the reversal of certain of the Company's deferred
taxes.
Total deferred tax assets and liabilities at January 2, 1998 and January 3,
1997 were as follows:
1997 1996
------ ------
(in millions)
Deferred tax assets............................. $ 159 $ 139
Deferred tax liabilities........................ (646) (603)
----- -----
Net deferred income tax liability.............. $(487) $(464)
===== =====
F-18
<PAGE>
HOST MARRIOTT HOTELS
NOTES TO COMBINED CONSOLIDATED FINANCIAL STATEMENTS (Cont'd.)
The tax effect of each type of temporary difference and carryforward that
gives rise to a significant portion of deferred tax assets and liabilities as of
January 2, 1998 and January 3, 1997 follows:
1997 1996
------ ------
(in millions)
Investments in affiliates..................... $(310) $(303)
Property and equipment........................ (179) (135)
Safe harbor lease investments................. (65) (73)
Deferred tax gain............................. (92) (92)
Reserves...................................... 103 97
Alternative minimum tax credit carryforwards.. 41 26
Other, net.................................... 15 16
----- -----
Net deferred income tax liability............. $(487) $(464)
===== =====
The provision (benefit) for income taxes consists of:
1997 1996 1995
------ ------ ------
(in millions)
Current -- Federal............ $ 19 $ (2) $ 7
-- State.............. 4 3 3
-- Foreign............ 3 3 --
------ ------ ------
26 4 10
------ ------ ------
Deferred -- Federal............ 8 2 (23)
-- State.............. 2 (1) --
------ ------ ------
10 1 (23)
------ ------ ------
$ 36 $ 5 $ (13)
====== ====== ======
At January 2, 1998, Host Marriott had approximately $41 million of
alternative minimum tax credit carryforwards available which do not expire.
Through 1997, Host Marriott settled with the Internal Revenue Service
("IRS") substantially all issues for tax years 1979 through 1993. Host Marriott
expects to resolve any remaining issues with no material impact on the combined
consolidated financial statements. Host Marriott made net payments to the IRS
of approximately $10 million and $45 million in 1997 and 1996, respectively,
related to these settlements. Certain adjustments totaling approximately $2
million and $11 million in 1996 and 1995, respectively, were made to the tax
provision related to those settlements.
A reconciliation of the statutory Federal tax rate to the Company's
effective income tax rate follows:
1997 1996 1995
------ ------- -------
Statutory Federal tax rate...................... 35.0% (35.0)% (35.0)%
State income taxes, net of Federal tax benefit.. 4.9 21.7 2.5
Tax credits..................................... (2.7) -- (0.1)
Additional tax on foreign source income......... 6.0 40.8 --
Tax contingencies............................... -- 25.0 14.6
Permanent items................................. 0.1 9.0 --
Other, net...................................... 0.1 1.0 0.7
---- ------ ------
Effective income tax rate...................... 43.4% 62.5% (17.3)%
==== ====== ======
As part of the Marriott International Distribution and the Special
Dividend, Host Marriott, Marriott International and HM Services entered into
tax-sharing agreements which reflect each party's
F-19
<PAGE>
HOST MARRIOTT HOTELS
NOTES TO COMBINED CONSOLIDATED FINANCIAL STATEMENTS (Cont'd.)
rights and obligations with respect to deficiencies and refunds, if any, of
Federal, state or other taxes relating to the businesses of Host Marriott,
Marriott International and HM Services prior to the Marriott International
Distribution and the Special Dividend.
Cash paid for income taxes, including IRS settlements, net of refunds
received, was $56 million in 1997, $40 million in 1996 and $22 million in 1995.
9. Leases
The Company leases certain property and equipment under non-cancelable
operating and capital leases. Future minimum annual rental commitments for all
non-cancelable leases are as follows:
Capital Operating
Leases Leases
--------- ---------
(in millions)
1998 ....................................$ 2 $ 115
1999 ..................................... 2 111
2000 ..................................... 1 108
2001 ..................................... 1 106
2002 ..................................... 1 103
Thereafter................................. 5 1,358
------ ------
Total minimum lease payments............... 12 $1,901
======
Less amount representing interest.......... (4)
------
Present value of minimum lease payments... $ 8
======
As discussed in Note 12, Host Marriott sold and leased back 37 of its
Courtyard properties in 1995 and an additional 16 Courtyard properties in 1996
to Hospitality Properties Trust. Additionally, in 1996, Host Marriott sold and
leased back 18 of its Residence Inns to Hospitality Properties Trust. These
leases, which are accounted for as operating leases and are included above, have
initial terms expiring through 2012 for the Courtyard properties and 2010 for
the Residence Inn properties, and are renewable at the option of the Company.
Minimum rent payments are $51 million annually for the Courtyard properties and
$17 million annually for the Residence Inn properties, and additional rent based
upon sales levels are payable to the owner under the terms of the leases.
Leases also include long-term ground leases for certain hotels, generally
with multiple renewal options. Certain leases contain provision for the payment
of contingent rentals based on a percentage of sales in excess of stipulated
amounts.
Certain of the lease payments included in the table above relate to
facilities used in the Company's former restaurant business. Most leases contain
one or more renewal options, generally for five or 10-year periods. Future
rentals on leases have not been reduced by aggregate minimum sublease rentals of
$124 million payable to the Company under non-cancelable subleases.
The Company remains contingently liable at January 2, 1998 on certain
leases relating to divested non-lodging properties. Such contingent liabilities
aggregated $110 million at January 2, 1998. However, management considers the
likelihood of any substantial funding related to these leases to be remote.
F-20
<PAGE>
HOST MARRIOTT HOTELS
NOTES TO COMBINED CONSOLIDATED FINANCIAL STATEMENTS (Cont'd.)
Rent expense consists of:
1997 1996 1995
------ ------ ------
(in millions)
Minimum rentals on operating leases............... $ 98 $ 83 $ 34
Additional rentals based on sales................. 20 16 17
------ ------ ------
$ 118 $ 99 $ 51
====== ====== ======
10. Employee Stock Plans
It is expected that upon the REIT Conversion the Company will issue OP
Units to Host Marriott in exchange for the Contribution equal to the number of
shares of outstanding Host Marriott common stock. Additionally, OP Units issued
to partners of the eight public limited partnerships and five private limited
partnerships will be convertible on a one for one basis into shares of Host
Marriott stock for each OP Unit owned or, at the election of Host Marriott
Trust, in an amount equal to the market value of such shares beginning one year
after the issuance of the OP Unit.
At January 2, 1998, Host Marriott has two stock-based compensation plans
which are described below. Under the comprehensive stock plan (the
"Comprehensive Plan"), Host Marriott may award to participating employees (i)
options to purchase Host Marriott common stock, (ii) deferred shares of Host
Marriott's common stock and (iii) restricted shares of Host Marriott's common
stock. In addition, Host Marriott has an employee stock purchase plan (the
"Employee Stock Purchase Plan"). The principal terms and conditions of the two
plans are summarized below.
Total shares of common stock reserved and available for issuance under
employee stock plans at January 2, 1998 are:
(in millions)
Comprehensive Plan............................... 28
Employee Stock Purchase Plan..................... 3
----
31
====
Employee stock options may be granted to officers and key employees with an
exercise price not less than the fair market value of the common stock on the
date of grant. Options granted before May 11, 1990 expire 10 years after the
date of grant and nonqualified options granted on or after May 11, 1990 expire
up to 15 years after the date of grant. Most options vest ratably over each of
the first four years following the date of the grant. In connection with the
Marriott International Distribution, Host Marriott issued an equivalent number
of Marriott International options and adjusted the exercise prices of its
options, then outstanding, based on the relative trading prices of shares of the
common stock of the two companies.
Host Marriott continues to account for expense under its plans under the
provisions of Accounting Principle Board Opinion 25 and related interpretations
as permitted under SFAS No. 123. Accordingly, no compensation cost has been
recognized for its fixed stock options under the Comprehensive Plan and its
Employee Stock Purchase Plan.
For purposes of the following disclosures required by SFAS No. 123, the
fair value of each option granted has been estimated on the date of grant using
an option-pricing model with the following weighted average assumptions used for
grants in 1997, 1996 and 1995, respectively: risk-free interest rate of 6.2%,
6.6% and 6.8%, respectively, volatility of 35%, 36% and 37%, respectively,
expected lives of 12 years and no dividend yield. The weighted average fair
value per option granted during the year was $13.13 in 1997, $8.68 in 1996 and
$5.76 in 1995.
Pro forma compensation cost for 1997, 1996 and 1995 would have reduced
(increased) net income (loss) by approximately $330,000, ($150,000) and
($5,000), respectively. Basic and diluted earnings per
F-21
<PAGE>
HOST MARRIOTT HOTELS
NOTES TO COMBINED CONSOLIDATED FINANCIAL STATEMENTS (Cont'd.)
share on a pro forma basis for Host Marriott were not impacted by the pro forma
compensation cost in 1997, 1996 and 1995.
The effects of the implementation of SFAS No. 123 are not representative of
the effects on reported net income in future years because only the effects of
stock option awards granted in 1995, 1996 and 1997 have been considered.
In connection with the Special Dividend, the then outstanding options held
by current and former employees of Host Marriott were redenominated in both Host
Marriott and HM Services stock and the exercise prices of the options were
adjusted based on the relative trading prices of shares of the common stock of
the two companies. For all options held by certain current and former employees
of Marriott International, the number and exercise price of the options were
adjusted based on the trading prices of shares of the Host Marriott's common
stock immediately before and after the Special Dividend. Therefore, the options
outstanding reflect these revised exercise prices. Pursuant to the Distribution
Agreement between the Company and HM Services, Host Marriott has the right to
receive up to 1.4 million shares of HM Services' common stock or an equivalent
cash value subsequent to exercise of the options held by certain former and
current employees of Marriott International. As of January 2, 1998, Host
Marriott valued this right at approximately $20 million, which is included in
other assets. A summary of the status of Host Marriott's stock option plan for
1997, 1996 and 1995 follows:
<TABLE>
<CAPTION>
1997 1996 1995
----------------------------------- -------------------------------- --------------------------------
Weighted Weighted Weighted Average
Shares Average Shares Average Shares Exercise
(in millions) Exercise Price (in millions) Exercise Price (in millions) Price
---------------- ----------------- --------------- --------------- ----------------- -------------
<S> <C> <C> <C> <C> <C> <C>
Balance, at beginning of
year...................... 8.3 $ 4 10.0 $ 4 11.7 $4
Granted.................... .1 20 .2 13 - -
Exercised.................. (1.6) 4 (1.9) 4 (2.3) 4
Forfeited/Expired.......... - - - - (.3) 4
Adjustment for Special
Dividend.................. - - - - .9 4
---- ----- -----
Balance, at end of year 6.8 4 8.3 4 10.0 4
==== ===== =====
Options exercisable at
year-end.................. 6.4 7.6 8.5
</TABLE>
The following table summarizes information about stock options outstanding at
January 2, 1998:
<TABLE>
<CAPTION>
Options Outstanding Options Exercisable
---------------------------------------------------- -----------------------------------
Shares Weighted Average Shares
Outstanding Remaining Weighted Average Exercisable Weighted Average
at Contractual Exercise at Exercise
Range of Exercise Prices January 2, 1998 Life Price January 2, 1998 Price
- ------------------------ ---------------- ----------------- ---------------- --------------- -----------------
<S> <C> <C> <C> <C> <C>
1-3 4.4 9 $ 2 4.4 $ 2
4-6 1.7 4 6 1.7 6
7-9 .4 12 9 .3 9
10-12 .1 14 12 - -
13-15 .1 14 15 - -
19-22 .1 15 20 - -
---- -----
6.8 6.4
==== =====
</TABLE>
Deferred stock incentive plan shares granted to officers and key employees
after 1990 generally vest over 10 years in annual installments commencing one
year after the date of grant. Certain employees may elect to defer payments
until termination or retirement. Deferred stock incentive plan shares granted
in 1990 and prior years generally vest in annual installments commencing one
year after the date of grant and continuing for 10 years. Employees also could
elect to forfeit one-fourth of their deferred stock incentive plan award in
exchange for accelerated vesting
F-22
<PAGE>
HOST MARRIOTT HOTELS
NOTES TO COMBINED CONSOLIDATED FINANCIAL STATEMENTS (Cont'd.)
over a 10-year period. Host Marriott accrues compensation expense for the fair
market value of the shares on the date of grant, less estimated forfeitures. In
1997, 1996 and 1995, 14,000, 13,000 and 158,000 shares were granted,
respectively, under this plan. The compensation cost that has been charged
against income for deferred stock was $1 million in 1995 and was not material in
1996 and 1997. The weighted average fair value per share granted during each
year was $15.81 in 1997, $11.81 in 1996 and $8.49 in 1995.
In 1993, 3,537,000 restricted stock plan shares under the Comprehensive
Plan were issued to officers and key executives to be distributed over the next
three to 10 years in annual installments based on continued employment and the
attainment of certain performance criteria. Host Marriott recognizes
compensation expense over the restriction period equal to the fair market value
of the shares on the date of issuance adjusted for forfeitures, and where
appropriate, the level of attainment of performance criteria and fluctuations in
the fair market value of Host Marriott's common stock. In 1997 and 1996,
198,000 and 2,511,000 shares of additional restricted stock plan shares were
granted to certain key employees under terms and conditions similar to the 1993
grants. Approximately 161,000 and 500,000 shares were forfeited in 1996 and
1995, respectively. There were no shares forfeited in 1997. Host Marriott
recorded compensation expense of $13 million, $11 million and $5 million in
1997, 1996 and 1995, respectively, related to these awards. The weighted
average fair value per share granted during each year was $16.88 in 1997 and
$14.01 in 1996. There were no restricted stock plan shares granted in 1995.
Under the terms of the Employee Stock Purchase Plan, eligible employees may
purchase common stock through payroll deductions at the lower of market value at
the beginning or end of the plan year.
11. Profit Sharing and Postemployment Benefit Plans
Host Marriott contributes to profit sharing and other defined contribution
plans for the benefit of employees meeting certain eligibility requirements and
electing participation in the plans. The amount to be matched by Host Marriott
is determined annually by the Board of Directors. Host Marriott provides
medical benefits to a limited number of retired employees meeting restrictive
eligibility requirements. Amounts for these items were not material in 1995
through 1997.
12. Acquisitions and Dispositions
In 1998, the Company acquired, or purchased controlling interest in, six
full-service hotels totaling 3,270 rooms for an aggregate purchase price of
approximately $388 million and entered into an agreement to acquire a
controlling interest in the 397-room Ritz-Carlton in Tysons Corner, Virginia.
In April 1998, Host Marriott reached a definitive agreement with various
affiliates of The Blackstone Group and Blackstone Real Estate Partners
(collectively, "Blackstone") to acquire interests in 12 world-class luxury
hotels in the U.S. and certain other assets in a transaction valued at
approximately $1.735 billion, including the assumption of two mortgages, one of
which is secured by a thirteenth hotel. The Company expects to pay approximately
$862 million in cash and assumed debt and to issue approximately 43.7 million
Operating Partnership units. Each OP Unit will be exchangeable for one share of
Host Marriott common stock (or its cash equivalent). Upon completion of the
acquisition, Blackstone will own approximately 18% of the outstanding shares of
Host Marriott common stock on a fully converted basis. The Blackstone portfolio
consists of two Ritz-Carltons, two Four Seasons, one Grand Hyatt, three Hyatt
Regencies and four Swissotel properties and a mortgage on a third Four Seasons.
In 1998, the Company sold two hotels totalling 854 rooms for approximately
$212 million.
In 1997, the Company acquired eight full-service hotels totaling 3,600
rooms for approximately $145 million. In addition, the Company acquired
controlling interests in nine full-service hotels totaling 5,024 rooms for
approximately $621 million, including the assumption of approximately $418
million of debt. The Company also completed the acquisition of the 504-room New
York Marriott Financial Center, after acquiring the mortgage on the hotel for
$101 million in late 1996.
In 1996, the Company acquired six full-service hotels totaling 1,964 rooms
for an aggregate purchase price of approximately $189 million. In addition, the
Company acquired controlling interests in 17 full-service hotels totaling 8,917
rooms for an aggregate purchase price of approximately $1.1 billion, including
the assumption of approximately $696 million of debt. The Company also
purchased the first mortgage of the 504-room New York Marriott Financial Center
for approximately $101 million.
In 1995, the Company acquired nine full-service hotels totaling
approximately 3,900 rooms in separate transactions for approximately $390
million.
F-23
<PAGE>
HOST MARRIOTT HOTELS
NOTES TO COMBINED CONSOLIDATED FINANCIAL STATEMENTS (Cont'd.)
During the first and third quarters of 1995, 37 of the Company's Courtyard
properties were sold and leased back from Hospitality Properties Trust for
approximately $330 million. The Company received net proceeds from the two
transactions of approximately $297 million and will receive approximately $33
million upon expiration of the leases. A deferred gain of $14 million on the
sale/leaseback transactions is being amortized over the initial term of the
leases.
In the first and second quarters of 1996, the Company completed the sale
and leaseback of 16 of its Courtyard properties and 18 of its Residence Inn
properties for $349 million. The Company received net proceeds of approximately
$314 million and will receive approximately $35 million upon expiration of the
leases. A deferred gain of $45 million on the sale/leaseback transactions is
being amortized over the initial term of the leases.
The Company's summarized, unaudited combined consolidated pro forma results
of operations, assuming the above transactions, the refinancings and new debt
activity discussed in Note 5 occurred, along with the purchase of the remaining
interests in the eight public partnerships and five private partnerships, the
Contribution and the REIT Conversion, on December 30, 1995, are as follows (in
millions):
1997 1996
-------- --------
Revenues...................................... $1,061 $ 972
Operating profit.............................. 529 454
Income (loss) before extraordinary items
and REIT Conversion expenses................ 37 (42)
13. Fair Value of Financial Instruments
The fair values of certain financial assets and liabilities and other financial
instruments are shown below:
<TABLE>
<CAPTION>
1997 1996
------------------- -----------------
Carrying Fair Carrying Fair
Amount Value Amount Value
------ ----- ------ -----
(in millions)
<S> <C> <C> <C> <C>
Financial assets
Short-term marketable securities.............. $ 354 $ 354 $ - $ -
Receivables from affiliates................... 23 26 156 174
Notes receivable.............................. 31 48 141 155
Other......................................... 20 20 13 13
Financial liabilities
Debt, net of capital leases................... 3,458 3,492 2,636 2,654
Other financial instruments
Obligation to Host Marriott for Convertible
Preferred Securities......................... 550 638 550 595
Interest rate swap agreements................ - - - 1
Affiliate debt service commitments............. - - - -
</TABLE>
Short-term marketable securities and the obligation to Host Marriott for
Convertible Preferred Securities are valued based on quoted market prices.
Receivables from affiliates, notes and other financial assets are valued based
on the expected future cash flows discounted at risk-adjusted rates. Valuations
for secured debt are determined based on the expected future payments discounted
at risk-adjusted rates. The fair values of the Line of Credit and other notes
are estimated to be equal to their carrying value. Senior Notes are valued based
on quoted market prices.
F-24
<PAGE>
HOST MARRIOTT HOTELS
NOTES TO COMBINED CONSOLIDATED FINANCIAL STATEMENTS (Cont'd.)
The Company is contingently liable under various guarantees of obligations
of certain affiliates (affiliate debt service commitments) with a maximum
commitment of $60 million at January 2, 1998 and $117 million at January 3,
1997. A fair value is assigned to commitments with expected future fundings.
The fair value of the commitments represents the net expected future payments
discounted at risk-adjusted rates. Such payments are accrued on an undiscounted
basis.
The fair value of interest rate swap agreements is based on the estimated
amount the Company would pay or receive to terminate the swap agreements. The
aggregate notional amount of the agreements was $100 million at January 2, 1998
and $525 million at January 3, 1997.
14. Marriott International Distribution and Relationship with Marriott
International
On October 8, 1993 (the "Marriott International Distribution Date"),
Marriott Corporation distributed, through a special tax-free dividend (the
"Marriott International Distribution"), to holders of Marriott Corporation's
common stock (on a share-for-share basis), approximately 116.4 million
outstanding shares of common stock of an existing wholly-owned subsidiary,
Marriott International, resulting in the division of Marriott Corporation's
operations into two separate companies. The distributed operations included the
former Marriott Corporation's lodging management, franchising and resort
timesharing operations, senior living service operations, and the institutional
food service and facilities management business. Host Marriott retained the
former Marriott Corporation's airport and tollroad food, beverage and
merchandise concessions operations, as well as most of its real estate
properties. Effective at the Marriott International Distribution Date, Marriott
Corporation changed its name to Host Marriott Corporation.
Host Marriott and Marriott International have entered into various
agreements in connection with the Marriott International Distribution and
thereafter which provide, among other things, that (i) the majority of the
Company's hotel lodging properties are managed by Marriott International under
agreements with initial terms of 15 to 20 years and which are subject to renewal
at the option of Marriott International for up to an additional 16 to 30 years
(see Note 15); (ii) 10 of the Company's full-service properties are operated
under franchise agreements with Marriott International with terms of 15 to 30
years; (iii) Marriott International guarantees the Company's performance in
connection with certain loans and other obligations ($107 million at January 2,
1998); (iv) the Company borrowed and repaid $109 million of first mortgage
financing for construction of the Philadelphia Marriott (see Note 5); (v)
Marriott International provided the Company with $70 million of mortgage
financing in 1995 for the acquisition of three full-service properties by the
Company at an average interest rate of 8.5% (Marriott International subsequently
sold one of the loans in November 1996); (vi) Marriott International and the
Company formed a joint venture and Marriott International provided the Company
with $29 million in debt financing at an average interest rate of 12.7% and $28
million in preferred equity in 1996 for the acquisition of two full-service
properties in Mexico City, Mexico; (vii) in 1995, the Company also acquired a
full-service property from a partnership in which Marriott International owned a
50% interest; and (viii) Marriott International provides certain limited
administrative services.
In 1997, 1996 and 1995, Host Marriott paid to Marriott International $162
million, $101 million and $67 million, respectively, in hotel management fees;
$9 million, $18 million and $21 million, respectively, in interest and
commitment fees under the debt financing and line of credit provided by Marriott
International and $3 million, $4 million and $12 million, respectively, for
limited administrative services. Host Marriott also paid Marriott International
$4 million, $2 million and $1 million, respectively, in franchise fees in 1997,
1996 and 1995.
Additionally, Marriott International has the right to purchase up to 20% of
the voting stock of Host Marriott if certain events involving a change in
control of Host Marriott occur.
F-25
<PAGE>
HOST MARRIOTT HOTELS
NOTES TO COMBINED CONSOLIDATED FINANCIAL STATEMENTS (Cont'd.)
15. Hotel Management Agreements
Most of the Company's hotels are subject to management agreements (the
"Agreements") under which Marriott International manages most of the Company's
hotels, generally for an initial term of 15 to 20 years with renewal terms at
the option of Marriott International of up to an additional 16 to 30 years. The
Agreements generally provide for payment of base management fees equal to one to
four percent of sales and incentive management fees generally equal to 20% to
50% of Operating Profit (as defined in the Agreements) over a priority return
(as defined) to the Company, with total incentive management fees not to exceed
20% of cumulative Operating Profit, or 20% of current year Operating Profit. In
the event of early termination of the Agreements, Marriott International will
receive additional fees based on the unexpired term and expected future base and
incentive management fees. The Company has the option to terminate certain
management agreements if specified performance thresholds are not satisfied. No
agreement with respect to a single lodging facility is cross-collateralized or
cross-defaulted to any other agreement and a single agreement may be canceled
under certain conditions, although such cancellation will not trigger the
cancellation of any other agreement.
Pursuant to the terms of the Agreements, Marriott International is required
to furnish the hotels with certain services ("Chain Services") which are
generally provided on a central or regional basis to all hotels in the Marriott
International hotel system. Chain Services include central training,
advertising and promotion, a national reservation system, computerized payroll
and accounting services, and such additional services as needed which may be
more efficiently performed on a centralized basis. Costs and expenses incurred
in providing such services are allocated among all domestic hotels managed,
owned or leased by Marriott International or its subsidiaries. In addition, the
Company's hotels also participate in the Marriott Rewards program. The cost of
this program is charged to all hotels in the Marriott hotel system.
The Company is obligated to provide the manager with sufficient funds to
cover the cost of (a) certain non-routine repairs and maintenance to the hotels
which are normally capitalized; and (b) replacements and renewals to the hotels'
property and improvements. Under certain circumstances, the Company will be
required to establish escrow accounts for such purposes under terms outlined in
the Agreements.
The Company has entered into franchise agreements with Marriott
International for ten hotels. Pursuant to these franchise agreements, the
Company generally pays a franchise fee based on a percentage of room sales and
food and beverage sales as well as certain other fees for advertising and
reservations. Franchise fees for room sales vary from four to six percent of
sales, while fees for food and beverage sales vary from two to three percent of
sales. The terms of the franchise agreements are from 15 to 30 years.
The Company has entered into management agreements with The Ritz-Carlton
Hotel Company, LLC ("Ritz-Carlton"), an affiliate of Marriott International, to
manage four of the Company's hotels. These agreements have an initial term of
15 to 25 years with renewal terms at the option of Ritz-Carlton of up to an
additional 10 to 40 years. Base management fees vary from two to four percent
of sales and incentive management fees are generally equal to 20% of available
cash flow or operating profit, as defined in the agreements.
The Company has also entered into management agreements with hotel
management companies other than Marriott International and Ritz-Carlton for 12
of its hotels (10 of which are franchised under the Marriott brand). These
agreements generally provide for an initial term of 10 to 20 years with renewal
terms at the option of either party of up to an additional one to 15 years.
These agreements generally provide for payment of base management fees equal to
one to three
F-26
<PAGE>
HOST MARRIOTT HOTELS
NOTES TO COMBINED CONSOLIDATED FINANCIAL STATEMENTS (Cont'd.)
percent of sales. Seven of the 12 agreements also provide for incentive
management fees generally equal to 15 to 20 percent of available cash flow, as
defined in the agreements.
At January 2, 1998 and January 3, 1997, $75 million and $76 million,
respectively, have been advanced to the hotel managers for working capital and
are included in "Due From Managers" in the accompanying combined consolidated
balance sheets.
16. Litigation
The Company is from time-to-time the subject of, or involved in, judicial
proceedings. Management believes that any liability or loss resulting from such
matters will not have a material adverse effect on the financial position or
results of operations of the Company.
In the fourth quarter of 1997, the Company reached a settlement in a
lawsuit against Trinity Industries and others for claims related to construction
of the New York Marriott Marquis. In settlement of the lawsuit, the Company and
its affiliate received a cash settlement of approximately $70 million, the
majority of which was considered a recovery of construction costs and $10
million of which has been recorded as other revenues in the accompanying
combined consolidated financial statements.
17. Hotel Operations
As discussed in Note 1, revenues reflect house profit from the Company's
hotel properties. House profit reflects the net revenues flowing to the Company
as property owner and represents all gross hotel operating revenues, less all
gross property-level expenses, excluding depreciation, management fees, real and
personal property taxes, ground and equipment rent, insurance and certain other
costs, which are classified as operating costs and expenses.
Accordingly, the following table presents the details of house profit for
the Company's hotels for 1997, 1996 and 1995:
1997 1996 1995
------- ------- -------
(in millions)
Sales
Rooms................................... $1,850 $1,302 $ 908
Food and Beverage....................... 776 515 363
Other................................... 180 125 81
------ ------ ------
Total Hotel Sales..................... 2,806 1,942 1,352
------ ------ ------
Department Costs
Rooms................................... 428 313 226
Food and Beverage....................... 592 406 284
Other................................... 189 63 43
------ ------ ------
Total Department Costs................ 1,209 782 553
------ ------ ------
Department Profit........................ 1,597 1,160 799
Other Deductions......................... (504) (443) (325)
------ ------ ------
House Profit............................. $1,093 $ 717 $ 474
====== ====== ======
18. Geographic and Business Segment Information
The Company operates in the full-service hotel segment of the lodging
industry. The Company's hotels are primarily operated under the Marriott or
Ritz-Carlton brands, contain an average of nearly 500 rooms, as well as supply
other amenities such as meeting space and banquet facilities; a variety of
restaurants and lounges; gift shops; and swimming pools. They are typically
located in downtown, airport, suburban and resort areas throughout the United
States.
F-27
<PAGE>
HOST MARRIOTT HOTELS
NOTES TO COMBINED CONSOLIDATED FINANCIAL STATEMENTS (Cont'd.)
As of January 2, 1998, the Company's foreign operations consist of four
full-service hotel properties located in Canada and two full-service hotel
properties located in Mexico. There were no intercompany sales between the
properties and the Company. The following table presents revenues and long-
lived assets for each of the geographical areas in which the Company operates
(in millions):
<TABLE>
<CAPTION>
1997 1996 1995
-------------------- -------------------- --------------------
Long-lived Long-lived Long-lived
Revenues Assets Revenues Assets Revenues Assets
-------------------- -------------------- --------------------
<S> <C> <C> <C> <C> <C> <C>
United States...................... $1,071 $4,412 $714 $3,587 $482 $2,842
International...................... 39 222 18 218 2 40
------ ------ ---- ------ ---- ------
Total............................ $1,110 $4,634 $732 $3,805 $484 $2,882
====== ====== ==== ====== ==== ======
</TABLE>
F-28
<PAGE>
HOST MARRIOTT HOTELS
CONDENSED COMBINED CONSOLIDATED BALANCE SHEET
March 27, 1998
(unaudited, in millions)
ASSETS
Property and Equipment, net............................................. $4,926
Notes and Other Receivables, net (including amounts due from
affiliates of $9 million).............................................. 37
Due from Managers....................................................... 133
Investments in Affiliates............................................... 6
Other Assets............................................................ 318
Short-term Marketable Securities........................................ 161
Cash and Cash Equivalents............................................... 539
------
$6,120
======
LIABILITIES AND EQUITY
Debt
Senior Notes........................................................... $1,585
Mortgage Debt.......................................................... 1,943
Other.................................................................. 96
------
3,624
Accounts Payable and Accrued Expenses................................... 70
Deferred Income Taxes................................................... 488
Other Liabilities....................................................... 447
------
Total Liabilities...................................................... 4,629
------
Obligation to Host Marriott Corporation Related to Mandatorily
Redeemable Convertible Preferred Securities of a Subsidiary Trust
Holding Company of Host Marriott Corporation Substantially All
of Whose Assets are the Convertible Subordinated Debentures Due
2026 ("Convertible Preferred Securities").............................. 550
Equity
Investments and Advances from Host Marriott Corporation................ 941
------
$6,120
======
See Notes to Condensed Combined Consolidated Financial Statements.
F-29
<PAGE>
HOST MARRIOTT HOTELS
CONDENSED COMBINED CONSOLIDATED STATEMENTS OF OPERATIONS
Twelve weeks ended March 27, 1998 and March 28, 1997
(unaudited, in millions)
<TABLE>
<CAPTION>
1998 1997
------ ------
<S> <C> <C>
REVENUES
Hotels.......................................................... $ 321 $ 248
Net gains on property transactions.............................. 1 1
Equity in earnings of affiliates................................ 1 1
Other........................................................... 2 2
----- -----
Total revenues................................................. 325 252
----- -----
OPERATING COSTS AND EXPENSES
Hotels (including Marriott International management fees of
$55 million and $42 million, respectively)..................... 173 151
Other........................................................... 5 10
----- -----
Total operating costs and expenses............................. 178 161
----- -----
OPERATING PROFIT BEFORE MINORITY INTEREST, CORPORATE
EXPENSES AND INTEREST........................................... 147 91
Minority interest................................................ (16) (11)
Corporate expenses............................................... (11) (9)
Interest expense................................................. (76) (63)
Dividends on Convertible Preferred Securities.................... (9) (9)
Interest income.................................................. 14 12
----- -----
INCOME BEFORE INCOME TAXES AND EXTRAORDINARY ITEM................ 49 11
Provision for income taxes....................................... (21) (5)
----- -----
INCOME BEFORE EXTRAORDINARY ITEM................................. 28 6
Extraordinary item--Gain on extinguishment of debt (net of
income taxes of $3 million)..................................... - 5
----- -----
NET INCOME....................................................... $ 28 $ 11
===== =====
</TABLE>
See Notes to Condensed Combined Consolidated Financial Statements.
F-30
<PAGE>
HOST MARRIOTT HOTELS
CONDENSED COMBINED CONSOLIDATED STATEMENTS OF CASH FLOWS
Twelve weeks ended March 27, 1998 and March 28, 1997
(unaudited, in millions)
1998 1997
------ ------
OPERATING ACTIVITIES
Income from continuing operations............................... $ 28 $ 6
Adjustments to reconcile to cash from operations:
Depreciation and amortization.................................. 54 51
Income taxes................................................... 18 1
Equity in earnings of affiliates................................ (1) (1)
Changes in operating accounts................................... (19) 8
Other........................................................... 18 25
----- -----
Cash from operations........................................... 98 90
----- -----
INVESTING ACTIVITIES
Proceeds from sales of assets................................... 1 3
Acquisitions.................................................... (118) (115)
Capital expenditures:
Renewals and replacements...................................... (40) (35)
New development projects....................................... (12) --
New investment capital expenditures............................ (9) (7)
Purchases of short-term marketable securities................... (53) --
Sales of short-term marketable securities....................... 246 --
Notes receivable collections.................................... 1 1
Affiliate collections, net...................................... 14 4
Other........................................................... (6) 14
----- -----
Cash provided by (used in) investing activities................ 24 (135)
----- -----
FINANCING ACTIVITIES
Cash tranferred to Host Marriott................................ (55) --
Issuances of debt............................................... 1 90
Issuances of common stock by Host Marriott...................... -- 2
Scheduled principal repayments.................................. (6) (4)
Debt prepayments................................................ (1) (222)
Other........................................................... (16) 5
----- -----
Cash used in financing activities.............................. (77) (129)
----- -----
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS................ $ 45 $(174)
===== =====
Non-cash financing activities:
Assumption of mortgage debt for the acquisition of, or
purchase of controlling interests in, certain hotel
properties.................................................... $ 164 $ 231
===== =====
See Notes to Condensed Combined Consolidated Financial Statements.
F-31
<PAGE>
HOST MARRIOTT HOTELS
NOTES TO CONDENSED COMBINED CONSOLIDATED FINANCIAL STATEMENTS
1. On April 16, 1998, the Board of Directors of Host Marriott Corporation
("Host Marriott") approved a plan to reorganize Host Marriott's current
business operations by the spin-off of Host Marriott's senior living
business ("SLC") and the contribution of Host Marriott's hotels and certain
other assets and liabilities to a newly formed Delaware limited
partnership, Host Marriott, L.P. (the "Operating Partnership") whose sole
general partner will be Host Marriott Trust, a newly formed Maryland Real
Estate Investment Trust ("REIT") that will merge with Host Marriott
Corporation, a Delaware corporation. Host Marriott's contribution of its
hotels and certain assets and liabilities to the Operating Partnership (the
"Contribution") in exchange for units of limited partnership interests in
the Operating Partnership will be accounted for at Host Marriott's
historical basis.
The accompanying condensed combined consolidated financial statements
include the accounts of the Host Marriott hotels and the assets and
liabilities expected to be included in the Contribution by Host Marriott to
the Operating Partnership upon its planned conversion to a REIT (the "REIT
Conversion") and is the predecessor to the Operating Partnership. In these
condensed combined consolidated financial statements the predecessor to the
Operating Partnership is referred to as "Host Marriott Hotels" or the
"Company." The condensed combined consolidated financial statements exclude
the assets, liabilities, equity, operations and cash flows related to Host
Marriott's portfolio of 31 senior living communities. After the
reorganization, SLC will own these assets and lease the existing hotels
from the Company.
In connection with the Conversion, the Operating Partnership is proposing
the purchase of the remaining interests in eight public limited
partnerships in which Host Marriott or its subsidiaries are general
partners that own or control 24 full-service hotels. Five of the
partnerships (nine hotels) are already controlled and consolidated by Host
Marriott as are two of the hotels in another of the partnerships for which
a subsidiary of Host Marriott provided 100% non-recourse financing for the
acquisition of these two hotels. The Operating Partnership is also
proposing to purchase certain private partnerships in which Host Marriott
or its subsidiaries are general partners in exchange for units in the
Operating Partnership ("OP Units"). OP Units will be convertible into one
share of Host Marriott common stock for each OP Unit owned or, at the
election of Host Marriott Trust, cash in an amount equal to the market
value of such shares beginning one year after the issuance of the OP Unit.
However, the consummation of the REIT Conversion is subject to significant
contingencies that are outside the control of the Company, including final
Board approval, consents of shareholders, partners, bondholders, lenders
and ground lessors of Host Marriott, its affiliates and other third
parties. Accordingly, there can be no assurance that the REIT Conversion
will be completed.
The accompanying condensed combined consolidated financial statements have
been prepared by the Company without audit. Certain information and
footnote disclosures normally included in financial statements presented in
accordance with generally accepted accounting principles have been
condensed or omitted. The Company believes the disclosures made are
adequate to make the information presented not misleading. However, the
condensed combined consolidated financial statements should be read in
conjunction with the consolidated financial statements and notes thereto
included in the Company's audited financial statements for the three fiscal
years in the period ended January 2, 1998.
In the opinion of the Company, the accompanying unaudited condensed
combined consolidated financial statements reflect all adjustments
necessary to present fairly the financial position of the Company as of
March 27, 1998 and the results of operations and cash flows for the twelve
weeks ended March 27, 1998 and March 28, 1997. Interim results are not
necessarily indicative of fiscal year performance because of the impact of
seasonal and short-term variations.
F-32
<PAGE>
HOST MARRIOTT HOTELS
NOTES TO CONDENSED COMBINED CONSOLIDATED FINANCIAL STATEMENTS
2. In April 1998, Host Marriott reached a definitive agreement with various
affiliates of The Blackstone Group and Blackstone Real Estate Partners
(collectively, "Blackstone") to acquire interests in 12 world-class luxury
hotels in the U.S. and certain other assets in a transaction valued at
approximately $1.735 billion, including the assumption of two mortgages one
of which is secured by a thirteenth hotel. The Company expects to pay
approximately $862 million in cash and assumed debt and to issue
approximately 43.7 million Operating Partnership units. Each OP Unit will
be exchangeable for one share of Host Marriott common stock (or its cash
equivalent). Upon completion of the acquisition, Blackstone will own
approximately 18% of the outstanding shares of Host Marriott common stock
on a fully converted basis. The Blackstone portfolio consists of two Ritz-
Carltons, two Four Seasons, one Grand Hyatt, three Hyatt Regencies and four
Swissotel properties and a mortgage note for a third Four Seasons.
3. Revenues primarily represent house profit from the Company's hotel
properties, net gains (losses) on property transactions, and equity in
earnings (losses) of affiliates. House profit reflects the net revenues
flowing to the Company as property owner and represents gross hotel
operating revenues, less gross property-level expenses, excluding
depreciation, management fees, real and personal property taxes, ground and
equipment rent, insurance and certain other costs, which are classified as
operating costs and expenses.
House profit generated by the Company's hotels for 1998 and 1997 consists
of:
Twelve Weeks Ended
--------------------
March 27, March 28,
1998 1997
--------- ---------
(in millions)
Sales
Rooms.............................................. $ 509 $ 408
Food & Beverage.................................... 222 171
Other.............................................. 56 41
----- -----
Total Hotel Sales................................. 787 620
----- -----
Department Costs
Rooms.............................................. 114 92
Food & Beverage.................................... 163 127
Other.............................................. 28 21
----- -----
Total Department Costs............................ 305 240
----- -----
Department Profit..................................... 482 380
Other Deductions...................................... 161 132
----- -----
House Profit.......................................... $ 321 $ 248
===== =====
4. Basic and diluted earnings per OP Unit have been calculated based on the
number of Host Marriott common shares outstanding for all periods presented
because it is expected that upon the REIT Conversion the Operating
Partnership will issue OP Units to Host Marriott in exchange for the
Contribution equal to the number of shares of outstanding Host Marriott
common stock. Accordingly, the following discussion of earnings (loss) per OP
Unit is on a pro forma basis as if the REIT Conversion and Contribution had
occurred.
Basic earnings per OP Unit is computed by dividing net income by the weighted
average number of shares of common stock outstanding of Host Marriott.
Diluted earnings per OP Unit is computed by dividing net income by the
weighted average number of shares of common stock outstanding plus other
potentially dilutive securities of Host Marriott. Diluted earnings per OP
Unit has not been adjusted for the impact of the Convertible Preferred
Securities as they are anti-dilutive.
F-33
<PAGE>
HOST MARRIOTT HOTELS
NOTES TO CONDENSED COMBINED CONSOLIDATED FINANCIAL STATEMENTS
Basic and diluted earnings per OP Unit on a pro forma basis are as follows:
Twelve Weeks Ended
------------------------
March 27, March 28,
1998 1997
--------- -------------
Basic earnings per OP Unit:
Income before extraordinary item.................. $ .14 $ .03
Extraordinary item -- Gain on extinguishment of
debt (net of income taxes)....................... -- .02
------ ------
Basis earnings per OP Unit...................... $ .14 $ .05
====== ======
Diluted earnings per OP Unit:
Income before extraordinary item.................. $ .13 $ .03
Extraordinary item -- Gain on extinguishment of
debt (net of income taxes)....................... -- .02
------ ------
Diluted earnings per OP Unit.................... $ .13 $ .05
====== ======
A reconciliation of the number of shares utilized for the calculation of
dilutive earnings per OP Unit follows:
Twelve Weeks Ended
------------------------
March 27, March 28,
1998 1997
------ ------
(in millions)
Weighted average number of common shares
outstanding........................................ 203.9 202.3
Assuming distribution of common shares granted
under the comprehensive stock plan, less shares
assumed purchased at average market price.......... 4.4 5.2
Assuming distribution of common shares issuable for
warrants, less shares assumed purchased at average
market price....................................... .3 .3
------ ------
Shares utilized for the calculation of diluted
earnings per OP Unit............................ 208.6 207.8
====== ======
5. As of March 27, 1998, the Company had minority interests in 19 affiliates
that own an aggregate of 241 properties, 21 of which are full-service
properties, managed primarily by Marriott International, Inc. The Company's
equity in earnings of affiliates was $1 million for each of the twelve weeks
ended March 27, 1998 and March 28, 1997, respectively.
Combined summarized operating results reported by affiliates follows:
Twelve Weeks Ended
---------------------
March 27, March 28,
1998 1997
--------- ----------
(in millions)
Revenues....................................... $ 124 $ 141
Operating expenses:
Cash charges (including interest)............. 79 94
Depreciation and other non-cash charges....... 35 50
----- -----
Income (loss) before extraordinary item........ 10 (3)
Extraordinary item - forgiveness of debt....... 4 18
----- -----
Net income.................................... $ 14 $ 15
===== =====
In the first quarter of 1998, the Company obtained a controlling interest in
the partnership that owns the 1,671-room Atlanta Marriott Marquis for
approximately $239 million, including $164 million in assumed mortgage debt.
The Company previously owned a 1.3% general and limited partnership interest.
F-34
<PAGE>
HOST MARRIOTT HOTELS
NOTES TO CONDENSED COMBINED CONSOLIDATED FINANCIAL STATEMENTS
In second quarter of 1998, the Company acquired the partnership that owns the
289-room Park Ridge Marriott in Park Ridge, New Jersey for $24 million. The
Company previously owned a 1% managing general partner interest and a note
receivable interest.
6. In the first quarter of 1998, the Company acquired a controlling interest in,
and will become the managing general partner for, the partnership that owns
the 359-room Albany Marriott, the 350-room San Diego Marriott Mission Valley
and the 320-room Minneapolis Marriott Southwest for approximately $50
million. The Company also acquired the 281-room Ritz-Carlton, Phoenix for $75
million. In addition the Company entered into an agreement to purchase the
397-room Ritz-Carlton, Tysons Corner located in Northern Virginia.
In the second quarter of 1998, the Company sold the 662-room New York
Marriott East Side for approximately $191 million and recorded a pre-tax gain
of approximately $40 million and the 192-room Napa Valley Marriott for
approximately $21 million and recorded a pre-tax gain of approximately $10
million.
7. In March 1997, Host Marriott purchased 100% of the outstanding bonds secured
by a first mortgage on the San Francisco Marriott Hotel. Host Marriott
purchased the bonds for $219 million, an $11 million discount to the face
value of $230 million. In connection with the redemption and defeasance of
the bonds, the Company recognized an extraordinary gain of $5 million, which
represents the $11 million discount and the write-off of deferred financing
fees, net of taxes.
8. The Company operates in the full-service hotel segment of the lodging
industry. The Company's hotels are primarily operated under the Marriott or
Ritz-Carlton brands.
As of March 27, 1998 and March 28, 1997, the Company's foreign operations
consist of four full-service hotel properties located in Canada and two full-
service hotel properties located in Mexico. There were no intercompany sales
between the properties and the Company. The following table presents
revenues for each of the geographical areas in which the Company operates (in
millions):
Twelve Weeks Ended
-----------------------------------
March 27, 1998 March 28, 1997
---------------- ----------------
United States.............. $ 315 $ 244
International.............. 10 8
--------------- ---------------
Total.................... $ 325 $ 252
=============== ===============
9. In the first quarter of 1998, the Company adopted SFAS No. 130, "Reporting
Comprehensive Income," ("SFAS 130"). SFAS 130 establishes standards for
reporting and display of comprehensive income and its components in financial
statements. The objective of SFAS 130 is to report a measure of all changes
in equity of an enterprise that result from transactions and other economic
events of the period other than transactions with owners. Comprehensive
income is the total of net income and all other nonowner changes in equity.
The Company's only component of other comprehensive income is the right to
receive up to 1.4 million shares of Host Marriott Services Corporation's
common stock or an equivalent cash value subsequent to exercise of the
options held by certain former and current employees of Marriott
International. For the twelve weeks ended March 27, 1998 and March 28, 1997,
the Company had no other comprehensive income. As of March 27, 1998 and
January 2, 1998, the Company's accumulated other comprehensive income was
approximately $10 million.
F-35
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To Host Marriott Corporation:
We have audited the accompanying consolidated balance sheet of HMC Senior
Communities, Inc. ("HMCSC"), which is the senior living communities' business of
Host Marriott Corporation, as defined in Note 1 to the consolidated financial
statements, as of January 2, 1998, and the related consolidated statements of
operations, shareholder's equity and cash flows for the period from June 21,
1997 (inception) through January 2, 1998. These consolidated financial
statements are the responsibility of Host Marriott Corporation's management.
Our responsibility is to express an opinion on these consolidated financial
statements based on our audit.
We conducted our audit in accordance with generally accepted auditing standards.
Those standards require that we plan and perform an 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 audit provides a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of HMCSC as of January
2, 1998 and the results of its operations and its cash flows for the period from
June 21, 1997 (inception) through January 2, 1998 in conformity with generally
accepted accounting principles.
Arthur Andersen LLP
Washington, D.C.
May 1, 1998
F-36
<PAGE>
HMC SENIOR COMMUNITIES, INC.,
WHICH IS THE SENIOR LIVING COMMUNITIES' BUSINESS
OF HOST MARRIOTT CORPORATION
Consolidated Balance Sheet
January 2, 1998
(in thousands, except share data)
ASSETS
Property and equipment, net........................................... $633,840
Other assets.......................................................... 1,332
Restricted cash....................................................... 10,686
Cash and cash equivalents............................................. 17,644
--------
Total assets........................................................ $663,502
========
LIABILITIES AND SHAREHOLDER'S EQUITY
Debt.................................................................. $349,934
Deferred income taxes................................................. 58,705
Accounts payable and other accrued liabilities........................ 15,543
Amounts due to Marriott International, net............................ 3,172
Accrued interest...................................................... 4,906
Due to Host Marriott Corporation...................................... 2,151
Deferred revenue...................................................... 2,027
--------
Total liabilities................................................... 436,438
--------
Shareholder's equity:
Common stock, 100 shares authorized, issued and outstanding, no par
value................................................................ --
Additional paid-in capital............................................ 226,706
Retained earnings..................................................... 358
--------
Total shareholder's equity.......................................... 227,064
--------
Total liabilities and shareholder's equity.......................... $663,502
========
See Notes to Consolidated Financial Statements.
F-37
<PAGE>
HMC SENIOR COMMUNITIES, INC.,
WHICH IS THE SENIOR LIVING COMMUNITIES' BUSINESS
OF HOST MARRIOTT CORPORATION
Consolidated Statement of Operations
For the period from June 21, 1997 (inception) through January 2, 1998
(in thousands)
REVENUES........................................ $ 36,900
--------
OPERATING COSTS AND EXPENSES
Depreciation and amortization................... 10,635
Base management fees to Marriott International.. 6,481
Property taxes.................................. 3,626
Other........................................... 187
--------
Total operating costs and expenses............ 20,929
--------
OPERATING PROFIT BEFORE CORPORATE
EXPENSES AND INTEREST......................... 15,971
Corporate expenses.............................. (2,304)
Interest expense................................ (13,396)
Interest income................................. 336
--------
INCOME BEFORE INCOME TAXES...................... 607
Provision for income taxes...................... (249)
--------
NET INCOME...................................... $ 358
========
See Notes to Consolidated Financial Statements.
F-38
<PAGE>
HMC SENIOR COMMUNITIES, INC.,
WHICH IS THE SENIOR LIVING COMMUNITIES' BUSINESS
OF HOST MARRIOTT CORPORATION
Consolidated Statement of Shareholder's Equity
For the period from June 21, 1997 (inception) through January 2, 1998
(in thousands)
Additional
Common Paid-in Retained
Stock Capital Earnings
----- ------- --------
Balance, June 21, 1997.......................... $ -- $ -- $ --
Common stock issued............................ -- -- --
Capital contributions by Host Marriott
Corporation................................... -- 226,706 --
Net income..................................... -- -- 358
-------- -------- --------
Balance, January 2, 1998........................ $ -- $226,706 $ 358
======== ======== ========
See Notes to Consolidated Financial Statements.
F-39
<PAGE>
HMC SENIOR COMMUNITIES, INC.,
WHICH IS THE SENIOR LIVING COMMUNITIES' BUSINESS
OF HOST MARRIOTT CORPORATION
Consolidated Statement of Cash Flows
For the period from June 21, 1997 (inception) through January 2, 1998
(in thousands)
OPERATING ACTIVITIES
Net income....................................................... $ 358
Adjustments to reconcile net income to cash provided by
operating activities:
Depreciation and amortization.................................. 10,635
Change in amounts due to Marriott International................ 10,073
Change in amounts due to Host Marriott......................... 2,151
Equity in earnings of affiliate................................ (997)
Change in other operating accounts............................. 3,156
---------
Cash provided by operating activities............................ 25,376
---------
INVESTING ACTIVITIES
Capital expenditures........................................... (33,345)
Increase in capital improvement reserve........................ (67)
---------
Cash used in investing activities................................ (33,412)
---------
FINANCING ACTIVITIES
Contribution of cash........................................... 7,319
Repayments of debt............................................. (2,142)
Issuances of debt.............................................. 20,407
Change in financing reserves................................... 96
---------
Cash provided by financing activities............................ 25,680
---------
Increase in cash and cash equivalents............................ 17,644
Cash and cash equivalents, beginning of period................... --
---------
Cash and cash equivalents, end of period......................... $ 17,644
=========
SUPPLEMENTAL INFORMATION - NON-CASH ACTIVITY:
Contributions from Host Marriott Corporation:
Property and equipment......................................... $ 601,033
Other assets................................................... 9,892
Debt assumed................................................... (331,669)
Other liabilities.............................................. (9,479)
Deferred revenue............................................... (2,054)
Deferred income taxes.......................................... (58,435)
Expansion costs paid by Host Marriott Corporation, which
have been included in additional paid-in capital............. 10,099
See Notes to Consolidated Financial Statements.
F-40
<PAGE>
HMC SENIOR COMMUNITIES, INC.,
WHICH IS THE SENIOR LIVING COMMUNITIES' BUSINESS
OF HOST MARRIOTT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. BASIS OF PRESENTATION
On June 21, 1997, Host Marriott Corporation ("Host Marriott") acquired all
of the outstanding stock of Forum Group, Inc. ("Forum Group") from Marriott
Senior Living Services, Inc. ("MSLS"), a subsidiary of Marriott International,
Inc. ("Marriott International") and concurrently contributed all of the assets
and liabilities of Forum Group to HMC Senior Communities, Inc. ("HMCSC"). In
connection with the acquisition, Forum Group assigned to Marriott International
its interest as manager under long-term operating agreements (See Note 6).
On April 16, 1998, the Board of Directors of Host Marriott approved a plan
to reorganize Host Marriott's current business operations by spinning-off Host
Marriott's senior living business into a separate corporation, the Senior Living
Communities Company, and contributing Host Marriott's hotels and certain other
assets and liabilities to a newly formed Delaware limited partnership, Host
Marriott, L.P., whose sole general partner will be Host Marriott Trust, a newly
formed Maryland Real Estate Investment Trust. After the proposed reorganization,
HMCSC will lease hotels from Host Marriott, L.P. and Marriott International will
continue to manage the hotels under long-term management agreements.
Consummation of the reorganization is subject to significant contingencies,
including final Board approval and consent of shareholders, partners,
bondholders, lenders and ground lessors of Host Marriott, its affiliates and
other third parties. Accordingly, there can be no assurance that the
reorganization will be completed.
The accompanying consolidated financial statements include the historical
accounts of HMCSC, representing 31 senior living communities (the "Communities")
located in 13 states, expected to be spun-off as part of the reorganization
described above.
HMCSC operates as a unit of Host Marriott utilizing Host Marriott's
employees, insurance and administrative services. HMCSC has no employees.
Periodically, certain operating expenses, capital expenditures and other cash
requirements of HMCSC are paid by Host Marriott and charged directly or
allocated to HMCSC. Certain general and administrative costs of Host Marriott
are allocated to HMCSC using a variety of methods, principally including Host
Marriott's specific identification of individual cost items and otherwise
through allocations based upon estimated levels of effort devoted by its general
and administrative departments to individual entities or relative measures of
size of the entities based on assets. In the opinion of management, the methods
for allocating corporate, general and administrative expenses and other direct
costs are reasonable. It is not practical to estimate the costs that would have
been incurred by HMCSC if it had been operated on a stand-alone basis.
The consolidated financial statements present the financial position,
results of operations and cash flows of HMCSC beginning on June 21, 1997 (the
date Host Marriott acquired the stock of the Forum Group) through January 2,
1998. Host Marriott's basis in the assets and liabilities of HMCSC has been
carried over to these financial statements. All material intercompany
transactions and balances between HMCSC and its subsidiaries have been
eliminated.
F-41
<PAGE>
HMC SENIOR COMMUNITIES, INC.,
WHICH IS THE SENIOR LIVING COMMUNITIES' BUSINESS
OF HOST MARRIOTT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Principles of Consolidation
The consolidated financial statements include the accounts of HMCSC and its
subsidiaries and controlled affiliates. Investments in affiliates over which
HMCSC has the ability to exercise significant influence, but does not control,
are accounted for using the equity method. All material intercompany
transactions and balances have been eliminated.
Fiscal Year
HMCSC's fiscal year ends on the Friday nearest to December 31.
Revenues
Revenues represent house profit from the Communities. House profit reflects
the net revenues flowing to HMCSC as property owner and represents gross
community operating sales less property-level expenses excluding depreciation
and amortization, real and personal property taxes, insurance, management fees
and certain other costs which are classified as operating costs and expenses in
the accompanying statement of operations.
Resident fees and health care service revenues are generated primarily from
monthly charges for independent living units and daily charges for assisted
living suites and nursing beds, and are recognized monthly based on the terms of
the residents' agreements. Advance payments received for services are deferred
until the services are provided. Included in resident fees revenue is ancillary
revenue, which is generated on a "fee for service" basis for supplemental items
requested by residents and is recognized as the services are provided.
A portion of revenues from health care services were attributable to
patients whose bills are paid by Medicare or Medicaid under contractual
arrangements. Reimbursements under these contractual arrangements are subject to
retroactive adjustments based on agency reviews. Revenues from health care
services are recorded net of estimated contractual allowances in the
accompanying consolidated financial statements. Management believes that
reserves recorded are adequate to cover any adjustments arising from retroactive
adjustments.
Cash and Cash Equivalents
All highly liquid investments with a maturity of three months or less at
date of purchase are considered cash equivalents.
F-42
<PAGE>
HMC SENIOR COMMUNITIES, INC.,
WHICH IS THE SENIOR LIVING COMMUNITIES' BUSINESS
OF HOST MARRIOTT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Property and Equipment
Property and equipment is recorded at cost, or if contributed by Host
Marriott, is recorded at Host Marriott's basis. Replacements and improvements
that extend the useful life of property and equipment are capitalized.
Depreciation is computed using the straight-line method over the estimated
useful lives of the assets, generally 40 years for buildings and three to 10
years for furniture and equipment. Leasehold improvements are amortized over
the shorter of the lease term or the useful lives of the related assets.
In cases where management is holding for sale a particular Community, HMCSC
assesses impairment based on whether the estimated sales price less cost of
disposal of each individual property to be sold is less than the net book value.
A property is considered to be held for sale when a decision is made to dispose
of the Community. Otherwise, impairment is assessed based on whether it is
probable that undiscounted future cash flows from each Community will be less
than its net book value. If a Community is impaired, its basis is adjusted to
its fair value.
Concentration of Credit Risk
Financial instruments that potentially subject HMCSC to significant
concentration of credit risk consist principally of cash and cash equivalents.
HMCSC maintains cash and cash equivalents with various high credit-quality
financial institutions and limits the amount of credit exposure with any
institution.
Working Capital
Pursuant to the terms of HMCSC's Operating Agreements (see Note 6), HMCSC is
required to provide Marriott International with working capital and supplies to
meet the operating needs of the Communities. Marriott International converts
cash advanced by HMCSC into other forms of working capital consisting primarily
of operating cash, inventories, resident deposits and trade receivables and
payables which are maintained and controlled by Marriott International. Upon
the termination of the Operating Agreements, Marriott International is required
to convert working capital and supplies into cash and return it to HMCSC. As a
result of these conditions, the individual components of working capital and
supplies controlled by Marriott International are not reflected in the
accompanying consolidated balance sheet.
Deferred Revenue
Monthly fees deferred for the non-refundable portion of the entry fees are
included as deferred revenue in the accompanying balance sheet. These amounts
are recognized as revenue as health care services are performed over the
expected term of the residents' contracts.
Use of Estimates in the Preparation of Financial Statements
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.
F-43
<PAGE>
HMC SENIOR COMMUNITIES, INC.,
WHICH IS THE SENIOR LIVING COMMUNITIES' BUSINESS
OF HOST MARRIOTT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
New Accounting Standards
In 1997, the Company adopted Statement of Financial Accounting Standards No.
129 "Disclosure of Information About Capital Structure." The adoption of this
statement did not have a material effect on these consolidated financial
statements.
3. REVENUES
House profit generated by the Communities consist of the following for the
period from June 21, 1997 (inception) through January 2, 1998 (in thousands):
Community Sales
Routine................................................. $ 99,989
Ancillary............................................... 10,980
--------
Total Community Sales................................. 110,969
--------
Department Costs
Routine................................................. 64,516
Ancillary............................................... 9,553
--------
Total Department Costs................................ 74,069
--------
Department Profit
Routine................................................. 35,473
Ancillary............................................... 1,427
--------
Revenues.............................................. $ 36,900
========
Community sales consist of routine and ancillary sales. Routine sales are
generated from monthly charges for independent living units and daily charges
for assisted living suites and nursing beds, and are recognized monthly based on
the terms of the residents' agreements. Advance payments received for services
are deferred until the services are provided. Ancillary sales are generated on
a "fee for service" basis for supplementary items requested by residents, and
are recognized as the services are provided.
Total sales include amounts estimated by management to be reimbursable
through Medicare, Medicaid and other third party payor agreements. Medicare and
Medicaid represented 11% and 3%, respectively, of sales for the period from June
21, 1997 (inception) through January 2, 1998. Reimbursement arrangements are
subject to audit and retroactive adjustment. Provisions are made for potential
adjustments that may result. To the extent those provisions vary from
settlements, sales are charged or credited when the adjustments become final.
Changes in the estimate of amounts reimbursable by third party payors from prior
years resulted in the recognition of $1,689,000 of additional sales for the
period from June 21, 1997 (inception) through January 2, 1998. In management's
opinion, any adjustments related to current and prior years' operations will be
immaterial to current and future financial statements.
F-44
<PAGE>
HMC SENIOR COMMUNITIES, INC.,
WHICH IS THE SENIOR LIVING COMMUNITIES' BUSINESS
OF HOST MARRIOTT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
4. PROPERTY AND EQUIPMENT
Property and equipment consists of the following at January 2, 1998 (in
thousands):
Land and land improvements...................... $102,714
Buildings and leasehold improvements............ 518,056
Furniture and equipment......................... 23,705
--------
644,475
Less accumulated depreciation and amortization.. (10,635)
--------
$633,840
========
In December 1997, LTJ Senior Communities Corporation ("LTJ"), a wholly
owned subsidiary of HMCSC, acquired 49% of the remaining 50% interest in Leisure
Park Venture Limited Partnership (the "Partnership") which owns a 418-unit
retirement community in New Jersey for approximately $23 million, including the
assumption of approximately $15 million of debt. Subsequent to this acquisition,
HMCSC indirectly owns a 99% interest in the Partnership. Marriott International
owns the remaining 1% limited partner interest.
In the first quarter of 1998, LTJ also acquired the Gables of Winchester
in suburban Boston, a 124-unit upscale senior living community, for $21 million
and entered into conditional purchase agreements for two Marriott Brighton
Gardens assisted living communities with the Summit Companies of Denver,
Colorado. After the anticipated completion of construction in the first quarter
of 1999, HMCSC may acquire these two 160-unit properties located in Denver and
Colorado Springs, Colorado, for approximately $35 million, if they achieve
certain operating performance criteria. All three of these communities will be
operated by Marriott International under long-term operating agreements.
5. RESTRICTED CASH
Restricted cash consists of the following at January 2, 1998 (in
thousands):
Debt service reserve fund........................................... $ 1,528
Fixed asset reserve fund............................................ 4,300
Real estate tax reserve fund........................................ 3,590
Insurance reserve fund.............................................. 1,268
--------
$ 10,686
========
The debt service, fixed asset, real estate tax and insurance reserve funds
consist of cash transferred into segregated escrow accounts out of sales
generated by the Communities, pursuant to HMCSC's secured debt agreements.
These funds are periodically disbursed by the collateral agent to pay for debt
service, capital expenditures, insurance premiums and real estate taxes relating
to the secured properties. In some cases, to ensure prompt payment, HMCSC
utilizes its unrestricted cash to pay for capital expenditures, insurance
premiums and real estate taxes and is subsequently reimbursed for such payments
out of funds held in the appropriate escrow account.
6. OPERATING AGREEMENTS
The Communities are subject to operating agreements (the "Operating
Agreements") which provide for Marriott International to operate the
Communities, generally for an initial term of 25 to 30 years with renewal terms
subject to certain performance criteria at the option of Marriott International
of up to an additional five to ten years. The Operating Agreements provide for
F-45
<PAGE>
HMC SENIOR COMMUNITIES, INC.,
WHICH IS THE SENIOR LIVING COMMUNITIES' BUSINESS
OF HOST MARRIOTT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
payment of base management fees generally equal to five to eight percent of
gross sales and incentive management fees generally equal to zero to 20% of
Operating Profit (as defined in the Operating Agreements) over a priority return
to HMCSC. In the event of early termination of the Operating Agreements,
Marriott International will receive additional fees based on the unexpired term
and expected future base and incentive management fees. HMCSC has the option to
terminate certain, but not all, management agreements if specified performance
thresholds are not satisfied. No Operating Agreement with respect to a single
Community is cross-collateralized or cross-defaulted to any other Operating
Agreement, and any single Operating Agreement may be terminated following a
default by HMCSC or Marriott International, although such termination will not
trigger the cancellation of any other Operating Agreement.
Pursuant to the terms of the Operating Agreements, Marriott International is
required to furnish the Communities with certain services ("Central
Administrative Services") which are provided on a central or regional basis to
all properties in the Marriott Retirement Community System. These services
include the development and operation of computer systems, computer payroll and
accounting services, marketing and public relations services, and such
additional services as may from time-to-time be performed more efficiently on a
central or regional level. The Operating Agreements require payment of Central
Administrative Services fees equal to 2% of gross sales beginning in the third
quarter of 1998.
Marriott International is required under the Operating Agreements to deduct an
amount from gross sales and place the funds into an interest-bearing reserve
account to cover the cost of (a) certain routine repairs and maintenance to the
Communities which are normally capitalized and (b) replacements and renewals to
the Communities' property and improvements. The annual payment amount
(expressed as a percentage of gross sales) generally will be 2.65% through
fiscal year 2002, 2.85% for fiscal years 2003 through 2007, and 3.5% thereafter.
The amount contributed for the period June 21, 1997 (inception) through January
2, 1998 was $2,025,000. The Operating Agreements provide that HMCSC shall
provide Marriott International with sufficient funds to cover the cost of
certain major or non-routine repairs, alterations, improvements, renewals and
replacements to the Communities which are required to maintain a competitive,
efficient and economical operating condition in accordance with Marriott
standards or for the continued safe and orderly operation of the Communities.
7. AMOUNTS DUE TO MARRIOTT INTERNATIONAL
The components of the amounts due to Marriott International, net, at January
2, 1998 are as follows (in thousands):
Community operating expenses payable to Marriott International.. $ 7,648
Management fees payable to Marriott International............... 1,262
Community working capital due to HMCSC.......................... (6,093)
Other, net...................................................... 355
-------
Total...................................................... $ 3,172
=======
F-46
<PAGE>
HMC SENIOR COMMUNITIES, INC.,
WHICH IS THE SENIOR LIVING COMMUNITIES' BUSINESS
OF HOST MARRIOTT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
<S> <C>
8. DEBT
Debt consists of the following at January 2, 1998 (in thousands):
Mortgage Debt:
Secured by eight Communities with $232 million of assets, with
an interest rate of 10.01%, maturing through 2020 (balance
includes fair value adjustment of $15.5 million)........................... $137,713
Secured by nine Communities with $110 million of assets, with
an interest rate of 9.93%, maturing through 2001 (balance
includes fair value adjustment of $2.6 million)............................ 49,353
Secured by one Community with $29 million of assets, with
an average rate of 7.45%, maturing through 1999 (Repaid in 1998)........... 26,403
--------
213,469
--------
Notes payable to Marriott International, with a rate of 9%,
maturing through 2001 (Repaid in 1998)..................................... 92,195
--------
Other notes:
Revenue Bonds with a rate of 5.875%, maturing through
2027...................................................................... 14,700
Other notes, with an average rate of 6.6%, maturing through
December 2027............................................................. 18,943
Capital lease obligations.................................................. 10,627
--------
44,270
--------
Total debt................................................................ $349,934
========
Debt maturities at January 2, 1998, excluding the unamortized fair value
adjustments of approximately $18 million resulting from recording the mortgages
at their fair value on June 21, 1997, are as follows (in thousands):
1998...................................................................... $ 54,515
1999...................................................................... 30,197
2000...................................................................... 4,503
2001...................................................................... 88,043
2002...................................................................... 2,504
Thereafter................................................................ 152,046
--------
$331,808
========
</TABLE>
In conjunction with the acquisition of Forum Group Inc., HMCSC recorded the
debt assumed at its fair value, which exceeded the face value by approximately
$19 million. HMCSC is amortizing this adjustment to interest expense over the
remaining life of the related debt. The amortization for the period from June
21, 1997 (inception) through January 2, 1998 totaled $834,000. Cash paid for
interest for the period from June 21, 1997 (inception) through January 2, 1998
totaled $8,183,000.
In conjunction with the June 21, 1997 acquisition of Forum Group, HMCSC
assumed approximately $197 million in mortgage debt, $11 million in capital
lease obligations (see Note 9), as well as issued $72 million in notes payable
to Marriott International. Subsequent to the acquisition, HMCSC issued
additional notes payable to Marriott International for additional expansion
units totaling approximately $20 million. These notes were guaranteed by Host
Marriott. In the second quarter of 1998, Host Marriott repaid the $92 million
in notes payable to Marriott International.
F-47
<PAGE>
HMC SENIOR COMMUNITIES, INC.,
WHICH IS THE SENIOR LIVING COMMUNITIES' BUSINESS
OF HOST MARRIOTT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
In December 1997, in connection with the acquisition of the remaining 50%
interest in the Leisure Park Venture Limited Partnership (see Note 4), HMCSC
assumed approximately $15 million of debt.
The net assets of seventeen of the Communities are subject to mortgage debt
which places restrictions on their assets. The net assets of the Communities
totaled approximately $150 million at January 2, 1998. The indentures governing
these mortgages contain covenants that, among other things, require maintenance
of segregated cash collection of all rents, separate cash reserves for debt
service, property improvements, real estate taxes and insurance, limit the
ability to incur additional indebtedness, issue stock or admit additional
partners, pay dividends or make certain distributions, enter into or cancel
leases, enter into certain transactions with affiliates or sell certain assets.
During the first quarter of 1998, Host Marriott prepaid $26.4 million in
mortgage debt. Host Marriott's prepayment of the debt was recorded as a capital
contribution to HMCSC, there was no gain or loss on the prepayment.
9. LEASES
HMCSC leases certain property under non-cancelable capital and operating
leases. Future minimum annual rental commitments for all non-cancelable leases
are as follows:
Capital Operating
Leases Lease
-------- ---------
(in thousands)
1998...................................... $ 1,274 $ 278
1999...................................... 1,287 278
2000...................................... 1,300 278
2001...................................... 1,320 278
2002...................................... 1,338 278
Thereafter................................ 13,672 3,062
------- ------
Total minimum lease payments.............. 20,191 $4,452
======
Less amount representing interest......... (9,564)
-------
Present value of minimum lease payments.. $10,627
=======
HMCSC leases two communities under capital leases expiring in 2016. Upon the
expiration of the lease or anytime prior to lease expiration, HMCSC has the
first right of refusal (the "Option") to submit a counter offer to any
acceptable bona fide offer from a third party within 30 days of notice from the
lessor. If HMCSC fails to exercise its Option, then the lessor may proceed with
the sale of the leased property and all assets therein.
HMCSC also has one long-term operating ground lease which expires in 2013.
The operating lease includes three renewal options exercisable in 5 year
increments through the year 2028.
Rent expense for the period from June 21, 1997 (inception) through January 2,
1998 was $141,000.
F-48
<PAGE>
HMC SENIOR COMMUNITIES, INC.,
WHICH IS THE SENIOR LIVING COMMUNITIES' BUSINESS
OF HOST MARRIOTT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
10. INCOME TAXES
Total deferred tax assets and liabilities as of January 2, 1998 were as
follows (in thousands):
Deferred tax assets............................ $ 15,125
Deferred tax liabilities....................... (73,830)
--------
Net deferred income tax liability............ $(58,705)
========
The tax effect of each type of temporary difference and carryforward that
gives rise to a significant portion of deferred tax assets and liabilities as of
January 2, 1998 was as follows (in thousands):
Property and equipment......................... $(68,687)
Debt adjustment to fair value at acquisition... 7,591
Other, net 2,391
--------
Net deferred income tax liability............ $(58,705)
========
The provision for income taxes consists of the following for the period from
June 21, 1997 (inception) through January 2, 1998 (in thousands):
Current - Federal.......................... $ (25)
- State............................ (5)
--------
(30)
--------
Deferred - Federal.......................... 238
- State............................ 41
--------
279
--------
$ 249
========
A reconciliation of the statutory Federal tax rate to HMCSC's effective
income tax rate for the period from June 21, 1997 (inception) through January 2,
1998 follows:
Statutory federal tax rate..................... 35.0%
State income taxes, net of federal tax benefit. 6.0
--------
41.0%
========
HMCSC is included in the consolidated federal income tax return of Host
Marriott and its affiliates (the "Group") for the period from June 21, 1997
(inception) through January 2, 1998. Tax expense is allocated to HMCSC as a
member of the Group based upon the relative contribution to the Group's
consolidated taxable income/loss and changes in temporary differences. This
allocation method results in federal and net state tax expense allocated for all
periods presented that is substantially equal to the expense that would have
been recognized if HMCSC had filed separate tax returns. HMCSC reimburses Host
Marriott for the allocable share of current taxes payable relating to the period
that HMCSC has been included in Host Marriott's consolidated federal income tax
return.
F-49
<PAGE>
HMC SENIOR COMMUNITIES, INC.,
WHICH IS THE SENIOR LIVING COMMUNITIES' BUSINESS
OF HOST MARRIOTT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
11. COMMITMENTS AND CONTINGENCIES
On June 15, 1995, The Russell F. Knapp Revocable Trust (the "Plaintiff") filed
a complaint in the United States District Court for the Southern District of
Indiana (the "Indiana Court") against the general partner of one of HMCSC's
subsidiary partnerships, Forum Retirement Partners, L.P. alleging breach of the
partnership agreement, breach of fiduciary duty, fraud, insider trading and
civil conspiracy/aiding and abetting. On February 4, 1998, the Plaintiff, MSLS,
the general partner, Forum Group and HMCSC entered into a Settlement and Release
Agreement (the "Settlement Agreement"), pursuant to which Host Marriott agreed
to purchase, at a price of $4.50 per unit, the partnership units of each limited
partner electing to join in the Settlement Agreement. HMCSC held 79% of the
outstanding limited partner units in the partnership at that time. HMCSC also
agreed to pay as much as an additional $1.25 per unit to the settling limited
partners, under certain conditions, in the event that HMCSC within three years
following the date of settlement initiates a tender offer for the purchase of
units not presently held by HMCSC or the settling limited partners. On February
5, 1998, the Indiana Court entered an order approving the dismissal of the
Plaintiff's case.
In connection with the Settlement Agreement on March 25, 1998, HMCSC acquired
1,000,894 limited partner unit shares for approximately $4,504,000. The
purchase price of the shares approximated fair value and accordingly, no portion
of the purchase price has been expensed. As a result of this purchase, HMCSC's
ownership interest in the partnership was increased to approximately 86%.
12. FAIR VALUE OF FINANCIAL INSTRUMENTS
HMCSC believes the carrying amount of its financial instruments (excluding
property indebtedness) approximates their fair value due to the relatively short
maturity of these instruments. There is no quoted market value available for
any of HMCSC's financial instruments.
Valuations of debt are determined based on expected future payments discounted
at risk-adjusted rates. The debt was adjusted to its fair value in conjunction
with Host Marriott's acquisition of the Communities on June 21, 1997. As of
January 2, 1998, the fair value of debt approximated its carrying value.
F-50
<PAGE>
HMC SENIOR COMMUNITIES, INC.,
WHICH IS THE SENIOR LIVING COMMUNITIES' BUSINESS
OF HOST MARRIOTT CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEET
MARCH 27, 1998
(UNAUDITED, IN THOUSANDS, EXCEPT SHARE DATA)
<TABLE>
<S> <C>
ASSETS
Property and equipment, net...................................... $652,334
Amounts due from Marriott International, net..................... 6,248
Other assets..................................................... 4,066
Restricted cash.................................................. 10,437
Cash and cash equivalents........................................ 16,271
--------
Total assets................................................... $689,356
========
LIABILITIES AND SHAREHOLDER'S EQUITY
Debt............................................................. $322,726
Deferred income taxes............................................ 59,124
Accounts payable and other accrued liabilities................... 9,803
Accrued interest................................................. 6,727
Due to Host Marriott Corporation, net............................ 5,238
Deferred revenue................................................. 1,774
--------
Total liabilities.............................................. 405,392
--------
Shareholder's equity:
Common stock, 100 shares authorized, issued and outstanding,
no par value.. --
Additional paid-in capital....................................... 281,790
Retained earnings................................................ 2,174
--------
Total shareholder's equity..................................... 283,964
--------
Total liabilities and shareholder's equity.................... $689,356
========
</TABLE>
See Notes to Condensed Consolidated Financial Statements.
F-51
<PAGE>
HMC SENIOR COMMUNITIES, INC.,
WHICH IS THE SENIOR LIVING COMMUNITIES' BUSINESS
OF HOST MARRIOTT CORPORATION
CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS
FOR THE TWELVE WEEKS ENDED MARCH 27, 1998
(UNAUDITED, IN THOUSANDS)
<TABLE>
<S> <C>
REVENUES......................................................... $19,557
-------
OPERATING COSTS AND EXPENSES
Depreciation and amortization.................................... 4,793
Base management fees to Marriott International................... 2,970
Property taxes................................................... 1,565
Other............................................................ 200
-------
Total operating costs and expenses............................. 9,528
-------
OPERATING PROFIT BEFORE CORPORATE
EXPENSES AND INTEREST......................................... 10,029
Corporate expenses............................................... (754)
Interest expense................................................. (6,519)
Interest income.................................................. 322
-------
INCOME BEFORE INCOME TAXES....................................... 3,078
Provision for income taxes....................................... (1,262)
-------
NET INCOME....................................................... $ 1,816
=======
</TABLE>
See Notes to Condensed Consolidated Financial Statements
F-52
<PAGE>
HMC SENIOR COMMUNITIES, INC.,
WHICH IS THE SENIOR LIVING COMMUNITIES' BUSINESS
OF HOST MARRIOTT CORPORATION
CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS
FOR THE TWELVE WEEKS ENDED MARCH 27, 1998
(UNAUDITED, IN THOUSANDS)
<TABLE>
<S> <C>
OPERATING ACTIVITIES
Net income........................................................ $ 1,816
Adjustments to reconcile net income to net cash provided by
operating activities:
Depreciation and amortization................................... 4,793
Change in amounts due to Marriott International................. (8,261)
Change in amounts due to Host Marriott.......................... 3,087
Equity in earnings of affiliate................................. (44)
Change in other operating accounts.............................. (1,088)
-------
Cash provided by operating activities............................. 303
-------
INVESTING ACTIVITIES
Capital expenditures............................................ (745)
Increase in capital improvement reserve......................... (30)
-------
Cash used in investing activities................................. (775)
-------
FINANCING ACTIVITIES
Repayments of debt.............................................. (805)
Change in financing reserves.................................... (96)
-------
Cash used in financing activities................................. (901)
-------
Decrease in cash and cash equivalents............................. (1,373)
Cash and cash equivalents, beginning of period.................... 17,644
-------
Cash and cash equivalents, end of period.......................... $16,271
=======
SUPPLEMENTAL INFORMATION - NON-CASH ACTIVITY:
Contributions from Host Marriott Corporation:
Property and equipment.......................................... $22,541
Other........................................................... 6,140
Mortgage debt paid by Host Marriott............................. 26,403
</TABLE>
See Notes to Condensed Consolidated Financial Statements.
F-53
<PAGE>
HMC SENIOR COMMUNITIES, INC.,
WHICH IS THE SENIOR LIVING COMMUNITIES' BUSINESS
OF HOST MARRIOTT CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
1. On June 21, 1997, Host Marriott Corporation ("Host Marriott"), acquired all
of the outstanding stock of Forum Group, Inc. ("Forum Group"), from Marriott
Senior Living Services, Inc. ("MSLS"), a subsidiary of Marriott
International, Inc. ("Marriott International")and concurrently contributed
all of the assets and liabilities of Forum Group, Inc. to HMC Senior
Communities, Inc. ("HMCSC"). In connection with the acquisition, Forum Group
assigned to Marriott International its interest as manager under long-term
operating agreements.
On April 16, 1998, the Board of Directors of Host Marriott approved a plan
to reorganize Host Marriott's current business operations by spinning-off
Host Marriott's senior living business ("Senior Living") into a separate
corporation, the Senior Living Communities Company and contributing Host
Marriott's hotels and certain other assets and liabilities to a newly formed
Delaware limited partnership, Host Marriott, L.P., whose sole general
partner will be Host Marriott Trust, a newly formed Maryland Real Estate
Investment Trust ("REIT"). After the proposed reorganization, HMCSC will
lease hotels from Host Marriott, L.P. and Marriott International will
continue to manage the hotels under long-term management agreements.
Consummation of the reorganization is subject to significant contingencies,
including final Board approval, consent of shareholders, partners,
bondholders, lenders and ground lessors of Host Marriott, its affiliates and
other third parties. Accordingly, there can be no assurance that the
reorganization will be completed.
The accompanying consolidated financial statements include the historical
accounts of HMCSC, representing 31 senior living communities (the
"Communities") located in 13 states, expected to be spun-off as part of the
reorganization described above.
The accompanying condensed consolidated financial statements have been
prepared by HMCSC without audit. Certain information and footnote
disclosures normally included in financial statements presented in
accordance with generally accepted accounting principles have been condensed
or omitted. HMCSC believes the disclosures made are adequate to make the
information presented not misleading. However, the condensed consolidated
financial statements should be read in conjunction with the consolidated
financial statements and notes thereto included in the Company's audited
financial statements for the period from June 21, 1997 (inception) through
January 2, 1998.
In the opinion of the Company, the accompanying unaudited condensed
consolidated financial statements reflect all adjustments necessary to
present fairly the financial position of the Company as of March 27, 1998
and the results of operations and cash flows for the twelve weeks ended
March 27, 1998. Interim results are not necessarily indicative of fiscal
year performance because of the impact of seasonal and short-term
variations.
2. Revenues represent house profit from the Communities. House profit reflects
the net revenues flowing to HMCSC as property owner and represents gross
community operating sales less property-level expenses excluding
depreciation and amortization, real and personal property taxes, insurance,
management fees and certain other costs which are classified as operating
costs and expenses.
Resident fees and health care service revenues are generated primarily from
monthly charges for independent living units and daily charges for assisted
living suites and nursing beds, and are recognized monthly based on the
terms of the residents' agreements. Advance payments received for services
are deferred until the services are provided. Included in resident fees
revenue is ancillary revenue, which is generated on a "fee for service"
basis for supplemental items requested by residents and is recognized as the
services are provided.
F-54
<PAGE>
HMC SENIOR COMMUNITIES, INC.,
WHICH IS THE SENIOR LIVING COMMUNITIES' BUSINESS
OF HOST MARRIOTT CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
A portion of revenues from health care services were attributable to
patients whose bills are paid by Medicare or Medicaid under contractual
arrangements. Reimbursements under these contractual arrangements are
subject to retroactive adjustments based on agency reviews. Revenues and
receivables from health care services are recorded net of estimated
contractual allowances in the accompanying consolidated financial
statements. Management believes that reserves recorded are adequate to cover
any adjustments arising from retroactive adjustments.
House profit generated by the Communities consist of the following for the
twelve weeks ended March 27, 1998 (in thousands):
<TABLE>
<S> <C>
Community Sales
Routine........................... $49,339
Ancillary......................... 5,715
-------
Total Community Sales......... 55,054
-------
Department Costs
Routine........................... 30,717
Ancillary......................... 4,780
-------
Total Department Costs........ 35,497
-------
Department Profit
Routine........................... 18,622
Ancillary......................... 935
-------
Revenues...................... $19,557
=======
</TABLE>
3. In the first quarter of 1998, HMCSC also acquired the Gables of Winchester
in suburban Boston, a 124-unit upscale senior living community, for $21
million and entered into conditional purchase agreements for two Marriott
Brighton Gardens assisted living communities from the Summit Companies of
Denver, Colorado. After the anticipated completion of construction in the
first quarter of 1999, HMCSC may acquire these two 160-unit properties
located in Denver and Colorado Springs, Colorado, for approximately $35
million, if they achieve certain operating performance criteria. All three
of these communities will be operated by Marriott International under long-
term operating agreements.
4. In the second quarter of 1998, Host Marriott prepaid $92 million of 9%
unsecured debt provided by Marriott International related to the
Communities.
5. During the first quarter of 1998, Host Marriott prepaid $26.4 million in
mortgage debt. Host Marriott's prepayment of debt was recorded as a capital
contribution to HMCSC.
F-55
<PAGE>
PRO FORMA FINANCIAL INFORMATION
Given the structure of the Company's Consent Solicitation, the Mergers and the
REIT Conversion may take a variety of different forms. The variations are
dependent in part on the number and identity of the Partnerships that elect to
merge and whether Limited Partners elect to tender their Partnerships Interests
for OP Units or Notes in connection with the REIT Conversion.
In light of the possible variations, the General Partners are not able to
describe all possible combinations of Hotel Partnerships that could constitute
the Company. However, to assist Limited Partners in analyzing the Mergers and
REIT Conversion, the General Partners have prepared two separate sets of
unaudited pro forma financial statements to show the impact of the Mergers and
the REIT Conversion assuming the following two scenarios:
. All Partnerships participate and no Notes are issued ("100% Participation with
No Notes Issued")
. All Partnerships participate with Notes issued with respect to 100% of the OP
Units allocable to each Partnership ("100% Participation with Notes Issued")
The unaudited pro forma balance sheets at March 27, 1998 have been prepared
assuming the Company was created on such date. The unaudited pro forma
statements of operations for the fiscal year ended January 2, 1998, the First
Quarter 1998 and First Quarter 1997 have been prepared assuming the Company was
created immediately prior to the beginning of such period. The unaudited pro
forma statements of cash flows for the fiscal year ended January 2, 1998 and the
First Quarter 1998 have been prepared assuming the Company was created
immediately prior to the beginning of such period.
These presentations do not purport to represent what combination will result
from the Mergers and the REIT Conversion, but instead are designed to illustrate
what the Company would have been like under the above scenarios. Furthermore,
the unaudited pro forma financial statements do not purport to represent what
the Company's results of operations or cash flows would actually have been if
the Mergers and the REIT Conversion had in fact occurred on such date or at the
beginning of such period or to project the Company's results of operations or
cash flows for any future date or period.
The unaudited pro forma financial statements are based upon available
information and upon certain assumptions, as set forth in the notes to the
unaudited pro forma financial statements, that the Company believes are
reasonable under the circumstances.
The unaudited pro forma statements of operations of the Company reflect the
following transactions for the First Quarter 1998, First Quarter 1997 and the
fiscal year ended January 2, 1998 and the unaudited pro forma statements of cash
flows for the First Quarter 1998 and the fiscal year ended January 2, 1998 as if
such transactions had been completed at the beginning of each period:
Acquisitions, Dispositions and Other Activities
- -----------------------------------------------
. 1998 Blackstone Acquisition
. 1998 acquisition or purchase of a controlling interest in seven full-service
properties
. 1998 purchase of minority interests in two full-service hotels
. 1998 disposition of two full-service properties
. 1997 acquisition or purchase of controlling interests in 18 full-service
properties
. 1997 refinancing or repayment of mortgage debt for three full-service
properties
REIT Conversion Activities
- --------------------------
. 1998 deconsolidation of the assets and liabilities contributed to the
Non-Controlled Subsidiary, including the sale of certain furniture and
equipment to the Non-Controlled Subsidiary
. 1998 Mergers
. 1998 acquisition of minority interests in five Private Partnerships in
exchange for OP Units
. 1998 lease of hotel properties to lessees and conversion of revenues and
certain operating expenses to rental income
. 1998 capital contribution to SLC through the payoff of $92 million of
mortgage debt
. 1998 adjustment to remove deferred taxes resulting from the change in tax
status related to the REIT Conversion
. 1998 earnings and profits cash distribution
The unaudited pro forma balance sheet as of March 27, 1998 reflects all of the
above 1998 transactions except for
F-56
<PAGE>
the 1998 acquisition or purchase of controlling interests in four full-service
properties which occurred prior to March 27, 1998 and were already reflected in
the historical balance sheet as of March 27, 1998.
Limited Partners should bear in mind that the assumptions regarding the number
and identity of participating Partnerships, the number of OP Units to be issued
and price per OP Unit are not necessarily the Company's expectations regarding
the outcome of the Mergers and the REIT Conversion but instead have been made
for illustrative purposes. The unaudited pro forma financial statements and
accompanying notes should be read in conjunction with the historical
consolidated financial statements of the Company and "Management's Discussion
and Analysis of Financial Condition and Results of Operations" contained
elsewhere herein.
F-57
<PAGE>
<TABLE>
<CAPTION>
UNAUDITED PRO FORMA BALANCE SHEET
March 27, 1998
100% Participation with No Notes Issued
(in millions)
Acquisitions, Dispositions and Other Activities
----------------------------------------------------
A B C D
Blackstone 1998 1998 Debt
Historical Acquisition Acquisitions Dispositions Repayment
---------- ----------- ------------ ------------ ---------
Assets
- ------
<S> <C> <C> <C> <C> <C>
Property and equipment, net................. $ 4,926 $ 1,667 $ 196 $ (78) $ --
Notes and other receivables, net............ 37 63 (8) (2) --
Due from managers........................... 133 5 -- (2) --
Investments in affiliates................... 6 -- -- -- --
Other assets................................ 318 -- 1 (1) --
Receivable from Lessee for working capital.. -- -- -- -- --
Cash, cash equivalents and short-term
marketable securities.................... 700 (262) (194) 171 (92)
--------- --------- ---------- -------- -------
$ 6,120 $ 1,473 $ (5) $ 88 $ (92)
========= ========= ========== ======== =======
Liabilities and Equity
- ----------------------
Debt........................................ $ 3,624 $ 600 $ -- $ (35) $ --
Accounts payable and accrued expenses....... 70 -- -- -- --
Deferred income taxes....................... 488 -- -- 22 --
Other liabilities........................... 447 -- (5) 70 --
--------- --------- ---------- -------- -------
Total liabilities........................ 4,629 600 (5) 57 --
Convertible Preferred Securities............ 550 -- -- -- --
Equity...................................... 941 873 -- 31 (92)
--------- --------- ---------- -------- -------
$ 6,120 $ 1,473 $ (5) $ 88 $ (92)
========= ========= ========== ======== =======
<CAPTION>
Mergers and REIT Conversion Activities
-----------------------------------------------------------------------------
E F G H I J
Earnings
Non-Controlled Private & Profits Deferred Tax
Subsidiary Mergers Partnerships Distribution(1) Lease Adjustment Pro Forma
-------------- ------- ------------ ------------ ----- ---------- ---------
Assets
- ------
<S> <C> <C> <C> <C> <C> <C> <C>
Property and equipment, net................. $ (345) $ 566 $ 61 $ -- $ -- $ -- $ 6,993
Notes and other receivables, net............ 61 (6) -- -- -- -- 145
Due from managers........................... (16) 17 -- -- (100) -- 37
Investments in affiliates................... 344 -- -- -- -- -- 350
Other assets................................ (63) 31 (11) -- -- -- 275
Receivable from Lessee for working capital.. -- -- -- -- 100 -- 100
Cash, cash equivalents and short-term
marketable securities.................... (18) 3 (11) (225) -- -- 72
--------- -------- ---------- ------------ ------ ---------- ---------
$ (37) $ 611 $ 39 $ (225) $ -- $ -- $ 7,972
========= ======== ========== ============ ====== ========== =========
Liabilities and Equity
- ----------------------
Debt........................................ $ 99 $ 338 $ -- $ -- $ -- $ -- $ 4,626
Accounts payable and accrued expenses (9) 6 -- -- -- -- 67
Deferred income taxes....................... (41) -- -- -- -- (194) 275
Other liabilities........................... (86) (21) (6) -- -- -- 399
--------- -------- ----------- ------------ ------ ---------- ---------
Total liabilities........................ (37) 323 (6) -- -- (194) 5,367
Convertible Preferred Securities............ -- -- -- -- -- 550
Equity...................................... -- 288 45 (225) -- 194 2,055
--------- -------- ---------- ------------ ------ ---------- ---------
$ (37) $ 611 $ 39 $ (225) $ -- $ -- $ 7,972
========= ======== ========== ============ ====== ========== =========
</TABLE>
See Notes to the Unaudited Pro Forma Balance Sheet.
F-58
<PAGE>
NOTES TO UNAUDITED PRO FORMA BALANCE SHEET
100% Participation with No Notes Issued
A) Represents the adjustment to record the Blackstone Acquisition of 12
full-service properties and a mortgage note secured by a thirteenth full-service
property (5,520 rooms) including the issuance of 43.7 million OP Units:
. Record property and equipment of $1,667 million
. Record mortgage note receivable of $63 million
. Record increase in due from managers of $5 million
. Record the use of cash of $262 million
. Record the assumption of mortgage debt of $600 million
. Record the issuance of 43.7 million OP Units with a value of $873 million
B) Represents the adjustment to record the 1998 acquisition of The Ritz-Carlton,
Phoenix, the acquisition of the remaining debt and equity interests in the Park
Ridge Marriott, the pending acquisition of The Ritz-Carlton, Tysons Corner, and
the purchase of the minority interests in the Norfolk Waterside Marriott and the
Calgary Marriott:
. Record property and equipment of $196 million
. Record a decrease in notes receivable of $8 million
. Record other assets of $1 million
. Record the use of cash of $194 million
. Record a decrease in other liabilities of $5 million related to the
purchase of minority interests
C) Represents the adjustment to record the sale of the New York Marriott East
Side and the Napa Valley Marriott:
. Record decrease in property and equipment of $78 million
. Record decrease in notes receivable of $2 million
. Record decrease in due from managers of $2 million
. Record decrease in other assets of $1 million
. Record cash of $171 million
. Record repayment of mortgage debt of $35 million
. Record deferred taxes of $22 million
. Record increase in other liabilities of $70 million primarily relating to
minority interest liabilities
. Record estimated gain of $31 million, net of estimated taxes
D) Represents the repayment of $92 million of unsecured debt of SLC to Marriott
International resulting in a decrease in equity to the Operating Partnership and
contributed capital to SLC.
E) Represents the adjustment to deconsolidate the assets and liabilities of the
Non-Controlled Subsidiary and to reflect the sale of certain hotel furniture and
equipment to the Non-Controlled Subsidiary:
. Record decrease in property and equipment of $345 million, including $200
million of hotel furniture and equipment sold to the Non-Controlled
Subsidiary
. Record receivable from Non-Controlled Subsidiary for the furniture and
equipment loan of $200 million, net of the $134 million mortgage for six
hotels which will be held by the Non-Controlled Subsidiary (previously
eliminated in consolidation) and other notes totaling $5 million
. Record decrease in due from managers of $16 million
. Record investment in subsidiary of $344 million
. Record decrease in other assets of $63 million
. Record decrease in cash of $18 million
. Record increase in debt of $99 million
. Record decrease in accounts payable and accrued expenses of $9 million
. Record decrease in deferred taxes of $41 million
. Record decrease in other liabilities of $86 million
F-59
<PAGE>
NOTES TO UNAUDITED PRO FORMA CONSOLIDATED BALANCE SHEET
100% Participation with No Notes Issued (Cont'd)
F) Represents the adjustment to record the Mergers:
. Record property and equipment of $566 million
. Record decrease in notes receivable of $6 million
. Record increases in due from managers of $17 million
. Record other assets of $31 million
. Record cash of $3 million
. Record debt of $338 million
. Record accounts payable and accrued expenses of $6 million
. Record decrease in other liabilities of $21 million
. Record the issuance of 14.4 million OP Units totaling approximately
$288 million
G) Represents the adjustment to record the purchase of the remaining minority
interests in five Private Partnerships:
. Record property and equipment of $61 million
. Record decrease in other assets of $11 million
. Record use of cash of $11 million
. Record decrease in minority interest liabilities of $6 million
. Record the issuance of 2.3 million OP Units totaling approximately $45
million
H) Represents the estimated $225 million cash payment of the earnings and
profits distribution to shareholders of Host Marriott.(1)
I) Represents the adjustment to record the transfer of working capital to SLC
related to the leasing of the Operating Partnership's hotels by decreasing
working capital and recording a receivable from the lessee of $100 million.
J) Represents the adjustment to record the effect on deferred taxes for the
change in tax status resulting from the REIT Conversion by decreasing deferred
taxes and increasing equity by $194 million.
- ----------------------
(1) The amount of the earnings and profits distribution is an estimate only,
and is subject to a number of contingencies and uncertainties at this time.
The amount of the earnings and profits distribution will be based upon
Host's accumulated earnings and profits for tax purposes, which could be
affected by a number of factors (including, for example, actual operating
results prior to REIT Conversion, extraordinary capital transactions,
including those in connection with the REIT Conversion, and any adjustment
resulting from routine ongoing audits of Host).
F-60
<PAGE>
UNAUDITED PRO FORMA STATEMENT OF OPERATIONS
First Quarter 1998
100% Participation with No Notes Issued
(in millions)
<TABLE>
<CAPTION>
Acquisitions, Dispositions and Other Activities
---------------------------------------------------
A B D
Blackstone 1998 1998
Historical Acquisition Acquisitions Dispositions
---------- ----------- ------------ ------------
REVENUES
<S> <C> <C> <C> <C>
Rental revenues(1)....................... $ -- $ -- $ -- $ --
Hotel revenues........................... 321 34 15 (4)
Equity in earnings of affiliates......... 1 -- -- --
Other revenues........................... 3 -- -- --
--------- ---------- ---------- ----------
Total revenues......................... 325 34 15 (4)
--------- ---------- ---------- ----------
OPERATING COSTS AND EXPENSES
Hotels................................... 173 23 6 (2)
Other.................................... 5 -- -- --
--------- ---------- ---------- ----------
Total operating costs and expenses..... 178 23 6 (2)
--------- ---------- ---------- ----------
OPERATING PROFIT............................ 147 11 9 (2)
Minority interest........................... (16) -- (1) (1)
Corporate expenses.......................... (11) -- -- --
Interest expense............................ (76) (11) (1) --
Dividends on Convertible Preferred
Securities............................... (9) -- -- --
Interest income............................. 14 (3) (3) --
--------- ---------- ---------- ----------
Income (loss) before income taxes........... 49 (3) 4 (3)
Benefit (provision) for income taxes........ (21) 1 (1) 1
--------- ---------- ---------- ----------
Income (loss) before extraordinary items
and REIT Conversion expenses(2).......... $ 28 $ (2) $ 3 $ (2)
========= ========== ========== ==========
<CAPTION>
Mergers and REIT Conversion Activities
------------------------------------------------------------------------------
F H I J K/G L
Earnings
Non-Controlled Private & Profits Income Tax
Subsidiary Mergers Partnerships Distribution(3) Lease Adjustment Pro Forma
---------- ------- ------------ -------------- --------- ---------- ---------
REVENUES
<S> <C> <C> <C> <C> <C> <C> <C>
Rental revenues(1)..................... $ -- $ -- $ -- $ -- $ 278 $ -- $ 278
Hotel revenues......................... (42) 22 -- -- (346) -- --
Equity in earnings of affiliates....... 6 -- -- -- -- -- 7
Other revenues......................... (3) -- -- -- -- -- --
----------- -------- ---------- ---------- -------- -------- --------
Total revenues....................... (39) 22 -- -- (68) -- 285
----------- -------- ---------- ---------- -------- -------- --------
OPERATING COSTS AND EXPENSES
Hotels................................. (37) 13 1 -- (57) -- 120
Other.................................. -- -- -- -- -- -- 5
----------- -------- ---------- ---------- -------- -------- --------
Total operating costs and expenses... (37) 13 1 -- (57) -- 125
----------- -------- ---------- ---------- -------- -------- --------
OPERATING PROFIT.......................... (2) 9 (1) -- (11) -- 160
Minority interest......................... 1 13 -- -- -- -- (4)
Corporate expenses........................ 1 -- -- -- -- -- (10)
Interest expense.......................... (2) (6) -- -- -- -- (96)
Dividends on Convertible Preferred
Securities............................. -- -- -- -- -- -- (9)
Interest income........................... -- -- -- (3) 3 -- 8
----------- -------- ---------- ---------- -------- -------- --------
Income (loss) before income taxes......... (2) 16 (1) (3) (8) -- 49
Benefit (provision) for income taxes...... 2 (6) -- 1 3 18 (2)
----------- -------- ---------- ---------- -------- -------- --------
Income (loss) before extraordinary items
and REIT Conversion Expenses(2)........ $ -- $ 10 $ (1) $ (2) $ (5) $ 18 $ 47
=========== ======== ========== ========== ======== ======== ========
</TABLE>
See Notes to the Unaudited Pro Forma Statements of Operations
F-61
<PAGE>
UNAUDITED PRO FORMA STATEMENT OF OPERATIONS
First Quarter 1997
100% Participation with No Notes Issued
(in millions)
<TABLE>
<CAPTION>
Acquisitions, Dispositions and Other Activities
--------------------------------------------------------------------
A B C D E
Debt
Blackstone 1998 1997 1998 Refinancings
Historical Acquisition Acquisitions Acquisitions Dispositions & Repayments
---------- ----------- ------------ ------------ ------------ ------------
<S> <C> <C> <C> <C> <C> <C>
REVENUES
Rental revenues(1)....................... $ -- $ -- $ -- $ -- $ -- $ --
Hotel revenues........................... 248 24 20 37 (5) --
Equity in earnings of affiliates......... 1 -- -- -- -- --
Other revenues........................... 3 -- -- -- -- --
--------- --------- ---------- ---------- ---------- -------
Total revenues........................... 252 24 20 37 (5) --
--------- --------- ---------- ---------- ---------- -------
OPERATING COSTS AND EXPENSES
Hotels................................... 151 23 10 14 (3) --
Other.................................... 10 -- -- -- -- --
--------- --------- ---------- ---------- ---------- -------
Total operating costs and expenses..... 161 23 10 14 (3) --
--------- --------- ---------- ---------- ---------- -------
OPERATING PROFIT............................ 91 1 10 23 (2) --
Minority interest........................... (11) -- (1) 2 (1) --
Corporate expenses.......................... (9) -- -- -- -- --
Interest expense............................ (63) (11) (3) (11) 1 (10)
Dividends on Convertible Preferred
Securities............................... (9) -- -- -- -- --
Interest income............................. 12 (3) -- (3) -- (3)
--------- --------- ---------- ---------- ---------- -------
Income (loss) before income taxes........... 11 (13) 6 11 (2) (13)
Benefit (provision) for income taxes........ (5) 5 (2) (4) -- 5
--------- --------- ---------- ---------- ---------- -------
Income (loss) before extraordinary items
and REIT Conversion expenses(2).......... $ 6 $ (8) $ 4 $ 7 $ (2) $ (8)
========= ========= ========== ========== ========== =======
<CAPTION>
Mergers and REIT Conversion Activities
---------------------------------------------------------------------------
F H I J K/G L
Earnings
Non-Controlled Private & Profits Income Tax
Subsidiary Mergers Partnerships Distribution(3) Lease Adjustment Pro Forma
---------- ------- ------------ -------------- ------- ---------- ---------
<S> <C> <C> <C> <C> <C> <C> <C>
REVENUES
Rental revenues(1)..................... $ -- $ -- $ -- $ -- $ 249 $ -- $ 249
Hotel revenues......................... (37) 20 -- -- (307) -- --
Equity in earnings of affiliates....... 1 -- -- -- -- -- 2
Other revenues......................... (3) -- -- -- -- -- --
--------- -------- -------- ---------- -------- -------- --------
Total revenues......................... (39) 20 -- -- (58) -- 251
--------- -------- -------- ---------- -------- -------- --------
OPERATING COSTS AND EXPENSES
Hotels................................. (33) 12 1 -- (50) -- 125
Other.................................. (7) -- -- -- -- -- 3
--------- -------- -------- ---------- -------- -------- --------
Total operating costs and expenses... (40) 12 1 -- (50) -- 128
--------- -------- -------- ---------- -------- -------- --------
OPERATING PROFIT.......................... 1 8 (1) -- (8) -- 123
Minority interest......................... 1 8 -- -- -- -- (2)
Corporate expenses........................ 1 -- -- -- -- -- (8)
Interest expense.......................... (2) (6) -- -- -- -- (105)
Dividends on Convertible Preferred
Securities............................. -- -- -- -- -- -- (9)
Interest income........................... -- -- -- (3) 3 -- 3
--------- -------- -------- ---------- -------- -------- --------
Income (loss) before income taxes......... 1 10 (1) (3) (5) -- 2
Benefit (provision) for income taxes...... -- (4) -- 1 2 2 --
--------- -------- -------- ---------- -------- -------- --------
Income (loss) before extraordinary items
and REIT Conversion expenses(2)........ $ 1 $ 6 $ (1) $ (2) $ (3) $ 2 $ 2
========= ======== ======== ========== ======== ======== ========
</TABLE>
See Notes to the Unaudited Pro Forma Statements of Operations.
F-62
<PAGE>
<TABLE>
<CAPTION>
UNAUDITED PRO FORMA STATEMENT OF OPERATIONS
Fiscal Year 1997
100% Participation with No Notes Issued
(in millions)
Acquisitions, Dispositions and Other Activities
-------------------------------------------------------------
A B C D E/M/N
Debt
Blackstone 1998 1997 Refinancings
Historical Acquisition Acquisitions Acquisitions Dispositions & Repayments
---------- ----------- ------------ ------------ ------------ ------------
REVENUES
<S> <C> <C> <C> <C> <C> <C>
Rental revenues(1)....................... $ -- $ -- $ -- $ -- $ -- $ --
Hotel revenues........................... 1,093 148 76 89 (23) --
Equity in earnings of affiliates......... 5 -- -- -- -- --
Other revenues........................... 12 -- -- -- -- --
--------- --------- ---------- ---------- ---------- ------
Total revenues......................... 1,110 148 76 89 (23) --
--------- --------- ---------- ---------- ---------- ------
OPERATING COSTS AND EXPENSES
Hotels................................... 649 106 38 42 (10) --
Other.................................... 29 -- -- -- -- --
--------- --------- ---------- ---------- ---------- ------
Total operating costs and expenses..... 678 106 38 42 (10) --
--------- --------- ---------- ---------- ---------- ------
OPERATING PROFIT............................ 432 42 38 47 (13) --
Minority interest........................... (32) -- (4) 5 (1) --
Corporate expenses.......................... (45) -- -- -- -- --
Interest expense............................ (287) (48) (12) (13) 3 (27)
Dividends on Convertible Preferred
Securities............................... (37) -- -- -- -- --
Interest income............................. 52 (12) (16) (10) -- (3)
--------- --------- ---------- ---------- ---------- ------
Income (loss) before income taxes........... 83 (18) 6 29 (11) (30)
Benefit (provision) for income taxes........ (36) 7 (2) (12) 4 12
--------- --------- ---------- ---------- ---------- ------
Income (loss) before extraordinary items
and REIT Conversion expenses (2)......... $ 47 $ (11) $ 4 $ 17 $ (7) $ (18)
========= ========= ========== ========== ========== ======
<CAPTION>
Mergers and REIT Conversion Activities
-------------------------------------------------------------------------
F H I J K/G L
Earnings
Non-Controlled Private & Profits Income Tax
Subsidiary Mergers Partnerships Distribution(3) Lease Adjustment Pro Forma
---------- ------- ------------ --------------- ------- ---------- ----------
REVENUES
<S> <C> <C> <C> <C> <C> <C> <C>
Rental revenues(1)...................... $ -- $ -- $ -- $ -- $ 1,041 $ -- $ 1,041
Hotel revenues.......................... (170) 74 -- -- (1,287) -- --
Equity in earnings of affiliates........ 16 -- -- -- -- -- 21
Other revenues.......................... (13) -- -- -- -- -- (1)
--------- -------- --------- -------- ------- -------- --------
Total revenues........................ (167) 74 -- -- (246) -- 1,061
--------- -------- --------- -------- ------- -------- --------
OPERATING COSTS AND EXPENSES
Hotels.................................. (145) 51 2 -- (211) -- 522
Other................................... (19) -- -- -- -- -- 10
--------- -------- --------- -------- ------- -------- --------
Total operating costs and expenses.... (164) 51 2 -- (211) -- 532
--------- -------- --------- -------- ------- -------- --------
OPERATING PROFIT........................... (3) 23 (2) -- (35) -- 529
Minority interest.......................... 5 17 1 -- -- -- (9)
Corporate expenses......................... 4 -- -- -- -- -- (41)
Interest expense........................... (8) (25) -- -- -- -- (417)
Dividends on Convertible Preferred
Securities.............................. -- -- -- -- -- -- (37)
Interest income............................ -- 1 -- (12) 14 -- 14
--------- -------- --------- -------- ------- -------- --------
Income (loss) before income taxes.......... (2) 16 (1) (12) (21) -- 39
Benefit (provision) for income taxes....... 2 (6) -- 5 8 16 (2)
--------- -------- --------- -------- ------- -------- --------
Income (loss) before extraordinary items
and REIT Conversion expenses (2)........ $ -- $ 10 $ (1) $ (7) $ (13) $ 16 $ 37
========= ======== ========= ======== ======= ======== ========
</TABLE>
See Notes to the Unaudited Pro Forma Statements of Operations.
F-63
<PAGE>
NOTES TO PRO FORMA STATEMENTS OF OPERATIONS
Assuming 100% Participation with No Notes Issued
A) Represents the adjustment to record the revenues, operating expenses,
interest expense, income taxes and to reduce interest income associated with the
acquisition of the equity and debt interests for the Blackstone Acquisition.
B) Represents the adjustment to record the revenues, operating expenses,
minority interest, interest expense, income taxes and to reduce interest income
associated with the 1998 acquisition, or purchase of controlling interests in,
six full-service properties and the pending acquisition of one property.
C) Represents the adjustment to record the revenues, operating expenses,
minority interest, interest income, income taxes and to reduce interest income
associated with the 1997 acquisition, or purchase of controlling interests in,
18 full-service properties.
D) Represents the adjustment to revenues, operating expenses, minority interest,
interest expense and income taxes associated with the sale of the New York
Marriott East Side and the Napa Valley Marriott. This adjustment excludes the
non-recurring estimated gain on the sale of the hotels of $31 million, net of
taxes.
E) Represents the adjustment to reduce the interest expense associated with the
refinancing or payoff of mortgage debt for three full-service properties
(Marriott's Orlando World Center, the Philadelphia Marriott and the San
Francisco Marriott).
F) Represents the adjustment for revenues, operating expenses, minority
interest, interest expense, corporate expenses, interest income and income taxes
to deconsolidate the Non-Controlled Subsidiary and reflect the Operating
Partnership's share of income as equity in earnings of affiliate.
G) Represents the adjustment to reduce depreciation expense related to certain
furniture and equipment sold to the Non-Controlled Subsidiary, record interest
income earned on the 7%, $200 million in notes and reduce the lease payment to
the Operating Partnership from the Lessee.
H) Represents the adjustment to record the revenues, operating expenses ,
minority interest, interest expense, interest income and income taxes associated
with the Mergers, including three partnerships not previously consolidated by
the Operating Partnership.
I) Represents the adjustment to record additional depreciation expense and the
decrease in minority interest expense related to the purchase of the remaining
minority interests in the Private Partnerships.
J) Represents the adjustment to reduce interest income for the estimated $225
million cash payment of the earnings and profits distribution to shareholders of
Host.(3)
K) Represents the adjustment to remove hotel revenues and management fees and
record rental revenues associated with the leasing of certain hotel properties
to SLC and other lessees.(1)
L) Represents the adjustment to the income tax provision to reflect the REIT
Conversion.
M) Represents the adjustment to record interest expense for the $600 million of
senior notes issued in July 1997 and the related amortization of deferred
financing fees.
N) Represents the adjustment to record interest expense for the $500 million
line of credit obtained in June 1997, the commitment fee, the draw related to
the purchase of one full-service property and the related amortization of
deferred financing fees.
- --------------------
(1) Lease amounts reflect estimates as the leases are currently subject to
negotiation. The lease amounts included may not reflect the final terms
of the leases.
(2) The amount of REIT Conversion expenses to be incurred is not known at this
time and will be filed by amendment.
(3) The amount of the earnings and profits distribution is an estimate only,
and is subject to a number of contingencies and uncertainties at this time.
The amount of the earnings and profits distribution will be based upon
Host's accumulated earnings and profits for tax purposes, which could be
affected by a number of factors (including, for example, actual operating
results prior to REIT Conversion, extraordinary capital transactions,
including those in connection with the REIT Conversion, and any adjustment
resulting from routine ongoing audits of Host).
F-64
<PAGE>
UNAUDITED PRO FORMA STATEMENTS OF CASH FLOWS
First Quarter 1998
100% Participation with No Notes Issued
(in millions)
<TABLE>
<CAPTION>
Acquisitions, Dispositions and Merger and REIT
Other Activities Conversion Activities
------------------------------------- -------------------------------------
A B D H I J
Blackstone 1998 Non-Controlled Private
Historical Acquisition Acquisitions Dispositions Subsidiary Mergers Partnerships
---------- ----------- ------------ ------------ -------------- ------- ------------
<S> <C> <C> <C> <C> <C> <C> <C>
OPERATING ACTIVITIES
Income before extraordinary items
and REIT Conversion expenses(2).......... $ 28 $ (2) $ 3 $ (2) $ -- $ 10 $ (1)
Adjustments to reconcile to cash
provided by operations:
Depreciation and amortization............ 54 15 3 -- (2) 5 1
Income taxes............................. 18 -- -- -- -- -- --
Equity (earnings) losses of affiliates... (1) -- -- -- -- -- --
Changes in operating accounts.............. (19) -- -- -- 1 -- --
Other assets............................... 18 -- -- -- 1 -- --
--------- --------- --------- --------- --------- ------- ---------
Cash provided by (used in) operations.... 98 13 6 (2) -- 15 --
--------- --------- --------- --------- --------- ------- ---------
INVESTING ACTIVITIES
Acquisitions............................... (118) -- 118 -- -- -- --
Cash received from sale of assets.......... 1 -- -- -- (1) -- --
Capital expenditures....................... (61) (5) (2) 2 1 (3) --
Purchases of short-term marketable
securities............................... (53) -- -- -- -- -- --
Sales of short-term marketable
securities............................... 246 -- -- -- -- -- --
Other...................................... 9 -- -- -- -- -- --
--------- --------- --------- --------- --------- ------- ---------
Cash provided by (used in)
investing activities................... 24 (5) 116 2 -- (3) --
--------- --------- --------- --------- --------- ------- ---------
FINANCING ACTIVITIES
Issuances of debt.......................... 1 -- -- -- -- -- --
Scheduled principal repayments............. (6) -- -- -- -- (2) --
Debt prepayments........................... (1) -- 1 -- -- -- --
Transfers to Host Marriott................. (55) -- -- -- -- -- --
Other...................................... (16) -- -- -- -- -- --
--------- --------- --------- --------- --------- ------- ---------
Cash provided by (used in) financing
activities............................. (77) -- 1 -- -- (2) --
--------- --------- --------- --------- --------- ------- ---------
INCREASE (DECREASE) IN CASH
AND CASH EQUIVALENTS..................... $ 45 $ 8 $ 123 $ -- $ -- $ 10 $ --
========= ========= ========= ========= ========= ======= =========
<CAPTION>
Mergers and REIT
Conversion Activities
-------------------------------------
K L/M N
Earnings
& Profits Lease Tax
Distribution(3) Conversion(1) Adjustment Pro Forma
--------------- ------------- ---------- ---------
<S> <C> <C> <C> <C>
OPERATING ACTIVITIES
Income before extraordinary items
and REIT Conversion Expenses(2).......... $ (2) $ (5) $ 18 $ 47
Adjustments to reconcile to cash
provided by operations:
Depreciation and amortization............ -- (7) -- 69
Income taxes............................. -- -- -- 18
Equity (earnings) losses of affiliates... -- -- -- (1)
Changes in operating accounts.............. -- -- -- (18)
Other assets............................... -- -- -- 19
--------- --------- --------- ---------
Cash provided by (used in) operations.... (2) (12) 18 134
--------- --------- --------- ---------
INVESTING ACTIVITIES
Acquisitions............................... -- -- -- --
Cash received from sale of assets.......... -- -- -- --
Capital expenditures....................... -- -- -- (68)
Purchases of short-term marketable
securities............................... -- -- -- (53)
Sales of short-term marketable
securities............................... -- -- -- 246
Other...................................... -- -- -- 9
--------- --------- --------- ---------
Cash provided by (used in)
investing activities................... -- -- -- 134
--------- --------- --------- ---------
FINANCING ACTIVITIES
Issuances of debt.......................... -- -- -- 1
Scheduled principal repayments............. -- -- -- (8)
Debt prepayments........................... -- -- -- --
Transfers to Host Marriott................. -- -- -- (55)
Other...................................... -- -- -- (16)
--------- --------- --------- ---------
Cash provided by (used in) financing
activities............................. -- -- -- (78)
--------- --------- --------- ---------
INCREASE (DECREASE) IN CASH
AND CASH EQUIVALENTS..................... $ (2) $ (12) $ 18 $ 190
========= ========= ========= =========
</TABLE>
See Notes to the Unaudited Pro Forma Statements of Cash Flows.
F-65
<PAGE>
UNAUDITED PRO FORMA STATEMENT OF CASH FLOWS
Fiscal Year 1997
100% Participation with No Notes Issued
(in millions)
<TABLE>
<CAPTION>
Acquisitions, Dispositions and Other Activities
------------------------------------------------------------------------
A C B D E/F/G
Debt
Blackstone 1997 1998 Refinancing
Historical Acquisition Acquisitions Acquisitions Dispositions & Repayment
---------- ----------- ------------ ------------ ------------ -----------
<S> <C> <C> <C> <C> <C> <C>
OPERATING ACTIVITIES
Income before extraordinary items
and REIT Conversion expenses(2).... $ 47 $ (11) $ 17 $ 4 $ (7) $ (18)
Adjustments to reconcile to cash
provided by operations:
Depreciation and amortization...... 231 65 17 20 (3) --
Income taxes....................... (20) -- -- -- -- --
Other.............................. 73 -- -- -- (2) --
Changes in operating accounts........ 101 -- -- -- -- --
---------- ----------- ------------ ------------ ------------ -----------
Cash provided by (used in)
operations........................ 432 54 34 24 (12) (18)
---------- ----------- ------------ ------------ ------------ -----------
INVESTING ACTIVITIES
Acquisitions......................... (359) -- 359 -- -- --
Cash received from sale of assets.... 51 -- -- -- -- --
Purchase of short-term marketable
securities......................... (354) -- -- -- -- --
Capital expenditures................. (158) (20) (13) (10) 4 --
Other................................ 13 -- -- -- 1 --
---------- ----------- ------------ ------------ ------------ -----------
Cash provided by (used in)
investing activities............. (807) (20) 346 (10) 5 --
---------- ----------- ------------ ------------ ------------ -----------
FINANCING ACTIVITIES
Issuances of debt.................... 857 -- -- -- -- (854)
Scheduled principal payments......... (90) -- -- -- -- --
Debt prepayments..................... (403) -- -- -- -- 403
Transfers to Host Marriott........... (221) -- -- -- -- --
Other................................ 22 -- -- -- -- --
---------- ----------- ------------ ------------ ------------ -----------
Cash provided by (used in)
financing activities............. 165 -- -- -- -- (451)
---------- ----------- ------------ ------------ ------------ -----------
INCREASE (DECREASE) IN CASH
AND CASH EQUIVALENTS............... $ (210) $ 34 $ 380 $ 14 $ (7) $ (469)
========== =========== ============ ============ ============ ===========
<CAPTION>
Mergers and REIT Conversion Activities
--------------------------------------------------------------------------------
H I J K L/M N
Earnings
Non-Controlled Private & Profits Lease Tax
Subsidiary Mergers Partnerships Distribution(3) Conversion(1) Adjustment Pro Forma
-------------- ------- ------------ --------------- ------------- ---------- ---------
OPERATING ACTIVITIES
Income before extraordinary items
and REIT Conversion expenses (2)... $ -- $ 10 $ (1) $ (7) $ (13) $ 16 $ 37
Adjustments to reconcile to cash
provided by operations:
Depreciation and amortization...... (8) 26 2 -- (29) -- 321
Income taxes....................... 2 -- -- -- -- -- (18)
Other.............................. 1 -- -- -- -- -- 72
Changes in operating accounts........ 7 -- -- -- -- -- 108
-------------- ------- ------------ ------------- ---------- ---------- ---------
Cash provided by (used in)
operations........................ 2 36 1 (7) (42) 16 520
-------------- ------- ------------ ------------- ---------- ---------- ---------
INVESTING ACTIVITIES
Acquisitions......................... -- -- -- -- -- -- --
Cash received from sale of assets.... (35) -- -- -- -- -- 16
Purchase of short-term marketable
securities......................... -- -- -- -- -- -- (354)
Capital expenditures................. 2 (11) -- -- -- -- (206)
Other................................ 33 -- -- -- -- -- 47
-------------- ------- ------------ ------------- ---------- ---------- ---------
Cash provided by (used in)
investing activities............. -- (11) -- -- -- -- (497)
-------------- ------- ------------ ------------- ---------- ---------- ---------
FINANCING ACTIVITIES
Issuances of debt.................... (3) -- -- -- -- -- --
Scheduled principal payments......... -- (7) -- -- -- -- (97)
Debt prepayments..................... -- -- -- -- -- -- --
Transfers to Host Marriott........... -- -- -- -- -- -- (221)
Other................................ -- -- -- -- -- -- 22
-------------- ------- ------------ ------------- ---------- ---------- ---------
Cash provided by (used in)
financing activities............. (3) (7) -- -- -- -- (296)
-------------- ------- ------------ ------------- ---------- ---------- ---------
INCREASE (DECREASE) IN CASH
AND CASH EQUIVALENTS............... $ (1) $ 18 $ 1 $ (7) $ (42) $ 16 $ (273)
============== ======= ============ ============= ========== ========== =========
</TABLE>
See Notes to the Unaudited Pro Forma Statements of Cash Flows.
F-66
<PAGE>
NOTES TO PRO FORMA STATEMENTS OF CASH FLOWS
100% Participation with No Notes Issued
A) Represents the adjustment to record depreciation expense and estimated
capital expenditures for the Blackstone Acquisition.
B) Represents the adjustment to record depreciation expense and estimated
capital expenditures for the 1998 acquisition of, or purchase of controlling
interests in, six full-service properties and the pending acquisition of one
property.
C) Represents the adjustment to record depreciation expense and capital
expenditures for the 1997 acquisition of, or purchase of controlling interests
in, 18 full-service properties. Cash from investing activities has also
been adjusted as if the period's historical acquisitions occurred
immediately prior to the period presented.
D) Represent the adjustment to record the decrease in depreciation expense,
capital expenditures and other investing activities for the sale of the New York
East Side Marriott and the Napa Valley Marriott.
E) Represents the adjustment to reflect the decrease in interest expense
associated with the refinancing or payoff of mortgage debt for three full-
service properties (Marriott Orlando World Center, the Philadelphia Marriott,
and the San Francisco Marriott). Cash from financing activities has also been
adjusted as if the period's historical prepayments and issuances of debt
occurred immediately prior to the period presented.
F) Represents the adjustment to reflect the increase interest in expense related
to the $500 million line of credit, including commitment fees and interest
expense on the $22 million draw for the purchase of one full-service property.
G) Represents the adjustment to record interest expense for the $600 million of
senior notes issued July 1997. Cash from financing activities has also been
adjusted as if the issuance of $600 million of senior notes occurred
immediately prior to the period presented.
H) Represents the adjustment to record the removal of depreciation, changes in
other assets and changes in other operating accounts as well as capital
expenditures and the sale of certain assets to reflect the deconsolidation of
the Non-Controlled Subsidiary.
I) Represents the adjustment to record depreciation expense and capital
expenditures related to the Mergers, including the scheduled principal
amortization of notes.
J) Represents the adjustment to record depreciation expense related to the
acquisition of the Private Partnerships.
K) Represents the adjustment to reflect the decrease in interest income, net of
tax, as a result of the estimated $225 million earnings and profits
distribution.(3)
L) Represents the adjustment to revenues to reflect lease income and remove
hotel revenues and management fees.(1)
M) Represents the adjustment to reduce depreciation expense related to the sale
of certain furniture and equipment to the Non-Controlled Subsidiary.
N) Represents the adjustment to the income tax provision to reflect the REIT
Conversion.
- ----------------------
(1) Lease amounts reflect estimates as the leases are currently subject to
negotiation. The lease amounts included may not reflect the final terms of
the leases.
(2) The amount of the REIT Conversion expenses to be incurred is not known at
this time and will be filed by amendment.
(3) The amount of the earnings and profits distribution is an estimate only,
and is subject to a number of contingencies and uncertainties at this time.
The amount of the earnings and profit distribution will be based upon Host's
accumulated earnings and profits for tax purposes, which could be affected
by a number of factors (including, for example, actual operating results
prior to REIT Conversion, extraordinary capital transactions, including
those in connection with the REIT Conversion, and any adjustment resulting
from routine ongoing audits of Host).
F-67
<PAGE>
UNAUDITED PRO FORMA BALANCE SHEET
March 27, 1998
100% Participation with Notes Issued
(in millions)
<TABLE>
<CAPTION>
Acquisitions, Dispositions and Other Activities
-------------------------------------------------------
A B C D
Blackstone 1998 1998 Debt
Historical Acquisition Acquisitions Dispositions Repayment
---------- ----------- ------------ ------------ ---------
Assets
- ------
<S> <C> <C> <C> <C> <C>
Property and equipment, net................. $ 4,926 $ 1,667 $ 196 $ (78) $ --
Notes and other receivables, net............ 37 63 (8) (2) --
Due from managers........................... 133 5 -- (2) --
Investments in affiliates................... 6 -- -- -- --
Other assets................................ 318 -- 1 (1) --
Receivable from Lessee for working capital.. -- -- -- -- --
Cash, cash equivalents and short-term
marketable securities.................... 700 (262) (194) 171 (92)
--------- --------- ---------- -------- -------
$ 6,120 $ 1,473 $ (5) $ 88 $ (92)
========= ========= ========== ======== =======
Liabilities and Equity
- ----------------------
Debt........................................ $ 3,624 $ 600 $ -- $ (35) $ --
Accounts payable and accrued expenses....... 70 -- -- -- --
Deferred income taxes....................... 488 -- -- 22 --
Other liabilities........................... 447 -- (5) 70 --
--------- --------- ---------- -------- -------
Total liabilities........................ 4,629 600 (5) 57 --
Convertible Preferred Securities............ 550 -- -- -- --
Equity...................................... 941 873 -- 31 (92)
--------- --------- ---------- -------- -------
$ 6,120 $ 1,473 $ (5) $ 88 $ (92)
========= ========= ========== ======== =======
<CAPTION>
Mergers and REIT Conversion Activities
-----------------------------------------------------------------------------
E F G H I J
Mergers & Earnings
Non-Controlled Notes Private & Profits Lease Deferred Tax
Subsidiary Issuance Partnerships Distribution(1) Conversion Adjustment Pro Forma
-------------- --------- ------------ ------------ ---------- ---------- ---------
Assets
- ------
<S> <C> <C> <C> <C> <C> <C> <C>
Property and equipment, net............. $ (345) $ 515 $ 61 $ -- $ -- $ -- $ 6,942
Notes and other receivables, net........ 61 (6) -- -- -- -- 145
Due from managers....................... (16) 17 -- -- (100) -- 37
Investments in affiliates............... 344 -- -- -- -- -- 350
Other assets............................ (63) 31 (11) -- -- -- 275
Receivable from Lessee for working
capital............................... -- -- -- -- 100 -- 100
Cash, cash equivalents and short-term
marketable securities................ (18) 3 (11) (225) -- -- 72
--------- -------- ---------- ----------- --------- ---------- ---------
$ (37) $ 560 $ 39 $ (225) $ -- $ -- $ 7,921
========= ======== ========== =========== ========= ========== =========
Liabilities and Equity
- ----------------------
Debt.................................... $ 99 $ 575 $ -- $ -- $ -- $ -- $ 4,863
Accounts payable and accrued expenses... (9) 6 -- -- -- -- 67
Deferred income taxes................... (41) -- -- -- -- (194) 275
Other liabilities....................... (86) (21) (6) -- -- -- 399
--------- --------- ----------- ----------- --------- ---------- ---------
Total liabilities.................... (37) 560 (6) -- -- (194) 5,604
Convertible Preferred Securities........ -- -- -- -- -- 550
Equity.................................. -- -- 45 (225) -- 194 1,767
--------- -------- ---------- ----------- --------- ---------- ---------
$ (37) $ 560 $ 39 $ (225) $ -- $ -- $ 7,921
========= ======== ========== =========== ========= ========== =========
</TABLE>
See Notes to the Unaudited Pro Forma Balance Sheet.
F-68
<PAGE>
NOTES TO UNAUDITED PRO FORMA BALANCE SHEET
100% Participation with Notes Issued
A) Represents the adjustment to record the Blackstone Acquisition of 12
full-service properties and a mortgage secured by a thirteenth full-service
property (5,520 rooms) including the issuance of 43.7 million OP Units:
. Record property and equipment of $1,667 million
. Record mortgage note receivable of $63 million
. Record increase in due from managers of $5 million
. Record use of cash of $262 million
. Record the assumption of mortgage debt of $600 million
. Record the issuance of 43.7 million OP Units with a value of $873 million
B) Represents the adjustment to record the 1998 acquisition of the
Ritz-Carlton, Phoenix, the acquisition of the remaining debt and equity
interests in the Park Ridge Marriott, the pending acquisition of The Ritz-
Carlton, Tysons Corner and the purchase of the minority interests in the Norfolk
Waterside Marriott and the Calgary Marriott:
. Record property and equipment of $196 million
. Record decrease in notes receivable of $8 million
. Record other assets of $1 million
. Record the use of cash of $194 million
. Record decrease in other liabilities of $5 million related to the purchase
of minority interests
C) Represents the adjustment to record the sale of the New York Marriott East
Side and the Napa Valley Marriott:
. Record decrease in property and equipment of $78 million
. Record decrease in notes receivable of $2 million
. Record decrease in due from managers of $2 million
. Record decrease in other assets of $1 million
. Record cash of $171 million
. Record repayment of mortgage debt of $35 million
. Record deferred taxes of $22 million
. Record increase in other liabilities of $70 million primarily relating to
minority interest liabilities
. Record estimated gain of $31 million net of estimated taxes
D) Represents the repayment of $92 million of unsecured debt of SLC to Marriott
International resulting in a decrease in equity to the Operating Partnership and
contributed capital to SLC.
E) Represents the adjustment to deconsolidate the assets and liabilities of
the Non-Controlled Subsidiary and to reflect the sale of certain hotel furniture
and equipment to the Non-Controlled Subsidiary:
. Record decrease in property and equipment of $345 million, including $200
million of hotel furniture and equipment sold to the Non-Controlled
Subsidiary
. Record receivable from Non-Controlled Subsidiary for the furniture and
equipment loan of $200 million, net of the $134 million mortgage for six
hotels which will be held by the Non-Controlled Subsidiary (previously
eliminated in consolidation) and other notes totaling $5 million
. Record decrease in due from managers of $16 million
. Record investment in subsidiary of $344 million
. Record decrease in other assets of $63 million
. Record decrease in cash of $18 million
. Record increase in debt of $99 million
. Record decrease in accounts payable and accrued expenses of $9 million
. Record decrease in deferred taxes of $41 million
. Record decrease in other liabilities of $86 million
F-69
<PAGE>
NOTES TO UNAUDITED PRO FORMA BALANCE SHEET
100% Participation with Notes Issued (Cont'd)
F) Represents the adjustment to record the Mergers and issuance of Notes at
the Note Election Amount (the greater of Liquidation Value or 60% of Exchange
Value) to the Limited Partners:
. Record property and equipment of $515 million
. Record decrease in notes receivable of $6 million
. Record increase in due from managers of $17 million
. Record other assets of $31 million
. Record cash of $3 million
. Record debt of $575 million, including $236 million of Notes issued to
the Limited Partners at the Note Election Amount
. Record accounts payable and accrued expenses of $6 million
. Record decrease in other liabilities of $21 million
G) Represents the adjustment to record the purchase of the remaining minority
interests in five Private Partnerships:
. Record property and equipment of $61 million
. Record decrease in other assets of $11 million
. Record use of cash of $11 million
. Record decrease in minority interest liabilities of $6 million
. Record the issuance of 2.3 million OP Units totaling approximately $45
million
H) Represents the estimated $225 million cash payment of the earnings and
profits distribution to shareholders of Host Marriott.(1)
I) Represents the adjustment to record the transfer of working capital to SLC
related to the leasing of the Operating Partnership's hotels by decreasing
working capital and recording a receivable from the lessee of $100 million.
J) Represents the adjustment to record the effect on deferred taxes for the
change in tax status resulting from the REIT Conversion by decreasing deferred
taxes and increasing equity by $194 million.
- -------------------------
(1) The amount of the earnings and profits distribution is an estimate only,
and is subject to a number of contingencies and uncertainties at this time.
The amount of the earnings and profits distribution will be based upon
Host's accumulated earnings and profits for tax purposes, which could be
affected by a number of factors (including, for example, actual operating
results prior to REIT Conversion, extraordinary capital transactions,
including those in connection with the REIT Conversion, and any adjustment
resulting from routine ongoing audits of Host).
F-70
<PAGE>
UNAUDITED PRO FORMA STATEMENT OF OPERATIONS
First Quarter 1998
100% Participation with Notes Issued
(in millions)
<TABLE>
<CAPTION>
Acquisitions, Dispositions and Other Activities
---------------------------------------------------
A B D
1998
Historical Blackstone Acquisitions Dispositions
---------- ----------- ------------ ------------
REVENUES
<S> <C> <C> <C> <C>
Rental revenues (1)...................... $ -- $ -- $ -- $ --
Hotel revenues........................... 321 34 15 (4)
Equity in earnings of affiliates......... 1 -- -- --
Other revenues........................... 3 -- -- --
--------- ---------- ---------- ----------
Total revenues......................... 325 34 15 (4)
--------- ---------- ---------- ----------
OPERATING COSTS AND EXPENSES
Hotels................................... 173 23 6 (2)
Other.................................... 5 -- -- --
--------- ---------- ---------- ----------
Total operating costs and expenses..... 178 23 6 (2)
---------- ---------- ---------- ----------
OPERATING PROFIT............................ 147 11 9 (2)
Minority interest........................... (16) -- (1) (1)
Corporate expenses.......................... (11) -- -- --
Interest expense............................ (76) (11) (1) --
Dividends on Convertible Preferred
Securities............................... (9) -- -- --
Interest income............................. 14 (3) (3) --
--------- ---------- ---------- ----------
Income before income taxes.................. 49 (3) 4 (3)
Provision for income taxes.................. (21) 1 (1) 1
--------- ---------- ---------- -----------
Income before extraordinary items and REIT
Conversion expenses (2).................. $ 28 $ (2) $ 3 $ (2)
========= ========== ========== ===========
<CAPTION>
Mergers and REIT Conversion Activities
------------------------------------------------------------------------------
F H I J K/G L
Earnings
Non-Controlled Mergers & Private & Profits Tax
Subsidiary Notes Issuance Partnerships Distribution(3) Lease Adjustment Pro Forma
---------- -------------- ------------ --------------- ----- ---------- ---------
REVENUES
<S> <C> <C> <C> <C> <C> <C> <C>
Rental revenues (1).................... $ -- $ -- $ -- $ -- $ 278 $ -- $ 278
Hotel revenues......................... (42) 22 -- -- (346) -- --
Equity in earnings of affiliates....... 6 -- -- -- -- -- 7
Other revenues......................... (3) -- -- -- -- -- --
----------- -------- ---------- ---------- -------- -------- --------
Total revenues....................... (39) 22 -- -- (68) -- 285
----------- -------- ---------- ---------- -------- -------- --------
OPERATING COSTS AND EXPENSES
Hotels................................. (37) 13 1 -- (57) -- 120
Other.................................. -- -- -- -- -- -- 5
----------- -------- ---------- ---------- -------- -------- --------
Total operating costs and expenses... (37) 13 1 -- (57) -- 125
----------- -------- ---------- ---------- -------- -------- --------
OPERATING PROFIT.......................... (2) 9 (1) -- (11) -- 160
Minority interest......................... 1 13 -- -- -- -- (4)
Corporate expenses........................ 1 -- -- -- -- -- (10)
Interest expense.......................... (2) (10) -- -- -- -- (100)
Dividends on Convertible Preferred
Securities............................. -- -- -- -- -- -- (9)
Interest income........................... -- -- -- (3) 3 -- 8
----------- -------- ---------- ---------- -------- -------- --------
Income before income taxes................ (2) 12 (1) (3) (8) -- 45
Provision for income taxes................ 2 (5) -- 1 3 17 (2)
----------- -------- ---------- ---------- --------- -------- --------
Income before extraordinary items and REIT
Conversion expenses (2)................ $ -- $ 7 $ (1) $ (2) $ (5) $ 17 $ 43
=========== ======== ========== ========== ========= ======== ========
</TABLE>
See Notes to the Unaudited Pro Forma Statements of Operations.
F-71
<PAGE>
UNAUDITED PRO FORMA STATEMENT OF OPERATIONS
First Quarter 1997
100% Participation with Notes Issued
(in millions)
<TABLE>
<CAPTION>
Acquisitions, Dispositions and Other Activities
--------------------------------------------------------------------
A B C D E/M/N
Debt
1998 1997 1996 Refinancings
Historical Blackstone Acquisitions Acquisitions Dispositions & Repayments
---------- ---------- ------------ ------------ ------------ ------------
REVENUES
<S> <C> <C> <C> <C> <C> <C>
Rental revenues(1)....................... $ -- $ -- $ -- $ -- $ -- $ --
Hotel revenues........................... 248 24 20 37 (5) --
Equity in earnings of affiliates......... 1 -- -- -- -- --
Other revenues........................... 3 -- -- -- -- --
--------- --------- ---------- ---------- ---------- -------
Total revenues........................... 252 24 20 37 (5) --
--------- --------- ---------- ---------- ---------- -------
OPERATING COSTS AND EXPENSES
Hotels................................... 151 23 10 14 (3) --
Other.................................... 10 -- -- -- -- --
--------- --------- ---------- ---------- ---------- -------
Total operating costs and expenses..... 161 23 10 14 (3) --
--------- --------- ---------- ---------- ---------- -------
OPERATING PROFIT............................ 91 1 10 23 (2) --
Minority interest........................... (11) -- (1) 2 (1) --
Corporate expenses.......................... (9) -- -- -- -- --
Interest expense............................ (63) (11) (3) (11) 1 (10)
Dividends on Convertible Preferred
Securities............................... (9) -- -- -- -- --
Interest income............................. 12 (3) -- (3) -- (3)
--------- --------- ---------- ---------- ---------- -------
Income (loss) before income taxes........... 11 (13) 6 11 (2) (13)
Benefit (provision) for income taxes........ (5) 5 (2) (4) -- 5
--------- --------- ---------- ---------- ---------- -------
Income (loss) before extraordinary items and
REIT Conversion expenses (2)............... $ 6 $ (8) $ 4 $ 7 $ (2) $ (8)
========= ========= ========== ========== ========== =======
<CAPTION>
Mergers and REIT Conversion Activities
------------------------------------------------------------------------------
F H I J K/G L
Mergers Earnings
Non-Controlled & Notes Private & Profits Income Tax
Subsidiary Issuance Partnerships Distribution(3) Lease Adjustment Pro Forma
---------- -------------- ------------ ---------------- ----- ---------- ---------
REVENUES
<S> <C> <C> <C> <C> <C> <C> <C>
Rental revenues(1)................... $ -- $ -- $ -- $ -- $ 249 $ -- $ 249
Hotel revenues....................... (37) 20 -- -- (307) -- --
Equity in earnings of affiliates..... 1 -- -- -- -- -- 2
Other revenues....................... (3) -- -- -- -- -- --
--------- -------- -------- ---------- -------- ---------- --------
Total revenues....................... (39) 20 -- -- (58) -- 251
--------- -------- -------- ---------- -------- ---------- --------
OPERATING COSTS AND EXPENSES
Hotels............................... (33) 12 1 -- (50) -- 125
Other................................ (7) -- -- -- -- -- 3
--------- -------- -------- ---------- -------- ---------- --------
Total operating costs and expenses. (40) 12 1 -- (50) -- 128
---------- -------- -------- -------- -------- ---------- --------
OPERATING PROFIT........................ 1 8 (1) -- (8) -- 123
Minority interest....................... 1 8 -- -- -- -- (2)
Corporate expenses...................... 1 -- -- -- -- -- (8)
Interest expense........................ (2) (10) -- -- -- -- (109)
Dividends on Convertible Preferred
Securities........................... -- -- -- -- -- -- (9)
Interest income......................... -- -- -- (3) 3 -- 3
--------- -------- -------- ---------- -------- ---------- --------
Income (loss) before income taxes....... 1 6 (1) (3) (5) --
Benefit (provision) for income taxes.... (1) (2) -- 1 2 1 --
--------- -------- -------- ---------- ----------- ---------- --------
Income (loss) before extraordinary
items and REIT Conversion
expenses (2)......................... $ -- $ 4 $ (1) $ (2) (3) $ 1 $ (2)
========= ======== ======== ========== =========== ========== ========
</TABLE>
See Notes to the Unaudited Pro Forma Statements of Operations.
F-72
<PAGE>
UNAUDITED PRO FORMA STATEMENT OF OPERATIONS
Fiscal Year 1997
100% Participation with Notes Issued
(in millions)
<TABLE>
<CAPTION>
Acquisitions, Dispositions and Other Activities
-------------------------------------------------------------------
A B C D E/M/N
Debt
Blackstone 1998 1997 1996 Refinancings
Historical Acquisition Acquisitions Acquisitions Dispositions & Repayments
---------- ----------- ------------ ------------ ------------ ------------
REVENUES
<S> <C> <C> <C> <C> <C> <C>
Rental revenues(1)......................... $ -- $ -- $ -- $ -- $ -- $ --
Hotel revenues............................. 1,093 148 76 89 (23) --
Equity in earnings of affiliates......... 5 -- -- -- -- --
Other revenues........................... 12 -- -- -- -- --
--------- --------- ---------- ---------- ---------- ----------
Total revenues......................... 1,110 148 76 89 (23) --
--------- --------- ---------- ---------- ---------- ----------
OPERATING COSTS AND EXPENSES
Hotels................................... 649 106 38 42 (10) --
Other.................................... 29 -- -- -- -- --
--------- --------- ---------- ---------- ---------- ----------
Total operating costs and expenses..... 678 106 38 42 (10) --
--------- --------- ---------- ---------- ---------- ----------
OPERATING PROFIT............................ 432 42 38 47 (13) --
Minority interest........................... (32) -- (4) 5 (1) --
Corporate expenses.......................... (45) -- -- -- -- --
Interest expense............................ (287) (48) (12) (13) 3 (27)
Dividends on Convertible Preferred
Securities.................................. (37) -- -- -- -- --
Interest income............................. 52 (12) (16) (10) -- (3)
--------- --------- ---------- ---------- ---------- ----------
Income (loss) before income taxes........... 83 (18) 6 29 (11) (30)
Benefit (provision) for income taxes........ (36) 7 (2) (12) 4 12
--------- --------- ---------- ---------- ---------- ----------
Income (loss) before extraordinary items
and REIT Conversion expenses(2)........... $ 47 $ (11) $ 4 $ 17 $ (7) $ (18)
========= ========= ========== ========== ========== ===========
<CAPTION>
Mergers and REIT Conversion Activities
---------------------------------------------------------------------------
F H I J K/G L
Mergers Earnings
Non-Controlled & Notes Private & Profits Income Tax
Subsidiary Issuance Partnerships Distribution(3) Lease Adjustment Pro Forma
-------------- -------- ------------ ------------ ----- ---------- ---------
REVENUES
<S> <C> <C> <C> <C> <C> <C> <C>
Rental revenues (1)..................... $ -- $ -- $ -- $ -- $ 1,041 $ -- $ 1,041
Hotel revenues.......................... (170) 74 -- -- (1,287) -- --
Equity in earnings of affiliates........ 16 -- -- -- -- -- 21
Other revenues.......................... (13) -- -- -- -- -- (1)
--------- -------- --------- -------- -------- -------- --------
Total revenues........................ (167) 74 -- -- (246) -- 1,061
--------- -------- --------- -------- -------- -------- --------
OPERATING COSTS AND EXPENSES
Hotels.................................. (145) 49 2 -- (211) -- 520
Other................................... (19) -- -- -- -- -- 10
--------- -------- --------- -------- -------- -------- --------
Total operating costs and expenses.... (164) 49 2 -- (211) -- 530
---------- -------- --------- -------- -------- -------- --------
OPERATING PROFIT........................... (3) 25 (2) -- (35) -- 531
Minority interest.......................... 5 17 1 -- -- -- (9)
Corporate expenses......................... 4 -- -- -- -- -- (41)
Interest expense........................... (8) (42) -- -- -- -- (434)
Dividends on Convertible Preferred
Securities.............................. -- -- -- -- -- -- (37)
Interest income............................ -- 1 -- (12) 14 -- 14
--------- -------- --------- -------- -------- -------- --------
Income (loss) before income taxes.......... (2) 1 (1) (12) (21) -- 24
Benefit (provision) for income taxes....... 2 -- -- 5 8 11 (1)
---------- -------- --------- -------- -------- --------- --------
Income (loss) before extraordinary items
and REIT Conversion expenses............ $ -- $ 1 $ (1) $ (7) $ (13) $ 11 $ 23
========== ======== ========= ======== ======== ========= ========
</TABLE>
See Notes to the Unaudited Pro Forma Statements of Operations.
F-73
<PAGE>
NOTES TO PRO FORMA STATEMENT OF OPERATIONS
Assuming 100% Participation with Notes Issued
A) Represents the adjustment to record the revenues, operating expenses,
interest expense, income taxes and to reduce interest income associated with the
acquisition of the equity and debt interests for the Blackstone Acquisition.
B) Represents the adjustment to record the revenues, operating expenses,
minority interest, interest expense, income taxes and to reduce interest income
associated with the 1998 acquisition, or purchase of controlling interests in
six full-service properties and the pending acquisition of one property.
C) Represents the adjustment to record the revenues, operating expenses,
minority interest, income taxes and to reduce interest income associated with
the 1997 acquisition, or purchase of controlling interests in, 18 full-service
properties.
D) Represents the adjustment to revenues, operating expenses, minority
interest, interest expense and income taxes associated with the sale of the New
York Marriott East Side and Napa Valley Marriott. This adjustment excludes the
non-recurring estimated gain on the sale of the hotels of $31 million, net of
taxes.
E) Represents the adjustment to reduce the interest expense associated with
the refinancing or payoff of mortgage debt for three full-service properties
(Marriott's Orlando World Center, the Philadelphia Marriott and the San
Francisco Marriott).
F) Represents the adjustments for revenues, operating expenses, minority
interest, interest expense, corporate expenses, interest income and income taxes
to deconsolidate the Non-Controlled Subsidiary and reflect the Operating
Partnership's share of income as equity in earnings of affiliates.
G) Represents the adjustment to reduce depreciation expense related to certain
furniture and equipment sold to the Non-Controlled Subsidiary, record interest
income earned on the 7%, $200 million in notes and reduce the lease payment to
the Operating Partnership from the Lessee.
H) Represents the adjustment to record the revenues, operating expenses,
minority interest, interest expense, interest income and income taxes associated
with the Mergers, including three Partnerships not previously consolidated by
the Operating Partnership. Interest expense reflects interest on various
mortgage notes and the estimated $236 million in 7% Notes issued in lieu of OP
Units.
I) Represents the adjustment to record additional depreciation expense and the
decrease in minority interest expense related to the purchase of the remaining
minority interest in the Private Partnerships.
J) Represents the adjustments to reduce interest income for the estimated $225
million cash payment of the earnings and profits distribution to shareholders of
Host. (3)
K) Represents the adjustment to remove hotel revenues and management fees and
record rental revenues associated with the leasing of certain hotel properties
to SLC and other lessees. (1)
L) Represents the adjustment to the income tax provision to reflect the REIT
Conversion.
M) Represents the adjustment to record interest expense for the $600 million
of senior notes issued in July 1997 and the related amortization of deferred
financing fees.
N) Represents the adjustment to record interest expense for the $500 million
line of credit obtained in June 1997, the commitment fee, the draw related to
the purchase of one full-service property and the related amortization of
deferred financing fees.
- --------------------
(1) Lease amounts reflect estimates as the leases are currently subject to
negotiation. The lease amounts included may not reflect the final terms
of the leases.
(2) The amount of REIT Conversion expenses to be incurred is not known at this
time and will be filed by amendment.
(3) The amount of the earnings and profits distribution is an estimate only,
and is subject to a number of contingencies and uncertainties at this time.
The amount of the earnings and profit distribution will be based upon Host's
accumulated earnings and profits for tax purposes, which could be affected
by a number of factors (including, for example, actual operating results
prior to REIT Conversion, extraordinary capital transactions, including
those in connection with the REIT Conversion, and any adjustment resulting
from routine ongoing audits of Host).
F-74
<PAGE>
UNAUDITED PRO FORMA STATEMENT OF CASH FLOWS
First Quarter 1998
100% Participation with Notes Issued
(in millions)
<TABLE>
<CAPTION>
Acquisitions, Dispositions and Other Activities
-----------------------------------------------
A C D
Blackstone 1998
Historical Acquisitions Acquisitions Dispositions
---------- ------------ ------------ ------------
<S> <C> <C> <C> <C>
OPERATING ACTIVITIES
Income before extraordinary items
and REIT Conversion expenses(2)......... $ 28 $ (2) $ 3 $ (2)
Adjustment to reconcile to cash
provided by operations:
Depreciation and amortization........... 54 15 3 --
Income taxes............................ 18 -- -- --
Equity (earnings) losses of affiliates.. (1) -- -- --
Changes in operating accounts............. (19) -- -- --
Other assets.............................. 18 -- -- --
------- ------- ------- -------
Cash provided by (used in) operations... 98 13 6 (2)
------- ------- ------- -------
INVESTING ACTIVITIES
Acquisitions.............................. (118) -- 118 --
Cash received from sale of assets......... 1 -- -- --
Capital expenditures...................... (61) (5) (2) 2
Purchases of short-term marketable
securities.............................. (53) -- -- --
Sales of short-term marketable
securities.............................. 246 -- -- --
Other..................................... 9 -- -- --
------- ------- ------- -------
Cash provided by (used in)
investing activities.................. 24 (5) 116 2
------- ------- ------- -------
FINANCING ACTIVITIES
Issuances of debt......................... 1 -- -- --
Scheduled principal repayments............ (6) -- -- --
Debt repayments........................... (1) -- 1 --
Transfers to Host Marriott................ (55) -- -- --
Other..................................... (16) -- -- --
------- ------- ------- -------
Cash provided by (used in) financing
activities............................ (77) -- 1 --
------- ------- ------- -------
INCREASE (DECREASE) IN CASH AND
CASH EQUIVALENTS........................ $ 45 $ 8 $ 123 $ --
======= ======= ======= =======
<CAPTION>
Mergers and REIT Conversion Activities
---------------------------------------------------------------------------
H I J K L/M N
Mergers Earnings Lease
Non-Controlled & Notes Private & Profits Conver- Tax
Subsidiary Issuance Partnerships Distribution(3) sion(1) Adjustment Pro Forma
---------- -------- ------ ------------- ---------- ---------- ---------
<S> <C> <C> <C> <C> <C> <C> <C>
OPERATING ACTIVITIES
Income before extraordinary items
and REIT Conversion expenses(2)........... $ -- $ 7 $ (1) $ (2) $ (5) $ 17 $ 43
Adjustment to reconcile to cash
provided by operations:
Depreciation and amortization........... (2) 6 1 -- (7) -- 70
Income taxes............................ -- -- -- -- -- -- 18
Equity (earnings) losses of affiliates.. -- -- -- -- -- -- (1)
Changes in operating accounts............. 1 4 -- -- -- -- (14)
Other assets.............................. 1 -- -- -- -- -- 19
-------- ------- ------- ------- ------- ------- -------
Cash provided by (used in) operations... -- 17 -- (2) (12) 17 135
-------- ------- ------- ------- ------- ------- -------
INVESTING ACTIVITIES
Acquisitions.............................. -- -- -- -- -- -- --
Cash received from sale of assets......... (1) -- -- -- -- -- --
Capital expenditures...................... 1 (3) -- -- -- -- (68)
Purchases of short-term marketable
securities.............................. -- -- -- -- -- -- (53)
Sales of short-term marketable
securities.............................. -- -- -- -- -- -- 246
Other..................................... -- -- -- -- -- -- 9
-------- ------- ------- ------- ------- ------- -------
Cash provided by (used in)
investing activities.................. -- (3) -- -- -- -- 134
-------- ------- ------- ------- ------- ------- -------
FINANCING ACTIVITIES
Issuances of debt......................... -- -- -- -- -- -- 1
Scheduled principal repayments............ -- (2) -- -- -- -- (8)
Debt repayments........................... -- -- -- -- -- -- --
Transfers to Host Marriott................ -- -- -- -- -- -- (55)
Other..................................... -- -- -- -- -- -- (16)
-------- ------- ------- ------- ------- ------- -------
Cash provided by (used in) financing
activities............................ -- (2) -- -- -- -- (78)
-------- ------- ------- ------- ------- ------- -------
INCREASE (DECREASE) IN CASH AND
CASH EQUIVALENTS........................ $ -- $ 12 $ -- $ (2) $ (12) $ 17 $ 191
======== ======= ======= ======= ======= ======= =======
</TABLE>
See Notes to the Unaudited Pro Forma Statements of Cash Flows.
F-75
<PAGE>
UNAUDITED PRO FORMA STATEMENT OF CASH FLOWS
Fiscal Year 1997
100% Participation with Notes Issued
(in millions)
<TABLE>
<CAPTION>
Acquisitions, Dispositions and Other Activities
--------------------------------------------------------------------------
A C B D E/F/G
Debt
Blackstone 1997 1998 Refinancing
Historical Acquisitions Acquisitions Acquisitions Dispositions & Repayment
---------- ------------ ------------ ------------ ------------ -----------
<S> <C> <C> <C> <C> <C>
OPERATING ACTIVITIES
Income before extraordinary items
and REIT Conversion expenses (2)........ $ 47 $ (11) $ 17 $ 4 $ (7) $ (18)
Adjustment to reconcile to cash
provided by operations:
Depreciation and amortization........... 231 65 17 20 (3) --
Income taxes............................ (20) -- -- -- -- --
Other................................... 73 -- -- -- (2) --
Changes in operating accounts............. 101 -- -- -- -- --
---------- ------------ ------------ ------------ ------------ ----------
Cash provided by (used in) operations.... 432 54 34 24 (12) (18)
---------- ------------ ------------ ------------ ------------ ----------
INVESTING ACTIVITIES
Acquisitions.............................. (359) -- 359 -- -- --
Cash received from sale of assets......... 51 -- -- -- -- --
Purchase of short-term marketable
securities.............................. (354) -- -- -- -- --
Capital expenditures...................... (158) (20) (13) (10) 4 --
Other..................................... 13 -- -- -- 1 --
---------- ------------ ------------ ------------ ------------ ----------
Cash provided by (used in)
investing activities.................. (807) (20) 346 (10) 5 --
---------- ------------ ------------ ------------ ------------ ----------
FINANCING ACTIVITIES
Issuances of debt......................... 857 -- -- -- -- (854)
Scheduled principal repayments............ (90) -- -- -- -- --
Debt prepayments.......................... (403) -- -- -- -- 403
Transfers to Host Marriott................ (221) -- -- -- -- --
Other..................................... 22 -- -- -- -- --
---------- ------------ ------------ ------------ ------------ ----------
Cash provided by (used in) financing
activities............................ 165 -- -- -- -- (451)
---------- ------------ ------------ ------------ ------------ ----------
INCREASE (DECREASE) IN CASH AND
CASH EQUIVALENTS........................ $ (210) $ 34 $ 380 $ 14 $ (7) $ (469)
========== ============ ============ ============ ============ ==========
<CAPTION>
Mergers and REIT Conversion Activities
---------------------------------------------------------------------------
H I J K L/M N
Mergers Earnings Lease
Non-Controlled & Notes Private & Profits Conver- Tax
Subsidiary Issuance Partnerships Distribution(3) sion (1) Adjustment Pro Forma
-------------- ------- ------------ ------------- ---------- ---------- ---------
<S> <C> <C> <C> <C> <C> <C> <C>
OPERATING ACTIVITIES
Income before extraordinary items
and REIT Conversion expenses (2)........ $ -- $ 1 $ (1) $ (7) $ (13) $ 11 $ 23
Adjustment to reconcile to cash
provided by operations:
Depreciation and amortization........... (8) 23 2 -- (29) -- 318
Income taxes............................ 2 -- -- -- -- -- (18)
Other................................... 1 -- -- -- -- -- 72
Changes in operating accounts............. 7 15 -- -- -- -- 123
----------- ------- ----------- ------------ --------- --------- ---------
Cash provided by (used in) operations.... 2 39 1 (7) (42) 11 518
----------- ------- ----------- ------------ --------- --------- ---------
INVESTING ACTIVITIES
Acquisitions.............................. -- -- -- -- -- -- --
Cash received from sale of assets......... (35) -- -- -- -- -- 16
Purchase of short-term marketable
securities.............................. -- -- -- -- -- -- (354)
Capital expenditures...................... 2 (11) -- -- -- -- (206)
Other..................................... 33 -- -- -- -- -- 47
----------- ------- ----------- ------------ --------- --------- ---------
Cash provided by (used in)
investing activities.................. -- (11) -- -- -- -- (497)
----------- ------- ----------- ------------ --------- --------- ---------
FINANCING ACTIVITIES
Issuances of debt......................... (3) -- -- -- -- -- --
Scheduled principal repayments............ -- (7) -- -- -- -- (97)
Debt prepayments.......................... -- -- -- -- -- -- --
Transfers to Host Marriott................ -- -- -- -- -- -- (221)
Other..................................... -- -- -- -- -- -- 22
----------- ------- ----------- ------------ --------- --------- ---------
Cash provided by (used in) financing
activities............................ (3) (7) -- -- -- -- (296)
----------- ------- ----------- ------------ --------- --------- ---------
INCREASE (DECREASE) IN CASH AND
CASH EQUIVALENTS........................ $ (1) $ 21 $ 1 $ (7) $ (42) $ 11 $ (275)
=========== ======= =========== ============ ========= ========= =========
</TABLE>
See Notes to the Unaudited Pro Forma Statements of Cash Flows.
F-76
<PAGE>
NOTES TO UNAUDITED CASH FLOW STATEMENTS
100% Participation with Notes Issued
A) Represents the adjustment to record the depreciation expense and estimated
capital expenditures for the Blackstone Acquisition.
B) Represents the adjustment to record depreciation expense and estimated
capital expenditures for the 1998 acquisition of, or purchase of controlling
interests in, six full-service properties and the pending acquisition of one
property.
C) Represents the adjustment to record depreciation expense and capital
expenditures for the 1997 acquisition of, or purchase of controlling interests
in, 18 full service properties. Cash flows from investing activities has also
been adjusted as if the period's historical acquisitions occurred immediately
prior to the period presented.
D) Represent the adjustment to record the decrease in depreciation expense,
capital expenditures and other investing activities for the sale of the New York
East Side Marriott and the Napa Valley Marriott.
E) Represents the adjustment to reflect the decrease in interest expense
associated with the refinancing or payoff of mortgage debt for three full-
service properties (Marriott Orlando World Center, the Philadelphia Marriott,
and the San Francisco Marriott). Cash from financing activities has also been
adjusted as if the periods historical prepayments and issuances of debt occurred
immediately prior to the period presented.
F) Represents the adjustment to reflect the increase interest in expense related
to the $500 million line of credit, including commitment fees and interest
expense on the $22 million draw for the purchase of one full-service property.
G) Represents the adjustment to record interest expense for the $600 million of
senior notes issued in July 1997. Cash from financing activities has also been
adjusted as if the issuance of the $600 million in senior notes occurred
immediately prior to the period presented.
H) Represents the adjustment to record the removal of depreciation, changes in
other assets and changes in other operating accounts as well as capital
expenditures and the sale of certain assets to reflect the deconsolidation of
the Non-Controlled Subsidiary.
I) Represents the adjustment to record depreciation expense and capital
expenditures related to the Merger, including the scheduled principal
amortization of notes.
J) Represents the adjustment to record depreciation expense related to the
acquisition of the Private Partnerships.
K) Represents the adjustment to reflect the decrease in interest income, net of
tax, as a result of the estimated $225 million earnings and profits
distribution.(3)
L) Represent the adjustment to revenues to reflect lease income and remove hotel
revenues and management fees.(1)
M) Represents the adjustment to reduce depreciation expense related to the sale
of certain furniture and equipment to the Non-Controlled Subsidiary.
N) Represents the adjustment to the income tax provision to reflect the REIT
conversion.
- ---------------
(1) Lease amounts reflect estimates as the leases are currently subject to
negotiation. The lease amounts included may not reflect the final terms of
the lease.
(2) The amount of REIT Conversion expenses to be incurred is not known at this
time and will be filed by amendment.
(3) The amount of the earnings and profits distribution is an estimate only,
and is subject to a number of contingencies and uncertainties at this time.
The amount of the earnings and profits distribution will be based upon
Host's accumulated earnings and profits for tax purposes, which could be
affected by a number of factors (including, for example, actual operating
results prior to REIT Conversion, extraordinary capital transactions,
including those in connection with the REIT Conversion, and any adjustment
resulting from routine ongoing audits of Host).
F-77
<PAGE>
QUAD=CENTER)
HOST MARRIOTT, L.P.
Supplement Dated __________ __, 1998 for
Prospectus/Consent Solicitation Statement Dated _________ __, 1998 for
Atlanta Marriott Marquis II Limited Partnership
On the terms described in the Prospectus/Consent Solicitation Statement
(the "Consent Solicitation"), dated ______ __, 1998, of which this Supplement
(the "Supplement") is a part, Host Marriott Corporation, a Delaware corporation
("Host"), has adopted a plan to reorganize its business operations so that it
will qualify as a real estate investment trust ("REIT"). As part of this
reorganization (the "REIT Conversion"), Host and its consolidated subsidiaries
will contribute their full-service hotel properties and certain other businesses
and assets to Host Marriott, L.P., a newly formed Delaware limited partnership
(the "Operating Partnership"), in exchange for units of limited partnership
interest in the Operating Partnership ("OP Units") and the assumption of certain
liabilities. The sole general partner of the Operating Partnership will be Host
Marriott Trust, the entity resulting from the conversion of Host from a Delaware
corporation to a Maryland REIT ("Host REIT"). The Operating Partnership and Host
REIT will operate together as an umbrella partnership REIT. Host REIT expects to
qualify as a REIT beginning with its first full taxable year after the closing
of the REIT Conversion, which Host REIT currently expects to be the year
beginning January 1, 1999.
Following the REIT Conversion and the Blackstone Acquisition (defined
below), the Operating Partnership and its subsidiaries initially will own
outright, or have controlling interests in, approximately 120 full-service
hotels operating primarily under the Marriott, Ritz-Carlton, Four Seasons,
Swissotel and Hyatt brand names (the "Hotels"). Concurrently with the REIT
Conversion, the Operating Partnership will acquire ownership of, or controlling
interests in, 12 hotels and a mortgage loan secured by a thirteenth hotel
controlled by The Blackstone Group and a series of funds controlled by
Blackstone Real Estate Partners (collectively, the "Blackstone Entities") in
exchange for OP Units, the assumption of liabilities and other consideration
(the "Blackstone Acquisition"). The Operating Partnership will be one of the
largest owners of full-service hotels in the United States.
As part of the REIT Conversion, the Operating Partnership is proposing
to acquire by merger (the "Mergers") Atlanta Marriott Marquis II Limited
Partnership, a Delaware limited partnership ("Atlanta Marquis" or the
"Partnership"), and up to seven other limited partnerships (the "Partnerships")
that own full-service hotels in which Host or its subsidiaries are general
partners. As more fully described in the Consent Solicitation, limited partners
of those Partnerships who participate in the Mergers will receive either OP
Units or, at their election, unsecured ___% Notes due December 15, 2005 issued
by the Operating Partnership ("Notes"), in exchange for their partnership
interests in such Partnerships (with respect to the Partnerships, those limited
partners of the Partnerships who are unaffiliated with Host are referred to
herein as the "Limited Partners," and with respect to Atlanta Marquis, the
"Atlanta Marquis Limited Partners").
The number of OP Units to be allocated to Atlanta Marquis will be based
upon (i) Atlanta Marquis' respective Exchange Value (as defined herein) and (ii)
the deemed value of an OP Unit at the time of the Merger, determined as
described herein. See "Determination of Exchange Values and Allocation of OP
Units." The principal amount of Notes that Atlanta Marquis Limited Partners may
elect to receive in exchange for the OP Units received in the Merger will be
based upon Atlanta Marquis' Note Election Amount (as defined herein). See
"Description of the Notes." The estimated Exchange Values set forth herein may
increase or decrease as a result of various adjustments, and will be finally
calculated shortly before the Closing Date. Pursuant to the Merger, Atlanta
Marquis Limited Partners will receive OP Units with a deemed value of $45,425
per Partnership Unit (as described herein), or if a Atlanta Marquis Limited
Partner elects, a Note in a principal amount of $27,255 per Partnership Unit.
In connection with the REIT Conversion, each outstanding share of Host
common stock will be converted into one common share of beneficial interest, par
value $.01 per share (a "Common Share"), of Host REIT. Following the closing of
the REIT Conversion, the Common Shares will be listed on the New York Stock
Exchange. Beginning one year after the Mergers, Limited Partners will have the
right to redeem their OP Units at anytime and receive, at the election of Host
REIT, either Common Shares on a one-for-one basis (subject to adjustment) or
cash in an amount equal to the market value of such shares (the "Unit Redemption
Right").
Because REITs are not permitted under current federal income tax law to
derive revenues directly from the operation of hotels, the Operating Partnership
will lease the Hotels to lessees (the "Lessees") that will operate the Hotels
under the existing management agreements and pay rent to the Operating
Partnership, as more fully described herein. The Lessees generally will be
indirect controlled subsidiaries of HMC Senior Communities, Inc., which
currently is a wholly owned subsidiary of Host ("SLC"), but which will become a
separate public company as part of the REIT Conversion when Host distributes the
common stock of SLC to its existing shareholders and the Blackstone Entities.
Shares of Host REIT and SLC will become separately traded securities and the
companies will operate independently. Initially, there may be a partial overlap
between the boards of Host REIT and SLC but this will be phased out over time.
There also will be a substantial overlap of shareholders of the two companies
initially, but this likely will diverge over time.
Atlanta Marquis Supp - 1
<PAGE>
Marriott Marquis Corporation (the "General Partner"), the general
partner of Atlanta Marquis, believes that the terms of the Merger provide
substantial benefits and are fair to the Atlanta Marquis Limited Partners and
recommends that all Atlanta Marquis Limited Partners vote FOR the Merger.
The effects of the Mergers may be different for Limited Partners of the
various Partnerships. This Supplement has been prepared to highlight for Atlanta
Marquis Limited Partners the specific risks, benefits, effects and fairness of
the Merger to them and to provide other information specific to Atlanta Marquis.
Supplements have also been prepared for each of the other Partnerships. This
Supplement, together with the supplements of the other Partnerships
(collectively, the "Supplements"), are part of the Consent Solicitation. Upon
receipt of a written request by a Limited Partner or his representative, so
designated in writing, the General Partner will send a copy of any Supplement
without charge. All requests for a copy of a Supplement should be directed to:
Investor Relations, 10400 Fernwood Road, Bethesda, Maryland 20817, telephone
number 301-380-2070 (between the hours of 9:00 a.m. and 4:00 p.m., eastern
time).
All cross-references refer to the Consent Solicitation unless stated
otherwise. Capitalized terms not defined herein shall have the meaning set forth
in the Consent Solicitation. The information contained herein, unless otherwise
indicated, assumes the REIT Conversion occurs with all Hotel Partnerships
participating and no Notes being issued (the "Full Participation Scenario").
Risk Factors
In deciding whether to approve the Merger, Atlanta Marquis Limited
Partners should consider certain risks and other factors. The General Partner
believes that Atlanta Marquis Limited Partners should particularly consider the
following, which should be read in conjunction with the information in the
Consent Solicitation under "Risk Factors" and "Federal Income Tax
Considerations:"
. Substantial Benefits to Related Parties. The Mergers will facilitate
consummation and enable Host to reap the full benefits of the REIT
Conversion and will result in an increase in Host REIT's Funds From
Operations per Common Share on a pro forma basis. By converting to a
REIT, Host expects to benefit from the advantages enjoyed by REITs in
raising capital and acquiring additional assets, participating in a
larger group of comparable companies and increasing its potential
base of shareholders. Also, Host will realize significant savings
through the substantial reduction of its future corporate-level
income taxes. To the extent that such anticipated benefits initially
are reflected in the value of Host's common stock before the Closing
Date, they will not be shared initially with the Limited Partners.
Host might be required to transfer its interests in certain
Partnerships that do not participate in a Merger, if any, to a Non-
Controlled Subsidiary, in which case Host's share of such
Partnerships' earnings would continue to be subject to corporate-
level income tax.
. Absence of Arm's Length Negotiations. No independent representative
was retained to negotiate on behalf of the Atlanta Marquis Limited
Partners or the other Limited Partners. Although the General Partner,
has obtained the Appraisal and the Fairness Opinion from AAA, AAA has
not negotiated with the General Partner or Host and has not
participated in establishing the terms of the Mergers. Consequently,
the terms and conditions of the Mergers may have been more favorable
to the Atlanta Marquis Limited Partners or the other Limited Partners
if such terms and conditions were the result of arm's length
negotiations.
. Other Conflicts of Interest. The Mergers, the REIT Conversion and the
recommendations of the General Partner involves the following
conflicts of interest because of the relationships among Host, the
Operating Partnership, the General Partner and SLC: (i) the General
Partners, which are all subsidiaries of Host (except for PHLP, of
which Host is the General Partner), must assess whether the terms of
the Mergers are fair and
Atlanta Marquis Supp - 2
<PAGE>
equitable to the Limited Partners of its Partnership without
regard to whether the Mergers and the REIT Conversion may benefit
Host, (ii) the terms of the Leases of the Hotels, including the
Participating Partnerships' Hotels, will be determined by Host,
which will distribute the common stock of SLC, the parent of the
Lessees, to its shareholders after such terms have been set, and
(iii) the terms of the Partnership Agreement, including provisions
which benefit Host REIT, have been determined by Host. Such
conflicts may result in decisions that do not fully reflect the
interests of all Limited Partners, including the Atlanta Marquis
Limited Partners.
. Valuation of SLC. The value of the SLC common stock distributed
to Host's shareholders and the Blackstone Entities will be one
factor used in determining the value of an OP Unit. Although
Host's Board of Directors will determine the value of the SLC
common stock in good faith and reliance in part upon the opinion
of an independent financial advisor, conflicts of interest still
exist. If the SLC common stock distributed to Host's shareholders
is undervalued by Host's Board of Directors, the deemed value of
an OP Unit for purposes of the Mergers may be higher than the
level at which the Host REIT Common Shares will trade following
the REIT Conversion and the Atlanta Marquis Limited Partners could
receive less than the full Exchange Value of their Partnership
Interests and Host REIT could receive an overall higher percentage
of the ownership of the Operating Partnership.
. Determination of Exchange Value. The deemed value of OP Units
that each Atlanta Marquis Limited Partner will receive (if such
Atlanta Marquis Limited Partner elects to retain OP Units rather
than receive a Note) will equal the Exchange Value of such Atlanta
Marquis Limited Partner's Partnership Interest. The Exchange Value
of Atlanta Marquis will be its Continuation Value, which is the
greatest of its Adjusted Appraised Value, Continuation Value and
Liquidation Value, each of which is determined according to a
different method of valuation and involves numerous estimates and
assumptions. There is no assurance that the Exchange Value of
Atlanta Marquis will equal the fair market value of the Hotel and
other assets contributed by Atlanta Marquis. Host REIT, on the
other hand, will receive a number of OP Units equal to the number
of shares of Host common stock outstanding on the Closing Date
(and, if Host has outstanding shares of preferred stock at the
time of the REIT Conversion, a corresponding number of preferred
partnership interests in the Operating Partnership), which should
fairly represent the market value of Host REIT but may not be
equal to the fair market or net asset value of the Hotels and
other assets that Host will contribute to the Operating
Partnership. See "Determination of Exchange Values and Allocation
of OP Units."
. Valuation of OP Units. The value of an OP Unit, for purposes of
the Mergers and the REIT Conversion, will be deemed to be equal to
the value of a share of Host common stock immediately prior to the
REIT Conversion minus the amount of cash and the estimated value
of the SLC common stock or other property to be distributed with
respect to each share of Host common stock in connection with the
REIT Conversion. There is no assurance that, following the REIT
Conversion, the value of the publicly traded Common Shares (and
therefore the value of the OP Units) will in fact equal or exceed
the deemed value of the OP Units used for purposes of the Mergers.
These factors could result in the Atlanta Marquis Limited Partners
receiving OP Units with an actual value that is less than either
the deemed value of the OP Units for purposes of the Mergers or
the fair market value of their Partnership Interests.
. Determination of the Value of the Notes. At the same time that he
votes on the Merger, each Atlanta Marquis Limited Partner also may
elect to receive at the time of the Merger, in exchange for OP
Units, an unsecured, seven-year Note with a principal amount equal
to the greater of (i) the Note Election Amount of his Partnership
Interest and (ii) 60% of the higher of Adjusted Appraised Value
and Continuation Value of his Partnership Interest, each of which
is based upon numerous assumptions and estimates. The deemed value
of the OP Units to be received by the Atlanta Marquis Limited
Partners will exceed the principal amount of the corresponding
Notes (because the Exchange Value is higher than the Note Election
Amount), and there is no assurance that the Note an Atlanta
Marquis Limited Partner receives will have a value equal to the
fair market value of the Atlanta Marquis Limited Partner's share
of the Hotel and other assets owned by Atlanta Marquis. There will
be no public market for the Notes. If the Notes are sold, they may
sell at prices substantially below their issuance price.
Noteholders are likely to receive the full principal amount of a
Note only if they hold the Note to maturity, which is December 15,
2005, or if the Operating Partnership repays the Notes prior to
maturity. Because the Notes are unsecured obligations of the
Operating Partnership, they will be effectively subordinated to
all secured debt of the Operating Partnership and all obligations
of both the Participating Partnerships and the Operating
Partnership's other subsidiaries. See "Description of the Notes."
As of March 27, 1998, on a pro
Atlanta Marquis Supp - 3
<PAGE>
forma basis assuming the Full Participation Scenario, the
Operating Partnership would have had aggregate consolidated debt
of approximately $4.6 billion to which the Notes were effectively
subordinated or which rank equally with such Notes.
. Fundamental Change in Nature of Investment; Potential
Underperformance. The Mergers and the REIT Conversion involve a
fundamental change in the nature of an Atlanta Marquis Limited
Partner's investment from holding an interest in Atlanta Marquis,
which has a fixed portfolio of one Hotel and distributes the cash
flow from the operation of such Hotel to the Atlanta Marquis
Limited Partners, to holding an interest in an operating real
estate company with a portfolio of approximately 120 Hotels that
collects and distributes to its limited partners rents received
from the Lessees (which will bear the risks and receive the direct
benefits of the Hotels' operations), has the ability to acquire
additional hotels, is able to reinvest proceeds from sales or
refinancings of existing Hotels in other hotels and has a publicly
traded general partner. In addition, each Atlanta Marquis Limited
Partner's investment will change from one that allows an Atlanta
Marquis Limited Partner to receive a return of capital in the form
of distributions from any net proceeds of a sale or refinancing of
Atlanta Marquis' assets to an investment in which an Atlanta
Marquis Limited Partner likely would realize a return of capital
only through the exercise of the Unit Redemption Right. Although
it is expected that the Atlanta Marquis Limited Partners will
receive added benefits from an investment in the Operating
Partnership, an Atlanta Marquis Limited Partner's share of the
liquidation proceeds, if any, from the sale of its Hotel could be
higher than the amount realized upon exercise of the Unit
Redemption Right (or payments on any Note received by an Atlanta
Marquis Limited Partner who elects to receive such Note). An
investment in the Operating Partnership may not outperform an
investment in Atlanta Marquis. See "Comparison of Ownership of
Partnership Interests, OP Units and Common Shares -Nature of
Investment."
. Exposure to Risks from Other Hotels. As a result of the Mergers,
Atlanta Marquis Limited Partners who elect to receive OP Units
will own interests in a much larger partnership with a broader
range of assets than Atlanta Marquis individually. A material
adverse change affecting the Operating Partnership's assets will
affect all Limited Partners regardless of whether a particular
Limited Partner previously was an investor in such affected
assets. Atlanta Marquis owns discrete assets, and the Mergers and
the REIT Conversion will significantly diversify the types and
geographic locations of the Hotels in which the Atlanta Marquis
Limited Partners will have interests. As a result, the Hotels
owned by the Operating Partnership may be affected differently by
economic and market conditions than the Hotel previously owned by
Atlanta Marquis.
. Atlanta Marquis Limited Partners Have No Cash Appraisal Rights.
Atlanta Marquis Limited Partners who vote against the Merger will
not have a right to receive cash based upon an appraisal of their
Partnership Interests.
. Uncertainties as to the Size and Leverage of the Operating
Partnership. Host is an existing operating company that regularly
issues and repays debt, acquires additional hotels and disposes of
existing hotels. Also, some or all of the Partnerships may elect
not to participate in a Merger. In that case, Host may contribute
its interests in such Partnerships to a Non-Controlled Subsidiary,
which is subject to corporate-level income taxation, rather than
the Operating Partnership. In addition, outside partners in
certain Private Partnerships may not consent to a lease of their
partnership's Hotel(s). Host also may repurchase outstanding
securities or issue new debt or equity securities prior to the
consummation of the Mergers and the REIT Conversion. For these
reasons, the Atlanta Marquis Limited Partners cannot know at the
time they vote on the Merger the exact size and amount of leverage
of the Operating Partnership.
. Other Uncertainties at the Time of Voting. There are several
other uncertainties at the time the Atlanta Marquis Limited
Partners must vote on the Merger, including (i) the exact Exchange
Value for Atlanta Marquis (which will be adjusted for changes in
lender and capital expenditure reserves, indebtedness, deferred
maintenance and other items prior to the Closing Date), (ii) the
deemed value of the OP Units for purposes of the Merger which,
together with the Exchange Value, will determine the number of OP
Units the Atlanta Marquis Limited Partners will receive and
(iii) the exact principal amount of the Notes that may be receive
in exchange for OP Units. For these reasons, the Atlanta Marquis
Limited Partners cannot know at the time they vote on the Merger
these important aspects of the Merger.
. Lack of Control over Hotel Operations. Due to current federal
income tax law restrictions on a REIT's ability to derive revenues
directly from the operation of a hotel, the Operating Partnership
will lease virtually all of its consolidated Hotels to the
Lessees, which will operate the Hotels by continuing to retain the
Managers pursuant to the Management Agreements. The Operating
Partnership will not operate the Hotels or participate in the
decisions affecting the daily operations of the Hotels. Although
the Operating Partnership's subsidiaries will
Atlanta Marquis Supp - 4
<PAGE>
have certain rights as lessors under the Leases (including control
over decisions relating to capital expenditures) and will remain
obligated under the Management Agreements, the Operating
Partnership will have only a limited ability to require the
Lessees or the Managers to operate or manage the Hotels in any
particular manner or to govern any particular aspect of their day-
to-day operation or management. Therefore, the Operating
Partnership will be dependent for its revenue upon the ability of
the Lessees and the Managers to operate and manage the Hotels.
. Expiration of Leases. The Leases will expire seven to ten years
after the Closing Date, and there can be no assurance that such
Leases will be renewed (or if renewed, will be renewed on terms as
favorable to the Operating Partnership). If the Leases are not
renewed, the Operating Partnership will be required to find other
lessees, which lessees must meet certain requirements set forth in
the Management Agreements. There can be no assurance that
satisfactory lessees could be found or as to the terms and
conditions on which the Operating Partnership would be able to
renew the Leases or enter into new leases with such lessees.
. Requisite Vote of Atlanta Marquis Limited Partners Binds All
Atlanta Marquis Limited Partners. For Atlanta Marquis, approval of
a Merger is by a majority of the Partnership Interests of Atlanta
Marquis that are eligible to be voted, as described in "Voting
Procedures -- Required Vote and Other Conditions." Such approval
will cause Atlanta Marquis to participate in the Merger and will
bind all Atlanta Marquis Limited Partners, including Atlanta
Marquis Limited Partners who voted against or abstained from
voting with respect to the Merger.
. Risks of Lodging Industry. The profitability of the Hotels is
subject to general economic conditions, the management abilities
of the Managers (primarily Marriott International), competition,
the desirability of particular locations and other factors
relating to the operation of the Hotels. The full-service segment
of the lodging industry, in which virtually all of the Hotels
operate, is highly competitive, and the Hotels generally operate
in geographical markets that contain numerous competitors. The
Hotels' success will be dependent, in large part, upon their
ability to compete in such areas as access, location, quality of
accommodations, room rate structure, the quality and scope of food
and beverage facilities and other services and amenities. The
lodging industry, including the Hotels (and thus the Operating
Partnership), may be adversely affected in the future by (i)
national and regional economic conditions, (ii) changes in travel
patterns, (iii) taxes and government regulations which influence
or determine wages, prices, interest rates, construction
procedures and costs, (iv) the availability of credit and (v)
other factors beyond the control of the Operating Partnership.
. Risks of Leverage. The Operating Partnership will have
substantial indebtedness. As of March 27, 1998, on a pro forma
basis assuming the Full Participation Scenario, the Operating
Partnership would have had outstanding indebtedness totaling $4.6
billion, which represents a 44% debt-to-total market
capitalization ratio on a pro forma basis at such date (based upon
a price per Common Share of Host REIT of $20.00). The Operating
Partnership's business is capital intensive, and it will have
significant capital requirements in the future. The Operating
Partnership's leverage level could affect its ability to (i)
obtain financing in the future, (ii) undertake refinancings on
terms and subject to conditions deemed acceptable by the Operating
Partnership, (iii) make distributions to partners, (iv) pursue its
acquisition strategy or (v) compete effectively or operate
successfully under adverse economic conditions.
. No Limitation on Debt. There are no limitations in Host REIT's or
the Operating Partnership's organizational documents which limit
the amount of indebtedness either may incur, although both the
Notes and the Operating Partnership's other debt instruments will
contain certain restrictions on the amount of indebtedness that
the Operating Partnership may incur.
. Rental Revenues from Hotels Subject to Rights of Lenders. In
accordance with the mortgage loan agreements with respect to
outstanding indebtedness of certain Hotel Partnerships, the rental
revenues received by such Hotel Partnerships under certain Leases
first will be used to satisfy the debt service on such outstanding
indebtedness and any cash flow remaining thereafter will be
available to satisfy other obligations of the Hotel Partnership
(including paying property taxes and insurance, funding the
required FF&E reserves for the Hotels and capital improvements)
and to make distributions to partners, including Host REIT.
. Ownership Limitations. No person may own, actually or
constructively (as determined under the applicable Code
provisions), (i) in excess of 9.8% of the number or value of
outstanding Common Shares of Host REIT or
Atlanta Marquis Supp - 5
<PAGE>
(ii) in excess of 4.9% of the OP Units (other than Host REIT and
The Blackstone Group), subject to waiver or modification by Host
REIT or the Operating Partnership, as the case may be, in certain
limited circumstances.
. Timing of REIT Conversion. If the REIT Conversion does not occur
in time for Host REIT to elect REIT status effective January 1,
1999, the effectiveness of Host REIT's election could be delayed
to January 1, 2000, which would result in Host REIT continuing to
pay corporate-level income taxes in 1999 and could cause the
Blackstone Acquisition not to be consummated.
. Effect of Possible Classification as a Publicly Traded
Partnership on Passive Losses. There is a significant possibility
that the Operating Partnership will be classified as a "publicly
traded partnership," in which event the Limited Partner would not
be able to use suspended passive activity losses from other
investments (including Atlanta Marquis) to offset income from the
Operating Partnership.
. Effect of Subsequent Events upon Recognition of Gain. Even though
the Atlanta Marquis Limited Partners (other than those who elect
to receive a Note in exchange for OP Units) generally are not
expected to recognize significant taxable gain at the time of the
Merger, there are a variety of events and transactions (including
the sale of the Hotel currently owned by Atlanta Marquis or the
reduction of indebtedness securing the Hotel) that could cause an
Atlanta Marquis Limited Partner to recognize all or a part of the
gain that otherwise has been deferred through the REIT Conversion.
See "Federal Income Tax Considerations -- Tax Treatment of Atlanta
Marquis Limited Partners Who Hold OP Units Following the Merger."
Certain Hotels (including the Blackstone Hotels) will be covered
by agreements with third parties which will restrict the Operating
Partnership's ability to dispose of those properties or refinance
their debt. If Atlanta Marquis elects to participate in the
Merger, the Operating Partnership will succeed to an existing
agreement that will impose such restrictions on the Atlanta
Marquis Hotel for a period of 11-1/2 years following the Closing
Date. As for the remaining initial properties, the partnership
agreement of the Operating Partnership, which is substantially in
the form attached hereto as Appendix A (the "Partnership
Agreement"), does not impose any restrictions on the Operating
Partnership's ability to dispose of the Hotels or to refinance
debt secured by the Hotels (but the Operating Partnership is
obligated to pay any taxes Host REIT incurs as a result of such
transactions). In addition, the Partnership Agreement expressly
provides that Host REIT, as general partner of the Operating
Partnership, is not required to take into account the tax
consequences of the limited partners in deciding whether to cause
the Operating Partnership to undertake specific transactions and
the limited partners have no right to approve or disapprove such
transactions. See "Description of OP Units -- Sales of Assets."
. Sale of Personal Property May Result in Gain to Atlanta Marquis
Limited Partners. In order to facilitate the participation of
Atlanta Marquis in the Merger without adversely affecting Host
REIT's qualification as a REIT, the Operating Partnership will
require, as part of the Merger, that Atlanta Marquis sell a
portion of the personal property associated with the Hotel owned
by Atlanta Marquis to a Non-Controlled Subsidiary. This sale would
be a taxable transaction and may result in an allocation of a
relatively modest amount of ordinary recapture income by Atlanta
Marquis to Atlanta Marquis Limited Partners. This income will be
allocated to each Atlanta Marquis Limited Partner in the same
proportion and to the same extent that such Atlanta Marquis
Limited Partner was allocated any deductions directly or
indirectly giving rise to the treatment of such gains as recapture
income. An Atlanta Marquis Limited Partner who receives such an
allocation of recapture income would not be entitled to any
special distribution from Atlanta Marquis in connection with the
sale of personal property.
. Election to Receive Notes. An Atlanta Marquis Limited Partner who
elects to receive a Note in connection with the Merger in exchange
for his OP Units will be treated as having made a taxable
disposition of his Partnership Interest. The Atlanta Marquis
Limited Partner will be eligible to defer only a small portion,
but not all, of that gain under the "installment sale" rules. A
Limited Partner with a "negative capital account" with respect to
his Partnership Interest who elects to receive a Note will
recognize "phantom income" in that amount at the time of the
Merger in any event. See "Federal Income Tax Considerations -- Tax
Treatment of Atlanta Marquis Limited Partners Who Exercise Their
Right to Make the Note Election."
. Failure of Host REIT to Qualify as a REIT for Tax Purposes.
Taxation of Host REIT as a corporation if it fails to qualify as a
REIT, and Host REIT's subsequent liability for federal, state and
local taxes on its income and property, would, among other things,
have the effect of reducing cash available for distribution to
Host REIT's shareholders and materially reducing the value of the
Common Shares and OP Units.
. Failure of the Operating Partnership to Qualify as a Partnership
for Tax Purposes. Taxation of the Operating Partnership as a
corporation if it fails to qualify as a partnership and the
Operating Partnership's subsequent liability for federal, state
and local income taxes, would, among other things, have the effect
of reducing cash available for distribution to holders of OP
Units, would cause Host REIT to fail to qualify as a REIT for tax
purposes and would cause the holders of OP Units to recognize
substantial taxable gain at the time the Operating Partnership
ceases to qualify as a partnership.
Atlanta Marquis Supp - 6
<PAGE>
. Change in Tax Laws. No assurance can be provided that new
legislation, Treasury Regulations, administrative interpretations
or court decisions will not significantly change the tax laws with
respect to Host REIT's qualification as a REIT or the federal
income tax consequences of such qualification.
Expected Benefits of the REIT Conversion
The General Partner believes that participating in the REIT
Conversion would likely be beneficial to the Atlanta Marquis Limited Partners
for the reasons set forth below. This information is qualified by and should be
read in conjunction with the information in the Consent Solicitation under
"Background and Reasons for the Mergers and the REIT Conversion -- Reasons for
the Mergers." These benefits, which should be viewed as alternatives to
continuing the business and operations of Atlanta Marquis, are expected to
include:
. Value of OP Units to be Received in the Merger. Atlanta Marquis
Limited Partners who elect to receive OP Units in the Merger will
receive OP Units with a deemed value of $45,425 per Partnership
Unit.
. Enhanced Liquidity of Investment. The REIT Conversion will offer
Atlanta Marquis Limited Partners significantly enhanced liquidity
with respect to their investments in Atlanta Marquis because,
after the expiration of the Initial Holding Period, Atlanta
Marquis Limited Partners will be able to exercise their Unit
Redemption Right at any time, subject to certain limited
exceptions. Host has approximately 204 million shares of common
stock outstanding and the closing price on the NYSE on May 28,
1998 was $19.4375 per share (reflecting a total common equity
market capitalization of approximately $4 billion). The exercise
of the Unit Redemption Right, however, generally would result in
recognition of taxable income or gain at that time.
. Public Market Valuation of Assets. The Partnership Units of
Atlanta Marquis currently trade at a discount to the net asset
value of Atlanta Marquis' assets. In contrast, the General Partner
believes that by exchanging interests in Atlanta Marquis, which is
a non-traded limited partnership, for interests in a publicly
traded real estate company focused primarily on a more diverse and
growing full-service hotel portfolio, the Atlanta Marquis Limited
Partners will have the opportunity to participate in the recent
trend of ownership of real estate through a publicly traded
entity, which, in many instances, has resulted in market
valuations of public real estate companies in excess of the
estimated net asset values of those companies. There can be no
assurance, however, that the Common Shares of Host REIT will trade
at a premium to the private market values of the Operating
Partnership's assets or that the relative pricing differential
will not change or be eliminated in the future. Also, the initial
benefit of Host's conversion to a REIT will not be shared by the
Atlanta Marquis Limited Partners if and to the extent that such
initial benefit is reflected in the market valuation of Host's
common stock prior to the REIT Conversion.
. Regular Quarterly Cash Distributions. The General Partner expects
that the Operating Partnership will make regular quarterly cash
distributions to holders of OP Units. The General Partner expects
that these distributions will be higher than the estimated 1998
cash distributions of Atlanta Marquis, and in any event, the
ability to receive distributions quarterly and in regular amounts
would be enhanced. For additional information regarding historical
and estimated future distributions for Atlanta Marquis and the
other Partnerships, see "Background and Reasons for the Mergers
and the REIT Conversion -- Reasons for the Mergers."
. Substantial Tax Deferral. The General Partner expects that
Atlanta Marquis Limited Partners who do not elect to receive a
Note in exchange for OP Units generally should be able to obtain
the benefits of the Merger while continuing to defer recognition
for federal income tax purposes of at least a substantial portion,
if not all, of the gain with respect to their Partnership
Interests that otherwise would be recognized in the event of a
liquidation of Atlanta Marquis or a sale or other disposition of
its assets in a taxable transaction (although Atlanta Marquis
Limited Partners may recognize a relatively modest amount of
ordinary income as the result of required sales of personal
property to a Non-Controlled Subsidiary in order to facilitate the
REIT's qualification as a REIT). Thereafter, such Atlanta Marquis
Limited Partners generally should be able to defer at least a
substantial portion of such built-in gain until they elect to
exercise their Unit Redemption Right or the Hotel currently owned
indirectly by Atlanta Marquis is sold or otherwise disposed of in
a taxable transaction by the Operating Partnership
Atlanta Marquis Supp - 7
<PAGE>
or the debt now secured by the Hotel is repaid, prepaid or
substantially reduced. If Atlanta Marquis participates in the
Mergers, the Operating Partnership will succeed to an existing
agreement that will restrict its ability to dispose of the Hotel
owned indirectly by Atlanta Marquis or to refinance the debt
secured by such Hotel for approximately 11 1/2 years beyond the
consummation of the Mergers. The federal income tax consequences
of the Merger are highly complex and, with respect to each Atlanta
Marquis Limited Partner, are dependent upon many variables,
including the particular circumstances of such Atlanta Marquis
Limited Partner. See "Federal Income Tax Considerations -- Tax
Consequences of the Merger." Each Atlanta Marquis Limited Partner
is urged to consult with his own tax advisors as to the
consequences of the Merger in light of his particular
circumstances.
. Risk Diversification. Participation in the Merger, as well as
future hotel acquisitions by the Operating Partnership, will
reduce the dependence of Atlanta Marquis Limited Partners upon the
performance of, and the exposure to the risks associated with,
Atlanta Marquis' Hotel and spread such risk over a broader and
more varied portfolio, including more diverse geographic locations
and multiple brands. See "Business and Properties -- Business
Objectives."
. Reduction in Leverage and Interest Costs. It is expected that the
Operating Partnership will have a significantly lower leverage to
value ratio than Atlanta Marquis currently, which has a leverage
ratio of 71% (calculated as a percentage of Appraised Value)
resulting in significant interest and debt service savings and
greater financial stability.
. Growth Potential. The General Partner believes that the Atlanta
Marquis Limited Partners, by owning interests in a publicly
traded real estate company focused primarily on a more diverse
and growing upscale and luxury full-service hotel portfolio, will
be able to participate in growth opportunities that would not
otherwise be available to them.
. Greater Access to Capital. With publicly traded equity
securities, a larger base of assets and a substantially greater
equity value than Atlanta Marquis individually, Host REIT
expects to have greater access to the capital necessary to fund
the Operating Partnership's operations and to consummate
acquisitions on more attractive terms than would be available to
Atlanta Marquis individually. This greater access to capital
should provide greater financial stability to the Operating
Partnership and reduce the level of risk associated with
refinancing existing loans upon maturity, as compared to Atlanta
Marquis individually.
DETERMINATION OF EXCHANGE VALUE OF ATLANTA MARQUIS AND
ALLOCATION OF OP UNITS
General. The Exchange Value of Atlanta Marquis will be equal to the
greatest of its Adjusted Appraised Value, Continuation Value and Liquidation
Value, each of which has been determined as follows:
. Adjusted Appraised Value. The General Partner has retained AAA to
determine the market value of the Hotel as of March 1, 1998 (the
"Appraised Value"). The "Adjusted Appraised Value" of Atlanta Marquis
equals the Appraised Value of its Hotels, adjusted as of the Final
Valuation Date for lender reserves, capital expenditure reserves,
existing indebtedness (including a "mark to market" adjustment to reflect
the market value of such indebtedness), certain deferred maintenance
costs, deferred management fees and transfer and recordation taxes and
fees.
. Continuation Value. The "Continuation Value" of Atlanta Marquis
represents AAA's estimate, as adopted by the General Partner, of the
discounted present value, as of January 1, 1998, of the Atlanta Marquis
limited partners' share of estimated future cash distributions and
estimated net sales proceeds (plus lender reserves), assuming that
Atlanta Marquis continues as an operating business for twelve years and
its assets are sold on December 31, 2009 for their then estimated market
value.
. Liquidation Value. The "Liquidation Value" of Atlanta Marquis represents
the General Partner's estimate of the net proceeds to Atlanta Marquis
limited partners resulting from the assumed sale as of December 31, 1998
of the Hotel of Atlanta Marquis, at its Adjusted Appraised Value (after
eliminating any "mark to market" adjustment and adding back the deduction
for transfer taxes and fees, if any, made in deriving the Adjusted
Appraised Value), less (i) estimated liquidation costs, expenses and
contingencies equal to 2.5% of Appraised Value and (ii) prepayment
penalties or defeasance costs, as applicable.
Final determination of the Exchange Value of Atlanta Marquis will be made
as of the end of the four week accounting period ending at least 20 days prior
to the Closing Date (the "Final Valuation Date") and will be equal to the
greatest of Adjusted Appraised Value, Continuation Value and Liquidation Value
as of such date. Adjusted Appraised Value, Continuation Value and Liquidation
Value will be adjusted as of the Final Valuation Date (i) to reflect the amount
of lender and capital expenditure reserves and the amount of deferred management
fees as of such date, (ii) to increase the Adjusted Appraised Value by any
amounts actually expended by Atlanta Marquis after the Initial Valuation Date to
perform deferred maintenance previously subtracted in determining the estimated
Adjusted Appraised Value of Atlanta Marquis and (iii) to reflect any changes in
Atlanta Marquis' other reserves, such as for litigation expenses and
indemnification costs and any revised estimates of transfer and recordation
taxes and fees.
Atlanta Marquis Supp - 8
<PAGE>
Appraised Value. Atlanta Marquis' Hotel was appraised as of March 1, 1998
by AAA, an independent, nationally recognized hotel valuation and financial
advisory firm experienced in the appraisals of lodging properties such as
Atlanta Marquis' Hotel. The appraisal (the "Appraisal") was reviewed by an MAI
appraiser and certified by such MAI appraiser as having been prepared in
accordance with the requirements of the Standards of Professional Practice of
the Appraisal Institute and the Uniform Standards of Professional Appraisal
Practice of the Appraisal Foundation.
The purpose of the Appraisal is to provide an estimate of the "Market
Value" of the Hotel. "Market Value" means the most probable price which a
property should bring in a competitive and open market under all conditions
requisite to a fair sale, the buyer and seller each acting prudently and
knowledgeably and assuming the price is not affected by undue stimuli. Implicit
in this definition is the consummation of a sale as of a specified date and the
passing of title from seller to buyer under conditions whereby: (i) the buyer
and seller are equally motivated; (ii) both parties are well informed or well
advised, and each is acting in what he considers his own best interest; (iii) a
reasonable time frame is allowed for exposure in the open market; (iv) payment
is made in terms of cash in U.S. dollars or in terms of financial arrangements
comparable thereto and (v) the price represents the normal consideration for the
property sold unaffected by special or creative financing or sales concessions
granted by anyone associated with the sale. AAA made site visits at all of
Atlanta Marquis' Hotels for purposes of the Appraisals.
In preparing the Appraisals, AAA relied primarily on the income
capitalization method of valuation, and then compared the value estimated by
this method with recent sales of comparable properties, as a check on the
reasonableness of the value determined through the income capitalization method.
AAA employed the following procedures for determining the Appraised Value of the
Hotel:
. Historical 1997 and Projected Year's Earnings. AAA reviewed the historical
1997 net operating income (i.e., income before interest, taxes, depreciation
and amortization) ("NOI") prior to incentive management fees and certain
capital expenditures for the Hotel. AAA also prepared a projection of the net
operating income prior to incentive management fees and certain capital
expenditures for the Hotel for the twelve month period ending February 28,
1999 (the "Projected Year"), using historical financial information for the
Hotel, budget information, a survey with the manager of the Hotel addressing
the physical condition of the Hotel, local market conditions (including
business mix, demand generators, future trends and predictability of
business), changes in the competitive environment, comparison with direct
competitors of the Hotel and risk factors relating to the Hotel. The resulting
gross margin (ratio of total revenues to NOI prior to incentive management
fees) was checked against AAA's database of the gross margins for similar
hotels for reasonableness.
. Impact of Incentive Management Fees. AAA estimated a normalized annual amount
of incentive management fees payable under the applicable management agreement
and subtracted this amount from the NOI prior to incentive management fees and
certain capital expenditures for 1997 and the Projected Year.
. Impact of Owner Funded Capital Expenditures. AAA estimated normalized annual
amounts of owner funded capital expenditures (over and above the FF&E reserve)
based in part on projected owner funded capital expenditures estimated in the
Engineering Study, including in the case of Atlanta Marquis, certain
identified 1998 capital expenditures for which reserves have been set aside.
The normalized amounts were then subtracted from the NOI prior to owner funded
capital expenditures for 1997 and the Projected Year.
. Capitalization of Adjusted NOI. AAA then capitalized the amount resulting from
the foregoing adjustments ("Adjusted NOI") for 1997 and the Projected Year by
dividing such amounts by capitalization rates that AAA determined to be
appropriate. A capitalization rate represents the relationship between net
operating income and sales prices of income producing property. AAA selected
the capitalization rates based upon its review of current published surveys
reflecting the opinions of investors and participants such as REITs, hotel
acquisition/management companies and pension funds, lenders, brokers and
consultants as to current capitalization rates, and its own database of
capitalization rates reflected in recent transactions, adjusted for factors
specific to the individual Hotel, such as location, physical condition,
reserve policies, local market volatility and competition, guest mix,
renovation influences and other income characteristics. AAA used separate
capitalization rates that it deemed appropriate to capitalize 1997 historical
Adjusted NOI and estimated Projected Year's Adjusted NOI. AAA then estimated
the value of the Hotel based upon the of the values estimated by capitalizing
1997 and Projected Year's Adjusted NOI and its professional judgment. The
following table sets forth the effective capitalization rates for 1997 and
Projected Year's Adjusted NOI resulting from AAA's estimated Appraised Values
of Atlanta Marquis' Hotel.
RESULTING EFFECTIVE CAPITALIZATION RATES FOR APPRAISALS OF
ATLANTA MARQUIS' HOTEL
PROJECTED YEAR (ENDING
1997 FEBRUARY 28, 1999)
---- ----------------------
9.4% 9.4%
The resulting Appraised Value of Atlanta Marquis' Hotels, as estimated by
AAA, is $255,000,000.
. Comparison with Comparable Sales. AAA checked the Appraised Value of the Hotel
derived by the foregoing procedures against its database of comparable sale
transactions for reasonableness.
The Appraised Value assumes all contractual provisions for FF&E reserves
are adequate and have not been reduced to reflect deferred maintenance or
environmental remediation costs with respect to Atlanta Marquis' Hotels (but
estimated deferred maintenance costs have been deducted in estimating the
Adjusted Appraised Value of the Atlanta Marquis' Hotel). The Appraised Value
did not take into account the costs that might be incurred in selling a Hotel
(but estimated costs for transfer and recordation taxes and fees have been
deducted in estimating the Adjusted Appraised Value of the Hotel).
The Appraisals are not guarantees of present or future values and no
assurance can be given as to the actual value of Atlanta Marquis' Hotel. The
Appraisals should be read in conjunction with other information, such as, but
not limited to, the audited financial statements of Atlanta Marquis.
Atlanta Marquis Supp - 9
<PAGE>
The Appraised Value, and the assumptions underlying the projections on
which the Appraised Value is based, are contingent upon a series of future
events, the outcomes of which are not necessarily within the Operating
Partnership's control and cannot be determined at this time. There can be no
assurance that another appraiser would not have arrived at a different result.
Some of the assumptions inevitably will not materialize, and unanticipated
events and circumstances will occur subsequent to the date of the Appraisal.
Furthermore, the actual results achieved from Atlanta Marquis' Hotel will vary
from the results projected in the Appraisal and the variations may be material.
Adjusted Appraised Value. The Adjusted Appraised Value of Atlanta Marquis
was determined by making various adjustments to the Appraised Value of the
Atlanta Marquis' Hotel, as described below.
. Lender Reserves. Atlanta Marquis' debt service reserves are required to be
held by third-party lenders. The amount of these lender reserves as of the
Initial Valuation Date was added to the Appraised Values of these Hotels. A
final determination of the lender reserves of Atlanta Marquis will be made on
the Final Valuation Date and any changes in such reserves will be reflected in
the Adjusted Appraised Value.
. 1998 Capital Expenditure Reserves. For Atlanta Marquis, an amount equal to the
capital expenditure reserves which were set aside as of March 1, 1998 for
various identified capital improvements in 1998 (which amounts resulted in
reductions in the Appraised Value as described above) was added back to the
Appraised Value.
. Mortgage and Other Debt. The estimated principal balance and accrued interest
as of the Closing Date (assumed to be December 31, 1998) of all mortgage and
other debt of Atlanta Marquis has been subtracted from the Appraised Value.
. Mark to Market Adjustments. The third-party loans of the Partnerships have
various interest rates and terms to maturity. In order to reflect the fair
market value of the third-party loans of Atlanta Marquis, the estimated
Adjusted Appraised Value for Atlanta Marquis has been increased or decreased
to "mark to market" the interest rate for such loans. This adjustment has been
estimated by comparing the interest cost using the applicable interest rates
on existing third-party loans over their remaining term to the interest cost
using the interest rate that the Operating Partnership believes it would be
able to obtain for unsecured debt in the market as of the Final Valuation Date
(which would have been 8.0% per annum based on a 225 basis point (2.25
percent) spread over the yield on seven-year U.S. Treasury securities as of
May 8, 1998). The mark to market adjustment for the loan was calculated by
determining the difference between the present values, as of December 31,
1998, of the interest payments over the remaining term of the loan from
January 1, 1999 to maturity using the actual interest rate as the discount
rate as compared to using the assumed market rate as the discount rate.
. Deferred Management Fees. The amount of deferred management fees estimated to
be payable under the Management Agreement(s) of Atlanta Marquis as of December
31, 1998 have been subtracted from the Appraised Value. The amount of such
deferred management fees will be recalculated as of the Final Valuation Date.
. Deferred Maintenance Costs. The estimated cost to complete any deferred
maintenance items identified in the Engineering Study relating to the Hotel of
Atlanta Marquis have been subtracted from the Appraised Value. The adjustments
for this item will be reduced at the Final Valuation Date to reflect amounts
expended after the Initial Valuation Date to perform such deferred
maintenance. No adjustments have been made for previously budgeted capital
expenditures or deferred maintenance costs estimated in the Engineering Study
that are reflected in the cash flow projections used for purposes of
estimating Appraised Values.
. Transfer Taxes and Fees. The estimated transfer and recordation taxes and fees
required to be paid by Atlanta Marquis in connection with the Merger have been
subtracted from the Appraised Value. The actual transfer and recordation taxes
and fees will be paid by the Operating Partnership as part of the Merger
Expenses.
The following table sets forth the adjustments to the aggregate Appraised
Value of Atlanta Marquis' Hotel made to derive the estimated Adjusted Appraised
Value for Atlanta Marquis as of the Initial Valuation Date.
CALCULATION OF ESTIMATED ADJUSTED APPRAISED VALUE FOR ATLANTA MARQUIS
AS OF THE INITIAL VALUATION DATE
(IN THOUSANDS, EXCEPT PER PARTNERSHIP UNIT AMOUNT)
Appraised Value $ 255,000
Lender reserves 3,600
Capital expenditure reserve 16,750
Mortgage debt (162,047)
Other debt (20,134)
Mark to market adjustment 4,693
Deferred maintenance costs (607)
Estimated Adjusted
Appraised Value $ 97,255
=========
Limited partners' share $ 22,255
Per Partnership Unit $ 41,991
Continuation Value. AAA estimated the Continuation Value of Atlanta Marquis
using the following methodology:
. Estimated Future Cash Distributions. AAA prepared estimates of future
partnership cash flow for Atlanta Marquis for the 12-year period from
January 1, 1998 through December 31, 2009 based upon the estimated 1998
NOI before incentive management fees used in the Appraisals and for each
subsequent year applying an assumed annual stabilized growth rate (as
shown in the table below) developed by AAA for this analysis. For each
year in the projection period, AAA estimated the amount of cash available
for distribution to Atlanta Marquis' limited partners after payment of
all management fees, debt service, owner funded capital expenditures
based on the Engineering Study and other partnership expenses and after
application of the applicable partnership agreement provisions. AAA
assumed that Atlanta Marquis' FF&E reserve was adequate and understood
that Host determined that there were no reserve shortfalls or surpluses.
. Determination of Residual Value. To estimate the residual value of the
Atlanta Marquis limited partners' interest in Atlanta Marquis at the end
of the 12-year period, AAA assumed that the Atlanta Marquis Hotel(s)
would be sold as of December 31, 2009 at its then market value. AAA
estimated the market value of the Hotel as of such date by applying an
exit capitalization rate that it deemed appropriate, using the factors
described above in connection with the "-- Appraised Value," which is set
forth in the table below, to the estimated Adjusted NOI for 2009
(estimated as described above). AAA then subtracted estimated sales costs
of 2.0% of the estimated market value, added lender reserves, and
subtracted the estimated outstanding principal balance of debt as of
December 31, 2009 and deferred management fees to arrive at net sales
proceeds available for distribution to partners. AAA then determined what
portion of such estimated net sales proceeds would be distributable to
Atlanta Marquis' limited partners under the various partnership and debt
agreements.
. Discounting Distributions to Present Value. As a final step, AAA
discounted the estimated future cash distributions to Atlanta Marquis'
limited partners from operations and estimated net sales proceeds to
their present value as of January 1, 1998, using a discount rate of 20%
per annum. AAA believes that this discount rate reflects the return on
investment that investors expect from leveraged investments of this
nature.
Atlanta Marquis Supp - 10
<PAGE>
The growth rate and exit capitalization rate used to determine the
estimated Continuation Value for Atlanta Marquis are as set forth below:
GROWTH RATES, EXIT CAPITALIZATION RATES
AND ESTIMATED CONTINUATION VALUE FOR ATLANTA MARQUIS
ESTIMATED
CONTINUATION VALUE
GROWTH RATE EXIT CAPITALIZATION RATE (2009) (PER PARTNERSHIP UNIT)
----------- ------------------------------- ----------------------
4.40% 9.80% $45,425
Liquidation Value. The Liquidation Value of Atlanta Marquis was estimated
by the General Partner and represents the estimated value of Atlanta Marquis if
all of its assets were sold as of December 31, 1998. Such value was based upon
the Adjusted Appraised Value of Atlanta Marquis, with the following adjustments:
(i) the "mark to market" adjustment used to estimate the Adjusted Appraised
Value was eliminated and instead prepayment or defeasance costs that would be
payable under existing debt agreements (regardless of whether the debt in fact
can be prepaid on December 31, 1998) were deducted from the Appraised Value; and
(ii) the deduction for transfer and recordation taxes used to estimate the
Adjusted Appraised Value was eliminated and instead an amount equal 2.5% of the
Appraised Value of Atlanta Marquis's Hotel was subtracted from the Appraised
Value for estimated liquidation costs, expenses and contingencies. The General
Partner then determined the portion of the estimated Liquidation Value that
would be distributable to Atlanta Marquis' limited partners under the terms of
the partnership agreement and other contractual arrangements.
The following table sets forth the adjustments made to the Adjusted
Appraised Value to estimate the Liquidation Value of Atlanta Marquis as of the
Initial Valuation Date:
CALCULATION OF ESTIMATED LIQUIDATION VALUE OF ATLANTA MARQUIS
AS OF THE INITIAL VALUATION DATE
(IN THOUSANDS, EXCEPT PER PARTNERSHIP UNIT AMOUNT)
Appraised Value $ 255,000
Lender reserves 3,600
Capital expenditure reserve 16,750
Mortgage debt (162,047)
Other debt (20,134)
Prepayment/defeasance costs (10,972)
Deferred maintenance costs (607)
Sales costs (6,375)
Estimated Liquidation Value
$ 75,215
=========
Limited Partners' Share 215
Per Partnership Unit $ 406
Estimated Exchange Value. The following table sets forth the estimated
Exchange Value of Atlanta Marquis (based upon the Appraised Values of Atlanta
Marquis' Hotels as of March 1, 1998 and the estimated adjustments described
above) and the estimated Note Election Amount for Atlanta Marquis, all on a per
Partnership Unit basis. The estimated Exchange Value for Atlanta Marquis (which
will be received by each Atlanta Marquis Limited Partner retaining OP Units in
the Merger) is equal to its estimated Continuation Value. The estimated Note
Election Amount for Atlanta Marquis (which will be received by Atlanta Marquis
Limited Partners electing to receive Notes in exchange for OP Units) is equal
to 60% of the Exchange Value for Atlanta Marquis. The estimated values set
forth below may increase or decrease as a result of various adjustments, which
will be finally calculated as of the Final Valuation Date but will not change as
a result of less than all of the Partnerships participating in the Mergers.
ESTIMATED EXCHANGE VALUE OF ATLANTA MARQUIS
PER PARTNERSHIP UNIT(1)
ESTIMATED ESTIMATED ESTIMATED ESTIMATED ESTIMATED
ADJUSTED APPRAISED CONTINUATION LIQUIDATION EXCHANGE NOTE ELECTION
VALUE VALUE VALUE VALUE (2) AMOUNT(3)
- ------------------ ------------ ----------- ---------- --------------
$ 41,991 $45,425 $406 $45,425 $27,255
_________________
(1) A Partnership Unit in Atlanta Marquis represents an original investment of
$100,000.
(2) The estimated Exchange Value is equal to the greatest of estimated Adjusted
Appraised Value, estimated Continuation Value and estimated Liquidation
Value.
(3) The principal amount of Notes is equal to the greater of (i) the
Liquidation Value or (ii) 60% of the Exchange Value (the "Note Election
Amount").
Valuation of OP Units Allocated to Atlanta Marquis' Limited Partners. Each
Atlanta Marquis Limited Partner will receive OP Units with a deemed value equal
to the Exchange Value of such Atlanta Marquis Limited Partner's Partnership
Interests. The value of an OP Unit for this purpose will be deemed to be equal
to (i) the average of the closing price of shares of Host common stock on the
NYSE for the 10 trading days ending on the third trading day prior to the record
date for the distribution of SLC common stock to Host shareholders minus (ii)
the amount of cash and the estimated value, as determined by Host's Board of
Directors in good faith and in reliance in part upon an opinion of an
independent financial advisor, of the SLC common stock or other property to be
distributed with respect to each share of Host common stock (currently estimated
to aggregate approximately $___ - $____ per share) in connection with the REIT
Conversion. The closing price per share of Host common stock on May 28, 1998
was $19.4375.
Atlanta Marquis Limited Partners who receive OP Units will receive cash
distributions from Atlanta Marquis for all of 1998 and, if the Merger does not
occur in 1998, any portion of 1999 prior to the Merger for which period they do
not receive a cash distribution from the Operating Partnership.
No fractional OP Units will be issued. Fractional amounts less than or
equal to 0.50 of an OP Unit will be rounded down to the next whole number and
fractional amounts greater than 0.50 will be rounded up to the next whole number
of OP Units.
Atlanta Marquis Supp - 11
<PAGE>
Cash Distributions
Historical Cash Distributions Paid by Atlanta Marquis. The following
table sets forth the distributions paid to Atlanta Marquis Limited Partners (per
Partnership Unit) for the periods indicated. The information below should be
read in conjunction with the information in this Supplement under the caption
"Selected Financial Data."
Historical Cash Distributions Paid by Atlanta Marquis
(Per Partnership Unit(1))
<TABLE>
<CAPTION>
First Quarter Fiscal Year
----------------------------------------------------
1998 1997 1996 1995 1994 1993
---- ---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C> <C>
From net income.............................. $ -- $ -- $ 1,530 $ 4,385 $ 3,528 $ 2,983
Representing return of capital/(2)/.......... 4,996 -- -- -- -- --
Payments due to reallocation of
losses/(3)/................................ -- 284 -- -- 844 --
-------- ------- ------ ------ ------ ------
Total............................... $ 4,996 $ 284 $ 1,530 $ 4,385 $ 4,372 $ 2,983
======== ======= ====== ====== ====== ======
</TABLE>
- -----------
(1) A Partnership Unit represents a $100,000 original investment in Atlanta
Marquis.
(2) Computed as all distributions in excess of distributions from
operating cash flow.
(3) Aggregate amount over several years paid to Limited Partners from sources
other than Atlanta Marquis cash flow.
Compensation and Distributions to the General Partner. Under Atlanta
Marquis' partnership agreement, the General Partner does not receive fees or
compensation in connection with managing the affairs of Atlanta Marquis but the
General Partner and its affiliates are reimbursed for certain costs and expenses
incurred on behalf of Atlanta Marquis. The following information has been
prepared to compare the amount of reimbursements paid and cash distributions
made by Atlanta Marquis to the General Partner and its affiliates to the amounts
that would have been paid if the reimbursement and distribution structure which
will be in effect after the REIT Conversion had been in effect for the periods
presented.
Following the REIT Conversion, Host REIT will be operated as a
self-administered REIT and as a result no reimbursements or other compensation
will be received by the General Partner.
During the First Quarter 1998 and fiscal years 1997, 1996 and 1995
amounts actually paid by Atlanta Marquis to the General Partner are shown below
under "Historical" and the estimated amounts that would have been paid had the
REIT Conversion been in effect for the periods presented (assuming the Full
Participation Scenario) are shown under "Pro Forma."
Historical and Pro Forma Reimbursements and Distributions
to the General Partner and its Affiliates
(in thousands)
<TABLE>
<CAPTION>
First Quarter Fiscal Year
-------------------------------------------------------------
1998 1997 1996 1995
---- ---- ---- ----
<S> <C> <C> <C> <C>
Historical
Reimbursements $ 330 $ 196 $ 65 $ 84
Distributions -- -- 10 30
----------------- ----------------- ----------------- ---------------
Total Historical $ 330 $ 196 $ 75 $ 114
================ ================ ================ ==============
Pro Forma
Reimbursements $ -- $ -- $ -- $ --
Distributions attributable to Units(1)
N/A N/A N/A N/A
---------------- ---------------- ---------------- --------------
Total Pro Forma $ -- $ -- $ -- $ --
================ ================ ================ ==============
</TABLE>
- ----------------
(1) The OP Units to be received by Host in connection with the REIT Conversion
will be equal to the number of shares of Host's outstanding common stock
and not allocated based upon its interest in any of the Partnerships,
including Atlanta Marquis. Thus, the distributions received by Host and its
affiliates by way of their interests in the Partnerships, including Atlanta
Marquis, cannot be determined on a pro forma basis.
Atlanta Marquis Supp - 12
<PAGE>
Certain Information Regarding the Hotel Owned by Atlanta Marquis
<TABLE>
<CAPTION>
Name of Hotel Location of Hotel Number of Rooms Date Opened
- ------------- ----------------- --------------- -----------
<S> <C> <C> <C>
Atlanta Marquis Marriott Hotel(1) Atlanta, GA 1,671 1985
</TABLE>
- ----------------------------
(1) Atlanta Marquis has an 80% residual interest of the Atlanta Marriott
Marquis and for 1998, is expected to receive 100% of the cash flow from the
hotel.
The table below sets forth certain performance information for Atlanta
Marquis' Hotel for the indicated periods.
<TABLE>
<CAPTION>
First Quarter Fiscal Year
------------------------ ----------------------------------------
1998 1997 1997 1996 1995
---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Average daily rate.................... $135.45 $127.60 $127.36 $131.91 $116.02
Occupancy............................. 71.9% 75.1% 69.8% 68.6% 71.6%
REVPAR................................ $97.39 $95.83 $88.90 $90.49 $83.07
% REVPAR change....................... 1.6% -- (1.7)% 8.9% --
</TABLE>
The Atlanta Marriott Marquis is a full-service Marriott hotel. It is
located on approximately 3.6 acres of land in the heart of downtown Atlanta. The
Hotel is in the Peachtree Center area of Atlanta's central business district and
occupies most of the block that is bordered by Baker Street to the north,
Courtland Street to the east, Harris Street to the south and Peachtree Center
Avenue to the west. The Hotel is located within walking distance of Atlanta's
convention facilities, as well as restaurants, lounges, a gift shop and several
retail shops.
The Hotel opened on July 1, 1985. The 1,671 room Hotel includes 72
suites and contains over 122,000 square feet of meeting and exhibition space and
five restaurants and lounges. Recreational facilities include a complimentary
health club, an indoor/outdoor swimming pool, hydro-therapy pool, sundeck, steam
room and sauna, a rub-down area and a game room. The Hotel features a
spectacular 50-story atrium that soars to an enormous rooftop skylight.
Capital Improvements. In 1997, the Hotel completed a $7.0 million
refurbishment of approximately half its guest rooms which included the
replacement of the carpeting, bedspreads, upholstery, drapes and other similar
items ("Softgoods") and also the dressers, chairs, beds and other furniture
("Casegoods"). The refurbishment of the remaining 711 rooms and 16 suites will
begin in mid-1998. This portion of the refurbishment will be funded from a
reserve which was established by Atlanta Marquis with the lender on the New
Maturity Date (as defined ________). Also in 1997, the facade repair project was
started, which entails a repair of the entire facade of the building. The
project is expected to cost $7.5 million and will be funded by Atlanta Marquis
from a reserve which was also established with the lender on the New Maturity
Date. The project is expected to be completed by mid-1999.
Competition. The primary competition for the Hotel comes from the
following four first-class hotels in downtown Atlanta: (i) the 1,278 room Hyatt
Regency Atlanta Hotel, (ii) the 1,222 room Atlanta Hilton & Towers Hotel, (iii)
the 1,068 room Westin Peachtree Plaza Hotel and (iv) the 747 room Radisson Hotel
Atlanta. These four competitors contain an aggregate of approximately 4,315
rooms and approximately 332,000 square feet of meeting space. Hotel management
has formed an alliance with the Westin, Hyatt and Hilton (the "Atlanta
Alliance"). The Atlanta Alliance is a formal arrangement among the four hotels
to present a meeting alternative to customers' groups that are too large for a
single hotel but too small for the Georgia World Congress Center, Atlanta's
convention center.
In addition, other hotels in the Atlanta area compete with the Hotel;
however, these differ from the Atlanta Marquis Hotel in terms of size, room
rates, facilities, amenities and services offered, market orientation and/or
location. As a major convention facility, the Hotel also competes with similar
facilities throughout the country.
No new full-service hotels opened in the Atlanta market in 1997 and
none are expected to open in 1998. However, during 1997, 38 new limited service
hotels opened thus adding 3,422 new rooms to the market and approximately 13
more properties containing a total of 1,498 rooms are expected to open in 1998
in the Atlanta suburbs. These additions are not
Atlanta Marquis Supp - 13
<PAGE>
expected to have a significant impact on the Hotel's revenues as these hotels
target a significantly different market segment. In 1997, the Atlanta properties
generally reported decreased results due to higher activity in 1996 related to
the Summer Olympics and the impact of additional supply added to the suburban
areas. In 1998, construction began on a 320-room Doubletree Guest Suites hotel
which is expected to open in mid-1999.
Legal Proceedings
Texas Multi-Partnership Lawsuit. On March 16, 1998, limited partners in
several limited partnerships sponsored by Host, including Atlanta Marquis,
filed a lawsuit, Robert M. Haas, Sr. and Irwin Randolph Joint Tenants, et al. v.
---------------------------------------------------------------
Marriott International, Inc., et al, Case NO. CI-04092, in the 57th Judicial
- -----------------------------------
District Court of Bexar County, Texas, alleging that the defendants conspired to
sell hotels to the partnerships for inflated prices and that they charged the
partnerships excessive management fees to operate the partnerships' hotels. The
plaintiffs further allege that the Defendants committed fraud, breached
fiduciary duties and violated the provisions of various contracts. The
plaintiffs are seeking unspecified damages. Although the partnerships have not
been named as defendants, their partnership agreements include provisions which
require the partnerships to indemnify the general partners against losses,
expenses and fees.
Atlanta Marquis. Certain limited partners of Atlanta Marriott Marquis
Limited Partnership ("AMMLP"), filed a putative class-action lawsuit Hiram and
---------
Ruth Strum v. Marriott Marquis Corporation, et al, Case NO. 97-CV-3706, in the
- --------------------------------------------------
U.S. District Court for the Northern District of Georgia, against AMMLP's
general partner, its directors and Host, regarding the merger of AMMLP into a
new partnership (the "AMMLP Merger") as part of a refinancing of the
partnership's debt. The plantiffs allege that the defendants misled the limited
partners in order to induce them to approve the AMMLP Merger, violated
securities regulations and federal roll-up regulations and breached their
fiduciary duties to the partners. Although the partnerships have not been named
as defendants, their partnership agreements include provisions which require the
partnerships to indemnify the general partners against losses, expenses and
fees.
Amendments to the Atlanta Marquis' Partnership Agreement
In order to allow the Hotel of Atlanta Marquis to be leased to SLC in
connection with the Merger and the REIT Conversion, Atlanta Marquis' partnership
agreement must be amended. Currently, there is no provision in Atlanta Marquis'
partnership agreement to allow Atlanta Marquis' Hotel to be leased. Therefore,
Section 5.02B of Atlanta Marquis' partnership agreement must be amended to add a
new paragraph 5.02B(6) to read as follows:
(6) lease (or consent to the lease), directly or indirectly, in
one transaction or a series of related transactions, of the
Hotel.
Other Amendments. Amendments to certain terms and sections of Atlanta
----------------
Marquis' partnership agreement would be made in order to (i) reduce to one the
number of appraisals of the fair market value of Atlanta Marquis Hotel that
Atlanta Marquis must provide to the Atlanta Marquis Limited Partners before the
General Partner can cause the Atlanta Marquis to sell its assets to the General
Partner or an affiliate, (ii) delete certain obsolete references to entities and
agreements that are no longer in existence, (iii) update Atlanta Marquis'
partnership agreement to reflect the passage of time since the formation of
Atlanta Marquis and (iv) make any other amendments to Atlanta Marquis'
partnership agreement deemed necessary or advisable, in the sole discretion of
the General Partner, in connection with the consummation of the Mergers and the
REIT Conversion. The General Partner does not believe that these amendments
would affect the rights of the Atlanta Marquis Limited Partners in any material
respect nor the duties and obligations of the General Partner. These changes are
included, along with the other proposed amendments, in the copy of Atlanta
Marquis' partnership agreement, as proposed to be amended, which is attached
hereto. The amended Atlanta Marquis partnership agreement is marked to indicate
the revisions made to the existing Atlanta Marquis partnership agreement and
should be read in its entirety. Deleted provisions are contained in brackets and
struck through, and added provisions are in bold type and underlined.
Atlanta Marquis Supp - 14
<PAGE>
The vote required for such amendment is a majority of the outstanding
limited partnership interests. The General Partner owns 0.28% of the Class A
limited partnership interests and may vote such interests in connection with the
amendment.
THE GENERAL PARTNER RECOMMENDS THAT ATLANTA MARQUIS LIMITED PARTNERS
VOTE TO APPROVE THE REQUESTED AMENDMENTS TO HANOVER'S PARTNERSHIP AGREEMENT.
FAIRNESS
FAIRNESS ANALYSIS
The General Partner believes that the terms of the Merger provide
substantial benefits and are fair to the Limited Partners of Atlanta Marquis and
recommends that all Limited Partners of Atlanta Marquis consent to the Merger.
The General Partner bases this recommendation primarily on (i) its view that the
expected benefits of the Merger for the Atlanta Marquis Limited Partners
outweigh the risks and potential detriments of the Merger to the Atlanta Marquis
Limited Partners (see "Background and Reasons for the Mergers and the REIT
Conversion -- Reasons for the Mergers" and "Risk Factors"), (ii) its view that
the value of the OP Units allocable to the Atlanta Marquis Limited Partners on
the basis of the Exchange Value established for Atlanta Marquis represents fair
consideration for the Partnership Interests held by the Atlanta Marquis Limited
Partners and is fair to the Atlanta Marquis Limited Partners from a financial
point of view, and (iii) the Fairness Opinion of AAA stating that (a) the
methodologies and underlying assumptions used to determine the Exchange Value,
the Adjusted Appraised Value, the Continuation Value and the Liquidation Value
of Atlanta Marquis and each other Partnership, including, without limitation,
the assumptions used to determine the various adjustments to the Appraised
Values of the Hotels, are fair and reasonable, from a financial point of view,
to the Limited Partners of Atlanta Marquis and each other Partnership and (b)
the methodologies used to determine the value of an OP Unit and to allocate the
equity interest in the Operating Partnership to be received by the Atlanta
Marquis Limited Partners and the Limited Partners of each Partnerships are fair
and reasonable to the Atlanta Marquis Limited Partners and the Limited Partners
of each other Partnership.
The Merger is not conditioned upon the consummation of the other Mergers.
The General Partner has considered this fact in evaluating the fairness of the
Merger. The General Partner believes that the fairness of the Merger will not be
materially affected by the presence or absence of any other individual
Partnership or by any particular combination of other Partnerships and that the
Merger will be fair to the Atlanta Marquis Limited Partners, individually and as
a whole, if it is consummated with any combination of other Participating
Partnerships. The General Partner bases this belief primarily on the fact that
the consideration to be paid to the Atlanta Marquis Limited Partners has been
established based upon Atlanta Marquis' Exchange Value, without regard to any
possible combination of other Partnerships.
In reaching the conclusions implicit in the above recommendation, the
General Partner has taken into account the following considerations:
. The General Partner has concluded that the Exchange Value for Atlanta
Marquis, which is equal to the greatest of its Adjusted Appraised Value,
Continuation Value and Liquidation Value, represents fair consideration
for the Partnership Interests of the Atlanta Marquis Limited Partners in
the Merger in relation to Atlanta Marquis. The General Partner also has
concluded that the Exchange Value established for the Atlanta Marquis
Limited Partners fairly reflects the value of the assets held by Atlanta
Marquis. In addition, the Fairness Opinion supports these conclusions.
. The General Partner has concluded that the potential benefits of the
Merger to the Atlanta Marquis Limited Partners, as described under
"Background and Reasons for the Mergers and the REIT Conversion --
Reasons for the Mergers," outweigh the potential risks and detriments of
the Merger for the Atlanta Marquis Limited Partners, as described in
"Risk Factors."
. The Fairness Opinion, in the view of the General Partner, supports the
fairness of the Merger, even though it includes qualifications,
limitations and assumptions relating to its scope and other factors that
Atlanta Marquis Limited Partners should consider carefully.
. Host will contribute its wholly owned full-service hotel assets, its
interests in the Hotel Partnerships and its other assets (excluding its
senior living assets) to the Operating Partnership in exchange for (i) a
number of OP Units equal to the number of outstanding shares of common
stock of Host, (ii) preferred partnership interests in the Operating
Partnership corresponding to any shares of Host preferred stock
outstanding at the time of the REIT Conversion and (iii) the assumption
by the Operating Partnership of certain liabilities of Host. Following
these contributions, the Operating Partnership and its subsidiaries will
directly own all of Host's wholly-owned hotels and all of Host's
interests in the Hotel Partnerships and other assets. Host REIT will not
receive any compensation for its services as general partner to the
Operating Partnership following the REIT Conversion and will benefit from
the operations of the Operating Partnership only to the extent of the
distributions received based upon its percentage interest in the
Operating Partnership to the same extent as the other limited partners.
Because Host REIT will share in the value of the Operating Partnership
solely through distributions and not through any separate compensation
structure, the General Partner believes that this is a factor supporting
the fairness of the Merger to the Atlanta Marquis Limited Partners.
. The General Partner believes that the value of the consideration to be
received by the Atlanta Marquis Limited Partners in the Merger is fair in
relation to the value which would be derived by such Limited Partners
under any of the alternatives described under "Background and Reasons for
the Mergers and the REIT Conversion -- Alternatives to the Mergers,"
especially since the Exchange Value of Atlanta Marquis is equal to its
Continuation Value, which is the greatest of the three values the
Adjusted Appraised Value, the Continuation Value and the Liquidation
Value. The General Partner does not believe that the sale of any of
Atlanta Marquis' Hotels and liquidation of Atlanta Marquis will obtain
for Atlanta Marquis Limited Partners as much value as the value to be
received by such Atlanta Marquis Limited Partners following the Merger.
In addition, while the Continuation Values of three of the Partnerships,
including Atlanta Marquis, are higher than the Adjusted Appraised Values
of such Partnerships, the General Partners believe that the Mergers
provide substantial benefits to such Atlanta Marquis Limited Partners and
other Limited Partners, including those benefits described under
"Background and Reasons for the Mergers and the REIT Conversion Reasons
for the Mergers," especially enhanced liquidity and regular quarterly
cash distributions. The General Partner believes that the following
benefits are of the greatest value and importance to the Atlanta Marquis
Limited Partners:
. Enhanced Liquidity. The Mergers and the REIT Conversion will offer
Atlanta Marquis Limited Partners significantly enhanced liquidity
with respect to their investments in Atlanta Marquis because, after
the expiration of the Initial Holding Period, Atlanta Marquis
Limited Partners will be able to exercise their Unit Redemption
Right at any time, subject to certain limited exceptions. Host has
approximately 204 million shares of common stock outstanding and the
closing price on the NYSE on May 28, 1998 was $19.4375 per share
(reflecting a total common equity market capitalization of
approximately $4 billion). The exercise of the Unit Redemption
Right, however, generally would result in recognition of taxable
income or gain at that time.
. Public Market Valuation. The General Partner believes that by
exchanging interests in Atlanta Marquis which is a non-traded
limited partnership for interests in a publicly traded real estate
company focused primarily on a more diverse and growing full-service
hotel portfolio, the Atlanta Marquis Limited Partners will have the
opportunity to participate in the recent trend of ownership of real
estate through a publicly traded entity, which, in many instances,
has resulted in market valuations of public real estate companies in
excess of the estimated net asset values of those companies.
Atlanta Marquis Supp - 15
<PAGE>
. Regular Quarterly Cash Distributions. The General Partner expects
that the Operating Partnership will make regular quarterly cash
distributions to holders of OP Units.
. Substantial Tax Deferral. The General Partner expects that Atlanta
Marquis Limited Partners who do not elect to receive Notes generally
should be able to obtain the benefits of the Merger while continuing
to defer recognition for federal income tax purposes of at least a
substantial portion, if not all, of the gain with respect to their
Partnership Interests that otherwise would be recognized in the
event of a liquidation of Atlanta Marquis or a sale or other
disposition of its assets in a taxable transaction (although Limited
Partners in Atlanta Marquis and certain other Partnerships may
recognize a relatively modest amount of ordinary income as the
result of required sales of personal property to a Non-Controlled
Subsidiary in order to facilitate Host REIT's qualification as a
REIT).
. The General Partner believes that the economic terms of the leases of the
Atlanta Marquis Hotels are fair and reasonable from the standpoint of the
Operating Partnership.
The General Partner believes that the factors described above, which
support the fairness of the Merger to the Atlanta Marquis Limited Partners, when
weighed against the factors that may be disadvantageous, taken as a whole,
indicate that the Merger is fair to the Atlanta Marquis Limited Partners.
AAA, an independent financial advisory firm with substantial real estate
and partnership transaction experience, was engaged by the General Partner and
the other General Partners to perform the Appraisals and to render the Fairness
Opinion that (i) the methodologies and underlying assumptions used to determine
the Exchange Value, the Adjusted Appraised Value, the Continuation Value and the
Liquidation Value of Atlanta Marquis and each other Partnership, including,
without limitation, the assumptions used to determine the various adjustments to
the Appraised Values of the Hotels, are fair and reasonable, from a financial
point of view, to the Atlanta Marquis Limited Partners and the Limited Partners
of each other Partnership, and (ii) the methodologies used to determine the
value of an OP Unit and to allocate the equity in the Operating Partnership to
be received by the Atlanta Marquis Limited Partners and the Limited Partners of
each Partnership are fair and reasonable to the Atlanta Marquis Limited Partners
and the Limited Partners of each other Partnership. The Fairness Opinion is
addressed to each Partnership and it may be relied upon by each of the Atlanta
Marquis Limited Partners and the Limited Partners of the other Partnerships.
The full text of the Fairness Opinion, which contains a description of the
assumptions and qualifications applicable to the review and analysis by AAA, is
set forth in Appendix B to the Consent Solicitation and should be read in its
entirety. The material assumptions and qualifications to the Fairness Opinion
are summarized below, although this summary does not purport to be a complete
description of the various inquiries and analyses undertaken by AAA in rendering
the Fairness Opinion. Arriving at a fairness opinion is a complex analytical
process not necessarily susceptible to partial analysis or amenable to summary
description. For a more complete description of the assumptions and
qualifications that limit the scope of the Fairness Opinion, see "
Qualifications to Fairness Opinion" and " Assumptions" below.
Although the General Partner advised AAA that certain assumptions were
appropriate in its view, the General Partner imposed no conditions or
limitations on the scope of the investigation by AAA or the methods and
procedures to be followed by AAA in rendering the Fairness Opinion. The fees
and expenses of AAA will be treated as a Merger Expense and will be paid by the
Operating Partnership. In addition, the General Partner has agreed to indemnify
AAA against certain liabilities. See "-- Compensation and Material
Relationships."
QUALIFICATIONS TO FAIRNESS OPINION. In the Fairness Opinion, AAA
specifically states that it did not: (a) specifically consider other
methodologies for allocation of the OP Units, (b) address or conclude that other
methodologies for allocation of the OP Units to the Atlanta Marquis and the
other Partnerships might not have been more favorable to the Limited Partners in
certain of the Partnerships, (c) negotiate with Atlanta Marquis, the other
Partnerships or Host, (d) participate in establishing the terms of the Merger
and the other Mergers, (e) provide an opinion as to the terms and conditions of
the Merger and the other Mergers other than those explicitly stated in the
Fairness Opinion, (f) make any independent review of the capital expenditure
estimates set forth in the Engineering Study, (g) make any estimates of Atlanta
Marquis' and each other Partnership's contingent liabilities.
In connection with preparing the Fairness Opinion, AAA was not engaged to,
and consequently did not, prepare any written report or compendium of its
analysis for internal or external use beyond the analysis set forth in
Appendix B. AAA will not deliver any additional written opinion of the
analysis, other than to update the written opinion if requested by the Operating
Partnership.
EXPERIENCE OF AAA. AAA is the world's largest independent valuation
consulting firm and is regularly and continually engaged in the valuation of
commercial real estate and businesses and their securities in connection with
tender offers, mergers and acquisitions, recapitalizations and reorganizations,
divestitures, employee stock ownership plans, leveraged buyout plans, private
placements, limited partnerships, estate and corporate matters, other financial
advisory matters and other valuation purposes.
AAA was selected because of its experience in the valuation of businesses
and their securities in connection with tender offers, mergers and acquisitions,
recapitalizations and reorganizations, including transactions involving hotel
partnerships. In addition, Host and its affiliates have previously engaged AAA
to provide appraisals and fairness opinions in connection with other
transactions. The General Partner and the other General Partners considered
several other firms for purposes of performing the appraisals and rendering the
Fairness Opinion, but selected AAA for the foregoing reasons.
SUMMARY OF MATERIALS CONSIDERED AND INVESTIGATION UNDERTAKEN. As a basis
for rendering for Fairness Opinion, AAA has made such reviews, studies and
analyses as it deemed necessary and pertinent in order to provide it with a
reasonable basis for the Fairness Opinion, including, but not limited to, the
following: (i) reviewed the transaction documents and SEC reporting and/or
filing documents, including drafts of the Form S-4 for the Mergers; (ii)
provided the Market Value of each Hotel owned by each Partnership in a separate
short form appraisal report and each such report was reviewed and certified by
an MAI appraiser as to its preparation in accordance with the requirements of
the Standards of Professional Practice of the Appraisal Institute and the
Uniform Standards of Professional Appraisal Practice of the Appraisal
Foundation; as part of the Appraisals, AAA reviewed historical operating
statements, 1998 budget and year-to-date results, and other financial
information as it deemed necessary as a basis for the Fairness Opinion and the
Appraisals also considered market transactions of similar lodging properties as
appropriate as a basis for the Market Value of each Hotel; (iii) reviewed the
methodologies used by each of the General Partners in their determination of the
Exchange Value of each Partnership, including the nature and amount of all
adjustments to the Appraised Values in determining such Exchange Values; AAA
reviewed and tested for the fairness and reasonableness of all adjustments as
well as for consideration of all adjustments deemed to be appropriate by AAA;
(iv) reviewed the methodologies used by each of the General Partners in their
determination of the value of an OP Unit and the allocation of the equity
interest in the Operating Partnership to be received by the limited partners of
each Partnership, and AAA reviewed and tested for the fairness and
reasonableness of the methods and measurements made by the General Partners; (v)
reviewed the General Partners' determination of the Liquidation Value of each
Partnership, and AAA reviewed and tested for the fairness and reasonableness of
all adjustments proposed by the General Partners, as well as for consideration
of all adjustments deemed appropriate by AAA; (vi) provided an estimate of the
Continuation Value of each Partnership based upon the estimated present value of
expected benefits to be received by each limited partner interest as though the
Mergers did not occur and each Partnership's assets were sold within a twelve
year period; AAA, as part of its analysis and review, determined appropriate
rates of growth in house profit or net operating income, as well as reviewed
other key variables affecting partnership cash flows and other
economic/financial factors affecting the Partnerships' expected operations and
results;(vii) reviewed the terms of the ground leases of the Hotels and the
partnership agreement of each Partnership; (viii) reviewed audited and unaudited
historical income statements, balance sheets and statements of sources and uses
of funds of each Partnership and Host and pro forma financial information for
Host REIT; (ix) reviewed audited and unaudited historical operating statements
of each Hotel, as well as current operating statements and budgets; (x)
conducted real estate valuation and financial due diligence with respect to the
Partnerships and their underlying assets, liabilities and equity; (xi) reviewed
internal Marriott International, Host and Partnership financial analyses and
other internally generated data for each Hotel; and (xii) discussed all of the
foregoing information, where appropriate, with management of Marriott
International, Host and the Partnerships, and their respective employees.
ASSUMPTIONS. In rendering its opinion, AAA relied, without independent
verification, on the accuracy and completeness in all material respects of
certain relevant publicly available information and information provided to AAA
by the Host and the Hotels. AAA assumed that all information furnished by Host,
the Hotels and the Partnerships and their representatives, upon which AAA
relied, presented and accurate description in all material respects of the
current and prospective status of the Hotels and the Partnerships from an
operational and financial point of view. AAA also noted that the Fairness
Opinion was based upon financial, economic, market and other considerations as
they existed and could be evaluated on the date thereof.
CONCLUSIONS. AAA concluded that, based upon and subject to its analysis
and assumptions and limiting conditions, and as of the date of the Fairness
Opinion: (i) the methodologies used to determine the Exchange Value, the
Adjusted Appraised Value, the Continuation Value and the Liquidation Value each
Partnership, including, without limitation, the assumptions used to determine
the various adjustments to the Appraised Values of each of the Hotels, are fair
and reasonable, from a financial point of view, to the Atlanta Marquis Limited
Partners and the Limited Partners of each Partnership, and (ii) the
methodologies used to determine the value of an OP Unit and to allocate the
equity interest in the Operating Partnership to be received by the Atlanta
Marquis Limited Partners and the Limited Partners of each Partnership are fair
and reasonable to the Limited Partners of each Partnership.
COMPENSATION AND MATERIAL RELATIONSHIPS. AAA has been paid a fee of
$________ for its services as described herein, including the Appraisals and
preparing to deliver the Fairness Opinion. In addition, AAA will be reimbursed
for all reasonable out-of-pocket expenses, including legal fees, and will be
indemnified against certain liabilities, including certain liabilities under the
securities laws. The fee was negotiated between Host, the General Partners and
AAA. Payment of the fee to AAA is not dependent upon completion of the Mergers.
AAA has been previously engaged by Host and its affiliates to provide fairness
opinions in connection with other transactions.
Atlanta Marquis Supp - 16
<PAGE>
Voting Procedures
The consent of Atlanta Marquis Limited Partners holding a majority of
the outstanding limited partnership interests is required for participation in
the Merger. The General Partner holds 0.28% of the outstanding Class A limited
partnership interests. The General Partner may vote its Class A limited
partnership interests.
An Atlanta Marquis Limited Partner may mark the Consent Form to vote
"FOR," "AGAINST" or "ABSTAIN" with respect to participation in the Merger by
Atlanta Marquis. The failure of an Atlanta Marquis Limited Partner to vote or an
abstention will have the same effect as if such Limited Partner had voted his
Partnership Interests "AGAINST" the Merger. A Consent Form that is properly
signed but not marked will be voted "FOR" the Merger. The voting procedures
applicable to Atlanta Marquis Limited Partners are set forth in the Consent
Solicitation under the heading "Voting Procedures -- Required Vote and Other
Conditions."
Federal Income Tax Considerations
In addition to the federal income tax considerations discussed in the
sections of the Consent Solicitation entitled "Federal Income Tax
Considerations" and "Risk Factors -- Federal Income Tax Risks," Atlanta Marquis
Limited Partners should read carefully the following discussion of federal
income tax considerations applicable specifically to the Atlanta Marquis Limited
Partners. The information included in this discussion is based upon various
factual assumptions and information which are believed by the Operating
Partnership and the General Partner to be reliable. However, some of these
assumptions inevitably will not materialize, and unanticipated events and
circumstances will occur. Therefore, there likely will be differences between
the information provided herein, including the numerical data and estimates, and
actual results, and the variations may be material and adverse.
Applicability of Tax Opinions
Hogan & Hartson L.L.P. ("Hogan & Hartson"), counsel to Host REIT, Host
and the Operating Partnership, has provided to Host REIT and the Operating
Partnership an opinion letter (substantially in the form of Appendix C to the
Consent Solicitation) as to certain federal income tax consequences to the
Operating Partnership and the Atlanta Marquis Limited Partners resulting from
the Mergers and the REIT Conversion. The opinion letter is based upon certain
assumptions and certain representations provided by Host REIT, Host, the
Operating Partnership and the General Partners. These representations generally
involve factual matters relating to the organization, ownership and operations
(including the income, assets, businesses, liabilities and properties) of the
Partnerships and Hotels contributed to the Operating Partnership by Host and the
Blackstone Entities prior to the Mergers and of Host REIT, the Operating
Partnership and the Hotel Partnerships following the Mergers and the REIT
Conversion. In addition, on the Closing Date, Hogan & Hartson expects to provide
to Host REIT and the Operating Partnership an opinion letter (substantially in
the form of Appendix D to the Consent Solicitation) as to the qualification and
taxation of Host REIT as a REIT under the Code following the REIT Conversion.
See "Federal Income Tax Considerations -- Summary of Tax Opinions" in the
Consent Solicitation.
Each opinion provided by Hogan & Hartson in the opinion letter that is
substantially in the form of Appendix C to the Consent Solicitation is
applicable to the Atlanta Marquis Limited Partners.
Atlanta Marquis Supp - 17
<PAGE>
The opinions already rendered by Hogan & Hartson are based on the Code
and Treasury Regulations in effect on the date hereof, current administrative
interpretations and positions of the IRS and existing court decisions, and the
opinions to be rendered by Hogan & Hartson on the Closing Date will be based on
the same authorities as of the Closing Date. No assurance can be given that
future legislation, Treasury Regulations, administrative interpretations and
court decisions will not significantly change the law or the above conclusions
reached by counsel. In addition, any such change could apply retroactively to
transactions preceding the date of change. Moreover, opinions of counsel merely
represent counsel's best judgment with respect to the probable outcome on the
merits and are not binding on the IRS or the courts. Accordingly, even if there
is no change in applicable law, no assurance can be provided that such opinions
(which do not bind the IRS or the courts) will not be challenged by the IRS or
will be sustained by a court if so challenged. With the one exception described
below (see "--Tax Consequences of the Merger -- Deemed Cash Distribution and
Resulting Taxable Gain") and in the Consent Solicitation under "Federal Income
Tax Considerations -- Tax Consequences of the Mergers -- IRS Ruling Request
Regarding Allocation of Partnership Indebtedness," neither Host REIT, the
Operating Partnership nor the General Partners have requested or plan to request
any rulings from the IRS concerning the tax consequences of the Mergers or the
treatment of either the Operating Partnership or Host REIT subsequent to the
REIT Conversion.
Tax Consequences of the Merger
Overview. Hogan & Hartson has provided an opinion to the effect that,
--------
except for any gain attributable to the sale of personal property by Atlanta
Marquis to a Non-Controlled Subsidiary in connection with the REIT Conversion,
the Merger will not result in the recognition of taxable gain or loss at the
time of the Merger to an Atlanta Marquis Limited Partner (i) who does not
exercise his Unit Redemption Right on a date sooner than the date two years
after the date of the consummation of the Merger; (ii) who does not receive a
cash distribution (or a deemed cash distribution resulting from relief from
liabilities, including as a result of any repayment of the Ivy Street Mortgage
Debt) in connection with the Merger or the REIT Conversion in excess of his
aggregate adjusted basis in his Atlanta Marquis Partnership Units at the time of
the Merger; (iii) who does not elect to receive a Note in exchange for his OP
Units in connection with the Merger (the "Note Election"); (iv) who is not
required to recognize gain by reason of the exercise by another Atlanta Marquis
Limited Partner of his right to make the Note Election (which, in counsel's
opinion, described below, should not be the result of such election); and (v)
who does not have his "at risk" amount fall below zero as a result of the Merger
or the REIT Conversion. See "Federal Income Tax Considerations -- Summary of Tax
Opinions" in the Consent Solicitation.
With respect to the foregoing exceptions to nonrecognition treatment,
the Operating Partnership and the General Partner believe as follows: (i) an
Atlanta Marquis Limited Partner who acquired his Atlanta Marquis Partnership
Units in the original offering of such Partnership Units and who has held such
Partnership Units at all times since would not be considered to receive, as a
result of the Merger, a distribution (or a deemed cash distribution resulting
from relief from liabilities) that exceeds his aggregate adjusted basis in his
Atlanta Marquis Partnership Units at the time of the Merger, and would not have
his "at risk" amount fall below zero as a result of the Merger (in this regard,
the Operating Partnership has no plan to prepay or repay the Ivy Street Mortgage
Debt in connection with the REIT Conversion), and (ii) a portion of the personal
property associated with the Atlanta Marquis Hotel will need to be sold to a
Non-Controlled Subsidiary in connection with the REIT Conversion, which will
result in the recognition of a relatively modest amount of income by the Atlanta
Marquis Limited Partners. See "Federal Income Tax Considerations -- Tax
Consequences of the Mergers -- Overview" in the Consent Solicitation and "Tax
Allocations upon the Sale of Certain Personal Property Associated with the
Atlanta Marquis Hotel" below.
With respect to the effects of an Atlanta Marquis Limited Partner's
election to receive a Note in exchange for his OP Units in connection with the
Merger, Hogan & Hartson is of the opinion that, although the matter is not free
from doubt, an Atlanta Marquis Limited Partner who does not elect to receive a
Note in connection with the Merger should not be required to recognize gain by
reason of another Atlanta Marquis Limited Partner's exercise of such right. With
respect to the exercise of a Unit Redemption Right, Hogan & Hartson is of the
opinion that it is more likely than not that an Atlanta Marquis Limited
Partner's exercise of his Unit Redemption Right more than one year after the
date of consummation of the Merger but less than two years after such date will
not cause the Merger itself to be a taxable transaction for the Atlanta Marquis
Limited Partner (or the other Atlanta Marquis Limited Partners). See "Federal
Income Tax Considerations -- Summary of Tax Opinions" in the Consent
Solicitation. Opinions of counsel, however, do not bind the IRS or the courts,
and no assurances can be provided that such opinions will not be challenged by
the IRS or will be sustained by a court if so challenged.
Atlanta Marquis Supp - 18
<PAGE>
Deemed Cash Distribution and Resulting Taxable Gain. With respect to
---------------------------------------------------
his Atlanta Marquis Partnership Units, an Atlanta Marquis Limited Partner will
receive no actual cash distribution in connection with the Merger, but would be
deemed to receive a cash distribution in connection with the Merger to the
extent that his share of Operating Partnership liabilities immediately after the
Merger and the REIT Conversion is less than his share of Atlanta Marquis
liabilities immediately prior to the Merger. For example, any repayment of the
Ivy Street Mortgage Debt or debt encumbering other Hotels may result in a deemed
cash distribution to the Atlanta Marquis Limited Partners. See "Federal Income
Tax Considerations -- Tax Consequences of the Mergers -- Relief from
Liabilities/Deemed Cash Distribution" in the Consent Solicitation. Even though
the Ivy Street Mortgage Debt and the debt encumbering other Hotels is not
expected to be repaid or refinanced in connection with the Merger and the REIT
Conversion, an Atlanta Marquis Limited Partner's share of indebtedness following
the Merger, and the REIT Conversion may nonetheless decrease in comparison to
the Limited Partner's estimated aggregate share of Atlanta Marquis indebtedness
as of December 31, 1998 (calculated based on the assumption that the Merger did
not occur) by reason of the manner in which the debt allocation rules work when
multiple assets with different levels of leverage are consolidated into a single
partnership.
An Atlanta Marquis Limited Partner, however, would recognize taxable
gain as a result of any deemed cash distribution only to the extent that the
deemed cash distribution were to exceed his adjusted tax basis in his Atlanta
Marquis Partnership Units immediately prior to the Merger. As noted above, the
Operating Partnership and the General Partner believe, based upon and subject to
the assumptions and other limitations described below, that an Atlanta Marquis
Limited Partner who acquired his Atlanta Marquis Partnership Units in the
original offering of such Partnership Units and has held the Partnership Units
at all times since the offering will have an adjusted tax basis in excess of the
deemed cash distribution that might occur in connection with the Merger and the
REIT Conversion. Therefore, such an Atlanta Marquis Limited Partner should not
recognize gain due to such deemed cash distribution resulting from the relief
from liabilities in connection with the Merger and the REIT Conversion.
The adjusted tax basis of an Atlanta Marquis Limited Partner who did
not acquire his Atlanta Marquis Partnership Units in the original offering of
such Partnership Units or who has not held his Atlanta Marquis Partnership Units
at all times since such offering could vary materially from that of an Atlanta
Marquis Limited Partner who did so. If an Atlanta Marquis Limited Partner has an
adjusted tax basis in his Atlanta Marquis Partnership Units (per Atlanta Marquis
Partnership Unit) that is substantially less than the adjusted tax basis of an
Atlanta Marquis Limited Partner who acquired his Atlanta Marquis Partnership
Units in the original offering of such Partnership Units and has held such
Partnership Units at all times since, he could (although it is unlikely)
recognize gain due to any deemed cash distribution resulting from the relief
from liabilities in connection with the Merger and the REIT Conversion.
The Operating Partnership has no current plan or intention to cause the
prepayment of the Ivy Street Mortgage Debt or, except as described in the
Consent Solicitation, any of the nonrecourse liabilities encumbering the Hotels
owned by the other Partnerships. The Operating Partnership, however, will have
to repay mortgage indebtedness securing the Hotels owned by the Partnerships at
the time such indebtedness matures. There can be no assurance that at such time
the Operating Partnership will be able to secure nonrecourse mortgage
indebtedness secured only by those Hotels in an amount sufficient to avoid a
deemed cash distribution to the former Limited Partners in those Partnerships,
including Atlanta Marquis. Moreover, the Operating Partnership's current
long-term financing strategy is to have as little debt as possible that is
secured by individual Hotels and to have as much debt as possible in the form of
unsecured debt, held either by the public or by institutional investors, which
debt may or may not be recourse to Host REIT, as general partner of the
Operating Partnership. In view of these considerations and the potential adverse
consequences to Limited Partners in certain Partnerships, including the Atlanta
Marquis Limited Partners, the Operating Partnership has requested from the IRS a
ruling to the effect that such unsecured indebtedness of the Operating
Partnership that is issued initially to institutional investors and is not
recourse to Host REIT (i) would qualify as "nonrecourse liabilities" for
purposes of Code Section 752, (ii) to the extent the proceeds thereof are
applied to repay existing nonrecourse mortgage indebtedness secured by one or
more Hotels (including the Ivy Street Mortgage Debt), would be considered to be
"secured" by those Hotels for purposes of allocating the liabilities for tax
basis purposes (and thus would be allocable, at least in substantial part, to
the former Limited Partners in the Partnership owning those Hotels, including
the Atlanta Marquis Limited Partners), and (iii) would constitute "qualified
nonrecourse financing" secured by such Hotels for purposes of Code Section 465.
The IRS has recently issued a ruling to that effect to another taxpayer, and has
indicated to the Operating Partnership's representatives that it is favorably
inclined to issue that ruling to the Operating Partnership.
Atlanta Marquis Supp - 19
<PAGE>
Each Atlanta Marquis Limited Partner will gradually begin to recognize
income over the term of his ownership of OP Units (beginning, perhaps, in his
first year of ownership of OP Units) attributable to deemed cash distributions
resulting from the relief from liabilities, as the aggregate principal amount of
nonrecourse indebtedness encumbering (or deemed to encumber) the Atlanta Marquis
Hotel amortizes in accordance with its terms. The Operating Partnership will
make regular quarterly cash distributions to the Atlanta Marquis Limited
Partners that may or may not be sufficient to allow the Atlanta Marquis Limited
Partners to pay the federal and state income tax owed on the income allocated to
such Limited Partners by reason of the amortization of the debt secured by the
Atlanta Marquis Hotel.
Section 465(e) Recapture. As discussed in the Consent Solicitation, see
------------------------
"Federal Income Tax Considerations -- Tax Consequences of the Mergers -- Section
465(e) Recapture," the "at risk" rules of Section 465 of the Code generally
apply to limit the use of partnership losses by a partner. Under Section 465(e)
of the Code, a partner may be required to include in gross income, or
"recapture," losses previously allowed to such partner with respect to his
investment in a partnership if the amount for which the partner is "at risk" in
relation to his investment in the partnership is less than zero at the close of
the taxable year.
It is possible that the consummation of the Merger and the REIT
Conversion or the repayment of certain "qualified nonrecourse financing" of the
Operating Partnership, the Hotel Partnerships or the Hotels contributed to the
Operating Partnership by the Blackstone Entities at the time of or following the
Merger and the REIT Conversion could, singularly or in combination, cause an
Atlanta Marquis Limited Partner's amount at risk in relation to his investment
in Atlanta Marquis (and, after the Merger, in the Operating Partnership) to be
reduced below zero, resulting in an income inclusion to the Limited Partner
under Section 465(e) of the Code. Currently, a sufficient portion of the current
debt of Atlanta Marquis constitutes "qualified nonrecourse financing" so that
the Atlanta Marquis Limited Partners have positive at risk amounts, and the
Operating Partnership expects that most of the current debt with respect to the
other Hotel Partnerships and the Hotels contributed by the Blackstone Entities
that will be assumed by the Operating Partnership as part of the Merger and the
REIT Conversion should qualify as "qualified nonrecourse financing." The
Operating Partnership and the General Partner believe, based upon and subject to
the assumptions and other limitations described below, that an Atlanta Marquis
Limited Partner who acquired his Atlanta Marquis Partnership Units in the
original offering of such Partnership Units and has held the Partnership Units
at all times since will have a positive at risk amount immediately following the
Merger and the REIT Conversion.
It is possible, however, that a former Atlanta Marquis Limited
Partner's at risk amount could decline in the future, either because of the
allocation of losses from the Operating Partnership to that former Atlanta
Marquis Limited Partner or because of cash distributions by the Operating
Partnership to that former Atlanta Marquis Limited Partner in excess of the
taxable income allocable to him with respect to his OP Units. Moreover, there
can be no assurance that debt incurred by the Operating Partnership in the
future to refinance the Ivy Street Mortgage Debt or outstanding mortgage debt of
the other Hotel Partnerships or the Hotels contributed by the Blackstone
Entities will qualify as "qualified nonrecourse financing." If, however, the
Operating Partnership were to obtain the requested ruling from the IRS and were
to refinance existing mortgage indebtedness of the Partnerships, including the
Ivy Street Mortgage Debt, with the type of indebtedness described in the ruling,
such indebtedness should constitute "qualified nonrecourse financing" for
purposes of the "at risk" rules.
Impact of Assumption of Atlanta Marquis Liabilities by the Operating
--------------------------------------------------------------------
Partnership. As described in the Consent Solicitation, see "Federal Income Tax
- -----------
Considerations -- Tax Consequences of the Mergers -- Disguised Sale
Regulations," an Atlanta Marquis Limited Partner will recognize gain to the
extent he is treated as having sold all or part of his Atlanta Marquis
Partnership Interest in a "disguised sale." For purposes of these rules, certain
reductions in a partner's share of partnership liabilities are treated as a
transfer of money or other property from the partnership to the partner which
may give rise to a disguised sale, even if that reduction would not otherwise
result in a taxable deemed cash distribution in excess of the partner's basis in
his partnership interest. However, if a transfer of property by a partner to a
partnership is not otherwise treated as part of a disguised sale, then any
reduction in the partner's share of "qualified liabilities" also will not be
treated as part of a disguised sale. A "qualified liability" in connection with
a transfer of property to a partnership includes (i) any liability incurred more
than two years prior to the earlier of the transfer of the property or the date
the partner agrees in writing to the transfer, as long as the liability has
encumbered the transferred property throughout the two-year period; (ii) a
liability that was not incurred in anticipation of the transfer of the property
to a partnership, but that was incurred by the partner within the two-year
period prior to the earlier of the date the partner agrees in writing to
transfer the property or the date the partner transfers the property to a
partnership and that has encumbered the transferred property since it was
incurred; (iii) a liability that is traceable under the Treasury Regulations to
capital expenditures with respect to the property; and (iv) a
Atlanta Marquis Supp - 20
<PAGE>
liability that was incurred in the ordinary course of the trade or business in
which property transferred to the partnership was used or held, but only if all
the assets related to that trade or business are transferred, other than assets
that are not material to a continuation of the trade or business. However, a
recourse liability is not a "qualified liability" unless the amount of the
liability does not exceed the fair market value of the transferred property
(less any other liabilities that are senior in priority and encumber such
property or any allocable liabilities described in (iii) or (iv), above) at the
time of transfer.
The General Partner believes that all liabilities of Atlanta Marquis
(including its share of the Ivy Street Mortgage Debt) fall into one of the four
categories of "qualified liabilities" described above and, accordingly, that the
mere assumption by the Operating Partnership of the outstanding liabilities of
Atlanta Marquis will not give rise to a "disguised sale" by any of the Atlanta
Marquis Limited Partners.
Tax Treatment of Atlanta Marquis Limited Partners Who Hold OP Units
Following the Merger
Initial Basis in Units. In general, an Atlanta Marquis Limited Partner
----------------------
will have an initial tax basis in his OP Units received in the Merger with
respect to his Atlanta Marquis Partnership Units equal to the basis in his
Atlanta Marquis Partnership Units at the time of the Merger, reduced to reflect
any deemed cash distributions resulting from a reduction in his share of Atlanta
Marquis liabilities and increased to reflect his share of other liabilities of
the Operating Partnership and any gain required to be recognized in connection
with the Merger and the REIT Conversion (including income attributable to the
sale of a portion of the personal property associated with the Atlanta Marquis
Hotel, as described below under " -- Tax Allocations upon the Sale of Certain
Personal Property Associated with the Atlanta Marquis Hotels"). For a discussion
of the federal income tax considerations for an Atlanta Marquis Limited Partner
from a reduction in basis that may result from the Merger and the REIT
Conversion, see "Federal Income Tax Considerations -- Tax Treatment of Limited
Partners Who Hold OP Units Following the Mergers -- Initial Tax Basis of OP
Units" in the Consent Solicitation.
Tax Allocations with Respect to Contributed Hotel upon a Sale of
----------------------------------------------------------------
Atlanta Marquis Hotel. Pursuant to Section 704(c) of the Code, income, gain,
- ---------------------
loss and deduction attributable to appreciated or depreciated property that is
contributed to a partnership must be allocated for federal income tax purposes
in a manner such that the contributor is charged with, or benefits from, the
unrealized gain or unrealized loss associated with the property at the time of
contribution. The amount of such unrealized gain or unrealized loss is generally
equal to the difference between the fair market value of the contributed
property at the time of contribution and the adjusted tax basis of such property
at the time of contribution (referred to as the "Book-Tax Difference"). The
Operating Partnership and the General Partner estimate, based upon and subject
to the assumptions and other limitations described below, that the aggregate
Book-Tax Difference with respect to the Atlanta Marquis Hotel will be $________
upon the consummation of the Merger.
If the Operating Partnership were to sell the Atlanta Marquis Hotel,
the former partners of Atlanta Marquis (including Host REIT with respect to
Host's interest in Atlanta Marquis held through Marriott Marquis Corporation)
would be specially allocated by the Operating Partnership an aggregate amount of
taxable gain equal to the Book-Tax Difference with respect to the Atlanta
Marquis Hotel ($ ____ in the aggregate if the Atlanta Marquis Hotel were sold
immediately after the consummation of the Merger, according to the estimate in
the previous paragraph). The share of such gain allocable to an Atlanta Marquis
Limited Partner who acquired his Atlanta Marquis Partnership Units in the
original offering of such Partnership Units and held such Partnership Units at
all times since would be $___ per Atlanta Marquis Partnership Unit. The share of
such gain of an Atlanta Marquis Limited Partner who did not acquire his Atlanta
Marquis Partnership Units in the original offering of such Partnership Units or
who has not held his Atlanta Marquis Partnership Units at all times since such
offering could vary materially from this amount. If the Operating Partnership
were to sell the Atlanta Marquis Hotel, the remaining Book-Tax Difference at the
time the Hotel is sold would be required to be allocated exclusively to the
former Atlanta Marquis Limited Partners and the General Partner, even though the
proceeds of such sale would be allocated proportionately among all the partners
in the Operating Partnership (and would likely be retained by the Operating
Partnership, rather than distributed to holders of OP Units and Common Shares of
Host REIT). The Atlanta Marquis Limited Partners would not be entitled to any
special distributions from the Operating Partnership in connection with such a
sale, and thus would not necessarily receive cash distributions from the
Operating Partnership sufficient to pay such additional taxes. Although the
Partnership Agreement does not impose any restrictions upon the Operating
Partnership preventing it from causing the sale of the Atlanta Marquis Hotel at
any time following the Merger, the Operating Partnership does not have current
plans to pursue a sale of such Hotel. See "Federal Income Tax Considerations --
Tax Treatment of Limited Partners Who Hold OP Units Following the Mergers --
Sale of Individual Hotels" in the Consent Solicitation.
Atlanta Marquis Supp - 21
<PAGE>
Tax Allocations upon the Sale of Certain Personal Property Associated
---------------------------------------------------------------------
with the Atlanta Marquis Hotel. As discussed in the Consent Solicitation, see
- ------------------------------
"Federal Income Tax Considerations -- Federal Income Taxation of Host REIT
Following the REIT Conversion -- Income Tests Applicable to REITs" and "--
Taxable Income Attributable to Sales of Personal Property in Connection with the
REIT Conversion," if the rent attributable to personal property leased in
connection with the lease of each Hotel is greater than 15% of the total rent
received under the lease of such Hotel, the portion of the rent attributable to
the personal property will not constitute qualifying income to Host REIT (the
"15% Personal Property Test"). The Operating Partnership and the General Partner
have determined that the percentage of rent attributable to the personal
property to be leased in connection with the lease of the Atlanta Marquis Hotel
would not satisfy the 15% Personal Property Test. The 15% Personal Property Test
is a mechanical test that is based not on the relative fair market value of the
assets subject to lease, or the relative fair rental value of those assets, but,
rather, is based on the average relative adjusted tax bases of the assets
subject to the lease. Accordingly, immediately prior to the Merger, the
Operating Partnership will require Atlanta Marquis, if it chooses to participate
in the Merger, to sell to a Non-Controlled Subsidiary of a portion of the
personal property associated with the Atlanta Marquis Hotel. This sale, which
will be a taxable transaction, will result in the recognition by Atlanta Marquis
(and the allocation to the Atlanta Marquis Limited Partners) of a relatively
modest amount of taxable gain to the extent of Atlanta Marquis' share of the
difference, if any, between the fair market value of the personal property at
the time of the sale and the adjusted tax basis of such property at that time.
The actual amount of such gain will be determinable only at the time of the sale
and will be affected by the specific personal property selected to be sold and
the fair market value and adjusted basis of that personal property. However, the
Operating Partnership and the General Partner believe that such gain, in the
aggregate, could be in the range of approximately $____ to $____; based on this
estimate, the share of such gain allocable to an Atlanta Marquis Limited Partner
who acquired his Atlanta Marquis Partnership Units in the original offering of
such Partnership Units and held such Partnership Units at all times since could
range from $____ to $____ per Atlanta Marquis Partnership Unit. Pursuant to the
Atlanta Marquis partnership agreement, all of such taxable gain will be
characterized as ordinary recapture income and will be allocated by Atlanta
Marquis to the former Atlanta Marquis Limited Partners in the same proportions
and to the same extent that such Limited Partners were allocated any deductions
directly or indirectly giving rise to the treatment of such gains as recapture
income prior to the Merger. The Atlanta Marquis Limited Partners would not be
entitled to any special distributions from Atlanta Marquis in connection with
such a sale of personal property.
Tax Allocations with Respect to Contributed Hotel Generally. The tax
-----------------------------------------------------------
allocations of depreciation to the Atlanta Marquis Limited Partners may change
significantly as a result of the Merger and the REIT Conversion for two reasons.
First, as described above, pursuant to Section 704(c) of the Code, the Atlanta
Marquis Limited Partners' share of depreciation and deductions attributable to
the Atlanta Marquis Hotel will be required to be allocated for federal income
tax purposes in a manner such that the Atlanta Marquis Limited Partners are
charged with their share of the Book-Tax Difference associated with the Atlanta
Marquis Hotel at the time of the consummation of the Merger. Consequently, an
Atlanta Marquis Limited Partner will be allocated less depreciation with respect
to the Atlanta Marquis Hotel than would be the case if the Merger had not
occurred and the Atlanta Marquis Limited Partner had continued to hold his
Atlanta Marquis Partnership Units. (On the other hand, a former Atlanta Marquis
Limited Partner will be allocated depreciation with respect to other Hotels
acquired by the Operating Partnership in connection with the Merger and the REIT
Conversion, including the Hotels owned by the other Hotel Partnerships and the
Hotels being contributed to the Operating Partnership by Host and the Blackstone
Entities in connection with the Merger and the REIT Conversion.) Second, the
Merger will cause the technical termination under Section 708(b)(1)(B) of the
Code of Atlanta Marquis and each of the other Hotel Partnerships that
participates in the Merger. Section 168(i)(7) of the Code provides, in effect,
that when a partnership terminates under Section 708(b)(1)(B) of the Code, the
partnership must begin new depreciation periods for its property. As a result,
the remaining bases of the real estate components of the Atlanta Marquis Hotel
(in which Atlanta Marquis owns an indirect interest through its interest in
Atlanta Marquis Hotel Limited Partnership) and the Hotels held by the other
Hotel Partnerships will be depreciated over 39 years, rather than over the
remaining current lives of such Hotels (which range from less than one year to
39 years). See "Federal Income Tax Considerations -- Tax Treatment of Limited
Partners Who Hold OP Units Following the Mergers -- Effect of Mergers on
Depreciation" in the Consent Solicitation.
In light of the complexity of the governing rules affecting the
calculation and allocation of depreciation with respect to properties
contributed to a partnership, particularly when a number of those properties are
subject to the separate adjustments required in connection with a technical
termination under Section 708 of the Code, the number of Hotels that the
Operating Partnership will be acquiring in connection with the Mergers and the
REIT Conversion, and the impact on these calculations of other outside events,
including equity offerings by Host or Host REIT and other acquisitions
undertaken by Host, Host REIT or the Operating Partnership prior to or in
connection with the REIT Conversion, the Operating Partnership
Atlanta Marquis Supp - 22
<PAGE>
and the General Partner believe that it is impossible to predict with any degree
of precision the impact that the Mergers and the REIT Conversion will have on
the future depreciation (and, consequently, the amount of taxable income)
allocable to an Atlanta Marquis Limited Partner.
Impact on Passive Activity Losses of an Investment in a Publicly Traded
-----------------------------------------------------------------------
Partnership. The passive loss limitation rules generally provide that
- -----------
individuals, estates, trusts and certain closely held corporations and personal
service corporations can only deduct losses from passive activities (generally
activities in which the taxpayer does not materially participate, which would
include the Operating Partnership for Atlanta Marquis Limited Partners) to the
extent that such losses are not in excess of the taxpayer's income from passive
activities or investments. An Atlanta Marquis Limited Partner would be able to
offset losses from other passive activities against income from the Operating
Partnership that is considered passive income (but not portfolio income) so long
as the Operating Partnership is not treated as a publicly traded partnership.
The Operating Partnership and the General Partner believe, however, that there
is a substantial risk that the Operating Partnership will be treated as a
publicly traded partnership for purposes of the passive loss limitation rules.
In this event, any losses or deductions of the Operating Partnership allocable
to an Atlanta Marquis Limited Partner after the Merger could not be used to
offset passive income from other passive activities. Similarly, losses from
other passive activities (including losses attributable to Atlanta Marquis for
periods prior to the Merger) could not be applied to offset income of the
Operating Partnership allocated to an Atlanta Marquis Limited Partner. An
Atlanta Marquis Limited Partner, however, would be able to offset any passive
losses from his investment in Atlanta Marquis (or other investments) against any
gain recognized by the Atlanta Marquis Limited Partner as a result of the
Merger. The Operating Partnership and the General Partner estimate that, as of
December 31, 1998, an Atlanta Marquis Limited Partner who purchased his
Partnership Units at the time of the original offering, has held those
Partnership Units continuously since that time, and whose Partnership Units have
been his only investment in a passive activity would have a passive activity
loss carryforward of approximately $127,233, on a per Partnership Unit basis.
State and Local Taxes. Atlanta Marquis Limited Partners holding OP
---------------------
Units will be subject to state and local taxation in a number of jurisdictions
in which the Operating Partnership directly or indirectly holds real property
and would be required to file periodic tax returns in those jurisdictions. In
this regard, immediately following the Merger and the REIT Conversion, the
Operating Partnership expects that it will own properties in approximately 28
states across the United States and the District of Columbia. Currently, Atlanta
Marquis owns, indirectly, property in only one state. See "Federal Income Tax
Considerations -- Tax Treatment of Limited Partners Who Hold OP Units Following
the Merger -- State and Local Taxes" in the Consent Solicitation.
Assumptions Used in Determining Tax Consequences of the Merger
In preparing the discussion set forth above, the Operating Partnership
and the General Partner made several key assumptions, which are described below.
If any such assumption is not accurate with respect to a particular Atlanta
Marquis Limited Partner, the tax consequences of the Merger to such Limited
Partner could be substantially different from those reflected above.
ACCORDINGLY, EACH ATLANTA MARQUIS LIMITED PARTNER IS STRONGLY URGED TO CONSULT
WITH HIS OWN TAX ADVISOR TO DETERMINE THE IMPACT OF SUCH ATLANTA MARQUIS LIMITED
PARTNER'S PARTICULAR TAX SITUATION ON THE ANTICIPATED TAX CONSEQUENCES OF
PARTICIPATING IN THE MERGER.
First, with respect to an Atlanta Marquis Limited Partner's basis in
his Atlanta Marquis Partnership Units prior to the Merger, the Operating
Partnership and the General Partner assumed that an Atlanta Marquis Limited
Partner acquired his Atlanta Marquis Partnership Units in the original offering
of such Partnership Units and has held such Partnership Units at all times since
the offering (the "Original Limited Partner's Adjusted Basis"). In general, each
Atlanta Marquis Limited Partner had an initial tax basis in his Atlanta Marquis
Partnership Units ("Initial Basis") equal to his cash investment in Atlanta
Marquis (plus his proportionate share of Atlanta Marquis's nonrecourse
liabilities at the time he acquired his Atlanta Marquis Partnership Units). An
Atlanta Marquis Limited Partner's Initial Basis generally has been increased by
(a) such Limited Partner's share of Atlanta Marquis taxable income and (b) any
increases in his share of liabilities of Atlanta Marquis. Generally, such
Limited Partner's Initial Basis has been decreased (but not below zero) by (i)
his share of Atlanta Marquis cash distributions, (ii) any decreases in his share
of liabilities of Atlanta Marquis, (iii) his share of losses of Atlanta Marquis
and (iv) his share of nondeductible expenditures of Atlanta Marquis that are not
chargeable to capital. Because "syndication costs" are chargeable to capital and
not deductible for tax purposes, an Atlanta Marquis Limited Partner's basis in
his Atlanta
Atlanta Marquis Supp - 23
<PAGE>
Marquis Partnership Units effectively would include his share of the syndication
costs incurred by Atlanta Marquis at formation.
The General Partner has set forth on Appendix E to the Consent
Solicitation for Atlanta Marquis (i) the Original Limited Partner's Adjusted
Basis as of December 31, 1997 for each such Atlanta Marquis Limited Partner, and
(ii) an estimate of such Atlanta Marquis Limited Partner's Original Limited
Partner's Adjusted Basis as of December 31, 1998 (computed without regard to the
Merger and based upon the assumptions set forth in Appendix C to the consent
Solicitation). The Atlanta Marquis General Partner also has set forth on
Appendix E to the Consent Solicitation for each Atlanta Marquis Limited Partner
whose adjusted basis in his Atlanta Marquis Partnership Interest is the same as
the Original Limited Partner's Adjusted Basis (i) the Atlanta Marquis
liabilities allocable to such Atlanta Marquis Limited Partner as of December 31,
1997, and (ii) an estimate of the Atlanta Marquis liabilities allocable to such
Limited Partner as of December 31, 1998 (computed without regard to the Merger
and based upon the assumptions set forth in Appendix C to the Consent
Solicitation).
The adjusted tax basis of an Atlanta Marquis Limited Partner who did
not acquire his Atlanta Marquis Partnership Units in the original offering of
such Partnership Units could vary materially from that of an Atlanta Marquis
Limited Partner who did so for various reasons. If an Atlanta Marquis Limited
Partner has an adjusted tax basis in his Atlanta Marquis Partnership Units that
is less than the Original Limited Partner's Adjusted Tax Basis, the Merger might
result in the receipt by the Atlanta Marquis Limited Partner of a deemed
distribution of cash in excess of his adjusted tax basis in his Atlanta Marquis
Partnership Units, which could (although it is unlikely) result in the
recognition of income or gain.
Second, the Operating Partnership and the General Partner assumed that
the method expected to be used by the Operating Partnership to allocate
liabilities among the partners will be respected for federal income tax
purposes. The Operating Partnership will allocate liabilities associated with
the Atlanta Marquis Hotel as described in "Federal Income Tax Considerations --
Tax Consequences of the Merger -- Relief from Liabilities/Deemed Cash
Distribution" in the Consent Solicitation. If the method used by the Operating
Partnership were not respected for federal income tax purposes and the
nonrecourse liabilities actually allocable to an Atlanta Marquis Limited Partner
are less than the amount assumed by the Operating Partnership and the General
Partner, the Merger might result in the receipt by such Atlanta Marquis Limited
Partner of a deemed distribution of cash that is greater than the deemed
distribution of cash expected to be received by such Atlanta Marquis Limited
Partner as described above in "Tax Consequences of the Merger -- Deemed Cash
Distribution and Resulting Taxable Gain." For an Atlanta Marquis Limited Partner
who did not acquire his Atlanta Marquis Partnership Units in the original
offering of such Partnership Units or who did not hold such Partnership Units at
all times since, this deemed distribution of cash could exceed his adjusted tax
basis in his Atlanta Marquis Partnership Units, which could (although it is
unlikely) result in the recognition of income or gain.
Finally, the Operating Partnership and the General Partner assumed that
the Merger will be treated for federal income tax purposes as the transfer by
the Atlanta Marquis Limited Partners of their interests in the Hotel
Partnerships to the Operating Partnership in exchange for OP Units. There can be
no assurance, however, that the IRS will not seek to recharacterize each Merger
as either (i) the liquidation of a Partnership followed by the distribution by
the Partnership of its assets to its partners and the subsequent transfers by
such partners of such assets to the Operating Partnership in exchange for OP
Units, or (ii) the transfer by a Partnership of its assets to the Operating
Partnership in exchange for OP Units (and possibly Notes) and the subsequent
distribution of such OP Units (and possibly Notes) to its partners. If the
Merger is recharacterized in the manner described in (ii) in the preceding
sentence, the tax consequences of the Merger to the Atlanta Marquis Limited
Partners likely would be materially affected.
EACH ATLANTA MARQUIS LIMITED PARTNER IS STRONGLY URGED TO CONSULT WITH
HIS OWN TAX ADVISOR TO DETERMINE THE IMPACT OF SUCH ATLANTA MARQUIS LIMITED
PARTNER'S PARTICULAR TAX SITUATION ON THE ANTICIPATED TAX CONSEQUENCES OF
PARTICIPATING IN THE MERGER. THE TAX CONSEQUENCES OF PARTICIPATING IN THE MERGER
TO A PARTICULAR ATLANTA MARQUIS LIMITED PARTNER COULD VARY SUBSTANTIALLY FROM
THE CONSEQUENCES DESCRIBED ABOVE.
Atlanta Marquis Supp - 24
<PAGE>
Tax Treatment of Atlanta Marquis Limited Partners Who Exercise Their
Right To Make The Note Election
An Atlanta Marquis Limited Partner who exercises his right to make the
Note Election and receives a Note in connection with the Merger will be treated
as having made a taxable disposition of his OP Units. The amount realized in
connection with such disposition will equal the sum of the "issue price" of the
Notes (i.e., the face amount of the Note, currently estimated as $27,255 per
Atlanta Marquis Partnership Unit) plus the portion of Atlanta Marquis
liabilities allocable to the Atlanta Marquis Limited Partner for federal income
tax purposes immediately prior to the disposition of the OP Units (estimated as
$_____ per Atlanta Marquis Partnership Unit as of December 31, 1998). To the
extent the amount realized exceeds the Atlanta Marquis Limited Partner's
adjusted basis in his Atlanta Marquis Partnership Units, the Atlanta Marquis
Limited Partner will recognize gain. The Operating Partnership and the General
Partner estimate (assuming the Atlanta Marquis Limited Partner acquired his
Atlanta Marquis Partnership Units at the time of the original offering and has
held such Partnership Units at all times since the offering) that the amount of
gain that would be recognized by an Atlanta Marquis Limited Partner who made the
Note Election would be approximately $________ per Atlanta Marquis Partnership
Unit, as of December 31, 1998. For a discussion of the federal income tax rates
applicable to the net capital gain from the sale of a capital asset, see
"Federal Income Tax Considerations -- Tax Treatment of Limited Partners Who Hold
OP Units Following the Mergers -- Disposition of OP Units by Limited Partners"
in the Consent Solicitation. In this regard, the General Partner estimates that,
as of December 31, 1998, if Atlanta Marquis sold its Hotel in a fully taxable
transaction for a net amount, after payment of liabilities, equal to the
Note Election Amount of Atlanta Marquis, the "unrecognized Section 1250 gain"
per Atlanta Marquis Partnership Unit would be $______ and the gain subject to
tax as ordinary income under Code Section 1245 per Atlanta Marquis Partnership
Unit would be $______. An Atlanta Marquis Limited Partner who makes the Note
Election would be able to treat any per Partnership Unit passive activity loss
carryforward with respect to the activities of Atlanta Marquis, to the extent
the sum of such losses exceeds his passive activity income for 1998, as losses
that are not from a passive activity and, therefore, not subject to the passive
activity loss limitation rules. For purposes of determining the gain recognized
by a Limited Partner as a result of making the Note Election, an Original
Limited Partner's Adjusted Basis will reflect such Limited Partner's share of
the syndication costs incurred by his Partnership at formation.
An Atlanta Marquis Limited Partner who elects to receive a Note will be
eligible to defer only a small portion of that gain under the "installment sale"
rules. Those rules, however, will not permit the Atlanta Marquis Limited Partner
to defer all of the gain, and, to the extent that the face amount of the Note
(and any other installment obligations received by the taxpayer during the year)
outstanding at the end of the taxable year in which the Merger occur exceeds
$5,000,000, will require that the Atlanta Marquis Limited Partner who defers
gain pay to the IRS interest on the resulting tax that has been deferred. The
Atlanta Marquis Limited Partner will not be eligible to defer gain recognized
upon the receipt of the Note to the extent that his share of Atlanta Marquis
liabilities at the time of the Merger exceeds his adjusted tax basis in his
Atlanta Marquis Partnership Units immediately prior to the Merger (that is, to
the extent that he has a "negative capital account" for tax purposes). In
addition, the Atlanta Marquis Limited Partner will not be eligible to defer gain
to the extent that such gain would be taxed as ordinary income under Sections
1245 and 1250 of the Code. Lastly, if an Atlanta Marquis Limited Partner
disposes of his Note, any gain that had been deferred would be recognized in the
year of disposition.
THE SPECIFIC TAX ATTRIBUTES OF A PARTICULAR ATLANTA MARQUIS LIMITED
PARTNER COULD HAVE A MATERIAL IMPACT ON THE TAX CONSEQUENCES OF THE MERGER, AND
THE SUBSEQUENT OWNERSHIP AND DISPOSITION OF NOTES. THEREFORE, IT IS ESSENTIAL
THAT ATLANTA MARQUIS LIMITED PARTNERS CONSIDERING ELECTING TO RECEIVE NOTES
CONSULT WITH THEIR OWN TAX ADVISORS WITH REGARD TO THE APPLICATION OF THE
FEDERAL INCOME TAX LAWS TO SUCH ATLANTA MARQUIS LIMITED PARTNERS' RESPECTIVE
PERSONAL TAX SITUATIONS, AS WELL AS ANY TAX CONSEQUENCES ARISING UNDER THE LAWS
OF ANY STATE, LOCAL, OR FOREIGN TAXING JURISDICTION.
Tax Consequences if Atlanta Marquis Does Not Participate in the Merger
If Atlanta Marquis does not participate in the Merger, the Atlanta
Marquis Limited Partners would not have any tax consequences resulting from the
Merger. The consequences of continued ownership of Atlanta Marquis Partnership
Units will be the same as would have resulted if the Merger had not been
proposed.
* * *
The above description is not exhaustive of all possible tax
considerations associated with the Merger and the REIT Conversion. This summary
does not discuss foreign tax considerations, nor does it discuss all of the
aspects of federal income taxation or state and local taxation that may be
relevant to Atlanta Marquis Limited Partners in light of their
Atlanta Marquis Supp - 25
<PAGE>
particular circumstances. EACH ATLANTA MARQUIS LIMITED PARTNER IS STRONGLY URGED
TO CONSULT WITH HIS OWN TAX ADVISOR TO DETERMINE THE IMPACT OF SUCH ATLANTA
MARQUIS LIMITED PARTNER'S PARTICULAR TAX SITUATION ON THE ANTICIPATED TAX
CONSEQUENCES OF PARTICIPATING IN THE MERGER.
Atlanta Marquis Supp - 26
<PAGE>
SELECTED FINANCIAL DATA
The following table presents selected historical financial data derived
from Atlanta Marriott Marquis Limited Partnership ("AMMLP") financial statements
for the five most recent fiscal years in the period ended December 31, 1997 and
the unaudited financial statements for the First Quarter 1998 and the First
Quarter 1997. The following data should be read in conjunction with AMMLP
financial statements and the notes thereto, Management's Discussion and Analysis
of Financial Condition and Results of Operations and the other financial
information included elsewhere herein.
<TABLE>
<CAPTION>
First Quarter Fiscal Year
---------------------- ------------------------------------------------------------
1998 1997 1997 1996 1995 1994 1993
---- ---- ---- ---- ---- ---- ----
(unaudited) (amounts in thousands, except per Partnership Unit) (4)
<S> <C> <C> <C> <C> <C> <C> <C>
Revenues.............................. $ 10,410 $ 10,042 $ 36,471 $ 38,654 $ 34,831 $ 32,201 29,563
Operating profit...................... 7,276 6,364 23,933 24,782 21,770 19,071 16,008
Income (loss) before
extraordinary item(1)............. 2,714 916 (569) 2,543 (413) (3,073) (5,935)
Net income (loss)..................... 6,888 916 (569) 2,543 (413) (3,073) (5,935)
Distributions:
General partner................... -- -- -- 8 23 19 16
Limited partners - Class A........ 2,648 -- -- 811 2,324 1,870 1,581
Limited partners - Class B(3)..... -- -- -- -- -- -- --
-------------------------------------------------------------------------------------
Total................................. 2,648 -- -- 819 2,347 1,889 1,597
Per Partnership Unit - Class A(4)
Net income (loss)................. -- 1,711 (1,062) 4,751 (772) (5,740) (11,087)
Distributions..................... 4,996 -- -- 1,530 4,385 3,528 2,983
EBITDA(2) (unaudited)................. 8,789 7,685 30,070 30,958 28,907 26,884 23,588
Cash provided by (used in) operating
activities........................ (8,507) 6,557 21,608 9,893 10,062 5,602 4,422
Cash used in investing activities..... (3,741) (1,101) (4,403) (4,483) (3,740) (3,099) (3,002)
Cash provided by (used in) financing
activities........................ (6,511) -- (1,304) (819) (5,847) (4,589) 518
Increase (decrease) in cash and
cash equivalents.................. (18,759) 5,456 15,901 4,591 475 (2,086) 1,938
Ratio of earnings to fixed charges(5)
(unaudited)....................... 1.58x 1.16x -- 1.10x -- -- --
Deficiency of earnings to
fixed charges(5) (unaudited)...... -- -- 569 -- 413 3,073 5,935
Total assets at book value............ 206,317 188,214 194,376 181,508 175,963 179,821 186,138
Cash and cash equivalents............. 2,743 11,057 21,502 5,601 1,010 535 2,621
Total debt(6)......................... 183,877 236,189 229,543 235,708 233,877 235,723 235,658
Total liabilities..................... 185,185 244,837 246,484 239,047 235,226 236,324 237,679
Partner's capital (deficit):
Limited partners - Class A........ (60,236) (56,118) (57,588) (57,025) (58,732) (55,999) (51,087)
Limited partner - Class B......... 81,888 -- 6,000 -- -- -- --
General partner................... (520) (505) (520) (514) (531) (504) (454)
Book value per Partnership
Unit (Class A)(unaudited)(4)...... (113,653) (105,883) (108,657) (107,594) (110,815) (105,658) (96,391)
Exchange value per Partnership
Unit (unaudited)(4)............... 45,425 -- -- -- -- -- --
</TABLE>
- ---------------------------
(1) During the First Quarter 1998, AMMLP recorded an extraordinary gain of
$4,174,000 from the forgiveness of deferred incentive management fees
recorded in conjunction with the refinancing of the mortgage debt of
AMMLP.
(2) EBITDA consists of the sum of consolidated net income, interest expense
and depreciation and amortization. EBITDA data is presented because such
data is used by certain investors to determine the Partnership's ability
to meet debt service requirements. The Partnership considers EBITDA to be
an indicative measure of the Partnership's operating performance due to
the significance of the partnership's long-lived assets and because EBITDA
can be used to measure the partnership's ability to service debt, fund
capital expenditures and expand its business; however, such information
should not be considered as an alternative to net income, operating
profit, cash flows from operations, or any other operating or liquidity
performance measure prescribed by generally accepted accounting
principles. Cash expenditures for various long-term assets and interest
expense have been, and will be, incurred which are not reflected in the
EBITDA presentations.
(3) The Class B Limited Partner is Host Marriott Corporation, which does not
own Units, but is entitled to a preferred return.
(4) A Partnership Unit represents a $100,000 original investment in Atlanta
Marquis.
(5) The ratio of earnings to fixed charges is computed by dividing net income
(loss) before interest expense and other fixed charges by total fixed
charges, including interest expense, amortization of debt issuance costs
and the portion of rent expense that is deemed to represent interest. The
deficiency of earnings to fixed charges is largely the result of
depreciation and amortization of $5,250,000, $6,608,000, $7,464,000 and
$7,406,000 as of December 31, 1997, 1995, 1994 and 1993, respectively.
Atlanta Marquis Supp - 27
<PAGE>
(6) Total debt includes amounts due to Host Marriott under the Original
Debt Service, Commitment and Interest Guarantees of $20,134,000 as of
March 27, 1998, March 28, 1997 and December 31, 1996 and 1995 and
$30,524,000, $23,634,000 and $26,334,000 as of December 31, 1997, 1994
and 1993, respectively.
Management's Discussion and Analysis of Financial Condition and Results of
Operations
Results of Operations
Hotel revenues represent house profit of the Hotel since substantially
all of the operating decisions related to the generation of house profit of the
Hotel rest with the Manager. House profit reflects Hotel operating results and
represents gross Hotel sales less property-level expenses, excluding
depreciation and amortization, base and incentive management fees, property
taxes, equipment rent and certain other costs, which are disclosed separately in
the consolidated statement of operations.
First Quarter 1998 Compared to First Quarter 1997
Revenues. Partnership revenues for the First Quarter 1998 increased 4%
when compared to the First Quarter 1997 primarily due to a 2%, or $210,000,
increase in room revenues and a 3%, or $175,000, increase in food and beverage
revenues. REVPAR, or revenue per available room, represents the combination of
the average daily room rate charged and the average daily occupancy achieved and
is a commonly used indicator of hotel performance (although it is not a GAAP, or
generally accepted accounting principles, measure of revenue). The increase in
room revenues is due to a 1% increase in REVPAR from $96 to $97 for the First
Quarter 1997 and First Quarter 1998, respectively. REVPAR increased due to a 6%
increase in average room rate to approximately $135 partially offset by a 3.2
percentage point decrease in average occupancy to the low-70's. The increase in
average room rate is due to a shift in group mix to higher-rated group business.
The decreases in average occupancy is primarily due to the additional supply
added to the Atlanta suburbs. The number of city-wide conventions was down
slightly from the same period in the prior year.
Hotel management is focused on booking short term corporate business to
compensate for the decline in convention business roomnights. In addition, hotel
management will continue to employ aggressive pricing strategies to maximize
average room rate. The first half of the rooms refurbishment at the Hotel was
completed in 1997 and the refurbishment of the remaining 711 rooms and 16 suites
will begin in mid-June and is expected to be completed by the end of 1998.
Operating Costs and Expenses. In the First Quarter 1998, operating
costs and expenses decreased by $544,000 to $3.1 million primarily due to a
decrease in incentive management fees. In 1998, $207,000 of incentive management
fees were earned as compared to $998,000 earned in 1997. The decrease in
incentive management fees earned is due to an increase in Owner's Priority.
Pursuant to the new management agreement, effective January 3, 1998 no incentive
management fees are payable to the Manager with respect to the first $29.7
million of operating profit. Thereafter, the Manager will receive 20% of the
profit in excess of such figure. As a percentage of revenues, operating costs
and expenses represented 30% and 37% of revenues for the First Quarter 1998 and
First Quarter 1997, respectively.
Operating Profit. In the First Quarter 1998, operating profit increased
$912,000 to $7.3 million primarily due to the changes in revenues and operating
costs and expenses discussed above. As a percentage of total revenues, operating
profit represented 70% in the First Quarter 1998 and 63% in the First Quarter
1997.
Interest Expense. In the First Quarter 1998, interest expense decreased
$919,000 to $4.7 million primarily due to the refinancing of the Mortgage Debt
on February 2, 1998. On that date, the Partnership refinanced $164 million. The
Mortgage Debt bears interest at a fixed rate of 7.4% and requires monthly
payments of principal and interest. The prior mortgage debt bore interest at a
fixed rate of 10.3%.
Net Income Before Extraordinary Items. In the First Quarter 1998, net
income before extraordinary items increased $1.8 million to $2.7 million
primarily due to increased Hotel revenues and decreases in incentive management
fees earned and interest expense.
Gain on Forgiveness of Incentive Management Fees. Pursuant to the terms
of the new management agreement, all unpaid incentive management fees accrued
through December 31, 1997 amounting to $4.2 million were waived by the Manager.
The Partnership recorded an extraordinary gain in conjunction with the write
off.
Atlanta Marquis Supp - 28
<PAGE>
1997 Compared to 1996:
Revenues. Partnership for 1997 decreased 6% to $36.5 million from $38.7
million in 1996. The decrease in revenues is primarily due to a 2% decrease in
REVPAR or revenue per available room. REVPAR decreased due to a 3% decrease in
average room rate to approximately $127 partially offset by a 1.2 percentage
point increase in average occupancy to 69.8. These results are primarily due to
the impact of the 1996 summer Olympic Games. In 1996, the Hotel was able to
drive up the average room rate throughout the year as room rates throughout the
Atlanta market were high. Occupancy levels, however, were more directly tied to
the timing of the Olympic Games. While occupancy levels were high during the
course of the Olympic Games, there was a significant decline in demand in the
months immediately prior to and subsequent to the Olympic Games.
No new full-service hotels opened in the Atlanta market in 1997 and
none are expected to open in 1998. However, during 1997, 38 new limited service
hotels opened, thus adding 3,422 new rooms and 13 more properties containing a
total of 1,498 rooms are expected to open in 1998 in the Atlanta suburbs. These
additions did not have and are not expected to have a significant impact on the
Hotel's revenues as these hotels target a significantly different market
segment. Construction has been started on a 320-room Doubletree guest suite
hotel which is expected to open in mid-1999. The number of city-wide conventions
is expected to be down only slightly; however, roomnights associated with these
conventions are expected to be down by 80,000. The Hotel's strategy to mitigate
the impact of this will be to continue to focus on customer service, to work
closely with the Atlanta Convention and Visitors Bureau to generate short term
business for 1998 and to put into effect the marketing plan developed with the
other Atlanta Marriott products targeting leisure weekend and summer customers.
Operating Costs and Expenses. In 1997, operating costs and expenses
decreased $1.3 million to $12.5 million primarily due to a decrease in incentive
management fees. In 1997, $1.2 million of incentive management fees were earned
as compared to $2.0 million earned in 1996. The decrease in incentive management
fees earned was the result of decreased Hotel operating results. As a percentage
of revenues, operating costs and expenses represented 34% of revenues for 1997
and 36% in 1996.
Operating Profit. In 1997, operating profit decreased $849,000 to $23.9
million primarily due to the changes in revenues and operating costs and
expenses discussed above. As a percentage of total revenues, operating profit
represented 66% in 1997 and 64% in 1996.
Interest Expense. In 1997, interest expense increased $2.5 million to
$25.4 million primarily due to a 2.0 percentage point increase in the interest
rate charged on the mortgage debt for the period from the Maturity Date through
the New Maturity Date coupled with financing costs of $900,000 incurred in
connection with the extension of the maturity date of the Mortgage Debt.
Net Income (Loss). In 1997, the Partnership had a net loss of $569,000,
a decrease of $3.1 million over 1996's net income of $2.5 million. This decrease
was primarily due to lower Hotel revenues and an increase in the Partnership's
interest expense, partially offset by a decrease in incentive management fees.
1996 Compared to 1995:
Revenues. Partnership's revenues for 1996 increased 11% to $38.7
million from $34.8 million in 1995. The increase in revenues is the result of a
9% increase in REVPAR. REVPAR increased due to a 14% increase in average room
rate to approximately $132 partially offset by a 3.0 percentage point decrease
in average occupancy to the high-60's. These changes in average room rate and
average occupancy are primarily due to the impact on the city of the 17-day
Centennial Olympic Games. The increase in average room rate was due to an
increase in room rates throughout the Atlanta market. The decline in average
occupancy was due to a decline in city-wide demand for the months prior to and
immediately after the Olympics. During the Olympic Games, the Hotel hosted the
"Olympic Family" which was comprised of the International Olympic Committee, the
Atlanta Committee for the Olympic Games and federations from each of the
participating countries.
Operating Costs and Expenses. In 1996, operating costs and expenses
increased $811,000 to $13.9 million. The increase was primarily due to the
changes in the following:
Atlanta Marquis Supp - 29
<PAGE>
Depreciation. Depreciation decreased $1.1 million, or 16%, in 1996 when
compared to 1995 due to a portion of the Hotel's furniture and equipment
becoming fully depreciated in 1995.
Incentive Management Fees. In 1996, $2.0 million of incentive management
fees were earned as compared to $1.0 million earned in 1995. The increase in
incentive management fees earned was the result of improved Hotel operating
results resulting in certain cash flow priorities having been met.
Equipment Rent and Other: Equipment rent and other increased $460,000 due
to the inclusion of a property tax credit in 1995 results which did not occur in
1996.
As a percentage of revenues, operating costs and expenses represented
36% of revenues for 1996 and 38% in 1995.
Operating Profit. In 1996, operating profit increased $3.0 million to
$24.8 million primarily due to the changes in revenues and operating costs and
expenses discussed above. As a percentage of total revenues, operating profit
represented 64% in 1996 and 63% in 1995.
Net Income (Loss). In 1996, the Partnership had a net income of $2.5
million, an increase of $3.0 million over 1995's net loss of $413,000. This
increase was primarily due to higher Hotel revenues.
Inflation
The rate of inflation has been relatively low and accordingly has not
had a significant impact on the Partnership's operating results. However, the
Hotel's room rates and occupancy levels are sensitive to inflation. The Manager
is generally able to pass through increased costs to customers through higher
room rates.
Capital Resources and Liquidity
AMMLP's financing needs have been historically funded through loan
agreements with independent financial institutions. As a result of the
successful refinancing of the Partnership's Mortgage Debt, the General Partner
believes that the Partnership will have sufficient capital resources and
liquidity to conduct its operations in the ordinary course of business.
The Merger
On December 31, 1997 limited partners holding a majority of the limited
partner Units in AMMLP consented to the Merger of AMMLP with and into Atlanta
Marquis. The Merger was part of a series of transactions. On December 31, 1997,
AMMLP merged with and into Atlanta Marquis pursuant to an agreement and plan of
merger (the "Merger"). The requisite number of AMMLP limited partners approved
the Merger in accordance with the applicable provisions of the partnership
agreement and the Delaware Revised Uniform Limited Partnership Act.
In conjunction with the Merger and the refinancing of the mortgage
debt, the following transactions occurred:
. AMMLP was merged with and into Atlanta Marquis. With the Merger, the
separate existence of AMMLP ceased and AMMLP limited partnership units
("Units") were converted on a one-for-one basis into Class A limited
partnership new units ("Partnership Units"). AMMLP limited partners who
held fractional interests in Units received the same interest in the
Partnership Units.
. On December 31, 1997, the General Partner made an initial capital
contribution of $6 million to the Partnership. On January 30, 1998 the
General Partner contributed an additional $69 million. In return for such
additional capital contributions, the General Partner received a new Class
B limited partnership interest in Atlanta Marquis entitling the General
Partner to a 13.5% cumulative, compounding annual preferred return and
priority return of such capital. The General Partner also surrendered its
then existing Class B interest on distributions.
. Partnership Class A limited partners will receive an annual return of 5%
on their initial investment in AMMLP, ratably with a 5% return to the
General Partner on its initial investment in AMMLP, after payment of the
preferred return on the
Atlanta Marquis Supp - 30
<PAGE>
Class B interest. To the extent unpaid in any year, such return will
accumulate and compound and be payable from sale or refinancing proceeds.
. The General Partner caused the Partnership to contribute the Land to a
subsidiary of Ivy, in return for a credit to the Partnership's capital
account of $26.5 million (represented by a Class C limited partnership
interest in Ivy) and a 10% cumulative, compounding annual preferred return
and a priority return. The General Partner also caused the Partnership to
reinvest the capital contributions received from the General Partner in Ivy
(represented by a Class B partnership interest in Ivy) for a 13.5%
cumulative, compounding annual preferred return and priority return of such
capital.
. To facilitate the refinancing of Ivy's mortgage debt, the Hotel and the
Land were conveyed to a special purpose, bankruptcy remote entity, HMA
Realty Limited Partnership ("HMA"). The sole general partner of HMA, with a
1% interest, is HMA-GP, Inc., a wholly-owned subsidiary of Ivy. The sole
limited partner, with a 99% interest, is Ivy.
Accordingly, the new mortgage debt agreements were entered into by HMA.
. Host Marriott waived its existing right to priority repayment of the $20.1
million in prior non-interest bearing Interest Guarantee advances to Ivy
and restructured such advances as a loan with a 15 year term (interest only
for the first five years) bearing interest at a rate of 9% per annum (the
"Term Loan"). Payments are due monthly in arrears from cash available after
payment of debt service on the New Mortgage Debt. Upon a sale of the Hotel,
the Term Loan will accelerate and become due and payable.
. The outstanding amount of the Interest Guarantee of $10.4 million and
related interest was repaid to Host Marriott.
. The $30 million Principal Guarantee provided by Host Marriott was
eliminated.
. The Partnership distributed funds to Class A limited partners of
approximately $5,000 per Partnership Unit. This distribution represented
the excess of the Partnership's reserve after payment of a majority of the
transaction costs related to the Mortgage Debt refinancing.
AMMLP's partnership agreement was amended (the "AMMLP-II Partnership
Agreement") as a result of the Merger to incorporate the following revisions:
(i) a revised provision regarding a sale of the Hotel to permit Atlanta Marquis
to sell the Hotel to an unaffiliated third party without the consent of the
limited partners; (ii) a revised provision limiting the voting rights of the
General Partner and its affiliates to permit the General Partner and its
affiliates to have full voting rights with respect to all Partnership Units
currently held by or acquired by the General Partner and its affiliates; (iii)
extinguishment of the original Class B limited partner interest held by the
General Partner and replacement of it with a new Class B interest which is
entitled to a 13.5% cumulative, compounded annual return; (iv) addition of a
mechanism that allows the Class B limited partner to contribute up to an
additional $20 million should the Hotel require additional funding (such
contribution would also be entitled to the 13.5% return discussed above); (v) a
revised right of removal of the General Partner clause so that an affirmative
vote of 66 2/3% would be needed to effect a removal of the General Partner and;
(vi) revisions to the provisions for allocations and distributions (see Item 8
"Financial Statements and Supplementary Data" below). As a result of the
approval of the Merger, the AMMLP-II Partnership Agreement became effective
December 31, 1997.
Mortgage Debt
On February 2, 1998, the mortgage debt was successfully refinanced with
a third party lender. The Partnership's debt now consists of a $164 million
mortgage loan, which is nonrecourse to HMA, which bears interest at a fixed rate
of 7.4% for a 12-year term. The mortgage loan requires payments of principal and
interest based upon a 25-year amortization schedule. As part of the refinancing,
HMA was required to establish certain reserves which are held by an agent of the
lender including:
. $3.6 million debt service reserve--This reserve is equal to three months
of debt service.
. $10.1 million deferred maintenance and capital expenditure reserve--This
reserve will be expended for capital expenditures for repairs to the facade
of the Hotel as well as various renewals and replacements and site
improvements.
. $7.5 million rooms refurbishment reserve--This reserve will be expended to
refurbish the remaining 711 rooms and 16 suites at the Hotel which have not
already been refurbished.
Atlanta Marquis Supp - 31
<PAGE>
. $1.3 million tax and insurance reserve--This reserve will be used to pay
real estate tax and insurance premiums for the Hotel.
In addition, HMA advanced an additional $2.6 million to the Manager for
working capital needs and used the remaining cash to pay transaction costs
associated with the refinancing.
Principal Sources and Uses of Cash
General
The Partnership's principal source of cash is cash from Hotel
operations. Its principal uses of cash are to pay debt service payments on the
Partnership's mortgage debt, to make guarantee repayments, to fund the property
improvement fund and to make cash distributions to the partners. Additionally,
in 1998 the Partnership received cash through an equity infusion by the General
Partner and utilized cash to pay financing costs incurred in connection with the
refinancing of the Partnership's mortgage debt and to establish reserves
required by the lender.
First Quarter 1998 Compared to First Quarter 1997
Total cash used in operating activities was $8.5 million for the First
Quarter 1998 as compared to total cash provided by operations of $6.6 million
for the First Quarter 1997. In the First Quarter 1998, a combined total of $15.6
million was paid on the mortgage debt on the scheduled January 11, 1998 debt
service date and on the February 2, 1998 refinancing date. In the First Quarter
1997, $662,000 was paid on the mortgage debt on January 11, 1997 as the accrued
interest due through December 31, 1996 was prepaid on that date.
Cash used in investing activities was $3.7 million for the First
Quarter 1998 as compared to $1.1 million for the First Quarter 1997. The
increase in cash used in investing activities is primarily due to an advance of
$2.6 million to the Manager for working capital needs.
Cash used in financing activities was $6.5 million for the First
Quarter 1998. For the First Quarter 1998, no cash was provided by or used in
financing activities. The increase in cash used in financing activities is
primarily the result of the restructuring and refinancing transactions. During
the quarter, The Partnership acquired new mortgage debt financing of $164
million and received the remaining $69 million of the $75 million equity
infusion from the General Partner. These proceeds were used as follows: to repay
the $199.3 million of mortgage debt; to repay $10.4 million of the debt service
guarantee and related interest outstanding under the Host Marriott interest
guarantee; to establish $22.5 million of reserves required by the lender; and,
to pay financing costs of $2.9 million. Subsequent to the initial establishment,
an additional $1.8 million has been contributed to the lender reserves pursuant
to the loan agreement. The Partnership made a cash distribution in February 1998
to the Class A limited partners of $2.7 million, or $5,000 per limited partner
unit from 1997 operations.
1997, 1996 and 1995:
Cash used in investing activities was $4.4 million, $4.5 million and
$3.7 million for the years ended December 31, 1997, 1996 and 1995, respectively.
Contributions to the property improvement fund for the years ended December 31,
1997, 1996, and 1995, were $3.9 million, $4.1 million, and $3.3 million,
respectively. Property and equipment additions increased in 1997 due to
increased expenditures at the Hotel associated with the first half of the rooms
refurbishment completed in 1997.
Cash used in financing activities was $1.3 million, $1.0 million and
$5.8 million for the years ended December 31, 1997, 1996 and 1995, respectively.
In 1997, the Partnership drew $10.4 million pursuant to the Interest Guarantee
and received $6 million of the $75 million total equity infusion from the
General Partner. The Partnership paid $28.5 million, $20.4 million and $20.4
million of interest on the mortgage debt for the years ended December 31, 1997,
1996 and 1995, respectively. On the Maturity Date, the Partnership was required
to pay $17.6 million representing the Deferred Interest on the Mortgage Debt. No
guarantee repayments to Host Marriott were made in 1997 and 1996. The
Partnership made a guarantee repayment of $3.5 million in 1995. No distributions
to partners were made in 1997 as all cash flow was being reserved in
anticipation of the Mortgage Debt maturity. Distributions to partners were
$819,000 in 1996 and $2.3 million in 1995. Subsequent to year end, the
Partnership made a cash distribution to the Class A limited partners of
$2,648,562 ($5,000 per Partnership Unit).
Atlanta Marquis Supp - 32
<PAGE>
Total cash provided from operations was $21.6 million, $9.9 million and
$10.1 million for the years ended December 31, 1997, 1996 and 1995,
respectively. Partnership did not pay the interest payment of the Mortgage Debt
which was due on January 10, 1998 until January 9, 1998. In both 1996 and 1995,
the majority of the January interest payment was paid in December of the
preceding year. This difference in the timing of the interest payments accounts
for the difference in the total cash provided from operations.
The General Partner believes that cash from Hotel operations and the
reserves established in conjunction with the refinancing will continue to meet
the short and long-term operational needs of the Partnership. In addition, the
General Partner believes the property improvement fund and the capital reserves
established in conjunction with the refinancing will be adequate for the future
capital repairs and replacement needs of the Hotel.
Capital Expenditures
- --------------------
The Partnership is required to maintain the Hotel in good repair and
condition. The new management agreement provides for the establishment of a
property improvement fund to cover the cost of non-routine repairs and
maintenance and renewals and replacements to the Hotel's property and equipment.
Contributions to the fund are 5% of Hotel gross sales. Annual contributions to
the fund equaled 4% of gross Hotel sales through June 1995 and are 5%
thereafter. Per the terms of the New Management Agreement, contributions to the
property improvement fund will remain at 5%.
In 1997, the Hotel completed a $7.0 million refurbishment of
approximately half its guest rooms which included the replacement of the
carpeting, bedspreads, upholstery, drapes and other similar items and also the
dressers, chairs, beds and other furniture. The refurbishment of the remaining
711 rooms and 16 suites will begin in mid-1998. This portion of the
refurbishment will be funded from a reserve which was established by the
Partnership with the lender on February 2, 1998. The facade repair project which
entails a repair of the entire facade of the building is underway. The project
is expected to cost $9.0 million and will be funded by the Partnership from a
reserve which was also established with the lender in conjunction with the
refinancing on the Maturity Date. The project is expected to be completed by
mid-1999.
Atlanta Marquis Supp - 33
<PAGE>
FINANCIAL STATEMENTS
Atlanta Marquis Supp - 34
<PAGE>
Report of Independent Public Accountants
TO THE PARTNERS OF ATLANTA MARRIOTT MARQUIS II LIMITED PARTNERSHIP:
We have audited the accompanying consolidated balance sheet of Atlanta Marriott
Marquis II Limited Partnership (a Delaware limited partnership) and Ivy Street
Hotel Limited Partnership, its majority-owned subsidiary partnership, as of
December 31, 1997 and 1996, and the related consolidated statements of
operations, changes in partners' deficit and cash flows for each of the three
years in the period ended December 31, 1997. These financial statements are the
responsibility of the General Partner'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 an audit to obtain
reasonable assurance about whether the consolidated 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, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Atlanta Marriott
Marquis II Limited Partnership and subsidiary as of December 31, 1997 and 1996,
and the results of their operations and their cash flows for each of the three
years in the period ended December 31, 1997 in conformity with generally
accepted accounting principles.
ARTHUR ANDERSEN LLP
Washington, D.C.
March 11, 1998
Atlanta Marquis Supp - 35
<PAGE>
Atlanta Marriott Marquis II Limited Partnership and Subsidiary
Consolidated Balance Sheets
December 31, 1997 and 1996
(in thousands)
<TABLE>
<CAPTION>
1997 1996
----------- -----------
<S> <C> <C>
ASSETS
Property and equipment, net...............................................................$ 165,372 $ 162,111
Due from Marriott International, Inc...................................................... 4,425 6,390
Property improvement fund................................................................. 2,756 6,864
Deferred financing costs, net of accumulated amortization................................. 321 542
Cash and cash equivalents................................................................. 21,502 5,601
----------- -----------
$ 194,376 $ 181,508
=========== ===========
LIABILITIES AND PARTNERS' DEFICIT
LIABILITIES
Mortgage debt..........................................................................$ 199,019 $ 215,574
Due to Host Marriott under Original Debt Service Guarantee
and Commitment and Interest Guarantee............................................. 30,524 20,134
Due to Marriott International, Inc..................................................... 4,198 3,030
Accounts payable and accrued expenses.................................................. 12,743 309
----------- -----------
Total Liabilities.................................................................... 246,484 239,047
----------- -----------
PARTNERS' DEFICIT
General Partner
Capital contributions................................................................ 536 536
Capital distributions................................................................ (165) (165)
Cumulative net losses................................................................ (891) (885)
----------- -----------
(520) (514)
------------ -----------
Class A Limited Partners
Capital contributions, net of offering costs of $6,430............................... 46,570 46,570
Capital distributions................................................................ (15,982) (15,982)
Cumulative net losses................................................................ (88,176) (87,613)
----------- -----------
(57,588) (57,025)
----------- -----------
Class B Limited Partner
Capital contribution................................................................. 6,000 --
----------- -----------
Total Partners' Deficit.............................................................. (52,108) (57,539)
----------- -----------
$ 194,376 $ 181,508
=========== ===========
</TABLE>
See Notes to Consolidated Financial Statements.
Atlanta Marquis Supp - 36
<PAGE>
Atlanta Marriott Marquis II Limited Partnership and Subsidiary
Consolidated Statements of Operations
For the Years Ended December 31, 1997, 1996 and 1995
(in thousands, except per Unit amounts)
<TABLE>
<CAPTION>
1997 1996 1995
---------- ---------- ----------
<S> <C> <C> <C>
REVENUES (Note 3) ............................................................$ 36,471 $ 38,654 $ 34,831
---------- ---------- ----------
OPERATING COSTS AND EXPENSES
Depreciation ............................................................. 5,250 5,525 6,608
Property taxes ............................................................. 2,754 2,858 2,692
Base management fee......................................................... 2,562 2,654 2,435
Incentive management fee.................................................... 1,167 2,018 969
Equipment rent and other.................................................... 805 817 357
---------- ---------- ----------
12,538 13,872 13,061
---------- ---------- ----------
OPERATING PROFIT ............................................................. 23,933 24,782 21,770
Interest expense............................................................ (25,389) (22,890) (22,712)
Interest income............................................................. 887 651 529
---------- ---------- ----------
NET (LOSS) INCOME .............................................................$ (569) $ 2,543 $ (413)
========== ========== ==========
ALLOCATION OF NET (LOSS) INCOME
General Partner.............................................................$ (6) $ 25 $ (4)
Limited Partners............................................................ (563) 2,518 (409)
---------- ---------- ----------
$ (569) $ 2,543 $ (413)
========== ========== ==========
NET (LOSS) INCOME PER LIMITED PARTNER UNIT
(530 Units).................................................................$ (1,062) $ 4,751 $ (772)
========== ========== ==========
</TABLE>
See Notes to Consolidated Financial Statements.
Atlanta Marquis Supp - 37
<PAGE>
Atlanta Marriott Marquis II Limited Partnership and Subsidiary
Consolidated Statements of Changes in Partners' Deficit
For the Years Ended December 31, 1997, 1996 and 1995
(in thousands)
<TABLE>
<CAPTION>
Class A Class B
General Limited Limited
Partner Partners Partner Total
--------- ---------- --------- -------
<S> <C> <C> <C> <C>
Balance, December 31, 1994...........................$ (504) $ (55,999) $ -- $ (56,503)
Capital distributions............................ (23) (2,324) -- (2,347)
Net loss.......................................... (4) (409) -- (413)
------------- ------------- ------------- -------------
Balance, December 31, 1995........................... (531) (58,732) -- (59,263)
Capital distributions............................. (8) (811) -- (819)
Net income........................................ 25 2,518 -- 2,543
------------- ------------- ------------- -------------
Balance, December 31, 1996........................... (514) (57,025) -- (57,539)
Capital contributions............................. -- -- 6,000 6,000
Net loss.......................................... (6) (563) -- (569)
------------- ------------- ------------- -------------
Balance, December 31, 1997...........................$ (520) $ (57,588) $ 6,000 $ (52,108)
============== ============= ============= ==============
</TABLE>
See Notes to Consolidated Financial Statements.
Atlanta Marquis Supp - 38
<PAGE>
Atlanta Marriott Marquis II Limited Partnership and Subsidiary
Consolidated Statements of Cash Flows
For the Years Ended December 31, 1997, 1996 and 1995
(in thousands)
<TABLE>
<CAPTION>
1997 1996 1995
---------- ---------- -----------
<S> <C> <C> <C>
OPERATING ACTIVITIES
Net (loss) income.............................................................$ (569) $ 2,543 $ (413)
Noncash items:
Depreciation ............................................................. 5,250 5,525 6,608
Deferred interest......................................................... 1,035 1,831 1,654
Amortization of financing costs as interest............................... 325 621 619
(Gain) loss on disposition of assets...................................... -- (1) 64
Changes in operating accounts:
Accounts payable and accrued expenses..................................... 12,434 24 (178)
Due from Marriott International, Inc...................................... 1,965 (2,616) 782
Due to Marriott International, Inc........................................ 1,168 1,966 926
---------- ---------- -----------
Cash provided by operating activities.................................. 21,608 9,893 10,062
---------- ---------- -----------
INVESTING ACTIVITIES
Additions to property and equipment, net...................................... (8,511) (3,444) (2,643)
Change in property improvement fund........................................... 4,108 (1,039) (1,097)
---------- ---------- -----------
Cash used in investing activities...................................... (4,403) (4,483) (3,740)
---------- ---------- -----------
FINANCING ACTIVITIES
Advances under Original Debt Service Guarantee
and Commitment and Interest Guarantee..................................... 10,390 -- --
Payment of deferred interest on mortgage debt................................. (17,590) -- --
Capital contributions from General Partner for Class B Limited
Partnership Interest...................................................... 6,000 -- --
Payment of deferred financing costs .......................................... (104) -- --
Capital distributions......................................................... -- (819) (2,347)
Repayments under Original Debt Service Guarantee
and Commitment and Interest Guarantee..................................... -- -- (3,500)
---------- ---------- ------------
Cash used in financing activities...................................... (1,304) (819) (5,847)
---------- ---------- -----------
INCREASE IN CASH AND CASH EQUIVALENTS............................................ 15,901 4,591 475
CASH AND CASH EQUIVALENTS at beginning of year................................... 5,601 1,010 535
---------- ---------- -----------
CASH AND CASH EQUIVALENTS at end of year.........................................$ 21,502 $ 5,601 $ 1,010
========== ========== ===========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash paid for mortgage interest...............................................$ 28,470 $ 20,438 $ 20,438
========== ========== ===========
</TABLE>
See Notes to Consolidated Financial Statements.
Atlanta Marquis Supp - 39
<PAGE>
Atlanta Marriott Marquis II Limited Partnership and Subsidiary
Notes to Consolidated Financial Statements
December 31, 1997 and 1996
NOTE 1. THE PARTNERSHIP
Description of the Partnership
Atlanta Marriott Marquis Limited Partnership ("AMMLP"), a Delaware limited
partnership, was formed on May 28, 1985 (the "Closing Date"), to (i) acquire an
80% general partnership interest in the Ivy Street Hotel Limited Partnership
("Ivy"), a partnership between John C. Portman, Jr. ("Portman") and Host
Marriott Corporation ("Host Marriott") that was formed to develop, own and
operate the 1,671 room Atlanta Marriott Marquis Hotel (the "Hotel"), and (ii)
purchase from Ivy the parcel of land (the "Land") on which the Hotel is located.
The sole general partner of the Partnership, with a 1% interest, is Marriott
Marquis Corporation (the "General Partner"), a wholly-owned subsidiary of Host
Marriott. Marriott International, Inc. serves as the manager of the Hotel
("Marriott International" or the "Manager").
On the Closing Date, 530 Class A limited partnership interests of $100,000 per
Unit ("Unit") were sold in a private placement. The General Partner made a
capital contribution of $536,000 on May 28, 1985 for its 1% general partnership
interest. In addition, the General Partner acquired a Class B limited
partnership interest without making any additional capital contribution.
The Partnership purchased its 80% general partnership interest in Ivy from Host
Marriott for a total price of $28.8 million. The Partnership also acquired the
Land from Ivy for $10 million in a separate transaction. The Partnership
subsequently leased the Land to Ivy under a 99-year lease with rentals based
primarily on Hotel sales.
On July 9, 1997, Atlanta Marriott Marquis II Limited Partnership (the
"Partnership") was formed in anticipation of the merger discussed below. The
general partner of the Partnership is also Marriott Marquis Corporation. Prior
to December 31, 1997, the Partnership did not engage in any active business and
was organized solely to succeed AMMLP's interest in Ivy. Effective December 31,
1997, the Partnership succeeded AMMLP as the managing general partner of Ivy.
On December 31, 1997, AMMLP merged with and into the Partnership (the "Merger").
The Merger of AMMLP and AMMLP-II was treated as a reorganization of affiliated
entities and AMMLP's basis in its assets and liabilities were carried over. In
conjunction with the Merger, the following transactions occurred:
. AMMLP was merged with and into the Partnership. With the Merger, the
separate existence of AMMLP ceased and AMMLP limited partner units
("Units") were converted on a one-for-one basis into Partnership Class A
limited partnership units ("Partnership Units"). AMMLP limited partners who
held fractional interests in Units received the same interest in
Partnership Units.
. On December 31, 1997, the General Partner made an initial capital
contribution of $6 million to the Partnership. Subsequent to year end, on
January 30, 1998, the General Partner contributed an additional $69
million. In return for such additional capital contributions, the General
Partner received a new Class B limited partnership interest in the
Partnership entitling the General Partner to a 13.5% cumulative,
compounding annual preferred return and priority return of such capital.
The General Partner also surrendered its then existing Class B interest on
distributions.
. The Partnership Class A limited partners will receive an annual return of
5% on their initial investment in AMMLP, ratably with a 5% return to the
General Partner on its initial investment in AMMLP, after payment of the
preferred return on the Class B interest. To the extent unpaid in any year,
such return will accumulate and compound and be payable from sale or
refinancing proceeds.
AMMLP's partnership agreement was amended (the "AMMLP-II Partnership Agreement")
as a result of the Merger to incorporate the following revisions: (i) a revised
provision regarding a sale of the Hotel to permit the Partnership to sell the
Hotel to an unaffiliated third party without the consent of the limited
partners; (ii) a revised provision limiting the voting rights of the General
Partner and its affiliates to permit the General Partner and its affiliates to
have full voting rights with respect to all Partnership Units currently held by
or acquired by the General Partner and its affiliates; (iii) extinguishment of
the original Class
Atlanta Marquis Supp - 40
<PAGE>
B limited partner interest held by the General Partner and replacement of it
with a new Class B interest which is entitled to a 13.5% cumulative, compounded
annual return; (iv) addition of a mechanism that allows the Class B limited
partner to contribute up to an additional $20 million should the Hotel require
additional funding (such contribution would also be entitled to the 13.5% return
discussed above); (v) a revision of the right of removal of the General Partner
clause so that an affirmative vote of 66 2/3% would be needed to effect a
removal of the General Partner and; (v) revised provisions for allocations and
distributions (see Note 9). As a result of the approval of the Merger, the
AMMLP-II Partnership Agreement became effective December 31, 1997.
Partnership Allocations and Distributions
Ivy generally allocates operating income, gains and losses, deductions and cash
available for distribution 80% to the Partnership and 20% to Portman. However,
the first $1 million plus 5% of annual gross room sales of annual cash available
for distribution from Ivy was paid to AMMLP unless Ivy exercised its option to
repurchase the Land.
During 1990, AMMLP determined that the probability of collecting the minority
interest receivable from Portman was remote. Thus, AMMLP wrote off this
receivable which totaled $3,542,000 and began recording 100% of the losses of
Ivy. In future years, if AMMLP-II records income, 100% of the income will be
allocated to AMMLP-II until such excess income allocated to AMMLP-II equals the
excess losses previously recorded by AMMLP. Thereafter, any income would be
allocated 80% to AMMLP-II and 20% to Portman. As of December 31, 1997 and 1996,
excess losses recognized by AMMLP and the Partnership were $621,000 and $50,000,
respectively. AMMLP net losses, as defined, were generally allocated as follows:
(i) beginning in 1991 and continuing until the Class A limited partners and
the General Partner had received sale or refinancing proceeds ("Capital
Receipts") equal to their total cumulative capital contributions
("Original Capital"), 1% to the General Partner, 80% to the Class A
limited partners and 19% to the Class B limited partner; and
(ii) thereafter, 1% to the General Partner, 65% to the Class A Limited
Partners and 34% to the Class B Limited Partner.
These allocations could have been subject to certain special allocations of net
profit or net loss to the General Partner required by Federal income tax
regulations.
Cash Available for Distribution, as defined, generally was distributed as
follows:
(i) beginning in 1991, and continuing until the Class A Limited Partners
and the General Partner had received distributions of Capital Receipts
equal to their Original Capital, 1% to the General Partner, 80% to the
Class A Limited Partners and 19% to the Class B Limited Partner; and
(ii) thereafter, 1% to the General Partner, 65% to the Class A Limited
Partners and 34% to the Class B Limited Partner. However, until the
General Partner and the Class A Limited Partners had received a return
of their Original Capital through distributions of Capital Receipts,
the Class B Limited Partner will subordinate its cash distributions to
an annual non-cumulative 10% return on Original Capital to the General
Partner and the Class A Limited Partners.
Net profits, as defined, generally were allocated in the same ratio as Cash
Available for Distribution. Excess net profits were then to be applied to offset
prior net losses in excess of the partners' remaining invested capital.
Notwithstanding the above allocations, the Partnership Agreement provided for
specific allocation to the partners of gain realized and proceeds received by
the Partnership upon sale, condemnation or other disposition of the Hotel or
assets of the Partnership. In addition, the Partnership Agreement provided for
specific allocations of any excess refinancing or land sale proceeds.
As discussed above, on December 31, 1997, the Partnership executed the AMMLP-II
Partnership Agreement which provides for a change in the above allocations (see
Note 9).
For financial reporting purposes, profits and losses are allocated among the
partners based upon their stated interests in cash available for distribution.
Atlanta Marquis Supp - 41
<PAGE>
NOTE 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Accounting
The Partnership's records are maintained on the accrual basis of accounting, and
its fiscal year coincides with the calendar year. The Partnership's financial
statements consolidate the financial statements of Ivy, its majority-owned
subsidiary partnership. All material intercompany transactions, including the
land lease between the Partnership and Ivy described in Note 8, have been
eliminated. All assets and liabilities of AMMLP have been carried over to the
Partnership at their historical basis.
Use of 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, disclosure of contingent
assets and liabilities and the reported amounts of revenues and expenses during
the reporting period. Actual results could differ from those estimates.
Revenues and Expenses
Hotel revenues represent house profit of the Hotel since substantially all of
the operating decisions related to the generation of house profit of the Hotel
rests with the Manager. House profit reflects Hotel operating results and
represents gross Hotel sales less property-level expenses, excluding
depreciation and amortization, base and incentive management fees, property
taxes, equipment rent and certain other costs, which are disclosed separately in
the accompanying consolidated statement of operations.
On November 20, 1997, the Emerging Issues Task Force ("EITF") of the Financial
Accounting Standards Board reached a consensus on EITF 97-2 "Application of FASB
Statement No. 94 and APB Opinion No. 16 to Physician Practice Management
Entities and Certain Other Entities with Contractual Management Arrangements."
EITF 97-2 addresses the circumstances in which a management entity may include
the revenues and expenses of a managed entity in its financial statements.
The Partnership is assessing the impact of EITF 97-2 on its policy of excluding
property-level revenues and operating expenses of the Hotel from its statements
of operations.
Property and Equipment
Property and equipment is recorded at cost which includes interest, rent and
real estate taxes incurred during development. Depreciation is computed using
the straight-line method over the following estimated useful lives of the
assets:
Building and improvements 50 years
Furniture and equipment 3 to 20 years
All land, property and equipment is pledged as security for the mortgage debt
described in Note 6.
The Partnership assesses impairment of its real estate property based on whether
estimated undiscounted future cash flows for the property will be less than its
net book value. If the property is impaired, its basis is adjusted to fair
market value.
Deferred Financing Costs
Financing costs incurred in connection with obtaining the mortgage debt have
been deferred and are being amortized using the straight-line method, which
approximates the effective interest rate method, over three to ten years. A
portion of the deferred financing costs totaling $4,249,000 were fully amortized
as of July 10, 1997. Additional financing costs of $104,000 were incurred in
1997 in connection with the refinancing of the Partnership's mortgage debt.
Accumulated amortization of the deferred financing costs totaled $4,413,000 and
$4,090,000 at December 31, 1997 and 1996, respectively. This amount includes
amortization of deferred financing costs for both Ivy and the Partnership. Of
the total, the Partnership has accumulated amortization of $164,000 and $151,000
at December 31, 1997 and 1996, respectively.
Cash and Cash Equivalents
Atlanta Marquis Supp - 42
<PAGE>
The Partnership considers all highly liquid investments with a maturity of three
months or less at date of purchase to be cash equivalents.
Income Taxes
Provision for Federal and state income taxes has not been made in the
accompanying financial statements since the Partnership does not pay income
taxes but rather allocates its profits and losses to the individual partners.
There are significant differences between the net income/loss reported in these
financial statements and the net income/loss determined for income tax purposes.
These differences are due primarily to the use, for tax purposes, of accelerated
depreciation methods and shorter depreciable lives for the assets, the timing of
the recognition of incentive management fee expense and the treatment of the
minority interest receivable. As a result of these differences, the
(deficit)/excess of the tax basis in net Partnership liabilities and the net
liabilities reported in the accompanying financial statements is $(90,642,000)
and $72,111,000 as of December 31, 1997 and 1996, respectively. For tax
purposes, the assets of the Partnership were stepped up to fair market value on
December 31, 1997 when the General Partner made an initial capital contribution
of $6.0 million to the Partnership for a Class B limited partnership interest in
the Partnership.
Statement of Financial Accounting Standards
In 1996, AMMLP adopted Statement of Financial Accounting Standards ("SFAS")
No. 121 "Accounting for the Impairment of Long-Lived Assets and for Long-Lived
Assets to Be Disposed Of." Adoption of SFAS No. 121 did not have an effect on
its financial statements.
Atlanta Marquis Supp - 43
<PAGE>
NOTE 3. HOTEL REVENUES
Revenues consist of Hotel operating results for the three years ended December
31 (in thousands):
<TABLE>
<CAPTION>
1997 1996 1995
----------- ------------ -----------
<S> <C> <C> <C>
HOTEL SALES
Rooms.................................................................$ 54,102 $ 56,115 $ 50,515
Food and beverage..................................................... 25,821 25,968 25,379
Other................................................................. 5,474 6,381 5,277
----------- ------------ -----------
85,397 88,464 81,171
----------- ------------ -----------
HOTEL EXPENSES
Departmental direct costs
Rooms............................................................. 11,485 11,508 10,821
Food and beverage................................................. 17,776 18,003 17,289
Other hotel operating expenses........................................ 19,665 20,299 18,230
----------- ------------ -----------
48,926 49,810 46,340
----------- ------------ -----------
HOTEL REVENUES............................................................$ 36,471 $ 38,654 $ 34,831
=========== ============ ===========
</TABLE>
NOTE 4. PROPERTY AND EQUIPMENT
Property and equipment consists of the following as of December 31 (in
thousands):
<TABLE>
<CAPTION>
1997 1996
----------- -----------
<S> <C> <C>
Leased land acquisition costs and land.....................................$ 12,617 $ 12,617
Building and improvements.................................................. 182,629 182,597
Furniture and equipment.................................................... 42,621 34,142
----------- -----------
237,867 229,356
Less accumulated depreciation.............................................. (72,495) (67,245)
----------- -----------
$ 165,372 $ 162,111
=========== ===========
</TABLE>
For financial reporting purposes the Land is carried at its historical purchase
cost of $10 million as required by generally accepted accounting principles.
NOTE 5. ESTIMATED FAIR VALUE OF FINANCIAL INSTRUMENTS
The estimated fair values of financial instruments are shown below. The fair
values of financial instruments not included in this table are estimated to be
equal to their carrying amounts (in thousands):
<TABLE>
<CAPTION>
As of December 31, 1997 As of December 31, 1996
----------------------- -----------------------
Estimated Estimated
Carrying Fair Carrying Fair
Amount Value Amount Value
------------- ---------- ------------- ---------
<S> <C> <C> <C> <C>
Mortgage debt $ 199,019 $ 199,019 $ 215,574 $ 215,574
Due to Host Marriott under Original Debt
Service Guarantee and Commitment and
Interest Guarantee 30,524 30,524 20,134 14,300
Incentive management fees due to
Marriott International, Inc. 4,155 -- 2,987 --
</TABLE>
Atlanta Marquis Supp - 44
<PAGE>
The 1997 and 1996 estimated fair value of the mortgage debt is stated at its
carrying value as it was repaid on February 2, 1998. The amounts held in Due to
Host Marriott under original debt service and commitment consist of the interest
guarantee in the amount of $10,390,000 and the original debt service commitment
in the amount of $20,134,000. The estimated fair value of the interest guarantee
is the carrying value as it was also repaid on February 2, 1998. The estimated
fair value of the original debt service commitment is its carrying value as the
obligation earns interest at 9% as of February 2, 1998. The estimated fair value
of incentive management fees due to Marriott International is zero. As part of
the new management agreement effective January 3, 1998, all accrued incentive
management fees were waived by the Manager and the Partnership's accrued
liability was written off to income in 1998.
NOTE 6. MORTGAGE DEBT
As of December 31, 1996, the AMMLP's mortgage debt consisted of a total of
$215,574,000 in nonrecourse mortgage notes (the "Mortgage Debt"). Through July
10, 1997 (the "Maturity Date"), interest accrued on the Mortgage Debt at a fixed
rate of 10.3%. Interest only was payable semiannually in arrears. The cash
payment rate was 10.17%. The difference between the cash payment rate and the
accrual rate (the "Deferred Interest") was added to the balance of the Mortgage
Debt. The cumulative Deferred Interest added to the Mortgage Debt balance
amounted to $17.6 million and $16.5 million at July 10, 1997 and December 31,
1996, respectively. On the Maturity Date, the Mortgage Debt matured, at which
time AMMLP and Ivy entered into a letter agreement (the "Letter Agreement") with
the lender which effectively extended the maturity of the Mortgage Debt until
February 2, 1998 (the "New Maturity Date"). On the Maturity Date, AMMLP and Ivy
were required to pay $17.6 million representing the Deferred Interest on the
Mortgage Debt in addition to the scheduled interest payment of $10.1 million. As
a result, the Mortgage Debt balance outstanding was reduced to $199,019,000.
The payment of Deferred Interest was funded from $7.2 million of Ivy cash
reserves established by the General Partner in anticipation of the Mortgage Debt
maturity and $10.4 million drawn pursuant to the Host Marriott interest
guarantee (the "Interest Guarantee"). Host Marriott had agreed to advance up to
$50 million to cover interest and principal shortfalls. Had cash flow from
operations been insufficient to fully fund interest due, $20 million was
available under the Interest Guarantee through the Maturity Date. The remaining
$30 million was available under the Principal Guarantee. Prior to the payment of
Deferred Interest in the amount of $10.4 million on the Maturity Date, there
were no amounts outstanding under either the Principal Guarantee or the Interest
Guarantee. In conjunction with the extension, Host Marriott reaffirmed its
obligations pursuant to these guarantees through the New Maturity Date. The
Principal Guarantee was available in case of a sale, refinancing or acceleration
of the principal amount of the underlying notes resulting from an Event of
Default, as defined. To the extent the Interest Guarantee was not used, it
became available as a Principal Guarantee.
During the term of the Letter Agreement, the Mortgage Debt continued to be
nonrecourse, and accrued interest at 12.3% with interest payments due on January
10 and February 2, 1998. Additionally, all funds remitted by the Manager during
the term of the extension were held for the benefit of the lender. In
conjunction with the Letter Agreement, Ivy paid an extension fee of $500,000 as
well as approximately $410,000 representing costs and expenses related to the
transaction.
Host Marriott had guaranteed up to $33 million of the original debt (the
"Original Debt Service Guarantee" and the "Commitment") under which Host
Marriott was obligated to make certain required debt service payments and
restore any cash flow deficits to the extent that Partnership cash flow, as
defined, was insufficient. Pursuant to the terms of the Mortgage Debt, the
Commitment was modified to fund only certain furniture, fixtures and equipment
expenditures and ground rent shortfalls. Any interest, principal or guarantee
loans made at a time when the Commitment was not fully funded reduced, dollar
for dollar, but not below zero, the remaining unfunded amount of the Commitment.
Advances under the Principal Guarantee, Interest Guarantee and Original Debt
Service Guarantee and Commitment up to cumulative fundings of $33 million did
not bear interest. Amounts advanced in excess of $33 million accrued interest at
1% over the prime rate. As of December 31, 1997, cumulative fundings equaled
$41.6 million, exceeding the $33 million by $8.6 million. The excess fundings
accrued interest until they were repaid subsequent to year-end. Total accrued
interest on the cumulative advances for the period from the Maturity Date
through December 31, 1997 equaled $398,000. As of December 31, 1997 and 1996,
Ivy had $20.1 million due to Host Marriott under the Commitment.
On March 24, 1994, the note holders of the Mortgage Debt voted to accept the
Manager as a back-up guarantor and on December 21, 1994, the agreement was
finalized. The Manager, as back-up guarantor, was required to perform the
obligations
Atlanta Marquis Supp - 45
<PAGE>
under the guarantees in the event that Host Marriott failed to do so. In
conjunction with the extension, the Manager reaffirmed its obligations pursuant
to these guarantees through the New Maturity Date.
Subsequent to year-end, the Mortgage Debt was refinanced (see Note 9).
NOTE 7. HOTEL MANAGEMENT AGREEMENT
Ivy entered into a hotel management agreement (the "Management Agreement") with
the Manager to manage the Hotel for a term of 25 years, renewable at Ivy's or
the Manager's option for five additional 10-year terms. The Manager was entitled
to compensation for its services in the form of a base management fee equal to
3% of gross sales. Base management fees paid in 1997, 1996 and 1995 were
$2,562,000, $2,654,000 and $2,435,000, respectively.
In addition, the Manager earned an incentive management fee equal to 50% of
assumed net cash flow of the Hotel, as defined. However, once total cumulative
incentive management fees reached an amount equal to or greater than 20% of
total cumulative Hotel profit, as defined, the Manager earned an incentive
management fee equal to the average of (i) 50% of assumed net cash flow and (ii)
20% of Hotel profit. The incentive management fee was paid out of cash flow
available for incentive management fees, as defined, and was subordinated to the
Mortgage Debt, guarantee repayments and rent under the Land lease. Any incentive
management fees earned but not paid were deferred without interest and paid out
of the first cash flow available for the incentive management fee. During 1997
and 1996, $1,167,000 and $2,018,000, respectively, in incentive management fees
had been earned. Through December 31, 1997, no incentive management fees had
ever been paid. Deferred incentive management fees as of December 31, 1997 and
1996 were $4,154,000 and $2,987,000, respectively, and are included in Due to
Marriott International, Inc. in the accompanying consolidated balance sheet.
Subsequent to year-end, a new management agreement was entered into. As part of
this new agreement, all accrued incentive management fees were waived by the
Manager (see Note 9) and the Partnership's accrued liability was written off in
1998 (see Note 9).
Pursuant to the terms of the Management Agreement, the Manager is required to
furnish the Hotel with certain services ("Chain Services") which are generally
provided on a central or regional basis to all domestic full-service hotels
managed, owned or leased by the Manager or its subsidiaries. Chain Services
include central training, advertising and promotion, a national reservation
system, computerized payroll and accounting services and such additional
services as needed which may be more efficiently performed on a centralized
basis. Costs and expenses incurred in providing such services are allocated
among all hotels in the Manager's full-service hotel system. In addition, the
Hotel also participates in the Manager's Marriott Rewards Program ("MRP"). This
program succeeded the Honored Guest Awards Program. The cost of this program is
charged to all hotels in the Manager's hotel system. The total amount of Chain
Services and MRP costs allocated to the Hotel were $2,685,000 in 1997,
$1,968,000 in 1996 and $2,431,000 in 1995.
Pursuant to the terms of the Management Agreement, the Partnership is required
to provide the Manager with working capital and supplies to meet the operating
needs of the Hotel. The Manager converts cash advanced by the Partnership into
other forms of working capital consisting primarily of operating cash,
inventories, and trade receivables and payables which are maintained and
controlled by the Manager. Upon termination of the Management Agreement, the
working capital and supplies will be returned to the Partnership. As of December
31, 1997 and 1996, $3,077,000 has been advanced to the Manager for working
capital and supplies which is included in Due from Marriott International, Inc.
in the accompanying consolidated balance sheet. The supplies advanced to the
Manager are recorded at their estimated net realizable value. At December 31,
1997 and 1996, accumulated amortization related to the revaluation of these
supplies totaled $177,000. Subsequent to year-end, an additional $2,639,000 was
advanced to the Manager for working capital needs at the Hotel (see Note 9).
The Partnership is required to maintain the Hotel in good repair and condition.
Pursuant to the Agreement, annual contributions to a property improvement fund
provide for the replacement of furniture, fixtures and equipment. Annual
contributions to the fund equaled 4% of gross Hotel sales through June 1995 and
5% thereafter. Total contributions to the property improvement fund for the
years ended December 31, 1997, 1996, and 1995 were $3,929,000, $4,122,000 and
$3,302,000, respectively.
NOTE 8. LAND LEASE
Atlanta Marquis Supp - 46
<PAGE>
On the Closing Date, AMMLP acquired the Land on which the Hotel is located from
Ivy for $10 million. AMMLP has leased the Land to Ivy for a period of 99 years.
Annual rent was equal to 5% of annual gross room sales from the Hotel. Ivy had
an option to repurchase the Land at any time through 1999. Through 1995, the
option price was $25 million and for the ensuing four years the option price
will be adjusted for changes in the Consumer Price Index. At December 31, 1997
and 1996, the option price was $26,500,000 and $25,825,000, respectively. Total
rentals under the lease, which were eliminated in consolidation, were $2,705,000
in 1997, $2,806,000 in 1996 and $2,526,000 in 1995.
Subsequent to year-end, the Land lease was terminated (see Note 9) because the
Land was contributed to a subsidiary of Ivy.
NOTE 9. SUBSEQUENT EVENTS
Bankruptcy Remote Entity
To facilitate the refinancing of AMMLP's Mortgage Debt, on January 29, 1998 the
Hotel and the Land were conveyed to a special purpose, bankruptcy remote entity,
HMA Realty Limited Partnership ("HMA"). The sole general partner of HMA with a
1% interest, is HMA-GP, Inc., a wholly-owned subsidiary of Ivy. The sole limited
partner, with a 99% interest, is Ivy.
Mortgage Debt
On the New Maturity Date, the following transactions occurred:
. HMA obtained new 12-year first mortgage financing of $164 million (the
"New Mortgage Debt") which, together with $35 million from the additional
$69 million capital contributed by the General Partner were used to pay the
maturing Mortgage Debt. The New Mortgage Debt is nonrecourse to HMA, bears
interest at a fixed rate of 7.4% and will require monthly payments of
principal and interest calculated to fully amortize the loan over 25 years
resulting in annual debt service of $14.1 million for 1998 and $14.4
million annually until the end of the 12-year term.
. Host Marriott waived its existing right to priority repayment of the $20.1
million in prior non-interest bearing Interest Guarantee advances to Ivy
and restructured such advances as a loan with a 15 year term (interest only
for the first five years) bearing interest at a rate of 9% per annum (the
"Term Loan"). Payments are due monthly in arrears from cash available after
payment of debt service on the New Mortgage Debt. Upon a sale of the Hotel,
the Term Loan will accelerate and become due and payable.
. The outstanding amount of the Interest Guarantee of $10.4 million and
related interest was repaid to Host Marriott.
. The $30 million Principal Guarantee provided by Host Marriott was
eliminated.
. The Partnership distributed funds to Class A limited partners of
approximately $5,000 per Partnership Unit. This distribution represented
the excess of the Partnership's reserve after payment of a majority of the
transaction costs related to the Mortgage Debt refinancing.
As part of the refinancing, HMA was required to establish certain reserves which
are held by an agent of the lender including:
. $3.6 million debt service reserve--This reserve is equal to three months
of debt service.
. $10.1 million deferred maintenance and capital expenditure reserve--This
reserve will be expended for capital expenditures for repairs to the facade
of the Hotel as well as various renewals and replacements and site
improvements.
. $7.5 million rooms refurbishment reserve--This reserve will be expended to
refurbish the remaining 711 rooms and 16 suites at the Hotel which have not
already been refurbished.
. $1.3 million tax and insurance reserve--This reserve will be used to pay
real estate tax and insurance premiums for the Hotel.
Atlanta Marquis Supp - 47
<PAGE>
In addition, HMA advanced an additional $2,639,000 to the Manager for working
capital needs and used the remaining cash to pay transaction costs associated
with the refinancing.
New Management Agreement
To facilitate the refinancing effective January 3, 1998, a new management
agreement (the "New Management Agreement") was entered into by HMA and the
Manager. The New Agreement expires on July 1, 2010 and is renewable at the
Manager's option for five additional 10-year terms. Pursuant to the terms of the
New Management Agreement, no incentive management fees are payable to the
Manager with respect to the first $29.7 million of operating profit (the
"Owner's Priority"). Thereafter, the Manager will receive 20% of the profit in
excess of such Owner's Priority. The amount of the Owner's Priority will not be
reduced but may be increased to take into account additional capital
contributions by the General Partner or its affiliates. As part of the New
Management Agreement, all accrued incentive management fees amounting to $4.5
million were waived by the Manager and the Partnership's accrued liability was
written off in 1998.
Land Lease
As part of the Merger transactions, the Partnership contributed the Land to a
subsidiary of Ivy. This transaction terminated the Land lease and resulted in
cessation of Land lease payments from Ivy to the Partnership. The Partnership
received a credit to its capital account in Ivy of $26.5 million in
consideration of the Land contribution. For financial reporting purposes the
Land will continue to be carried at its historical purchase cost of $10 million
as required by generally accepted accounting principles.
New Partnership Agreement
AMMLP's partnership agreement was amended (the "AMMLP-II Partnership Agreement")
as a result of the Merger to incorporate the following revisions:
(i) a revised provision regarding a sale of the Hotel to permit the
Partnership to sell the Hotel to an unaffiliated third party without the
consent of the limited partners;
(ii) a revised provision limiting the voting rights of the General Partner and
its affiliates to permit the General Partner and its affiliates to have
full voting rights with respect to all Partnership Units currently held
by or acquired by the General Partner and its affiliates;
(iii) extinguishment of the original Class B limited partner interest held by
the General Partner and replacement of it with a new Class B interest
which is entitled to a 13.5% cumulative, compounded annual return;
(iv) addition of a mechanism that allows the Class B limited partner to
contribute up to an additional $20 million should the Hotel require
additional funding (such contribution would also be entitled to the 13.5%
return discussed above);
(v) a revised right of removal of the General Partner clause so that an
affirmative vote of 66 2/3% would be needed to effect a removal of the
General Partner and;
(vi) a revision of AMMLP's allocations and distributions such that Partnership
cash available for distribution is generally allocated as follows:
(a) to the General Partner, until the General Partner has received a
13.5% cumulative compounded annual return on its Class B invested
capital,
(b) to the General Partner and Class A limited partners, until the
General Partner and the Class A limited partners have received a
non-cumulative, non-compounded annual return of 5% on their initial
investment in AMMLP-II, and
(c) thereafter, in proportion to total invested capital through
completion of the Restructuring Transactions of approximately 41% to
limited partners and 59% to the General Partner; and
Atlanta Marquis Supp - 48
<PAGE>
(vii) a revision of AMMLP's allocations and distributions such that Partnership
sale or refinancing proceeds are generally allocated as follows:
(a) to the General Partner, until the General Partner has received a
13.5% cumulative compounded annual return on its Class B invested
capital,
(b) to the General Partner and Class A limited partners, until the
General Partner and the Class A limited partners have received a
non-cumulative, non-compounded annual return of 5% on their initial
investment in AMMLP-II,
(c) to the General Partner, until its Class B invested capital of up to
$75 million has been fully returned, taking into account all
distributions to such Partners following the effective date of the
Restructuring Transactions (other than the approximately $5,000 per
Partnership Unit distributed as part of the Restructuring
Transactions),
(d) to the General Partner and Class A limited partners until they have
received a cumulative, compounded return on their original invested
capital of 5% per annum from the effective date of the Restructuring
Transactions,
(e) to the General Partner and Class A limited partners, until such
partners' original invested capital of $536,000 and $53,000,000,
respectively, has been fully returned, and
(f) thereafter, in proportion to total invested capital through
completion of the Restructuring Transactions of approximately 41% to
limited partners and 59% to the General Partner.
As a result of the approval of the Merger, the AMMLP-II Partnership Agreement
became effective December 31, 1997.
Ivy Partnership Agreement
In conjunction with the Merger transactions, the Ivy partnership agreement was
amended to incorporate the following revisions: (i) provide that the $75 million
contributed by the General Partner of the Partnership to Ivy will be entitled to
receive an annual preferred return equal to 13.5% compounding to the extent
unpaid; (ii) provide that the Land, after contribution by the Partnership to Ivy
at an agreed upon value of $26.5 million, will be entitled to receive an annual
compounding preferred return equal to 10%, after payment of the 13.5% return
described above; and (iii) allows the Partnership the unilateral right, as
managing general partner of Ivy, to make most major decisions on behalf of Ivy,
including, without limitation, the sale or other disposition of the Hotel,
except where such disposition is to a party related to Host Marriott or an
affiliate of Host Marriott.
Atlanta Marquis Supp - 49
<PAGE>
Atlanta Marriott Marquis II Limited Partnership and Subsidiaries
Condensed Consolidated Statement of Operations
(Unaudited)
(in thousands, except per unit amounts)
<TABLE>
<CAPTION>
Twelve Weeks Ended
-----------------------------------
March 27, March 28,
1998 1997
------------- --------------
<S> <C> <C>
REVENUES ...................................................................$ 10,410 $ 10,042
------------- --------------
OPERATING COSTS AND EXPENSES
Depreciation ................................................................ 1,399 1,174
Incentive management fee...................................................... 207 998
Property taxes and other...................................................... 866 854
Base management fee........................................................... 662 652
------------- --------------
3,134 3,678
------------- --------------
OPERATING PROFIT ................................................................ 7,276 6,364
Interest expense.............................................................. (4,676) (5,595)
Interest income............................................................... 114 147
------------- --------------
NET INCOME BEFORE EXTRAORDINARY ITEMS............................................. 2,714 916
EXTRAORDINARY ITEMS
Gain on extinguishment of debt................................................ 19 --
Gain on forgiveness of incentive management fees.............................. 4,155 --
------------- --------------
NET INCOME ................................................................$ 6,888 $ 916
============= ==============
ALLOCATION OF NET INCOME
General Partner...............................................................$ -- $ 9
Class A Limited Partners...................................................... -- 907
Class B Limited Partner....................................................... 6,888 --
------------- --------------
$ 6,888 $ 916
============= ==============
NET INCOME PER CLASS A LIMITED PARTNER UNIT (530 Units)...........................$ -- $ 1,711
============= ==============
</TABLE>
See Notes to Condensed Consolidated Financial Statements.
Atlanta Marquis Supp - 50
<PAGE>
Atlanta Marriott Marquis II Limited Partnership and Subsidiaries
Condensed Consolidated Balance Sheets
(in thousands)
<TABLE>
<CAPTION>
March 27, 1998 December 31, 1997
-------------- -----------------
(unaudited)
<S> <C> <C>
ASSETS
Property and equipment, net...................................................$ 165,090 $ 165,372
Due from Marriott International, Inc.......................................... 8,266 4,425
Property improvement fund..................................................... 2,741 2,756
Deferred financing costs, net of accumulated amortization..................... 3,137 321
Restricted cash reserves...................................................... 24,340 --
Cash and cash equivalents..................................................... 2,743 21,502
------------- ----------------
$ 206,317 $ 194,376
============= ================
LIABILITIES AND PARTNERS' CAPITAL (DEFICIT)
LIABILITIES
Mortgage debt.................................................................$ 163,743 $ 199,019
Due to Host Marriott Corporation under Original Debt Service
Guarantee and Commitment and Interest Guarantee............................. -- 30,524
Term loan payable to Host Marriott Corporation................................ 20,134 --
Due to Marriott International, Inc............................................ 249 4,198
Accounts payable and accrued expenses......................................... 1,059 12,743
------------- ----------------
Total Liabilities........................................................ 185,185 246,484
------------- ----------------
PARTNERS' CAPITAL (DEFICIT)
General Partner............................................................... (520) (520)
Class A Limited Partners...................................................... (60,236) (57,588)
Class B Limited Partner....................................................... 81,888 6,000
------------- ----------------
Total Partners' Capital (Deficit)............................................. 21,132 (52,108)
------------- ----------------
$ 206,317 $ 194,376
=========== ================
</TABLE>
See Notes to Condensed Consolidated Financial Statements.
Atlanta Marquis Supp - 51
<PAGE>
Atlanta Marriott Marquis II Limited Partnership and Subsidiaries
Condensed Consolidated Statement of Cash Flows
(Unaudited)
(in thousands)
<TABLE>
<CAPTION>
Twelve Weeks Ended
---------------------------------
March 27, 1998 March 28, 1997
-------------- --------------
<S> <C> <C>
OPERATING ACTIVITIES
Net income....................................................................$ 6,888 $ 916
Net extraordinary items....................................................... (4,174) --
------------- --------------
Income before extraordinary items............................................. 2,714 916
Noncash items ................................................................ 1,399 1,801
Changes in operating accounts................................................. (12,620) 3,840
------------- --------------
Cash (used in) provided by operating activities.......................... (8,507) 6,557
------------- --------------
INVESTING ACTIVITIES
Working capital provided to Marriott International, Inc....................... (2,639) --
Additions to property and equipment, net...................................... (1,117) (306)
Change in property improvement fund........................................... 15 (795)
------------- --------------
Cash used in investing activities........................................ (3,741) (1,101)
------------- --------------
FINANCING ACTIVITIES
Proceeds from mortgage debt................................................... 164,000 --
Repayment of mortgage debt.................................................... (199,257) --
Capital contributions from General Partner for Class B Limited
Partnership Interest........................................................ 69,000 --
Additions to restricted lender reserves....................................... (24,340) --
Repayments under Original Debt Service Guarantee and Commitment
and Interest Guarantee to Host Marriott Corporation......................... (10,390) --
Payment of deferred financing costs........................................... (2,876) --
Capital distributions......................................................... (2,648) --
------------- --------------
Cash used in financing activities........................................ (6,511) --
------------- --------------
(DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS.................................. (18,759) 5,456
CASH AND CASH EQUIVALENTS at beginning of period.................................. 21,502 5,601
------------- --------------
CASH AND CASH EQUIVALENTS at end of period........................................$ 2,743 $ 11,057
============= ==============
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash paid for mortgage interest..........................................$ 15,561 $ 662
============= ==============
</TABLE>
See Notes to Condensed Consolidated Financial Statements.
Atlanta Marquis Supp - 52
<PAGE>
Atlanta Marriott Marquis II Limited Partnership and Subsidiaries
Notes To Condensed Consolidated Statements
(Unaudited)
1. The accompanying condensed consolidated financial statements have been
prepared by the Atlanta Marriott Marquis II Limited Partnership (the
"Partnership") without audit. Certain information and footnote disclosures
normally included in financial statements presented in accordance with
generally accepted accounting principles have been condensed or omitted
from the accompanying statements. The Partnership believes the disclosures
made are adequate to make the information presented not misleading.
However, the condensed consolidated financial statements should be read in
conjunction with the Partnership's consolidated financial statements and
notes thereto included in the Partnership's Form 10-K for the fiscal year
ended December 31, 1997.
In the opinion of the Partnership, the accompanying condensed consolidated
unaudited financial statements reflect all adjustments (which include only
normal recurring adjustments) necessary to present fairly the financial
position of the Partnership as of March 27, 1998, and the results of
operations and cash flows for the twelve weeks ended March 27, 1998 and
March 28, 1997. Interim results are not necessarily indicative of fiscal
year performance because of seasonal and short-term variations.
Through December 31, 1997, for financial reporting purposes the net
income/(loss) of the Partnership were allocated 99% to the limited partners
and 1% to Marriott Marquis Corporation (the "General Partner"), a
wholly-owned subsidiary of Host Marriott Corporation ("Host Marriott"). As
reported in the Partnership's Form 10-K for the fiscal year ended December
31, 1997, AMMLP's partnership agreement was amended as a result of the
Merger to incorporate a revision of AMMLP's allocations and distributions
such that Partnership net income is generally allocated (i) to the General
Partner, until the General Partner has received a 13.5% cumulative
compounded annual return on its Class B invested capital, (ii) to the
General Partner and Class A limited partners, until the General Partner and
the Class A limited partners have received a non-cumulative, non-compounded
annual return of 5% on their initial investment in the Partnership, and
(iii) thereafter, in proportion to total invested capital through
completion of the merger transactions of approximately 41% to limited
partners and 59% to the General Partner. Net losses are generally allocated
in proportion to the partners capital accounts. Significant differences
exist between the net income/(loss) for financial reporting purposes and
the net income/(loss) reported for Federal income tax purposes. These
differences are due primarily to the use, for income tax purposes, of
accelerated depreciation methods, shorter depreciable lives for the assets,
differences in the timing of the recognition of incentive management fee
expense.
2. Through December 31, 1997, Atlanta Marriott Marquis Limited Partnership
("AMMLP") owned an 80% general partnership interest in Ivy Street Hotel
Limited Partnership ("Ivy") which owned the Atlanta Marriott Marquis Hotel
(the "Hotel"). The Partnership also owned the land (the "Land") on which
the Hotel is located. On December 31, 1997 AMMLP merged (the "Merger") with
and into the Partnership. The Merger of AMMLP and the Partnership was
treated as a reorganization of affiliated entities and AMMLP's bases in its
assets and liabilities were carried over. On January 29, 1998 the Hotel and
the Land were conveyed to a special purpose, bankruptcy remote entity, HMA
Realty Limited Partnership ("HMA"). The sole general partner of HMA with a
1% interest, is HMA-GP, Inc., a wholly-owned subsidiary of Ivy. The sole
limited partner, with a 99% interest, is Ivy. The Partnership consolidates
Ivy and HMA and all significant intercompany transactions and balances
between the Partnership, Ivy and HMA have been eliminated. In 1990, the
Partnership determined that the probability of collecting the receivable
from the minority partner in Ivy was remote. Thus, the Partnership wrote
off this receivable and is now recording 100% of the income/(loss) of Ivy
until excess income allocated to the Partnership equals the excess losses
previously recorded by the Partnership.
3. Certain reclassifications were made to the prior year financial
statements to conform to the 1998 presentation.
4. Revenues represent house profit of the Hotel since HMA has delegated
substantially all of the operating decisions related to the generation of
house profit of the Hotel to Marriott International, Inc. (the "Manager").
House profit reflects hotel operating results which flow to HMA as property
owner and represents gross hotel sales less property-level expenses,
excluding depreciation, base and incentive management fees, property taxes
and certain other costs, which are disclosed separately in the condensed
consolidated statement of operations.
Atlanta Marquis Supp - 53
<PAGE>
Partnership revenues generated by the Hotel for 1998 and 1997 consist of
(in thousands):
<TABLE>
<CAPTION>
Twelve Weeks Ended
----------------------------------
March 27, March 28,
1998 1997
--------------- ---------------
<S> <C> <C>
HOTEL SALES
Rooms..................................................................$ 13,670 $ 13,460
Food and beverage...................................................... 7,025 6,850
Other operating departments............................................ 1,355 1,413
--------------- ----------------
22,050 21,723
--------------- ----------------
HOTEL EXPENSES
Departmental direct costs
Rooms .............................................................. 2,695 2,728
Food and beverage................................................... 4,318 4,134
Other hotel operating expenses........................................ 4,627 4,819
--------------- ----------------
11,640 11,681
--------------- ----------------
REVENUES ..............................................................$ 10,410 $ 10,042
=============== ================
</TABLE>
5. On February 2, 1998 HMA obtained new 12-year first mortgage financing of
$164 million which, together with $35 million from the additional $69
million capital contributed by the General Partner, were used to pay the
maturing mortgage debt. The Mortgage Debt is nonrecourse to HMA, bears
interest at a fixed rate of 7.4% and requires monthly payments of principal
and interest calculated to fully amortize the loan over 25 years resulting
in annual debt service of $14.1 million for 1998 and $14.4 million annually
until the end of the 12-year term.
6. To facilitate the refinancing, effective January 3, 1998, a new management
agreement was entered into by HMA and the Manager. The new management
agreement expires on July 1, 2010 and is renewable at the Manager's option
for five additional 10-year terms. Pursuant to the terms of the new
management agreement, no incentive management fees are payable to the
Manager with respect to the first $29.7 million of operating profit (the
"Owner's Priority"). Thereafter, the Manager will receive 20% of the profit
in excess of such Owner's Priority. As part of the new management
agreement, all accrued incentive management fees totaling $4.2 million were
waived by the Manager. The Partnership recorded an extraordinary gain in
conjunction with the write-off in the accompanying condensed consolidated
financial statements.
7. On April 17, 1998, Host Marriott, parent company of the General Partner of
the Partnership, announced that its Board of Directors has authorized the
company to reorganize its business operations to qualify as a real estate
investment trust ("REIT") to become effective as of January 1, 1999. As
part of the REIT conversion, Host Marriott expects to form a new operating
partnership (the "Operating Partnership") and limited partners in certain
Host Marriott full-service hotel partnerships and joint ventures, including
the Partnership, are expected to be given an opportunity to receive, on a
tax-deferred basis, Operating Partnership units in the new Operating
Partnership in exchange for their current partnership interest.
Atlanta Marquis Supp - 54
<PAGE>
HOST MARRIOTT, L.P.
Supplement Dated __________ __, 1998 for
Prospectus/Consent Solicitation Statement Dated _________ __, 1998 for
Mutual Benefit Chicago Marriott Suite Hotel Partners, L.P.
On the terms described in the Prospectus/Consent Solicitation Statement
(the "Consent Solicitation"), dated ______ __, 1998, of which this Supplement
(the "Supplement") is a part, Host Marriott Corporation, a Delaware corporation
("Host"), has adopted a plan to reorganize its business operations so that it
will qualify as a real estate investment trust ("REIT"). As part of this
reorganization (the "REIT Conversion"), Host and its consolidated subsidiaries
will contribute their full-service hotel properties and certain other businesses
and assets to Host Marriott, L.P., a newly formed Delaware limited partnership
(the "Operating Partnership"), in exchange for units of limited partnership
interest in the Operating Partnership ("OP Units") and the assumption of certain
liabilities. The sole general partner of the Operating Partnership will be Host
Marriott Trust, the entity resulting from the conversion of Host from a Delaware
corporation to a Maryland REIT ("Host REIT"). The Operating Partnership and
Host REIT will operate together as an umbrella partnership REIT. Host REIT
expects to qualify as a REIT beginning with its first full taxable year after
the closing of the REIT Conversion, which Host REIT currently expects to be the
year beginning January 1, 1999.
Following the REIT Conversion and the Blackstone Acquisition (defined
below), the Operating Partnership and its subsidiaries initially will own
outright, or have controlling interests in, approximately 120 full-service
hotels operating primarily under the Marriott, Ritz-Carlton, Four Seasons,
Swissotel and Hyatt brand names (the "Hotels"). Concurrently with the REIT
Conversion, the Operating Partnership will acquire ownership of, or controlling
interests in, 12 hotels and a mortgage loan secured by a thirteenth hotel
controlled by The Blackstone Group and a series of funds controlled by
Blackstone Real Estate Partners (collectively, the "Blackstone Entities") in
exchange for OP Units, the assumption of liabilities and other consideration
(the "Blackstone Acquisition"). The Operating Partnership will be one of the
largest owners of full-service hotels in the United States.
As part of the REIT Conversion, the Operating Partnership is proposing to
acquire by merger (the "Mergers") Mutual Benefit Chicago Marriott Suite Hotel
Partners, L.P., a Delaware limited partnership ("Chicago Suites" or the
"Partnership"), and up to seven other limited partnerships (the "Partnerships")
that own full-service hotels in which Host or its subsidiaries are general
partners. As more fully described in the Consent Solicitation, limited partners
of those Partnerships who participate in the Mergers will receive either OP
Units or, at their election, unsecured ___% Notes due December 15, 2005 issued
by the Operating Partnership ("Notes"), in exchange for their partnership
interests in such Partnerships (with respect to the Partnerships, those limited
partners of the Partnerships who are unaffiliated with Host are referred to
herein as the "Limited Partners," and with respect to Chicago Suites, the
"Chicago Suites Limited Partners").
The number of OP Units to be allocated to Chicago Suites will be based upon
(i) Chicago Suites' respective Exchange Value (as defined herein) and (ii) the
deemed value of an OP Unit at the time of the Merger, determined as described
herein. See "Determination of Exchange Values and Allocation of OP Units." The
principal amount of Notes that Chicago Suites Limited Partners may elect to
receive in exchange for the OP Units received in the Merger will be based upon
Chicago Suites' Note Election Amount (as defined herein). See "Description of
the Notes." The estimated Exchange Value set forth herein may increase or
decrease as a result of various adjustments, and will be finally calculated
shortly before the Closing Date. Pursuant to the Merger, Chicago Suites Limited
Partners will receive OP Units with a deemed value of $33,471 per Partnership
Unit (as defined herein), or if a Chicago Suites Limited Partner elects, a Note
in a principal amount of $31,467 per Partnership Unit.
In connection with the REIT Conversion, each outstanding share of Host
common stock will be converted into one common share of beneficial interest, par
value $.01 per share (a "Common Share"), of Host REIT. Following the closing of
the REIT Conversion, the Common Shares will be listed on the New York Stock
Exchange. Beginning one year after the Mergers, Limited Partners will have the
right to redeem their OP Units at any time and receive, at the election of Host
REIT, either Common Shares on a one-for-one basis (subject to adjustment) or
cash in an amount equal to the market value of such shares (the "Unit Redemption
Right").
Because REITs are not permitted under current federal income tax law to derive
revenues directly from the operation of hotels, the Operating Partnership will
lease the Hotels to lessees (the "Lessees") that will operate the Hotels under
the existing management agreements and pay rent to the Operating Partnership, as
more fully described herein. The Lessees generally will be indirect controlled
subsidiaries of HMC Senior Communities, Inc., which currently is a wholly owned
subsidiary of Host ("SLC"), but which will become a separate public company as
part of the REIT Conversion when Host distributes the common stock of SLC to its
existing shareholders and the Blackstone Entities. Shares of Host REIT and SLC
will become separately traded securities and the companies will operate
independently. Initially, there may be a partial overlap between the boards of
Host REIT and SLC but this will be phased out over time. There also will be a
substantial overlap of shareholders of the two companies initially, but this
likely will diverge over time.
Chicago Suites Supp-1
<PAGE>
MOHS Corporation (the "General Partner"), the general partner of Chicago
Suites, believes that the terms of the Merger provide substantial benefits and
are fair to the Chicago Suites Limited Partners and recommends that all Chicago
Suites Limited Partners vote FOR the Merger.
The effects of the Mergers may be different for Limited Partners of the
various Partnerships. This Supplement has been prepared to highlight for
Chicago Suites Limited Partners the specific risks, benefits, effects and
fairness of the Merger to them and to provide other information specific to
Chicago Suites. Supplements have also been prepared for each of the other
Partnerships. This Supplement, together with the supplements of the other
Partnerships (collectively, the "Supplements"), are part of the Consent
Solicitation. Upon receipt of a written request by a Limited Partner or his
representative so designated in writing, the General Partner will send a copy of
any Supplement without charge. All requests for a copy of a Supplement should
be directed to: Investor Relations, 10400 Fernwood Road, Bethesda, Maryland
20817, telephone number 301-380-2070 (between the hours of 9:00 a.m. and 4:00
p.m., eastern time).
All cross-references refer to the Consent Solicitation unless stated
otherwise. Capitalized terms not defined herein shall have the meaning set
forth in the Consent Solicitation. The information contained herein, unless
otherwise indicated, assumes the REIT Conversion occurs with all Partnerships
participating and no Notes being issued (the "Full Participation Scenario").
Risk Factors
In deciding whether to approve the Merger, Chicago Suites Limited Partners
should consider certain risks and other factors. The General Partner believes
that Chicago Suites Limited Partners should particularly consider the following,
which should be read in conjunction with the information in the Consent
Solicitation under "Risk Factors" and "Federal Income Tax Considerations:"
. Substantial Benefits to Related Parties. The Mergers will facilitate
consummation and enable Host to reap the full benefits of the REIT
Conversion and will result in an increase in Host REIT's Funds From
Operations per Common Share on a pro forma basis. By converting to a
REIT, Host expects to benefit from the advantages enjoyed by REITs in
raising capital and acquiring additional assets, participating in a
larger group of comparable companies and increasing its potential base
of shareholders. Also, Host will realize significant savings through
the substantial reduction of its future corporate-level income taxes.
To the extent that such anticipated benefits initially are reflected
in the value of Host's common stock before the Closing Date, they will
not be shared initially with the Limited Partners. Host might be
required to transfer its interests in certain Partnerships that do not
participate in a Merger, if any, to a Non-Controlled Subsidiary, in
which case Host's share of such Partnerships' earnings would continue
to be subject to corporate level income tax.
. Absence of Arm's Length Negotiations. No independent representative
was retained to negotiate on behalf of the Chicago Suites Limited
Partners or the other Limited Partners. Although the General Partner
has obtained the Appraisal and the Fairness Opinion from AAA, AAA has
not negotiated with the General Partner or Host and has not
participated in establishing the terms of the Mergers. Consequently,
the terms and conditions of the Mergers may have been more favorable
to the Chicago Suites Limited Partners or the other Limited Partners
if such terms and conditions were the result of arm's length
negotiations.
Chicago Suites Supp-2
<PAGE>
. Other Conflicts of Interest. The Mergers, the REIT Conversion and the
recommendations of the General Partner involves the following
conflicts of interest because of the relationships among Host, the
Operating Partnership, the General Partner and SLC: (i) the General
Partners, which are all subsidiaries of Host (except for PHLP, of
which Host is the General Partner), must assess whether the terms of
the Mergers are fair and equitable to the Limited Partners of its
Partnership without regard to whether the Mergers and the REIT
Conversion may benefit Host, (ii) the terms of the Leases of the
Hotels, including the Participating Partnerships' Hotels, will be
determined by Host, which will distribute the common stock of SLC, the
parent of the Lessees, to its shareholders after such terms have been
set and (iii) the terms of the Partnership Agreement, including
provisions which benefit Host REIT, have been determined by Host. Such
conflicts may result in decisions that do not fully reflect the
interests of all limited Partners, including the Chicago Suites
Limited Partners.
. Valuation of SLC. The value of the SLC common stock distributed to
Host's shareholders and the Blackstone Entities will be one factor
used in determining the value of an OP Unit. Although Host's Board of
Directors will determine the value of the SLC common stock in good
faith and reliance in part upon the opinion of an independent
financial advisor, conflicts of interest still exist. If the SLC
common stock is undervalued by Host's Board of Directors, the deemed
value of an OP Unit for purposes of the Mergers may be higher than the
level at which the Host REIT Common Shares will trade following the
REIT Conversion and the Chicago Suites Limited Partners could receive
less than the full Exchange Value of their Partnership Interests and
Host REIT could receive an overall higher percentage of the ownership
of the Operating Partnership.
. Determination of Exchange Value. The deemed value of OP Units that
each Chicago Suites Limited Partner will receive (if such Chicago
Suites Limited Partner elects to retain OP Units rather than receive a
Note) will equal the Exchange Value of such Chicago Suites Limited
Partner's Partnership Interest. The Exchange Value of Chicago Suites
will be its Adjusted Appraised Value, which is the greatest of its
Adjusted Appraised Value, Continuation Value and Liquidation Value,
each of which is determined according to a different method of
valuation and involves numerous estimates and assumptions. There is no
assurance that the Exchange Value of Chicago Suites will equal the
fair market value of the Hotel and other assets contributed by Chicago
Suites. Host REIT, on the other hand, will receive a number of OP
Units equal to the number of shares of Host common stock outstanding
on the Closing Date (and, if Host has outstanding shares of preferred
stock at the time of the REIT Conversion, a corresponding number of
preferred partnership interests in the Operating Partnership), which
should fairly represent the market value of Host REIT but may not be
equal to the fair market or net asset value of the Hotels and other
assets that Host will contribute to the Operating Partnership. See
"Determination of Exchange Values and Allocation of OP Units."
. Valuation of OP Units. The value of an OP Unit, for purposes of the
Mergers and the REIT Conversion, will be deemed to be equal to the
value of a share of Host common stock immediately prior to the REIT
Conversion minus the amount of cash and the estimated value of the SLC
common stock or other property to be distributed with respect to each
share of Host common stock in connection with the REIT Conversion.
There is no assurance that, following the REIT Conversion, the value
of the publicly traded Common Shares (and therefore the value of the
OP Units) will in fact equal or exceed the deemed value of the OP
Units used for purposes of the Mergers. These factors could result in
the Chicago Suites Limited Partners receiving OP Units with an actual
value that is less than either the deemed value of the OP Units for
purposes of the Mergers or the fair market value of their Partnership
Interests.
. Determination of the Value of the Notes. At the same time that he
votes on the Merger, each Chicago Suites Limited Partner also may
elect to receive at the time of the Merger, in exchange for OP Units,
an unsecured, seven-year Note with a principal amount equal to the
Note Election Amount of his Partnership Interest, which is based upon
numerous assumptions and estimates. The deemed value of the OP Units
to be received by the Chicago Suites Limited Partners will exceed the
principal amount of the corresponding Notes (because the Exchange
Value is higher than the Note Election Amount), and there is no
assurance that the Note a Chicago Suites Limited Partner receives will
have a value equal to the fair market value of the Chicago Suites
Limited Partner's share of the Hotel and other assets owned by Chicago
Suites. There will be no public market for the Notes. If
Chicago Suites Supp-3
<PAGE>
the Notes are sold, they may sell at prices substantially below their
issuance price. Noteholders are likely to receive the full principal
amount of a Note only if they hold the Note to maturity, which is
December 15, 2005, or if the Operating Partnership repays the Notes
prior to maturity. Because the Notes are unsecured obligations of the
Operating Partnership, they will be effectively subordinated to all
secured debt of the Operating Partnership and all obligations of both
the Participating Partnerships and the Operating Partnership's other
subsidiaries. See "Description of the Notes." As of March 27, 1998, on
a pro forma basis assuming the Full Participation Scenario, the
Operating Partnership would have had aggregate consolidated debt of
approximately $4.6 billion to which the Notes were effectively
subordinated or which rank equally with such Notes.
. Fundamental Change in Nature of Investment; Potential
Underperformance. The Mergers and the REIT Conversion involve a
fundamental change in the nature of a Chicago Suites Limited Partner's
investment from holding an interest in Chicago Suites, which has a
fixed portfolio of one Hotel and distributes the cash flow from the
operation of such Hotel to the Chicago Suites Limited Partners, to
holding an interest in an operating real estate company with a
portfolio of approximately 120 Hotels that collects and distributes to
its limited partners rents received from the Lessees (which will bear
the risks and receive the direct benefits of the Hotels' operations),
has the ability to acquire additional hotels, is able to reinvest
proceeds from sales or refinancings of existing Hotels in other hotels
and has a publicly traded general partner. In addition, each Chicago
Suites Limited Partner's investment will change from one that allows a
Chicago Suites Limited Partner to receive a return of capital in the
form of distributions from any net proceeds of a sale or refinancing
of Chicago Suites' assets to an investment in which a Chicago Suites
Limited Partner likely would realize a return of capital only through
the exercise of the Unit Redemption Right. Although it is expected
that the Chicago Suites Limited Partners will receive added benefits
from an investment in the Operating Partnership, a Chicago Suites
Limited Partner's share of the liquidation proceeds, if any, from the
sale of its Hotel could be higher than the amount realized upon
exercise of the Unit Redemption Right (or payments on any Note
received by a Chicago Suites Limited Partner who elects to receive
such Note). An investment in the Operating Partnership may not
outperform an investment in Chicago Suites. See "Comparison of
Ownership of Partnership Interests, OP Units and Common Shares --
Nature of Investment."
. Exposure to Risks from Other Hotels. As a result of the Mergers,
Chicago Suites Limited Partners who elect to receive OP Units will own
interests in a much larger partnership with a broader range of assets
than Chicago Suites individually. A material adverse change affecting
the Operating Partnership's assets will affect all Limited Partners
regardless of whether a particular Limited Partner previously was an
investor in such affected assets. Chicago Suites owns discrete assets,
and the Mergers and the REIT Conversion will significantly diversify
the types and geographic locations of the Hotels in which the Chicago
Suites Limited Partners will have interests. As a result, the Hotels
owned by the Operating Partnership may be affected differently by
economic and market conditions than the Hotel previously owned by
Chicago Suites.
. Chicago Suites Limited Partners Have No Cash Appraisal Rights. Chicago
Suites Limited Partners who vote against the Merger will not have a
right to receive cash based upon an appraisal of their Partnership
Interests.
. Uncertainties as to the Size and Leverage of the Operating
Partnership. Host is an existing operating company that regularly
issues and repays debt, acquires additional hotels and disposes of
existing hotels. Also, some or all of the Partnerships may elect not
to participate in a Merger. In that case, Host may contribute its
interests in such Partnerships to a Non-Controlled Subsidiary, which
is subject to corporate-level income taxation, rather than the
Operating Partnership. In addition, outside partners in certain
Private Partnerships may not consent to a lease of their partnership's
Hotel(s). Host also may repurchase outstanding securities or issue new
debt or equity securities prior to the consummation of the Mergers and
the REIT Conversion. For these reasons, the Chicago Suites Limited
Partners cannot know at the time they vote on a Merger the exact size
and amount of leverage of the Operating Partnership.
Chicago Suites Supp-4
<PAGE>
. Other Uncertainties at the Time of Voting. There are several other
uncertainties at the time the Chicago Suites Limited Partners must
vote on the Merger, including (i) the exact Exchange Value for Chicago
Suites (which will be adjusted for changes in lender and capital
expenditures reserves, indebtedness, deferred maintenance and other
items prior to the Closing Date), (ii) the deemed value of the OP
Units for purposes of the Mergers which, together with the Exchange
Value, will determine the number of OP Units the Chicago Suites
Limited Partners will receive and (iii) the exact principal amount of
the Notes that may be received in exchange for OP Units. For these
reasons, the Chicago Suites Limited Partners cannot know at the time
they vote on the Merger these important aspects of the Merger.
. Lack of Control over Hotel Operations. Due to current federal income
tax law restrictions on a REIT's ability to derive revenues directly
from the operation of a hotel, the Operating Partnership will lease
virtually all of its consolidated Hotels to the Lessees, which will
operate the Hotels by continuing to retain the Managers pursuant to
the Management Agreements. The Operating Partnership will not operate
the Hotels or participate in the decisions affecting the daily
operations of the Hotels. Although the Operating Partnership's
subsidiaries will have certain rights as lessors under the Leases
(including control over decisions relating to capital expenditures)
and will remain obligated under the Management Agreements, the
Operating Partnership will have only a limited ability to require the
Lessees or the Managers to operate or manage the Hotels in any
particular manner or to govern any particular aspect of their day-to-
day operation or management. Therefore, the Operating Partnership will
be dependent for its revenue upon the ability of the Lessees and the
Managers to operate and manage the Hotels.
. Expiration of Leases. The Leases will expire seven to ten years after
the Closing Date, and there can be no assurance that such Leases will
be renewed (or if renewed, will be renewed on terms as favorable to
the Operating Partnership). If the Leases are not renewed, the
Operating Partnership will be required to find other lessees, which
lessees must meet certain requirements set forth in the Management
Agreements. There can be no assurance that satisfactory lessees could
be found or as to the terms and conditions on which the Operating
Partnership would be able to renew the Leases or enter into new leases
with such lessees.
. Requisite Vote of Chicago Suites Limited Partners Binds All Chicago
Suites Limited Partners. For Chicago Suites, approval of a Merger is
by a majority of the Partnership Interests of Chicago Suites that are
eligible to be voted, as described in "Voting Procedures -- Required
Vote and Other Conditions." Such approval will cause Chicago Suites to
participate in the Merger and will bind all Chicago Suites Limited
Partners, including Chicago Suites Limited Partners who voted against
or abstained from voting with respect to the Merger.
. Risks of Lodging Industry. The profitability of the Hotels is subject
to general economic conditions, the management abilities of the
Managers (primarily Marriott International), competition, the
desirability of particular locations and other factors relating to the
operation of the Hotels. The full-service segment of the lodging
industry, in which virtually all of the Hotels operate, is highly
competitive, and the Hotels generally operate in geographical markets
that contain numerous competitors. The Hotels' success will be
dependent, in large part, upon their ability to compete in such areas
as access, location, quality of accommodations, room rate structure,
the quality and scope of food and beverage facilities and other
services and amenities. The lodging industry, including the Hotels
(and thus the Operating Partnership), may be adversely affected in the
future by (i) national and regional economic conditions, (ii) changes
in travel patterns, (iii) taxes and government regulations which
influence or determine wages, prices, interest rates, construction
procedures and costs, (iv) the availability of credit and (v) other
factors beyond the control of the Operating Partnership.
. Risks of Leverage. The Operating Partnership will have substantial
indebtedness. As of March 27, 1998, on a pro forma basis assuming the
Full Participation Scenario, the Operating Partnership would have had
outstanding indebtedness totaling $4.6 billion, which represents a 44%
debt-to-total market capitalization ratio on a pro forma basis at such
date (based upon a price per Common Share of Host REIT of $20.00). The
Operating
Chicago Suites Supp-5
<PAGE>
Partnership's business is capital intensive, and it will have
significant capital requirements in the future. The Operating
Partnership's leverage level could affect its ability to (i) obtain
financing in the future, (ii) undertake refinancings on terms and
subject to conditions deemed acceptable by the Operating Partnership,
(iii) make distributions to partners, (iv) pursue its acquisition
strategy or (v) compete effectively or operate successfully under
adverse economic conditions.
. No Limitation on Debt. There are no limitations in Host REIT's or the
Operating Partnership's organizational documents which limit the
amount of indebtedness either may incur, although both the Notes and
the Operating Partnership's other debt instruments will contain
certain restrictions on the amount of indebtedness that the Operating
Partnership may incur.
. Rental Revenues from Hotels Subject to Rights of Lenders. In
accordance with the mortgage loan agreements with respect to
outstanding indebtedness of certain Hotel Partnerships, the rental
revenues received by such Hotel Partnerships under certain Leases
first will be used to satisfy the debt service on such outstanding
indebtedness and any cash flow remaining thereafter will be available
to satisfy other obligations of the Hotel Partnership (including
paying property taxes and insurance, funding the required FF&E
reserves for the Hotels and capital improvements) and to make
distributions to partners, including Host REIT.
. Ownership Limitations. No person may own, actually or constructively
(as determined under the applicable Code provisions), (i) in excess of
9.8% of the number or value of outstanding Common Shares of Host REIT
or (ii) in excess of 4.9% of the OP Units (other than Host REIT and
The Blackstone Group), subject to waiver or modification by Host REIT
or the Operating Partnership, as the case may be, in certain limited
circumstances.
. Timing of REIT Conversion. If the REIT Conversion does not occur in
time for Host REIT to elect REIT status effective January 1, 1999, the
effectiveness of Host REIT's election could be delayed to January 1,
2000, which would result in Host REIT continuing to pay corporate-
level income taxes in 1999 and could cause the Blackstone Acquisition
not to be consummated.
. Effect of Subsequent Events upon Recognition of Gain. Even though the
Chicago Suites Limited Partners (other than those who elect to receive
a Note in exchange for OP Units) generally are not expected to
recognize significant taxable gain at the time of the Merger, there
are a variety of events and transactions (including the sale of the
Hotel currently owned by Chicago Suites or the reduction of
indebtedness securing the Hotel) that could cause a Chicago Suites
Limited Partner to recognize all or a part of the gain that otherwise
has been deferred through the REIT Conversion. See "Federal Income Tax
Considerations - Tax Treatment of Chicago Suites Limited Partners Who
Hold OP Units Following the Merger." Certain Hotels (including the
Blackstone Hotels and the Hotel owned by Atlanta Marquis) will be
covered by agreements with third parties which will restrict the
Operating Partnership's ability to dispose of those properties or
refinance their debt. As for the remaining initial properties
(including the Hotel owned by Chicago Suites), the partnership
agreement of the Operating Partnership, which is substantially in the
form attached hereto as Appendix A (the "Partnership Agreement"), does
not impose any restrictions on the operating Partnership's ability to
dispose of the Hotels or to refinance debt secured by the Hotels (but
the Operating Partnership is obligated to pay any taxes Host REIT
incurs as a result of such transactions). In addition, the Partnership
Agreement expressly provides that Host REIT, as general partner of the
Operating Partnership, is not required to take into account the tax
consequences of the limited partners in deciding whether to cause the
Operating Partnership to undertake specific transactions and the
limited partners have no right to approve or disapprove such
transactions. See "Description of OP Units - Sales of Assets."
. Adverse Tax Consequences of General Partner of a Sale of the Hotel.
Chicago Suites has disproportionately allocated tax losses to the
General Partner, with the result that if the Chicago Suites Hotels
were to be sold in a taxable transaction, the General Partner (and
thus Host) would incur a disproportionately larger tax gain than the
Chicago Suites Limited Partners. Accordingly, the General Partner and
Host have additional conflicts of interest in deciding the appropriate
course of action for Chicago Suites with respect to its Hotels.
. Election to Receive Notes. A Chicago Suites Limited Partner who elects
to receive a Note in connection with the Merger in exchange for his OP
Units will be treated as having made a taxable disposition of his
Partnership Interest. The Chicago Suites Limited Partner may be
eligible to defer at least a portion of that gain under the
"installment sale" rules. A Limited
Chicago Suites Supp-6
<PAGE>
Partner with a "negative capital account" with respect to his
Partnership Interest who elects to receive a Note will recognize
"phantom income" in that amount at the time of the Merger in any
event. See "Federal Income Tax Considerations -- Tax Treatment of
Chicago Suites Limited Partners Who Exercise Their Right to Make the
Note Election."
. Failure of Host REIT to Qualify as a REIT for Tax Purposes. Taxation
of Host REIT as a corporation if it fails to qualify as a REIT, and
Host REIT's subsequent liability for federal, state and local taxes on
its income and property, would, among other things, have the effect of
reducing cash available for distribution to Host REIT's shareholders
and materially reducing the value of the Common Shares and OP Units.
. Failure of the Operating Partnership to Qualify as a Partnership for
Tax Purposes. Taxation of the Operating Partnership as a corporation
if it fails to qualify as a partnership and the Operating
Partnership's subsequent liability for federal, state and local income
taxes, would, among other things, have the effect of reducing cash
available for distribution to holders of OP Units, would cause Host
REIT to fail to qualify as a REIT for tax purposes and would cause the
holders of OP Units to recognize substantial taxable gain at the time
the Operating Partnership ceases to qualify as a partnership.
. Change in Tax Laws. No assurance can be provided that new legislation,
Treasury Regulations, administrative interpretations or court
decisions will not significantly change the tax laws with respect to
Host REIT's qualification as a REIT or the federal income tax
consequences of such qualification.
Expected Benefits of the REIT Conversion
The General Partner believes that participating in the REIT Conversion
would likely be beneficial to the Chicago Suites Limited Partners for the
reasons set forth below. This information is qualified by and should be read in
conjunction with the information in the Consent Solicitation under "Background
and Reasons for the Mergers and the REIT Conversion -- Reasons for the Mergers."
These benefits, which should be viewed as alternatives to continuing the
business and operations of Chicago Suites, are expected to include:
. Value of OP Units to be Received in the Merger. Chicago Suites Limited
Partners who elect to receive OP Units in the Merger will receive OP
Units with a deemed value of $33,471 per Partnership Unit.
. Enhanced Liquidity of Investment. The REIT Conversion will offer
Chicago Suites Limited Partners significantly enhanced liquidity with
respect to their investments in Chicago Suites because, after the
expiration of the Initial Holding Period, Chicago Suites Limited
Partners will be able to exercise their Unit Redemption Right at any
time, subject to certain limited exceptions. Host has approximately
204 million shares of common stock outstanding and the closing price
on the NYSE on May 28, 1998 was $19.4375 per share (reflecting a total
common equity market capitalization of approximately $4 billion). The
exercise of the Unit Redemption Right, however, generally would result
in recognition of taxable income or gain at that time.
. Public Market Valuation of Assets. The Partnership Units of Chicago
Suites currently trade at a discount to the net asset value of Chicago
Suites' assets. In contrast, the General Partner believes that by
exchanging interests in Chicago Suites, which is a non-traded limited
partnership, for interests in a publicly traded real estate company
focused primarily on a more diverse and growing full-service hotel
portfolio, the Chicago Suites Limited Partners will have the
opportunity to participate in the recent trend of ownership of real
estate through a publicly traded entity, which, in many instances, has
resulted in market valuations of public real estate companies in
excess of the estimated net asset values of those companies. There can
be no assurance, however, that the Common Shares of Host REIT will
trade at a premium to the private market values of the Operating
Partnership's assets or that the relative pricing differential will
not change or be eliminated in the future. Also, the initial benefit
of Host's conversion to a REIT will not be shared by the Chicago
Suites Limited Partners if and to the
Chicago Suites Supp-7
<PAGE>
extent that such initial benefit is reflected in the market valuation
of Host's common stock prior to the REIT Conversion.
. Regular Quarterly Cash Distributions. The General Partner expects that
the Operating Partnership will make regular quarterly cash
distributions to holders of OP Units. Host expects that these
distributions will be higher than the 1998 estimated cash
distributions of Chicago Suites, and in any event, the ability to
receive distributions quarterly and in regular amounts would be
enhanced. For additional information regarding historical and
estimated future distributions for Chicago Suites and the other
Partnerships, see "Background and Reasons for the Mergers and the REIT
Conversion -- Reasons for the Mergers."
. Substantial Tax Deferral. The General Partner expects that Chicago
Suites Limited Partners who do not elect to receive a Note in exchange
for OP Units generally should be able to obtain the benefits of the
Merger while continuing to defer recognition for federal income tax
purposes of at least a substantial portion, if not all, of the gain
with respect to their Partnership Interests that otherwise would be
recognized in the event of a liquidation of Chicago Suites or a sale
or other disposition of its assets in a taxable transaction.
Thereafter, such Chicago Suites Limited Partners generally should be
able to defer at least a substantial portion of such built-in gain
until they elect to exercise their Unit Redemption Right or the Hotel
currently owned by Chicago Suites is sold or otherwise disposed of in
a taxable transaction by the Operating Partnership or the debt now
secured by the Hotel is repaid, prepaid or substantially reduced. The
federal income tax consequences of the Merger are highly complex and,
with respect to each Chicago Suites Limited Partner, are dependent
upon many variables, including the particular circumstances of such
Chicago Suites Limited Partner. See "Federal Income Tax
Considerations -- Tax Consequences of the Merger." Each Chicago Suites
Limited Partner is urged to consult with his own tax advisors as to
the consequences of the Merger in light of his particular
circumstances.
. Risk Diversification. Participation in the Merger, as well as future
hotel acquisitions by the Operating Partnership, will reduce the
dependence of Chicago Suites Limited Partners upon the performance of,
and the exposure to the risks associated with, Chicago Suites' Hotel
and spread such risk over a broader and more varied portfolio,
including more diverse geographic locations and multiple brands. See
"Business and Properties -- Business Objectives."
. Reduction in Leverage and Interest Costs. It is expected that the
Operating Partnership will have a significantly lower leverage to
value ratio than Chicago Suites currently, which has a leverage ratio
of 66% (calculated as a percentage of Appraised Value), resulting in
significant interest and debt service savings and greater financial
stability.
. Growth Potential. The General Partner believes that the Chicago Suites
Limited Partners, by owning interests in a publicly traded real
estate company focused primarily on a more diverse and growing upscale
and luxury full-service hotel portfolio, will be able to participate
in growth opportunities that would not otherwise be available to them.
. Greater Access to Capital. With publicly traded equity securities, a
larger base of assets and a substantially greater equity value than
Chicago Suites individually, Host REIT expects to have greater
access to the capital necessary to fund the Operating Partnership's
operations and to consummate acquisitions on more attractive terms
than would be available to Chicago Suites individually. This greater
access to capital should provide greater financial stability to the
Operating Partnership and reduce the level of risk associated with
refinancing existing loans upon maturity, as compared to Chicago
Suites individually.
Chicago Suites Supp-8
<PAGE>
DETERMINATION OF EXCHANGE VALUE OF CHICAGO
SUITES AND ALLOCATION OF OP UNITS
General. The Exchange Value of Chicago Suites will be equal to the
greatest of its Adjusted Appraised Value, Continuation Value and Liquidation
Value, each of which has been determined as follows:
. Adjusted Appraised Value. The General Partner has retained AAA to
determine the market value of the Hotel as of March 1, 1998 (the
"Appraised Value"). The "Adjusted Appraised Value" of Chicago Suites
equals the Appraised Value of its Hotel, adjusted as of the Final
Valuation Date for lender reserves, capital expenditure reserves,
existing indebtedness (including a "mark to market" adjustment to
reflect the market value of such indebtedness), certain deferred
maintenance costs, deferred management fees and transfer and recordation
taxes and fees.
. Continuation Value. The "Continuation Value" of Chicago Suites
represents AAA's estimate, as adopted by the General Partner, of the
discounted present value, as of January 1, 1998, of the Chicago Suites
limited partners' share of estimated future cash distributions and
estimated net sales proceeds (plus lender reserves), assuming that
Chicago Suites continues as an operating business for twelve years and
its assets are sold on December 31, 2009 for their then estimated market
value.
. Liquidation Value. The "Liquidation Value" of Chicago Suites represents
the General Partner's estimate of the net proceeds to Chicago Suites
limited partners resulting from the assumed sale as of December 31, 1998
of the Hotel of Chicago Suites, at its Adjusted Appraised Value (after
eliminating any "mark to market" adjustment and adding back the
deduction for transfer taxes and fees, if any, made in deriving the
Adjusted Appraised Value), less (i) estimated liquidation costs,
expenses and contingencies equal to 2.5% of Appraised Value and (ii)
prepayment penalties or defeasance costs, as applicable.
Final determination of the Exchange Value of Chicago Suites will be made as
of the end of the four week accounting period ending at least 20 days prior to
the Closing Date (the "Final Valuation Date") and will be equal to the greatest
of Adjusted Appraised Value, Continuation Value and Liquidation Value as of such
date. Adjusted Appraised Value, Continuation Value and Liquidation Value will
be adjusted as of the Final Valuation Date (i) to reflect the amount of lender
and capital expenditure reserves and the amount of deferred management fees as
of such date, (ii) to increase the Adjusted Appraised Value by any amounts
actually expended by Chicago Suites after the Initial Valuation Date to perform
deferred maintenance previously subtracted in determining the estimated Adjusted
Appraised Value of Chicago Suites and (iii) to reflect any changes in Chicago
Suites' other reserves, such as for litigation expenses and indemnification
costs and any revised estimates of transfer and recordation taxes and fees.
Appraised Value. Chicago Suites' Hotel was appraised as of March 1, 1998 by
AAA, an independent, nationally recognized hotel valuation and financial
advisory firm experienced in the appraisals of lodging properties such as
Chicago Suites' Hotel. The appraisal (the "Appraisal") was reviewed by an MAI
appraiser and certified by such MAI appraiser as having been prepared in
accordance with the requirements of the Standards of Professional Practice of
the Appraisal Institute and the Uniform Standards of Professional Appraisal
Practice of the Appraisal Foundation.
The purpose of the Appraisal is to provide an estimate of the "Market
Value" of the Hotel. "Market Value" means the most probable price which a
property should bring in a competitive and open market under all conditions
requisite to a fair sale, the buyer and seller each acting prudently and
knowledgeably and assuming the price is not affected by undue stimuli. Implicit
in this definition is the consummation of a sale as of a specified date and the
passing of title from seller to buyer under conditions whereby: (i) the buyer
and seller are equally motivated; (ii) both parties are well informed or well
advised, and each is acting in what he considers his own best interest; (iii) a
reasonable time frame is allowed for exposure in the open market; (iv) payment
is made in terms of cash in U.S. dollars or in terms of financial arrangements
comparable thereto and (v) the price represents the normal consideration for the
property sold unaffected by special or creative financing or sales concessions
granted by anyone associated with the sale. AAA made site visits at Chicago
Suites' Hotel for purposes of the Appraisal.
Chicago Suites Supp-9
<PAGE>
In preparing the Appraisals, AAA relied primarily on the income
capitalization method of valuation, and then compared the value estimated by
this method with recent sales of comparable properties, as a check on the
reasonableness of the value determined through the income capitalization method.
AAA employed the following procedures for determining the Appraised Value of
each Hotel:
. Historical 1997 and Projected Year's Earnings. AAA reviewed the
historical 1997 net operating income (i.e., income before interest,
taxes, depreciation and amortization) ("NOI") prior to incentive
management fees and certain capital expenditures for the Hotel. AAA also
prepared a projection of the net operating income prior to incentive
management fees and certain capital expenditures for the Hotel for the
twelve month period ending February 28, 1999 (the "Projected Year"),
using historical financial information for the Hotel, budget
information, a survey with the manager of the Hotel addressing the
physical condition of the Hotel, local market conditions (including
business mix, demand generators, future trends and predictability of
business), changes in the competitive environment, comparison with
direct competitors of the Hotel and risk factors relating to the Hotel.
The resulting gross margin (ratio of total revenues to NOI prior to
incentive management fees) was checked against AAA's database of the
gross margins for similar hotels for reasonableness.
. Impact of Incentive Management Fees. AAA estimated a normalized annual
amount of incentive management fees payable under the applicable
management agreement and subtracted this amount from the NOI prior to
incentive management fees and certain capital expenditures for 1997 and
the Projected Year.
. Impact of Owner Funded Capital Expenditures. AAA estimated normalized
annual amounts of owner funded capital expenditures (over and above the
FF&E reserve) based in part on projected owner funded capital
expenditures estimated in the Engineering Study. The normalized amounts
were then subtracted from the NOI prior to owner funded capital
expenditures for 1997 and the Projected Year.
. Capitalization of Adjusted NOI. AAA then capitalized the amount
resulting from the foregoing adjustments ("Adjusted NOI") for 1997 and
the Projected Year by dividing such amounts by capitalization rates that
AAA determined to be appropriate. A capitalization rate represents the
relationship between net operating income and sales prices of income
producing property. AAA selected the capitalization rates based upon its
review of current published surveys reflecting the opinions of investors
and participants such as REITs, hotel acquisition/management companies
and pension funds, lenders, brokers and consultants as to current
capitalization rates, and its own database of capitalization rates
reflected in recent transactions, adjusted for factors specific to the
individual Hotel, such as location, physical condition, reserve
policies, local market volatility and competition, guest mix, renovation
influences and other income characteristics. AAA used separate
capitalization rates that it deemed appropriate to capitalize 1997
historical Adjusted NOI and estimated Projected Year's Adjusted NOI. AAA
then estimated the value of the Hotel based upon each of the values
estimated by capitalizing 1997 and Projected Year's Adjusted NOI and its
professional judgment. The following table sets forth the effective
capitalization rates for 1997 and Projected Year's Adjusted NOI
resulting from AAA's estimated Appraised Values of Chicago Suites'
Hotel.
Chicago Suites Supp-10
<PAGE>
RESULTING EFFECTIVE CAPITALIZATION RATES FOR APPRAISAL OF CHICAGO SUITES' HOTEL
<TABLE>
<CAPTION>
PROJECTED YEAR
1997 (Ending February 28, 1999)
---- --------------------------
<S> <C>
9.4% 10.3%
</TABLE>
The resulting Appraised Value of Chicago Suites' Hotel, as estimated by AAA,
is $34,300,000.
. Comparison with Comparable Sales. AAA checked the Appraised Value of each
Hotel derived by the foregoing procedures against its database of comparable
sale transactions for reasonableness.
Chicago Suites' Hotel, property was encumbered by a ground lease as of the
date of the Appraisal. Accordingly, the Appraised Value of such Hotel has been
decreased to reflect the encumbrance of the ground lease and the interest of the
ground lessor in the operating cash flows of such Hotel. The Appraised Value
assumes all contractual provisions for FF&E reserves are adequate and have not
been reduced to reflect deferred maintenance or environmental remediation costs
with respect to Chicago Suites' Hotel (but estimated deferred maintenance costs
have been deducted in estimating the Adjusted Appraised Value of Chicago Suites'
Hotel). The Appraised Value did not take into account the costs that might be
incurred in selling a Hotel (but estimated costs for transfer and recordation
taxes and fees have been deducted in estimating the Adjusted Appraised Value of
the Hotel).
The Appraisals are not guarantees of present or future values and no
assurance can be given as to the actual value of Chicago Suites' Hotels. The
Appraisals should be read in conjunction with other information, such as, but
not limited to, the audited financial statements of Chicago Suites.
The Appraised Value, and the assumptions underlying the projections on
which the Appraised Value is based, are contingent upon a series of future
events, the outcomes of which are not necessarily within the Operating
Partnership's control and cannot be determined at this time. There can be no
assurance that another appraiser would not have arrived at a different result.
Some of the assumptions inevitably will not materialize, and unanticipated
events and circumstances will occur subsequent to the date of the Appraisals.
Furthermore, the actual results achieved from Chicago Suites' Hotel will vary
from the results projected in the Appraisals and the variations may be material.
Adjusted Appraised Value. The Adjusted Appraised Value of Chicago Suites
was determined by making various adjustments to the Appraised Value of Chicago
Suites' Hotel, as described below.
. Mortgage and Other Debt. The estimated principal balance and accrued
interest as of the Closing Date (assumed to be December 31, 1998) of all
mortgage and other debt of Chicago Suites has been subtracted from the
Appraised Value.
. Mark to Market Adjustments. The third-party loans of the Partnerships
have various interest rates and terms to maturity. In order to reflect
the fair market value of the third-party loans of the Partnership, the
estimated Adjusted Appraised Value for Chicago Suites has been increased
or decreased to "mark to market" the interest rate for such loans. This
adjustment has been estimated by comparing the interest cost using the
applicable interest rates on existing third-party loans over their
remaining term to the interest cost using the interest rate that the
Operating Partnership believes it would be able to obtain for unsecured
debt in the market as of the Final Valuation Date (which would have been
8.0% per annum based on a 225 basis point (2.25 percent) spread over the
yield on seven-year U.S. Treasury securities as of May 8, 1998). The mark
to market adjustment for the loan was calculated by determining the
difference between the present values, as of December 31, 1998, of the
interest payments over the remaining term of the loan from January 1,
1999 to maturity using the actual interest rate as the discount rate as
compared to using the assumed market rate as the discount rate.
. Deferred Maintenance Costs. The estimated cost to complete any deferred
maintenance items identified in the Engineering Study relating to the
Hotel of Chicago Suites has been subtracted from the Appraised Value. The
adjustments for this item will be reduced at the Final Valuation Date to
reflect amounts expended after the Initial Valuation Date to perform such
deferred maintenance. No adjustments have been made for previously
budgeted capital expenditures or deferred maintenance costs estimated in
the Engineering Study that are reflected in the cash flow projections
used for purposes of estimating the Appraised Value.
. Transfer Taxes and Fees. The estimated transfer and recordation taxes and
fees required to be paid by Chicago Suites in connection with the Merger
have been subtracted from the Appraised Value. The actual transfer and
recordation taxes and fees will be paid by the Operating Partnership as
part of the Merger Expenses.
The following table sets forth the adjustments to the Appraised Value made
to derive the estimated Adjusted Appraised Value for Chicago Suites as of the
Initial Valuation Date.
CALCULATION OF ESTIMATED ADJUSTED APPRAISED VALUE FOR CHICAGO SUITES
AS OF THE INITIAL VALUATION DATE
(IN THOUSANDS, EXCEPT PER PARTNERSHIP UNIT AMOUNT)
<TABLE>
<S> <C>
Appraised Value $ 34,300
Mortgage debt (22,284)
Other debt (464)
Mark to market adjustment 94
Deferred maintenance costs (46)
Transfer taxes (274)
--------
Estimated Adjusted Appraised
Value Value $ 11,326
========
Limited partners' share $ 11,213
Per Partnership Unit $ 33,471
</TABLE>
Continuation Value. AAA estimated the Continuation Value of Chicago Suites
using the following methodology:
. Estimated Future Cash Distributions. AAA prepared estimates of future
partnership cash flow for Chicago Suites for the 12-year period from
January 1, 1998 through December 31, 2009 based upon the estimated 1998
NOI before incentive management fees used in the Appraisals and for each
subsequent year applying an assumed annual stabilized growth rate (as
shown in the table below) developed by AAA for this analysis. For each
year in the projection period, AAA estimated the amount of cash
available for distribution to Chicago Suites' limited partners after
payment of all management fees, debt service, owner funded capital
expenditures based on the Engineering Study and other partnership
expenses and after application of the applicable partnership agreement
provisions. AAA assumed that Chicago Suites' FF&E reserve was adequate
and understood that Host determined that there were no reserve
shortfalls or surpluses.
. Refinancing Assumptions. AAA assumed that Chicago Suites' first mortgage
loan, which matures in 2001, would be refinanced with an interest rate
at 7.25% per annum and a 20-year amortization schedule, with estimated
refinancing costs of 1% of the refinanced amount being paid from
operating cash flow.
. Determination of Residual Value. To estimate the residual value of the
Chicago Suites limited partners' interest in Chicago Suites at the end
of the 12-year period, AAA assumed that the Chicago Suites Hotel would
be sold as of December 31, 2009 at its then market value. AAA estimated
the market value of each Hotel as of such date by applying an exit
capitalization rate that it deemed appropriate, using the factors
described above in connection with the "-- Appraised Value," which are
set forth in the table below, to the estimated Adjusted NOI for 2009
(estimated as described above). AAA then subtracted estimated sales
costs of 2.0% of the estimated market value, and subtracted the
estimated outstanding principal balance of debt as of December 31, to
arrive at net sales proceeds available for distribution to partners. AAA
then determined what portion of such estimated net sales proceeds would
be distributable to Chicago Suites' limited partners under the various
partnership and debt agreements.
. Discounting Distributions to Present Value. As a final step, AAA
discounted the estimated future cash distributions to Chicago Suites'
limited partners from operations and estimated net sales proceeds to
their present value as of January 1, 1998, using a discount rate of 20%
per annum. AAA believes that this discount rate reflects the return on
investment that investors expect from leveraged investments of this
nature.
The growth rate and exit capitalization rate used to determine the
estimated Continuation Value for Chicago Suites are as set forth below:
Chicago Suites Supp-11
<PAGE>
GROWTH RATES, EXIT CAPITALIZATION RATES
AND ESTIMATED CONTINUATION VALUE FOR CHICAGO SUITES
<TABLE>
<CAPTION>
ESTIMATED
CONTINUATION VALUE
GROWTH RATE EXIT CAPITALIZATION RATE (2009) (PER PARTNERSHIP UNIT)
- ------------------------ ----------------------------------- -------------------------------
<S> <C> <C>
3.7% 9.9% $24,184
</TABLE>
Liquidation Value. The Liquidation Value of Chicago Suites was estimated
by the General Partner and represents the estimated value of Chicago Suites if
all of its assets were sold as of December 31, 1998. Such value was based upon
the Adjusted Appraised Value of Chicago Suites with the following adjustments:
(i) the "mark to market" adjustment used to estimate the Adjusted Appraised
Value was eliminated and instead prepayment or defeasance costs that would be
payable under existing debt agreements (regardless of whether the debt in fact
can be prepaid on December 31, 1998) were deducted from the Appraised Value;
(ii) the deduction for transfer and recordation taxes used to estimate the
Adjusted Appraised Value was eliminated and instead an amount equal 2.5% of the
Appraised Value of Chicago Suites' Hotel was subtracted from the Appraised Value
for estimated liquidation costs, expenses and contingencies. The General
Partner then determined the portion of the estimated Liquidation Value that
would be distributable to Chicago Suites' limited partners under the terms of
the partnership agreement and other contractual arrangements.
The following table sets forth the adjustments made to the Adjusted
Appraised Value to estimate the Liquidation Value of Chicago Suites as of the
Initial Valuation Date:
CALCULATION OF ESTIMATED LIQUIDATION VALUE OF CHICAGO SUITES
AS OF THE INITIAL VALUATION DATE
(IN THOUSANDS, EXCEPT PER PARTNERSHIP UNIT AMOUNT)
<TABLE>
<CAPTION>
<S> <C>
Appraised Value $ 34,300
Mortgage debt (22,284)
Other debt (464)
Deferred maintenance costs (46)
Sales costs (858)
Estimated Liquidation Value
--------
$ 10,648
========
Limited partners' share $ 10,541
Per Partnership Unit $ 31,467
</TABLE>
Estimated Exchange Value. The following table sets forth the estimated
Exchange Value of Chicago Suites (based upon the Appraised Values of Chicago
Suites' Hotels as of March 1, 1998 and the estimated adjustments described
above) and the estimated Note Election Amount for Chicago Suites, all on a per
Partnership Unit basis. The estimated Exchange Value for Chicago Suites (which
will be received by each Chicago Suites Limited Partner retaining OP Units in
the Merger) is equal to the estimated Adjusted Appraised Value for Chicago
Suites. The estimated Note Election Amount for Chicago Suites (which will be
received by Chicago Suites Limited Partners electing to receive Notes in
exchange for OP Units) is equal to the Liquidation Value for Chicago Suites.
The estimated values set forth below may increase or decrease as a result of
various adjustments, which will be finally calculated as of the Final Valuation
Date but will not change as a result of less than all of the Partnerships
participating in the Mergers.
Chicago Suites Supp-12
<PAGE>
ESTIMATED EXCHANGE VALUE OF CHICAGO SUITES
Per Partnership Unit(1)
<TABLE>
<CAPTION>
ESTIMATED ESTIMATED ESTIMATED ESTIMATED ESTIMATED
Adjusted Appraised CONTINUATION LIQUIDATION EXCHANGE NOTE ELECTION
Value Value Value Value (2) Amount(3)
- ---------------------------------------- ------------ ----------- ---------- --------------
<S> <C> <C> <C> <C>
$ 33,471 $24,184 $31,467 $33,471 $31,467
</TABLE>
_________________
(1) A Partnership Unit in Chicago Suites represents an original investment of
$35,000
(2) The estimated Exchange Value equals the greatest of estimated Adjusted
Appraised Value, estimated Continuation Value and estimated Liquidation
Value.
(3) The principal amount of Notes is equal to the greater of (i) the
Liquidation Value or (ii) 60% of the Exchange Value (the "Note Election
Amount").
Valuation of OP Units Allocated to Chicago Suites' Limited Partners. Each
Chicago Suites Limited Partner will receive OP Units with a deemed value equal
to the Exchange Value of such Chicago Suites Limited Partner's Partnership
Interests. The value of an OP Unit for this purpose will be deemed to be equal
to (i) the average of the closing price of shares of Host common stock on the
NYSE for the 10 trading days ending on the third trading day prior to the record
date for the distribution of SLC common stock to Host shareholders minus (ii)
the amount of cash and the estimated value, as determined by Host's Board of
Directors in good faith and in reliance in part upon an opinion of an
independent financial advisor, of the SLC common stock or other property to be
distributed with respect to each share of Host common stock (currently estimated
to aggregate approximately $___ - $____ per share) in connection with the REIT
Conversion. The closing price per share of Host common stock on May 28, 1998
was $19.4375.
Chicago Suites Limited Partners who receive OP Units will receive cash
distributions from Chicago Suites for all of 1998 and, if the Merger does not
occur in 1998, any portion of 1999 prior to the Merger for which period they do
not receive a cash distribution from the Operating Partnership.
No fractional OP Units will be issued. Fractional amounts less than or
equal to 0.50 of an OP Unit will be rounded down to the next whole number and
fractional amounts greater than 0.50 will be rounded up to the next whole number
of OP Units.
Cash Distributions
Historical Cash Distributions Paid by Chicago Suites. Chicago Suites has not
paid any cash distributions to its Limited Partners in the First Quarter 1998
and the fiscal years 1993 through 1997.
Compensation and Distributions to the General Partner. Under Chicago Suites
partnership agreement, the General Partner does not receive fees or compensation
in connection with managing the affairs of Chicago Suites but the General
Partner and its affiliates are reimbursed for certain costs and expenses
incurred on behalf of Chicago Suites. The following information has been
prepared to compare the amount of reimbursements paid and cash distributions
made by Chicago Suites to the General Partner and its affiliates to the amounts
that would have been paid if the reimbursement and distribution structure which
will be in effect after the REIT Conversion had been in effect for the periods
presented.
Following the REIT Conversion, Host REIT will be operated as a self-
administered REIT and as a result no reimbursements or other compensation will
be received by the General Partner.
During First Quarter 1998 and fiscal years 1997, 1996 and 1995, amounts
actually paid by Chicago Suites to the General Partner are shown below under
"Historical" and the estimated amounts that would have been paid had the REIT
Conversion been in effect for the periods presented (assuming the Full
Participation Scenario) are shown under "Pro Forma."
Chicago Suites Supp-13
<PAGE>
Historical and Pro Forma Reimbursements and Distributions to the
General Partner and its Affiliates
(in thousands)
<TABLE>
<CAPTION>
First Quarter Fiscal Year
-------------- --------------------
1998 1997 1996 1995
---- ---- ---- ----
Historical
<S> <C> <C> <C> <C>
Reimbursements $ 66 $ 59 $ 119 $ --
Distributions -- -- -- --
----- ----- ----- -----
Total Historical $ 66 $ 59 $ 119 $ --
===== ===== ===== =====
Pro Forma
Reimbursements $ -- $ -- $ -- $ --
Distributions attributable to Units/(1)/
N/A N/A N/A N/A
----- ----- ----- -----
Total Pro Forma $ -- $ -- $ -- $ --
===== ===== ===== =====
</TABLE>
________________
(1) The OP Units to be received by Host in connection with the REIT Conversion
will be equal to the number of shares of Host's common stock outstanding and
not allocated based upon their interests in any of the Partnerships,
including Chicago Suites. Thus, the distributions received by Host and its
affiliates by way of their interests in the Partnerships, including Chicago
Suites, cannot be determined on a pro forma basis.
Certain Information Regarding the Hotel Owned by Chicago Suites
<TABLE>
<CAPTION>
Number of Date Opened
Name of Hotel Location of Hotel Rooms
- ------------- ----------------- --------- -----------
<S> <C> <C> <C>
Marriott Suites O'Hare Chicago, IL 256 1988
</TABLE>
The table below sets forth certain performance information for Chicago
Suites' Hotel for the indicated periods.
<TABLE>
<CAPTION>
First Quarter Fiscal Year
---------------------
1998 1997 1997 1996 1995
--------- --------- --------- --------- ---------
<S> <C> <C> <C> <C> <C>
Average daily rate $157.30 $138.05 $146.83 $128.74 $120.80
Occupancy 77.2% 78.4% 83.2% 84.0% 81.4%
REVPAR $121.44 $108.23 $122.16 $108.14 $ 98.33
% REVPAR change....................... 12% -- 13% 10% --
</TABLE>
Marriott Suites O'Hare Hotel, Chicago, Illinois
The Marriott Suites O'Hare Hotel is a full-service Marriott suites hotel
located approximately 10 miles northwest of downtown Chicago, and two miles east
of O'Hare International Airport (the "Airport") on approximately four acres of
leased land. The Hotel is part of the 29 acre Riverway office and retail park
developed by Simon/Rosemont Developers.
The Hotel opened in November 1988 with 256 guest suites. The Hotel has
approximately 2,600 square feet of meeting space including a 2,000 square foot
meeting room and 600 square foot board room. There are three food and beverage
outlets available in the Hotel, including a 94-seat restaurant, 20-seat private
dining restaurant and 33-seat lounge. Recreational amenities include an indoor
pool, a whirlpool
Chicago Suites Supp-14
<PAGE>
and an exercise room. The Hotel also offers a gift shop and parking for 272
vehicles on site. The Partnership purchased the Hotel in 1989 for approximately
$35 million.
Competition. The following table provides selected data on the Hotel and its
seven main competitors in the vicinity of the Airport:
<TABLE>
<CAPTION>
Number of Year of Meeting Space
Property Rooms Opening (square footage)
- -------- ---------- ------- -----------------
<S> <C> <C> <C>
O'Hare Suites 256 1988 2,600
Hyatt Regency 1,100 1971 81,600
Hilton 856 1972 33,900
O'Hare Marriott 681 1968 27,000
Westin 525 1984 38,700
Sofitel 300 1987 20,300
Sheraton Gateway Suites 297 1986 12,500
Rosemont Suites 296 1987 6,800
</TABLE>
The O'Hare Marriott is managed by Marriott International, and other than
limited joint marketing efforts, the Hotel and the O'Hare Marriott are direct
competitors. Host also owns the O'Hare Marriott. In addition, other hotels in
the Chicago area also compete with the Hotel; however, these differ in terms of
size, room rates, facilities, market orientation and/or location. New
competition is expected to open in the area in the near future; however, it is
expected to have minimal impact on the Hotel as it appeals to a different
segment of the market.
Ground Lease. The Hotel is located on a 4.3-acre site that is leased from
an unrelated third party for an initial term expiring in 2014. The Ground Lease
may be renewed at the option of the Partnership for five successive terms of 10
years each. The lease provides for annual rental during its term equal to the
greater of $300,000 or 3% of annual gross room sales. Under the lease, the
Partnership pays all costs, expenses, taxes and assessments relating to the
land, including real estate taxes. The Partnership has a first right of
negotiation in the event the ground lessor decides to sell the leased premises.
Upon expiration or termination of the Ground Lease, title to the land and all
improvements, including the Hotel, reverts to the ground lessor.
Amendments to the Chicago Suites' Partnership Agreement
In order to allow the Hotel of Chicago Suites to be leased to SLC in
connection with the Merger and the REIT Conversion, Chicago Suites' partnership
agreement must be amended to allow for the lease of Chicago Suite' Hotel in
connection with the REIT conversion. Therefore, Section 5.02B of Chicago
Suites' partnership agreement will be amended to restate paragraph 5.02B(ii) in
its entirety:
(ii) sell, lease or otherwise dispose (or consent to the sale, lease or
other disposition), directly or indirectly, in one transaction or a
series of related transactions, of the Hotel.
Other Amendments. Amendments to certain terms and sections of the Chicago
----------------
Suites partnership agreement would be made in order to (i) delete certain
obsolete references to entities and agreements that are no longer in existence,
(ii) update the Chicago Suites partnership agreement to reflect the passage of
time since the formation of Chicago Suites and (iii) make any other amendments
to the Chicago Suites partnership agreement deemed necessary or advisable, in
the sole discretion of the General Partner, in connection with the consummation
of the Mergers and the REIT Conversion. The General Partner does not believe
that these amendments would affect the rights of the Chicago Suites Limited
Partners in any material respect nor the duties and obligations of the General
Partner. These changes are included, along with the other proposed amendments,
in the copy of Chicago Suites partnership agreement, as proposed to be amended,
which is attached hereto. The amended Chicago Suites partnership agreement is
marked to
Chicago Suites Supp-15
<PAGE>
indicate the revisions made to the existing Chicago Suites partnership agreement
and should be read in its entirety. Deleted provisions are contained in brackets
and struck through and added provisions are in bold type and underlined.
The vote required for such amendment is a majority of the outstanding
limited partnership interests. The General Partner does not own limited
partnership interests in Chicago Suites.
THE GENERAL PARTNER RECOMMENDS THAT CHICAGO SUITES LIMITED PARTNERS VOTE TO
APPROVE THE REQUESTED AMENDMENTS TO THE CHICAGO SUITES' PARTNERSHIP AGREEMENT.
FAIRNESS ANALYSIS AND OPINION
FAIRNESS ANALYSIS
The General Partner believes that the terms of the Merger provide
substantial benefits and are fair to the Limited Partners of Chicago Suites and
recommends that all Limited Partners of Chicago Suites consent to the Merger.
The General Partner bases this recommendation primarily on (i) its view that the
expected benefits of the Merger for the Chicago Suites Limited Partners outweigh
the risks and potential detriments of the Merger to the Chicago Suites Limited
Partners (see "Background and Reasons for the Mergers and the REIT Conversion --
Reasons for the Mergers" and "Risk Factors"), (ii) its view that the value of
the OP Units allocable to the Chicago Suites Limited Partners on the basis of
the Exchange Value established for Chicago Suites represents fair consideration
for the Partnership Interests held by the Chicago Suites Limited Partners and is
fair to the Chicago Suites Limited Partners from a financial point of view, and
(iii) the Fairness Opinion of AAA stating that (a) the methodologies and
underlying assumptions used to determine the Exchange Value, the Adjusted
Appraised Value, the Continuation Value and the Liquidation Value of Chicago
Suites and each other Partnership, including, without limitation, the
assumptions used to determine the various adjustments to the Appraised Values of
the Hotels, are fair and reasonable, from a financial point of view, to the
Limited Partners of Chicago Suites and each other Partnership and (b) the
methodologies used to determine the value of an OP Unit and to allocate the
equity interest in the Operating Partnership to be received by the Chicago
Suites Limited Partners and the Limited Partners of each Partnerships are fair
and reasonable to the Chicago Suites Limited Partners and the Limited Partners
of each other Partnership.
The Merger is not conditioned upon the consummation of the other Mergers.
The General Partner has considered this fact in evaluating the fairness of the
Merger. The General Partner believes that the fairness of the Merger will not
be materially affected by the presence or absence of any other individual
Partnership or by any particular combination of other Partnerships and that the
Merger will be fair to the Chicago Suites Limited Partners, individually and as
a whole, if it is consummated with any combination of other Participating
Partnerships. The General Partner bases this belief primarily on the fact that
the consideration to be paid to the Chicago Suites Limited Partners has been
established based upon Chicago Suites' Exchange Value, without regard to any
possible combination of other Partnerships.
In reaching the conclusions implicit in the above recommendation, the
General Partner has taken into account the following considerations:
. The General Partner has concluded that the Exchange Value for Chicago
Suites which is equal to the greatest of its Adjusted Appraised Value,
Continuation Value and Liquidation Value, represents fair
consideration for the Partnership Interests of the Chicago Suites
Limited Partners in the Merger in relation to Chicago Suites. The
General Partner also has concluded that the Exchange Value established
for the Chicago Suites Limited Partners fairly reflects the value of
the assets held by Chicago Suites. In addition, the Fairness Opinion
supports these conclusions.
. The General Partner has concluded that the potential benefits of the
Merger to the Chicago Suites Limited Partners, as described under
"Background and Reasons for the Mergers and the REIT Conversion --
Reasons for the Mergers," outweigh the potential risks and detriments
of the Merger for the Chicago Suites Limited Partners, as described in
"Risk Factors."
. The Fairness Opinion, in the view of the General Partner, supports the
fairness of the Merger, even though it includes qualifications,
limitations and assumptions relating to its scope and other factors
that Chicago Suites Limited Partners should consider carefully.
. Host will contribute its wholly owned full-service hotel assets, its
interests in the Hotel Partnerships and its other assets (excluding
its senior living assets) to the Operating Partnership in exchange for
(i) a number of OP Units equal to the number of outstanding shares of
common stock of Host, (ii) preferred partnership interests in the
Operating Partnership corresponding to any shares of Host preferred
stock outstanding at the time of the REIT Conversion and (iii) the
assumption by the Operating Partnership of certain liabilities of
Host. Following these contributions, the Operating Partnership and its
subsidiaries will directly own all of Host's wholly-owned hotels and
all of Host's interests in the Hotel Partnerships and other assets.
Host REIT will not receive any compensation for its services as
general partner to the Operating Partnership following the REIT
Conversion and will benefit from the operations of the Operating
Partnership only to the extent of the distributions received based
upon its percentage interest in the Operating Partnership to the same
extent as the other limited partners. Because Host REIT will share in
the value of the Operating Partnership solely through distributions
and not through any separate compensation structure, the General
Partner believes that this is a factor supporting the fairness of the
Merger to the Chicago Suites Limited Partners.
. The General Partner believes that the value of the consideration to be
received by the Chicago Suites Limited Partners in the Merger is fair
in relation to the value which would be derived by such Limited
Partners under any of the alternatives described under "Background and
Reasons for the Mergers and the REIT Conversion -- Alternatives to the
Mergers," especially since the Exchange Value of Chicago Suites is
equal to its Adjusted Appraised Value, which is the greatest of the
three values -- the Adjusted Appraised Value, the Continuation Value
and the Liquidation Value. The General Partner does not believe that
the sale of Chicago Suites' Hotel and liquidation of Chicago Suites
will obtain for Chicago Suites' Limited Partners as much value as the
value to be received by such Chicago Suites Limited Partners following
the Merger. The General Partner believes that the following benefits
are of the greatest value and importance to the Chicago Suites Limited
Partners:
. Enhanced Liquidity. The Mergers and the REIT Conversion will
offer Chicago Suites Limited Partners significantly enhanced
liquidity with respect to their investments in Chicago Suites
because, after the expiration of the Initial Holding Period,
Chicago Suites Limited Partners will be able to exercise
their Unit Redemption Right at any time, subject to certain
limited exceptions. Host has approximately 204 million shares
of common stock outstanding and the closing price on the NYSE
on May 28, 1998 was $19.4375 per share (reflecting a total
common equity market capitalization of approximately $4
billion). The exercise of the Unit Redemption Right, however,
generally would result in recognition of taxable income or
gain at that time.
. Public Market Valuation. The General Partner believes that by
exchanging interests in a non-traded limited partnership for
interests in a publicly traded real estate company focused
primarily on a more diverse and growing fullservice hotel
portfolio, the Chicago Suites Limited Partners will have the
opportunity to participate in the recent trend of ownership
of real estate through a publicly traded entity, which, in
many instances, has resulted in market valuations of public
real estate companies in excess of the estimated net asset
values of those companies.
. Regular Quarterly Cash Distributions. The General Partner
expects that the Operating Partnership will make regular
quarterly cash distributions to holders of OP Units. The
General expects that these distributions will be higher than
the estimated 1998 cash distributions, and in any event, the
ability to receive distributions quarterly and in regular
amounts would be enhanced.
. Substantial Tax Deferral. The General Partner expects that
Chicago Suites Limited Partners who do not elect to receive
Notes generally should be able to obtain the benefits of the
Merger while continuing to defer recognition for federal
income tax purposes of at least a substantial portion, if not
all, of the gain with respect to their Partnership Interests
that otherwise would be recognized in the event of a
liquidation of Chicago Suites or a sale or other disposition
of its assets in a taxable transaction.
. The General Partner believes that the economic terms of the lease of
the Chicago Suites Hotel is fair and reasonable from the standpoint of
the Operating Partnership.
The General Partner believes that the factors described above, which
support the fairness of the Merger to the Chicago Suites Limited Partners, when
weighed against the factors that may be disadvantageous, taken as a whole,
indicate that the Merger is fair to the Chicago Suites Limited Partners.
AAA, an independent financial advisory firm with substantial real estate
and partnership transaction experience, was engaged by the General Partner and
the other General Partners to perform the Appraisals and to render the Fairness
Opinion that (i) the methodologies and underlying assumptions used to determine
the Exchange Value, the Adjusted Appraised Value, the Continuation Value and the
Liquidation Value of Chicago Suites and each other Partnership, including,
without limitation, the assumptions used to determine the various adjustments to
the Appraised Values of the Hotels, are fair and reasonable, from a financial
point of view, to the Chicago Suites Limited Partners and the Limited Partners
of each other Partnership, and (ii) the methodologies used to determine the
value of an OP Unit and to allocate the equity in the Operating Partnership to
be received by the Chicago Suites Limited Partners and the Limited Partners of
each Partnership are fair and reasonable to the Chicago Suites Limited Partners
and the Limited Partners of each other Partnership. The Fairness Opinion is
addressed to each Partnership and it may be relied upon by each of the Chicago
Suites Limited Partners and the Limited Partners of the other Partnerships. The
full text of the Fairness Opinion, which contains a description of the
assumptions and qualifications applicable to the review and analysis by AAA, is
set forth in Appendix B to the Consent Solicitation and should be read in its
entirety. The material assumptions and qualifications to the Fairness Opinion
are summarized below, although this summary does not purport to be a complete
description of the various inquiries and analyses undertaken by AAA in rendering
the Fairness Opinion. Arriving at a fairness opinion is a complex analytical
process not necessarily susceptible to partial analysis or amenable to summary
description. For a more complete description of the assumptions and
qualifications that limit the scope of the Fairness Opinion, see "AAA --
Qualifications to Fairness Opinion" and "-- Assumptions" below.
Although the General Partner advised AAA that certain assumptions were
appropriate in its view, the General Partner imposed no conditions or
limitations on the scope of the investigation by AAA or the methods and
procedures to be followed by AAA in rendering the Fairness Opinion. The fees
and expenses of AAA will be treated as a Merger Expense and will be paid by the
Operating Partnership. In addition, the General Partner has agreed to indemnify
AAA against certain liabilities. See "-- Compensation and Material
Relationships."
Chicago Suites Supp-16
<PAGE>
QUALIFICATIONS TO FAIRNESS OPINION. In the Fairness Opinion, AAA
specifically states that it did not: (a) specifically consider other
methodologies for allocation of the OP Units, (b) address or conclude that other
methodologies for allocation of the OP Units to the Chicago Suites and the other
Partnerships might not have been more favorable to the Limited Partners in
certain of the Partnerships, (c) negotiate with Chicago Suites the other
Partnerships or Host, (d) participate in establishing the terms of the Merger
and the other Mergers, (e) provide an opinion as to the terms and conditions of
the Merger and the other Mergers other than those explicitly stated in the
Fairness Opinion, (f) make any independent review of the capital expenditure
estimates set forth in the Engineering Study, (g) make any estimates of Chicago
Suites' and each other Partnership's contingent liabilities.
In connection with preparing the Fairness Opinion, AAA was not engaged to,
and consequently did not, prepare any written report or compendium of its
analysis for internal or external use beyond the analysis set forth in Appendix
B. AAA will not deliver any additional written opinion of the analysis, other
than to update the written opinion if requested by the Operating Partnership.
EXPERIENCE OF AAA. AAA is the world's largest independent valuation
consulting firm and is regularly and continually engaged in the valuation of
commercial real estate and businesses and their securities in connection with
tender offers, mergers and acquisitions, recapitalizations and reorganizations,
divestitures, employee stock ownership plans, leveraged buyout plans, private
placements, limited partnerships, estate and corporate matters, other financial
advisory matters and other valuation purposes.
AAA was selected because of its experience in the valuation of businesses
and their securities in connection with tender offers, mergers and acquisitions,
recapitalizations and reorganizations, including transactions involving hotel
partnerships. In addition, Host and its affiliates have previously engaged AAA
to provide appraisals and fairness opinions in connection with other
transactions. The General Partner and the other General Partners considered
several other firms for purposes of performing the appraisals and rendering the
Fairness Opinion, but selected AAA for the foregoing reasons.
SUMMARY OF MATERIALS CONSIDERED AND INVESTIGATION UNDERTAKEN. As a basis
for rendering for Fairness Opinion, AAA has made such reviews, studies and
analyses as it deemed necessary and pertinent in order to provide it with a
reasonable basis for the Fairness Opinion, including, but not limited to, the
following: (i) reviewed the transaction documents and SEC reporting and/or
filing documents, including drafts of the Form S-4 for the Mergers; (ii)
provided the Market Value of each Hotel owned by each Partnership in a separate
short form appraisal report and each such report was reviewed and certified by
an MAI appraiser as to its preparation in accordance with the requirements of
the Standards of Professional Practice of the Appraisal Institute and the
Uniform Standards of Professional Appraisal Practice of the Appraisal
Foundation; as part of the Appraisals, AAA reviewed historical operating
statements, 1998 budget and year-to-date results, and other financial
information as it deemed necessary as a basis for the Fairness Opinion and the
Appraisals also considered market transactions of similar lodging properties as
appropriate as a basis for the Market Value of each Hotel; (iii) reviewed the
methodologies used by each of the General Partners in their determination of the
Exchange Value of each Partnership, including the nature and amount of all
adjustments to the Appraised Values in determining such Exchange Values; AAA
reviewed and tested for the fairness and reasonableness of all adjustments as
well as for consideration of all adjustments deemed to be appropriate by AAA;
(iv) reviewed the methodologies used by each of the General Partners in their
determination of the value of an OP Unit and the allocation of the equity
interest in the Operating Partnership to be received by the limited partners of
each Partnership, and AAA reviewed and tested for the fairness and
reasonableness of the methods and measurements made by the General Partners; (v)
reviewed the General Partners' determination of the Liquidation Value of each
Partnership, and AAA reviewed and tested for the fairness and reasonableness of
all adjustments proposed by the General Partners, as well as for consideration
of all adjustments deemed appropriate by AAA; (vi) provided an estimate of the
Continuation Value of each Partnership based upon the estimated present value of
expected benefits to be received by each limited partner interest as though the
Mergers did not occur and each Partnership's assets were sold within a twelve
year period; AAA, as part of its analysis and review, determined appropriate
rates of growth in house profit or net operating income, as well as reviewed
other key variables affecting partnership cash flows and other
economic/financial factors affecting the Partnerships' expected operations and
results;(vii) reviewed the terms of the ground leases of the Hotels and the
partnership agreement of each Partnership; (viii) reviewed audited and unaudited
historical income statements, balance sheets and statements of sources and uses
of funds of each Partnership and Host and pro forma financial information for
Host REIT; (ix) reviewed audited and unaudited historical operating statements
of each Hotel, as well as current operating statements and budgets; (x)
conducted real estate valuation and financial due diligence with respect to the
Partnerships and their underlying assets, liabilities and equity; (xi) reviewed
internal Marriott International, Host and Partnership financial analyses and
other internally generated data for each Hotel; and (xii) discussed all of the
foregoing information, where appropriate, with management of Marriott
International, Host and the Partnerships, and their respective employees.
ASSUMPTIONS. In rendering its opinion, AAA relied, without independent
verification, on the accuracy and completeness in all material respects of
certain relevant publicly available information and information provided to AAA
by Host and the Hotels. AAA assumed that all information furnished by Host,
the Hotels and the Partnerships and their representatives, upon which AAA
relied, presented and accurate description in all material respects of the
current and prospective status of the Hotels and the Partnerships from an
operational and financial point of view. AAA also noted that the Fairness
Opinion was based upon financial, economic, market and other considerations as
they existed and could be evaluated on the date thereof.
CONCLUSIONS. AAA concluded that, based upon and subject to its analysis
and assumptions and limiting conditions, and as of the date of the Fairness
Opinion: (i) the methodologies used to determine the Exchange Value, the
Adjusted Appraised Value, the Continuation Value and the Liquidation Value each
Partnership, including, without limitation, the assumptions used to determine
the various adjustments to the Appraised Values of each of the Hotels, are fair
and reasonable, from a financial point of view, to the Chicago Suites Limited
Partners and the Limited Partners of each Partnership, and (ii) the
methodologies used to determine the value of an OP Unit and to allocate the
equity interest in the Operating Partnership to be received by the Chicago
Suites Limited Partners and the Limited Partners of each Partnership are fair
and reasonable to the Limited Partners of each Partnership.
COMPENSATION AND MATERIAL RELATIONSHIPS. AAA has been paid a fee of
$________ for its services as described herein, including the Appraisals and
preparing to deliver the Fairness Opinion. In addition, AAA will be reimbursed
for all reasonable out-of-pocket expenses, including legal fees, and will be
indemnified against certain liabilities, including certain liabilities under the
securities laws. The fee was negotiated between Host, the General Partners and
AAA. Payment of the fee to AAA is not dependent upon completion of the Mergers.
AAA has been previously engaged by Host and its affiliates to provide fairness
opinions in connection with other transactions.
Chicago Suites Supp-17
<PAGE>
Voting Procedures
The consent of Limited Partners holding more than 50% of the outstanding
limited partnership interests is required for participation in the Merger. The
General Partner does not own any limited partnership interests.
A Chicago Suites Limited Partner may mark the Consent Form to vote "FOR,"
"AGAINST" or "ABSTAIN" with respect to participation in the Merger by Chicago
Suites. The failure of a Limited Partner of Chicago Suites to vote will mean
that such Limited Partner's Partnership Interest will not be counted for
purposes of establishing a quorum and will not affect the manner in which Host
is required to vote its limited partnership interests. A Consent Form that is
properly signed but not marked will be voted FOR the Merger. The voting
procedures applicable to Chicago Suites' Limited Partners are set forth in the
Consent Solicitation under the heading "Voting Procedures - Required Vote and
Other Conditions."
Federal Income Tax Considerations
In addition to the federal income tax considerations discussed in the sections
of the Consent Solicitation entitled "Federal Income Tax Considerations" and
"Risk Factors -- Federal Income Tax Risks," Chicago Suites Limited Partners
should read carefully the following discussion of federal income tax
considerations applicable specifically to the Chicago Suites Limited Partners.
The information included in this discussion is based upon various factual
assumptions and information which are believed by the Operating Partnership and
the General Partner to be reliable. However, some of these assumptions
inevitably will not materialize, and unanticipated events and circumstances will
occur. Therefore, there likely will be differences between the information
provided herein, including the numerical data and estimates, and actual results,
and the variations may be material and adverse.
Applicability of Tax Opinions
Hogan & Hartson L.L.P. ("Hogan & Hartson"), counsel to Host REIT, Host and the
Operating Partnership, has provided to Host REIT and the Operating Partnership
an opinion letter (substantially in the form of Appendix C to the Consent
Solicitation) as to certain federal income tax consequences to the Operating
Partnership and Chicago Suites' Limited Partners resulting from the Mergers
and the REIT Conversion. The opinion letter is based upon certain assumptions
and certain representations provided by Host REIT, Host, the Operating
Partnership's and the General Partners. These representations generally involve
factual matters relating to the organization, ownership and operations
(including the income, assets, businesses, liabilities and properties) of the
Partnerships and Hotels contributed to the Operating Partnership by Host and the
Blackstone Entities prior to the Mergers and of Host REIT, the Operating
Partnership and the Hotel Partnerships following the Mergers and the REIT
Conversion. In addition, on the Closing Date, Hogan & Hartson expects to
provide to Host REIT and the Operating Partnership an opinion letter
(substantially in the form of Appendix D to the Consent Solicitation) as to the
qualification and taxation of Host REIT as a REIT under the Code following the
REIT Conversion. See "Federal Income Tax Considerations -- Summary of Tax
Opinions" in the Consent Solicitation.
Each opinion provided by Hogan & Hartson in the opinion letter that is
substantially in the form of Appendix E to the Consent Solicitation is
applicable to the Chicago Suites Limited Partners.
The opinions already rendered by Hogan & Hartson are based on the Code and
Treasury Regulations in effect on the date hereof, current administrative
interpretations and positions of the IRS and existing court decisions, and the
opinions to be rendered by Hogan & Hartson on the Closing Date will be based on
the same authorities as of the Closing Date. No assurance can be given that
future legislation, Treasury Regulations, administrative interpretations and
court decisions will not significantly change the law or the above conclusions
reached by counsel. In addition, any such change could apply retroactively to
transactions preceding the date of change. Moreover, opinions of counsel merely
represent counsel's best judgment with respect to the probable outcome on the
merits and are not binding on the IRS or the courts. Accordingly,
Chicago Suites Supp-18
<PAGE>
even if there is no change in applicable law, no assurance can be provided that
such opinions (which do not bind the IRS or the courts) will not be challenged
by the IRS or will be sustained by a court if so challenged. With the one
exception described below (see "-- Tax Consequences of the Merger -- Deemed Cash
Distribution and Resulting Taxable Gain") and in the Consent Solicitation under
"Federal Income Tax Considerations -- Tax Consequences of the Mergers -- IRS
Ruling Request Regarding Allocation of Partnership Liabilities," neither Host
REIT, the Operating Partnership nor the General Partners have requested or plan
to request any rulings from the IRS concerning the tax consequences of the
Mergers or the treatment of either the Operating Partnership or Host REIT
subsequent to the REIT Conversion.
Tax Consequences of the Merger
Overview. Hogan & Hartson has provided an opinion to the effect that the
--------
Merger will not result in the recognition of taxable gain or loss at the time of
the Merger to a Chicago Suites Limited Partner (i) who does not exercise his
Unit Redemption Right on a date sooner than the date two years after the date of
the consummation of the Merger; (ii) who does not receive a cash distribution
(or a deemed cash distribution resulting from relief from liabilities, including
as a result of any prepayment of the Chicago Suites Mortgage Debt) in connection
with the Merger or the REIT Conversion in excess of his aggregate adjusted basis
in his Chicago Suites Partnership Units at the time of the Merger; (iii) who
does not elect to receive a Note in exchange for his OP Units in connection with
the Merger (the "Note Election"); (iv) who is not required to recognize gain by
reason of the exercise by another Chicago Suites Limited Partner of his right to
make the Note Election (which, in counsel's opinion, described below, should not
be the result of such election); and (v) who does not have his "at risk" amount
fall below zero as a result of the Merger or the REIT Conversion. See "Federal
Income Tax Considerations -- Summary of Tax Opinions" in the Consent
Solicitation.
With respect to the foregoing exceptions to nonrecognition treatment, the
Operating Partnership and the General Partner believe as follows: (i) a Chicago
Suites Limited Partner who acquired his Chicago Suites Partnership Units in the
original offering of such Partnership Units and who has held such Partnership
Units at all times since would not be considered to receive, as a result of the
Merger, a distribution (or a deemed cash distribution resulting from relief from
liabilities) that exceeds his aggregate adjusted basis in his Chicago Suites
Partnership Units at the time of the Merger, and would not have his "at risk"
amount fall below zero as a result of the Merger, even if all of the Chicago
Suites Mortgage Debt were to be repaid in connection with the Merger or the REIT
Conversion, and (ii) none of the personal property owned by Chicago Suites will
need to be sold to a Non-Controlled Subsidiary in connection with the REIT
Conversion. See "Federal Income Tax Considerations -- Tax Consequences of the
Mergers -- Overview" in the Consent Solicitation.
With respect to the effects of a Chicago Suites Limited Partner's election to
receive a Note in exchange for his OP Units in connection with the Merger, Hogan
& Hartson is of the opinion that although the matter is not free from doubt, a
Chicago Suites Limited Partner who does not elect to receive a Note in
connection with the Merger should not be required to recognize gain by reason of
another Chicago Suites Limited Partner's exercise of such right. With respect
to the exercise of a Unit Redemption Right, Hogan & Hartson is of the opinion
that it is more likely than not that a Chicago Suites Limited Partner's exercise
of his Unit Redemption Right more than one year after the date of consummation
of the Merger but less than two years after such date will not cause the Merger
itself to be a taxable transaction for the Chicago Suites Limited Partner (or
the other Chicago Suites Limited Partners). See "Federal Income Tax
Considerations -- Summary of Tax Opinions" in the Consent Solicitation.
Opinions of counsel, however, do not bind the IRS or the courts, and no
assurances can be provided that such opinions will not be challenged by the IRS
or will be sustained by a court if so challenged.
Deemed Cash Distribution and Resulting Taxable Gain. With respect to his
---------------------------------------------------
Chicago Suites Partnership Units, a Chicago Suites Limited Partner will receive
no actual cash distribution in connection with the Merger but would be deemed to
receive a cash distribution in connection with the Merger to the extent that his
share of Operating Partnership liabilities immediately after the Merger and the
REIT Conversion is less than his share of Chicago Suites liabilities immediately
prior to the Merger. For example, any prepayment of the Chicago Suites Mortgage
Debt or debt encumbering other Hotels may result in a
Chicago Suites Supp-19
<PAGE>
deemed cash distribution to the Chicago Suites Limited Partners. See "Federal
Income Tax Considerations-- Tax Consequences of the Mergers -- Relief from
Liabilities/Deemed Cash Distribution" in the Consent Solicitation. Even though
the Chicago Suites Mortgage Debt and the debt encumbering other Hotels is not
expected to be repaid or refinanced in connection with the Merger and the REIT
Conversion, a Chicago Suites Limited Partner's share of indebtedness following
the Merger and the REIT Conversion may nonetheless decrease in comparison to the
Limited Partner's estimated aggregate share of Chicago Suites indebtedness as of
December 31, 1998 (calculated based on the assumption that the Merger did not
occur) by reason of the manner in which the debt allocation rules work when
multiple assets with different levels of leverage are consolidated into a single
partnership.
A Chicago Suites Limited Partner, however, would recognize taxable gain as a
result of any deemed cash distribution only to the extent that the deemed cash
distribution were to exceed his adjusted tax basis in his Chicago Suites
Partnership Units immediately prior to the Merger. As noted above, the
Operating Partnership and the General Partner believe, based upon and subject to
the assumptions and other limitations described below, that a Chicago Suites
Limited Partner who acquired his Chicago Suites Partnership Units in the
original offering of such Partnership Units and has held the Partnership Units
at all times since the offering will have an adjusted tax basis in excess of the
deemed cash distribution that might occur in connection with the Merger and the
REIT Conversion, even if all of the Chicago Suites Mortgage Debt were to be
repaid in connection with the Merger and the REIT Conversion, and the Chicago
Suites Limited Partner were to have no share of any Operating Partnership
indebtedness following the Merger and the REIT Conversion. Therefore, such a
Chicago Suites Limited Partner should not recognize gain due to such deemed cash
distribution resulting from the relief from liabilities in connection with the
Merger and the REIT Conversion in any event.
The adjusted tax basis of a Chicago Suites Limited Partner who did not acquire
his Chicago Suites Partnership Units in the original offering of such
Partnership Units or who has not held his Chicago Suites Partnership Units at
all times since such offering could vary materially from that of a Chicago
Suites Limited Partner who did so. If a Chicago Suites Limited Partner has an
adjusted tax basis in his Chicago Suites Partnership Units (per Chicago Suites
Partnership Unit) that is substantially less than the adjusted tax basis of a
Chicago Suites Limited Partner who acquired his Chicago Suites Partnership Units
in the original offering of such Partnership Units and has held such Partnership
Units at all times since, he could (although it is unlikely) recognize gain due
to any deemed cash distribution resulting from the relief from liabilities in
connection with the Merger and the REIT Conversion.
The Operating Partnership has no current plan or intention to cause the
prepayment of the Chicago Suites Mortgage Debt or, except as described in the
Consent Solicitation, any of the nonrecourse liabilities encumbering the Hotels
owned by the other Partnerships. The Operating Partnership, however, will have
to repay mortgage indebtedness securing the Hotels owned by the Partnerships at
the time such indebtedness matures. There can be no assurance that at such time
the Operating Partnership will be able to secure nonrecourse mortgage
indebtedness secured only by those Hotels in an amount sufficient to avoid a
deemed cash distribution to the former Limited Partners in those Partnerships,
including Chicago Suites (although such a deemed distribution of cash may or may
not result in the recognition of taxable income or gain by the former Chicago
Suites Limited Partners). Moreover, the Operating Partnership's current long-
term financing strategy is to have as little debt as possible that is secured by
individual Hotels and to have as much debt as possible in the form of unsecured
debt, held either by the public or by institutional investors, which debt may or
may not be recourse to Host REIT, as general partner of the Operating
Partnership. In view of these considerations and the potential adverse
consequences to Limited Partners in certain Partnerships, the Operating
Partnership has requested from the IRS a ruling to the effect that such
unsecured indebtedness of the Operating Partnership that is issued initially to
institutional investors and is not recourse to Host REIT (i) would qualify as
"nonrecourse liabilities" for purposes of Code Section 752, (ii) to the extent
the proceeds thereof are applied to repay existing nonrecourse mortgage
indebtedness secured by one or more Hotels (including the Chicago Suites
Mortgage Debt), would be considered to be "secured" by those Hotels for purposes
of allocating the liabilities for tax basis purposes (and thus would be
allocable, at least in substantial part, to the former Limited Partners in the
Partnership owning those Hotels, including the Chicago Suites Limited Partners),
and (iii) would constitute "qualified nonrecourse financing" secured by
Chicago Suites Supp-20
<PAGE>
such Hotels for purposes of Code Section 465. The IRS has recently issued a
ruling to that effect to another taxpayer, and has indicated to the Operating
Partnership's representatives that it is favorably inclined to issue that ruling
to the Operating Partnership.
Section 465(e) Recapture. As discussed in the Consent Solicitation, see
------------------------
"Federal Income Tax Considerations -- Tax Consequences of the Mergers -- Section
465(e) Recapture," the "at risk" rules of Section 465 of the Code generally
apply to limit the use of partnership losses by a partner. Under Section 465(e)
of the Code, a partner may be required to include in gross income, or
"recapture," losses previously allowed to such partner with respect to his
investment in a partnership if the amount for which the partner is "at risk" in
relation to his investment in the partnership is less than zero at the close of
the taxable year.
It is possible that the consummation of the Merger and the REIT Conversion or
the repayment of certain "qualified nonrecourse financing" of the Operating
Partnership, the Hotel Partnerships or the Hotels contributed to the Operating
Partnership by the Blackstone Entities at the time of or following the Merger
and the REIT Conversion could, singularly or in combination, cause a Chicago
Suites Limited Partner's amount at risk in relation to his investment in Chicago
Suites (and, after the Merger, in the Operating Partnership) to be reduced below
zero, resulting in an income inclusion to the Limited Partner under Section
465(e) of the Code. Currently, a sufficient portion of the current debt of
Chicago Suites constitutes "qualified nonrecourse financing" so that the Chicago
Suites Limited Partners have positive at risk amounts, and the Operating
Partnership expects that most of the current debt with respect to the other
Hotel Partnerships and the Hotels contributed by the Blackstone Entities that
will be assumed by the Operating Partnership as part of the Merger and the REIT
Conversion should qualify as "qualified nonrecourse financing." The Operating
Partnership and the General Partner believe, based upon and subject to the
assumptions and other limitations described below, that a Chicago Suites Limited
Partner who acquired his Chicago Suites Partnership Units in the original
offering of such Partnership Units and has held the Partnership Units at all
times since will have a positive at risk amount immediately following the Merger
and the REIT Conversion, even if all of the Chicago Suites Mortgage Debt were to
be repaid in connection with the Merger and the REIT Conversion and the Chicago
Suites Limited Partners were to have no share of any other "qualified
nonrecourse financing" following the Merger and the REIT Conversion.
It is possible, however, that a former Chicago Suites Limited Partner's at
risk amount could decline in the future, either because of the allocation of
losses from the Operating Partnership to that former Chicago Suites Limited
Partner or because of cash distributions by the Operating Partnership to that
former Chicago Suites Limited Partner in excess of the taxable income allocable
to him with respect to his OP Units. In that event, it may be necessary for the
former Chicago Suites Limited Partner to have a share of "qualified nonrecourse
financing" from the Operating Partnership in order to avoid recognizing income
by reason of his at risk amount falling below zero. Moreover, there can be no
assurance that debt incurred by the Operating Partnership in the future to
refinance the Chicago Suites Mortgage Debt or outstanding mortgage debt of the
other Hotel Partnerships or the Hotels contributed by the Blackstone Entities
will qualify as "qualified nonrecourse financing." The Operating Partnership's
current long-term financing strategy is to have as little debt as possible that
is secured by individual Hotels and to have as much debt as possible in the form
of unsecured debt, held either by the public or by institutional investors,
which debt may or may not be recourse to Host REIT, as general partner of the
Operating Partnership. If, however, the Operating Partnership were to obtain
the requested ruling from the IRS and were to refinance existing mortgage
indebtedness of the Partnerships with the type of indebtedness described in the
ruling, such indebtedness should constitute "qualified nonrecourse financing"
for purposes of the "at risk" rules.
Impact of Assumption of Chicago Suites Liabilities by the Operating
-------------------------------------------------------------------
Partnership. As described in the Consent Solicitation, see "Federal Income Tax
- -----------
Considerations -- Tax Consequences of the Mergers -- Disguised Sale
Regulations," a Chicago Suites Limited Partner will recognize gain to the extent
he is treated as having sold all or part of his Chicago Suites Partnership
Interest in a "disguised sale." For purposes of these rules, certain reductions
in a partner's share of partnership liabilities are treated as a transfer of
money or other property from the partnership to the partner which may give rise
to a disguised sale, even if that reduction would not otherwise result in a
taxable deemed cash distribution in excess of the partner's basis in his
partnership interest. However, if a transfer of property by a partner to a
partnership is not
Chicago Suites Supp-21
<PAGE>
otherwise treated as part of a disguised sale, then any reduction in the
partner's share of "qualified liabilities" also will not be treated as part of a
disguised sale. A "qualified liability" in connection with a transfer of
property to a partnership includes (i) any liability incurred more than two
years prior to the earlier of the transfer of the property or the date the
partner agrees in writing to the transfer, as long as the liability has
encumbered the transferred property throughout the two-year period; (ii) a
liability that was not incurred in anticipation of the transfer of the property
to a partnership, but that was incurred by the partner within the two-year
period prior to the earlier of the date the partner agrees in writing to
transfer the property or the date the partner transfers the property to a
partnership and that has encumbered the transferred property since it was
incurred; (iii) a liability that is traceable under the Treasury Regulations to
capital expenditures with respect to the property; and (iv) a liability that was
incurred in the ordinary course of the trade or business in which property
transferred to the partnership was used or held, but only if all the assets
related to that trade or business are transferred, other than assets that are
not material to a continuation of the trade or business. However, a recourse
liability is not a "qualified liability" unless the amount of the liability does
not exceed the fair market value of the transferred property (less any other
liabilities that are senior in priority and encumber such property or any
allocable liabilities described in (iii) or (iv), above) at the time of
transfer.
The General Partner believes that all liabilities of Chicago Suites fall into
one of the four categories of "qualified liabilities" described above and,
accordingly, that the mere assumption by the Operating Partnership of the
outstanding liabilities of Chicago Suites will not give rise to a "disguised
sale" by any of the Chicago Suites Limited Partners.
Tax Treatment of Chicago Suites Limited Partners Who Hold OP Units Following
the Merger
Initial Basis in Units. In general, a Chicago Suites Limited Partner will
----------------------
have an initial tax basis in his OP Units received in the Merger with respect to
his Chicago Suites Partnership Units equal to the basis in his Chicago Suites
Partnership Units at the time of the Merger, reduced to reflect any deemed cash
distributions resulting from a reduction in his share of Chicago Suites
liabilities and increased to reflect his share of other liabilities of the
Operating Partnership and any gain required to be recognized in connection with
the Merger and the REIT Conversion. For a discussion of the federal income tax
considerations for a Chicago Suites Limited Partner from a reduction in basis
that may result from the Merger and the REIT Conversion, see "Federal Income Tax
Considerations -- Tax Treatment of Limited Partners Who Hold OP Units Following
the Mergers -- Initial Tax Basis of OP Units" in the Consent Solicitation.
Tax Allocations upon a Sale by the Operating Partnership of Marriott Suites
---------------------------------------------------------------------------
O'Hare Hotel. Pursuant to Section 704(c) of the Code, income, gain, loss and
- ------------
deduction attributable to appreciated or depreciated property that is
contributed to a partnership must be allocated for federal income tax purposes
in a manner such that the contributor is charged with, or benefits from, the
unrealized gain or unrealized loss associated with the property at the time of
contribution. The amount of such unrealized gain or unrealized loss is
generally equal to the difference between the fair market value of the
contributed property at the time of contribution and the adjusted tax basis of
such property at the time of contribution (referred to as the "Book-Tax
Difference"). The Operating Partnership and the General Partner estimate, based
upon and subject to the assumptions and other limitations described below, that
the aggregate Book-Tax Difference with respect to the Marriott Suites O'Hare
Hotel will be $________ upon the consummation of the Merger.
If the Operating Partnership were to sell the Marriott Suites O'Hare Hotel,
the former partners of Chicago Suites (including Host REIT with respect to the
interests in Chicago Suites currently held indirectly by Host through the
General Partner) would be specially allocated by the Operating Partnership an
aggregate amount of taxable gain equal to the Book-Tax Difference with respect
to the Marriott Suites O'Hare Hotel ($ ____ in the aggregate if the Marriott
Suites O'Hare Hotel were sold immediately after the consummation of the Merger,
according to the estimate in the previous paragraph). The share of such gain
allocable to a Chicago Suites Limited Partner who acquired his Chicago Suites
Partnership Units in the original offering of such Partnership Units and held
such Partnership Units at all times since would be $___ per Chicago Suites
Partnership Unit. The share of such gain of a Chicago Suites Limited Partner
who did
Chicago Suites Supp-22
<PAGE>
not acquire his Chicago Suites Partnership Units in the original offering of
such Partnership Units or who has not held his Chicago Suites Partnership Units
at all times since such offering could vary materially from this amount. If the
Operating Partnership were to sell the Marriott Suites O'Hare Hotel, the
remaining Book-Tax Difference at the time the Hotel is sold would be required to
be allocated exclusively to the former Chicago Suites Limited Partners and the
General Partner, even though the proceeds of such sale would be allocated
proportionately among all the partners in the Operating Partnership (and would
likely be retained by the Operating Partnership, rather than distributed to
holders of OP Units and Common Shares of Host REIT). The Chicago Suites Limited
Partners would not be entitled to any special distributions from the Operating
Partnership in connection with such a sale, and thus would not necessarily
receive cash distributions from the Operating Partnership sufficient to pay such
additional taxes. Although the Partnership Agreement does not impose any
restrictions upon the Operating Partnership preventing it from causing the sale
of the Marriott Suites O'Hare Hotel at any time following the Merger, the
Operating Partnership does not have current plans to pursue a sale of the Hotel.
See "Federal Income Tax Considerations -- Tax Treatment of Limited Partners Who
Hold OP Units Following the Mergers -- Sale of Individual Hotels" in the Consent
Solicitation.
Tax Allocations with Respect to Contributed Hotels Generally. The tax
------------------------------------------------------------
allocations of depreciation to the Chicago Suites Limited Partners may change
significantly as a result of the Merger and the REIT Conversion for two reasons.
First, as described above, pursuant to Section 704(c) of the Code, depreciation
and deductions attributable to the Marriott Suites O'Hare Hotel will be required
to be allocated for federal income tax purposes in a manner such that the
Chicago Suites Limited Partners are charged with the Book-Tax Difference
associated with the Marriott Suites O'Hare Hotel at the time of the consummation
of the Merger. Consequently, a Chicago Suites Limited Partner will be allocated
less depreciation with respect to the Marriott Suites O'Hare Hotel than would be
the case if the Merger had not occurred and the Chicago Suites Limited Partner
had continued to hold his Chicago Suites Partnership Units. (On the other hand,
a former Chicago Suites Limited Partner will be allocated depreciation with
respect to other Hotels acquired by the Operating Partnership in connection with
the Merger and the REIT Conversion, including the Hotels owned by the other
Hotel Partnerships and the Hotels being contributed to the Operating Partnership
by Host and the Blackstone Entities in connection with the Merger and the REIT
Conversion.) Second, the Merger will cause the technical termination under
Section 708(b)(1)(B) of the Code of Chicago Suites and each of the other Hotel
Partnerships that participates in the Merger. Section 168(i)(7) of the Code
provides, in effect, that when a partnership terminates under Section
708(b)(1)(B) of the Code, the partnership must begin new depreciation periods
for its property. As a result, the remaining bases of the real estate
components of the Marriott Suites O'Hare Hotel and the Hotels held by the other
Hotel Partnerships will be depreciated over 39 years, rather than over the
remaining current lives of such Hotels (which range from less than one year to
39 years). See "Federal Income Tax Considerations -- Tax Treatment of Limited
Partners Who Hold OP Units Following the Mergers -- Effect of Mergers on
Depreciation" in the Consent Solicitation.
In light of the complexity of the governing rules affecting the calculation
and allocation of depreciation with respect to properties contributed to a
partnership, particularly when a number of those properties are subject to the
separate adjustments required in connection with a technical termination under
Section 708 of the Code, the number of Hotels that the Operating Partnership
will be acquiring in connection with the Merger and the REIT Conversion, and the
impact on these calculations of other outside events, including equity offerings
by Host or Host REIT and other acquisitions undertaken by Host, Host REIT or the
Operating Partnership prior to or in connection with the REIT Conversion, the
Operating Partnership and the General Partner believe that it is impossible to
predict with any degree of precision the impact that the Mergers and the REIT
Conversion will have on the future depreciation (and, consequently, the amount
of taxable income) allocable to a Chicago Suites Limited Partner.
Taxation of Tax-Exempt Limited Partners of Chicago Suites. Chicago Suites has
---------------------------------------------------------
a number of Limited Partners that qualify as tax-exempt entities pursuant to the
Code. Substantially all of the partnership income allocated by Chicago Suites
to its Limited Partners for tax purposes constitutes unrelated business taxable
income ("UBTI") to those Limited Partners that qualify as tax-exempt entities.
Following the Merger and the REIT Conversion, a substantial portion of the
income derived by the
Chicago Suites Supp-23
<PAGE>
Operating Partnership pursuant to its investments in the Hotels and allocated to
the holders of OP Units would be excluded from UBTI as "rents from real
property," interest or dividends. Some portion of the Operating Partnership's
income, however, inevitably will not qualify for exclusion from UBTI, and other
income that otherwise would qualify for exclusion from UBTI may constitute
"unrelated debt-financed income" to tax-exempt holders of OP Units. The
Operating Partnership and the General Partner cannot predict at this time the
percentage of total income to be allocated by the Operating Partnership
following the Merger and the REIT Conversion to a tax-exempt Limited Partner
that would constitute either UBTI or "unrelated debt-financed income" to such
Limited Partner. The Operating Partnership and the General Partner believe,
however, that, following the Merger, the amount of taxable income allocated by
the Operating Partnership to the former tax-exempt Chicago Suites Limited
Partners will be substantially less than the amount of taxable income that would
be allocated to such Limited Partners by Chicago Suites if Chicago Suites did
not participate in the Merger.
Impact on Passive Activity Losses of an Investment in a Publicly Traded
-----------------------------------------------------------------------
Partnership. The passive loss limitation rules generally provide that
- -----------
individuals, estates, trusts and certain closely held corporations and personal
service corporations can only deduct losses from passive activities (generally
activities in which the taxpayer does not materially participate, which would
include the Operating Partnership for Chicago Suites Limited Partners) to the
extent that such losses are not in excess of the taxpayer's income from passive
activities or investments. A Chicago Suites Limited Partner would be able to
offset losses from other passive activities against income from the Operating
Partnership that is considered passive income (but not portfolio income) so long
as the Operating Partnership is not treated as a publicly traded partnership.
The Operating Partnership and the General Partner believe, however, that there
is a substantial risk that the Operating Partnership will be treated as a
publicly traded partnership for purposes of the passive loss limitation rules.
In this event, any losses or deductions of the Operating Partnership allocable
to a Chicago Suites Limited Partner after the Merger could not be used to offset
passive income from other passive activities. Similarly, losses from other
passive activities (including losses attributable to Chicago Suites for periods
prior to the Merger) could not be applied to offset income of the Operating
Partnership allocated to a Chicago Suites Limited Partner. A Chicago Suites
Limited Partner, however, would be able to offset any passive losses from his
investment in Chicago Suites (or other investments) against any gain recognized
by the Chicago Suites Limited Partner as a result of the Merger. The Operating
Partnership and the General Partner estimate that, as of December 31, 1998, a
Chicago Suites Limited Partner who purchased his Partnership Units at the time
of the original offering, has held those Partnership Units continuously since
that time, and whose Partnership Units have been his only investment in a
passive activity would have a passive activity loss carryforward of
approximately $4,236, on a per Partnership Unit basis.
State and Local Taxes. Chicago Suites Limited Partners holding OP Units will
---------------------
be subject to state and local taxation in a number of jurisdictions in which the
Operating Partnership directly or indirectly holds real property and would be
required to file periodic tax returns in those jurisdictions. In this regard,
immediately following the Merger and the REIT Conversion, the Operating
Partnership expects that it will own properties in approximately 28 states
across the United States and the District of Columbia. Currently, Chicago
Suites owns property in only one state. See "Federal Income Tax Considerations
- - Tax Treatment of Limited Partners Who Hold OP Units Following the Merger -
State and Local Taxes" in the Consent Solicitation.
Assumptions Used in Determining Tax Consequences of the Merger
In preparing the discussion set forth above, the Operating Partnership and the
General Partner made several key assumptions, which are described below. If any
such assumption is not accurate with respect to a particular Chicago Suites
Limited Partner, the tax consequences of the Merger to such Chicago Suites
Limited Partner could be substantially different from those reflected above.
ACCORDINGLY, EACH CHICAGO SUITES LIMITED PARTNER IS STRONGLY URGED TO CONSULT
WITH HIS OWN TAX ADVISOR TO DETERMINE THE IMPACT OF SUCH CHICAGO SUITES LIMITED
PARTNER'S PARTICULAR TAX SITUATION ON THE ANTICIPATED TAX CONSEQUENCES OF
PARTICIPATING IN THE MERGER.
Chicago Suites Supp-24
<PAGE>
First, with respect to a Chicago Suites Limited Partner's basis in his Chicago
Suites Partnership Units prior to the Merger, the Operating Partnership and the
General Partner assumed that a Chicago Suites Limited Partner acquired his
Chicago Suites Partnership Units in the original offering of such Partnership
Units and has held such Partnership Units at all times since the offering (the
"Original Limited Partner's Adjusted Basis"). In general, each Chicago Suites
Limited Partner had an initial tax basis in his Chicago Suites Partnership Units
("Initial Basis") equal to his cash investment in Chicago Suites (plus his
proportionate share of Chicago Suites' nonrecourse liabilities at the time he
acquired his Chicago Suites Partnership Units). A Chicago Suites Limited
Partner's Initial Basis generally has been increased by (a) such Limited
Partner's share of Chicago Suites' taxable income and (b) any increases in his
share of liabilities of Chicago Suites. Generally, such Limited Partner's
Initial Basis has been decreased (but not below zero) by (i) his share of
Chicago Suites cash distributions, (ii) any decreases in his share of
liabilities of Chicago Suites, (iii) his share of losses of Chicago Suites, and
(iv) his share of nondeductible expenditures of Chicago Suites that are not
chargeable to capital. Because "syndication costs" are chargeable to capital
and not deductible for tax purposes, a Chicago Suites Limited Partner's basis in
his Chicago Suites Partnership Units effectively would include his share of the
syndication costs incurred by Chicago Suites at formation.
The General Partner has set forth on Appendix E to the Consent Solicitation
for Chicago Suites (i) the Original Limited Partner's Adjusted Basis as of
December 31, 1997 for each such Chicago Suites Limited Partner, and (ii) an
estimate of such Chicago Suites Limited Partner's Original Limited Partner's
Adjusted Basis as of December 31, 1998 (computed without regard to the Merger
and based upon the assumptions set forth in Appendix C to the Consent
Solicitation). The General Partner also has set forth on Appendix E to the
Consent Solicitation for each Chicago Suites Limited Partner whose adjusted
basis in his Chicago Suites Partnership Interest is the same as the Original
Limited Partner's Adjusted Basis (i) the Chicago Suites liabilities allocable to
such Chicago Suites Limited Partner as of December 31, 1997, and (ii) an
estimate of the Chicago Suites liabilities allocable to such Limited Partner as
of December 31, 1998 (computed without regard to the Merger and based upon the
assumptions set forth in Appendix C to the Consent Solicitation).
The adjusted tax basis of a Chicago Suites Limited Partner who did not acquire
his Chicago Suites Partnership Units in the original offering of such
Partnership Units could vary materially from that of a Chicago Suites Limited
Partner who did so for various reasons. If a Chicago Suites Limited Partner has
an adjusted tax basis in his Chicago Suites Partnership Units that is less than
the Original Limited Partner's Adjusted Tax Basis, the Merger might result in
the receipt by the Chicago Suites Limited Partner of a deemed distribution of
cash in excess of his adjusted tax basis in his Chicago Suites Partnership
Units, which could (although it is unlikely) result in the recognition of income
or gain.
Finally, the Operating Partnership and the General Partner assumed that the
Merger will be treated for federal income tax purposes as the transfer by the
Chicago Suites Limited Partners of their interests in the Hotel Partnerships to
the Operating Partnership in exchange for OP Units. There can be no assurance,
however, that the IRS will not seek to recharacterize each Merger as either (i)
the liquidation of a Partnership followed by the distribution by the Partnership
of its assets to its partners and the subsequent transfers by such partners of
such assets to the Operating Partnership in exchange for OP Units, or (ii) the
transfer by a Hotel Partnership of its assets to the Operating Partnership in
exchange for OP Units (and possibly Notes) and the subsequent distribution of
such OP Units (and possibly Notes) to its partners. If the Merger is
recharacterized in the manner described in (ii) in the preceding sentence, the
tax consequences of the Merger to the Chicago Suites Limited Partners likely
would be materially affected.
EACH CHICAGO SUITES LIMITED PARTNER IS STRONGLY URGED TO CONSULT WITH HIS OWN
TAX ADVISOR TO DETERMINE THE IMPACT OF SUCH CHICAGO SUITES LIMITED PARTNER'S
PARTICULAR TAX SITUATION ON THE ANTICIPATED TAX CONSEQUENCES OF PARTICIPATING IN
THE MERGER. THE TAX CONSEQUENCES OF PARTICIPATING IN THE MERGER TO A PARTICULAR
CHICAGO SUITES LIMITED PARTNER COULD VARY SUBSTANTIALLY FROM THE CONSEQUENCES
DESCRIBED ABOVE.
Chicago Suites Supp-25
<PAGE>
Tax Treatment of Chicago Suites Limited Partners Who Exercise Their Right to
Make the Note Election
A Chicago Suites Limited Partner who exercises his right to make the Note
Election and receive a Note in connection with the Merger will be treated as
having made a taxable disposition of his OP Units. The amount realized in
connection with such disposition will equal the sum of the "issue price" of the
Notes (i.e., the face amount of the Note, currently estimated as $31,467 per
Chicago Suites Partnership Unit) plus the portion of the Chicago Suites
liabilities allocable to the Chicago Suites Limited Partner for federal income
tax purposes immediately prior to the disposition of the OP Units (estimated as
$_______ per Chicago Suites Partnership Unit as of December 31, 1998). To the
extent the amount realized exceeds the Chicago Suites Limited Partner's adjusted
basis in his Chicago Suites Partnership Units, the Chicago Suites Limited
Partner will recognize gain. The Operating Partnership and the General Partner
estimate (assuming the Chicago Suites Limited Partner acquired his Chicago
Suites Partnership Units at the time of the original offering and has held such
Partnership Units at all times since the offering) that the amount of gain that
would be recognized by a Chicago Suites Limited Partner who made the Note
Election would be approximately $____ per Chicago Suites Partnership Unit, as of
December 31, 1998. For a discussion of the federal income tax rates applicable
to the net capital gain from the sale of a capital asset, see "Federal Income
Tax Considerations Tax Treatment of Limited Partners Who Hold OP Units
Following the Mergers Disposition of OP Units by Limited Partners" in the
Consent Solicitation. In this regard, the General Partner estimates that, as of
December 31, 1998, if Chicago Suites sold the Marriott Suites O'Hare Hotel in a
fully taxable transaction for a net amount, after payment of liabilities, equal
to the Note Election Amount of Chicago Suites, the "unrecognized Section 1250
gain" per Chicago Suites Partnership Unit would be $______ and the gain subject
to tax as ordinary income under Code Section 1245 per Chicago Suites Partnership
Unit would be $______. A Chicago Suites Limited Partner who makes the Note
Election would be able to treat any per Partnership Unit passive activity loss
carryforward with respect to the activities of Chicago Suites, to the extent the
sum of such losses exceeds his passive activity income for 1998, as losses that
are not from a passive activity and, therefore, not subject to the passive
activity loss limitation rules. For purposes of determining the gain recognized
by a Limited Partner as a result of making the Note Election, an Original
Limited Partner's Adjusted Basis will reflect such Limited Partner's share of
the syndication costs incurred by his Partnership at formation.
A Chicago Suites Limited Partner who elects to receive a Note may be eligible
to defer at least a portion of that gain under the "installment sale" rules.
Those rules, however, will not permit the Chicago Suites Limited Partner to
defer all of the gain, and, to the extent that the face amount of the Note (and
any other installment obligations received by the taxpayer during the year)
outstanding at the end of the taxable year in which the Merger occur exceeds
$5,000,000, will require that the Chicago Suites Limited Partner who defers gain
pay to the IRS interest on the resulting tax that has been deferred. The
Chicago Suites Limited Partner will not be eligible to defer gain recognized
upon the receipt of the Note to the extent that his share of Chicago Suites
liabilities at the time of the Merger exceeds his adjusted tax basis in his
Chicago Suites Partnership Units immediately prior to the Merger (that is, to
the extent that he has a "negative capital account" for tax purposes). In
addition, the Chicago Suites Limited Partner will not be eligible to defer gain
to the extent that such gain would be taxed as ordinary income under Section
1245 and 1250 of the Code. Lastly, if a Chicago Suites Limited Partner disposes
of his Note, any gain that had been deferred would be recognized in the year of
disposition.
THE SPECIFIC TAX ATTRIBUTES OF A PARTICULAR CHICAGO SUITES LIMITED PARTNER
COULD HAVE A MATERIAL IMPACT ON THE TAX CONSEQUENCES OF THE MERGER, AND THE
SUBSEQUENT OWNERSHIP AND DISPOSITION OF NOTES. THEREFORE, IT IS ESSENTIAL THAT
CHICAGO SUITES LIMITED PARTNERS CONSIDERING ELECTING TO RECEIVE NOTES CONSULT
WITH THEIR OWN TAX ADVISORS WITH REGARD TO THE APPLICATION OF THE FEDERAL INCOME
TAX LAWS TO SUCH CHICAGO SUITES LIMITED PARTNERS' RESPECTIVE PERSONAL TAX
SITUATIONS, AS WELL AS ANY TAX CONSEQUENCES ARISING UNDER THE LAWS OF ANY STATE,
LOCAL, OR FOREIGN TAXING JURISDICTION.
Tax Consequences if Chicago Suites Does Not Participate in the Merger
If Chicago Suites does not participate in the Merger, the Chicago Suites
Limited Partners would not have any tax consequences resulting from the Merger.
The consequences of continued ownership of Chicago Suites Partnership Units will
be the same as would have resulted if the Merger had not been proposed.
Chicago Suites Supp-26
<PAGE>
The above description is not exhaustive of all possible tax considerations
associated with the Merger and the REIT Conversion. This summary does not
discuss foreign tax considerations, nor does it discuss all of the aspects of
federal income taxation or state and local taxation that may be relevant to
Chicago Suites Limited Partners in light of their particular circumstances.
EACH CHICAGO SUITES LIMITED PARTNER IS STRONGLY URGED TO CONSULT WITH HIS OWN
TAX ADVISOR TO DETERMINE THE IMPACT OF SUCH CHICAGO SUITES LIMITED PARTNER'S
PARTICULAR TAX SITUATION ON THE ANTICIPATED TAX CONSEQUENCES OF PARTICIPATING IN
THE MERGER.
Chicago Suites Supp-27
<PAGE>
SELECTED FINANCIAL DATA
The following table presents selected historical financial data derived from
the audited financial statements for the five most recent fiscal years in the
period ended December 31, 1997 and the unaudited financial statements for the
First Quarter 1998 and First Quarter 1997. The following data should be read in
conjunction with the financial statements and the notes thereto, Management's
Discussion and Analysis of Financial Condition and Results of Operations and the
other financial information included elsewhere herein.
<TABLE>
<CAPTION>
First Quarter Fiscal Year
-------------------- ------------------------------------------------------------
1998 1997 1997 1996 1995 1994 1993
-------- --------- ---------- ---------- ---------- --------- ---------
(unaudited) (amounts in thousands, except per Partnership Unit(1))
<S> <C> <C> <C> <C> <C> <C> <C>
Revenues..................................... $ 1,516 $ 1,281 $ 6,568 $ 5,660 $ 4,913 $ 4,509 $ 4,311
Operating profit............................. 591 463 2,673 1,772 788 567 444
Net income (loss)............................ 88 (11) 582 (565) (1,655) (1,920) (2,031)
Distributions:
General partner........................... - - - - - - -
Limited partner........................... - - - - - - -
Per Partnership Unit:(1)
Net income (loss)......................... 257 (33) 1,701 (1,651) (4,839) (5,617) (5,941)
Distributions............................. - - - - - - -
EBITDA(2).................................... 837 673 3,567 3,075 2,515 2,231 2,116
Cash provided by (used in)
operating activities.................... 219 117 1,881 798 636 881 (739)
Cash used in investing activities............ (125) (116) (1,052) (517) (486) (343) (315)
Cash used in financing activities............ (153) (154) (721) (342) - - -
Increase (decrease) in cash and cash
equivalents................................. (59) (153) 108 (61) 150 538 (1,054)
Ratio of earnings to fixed charges(3) 1.16x - 1.26x - - - -
Deficiency of earnings to
fixed charges(3).......................... -- 11 - 565 1,655 1,920 2,031
Total assets at book value................... 25,898 25,665 25,962 25,701 25,975 27,002 27,701
Cash and cash equivalents.................... 782 580 841 733 794 644 106
Total debt................................... 24,850 25,220 25,003 25,361 25,500 25,500 25,500
Total liabilities............................ 28,631 29,079 28,783 29,104 28,813 28,185 26,964
Partner's capital (deficit) (4):
Limited partners......................... (2,724) (3,398) (2,811) (3,387) (2,821) (1,200) 682
General partner(s)....................... (9) (16) (10) (16) (17) 17 55
Book value per Partnership
Unit (unaudited)(1)....................... (8,104) (10,096) (8,361) (10,063) (8,421) (3,582) 2,036
Exchange value per Partnership
Unit (unaudited)(1)....................... 33,471 -- -- -- -- -- --
</TABLE>
_______________
(1) A Partnership Unit represents a $35,000 original investment in Chicago
Suites and excludes MB Investment Properties 1% limited partner interest.
(2) EBITDA consists of the sum of net income, interest expense, and depreciation
and amortization. EBITDA data is presented because such data is used by
certain investors to determine the Partnership's ability to meet debt
service requirements. The Partnership considers EBITDA to be an indicative
measure of the Partnership's operating performance due to the significance
of the Partnership's long-lived assets and because of EBITDA can be used to
measure the Partnership's ability to service debt, fund capital expenditures
and expand its business; however, such information should not be considered
as an alternative to net income, operating profit, cash flows from
operations, or any other operating or liquidity performance measure
prescribed by generally accepted accounting principles. Cash expenditures
for various long-term assets and interest expense have been, and will be,
incurred which are not reflected in the EBITDA presentations.
(3) The ratio of earnings to fixed charges is computed by dividing net income
before interest expense and other fixed charges by total fixed charges,
including interest expense, amortization of debt issuance costs and the
portion of rent expense that is deemed to represent interest. The deficiency
of earnings to fixed charges is largely the result of depreciation of
$193,000, $1,234,000, $1,644,000, $1,541,000 and $1,637,000 for the First
Quarter 1997 and fiscal years 1996, 1995, 1994 and 1993, respectively.
(4) On August 26, 1996, MB Investment Properties, Inc. withdrew as a general
partner of the Partnership and converted its 1% interest to a Limited
Partner interest.
Chicago Suites Supp-28
<PAGE>
Management's Discussion and Analysis of Financial Condition and Results of
Operations
Results of Operations
First Quarter 1998 Compared to First Quarter 1997
Revenues. First Quarter 1998 revenues increased 18%, or $235,000, over First
Quarter 1997 from $1.3 million to $1.5 million. Revenues and operating profit
were impacted primarily by growth in revenue per available room ("REVPAR") of
12% over the comparable period in 1997 from $108 to $121. REVPAR represents the
combination of the average daily room rate charged and the average daily
occupancy achieved and is a commonly used indicator of hotel performance
(although it is not a generally accepted accounting principle measurement of
revenue). REVPAR does not include food and beverage or other ancillary revenues
generated by the property. The increase in REVPAR was the result of a 14%
increase in average room rate to $157, slightly offset by a 1.2 percentage point
decrease in average occupancy to 77%. The significant increase in average room
rate for the First Quarter of 1998 was primarily due to the Hotel limiting the
sale of discounted rooms and maintaining its $189 corporate room rate during the
slower months of the season (January and February). Additionally, on March 1,
the Hotel increased its corporate room rate $10 to $199; this rate represents a
$30 increase over the corporate rate charged in the First Quarter of 1997. The
slight decrease in occupancy was the result of decreased demand in the airport
market overall of approximately 1%.
Operating Costs and Expenses. Operating costs and expenses increased 13% to
$925,000 for the First Quarter 1998 when compared to the First Quarter 1997.
The increase in operating costs and expenses was primarily due to the 27% or
$43,000 increase in incentive management fees and the 21% or $40,000 increase in
depreciation expense. The increase in the incentive management fees was the
result of the improvement in revenues discussed above. The increase in
depreciation expense was due to the completion of the rooms renovation in 1997.
As a percentage of revenues, operating costs and expenses were 61% and 64% of
revenues for First Quarter 1998 and First Quarter 1997, respectively.
Operating Profit. As a result of the changes in revenues and operating
costs and expenses discussed above, operating profit increased $128,000 to
$591,000, or 39% of revenues, for First Quarter 1998 from $463,000, or 36% of
revenues, for First Quarter 1997.
Interest expense. Interest expense increased 5% for the First Quarter 1998
when compared to the First Quarter 1997 due primarily to interest expense
recognized on the $528,000 roof and facade loan with a subsidiary of Marriott
International, Inc. Disbursements under the loan began in the second quarter of
1997 and as of March 27, 1998, $77,000 is still available under the loan
commitment. The loan, which matures in June 2000, bears interest at 9% and will
be repaid from the Partnership's cash flow from operations after defined
priorities. Payments of approximately $19,000 per month will be paid following
the final disbursement of loan proceeds, expected to occur in the second quarter
of 1998.
Net income. For First Quarter 1998, net income increased $99,000 to
$88,000, compared to the net loss of $11,000 for the same period in 1997. This
increase was primarily due to an increase in hotel revenues offset by the
changes in expenses discussed above.
1997 Compared to 1996
Revenues. Revenues increased $908,000 or 16%, to $6.6 million in 1997 from
$5.7 million in 1996 as a result of strong growth in REVPAR of 13%. Hotel sales
increased $1.4 million, or 10%, to $14.4 million in 1997 also reflecting
improvements in REVPAR for the year. The increase in REVPAR was the result of a
14% increase in average suite rates from $129 in 1996 to $147 in 1997, while
average occupancy decreased one percentage point to 83%. The decrease in
occupancy was primarily the result of the Hotel's suites refurbishment which
displaced approximately 1,000 roomnights during the First Quarter 1997.
Chicago Suites Supp-29
<PAGE>
Operating Costs and Expenses. Operating costs and expenses remained stable at
$3.9 million in 1997 compared to 1996. As a percentage of revenues, operating
costs and expenses decreased to 59% of revenues in 1997 from 69% in 1996. The
decrease in operating costs and expenses was primarily due to the $399,000
decrease in depreciation expense due to the majority of the Hotel's furniture
and equipment becoming fully depreciated in 1996.
Operating Profit. As a result of the changes in revenues and operating costs
and expenses discussed above, operating profit increased $901,000 to $2.7
million, or 41% of total revenues, in 1997 from $1.8 million, or 31% of revenues
in 1996.
Interest Expense. Interest expense decreased to $2.2 million in 1997 from
$2.4 million in 1996 due to regular and additional principal amortization on the
debt totaling $886,000. Additionally, the weighted average interest rate on the
mortgage debt in 1997 decreased to 7.69% from 9.31% in 1996 due to the 1996
refinancing. See "Refinancing."
Net Income. Net income increased $1.1 million to $582,000 in 1997 over 1996
due to the items discussed above.
1996 Compared to 1995
Revenues. Revenues increased $747,000, or 15%, to $5.7 million in 1996 from
$4.9 million in 1995 as a result of strong growth in REVPAR. REVPAR increased
10% to $108 in 1996. Hotel sales increased $1.4 million, or 12%, to $13 million
in 1996 also reflecting improvements in REVPAR for the year. The increase in
REVPAR was the result of a 7% increase in average suite rate from $121 in 1995
to $129 in 1996, combined with a three percentage point increase in average
occupancy to 84%.
Operating Costs and Expenses. Operating costs and expenses decreased $237,000
to $3.9 million in 1996 from $4.1 million in 1995. As a percentage of revenues,
operating costs and expenses represented 69% of revenues in 1996 and 84% in
1995. The decrease in operating costs and expenses was primarily due to a
$410,000 decrease in depreciation expense due to the majority of the Hotel's
furniture and equipment becoming fully depreciated in 1995.
Operating Profit. As a result of the changes in revenues and operating costs
and expenses discussed above, operating profit increased $984,000 to $1.8
million, or 31% of total revenues, in 1996 from $788,000, or 16% of revenues in
1995.
Interest Expense. Interest expense was $2.4 million in 1996 and $2.5 million
in 1995.
Net Loss. Net loss decreased $1.1 million to a net loss of $565,000 in 1996
over the net loss of $1.7 million in 1995 due to the items discussed above.
Capital Resources and Liquidity
General
The General Partner believes that cash from operations will provide adequate
funds for the operational needs of the Partnership for the foreseeable future.
Principal Sources and Uses of Cash
The Partnership's principal source of cash is from operations. Its principal
uses of cash are to fund the property improvement fund of the Hotel and to pay
required principal amortization of the mortgage debt. Additionally, the
Partnership is required to use its excess annual cash flow to pay additional
principal on the mortgage debt.
Chicago Suites Supp-30
<PAGE>
Total cash provided by operating activities for the First Quarter 1998 and
First Quarter 1997, was $219,000 and $117,000, respectively. The increase was
primarily due to an increase in hotel revenues when compared to 1997. See
"Results of Operations" above.
Cash provided by operating activities was $1.9 million in 1997, $798,000 in
1996 and $636,000 in 1995. The $1.1 million increase in cash provided by
operating activities between 1997 and 1996 was due primarily to the $908,000
increase in revenues, offset by $606,000 in incentive management fee paid, and
$1 million in reduced interest payments, due to the debt refinancing discussed
below. The $162,000 increase in cash provided by operating activities between
1996 and 1995 was due primarily to the $747,000 increase in revenues, offset by
$465,000 in increased interest payments. Interest payments increased primarily
as a result of the 1996 debt refinancing which resulted in one additional debt
service payment in 1996 compared to 1995.
For the First Quarter 1998 and First Quarter 1997, cash used in investing
activities was $125,000 and $116,000, respectively, and consisted of
contributions and expenditures from the property improvement fund.
Cash used in investing activities was $1.1 million, $517,000 and $486,000 in
1997, 1996 and 1995, respectively. The Partnership's cash investing activities
consist primarily of contributions to the property improvement fund and capital
expenditures for improvements to the Hotel. In 1997, the Hotel completed a roof
and facade restoration project, with funds provided by the Partnership, for
which approximately $528,000 was spent.
For the First Quarter 1998 and First Quarter 1997, cash used in financing
activities was $153,000 and $154,000, respectively, and consisted primarily of
repayments on the mortgage debt.
Cash used in financing activities was $721,000 in 1997 and $342,000 in 1996.
In 1997, the Partnership's cash financing activities consisted of repayment of
mortgage debt of $886,000, $528,000 in proceeds from a loan from a subsidiary of
Marriott International, and $363,000 in payments of financing costs related to
the 1996 refinancing. The Partnership made debt principal payments of $139,000
and paid financing costs of $203,000 in 1996. Financing activity in 1995
consisted entirely of the $164,000 advance from, and subsequent repayment into
the property improvement fund, so that the Partnership could make its First
Quarter debt service payment in 1995. Prior to the debt refinancing in 1996, no
repayments of mortgage principal were required prior to maturity. See
"Refinancing."
Refinancing
On September 24, 1996, the Partnership successfully refinanced its $25.5
million mortgage debt. Proceeds from the new loan were used to repay the
existing mortgage debt and pay refinancing costs. The refinanced debt bears
interest at a floating rate of 200 basis points over the three-month LIBOR rate,
with an option to fix the interest rate during the first two years of the loan
term, and requires quarterly payments of principal and interest based upon a 20-
year amortization schedule for a five-year term expiring on the maturity date of
June 12, 2001. The weighted average interest rate on the Partnership's debt in
1997, 1996 and 1995 was 7.69%, 9.31% and 9.575%, respectively.
Property Improvement Fund
The Partnership is required to maintain the Hotel in good condition. Under
the Management Agreement, the Partnership is required to make annual
contributions to the property improvement fund which provides funding for
capital expenditures and replacement of furniture, fixtures and equipment.
Contributions to the fund equaled 4% of gross Hotel sales in 1997, 1996 and
1995. The contribution amount will remain at 4% of gross Hotel sales in 1998
and 1999. In 2000 and thereafter, the Partnership is required to contribute 5%
of gross Hotel sales to the fund. In 1997, 1996 and 1995, the Partnership
Chicago Suites Supp-31
<PAGE>
contributed $577,000, $523,000 and $468,000, respectively, to the property
improvement fund. The Partnership contributed $133,000 and $119,000 for First
Quarter 1998 and 1997, respectively, to the property improvement fund.
The General Partner expects that contributions to the property improvement
fund will provide a sufficient reserve for the future capital repair and
replacement needs of the Hotel's property and equipment.
Management Fees
For 1997, the Partnership paid a base management fee equal to 3% of gross
Hotel sales to the Manager. In addition, the Partnership paid an incentive
management fee of $606,000 payable from cash flow remaining after payment of
ground rent, debt service and an owner's priority return of $1,020,000. Payment
of the incentive management fee is subordinated to the required principal and
interest payments on the Amended and Restated Mortgage Debt, ground rent and an
8% annual priority return to the Partners. Of the remaining amount, the
Partnership pays 50% of the current year incentive management fee to the extent
of cash available. Fifty percent of any remaining cash is then applied to 50%
of the current year incentive management fee and unpaid incentive management
fees from prior years. Unpaid incentive management fees are reflected as
deferred incentive management fees due to Marriott International, Inc. in the
Partnership's balance sheet. The Manager waived its right to any unpaid
deferred incentive management fees due to Marriott International which were
earned during the period from June 12, 1989 to June 14, 1991. During 1997 and
First Quarter 1998, the Manager received $606,000 and $138,000 of current
incentive management fees. The remaining $258,000 and $62,000, respectively of
incentive management fee earned was accrued as a deferred incentive management
fee payable to Marriott International. In 1996, 1995 and First Quarter 1997,
incentive management fees earned and accrued as deferred incentive management
fees totaled $734,000, $591,000 and $157,000 , respectively. No incentive
management fees were paid prior to 1997. As of December 31, 1997 and 1996 and
March 27, 1998, the balance of unpaid deferred incentive management fees was
$3.6 million, $3.3 million and $3.6 million, respectively.
Inflation
For the three fiscal years ended December 31, 1997, the rate of inflation has
been relatively low and, accordingly, has not had a significant impact on the
Partnership's revenues and net income. The Manager is generally able to pass
through increased costs to customers through higher room rates. In 1997, the
increase in average room rates at the Hotel exceeded the general level of
inflation. The amount of the Partnership's interest expense under floating rate
debt for a particular year will be affected by changes in short-term interest
rates.
Seasonality
Demand, and thus occupancy and room rates, is affected by normally
recurring seasonal patterns. Demand tends to be higher during the months of
March through November than during the remainder of the year. This seasonality
tends to affect the results of operations, increasing hotel revenues during
these months. In addition, this seasonality may also increase the liquidity of
the Partnership during these months.
Chicago Suites Supp-32
<PAGE>
FINANCIAL STATEMENTS
Chicago Suites Supp-33
<PAGE>
Report of Independent Public Accountants
TO THE PARTNERS OF MUTUAL BENEFIT CHICAGO MARRIOTT SUITE HOTEL PARTNERS, L.P.:
We have audited the accompanying balance sheet of Mutual Benefit Chicago
Marriott Suite Hotel Partners, L.P. (a Rhode Island limited partnership) as of
December 31, 1997 and 1996 and the related statements of operations, changes in
partners' capital (deficit) and cash flows for the three years in the period
ended December 31, 1997. These financial statements are the responsibility of
the General Partner'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 an 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, the financial statements referred to above present fairly, in
all material respects, the financial position of Mutual Benefit Chicago Marriott
Suite Hotel Partners, L.P. as of December 31, 1997 and 1996 and the results of
its operations and its cash flows for the three years in the period ended
December 31, 1997, in conformity with generally accepted accounting principles.
ARTHUR ANDERSEN LLP
Washington, D.C.
February 23, 1998
Chicago Suites Supp-34
<PAGE>
Mutual Benefit Chicago Marriott Suite Hotel Partners, L.P.
Balance Sheets
December 31, 1997 and 1996
(in thousands)
<TABLE>
<CAPTION>
1997 1996
--------- ---------
<S> <C> <C>
ASSETS
Property and equipment, net.............................................. $ 23,784 $ 23,640
Property improvement fund................................................ 402 329
Deferred financing costs, net............................................ 428 512
Due from Marriott International, Inc..................................... 507 487
Cash and cash equivalents................................................ 841 733
-------- --------
$ 25,962 $ 25,701
======== ========
LIABILITIES AND PARTNERS' DEFICIT
LIABILITIES
Mortgage debt............................................................ $ 24,475 $ 25,361
Deferred incentive management fees due to Marriott International, Inc.... 3,587 3,329
Note payable to Marriott International, Inc.............................. 528 --
Accounts payable and accrued expenses.................................... 193 414
-------- --------
Total Liabilities..................................................... 28,783 29,104
-------- --------
PARTNERS' DEFICIT
General Partner
Capital contribution.................................................... 120 120
Capital distributions................................................... (23) (23)
Cumulative net losses................................................... (107) (113)
-------- --------
(10) (16)
-------- --------
Limited Partners
Capital contribution, net of offering costs of $1,512................... 10,249 10,249
Capital distributions................................................... (2,819) (2,819)
Cumulative net losses................................................... (10,241) (10,817)
-------- --------
(2,811) (3,387)
-------- --------
Total Partners' Deficit............................................... (2,821) (3,403)
-------- --------
$ 25,962 $ 25,701
======== ========
</TABLE>
See Notes to financial statements.
Chicago Suites Supp-35
<PAGE>
Mutual Benefit Chicago Marriott Suite Hotel Partners, L.P.
Statements of Operations
For the Years Ended December 31, 1997, 1996 and 1995
(in thousands, except per Unit amounts)
<TABLE>
<CAPTION>
1997 1996 1995
-------- -------- --------
<S> <C> <C> <C>
REVENUES
Hotel revenues (Note 3)........................................... $ 6,568 $ 5,660 $ 4,913
------- ------- -------
OPERATING COSTS AND EXPENSES
Real estate taxes and other....................................... 1,295 1,139 1,172
Incentive management fee.......................................... 864 734 591
Depreciation...................................................... 835 1,234 1,644
Base management fee............................................... 433 392 351
Ground rent....................................................... 341 308 300
Administrative and other.......................................... 127 81 67
------- ------- -------
3,895 3,888 4,125
------- ------- -------
OPERATING PROFIT................................................... 2,673 1,772 788
Interest expense.................................................. (2,150) (2,406) (2,526)
Interest income................................................... 59 69 83
------- ------- -------
NET INCOME (LOSS).................................................. $ 582 $ (565) $(1,655)
======= ======= =======
ALLOCATION OF NET INCOME (LOSS)
General Partner................................................... $ 6 $ (6) $ (17)
MBIP Interest..................................................... 6 (6) (17)
Limited Partner Unit Holders...................................... 570 (553) (1,621)
------- ------- -------
$ 582 $ (565) $(1,655)
======= ======= =======
NET INCOME (LOSS) PER LIMITED PARTNER UNIT
(335 Units)....................................................... $ 1,701 $(1,651) $(4,839)
======= ======= =======
</TABLE>
See Notes to financial statements.
Chicago Suites Supp-36
<PAGE>
Mutual Benefit Chicago Marriott Suite Hotel Partners, L.P.
Statements of Changes in Partners' Capital (Deficit)
For the Years Ended December 31, 1997, 1996 and 1995
(in thousands)
<TABLE>
<CAPTION>
General Limited
Partner Partners Total
-------- --------- --------
<S> <C> <C> <C>
Balance, December 31, 1994............................ $ 17 $(1,200) $(1,183)
Net loss............................................ (34) (1,621) (1,655)
---- ------- -------
Balance, December 31, 1995............................ (17) (2,821) (2,838)
Transfer of MBIP 1% GP interest to 1% LP interest... 11 (11) --
Net income.......................................... (10) (555) (565)
---- ------- -------
Balance, December 31, 1996............................ (16) (3,387) (3,403)
Net income.......................................... 6 576 582
---- ------- -------
Balance, December 31, 1997............................ $(10) $(2,811) $(2,821)
==== ======= =======
</TABLE>
See Notes to financial statements.
Chicago Suites Supp-37
<PAGE>
Mutual Benefit Chicago Marriott Suite Hotel Partners, L.P.
Statements of Cash Flows
For the Years Ended December 31, 1997, 1996 and 1995
(in thousands)
<TABLE>
<CAPTION>
1997 1996 1995
-------- -------- --------
<S> <C> <C> <C>
OPERATING ACTIVITIES
Net income (loss)............................................ $ 582 $ (565) $(1,655)
Noncash items:
Depreciation............................................... 835 1,234 1,644
Deferred incentive management fees......................... 258 734 591
Amortization of deferred financing costs as interest....... 124 33 46
Deferred interest on mortgage loan......................... 63 -- --
Changes in operating accounts:
Accounts payable and accrued expenses...................... 39 (607) 30
Due from Marriott International, Inc....................... (20) (31) (20)
------- ------- -------
Cash provided by operating activities..................... 1,881 798 636
------- ------- -------
INVESTING ACTIVITIES
Additions to property and equipment, net..................... (979) (1,013) (492)
Change in property improvement fund.......................... (73) 496 6
------- ------- -------
Cash used in investing activities......................... (1,052) (517) (486)
------- ------- -------
FINANCING ACTIVITIES
Repayment of mortgage debt................................... (886) (139) --
Proceeds from note payable to Marriott International, Inc.... 528 -- --
Payment of financing costs................................... (363) (203) --
------- ------- -------
Cash used in financing activities......................... (721) (342) --
------- ------- -------
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS............. 108 (61) 150
CASH AND CASH EQUIVALENTS at beginning of year............... 733 794 644
------- ------- -------
CASH AND CASH EQUIVALENTS at end of year..................... $ 841 $ 733 $ 794
======= ======= =======
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash paid for mortgage interest.............................. $ 1,947 $ 2,947 $ 2,482
======= ======= =======
</TABLE>
See Notes to financial statements.
Chicago Suites Supp-38
<PAGE>
Mutual Benefit Chicago Marriott Suite Hotel Partners, L.P.
Notes to Financial Statements
For the Years Ended December 31, 1997, 1996 and 1995
NOTE 1. THE PARTNERSHIP
Description of the Partnership
Mutual Benefit Chicago Marriott Suite Hotel Partners, L.P. (the "Partnership"),
a Rhode Island limited partnership, was formed in 1988 to acquire and own the
256 suite Marriott Suites O'Hare Hotel (the "Hotel") located near the O'Hare
International Airport in Rosemont, Illinois. The Hotel, which opened on
November 28, 1988, is managed by Marriott International, Inc. ("Marriott
International") as part of its full service hotel system.
In 1989, 335 limited partnership interests (the "Units"), representing a 98%
interest in the Partnership, were sold pursuant to a private placement offering
at $35,000 per Unit. Each general partner contributed $119,500 in cash for
their respective 1% general partner interests. Under the purchase and sale
agreement, Host Marriott Corporation ("Host Marriott") agreed to reduce the
purchase price of the Hotel up to an aggregate total of $3,000,000 to the extent
that the Hotel did not provide cash flow, after payment of ground rent and debt
service, equivalent to $1,000,000 for each of the three years ended June 19,
1992 (the "Cash Flow Guaranty"). A total of $2,476,000 was paid to the
Partnership under the Cash Flow Guaranty. The price adjustments were allocated
as a reduction of the carrying value of the Partnership's property and equipment
in the accompanying balance sheet.
On August 23, 1996, MB Investment Properties, Inc. ("MBIP") withdrew as a
general partner of the Partnership and converted its 1% interest to a limited
partner. At December 31, 1997 the sole general partner is MOHS Corporation
("MOHS"), a Delaware corporation and subsidiary of Host Marriott.
Partnership Allocations and Distributions
Partnership allocations and distributions are generally made as follows:
(a) Cash available for distribution is distributed (i) first, 100% to the
limited partners (excluding MBIP) until they have received an annual 8%
cumulative preferred return on their invested capital; (ii) to Host Marriott
to repay principal and interest on advances made under the Debt Service
Guarantee, as defined in Note 5, if any; and (iii) 100% to the general
partner and MBIP until they have received an annual 8% cumulative preferred
return on their invested capital. The balance, if any, shall be distributed
(i) 1% to the general partner, 1% to MBIP and 98% to the remaining limited
partners until the general partner and the limited partners (collectively,
the "Partners") have received cumulative distributions of net proceeds from
capital transactions and/or refinancing equal to $5,982,000; (ii) next, 10%
to MOHS, 5% to MBIP and 85% to the remaining limited partners until the
Partners have received cumulative distributions of net proceeds from capital
transactions and/or refinancing equal to $11,964,000; and (iii) thereafter,
20% to MOHS, 10% to MBIP and 70% to the remaining limited partners.
(b) Net proceeds from capital transactions and refinancing are generally
distributed in the following order of priority: (i) first, 1% to the
general partner, 1% to MBIP and 98% to the remaining limited partners until
the Partners have received their initial capital contribution to the extent
not previously distributed; (ii) then, to the limited partners (excluding
MBIP) in an amount equal to their 8% cumulative preferred return on their
invested capital; (iii) then, to the general partner and MBIP in an amount
equal to their 8% cumulative preferred return on their invested capital;
(iv) then, to Host Marriott to repay any advances made under the Debt
Service Guarantee, together with accrued interest thereon; (v) then, to
Marriott International to pay any unpaid deferred incentive management fee;
and (vi) the balance, if any, 20% to MOHS, 10% to MBIP and 70% to the
remaining limited partners.
Chicago Suites Supp-39
<PAGE>
(c) For financial reporting purposes, profits and losses are allocated among the
Partners based on their ownership interests.
NOTE 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Use of 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 amount of revenues and expenses during the reporting period. Actual
results could differ from those estimates.
Revenues and Expenses
Revenues represent house profit from the Hotel because the Partnership has
delegated substantially all of the operating decisions related to the generation
of house profit of the Hotel to Marriott International. House profit reflects
the net revenues flowing to the Partnership as property owner and represents
hotel operating results less property-level expenses, excluding depreciation and
amortization, base management fee, real estate taxes, ground rent, insurance and
certain other costs, which are disclosed separately in the statement of
operations (see Note 3).
On November 20, 1997 the Emerging Issues Task Force ("EITF") of the Financial
Accounting Standards Board reached a consensus on EITF 97-2, "Application of
FASB Statement No. 94 and APB Opinion No. 16 to Physician Practice Management
Entities and Certain Other Entities with Contractual Management Arrangements."
EITF 97-2 addresses the circumstances in which a management entity may include
the revenues and expenses of a managed entity in its financial statements.
The Partnership is assessing the impact of EITF 97-2 on its policy of excluding
the property level revenues and operating expenses of its hotel from its
statements of operations.
Property and Equipment
Property and equipment is recorded at cost. Depreciation is computed using the
straight-line method over the useful lives of the assets as follows:
Leasehold improvements 40 years
Furniture and equipment 7 years
All property and equipment is pledged to secure the Amended and Restated
Mortgage Debt defined in Note 5.
The Partnership assesses impairment of the Hotel based on whether estimated
undiscounted future cash flows from the Hotel will be less than its net book
value. If the Hotel is impaired, its basis is adjusted to fair market value.
Deferred Financing Costs
Deferred financing costs represent the costs incurred in connection with
obtaining debt financing and are amortized over the term thereof. The original
mortgage debt (see Note 5) matured on June 12, 1996. Deferred financing costs
associated with that debt, totaling $320,000, were fully amortized at December
31, 1996 and were subsequently written off in 1997. Costs associated with the
mortgage debt refinancing (see Note 5) totaled $566,000 and will be amortized
over the term of the loan. Accumulated amortization of deferred financing costs
at December 31, 1997 and 1996 totaled $138,000 and $334,000, respectively.
Chicago Suites Supp-40
<PAGE>
Cash and Cash Equivalents
The Partnership considers all highly liquid investments with a maturity of three
months or less at date of purchase to be cash equivalents.
Income Taxes
Provision for Federal and state income taxes has not been made in the
accompanying financial statements because the Partnership does not pay income
taxes but rather allocates profits and losses to the Partners in accordance with
the partnership agreement. Significant differences exist between the net income
for financial reporting purposes and the net income as reported on the
Partnership's tax return. These differences are due primarily to the use, for
income tax purposes, of accelerated depreciation methods and shorter depreciable
lives of the assets. As a result of these differences, the excess of the tax
basis in the net Partnership liabilities over the net Partnership liabilities
reported in the accompanying financial statements was $896,000 and $969,000,
respectively as of December 31, 1997 and 1996.
Statement of Financial Accounting Standards
In 1996, the Partnership adopted Statement of Financial Accounting Standards
("SFAS") No. 121 "Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to Be Disposed Of." Adoption of SFAS No. 121 did not have an
effect on its financial statements.
Reclassifications
Certain reclassifications were made to prior year financial statements to
conform to the 1997 presentation.
Chicago Suites Supp-41
<PAGE>
NOTE 3. REVENUES
Hotel revenues consist of Hotel operating results for the three years ended
December 31 (in thousands) are:
<TABLE>
<CAPTION>
1997 1996 1995
------- ------- ------
<S> <C> <C> <C>
HOTEL SALES
Rooms............................................................................. $ 11,336 $ 10,224 $ 9,100
Food and beverage................................................................. 2,588 2,337 2,092
Other............................................................................. 505 509 497
-------- -------- -------
14,429 13,070 11,689
-------- -------- -------
HOTEL EXPENSES
Departmental direct costs
Rooms.......................................................................... 2,541 2,509 2,311
Food and beverage.............................................................. 2,088 1,896 1,722
Other hotel operating expenses.................................................... 3,232 3,005 2,743
-------- -------- -------
7,861 7,410 6,776
-------- -------- -------
HOTEL REVENUES...................................................................... $ 6,568 $ 5,660 $ 4,913
======== ======== =======
</TABLE>
NOTE 4. PROPERTY AND EQUIPMENT
Property and equipment consist of the following as of December 31 (in
thousands):
<TABLE>
<CAPTION>
1997 1996
-------- --------
<S> <C> <C>
Leasehold improvements............................................................ $ 26,453 $ 26,015
Furniture and equipment........................................................... 8,768 8,227
-------- --------
35,221 34,242
Less accumulated depreciation..................................................... (11,437) (10,602)
-------- --------
$ 23,784 $ 23,640
======== ========
</TABLE>
NOTE 5. DEBT
Mortgage Debt
The Partnership entered into a loan agreement on June 12, 1989 with a bank to
provide non-recourse mortgage debt of $25.5 million (the "Mortgage Debt") to
finance the acquisition of the Hotel. The Mortgage Debt initially bore interest
at a floating interest rate. On August 11, 1989 the Partnership exercised its
option to fix the interest rate at 9.575% until maturity on June 12, 1996.
Interest on the Mortgage Debt was payable on the last day of March, June,
September and December of each year. No amortization of principal was required
prior to maturity or the sale or refinancing of the Hotel.
The Mortgage Debt matured on June 12, 1996 (the "Maturity Date"). On September
24, 1996 (the "Closing Date"), the Partnership completed a refinancing of the
Mortgage Debt (the "Amended and Restated Mortgage Debt"). The lender granted
the Partnership a forbearance of the loan for the period between the Maturity
Date and the Closing Date. During the forbearance period from the Maturity Date
until August 15, 1996 the Partnership continued to pay interest at the contract
rate of 9.575%. Thereafter, until the Closing Date, the Partnership paid
interest at a rate of 10.575%. The Amended and Restated Mortgage Debt matures
on June 12, 2001 and carries a floating interest rate of 200 basis points over
the three-month London Interbank Offered Rate ("LIBOR"), with an option to fix
the interest rate during the first two years of the loan term. The weighted
average interest rate from the Closing Date through December 31, 1996, was
7.62%. The weighted average interest rate for 1997 was 7.69%. The restructured
loan requires minimum quarterly amortization payments based on a 20-year
schedule. Additionally, all excess cash flow after payment of ground rent,
required principal and interest payments, incentive management fee, partnership
administrative expenses and refinancing costs is to be applied toward principal
amortization. On June 24, 1997 the Partnership paid $305,000 from excess
Chicago Suites Supp-42
<PAGE>
cash flow generated during 1996 toward additional principal amortization. The
Partnership expects to pay $766,000 in June 1998 from excess cash flow generated
during 1997.
As of the Closing Date, the lender deferred a $128,000 restructuring fee and
$302,000 of expenses incurred by the lender in connection with restructuring the
Mortgage Debt. On December 24, 1996, the Partnership paid $107,000 of lender's
expenses. A total of $323,000 was accrued as deferred financing costs which is
included in accounts payable and accrued expenses on the balance sheet for the
year ended December 31, 1996. This accrued liability was paid in April 1997.
Scheduled debt maturities under the Amended and Restated Mortgage Debt are as
follows (in thousands):
<TABLE>
<S> <C>
1998........................... $ 627
1999........................... 676
2000........................... 728
2001........................... 22,444
-------
$24,475
=======
</TABLE>
The Amended and Restated Mortgage Debt is secured by the Hotel, an assignment of
the Partnership's interest under the Ground Lease (as defined in Note 6), an
assignment of the Hotel management agreement, and by the grant of a security
interest in the Partnership's cash accounts and the personal property and
fixtures of the Hotel.
Debt Guarantees
No debt service guarantee was provided on the Amended and Restated Mortgage
Debt. However, MOHS reaffirmed its guarantee to the lender, that in the event
of a foreclosure, proceeds payable to the lender would be at least $5,000,000.
Roof and Facade Loan
Marriott International Capital Corporation ("MICC"), a subsidiary of Marriott
International, provided $605,000 in available loan proceeds for the completion
of the facade and roof restoration project at the Hotel. As of December 31,
1997, $528,000 has been disbursed under the loan. The loan matures in June
2000, bears interest at 9% and will be repaid from the Partnership's cash flow
from operations after defined priorities. Payments of approximately $19,000 in
principal and interest per month will be paid following the final disbursement
of loan proceeds, expected to occur in the first quarter of 1998.
Simultaneous with the execution of the loan agreement between the Partnership
and MICC, Host Marriott purchased a 50% participation interest in the loan from
MICC. Pursuant to the participation agreement, Host Marriott reimbursed MICC
for 50% of the loan advances made to-date and will continue to reimburse MICC
for 50% of any additional advances. Upon the final loan disbursement, Host
Marriott will be reimbursed by MICC for 50% of the loan repayments as they are
made by the Partnership to MICC.
NOTE 6. GROUND LEASE
In 1989, the leasehold interest in the land upon which the Hotel is located was
assigned to the Partnership by Host Marriott. The lease was created on June 16,
1986 pursuant to a ground lease (the "Ground Lease") from the landlord to Host
Marriott. The initial term of the Ground Lease expires in 2014. The Ground
Lease may be renewed at the option of the Partnership for five successive terms
of ten years each. Upon expiration or termination of the Ground Lease, title to
the Hotel and all improvements revert to the lessor. Rent expense under the
Ground Lease is calculated at an amount equal to the greater of a minimum rental
of $300,000 per year or a percentage rental equal to 3% of annual gross room
sales. Ground rent expense for 1997, 1996 and 1995 was $341,000, $308,000 and
$300,000, respectively.
Chicago Suites Supp-43
<PAGE>
NOTE 7. MANAGEMENT AGREEMENT
The Partnership entered into a hotel management agreement (the "Management
Agreement") with Marriott International (the "Manager") to manage the Hotel as
part of Marriott International's full service hotel system. The Management
Agreement has an initial term expiring in 2008. The Manager may renew the
Management Agreement, at its option, for five successive ten-year terms. The
Partnership may terminate the Management Agreement if specified minimum
operating results are not achieved. However, the Manager may prevent
termination by paying the Partnership the amount by which the minimum operating
results were not achieved.
The Management Agreement provides for annual payments of (i) the base management
fee equal to 3% of gross sales from the Hotel, and (ii) the incentive management
fee equal to 20% of net house profit, as defined. Payment of the incentive
management fee is subordinated to the prior payment of required principal and
interest payments, ground rent and an 8% annual priority return to the Partners.
Unpaid incentive management fees are reflected as deferred incentive management
fees payable to Marriott International in the accompanying balance sheet. The
incentive management fee earned in 1997 was $864,000. Of this amount $606,000
was paid to the Manager and $258,000 was accrued as an unpaid deferred incentive
management fees. Unpaid incentive management fees earned in 1996 and 1995 were
$734,000 and $591,000, respectively. The balance of deferred incentive
management fees at December 31, 1997 and 1996 was $3.6 million and $3.3 million,
respectively.
Pursuant to the terms of the Management Agreement, the Partnership is required
to provide the Manager with working capital and supplies to meet the operating
needs of the Hotel. The Manager converts cash advanced by the Partnership into
other forms of working capital consisting primarily of operating cash,
inventories, and trade receivables and payables which are maintained and
controlled by the Manager. Upon termination of the Management Agreement, the
working capital and supplies will be returned to the Partnership. The
individual components of working capital and supplies controlled by the Manager
are not reflected in the Partnership's balance sheet. As of December 31, 1997
and 1996, $357,000 has been advanced to the Manager for working capital and
supplies and is reflected in Due from Marriott International, Inc. on the
accompanying balance sheet.
Pursuant to the terms of the Management Agreement, the Manager is required to
furnish the Hotel with certain services ("Chain Services") which are generally
provided on a central or regional basis to all hotels in Marriott
International's full service hotel system. Chain Services include central
training, advertising and promotion, a national reservation system and such
additional services, as needed, which may be more efficiently performed on a
centralized basis. Costs and expenses incurred in providing such services are
allocated among all domestic full service hotels managed, owned or leased by
Marriott International or its subsidiaries. In addition, the Hotel also
participates in Marriott International's Marriott's Rewards Program ("MRP"),
which was formerly called Marriott International's Honored Guest Awards Program.
The cost of this program is charged to all hotels in Marriott International's
hotel system based upon the MRP sales at each hotel. The total amount of Chain
Services and MRP costs charged to the Partnership was $783,000, $757,000 and
$649,000 for 1997, 1996 and 1995, respectively.
The Management Agreement provides for the establishment of a property
improvement fund for the Hotel which provides for the replacement of furniture,
fixtures and equipment. Contributions to the property improvement fund are
based on a percentage of gross Hotel sales equal to 4% for 1995 through 1999 and
5% thereafter. Contributions to the property improvement fund for 1997, 1996
and 1995 were $577,000, $523,000 and $468,000, respectively.
Chicago Suites Supp-44
<PAGE>
NOTE 8. ESTIMATED FAIR VALUE OF FINANCIAL INSTRUMENTS
The estimated fair values of financial instruments are shown below. The
estimated fair values of financial instruments not included in this table are
estimated to be equal to their carrying amounts (in thousands):
<TABLE>
<CAPTION>
As of December 31, 1997 As of December 31, 1996
----------------------- -----------------------
Estimated Estimated
Carrying Fair Carrying Fair
Amount Value Amount Value
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Mortgage Debt... $24,475 $24,700 $25,361 $25,200
</TABLE>
The estimated fair value of the Mortgage Debt is based on the expected future
debt service payments discounted at estimated market rates.
Chicago Suites Supp-45
<PAGE>
Mutual Benefit Chicago Marriott Suite Hotel Partners, L.P.
Condensed Statements of Operations
(Unaudited)
(in thousands, except per Unit amounts)
<TABLE>
<CAPTION>
Twelve Weeks Ended
-----------------------
March 27, March 28,
1998 1997
---------- ----------
<S> <C> <C>
HOTEL REVENUES (Note 2)................................................... $1,516 $1,281
------ ------
OPERATING COSTS AND EXPENSES
Real estate taxes and other.............................................. 296 298
Depreciation............................................................. 233 193
Incentive management fee................................................. 200 157
Base management fee...................................................... 100 90
Ground rent and administrative........................................... 96 80
------ ------
925 818
------ ------
OPERATING PROFIT.......................................................... 591 463
Interest expense......................................................... (516) (491)
Interest income.......................................................... 13 17
------ ------
NET INCOME (LOSS)......................................................... $ 88 $ (11)
====== ======
ALLOCATION OF NET INCOME (LOSS)
General Partner.......................................................... $ 1 $ --
MBIP Limited Partner Interest............................................ 1 --
Limited Partner Unit Holders............................................. 86 (11)
------ ------
$ 88 $ (11)
====== ======
NET INCOME (LOSS) PER LIMITED PARTNER UNIT (335 Units)... $ 257 $ (33)
====== ======
</TABLE>
See Notes to Condensed Financial Statements.
Chicago Suites Supp-46
<PAGE>
Mutual Benefit Chicago Marriott Suite Hotel Partners, L.P.
Condensed Balance Sheets
(in thousands)
<TABLE>
<CAPTION>
March 27, December 31,
1998 1997
---- ----
(Unaudited)
<S> <C> <C>
ASSETS
Property and equipment, net.............................................. $23,870 $23,784
Due from Marriott International, Inc..................................... 638 507
Other assets............................................................. 608 830
Cash and cash equivalents................................................ 782 841
------- -------
$25,898 $25,962
======= =======
LIABILITIES AND PARTNERS' DEFICIT
Mortgage debt............................................................ $24,322 $24,475
Deferred incentive management fees due to Marriott International, Inc.... 3,649 3,587
Accounts payable and accrued expenses.................................... 132 193
Note payable to Marriott International, Inc.............................. 528 528
------- -------
Total Liabilities....................................................... 28,631 28,783
------- -------
PARTNERS' DEFICIT
General Partner.......................................................... (9) (10)
MBIP Limited Partner Interest............................................ (9) (10)
Limited Partner Unit Holders............................................. (2,715) (2,801)
------- -------
Total Partners' Deficit................................................. (2,733) (2,821)
------- -------
$25,898 $25,962
======= =======
</TABLE>
See Notes to Condensed Financial Statements.
Chicago Suites Supp-47
<PAGE>
Mutual Benefit Chicago Marriott Suite Hotel Partners, L.P.
Condensed Statements of Cash Flows
(Unaudited)
(in thousands)
<TABLE>
<CAPTION>
Twelve Weeks Ended
-----------------------
March 27, March 28,
1998 1997
---------- ----------
<S> <C> <C>
OPERATING ACTIVITIES
Net income (loss)...................................................... $ 88 $ (11)
Noncash items.......................................................... 338 375
Changes in operating accounts.......................................... (207) (247)
----- -----
Cash provided by operating activities................................. 219 117
----- -----
INVESTING ACTIVITIES
Additions to property and equipment.................................... (319) (234)
Change in property improvement fund.................................... 194 118
----- -----
Cash used in investing activities..................................... (125) (116)
----- -----
FINANCING ACTIVITIES
Principal repayments of mortgage debt.................................. (153) (141)
Payment of financing costs............................................. -- (13)
----- -----
Cash used in financing activities..................................... (153) (154)
----- -----
DECREASE IN CASH AND CASH EQUIVALENTS................................... (59) (153)
CASH AND CASH EQUIVALENTS at beginning of period........................ 841 733
----- -----
CASH AND CASH EQUIVALENTS at end of period.............................. $ 782 $ 580
===== =====
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid for mortgage interest........................................ $ 484 $ 481
===== =====
</TABLE>
See Notes to Condensed Financial Statements.
Chicago Suites Supp-48
<PAGE>
Mutual Benefit Chicago Marriott Suite Hotel Partners, L.P.
Notes to Condensed Financial Statements
(Unaudited)
1. The accompanying condensed financial statements have been prepared by Mutual
Benefit Chicago Marriott Suite Hotel Partners, L.P. (the "Partnership")
without audit. Certain information and footnote disclosures normally
included in financial statements presented in accordance with generally
accepted accounting principles have been condensed or omitted from the
accompanying statements. The Partnership believes the disclosures made are
adequate to make the information presented not misleading. However, the
condensed financial statements should be read in conjunction with the
Partnership's financial statements and notes thereto for the fiscal year
ended December 31, 1997 included in the Partnership's Form 10.
In the opinion of the Partnership, the accompanying unaudited condensed
financial statements reflect all adjustments (which include only normal
recurring adjustments) necessary to present fairly the financial position of
the Partnership as of March 27, 1998, and the results of operations for the
twelve weeks ended March 27, 1998 and March 28, 1997. Interim results are not
necessarily indicative of fiscal year performance because of seasonal and
short-term variations.
For financial reporting purposes, net profits and net losses of the
Partnership are allocated 1% to MOHS Corporation (the "General Partner"), a
wholly owned subsidiary of Host Marriott Corporation ("Host Marriott"), 1% to
Mutual Benefit Investment Properties ("MBIP"), a limited partner, and 98% to
the remaining limited partners. Significant differences exist between the net
profits and net losses for financial reporting purposes and the net profits
and net losses reported for Federal income tax purposes. These differences
are due primarily to the use, for income tax purposes, of accelerated
depreciation methods, shorter depreciable lives of the assets, differences in
the timing of the recognition of management fee expense and the deduction of
certain costs incurred during construction which have been capitalized in the
accompanying condensed financial statements.
2. Hotel revenues represent house profit from the Hotel since the Partnership
has delegated substantially all of the operating decisions related to the
generation of house profit of the Hotel to Marriott International, Inc. (the
"Manager"). House profit reflects hotel operating results which flow to the
Partnership as property owner and represents gross hotel sales less property-
level expenses, excluding depreciation and amortization, base and incentive
management fees, property taxes and certain other costs, which are disclosed
separately in the condensed statement of operations.
Chicago Suites Supp-49
<PAGE>
Hotel revenues consist of hotel operating results for the Hotel for the twelve
weeks ended (in thousands):
<TABLE>
<CAPTION>
Twelve Weeks Ended
---------------------
March 27, March 28,
1998 1997
--------- ---------
<S> <C> <C>
HOTEL SALES
Rooms.................................................... $2,610 $2,320
Food and beverage........................................ 605 556
Other.................................................... 110 107
------ ------
3,325 2,983
------ ------
HOTEL EXPENSES
Departmental Direct Costs
Rooms.................................................. 571 548
Food and beverage...................................... 497 449
Other hotel operating expenses........................... 741 705
------ ------
1,809 1,702
------ ------
HOTEL REVENUES............................................ $1,516 $1,281
====== ======
</TABLE>
3. On April 17, 1998, Host Marriott, parent company of the General Partner of
the Partnership, announced that its Board of Directors has authorized the
company to reorganize its business operations to qualify as a real estate
investment trust ("REIT") to be effective as of January 1, 1999. As part of
the REIT conversion, Host Marriott expects to form a new operating
partnership (the "Operating Partnership") and limited partners in certain
Host Marriott full-service hotel partnerships and joint ventures, including
the Partnership, are expected to be given an opportunity to receive, on a
tax-deferred basis, Operating Partnership units in the new Operating
Partnership in exchange for their current partnership interest.
Chicago Suites Supp-50
<PAGE>
HOST MARRIOTT,L.P.
SUPPLEMENT DATED __________ __, 1998 FOR
PROSPECTUS/CONSENT SOLICITATION STATEMENT DATED _________ __, 1998 FOR
DESERT SPRINGS MARRIOTT LIMITED PARTNERSHIP
On the terms described in the Prospectus/Consent Solicitation Statement
(the "Consent Solicitation"), dated ______ __, 1998, of which this Supplement
(the "Supplement") is a part, Host Marriott Corporation, a Delaware corporation
("Host"), has adopted a plan to reorganize its business operations so that it
will qualify as a real estate investment trust ("REIT"). As part of this
reorganization (the "REIT Conversion"), Host and its consolidated subsidiaries
will contribute their full-service hotel properties and certain other businesses
and assets to Host Marriott, L.P., a newly formed Delaware limited partnership
(the "Operating Partnership"), in exchange for units of limited partnership
interest in the Operating Partnership ("OP Units") and the assumption of certain
liabilities. The sole general partner of the Operating Partnership will be Host
Marriott Trust, the entity resulting from the conversion of Host from a Delaware
corporation to a Maryland REIT ("Host REIT"). The Operating Partnership and
Host REIT will operate together as an umbrella partnership REIT. Host REIT
expects to qualify as a REIT beginning with its first full taxable year after
the closing of the REIT Conversion, which Host REIT currently expects to be the
year beginning January 1, 1999.
Following the REIT Conversion and the Blackstone Acquisition (defined
below), the Operating Partnership and its subsidiaries initially will own
outright, or have controlling interests in, approximately 120 full-service
hotels operating primarily under the Marriott, Ritz-Carlton, Four Seasons,
Swissotel and Hyatt brand names (the "Hotels"). Concurrently with the REIT
Conversion, the Operating Partnership will acquire ownership of, or controlling
interests in, 12 hotels and a mortgage loan secured by a thirteenth hotel
controlled by The Blackstone Group and a series of funds controlled by
Blackstone Real Estate Partners (collectively, the "Blackstone Entities") in
exchange for OP Units, the assumption of liabilities and other consideration
(the "Blackstone Acquisition"). The Operating Partnership will be one of the
largest owners of full-service hotels in the United States.
As part of the REIT Conversion, the Operating Partnership is proposing to
acquire by merger (the "Mergers") Desert Springs Marriott Limited Partnership, a
Delaware limited partnership ("Desert Springs" or the "Partnership"), and up to
seven other limited partnerships (the "Partnerships") that own full-service
hotels in which Host or its subsidiaries are general partners. As more fully
described in the Consent Solicitation, limited partners of those Partnerships
who participate in the Mergers will receive either OP Units or, at their
election, unsecured ___% Notes due December 15, 2005 issued by the Operating
Partnership ("Notes"), in exchange for their partnership interests in such
Partnerships (with respect to the Partnerships, those limited partners of the
Partnerships who are unaffiliated with Host are referred to herein as the
"Limited Partners," and with respect to Desert Springs, the "Desert Springs
Limited Partners").
The number of OP Units to be allocated to Desert Springs will be based upon
(i) Desert Springs' Exchange Value (as defined herein) and (ii) the deemed value
of an OP Unit at the time of the Mergers, determined as described herein. See
"Determination of Exchange Values and Allocation of OP Units." The principal
amount of Notes that Desert Springs Limited Partners may elect to receive in
exchange for the OP Units received in the Merger will be based upon Desert
Springs' Note Election Amount (as defined herein). See "Description of the
Notes." The estimated Exchange Value and set forth herein may increase or
decrease as a result of various adjustments, and will be finally calculated
shortly before the Closing Date. Pursuant to the Merger, Desert Springs Limited
Partners will receive OP Units with a deemed value of $40,880 per Partnership
Unit (as described herein), or if a Desert Springs Limited Partner elects, a
Note in a principal amount of $27,617 per Partnership Unit.
In connection with the REIT Conversion, each outstanding share of Host
common stock will be converted into one common share of beneficial interest, par
value $.01 per share (a "Common Share"), of Host REIT. Following the closing of
the REIT Conversion, the Common Shares will be listed on the New York Stock
Exchange. Beginning one year after the Mergers, Limited Partners will have the
right to redeem their OP Units at any time and receive, at the election of Host
REIT, either Common Shares on a one-for-one basis (subject to adjustment) or
cash in an amount equal to the market value of such shares (the "Unit Redemption
Right").
Because REITs are not permitted under current federal income tax law to derive
revenues directly from the operation of hotels, the Operating Partnership will
lease the Hotels to lessees (the "Lessees") that will operate the Hotels under
the existing management agreements and pay rent to the Operating Partnership, as
more fully described herein. The Lessees generally will be indirect controlled
subsidiaries of HMC Senior Communities, Inc., which currently is a wholly owned
subsidiary of Host ("SLC"), but which will become a separate public company as
part of the REIT Conversion when Host distributes the common stock of SLC to its
existing shareholders and the Blackstone Entities. Shares of Host REIT and SLC
will become separately traded securities, and the companies will operate
independently. Initially, there may be a partial overlap between the boards of
Host REIT and SLC but this will be phased out over time. There also will be a
substantial overlap of shareholders of the companies initially, but this likely
will diverge over time.
Desert Springs Supp-1
<PAGE>
MARRIOTT DESERT SPRINGS CORPORATION (THE "GENERAL PARTNER"), THE GENERAL
PARTNER OF DESERT SPRINGS, BELIEVES THAT THE TERMS OF THE MERGER PROVIDE
SUBSTANTIAL BENEFITS AND ARE FAIR TO THE DESERT SPRINGS LIMITED PARTNERS AND
RECOMMENDS THAT ALL DESERT SPRINGS LIMITED PARTNERS VOTE FOR THE MERGER.
The effects of the Merger may be different for Limited Partners of the
various Partnerships. This Supplement has been prepared to highlight for Desert
Springs Limited Partners the specific risks, benefits, effects and fairness of
the Merger to them and to provide other information specific to Desert Springs.
Supplements have also been prepared for each of the other Partnerships. This
Supplement, together with the supplements of the other Partnerships
(collectively, the "Supplements"), are part of the Consent Solicitation. Upon
receipt of a written request by a Limited Partner or his representative so
designated in writing, the General Partner will send a copy of any Supplement
without charge. All requests for a copy of a Supplement should be directed to:
Investor Relations, 10400 Fernwood Road, Bethesda, Maryland 20817, telephone
number 301-380-2070 (between the hours of 9:00 a.m. and 4:00 p.m., eastern
time).
All cross-references refer to the Consent Solicitation unless stated
otherwise. Capitalized terms not defined herein shall have the meaning set
forth in the Consent Solicitation. The information contained herein, unless
otherwise indicated, assumes the REIT Conversion occurs with all Hotel
Partnerships participating and no Notes being issued (the "Full Participation
Scenario").
RISK FACTORS
In deciding whether to approve the Merger, Desert Springs Limited Partners
should consider certain risks and other factors. The General Partner believes
that Desert Springs Limited Partners should particularly consider the following,
which should be read in conjunction with the information in the Consent
Solicitation under "Risk Factors" and "Federal Income Tax Considerations:"
. Substantial Benefits to Related Parties. The Mergers will facilitate
consummation and enable Host to reap the full benefits of the REIT
Conversion and will result in an increase in Host REIT's Funds From
Operations per Common Share on a pro forma basis. By converting to a
REIT, Host expects to benefit from the advantages enjoyed by REITs in
raising capital and acquiring additional assets, participating in a
larger group of comparable companies and increasing its potential base
of shareholders. Also, Host will realize significant savings through
the substantial reduction of its future corporate-level income taxes.
To the extent that such anticipated benefits initially are reflected in
the value of Host's common stock before the Closing Date, they will not
be shared initially with the Limited Partners. Host might be required
to transfer its interests in certain Partnerships that do not
participate in a Merger, if any, to a Non-Controlled Subsidiary, in
which case Host's share of such Partnerships' earnings would continue
to be subject to corporate-level income tax.
. Absence of Arm's Length Negotiations. No independent representative was
retained to negotiate on behalf of the Desert Springs Limited Partners
or the other Limited Partners. Although the General Partner has
obtained the Appraisal and the Fairness Opinion from AAA, AAA has not
negotiated with the General Partner or Host and has not participated in
establishing the terms of the Mergers. Consequently, the terms and
conditions of the Mergers may have been more favorable to the Desert
Springs Limited Partners or the other Limited Partners if such terms
and conditions were the result of arm's length negotiations.
Desert Springs Supp-2
<PAGE>
. Other Conflicts of Interest. The Mergers, the REIT Conversion and the
recommendations of the General Partners involve the following conflicts
of interest because of the relationships among Host, the Operating
Partnership, the General Partners and SLC: (i) the General Partners,
which are all subsidiaries of Host (except for PHLP, of which Host is
the General Partner), must assess whether the terms of the Mergers are
fair and equitable to the Limited Partners of its Partnership without
regard to whether the Mergers and the REIT Conversion may benefit Host,
(ii) the terms of the Leases of the Hotels, including the Participating
Partnerships' Hotels, will be determined by Host, which will distribute
the common stock of SLC, the parent of the Lessees, to its shareholders
after such terms have been set, and (iii) the terms of the Partnership
Agreement, including provisions which benefit Host REIT, have been
determined by Host. Such conflicts may result in decisions that do not
fully reflect the interests of all Limited Partners, including the
Desert Springs Limited Partners.
. Valuation of SLC. The value of the SLC common stock distributed to
Host's shareholders and the Blackstone Entities will be one factor used
in determining the value of an OP Unit. Although Host's Board of
Directors will determine the value of the SLC common stock in good
faith and reliance in part upon the opinion of an independent financial
advisor, conflicts of interest still exist. If the SLC common stock
distributed to Host's shareholders is undervalued by Host's Board of
Directors, the deemed value of an OP Unit for purposes of the Mergers
may be higher than the level at which the Host REIT Common Shares will
trade following the REIT Conversion and the Desert Springs Limited
Partners could receive less than the full Exchange Value of their
Partnership Interests and Host REIT could receive an overall higher
percentage of the ownership of the Operating Partnership.
. Determination of Exchange Value. The deemed value of OP Units that each
Desert Springs Limited Partner will receive (if such Desert Springs
Limited Partner elects to retain OP Units rather than receive a Note)
will equal the Exchange Value of such Desert Springs Limited Partner's
Partnership Interest. The Exchange Value of Desert Springs will be its
Adjusted Appraised Value which is the greatest of its Adjusted
Appraised Value, Continuation Value and Liquidation Value, each of
which is determined according to a different method of valuation and
involves numerous estimates and assumptions. There is no assurance that
the Exchange Value of Desert Springs will equal the fair market value
of the Hotel and other assets contributed by Desert Springs. Host REIT,
on the other hand, will receive a number of OP Units equal to the
number of shares of Host common stock outstanding on the Closing Date
(and, if Host has outstanding shares of preferred stock at the time of
the REIT Conversion, a corresponding number of preferred partnership
interests in the Operating Partnership), which should fairly represent
the market value of Host REIT but may not be equal to the fair market
or net asset value of the Hotels and other assets that Host will
contribute to the Operating Partnership. See "Determination of Exchange
Values and Allocation of OP Units."
. Valuation of OP Units. The value of an OP Unit, for purposes of the
Mergers and the REIT Conversion, will be deemed to be equal to the
value of a share of Host common stock immediately prior to the REIT
Conversion minus the amount of cash and the estimated value of the SLC
common stock or other property to be distributed with respect to each
share of Host common stock in connection with the REIT Conversion.
There is no assurance that, following the REIT Conversion, the value of
the publicly traded Common Shares (and therefore the value of the OP
Units) will in fact equal or exceed the deemed value of the OP Units
used for purposes of the Mergers. These factors could result in the
Desert Springs Limited Partners receiving OP Units with an actual value
that is less than either the deemed value of the OP Units for purposes
of the Mergers or the fair market value of their Partnership Interests.
. Determination of the Value of the Notes. At the same time that he votes
on the Merger, each Desert Springs Limited Partner also may elect to
receive at the time of the Merger, exchange for OP Units, an unsecured,
seven-year Note with a principal amount equal to the Note Election
Amount of his Partnership Interest, which is based upon numerous
assumptions and estimates. The deemed value of the OP Units to be
received by the Desert Springs Limited Partners will exceed the
principal amount of the corresponding Notes (because the Exchange Value
is higher than the Note Election Amount), and there is no assurance
that the Note a Desert Springs Limited Partner receives will have a
value equal to the fair market value of the Desert Springs Limited
Partner's share of the
Desert Springs Supp-3
<PAGE>
Hotel and other assets owned by Desert Springs. There will be no public
market for the Notes. If the Notes are sold, they may sell at prices
substantially below their issuance price. Noteholders are likely to
receive the full principal amount of a Note only if they hold the Note
to maturity, which is December 15, 2005, or if the Operating
Partnership repays the Notes prior to maturity. Because the Notes are
unsecured obligations of the Operating Partnership, they will be
effectively subordinated to all secured debt of the Operating
Partnership and all obligations of both the Participating Partnerships
and the Operating Partnership's other subsidiaries. See "Description of
the Notes." As of March 27, 1998, on a pro forma basis assuming the
Full Participation Scenario, the Operating Partnership would have had
aggregate consolidated debt of approximately $4.6 billion to which the
Notes were effectively subordinated or which rank equally with such
Notes.
. Fundamental Change in Nature of Investment; Potential Underperformance.
The Mergers and the REIT Conversion involve a fundamental change in the
nature of a Desert Springs Limited Partner's investment from holding an
interest in Desert Springs, which has a fixed portfolio of one Hotel
and distributes the cash flow from the operation of the Hotel to the
Desert Springs Limited Partners, to holding an interest in an operating
real estate company with a portfolio of approximately 120 Hotels that
collects and distributes to its limited partners rents received from
the Lessees (which will bear the risks and receive the direct benefits
of the Hotels' operations), has the ability to acquire additional
hotels, is able to reinvest proceeds from sales or refinancings of
existing Hotels in other hotels and has a publicly traded general
partner. In addition, each Desert Springs Limited Partner's investment
will change from one that allows a Desert Springs Limited Partner to
receive a return of capital in the form of distributions from any net
proceeds of a sale or refinancing of Desert Springs' assets to an
investment in which a Desert Springs Limited Partner likely would
realize a return of capital only through the exercise of the Unit
Redemption Right. Although it is expected that the Desert Springs
Limited Partners will receive added benefits from an investment in the
Operating Partnership, a Desert Springs Limited Partner's share of the
liquidation proceeds, if any, from the sale of its Hotel could be
higher than the amount realized upon exercise of the Unit Redemption
Right (or payments on any Note received by a Desert Springs Limited
Partner who elects to receive such Note). An investment in the
Operating Partnership may not outperform an investment in Desert
Springs. See "Comparison of Ownership of Partnership Interests, OP
Units and Common Shares -- Nature of Investment."
. Exposure to Risks from Other Hotels. As a result of the Mergers, Desert
Springs Limited Partners who elect to receive OP Units will own
interests in a much larger partnership with a broader range of assets
than Desert Springs individually. A material adverse change affecting
the Operating Partnership's assets will affect all Limited Partners
regardless of whether a particular Limited Partner previously was an
investor in such affected assets. Desert Springs owns discrete assets,
and the Mergers and the REIT Conversion will significantly diversify
the types and geographic locations of the Hotels in which the Desert
Springs Limited Partners will have interests. As a result, the Hotels
owned by the Operating Partnership may be affected differently by
economic and market conditions than the Hotel previously owned by
Desert Springs.
. Desert Springs Limited Partners Have No Cash Appraisal Rights. Desert
Springs Limited Partners who vote against the Merger will not have a
right to receive cash based upon an appraisal of their Partnership
Interests.
. Uncertainties as to the Size and Leverage of the Operating Partnership.
Host is an existing operating company that regularly issues and repays
debt, acquires additional hotels and disposes of existing hotels. Also,
some or all of the Partnerships may elect not to participate in a
Merger. In that case, Host may contribute its interests in such
Partnerships to a Non-Controlled Subsidiary, which is subject to
corporate-level income taxation, rather than the Operating Partnership.
In addition, outside partners in certain Private Partnerships may not
consent to a
Desert Springs Supp-4
<PAGE>
lease of their partnership's Hotel(s). Host also may repurchase
outstanding securities or issue new debt or equity securities prior to
the consummation of the Mergers and the REIT Conversion. For these
reasons, the Desert Springs Limited Partners cannot know at the time
they vote on a Merger the exact size and amount of leverage of the
Operating Partnership.
. Other Uncertainties at the Time of Voting. There are several other
uncertainties at the time the Desert Springs Limited Partners must vote
on the Mergers, including (i) the exact Exchange Value for Desert
Springs (which will be adjusted for changes in lender and capital
expenditures reserves, indebtedness, deferred maintenance and other
items prior to the Closing Date), (ii) the deemed value of the OP Units
for purposes of the Mergers which, together with the Exchange Value,
will determine the number of OP Units the Desert Springs Limited
Partners will receive and (iii) the exact principal amount of the
Notes that may be received in exchange for OP Units. For these reasons,
the Desert Springs Limited Partners cannot know at the time they vote
on the Merger these important aspects of the Merger.
. Lack of Control over Hotel Operations. Due to current federal income
tax law restrictions on a REIT's ability to derive revenues directly
from the operation of a hotel, the Operating Partnership will lease
virtually all of its consolidated Hotels to the Lessees, which will
operate the Hotels by continuing to retain the Managers pursuant to the
Management Agreements. The Operating Partnership will not operate the
Hotels or participate in the decisions affecting the daily operations
of the Hotels. Although the Operating Partnership's subsidiaries will
have certain rights as lessors under the Leases (including control over
decisions relating to capital expenditures) and will remain obligated
under the Management Agreements, the Operating Partnership will have
only a limited ability to require the Lessees or the Managers to
operate or manage the Hotels in any particular manner or to govern any
particular aspect of their day-to-day operation or management.
Therefore, the Operating Partnership will be dependent for its revenue
upon the ability of the Lessees and the Managers to operate and manage
the Hotels.
. Expiration of Leases. The Leases will expire seven to ten years after
the Closing Date, and there can be no assurance that such Leases will
be renewed (or if renewed, will be renewed on terms as favorable to the
Operating Partnership). If the Leases are not renewed, the Operating
Partnership will be required to find other lessees, which lessees must
meet certain requirements set forth in the Management Agreements. There
can be no assurance that satisfactory lessees could be found or as to
the terms and conditions on which the Operating Partnership would be
able to renew the Leases or enter into new leases with such lessees.
. Requisite Vote of Desert Springs Limited Partners Binds All Desert
Springs Limited Partners. For Desert Springs, approval of a Merger is
by a majority of the Partnership Interests of Desert Springs that are
eligible to be voted, as described in "Voting Procedures -- Required
Vote and Other Conditions." Such Approval will cause Desert Springs to
participate in the Merger and will bind all Desert Springs Limited
Partners, including Desert Springs Limited Partners who voted against
or abstained from voting with respect to the Merger.
. Risks of Lodging Industry. The profitability of the Hotels is subject
to general economic conditions, the management abilities of the
Managers (primarily Marriott International), competition, the
desirability of particular locations and other factors relating to the
operation of the Hotels. The full-service segment of the lodging
industry, in which virtually all of the Hotels operate, is highly
competitive, and the Hotels generally operate in geographical markets
that contain numerous competitors. The Hotels' success will be
dependent, in large part, upon their ability to compete in such areas
as access, location, quality of accommodations, room rate structure,
the quality and scope of food and beverage facilities and other
services and amenities. The lodging industry, including the Hotels (and
thus the Operating Partnership), may be adversely affected in the
future by (i) national and regional economic conditions, (ii) changes
in travel patterns, (iii) taxes and government regulations which
influence or determine wages, prices, interest rates, construction
procedures and costs, (iv) the availability of credit and (v) other
factors beyond the control of the Operating Partnership.
. Risks of Leverage. The Operating Partnership will have substantial
indebtedness. As of March 27, 1998, on a pro forma basis assuming the
Full Participation Scenario, the Operating
Desert Springs Supp-5
<PAGE>
Partnership would have had outstanding indebtedness totaling $4.6
billion, which represents a 44% debt-to-total market capitalization
ratio on a pro forma basis at such date (based upon a price per Common
Share of Host REIT of $20.00). The Operating Partnership's business is
capital intensive, and it will have significant capital requirements in
the future. The Operating Partnership's leverage level could affect its
ability to (i) obtain financing in the future, (ii) undertake
refinancings on terms and subject to conditions deemed acceptable by
the Operating Partnership, (iii) make distributions to partners, (iv)
pursue its acquisition strategy or (v) compete effectively or operate
successfully under adverse economic conditions.
. No Limitation on Debt. There are no limitations in Host REIT's or the
Operating Partnership's organizational documents which limit the amount
of indebtedness either may incur, although both the Notes and the
Operating Partnership's other debt instruments will contain certain
restrictions on the amount of indebtedness that the Operating
Partnership may incur.
. Rental Revenues from Hotels Subject to Rights of Lenders. In accordance
with the mortgage loan agreements with respect to outstanding
indebtedness of certain Hotel Partnerships, the rental revenues
received by such Hotel Partnerships under certain Leases first will be
used to satisfy the debt service on such outstanding indebtedness and
any cash flow remaining thereafter will be available to satisfy other
obligations of the Hotel Partnership (including paying property taxes
and insurance, funding the required FF&E reserves for the Hotels and
capital improvements) and to make distributions to partners, including
Host REIT.
. Ownership Limitations. No person may own, actually or constructively
(as determined under the applicable Code provisions), (i) in excess of
9.8% of the number or value of outstanding Common Shares of Host REIT
or (ii) in excess of 4.9% of the OP Units (other than Host REIT and The
Blackstone Group), subject to waiver or modification by Host REIT or
the Operating Partnership, as the case may be, in certain limited
circumstances.
. Timing of REIT Conversion. If the REIT Conversion does not occur in
time for Host REIT to elect REIT status effective January 1, 1999, the
effectiveness of Host REIT's election could be delayed to January 1,
2000, which would result in Host REIT continuing to pay corporate-level
income taxes in 1999 and could cause the Blackstone Acquisition not to
be consummated.
. Effect of Subsequent Events upon Recognition of Gain. Even though the
Desert Springs Limited Partners (other than those who elect to receive
a Note in exchange for OP Units) generally are not expected to
recognize significant taxable gain at the time of the Mergers, there
are a variety of events and transactions (including the sale of the
Hotel currently owned by Desert Springs or the reduction of
indebtedness securing the Hotel) that could cause a Desert Springs
Limited Partner to recognize all or a part of the gain that otherwise
has been deferred through the REIT Conversion. See "Federal Income Tax
Considerations -- Tax Treatment of Desert Springs Limited Partners Who
Hold OP Units Following the Merger." Certain Hotels (including the
Blackstone Hotels and the Hotel owned by Atlanta Marquis) will be
covered by agreements with third parties which will restrict the
Operating Partnership's ability to dispose of those properties or
refinance their debt. As for the remaining initial properties
(including the Hotel owned by Desert Springs), the partnership
agreement of the Operating Partnership, which is substantially in the
form attached hereto as Appendix A (the "Partnership Agreement"), does
not impose any restrictions on the Operating Partnership's ability to
dispose of the Hotels or to refinance debt secured by the Hotels (but
the Operating Partnership is obligated to pay any taxes Host REIT
incurs as a result of such transactions). In addition, the Partnership
Agreement expressly provides that Host REIT, as general partner of the
Operating Partnership, is not required to take into account the tax
consequences of the limited partners in deciding whether to cause the
Operating Partnership to undertake specific transactions and the
limited partners have no right to approve or disapprove such
transactions. See "Description of OP Units -- Sales of Assets."
. Adverse Tax Consequences of General Partner of a Sale of the Hotel.
Desert Springs has disproportionately allocated tax losses to the
General Partner, in past years, with the result that if the Desert
Springs Hotel were to be sold in a taxable transaction, the General
Partner (and thus Host) would incur a disproportionately larger tax
gain than the Desert Springs Limited Partners. Accordingly, the General
Partner has an additional conflict of interest in deciding the
appropriate course of action for Desert Springs with respect to its
Hotel.
Desert Springs Supp-6
<PAGE>
. Election to Receive Notes. A Desert Springs Limited Partner who elects
to receive a Note in connection with the Merger in exchange for his OP
Units will be treated as having made a taxable disposition of his
Partnership Interest. The Desert Springs Limited Partner may be
eligible to defer at least a small portion, but not all, of that gain
under the "installment sale" rules. A Limited Partner with a "negative
capital account" with respect to his Partnership Interest who elects to
receive a Note will recognize "phantom income" in that amount at the
time of the Merger in any event. See "Federal Income Tax
Considerations -- Tax Treatment of Desert Springs Limited Partners
Who Exercise Their Right to Make the Note Election."
. Failure of Host REIT to Qualify as a REIT for Tax Purposes. Taxation of
Host REIT as a corporation if it fails to qualify as a REIT, and Host
REIT's subsequent liability for federal, state and local taxes on its
income and property, would, among other things, have the effect of
reducing cash available for distribution to Host REIT's shareholders
and materially reducing the value of the Common Shares and OP Units.
. Failure of the Operating Partnership to Qualify as a Partnership for
Tax Purposes. Taxation of the Operating Partnership as a corporation if
it fails to qualify as a partnership and the Operating Partnership's
subsequent liability for federal, state and local income taxes, would,
among other things, have the effect of reducing cash available for
distribution to holders of OP Units, would cause Host REIT to fail to
qualify as a REIT for tax purposes and would cause the holders of OP
Units to recognize substantial taxable gain at the time the Operating
Partnership ceases to qualify as a partnership.
. Change in Tax Laws. No assurance can be provided that new legislation,
Treasury Regulations, administrative interpretations or court decisions
will not significantly change the tax laws with respect to Host REIT's
qualification as a REIT or the federal income tax consequences of such
qualification.
EXPECTED BENEFITS OF THE REIT CONVERSION
The General Partner believes that participating in the REIT Conversion would
likely be beneficial to the Desert Springs Limited Partners for the reasons set
forth below. This information is qualified by and should be read in conjunction
with the information in the Consent Solicitation under "Background and Reasons
for the Mergers and the REIT Conversion -- Expected Benefits of the Mergers."
These benefits, which should be viewed as alternatives to continuing the
business and operations of Desert Springs, are expected to include:
. Value of OP Units to be Received in the Merger. Desert Springs Limited
Partners who elect to receive OP Units in the Merger will receive OP
Units with a deemed value of $40,880 per Partnership Unit.
. Enhanced Liquidity of Investment. The REIT Conversion will offer Desert
Springs Limited Partners significantly enhanced liquidity with respect
to their investments in Desert Springs because, after the expiration of
the Initial Holding Period, Desert Springs Limited Partners will be
able to exercise their Unit Redemption Right at any time, subject to
certain limited exceptions. Host has approximately 204 million shares
of common stock outstanding and the closing price on the NYSE on
May 28, 1998 was $19.4375 per share (reflecting a total common equity
market capitalization of approximately $4 billion). The exercise of the
Unit Redemption Right, however, generally would result in recognition
of taxable income or gain at that time.
. Public Market Valuation of Assets. The Partnership Units of Desert
Springs currently trade at a discount to the net asset value of Desert
Springs' assets. In contrast, the General Partner believes that by
exchanging interests in Desert Springs, which is a non-traded limited
partnership, for interests in a publicly traded real estate company
focused primarily on a more diverse and growing full-service hotel
portfolio, the Desert Springs Limited Partners will have the
opportunity to participate in the recent trend of ownership of real
estate through a publicly traded entity, which, in many instances, has
resulted in market valuations of public real estate companies in excess
of the estimated net asset values of those companies. There can be no
Desert Springs Supp-7
<PAGE>
assurance, however, that the Common Shares of Host REIT will trade at a
premium to the private market values of the Operating Partnership's
assets or that the relative pricing differential will not change or be
eliminated in the future. Also, the initial benefit of Host's
conversion to a REIT will not be shared by the Desert Springs Limited
Partners if and to the extent that such initial benefit is reflected in
the market valuation of Host's common stock prior to the REIT
Conversion.
. Regular Quarterly Cash Distributions. The General Partner expects that
the Operating Partnership will make regular quarterly cash
distributions to holders of OP Units. The General Partner expects that
these distributions will be higher than the estimated 1998 cash
distributions of Desert Springs and the ability to receive
distributions quarterly and in regular amounts would be enhanced. For
additional information regarding historical and estimated future
distributions for Desert Springs and the other Partnerships, see
"Background and Reasons for the Mergers and the REIT Conversion --
Reasons for the Mergers."
. Substantial Tax Deferral. The General Partner expects that Desert
Springs Limited Partners who do not elect to receive a Note in exchange
of OP Units generally should be able to obtain the benefits of the
Merger while continuing to defer recognition for federal income tax
purposes of at least a substantial portion, if not all, of the gain
with respect to their Partnership Interests that otherwise would be
recognized in the event of a liquidation of Desert Springs or a sale or
other disposition of its assets in a taxable transaction. Thereafter,
such Desert Springs Limited Partners generally should be able to defer
at least a substantial portion of such built-in gain until they elect
to exercise their Unit Redemption Right or the Hotel currently owned by
Desert Springs is sold or otherwise disposed of in a taxable
transaction by the Operating Partnership or the debt now secured by
such Hotel is repaid, prepaid or substantially reduced. The federal
income tax consequences of the Merger are highly complex and, with
respect to each Desert Springs Limited Partner, are dependent upon many
variables, including the particular circumstances of such Desert
Springs Limited Partner. See "Federal Income Tax Considerations -- Tax
Consequences of the Merger." Each Desert Springs Limited Partner is
urged to consult with his own tax advisors as to the consequences of
the Merger in light of his particular circumstances.
. Risk Diversification. Participation in the Merger, as well as future
hotel acquisitions by the Operating Partnership, will reduce the
dependence of Desert Springs Limited Partners upon the performance of,
and the exposure to the risks associated with, Desert Springs' Hotel
and spread such risk over a broader and more varied portfolio,
including more diverse geographic locations and multiple brands. See
"Business and Properties -- Business Objectives."
. Reduction in Leverage and Interest Costs. It is expected that the
Operating Partnership will have a significantly lower leverage to value
ratio than Desert Springs currently, which has a leverage ratio of 81%
(calculated as a percentage of Appraised Value), resulting in
significant interest and debt service savings and greater financial
stability.
. Growth Potential. The General Partner believes that the Desert Springs
Limited Partners, by owning interests in a publicly traded real estate
company focused primarily on a more diverse and growing upscale and
luxury full-service hotel portfolio, will be able to participate in
growth opportunities that would not otherwise be available to them.
. Greater Access to Capital. With publicly traded equity securities, a
larger base of assets and a substantially greater equity value than
Desert Springs individually, Host REIT expects to have greater
access to the capital necessary to fund the Operating Partnership's
operations and to consummate acquisitions on more attractive terms than
would be available to Desert Springs individually. This greater access
to capital should provide greater financial stability to the Operating
Partnership and reduce the level of risk associated with refinancing
existing loans upon maturity, as compared to Desert Springs
individually.
Desert Springs Supp-8
<PAGE>
DETERMINATION OF EXCHANGE VALUE OF DESERT SPRINGS AND ALLOCATION OF
OP UNITS
General. The Exchange Value of Desert Springs will be equal to the
greatest of its Adjusted Appraised Value, Continuation Value and Liquidation
Value, each of which has been determined as follows:
. Adjusted Appraised Value. The General Partner has retained AAA to
determine the market value of the Hotel as of March 1, 1998 (the
"Appraised Value"). The "Adjusted Appraised Value" of Desert Springs
equals the Appraised Value of its Hotel, adjusted as of the Final
Valuation Date for lender reserves, capital expenditure reserves,
existing indebtedness (including a "mark to market" adjustment to
reflect the market value of such indebtedness), certain deferred
maintenance costs, deferred management fees and transfer and
recordation taxes and fees.
. Continuation Value. The "Continuation Value" of Desert Springs
represents AAA's estimate, as adopted by the General Partner, of the
discounted present value, as of January 1, 1998, of the Desert
Springs limited partners' share of estimated future cash
distributions and estimated net sales proceeds (plus lender
reserves), assuming that Desert Springs continues as an operating
business for twelve years and its assets are sold on December 31,
2009 for their then estimated market value.
. Liquidation Value. The "Liquidation Value" of Desert Springs
represents the General Partner's estimate of the net proceeds to
Desert Springs limited partners resulting from the assumed sale as of
December 31, 1998 of the Hotel of Desert Springs, at its Adjusted
Appraised Value (after eliminating any "mark to market" adjustment
and adding back the deduction for transfer taxes and fees, if any,
made in deriving the Adjusted Appraised Value), less (i) estimated
liquidation costs, expenses and contingencies equal to 2.5% of
Appraised Value and (ii) prepayment penalties or defeasance costs, as
applicable.
Final determination of the Exchange Value of Desert Springs will be made
as of the end of the four week accounting period ending at least 20 days prior
to the Closing Date (the "Final Valuation Date") and will be equal to the
greatest of Adjusted Appraised Value, Continuation Value and Liquidation Value
as of such date. Adjusted Appraised Value, Continuation Value and Liquidation
Value will be adjusted as of the Final Valuation Date (i) to reflect the amount
of lender and capital expenditure reserves and the amount of deferred management
fees as of such date, (ii) to increase the Adjusted Appraised Value by any
amounts actually expended by Desert Springs after the Initial Valuation Date to
perform deferred maintenance previously subtracted in determining the estimated
Adjusted Appraised Value of Desert Springs and (iii) to reflect any changes in
Desert Springs' other reserves, such as for litigation expenses and
indemnification costs and any revised estimates of transfer and recordation
taxes and fees.
Appraised Value. Desert Springs' Hotel was appraised as of March 1, 1998
by AAA, an independent, nationally recognized hotel valuation and financial
advisory firm experienced in the appraisals of lodging properties such as Desert
Springs' Hotel. The appraisal (the "Appraisal") was reviewed by an MAI appraiser
and certified by such MAI appraiser as having been prepared in accordance with
the requirements of the Standards of Professional Practice of the Appraisal
Institute and the Uniform Standards of Professional Appraisal Practice of the
Appraisal Foundation.
The purpose of the Appraisal is to provide an estimate of the "Market
Value" of the related Hotel. "Market Value" means the most probable price which
a property should bring in a competitive and open market under all conditions
requisite to a fair sale, the buyer and seller each acting prudently and
knowledgeably and assuming the price is not affected by undue stimuli. Implicit
in this definition is the consummation of a sale as of a specified date and the
passing of title from seller to buyer under conditions whereby: (i) the buyer
and seller are equally motivated; (ii) both parties are well informed or well
advised, and each is acting in what he considers his own best interest; (iii) a
reasonable time frame is allowed for exposure in the open market; (iv) payment
is made in terms of cash in U.S. dollars or in terms of financial arrangements
comparable thereto and (v) the price represents the normal consideration for the
property sold unaffected by special or creative financing or sales concessions
granted by anyone associated with the sale. AAA made site visits at Desert
Springs' Hotel for purposes of the Appraisal.
In preparing the Appraisals, AAA relied primarily on the income
capitalization method of valuation, and then compared the value estimated by
this method with recent sales of comparable properties, as a check on the
reasonableness of the value determined through the income capitalization method.
AAA employed the following procedures for determining the Appraised Value of the
Hotel:
. Historical 1997 and Projected Year's Earnings. AAA reviewed the
historical 1997 net operating income (i.e., income before interest,
taxes, depreciation and amortization) ("NOI") prior to incentive
management fees and certain capital expenditures for the Hotel. AAA
also prepared a projection of the net operating income prior to
incentive management fees and certain capital expenditures for the
Hotel for the twelve month period ending February 28, 1999 (the
"Projected Year"), using historical financial information for the
Hotel, budget information, a survey with the manager of the Hotel
Desert Springs Supp-9
<PAGE>
addressing the physical condition of the Hotel, local market
conditions (including business mix, demand generators, future trends
and predictability of business), changes in the competitive
environment, comparison with direct competitors of the Hotel and risk
factors relating to the Hotel. The resulting gross margin (ratio of
total revenues to NOI prior to incentive management fees) was checked
against AAA's database of the gross margins for similar hotels for
reasonableness.
. Impact of Incentive Management Fees. AAA estimated a normalized
annual amount of incentive management fees payable under the
applicable management agreement and subtracted this amount from the
NOI prior to incentive management fees and certain capital
expenditures for 1997 and the Projected Year.
. Impact of Owner Funded Capital Expenditures. AAA estimated normalized
annual amounts of owner funded capital expenditures (over and above
the FF&E reserve) based in part on projected owner funded capital
expenditures estimated in the Engineering Study, including in the
case of Desert Springs certain identified 1998 capital expenditures
for which reserves have been set aside. The normalized amounts were
then subtracted from the NOI prior to owner funded capital
expenditures for 1997 and the Projected Year.
. Capitalization of Adjusted NOI. AAA then capitalized the amount
resulting from the foregoing adjustments ("Adjusted NOI") for 1997
and the Projected Year by dividing such amounts by capitalization
rates that AAA determined to be appropriate. A capitalization rate
represents the relationship between net operating income and sales
prices of income producing property. AAA selected the capitalization
rates based upon its review of current published surveys reflecting
the opinions of investors and participants such as REITs, hotel
acquisition/management companies and pension funds, lenders, brokers
and consultants as to current capitalization rates, and its own
database of capitalization rates reflected in recent transactions,
adjusted for factors specific to the individual Hotel, such as
location, physical condition, reserve policies, local market
volatility and competition, guest mix, renovation influences and
other income characteristics. AAA used separate capitalization rates
that it deemed appropriate to capitalize 1997 historical Adjusted NOI
and estimated Projected Year's Adjusted NOI. AAA then estimated the
value of the Hotel based upon the values estimated by capitalizing
1997 and Projected Year's Adjusted NOI and its professional judgment.
The following table sets forth the effective capitalization rates for
1997 and Projected Year's Adjusted NOI resulting from AAA's estimated
Appraised Value of Desert Springs' Hotel.
<TABLE>
<CAPTION>
RESULTING EFFECTIVE CAPITALIZATION RATES FOR APPRAISALS OF DESERT SPRINGS' HOTELS
PROJECTED YEAR (ENDING
1997 FEBRUARY 28, 1999)
---- ----------------------
<S> <C> <C>
8.9% 9.3%
</TABLE>
The resulting Appraised Value of Desert Springs' Hotel, as estimated by
AAA, is $223,800,000.
. Comparison with Comparable Sales. AAA checked the Appraised Value of
each Hotel derived by the foregoing procedures against its database of
comparable sale transactions for reasonableness.
The Appraised Value assumes all contractual provisions for FF&E reserves
are adequate and have not been reduced to reflect deferred maintenance or
environmental remediation costs with respect to Desert Springs' Hotels (but
estimated deferred maintenance costs have been deducted in estimating the
Adjusted Appraised Value of Desert Springs' Hotel). The Appraised Value did not
take into account the costs that might be incurred in selling a Hotel (but
estimated costs for transfer and recordation taxes and fees have been deducted
in estimating the Adjusted Appraised Value of the Hotel).
The Appraisal is not a guarantee of present or future values and no
assurance can be given as to the actual value of Desert Springs' Hotel. The
Appraisal should be read in conjunction with other information, such as, but not
limited to, the audited financial statements of Desert Springs.
The Appraised Value, and the assumptions underlying the projections on
which the Appraised Value is based, are contingent upon a series of future
events, the outcomes of which are not necessarily within the Operating
Partnership's control and cannot be determined at this time. There can be no
assurance that another appraiser would not have arrived at a different result.
Some of the assumptions inevitably will not materialize, and unanticipated
events and circumstances will occur subsequent to the date of the Appraisal.
Furthermore, the actual results achieved from Desert Springs' Hotel will vary
from the results projected in the Appraisal and the variations may be material.
Desert Springs Supp-10
<PAGE>
Adjusted Appraised Value. The Adjusted Appraised Value of Desert Springs
was determined by making various adjustments to the Appraised Value of the
Desert Springs Hotel, as described below.
. Lender Reserves. Desert Springs' debt service reserves are required to be
held by third-party lenders. The amount of these lender reserves as of
the Initial Valuation Date was added to the Appraised Value of the Hotel.
A final determination of the lender reserves of Desert Springs will be
made on the Final Valuation Date and any changes in such reserves will be
reflected in the Adjusted Appraised Value.
. 1998 Capital Expenditure Reserves. For Desert Springs, an amount equal to
the capital expenditure reserves which were set aside as of March 1, 1998
for various identified capital improvements in 1998 (which amounts
resulted in reductions in the Appraised Value as described above) was
added back to the Appraised Value.
. Mortgage and Other Debt. The estimated principal balance and accrued
interest as of the Closing Date (assumed to be December 31, 1998) of all
mortgage and other debt of Desert Springs has been subtracted from the
Appraised Value.
. Mark to Market Adjustments. The third-party loans of the Partnerships
have various interest rates and terms to maturity. In order to reflect
the fair market value of the third-party loans of the Partnership, the
estimated Adjusted Appraised Value for Desert Springs has been increased
or decreased to "mark to market" the interest rate for such loans. This
adjustment has been estimated by comparing the interest cost using the
applicable interest rates on existing third-party loans over their
remaining term to the interest cost using the interest rate that the
Operating Partnership believes it would be able to obtain for unsecured
debt in the market as of the Final Valuation Date (which would have been
8.0% per annum based on a 225 basis point (2.25 percent) spread over the
yield on seven-year U.S. Treasury securities as of May 8, 1998). The mark
to market adjustment for each loan was calculated by determining the
difference between the present values, as of December 31, 1998, of the
interest payments over the remaining term of the loan from January 1,
1999 to maturity using the actual interest rate as the discount rate as
compared to using the assumed market rate as the discount rate. In the
case of the mezzanine loan on Desert Springs, the adjustment reflects the
prepayment penalty that would be payable because it is less than the mark
to market adjustment.
. Deferred Maintenance Costs. The estimated cost to complete any deferred
maintenance items identified in the Engineering Study relating to the
Hotel of Desert Springs has been subtracted from the Appraised Value. The
adjustments for this item will be reduced at the Final Valuation Date to
reflect amounts expended after the Initial Valuation Date to perform such
deferred maintenance. No adjustments have been made for previously
budgeted capital expenditures or deferred maintenance costs estimated in
the Engineering Study that are reflected in the cash flow projections
used for purposes of estimating Appraised Values.
The following table sets forth the adjustments to the aggregate Appraised
Value of the Desert Springs' Hotel made to derive the estimated Adjusted
Appraised Value for Desert Springs' as of the Initial Valuation Date.
CALCULATION OF ESTIMATED ADJUSTED APPRAISED VALUE FOR DESERT SPRINGS
AS OF THE INITIAL VALUATION DATE
(IN THOUSANDS, EXCEPT PER PARTNERSHIP UNIT AMOUNT)
Appraised Value $ 223,800
Lender reserves 6,173
Capital expenditure reserve 1,500
Mortgage debt (101,632)
Other debt (92,438)
Mark to market adjustment 411
Deferred maintenance costs (650)
Estimated Adjusted
Appraised Value $ 37,164
=========
Limited partners' share $ 36,792
Per Partnership Unit $ 40,880
Continuation Value. AAA estimated the Continuation Value of Desert Springs
using the following methodology:
. Estimated Future Cash Distributions. AAA prepared estimates of future
partnership cash flow for Desert Springs for the 12-year period from
January 1, 1998 through December 31, 2009 based upon the estimated 1998
NOI before incentive management fees used in the Appraisal and for each
subsequent year applying an assumed annual stabilized growth rate (as
shown in the table below) developed by AAA for this analysis. For each
year in the projection period, AAA estimated the amount of cash available
for distribution to Desert Springs' limited partners after payment of all
management fees, debt service, owner funded capital expenditures based on
the Engineering Study and other partnership expenses and after
application of the applicable partnership agreement provisions. AAA
assumed that Desert Springs' FF&E reserve was adequate and understood
that Host determined that there were no reserve shortfalls or surpluses.
. Determination of Residual Value. To estimate the residual value of the
Desert Springs limited partners' interest in Desert Springs at the end of
the 12-year period, AAA assumed that the Desert Springs Hotel would be
sold as of December 31, 2009 at its then market value. AAA estimated the
market value of the Hotel as of such date by applying an exit
capitalization rate that it deemed appropriate, using the factors
described above in connection with the "-- Appraised Value," which is set
forth in the table below, to the estimated Adjusted NOI for 2009
(estimated as described above). AAA then subtracted estimated sales costs
of 2.0% of the estimated market value, added lender reserves, and
subtracted the estimated outstanding principal balance of debt as of
December 31, 2009 and deferred management fees to arrive at net sales
proceeds available for distribution to partners. AAA then determined what
portion of such estimated net sales proceeds would be distributable to
Desert Springs' limited partners under the various partnership and debt
agreements.
Desert Springs Supp-11
<PAGE>
. Discounting Distributions to Present Value. As a final step, AAA
discounted the estimated future cash distributions to Desert Springs'
limited partners from operations and estimated net sales proceeds to
their present value as of January 1, 1998, using a discount rate of 20%
per annum. AAA believes that this discount rate reflects the return on
investment that investors expect from leveraged investments of this
nature.
The growth rate and exit capitalization rate used to determine the
estimated Continuation Value for Desert Springs are as set forth below:
GROWTH RATES, EXIT CAPITALIZATION RATES
AND ESTIMATED CONTINUATION VALUE FOR DESERT SPRINGS
ESTIMATED
CONTINUATION VALUE
GROWTH RATE EXIT CAPITALIZATION RATE (2009) (PER PARTNERSHIP UNIT)
----------- ------------------------------- ----------------------
4.50% 9.66% $33,536
Liquidation Value. The Liquidation Value of Desert Springs was estimated
by the General Partner and represents the estimated value of Desert Springs if
all of its assets were sold as of December 31, 1998. Such value was based upon
the Adjusted Appraised Value of Desert Springs, with the following adjustments:
(i) the "mark to market" adjustment used to estimate the Adjusted Appraised
Value was eliminated and instead prepayment or defeasance costs that would be
payable under existing debt agreements (regardless of whether the debt in fact
can be prepaid on December 31, 1998) were deducted from the Appraised Value;
(ii) the deduction for transfer and recordation taxes used to estimate the
Adjusted Appraised Value was eliminated and instead an amount equal 2.5% of the
Appraised Value of Desert Springs' Hotel was subtracted from the Appraised Value
for estimated liquidation costs, expenses and contingencies; and (iii) the
amount of participating interest payable on the Desert Springs subordinated loan
held by Host was deducted from the Appraised Value to reflect the net proceeds
available to partners of the Desert Springs Partnership. The General Partner
then determined the portion of the estimated Liquidation Value that would be
distributable to Desert Springs' limited partners under the terms of the
partnership agreement and other contractual arrangements.
The following table sets forth the adjustments made to the Adjusted
Appraised Value to estimate the Liquidation Value of Desert Springs as of the
Initial Valuation Date:
CALCULATION OF ESTIMATED LIQUIDATION VALUE OF DESERT SPRINGS
AS OF THE INITIAL VALUATION DATE
(IN THOUSANDS, EXCEPT PER PARTNERSHIP UNIT AMOUNT)
Appraised Value $ 223,800
Lender reserves 6,173
Capital expenditure reserve 1,500
Mortgage debt (101,632)
Other debt (89,669)
Prepayment/defeasance costs (8,821)
Deferred maintenance costs (650)
Sales costs (5,595)
Estimated Liquidation Value
$ 25,106
=========
Limited partners' share $ 24,855
Per Partnership Unit $ 27,617
Estimated Exchange Value. The following table sets forth the estimated
Exchange Value of Desert Springs (based upon the Appraised Values of Desert
Springs' Hotel as of March 1, 1998 and the estimated adjustments described
above) and the estimated Note Election Amount for Desert Springs, all on a per
Partnership Unit basis. The estimated Exchange Value for Desert Springs (which
will be received by each Desert Springs Limited Partner retaining OP Units in
the Merger) is equal to its estimated Adjusted Appraised. The estimated Note
Election Amount for Desert Springs (which will be received by Desert Springs
Limited Partners electing to receive Notes in exchange for OP Units) is equal
to the Liquidation Value for Desert Springs. The estimated values set forth
below may increase or decrease as a result of various adjustments, which will be
finally calculated as of the Final Valuation Date but will not change as a
result of less than all of the Partnerships participating in the Mergers.
Desert Springs Supp-12
<PAGE>
ESTIMATED EXCHANGE VALUE OF DESERT SPRINGS
PER PARTNERSHIP UNIT(1)
<TABLE>
<CAPTION>
ESTIMATED ESTIMATED ESTIMATED ESTIMATED ESTIMATED
ADJUSTED APPRAISED CONTINUATION LIQUIDATION EXCHANGE NOTE ELECTION
VALUE VALUE VALUE VALUE (2) AMOUNT(3)
- ------------------ ------------ ----------- ---------- -------------
<S> <C> <C> <C> <C>
$ 40,880 $33,536 $27,617 $40,880 $27,617
</TABLE>
_________________
(1) A Partnership Unit in Desert Springs represents an original investment of
$100,000.
(2) The estimated Exchange Value equals the greatest of estimated Adjusted
Appraised Value, estimated Continuation Value and estimated Liquidation
Value.
(3) The principal amount of Notes is equal to the greater of (i) the Liquidation
Value or (ii) 60% of the Exchange Value (the "Note Election Amount").
Valuation of OP Units Allocated to Desert Springs' Limited Partners. Each
Desert Springs Limited Partner will receive OP Units with a deemed value equal
to the Exchange Value of such Desert Springs Limited Partner's Partnership
Interests. The value of an OP Unit for this purpose will be deemed to be equal
to (i) the average of the closing price of shares of Host common stock on the
NYSE for the 10 trading days ending on the third trading day prior to the record
date for the distribution of SLC common stock to Host shareholders minus (ii)
the amount of cash and the estimated value, as determined by Host's Board of
Directors in good faith and in reliance in part upon an opinion of an
independent financial advisor, of the SLC common stock or other property to be
distributed with respect to each share of Host common stock (currently estimated
to aggregate approximately $___ - $____ per share) in connection with the REIT
Conversion. The closing price per share of Host common stock on May 28, 1998
was $19.4375.
Desert Springs Limited Partners who receive OP Units will receive cash
distributions from Desert Springs for all of 1998 and, if the Merger does not
occur in 1998, any portion of 1999 prior to the Merger for which period they do
not receive a cash distribution from the Operating Partnership.
No fractional OP Units will be issued. Fractional amounts less than or
equal to 0.50 of an OP Unit will be rounded down to the next whole number and
fractional amounts greater than 0.50 will be rounded up to the next whole number
of OP Units.
CASH DISTRIBUTIONS
HISTORICAL CASH DISTRIBUTIONS PAID BY DESERT SPRINGS. The following table
sets forth the distributions paid to Desert Springs Limited Partners (per
Partnership Unit) for the periods indicated. The information below should be
read in conjunction with the information in this Supplement under the caption
"Selected Financial Data."
<TABLE>
<CAPTION>
HISTORICAL CASH DISTRIBUTIONS PAID BY DESERT SPRINGS
(PER PARTNERSHIP UNIT) /(1)/
FISCAL YEAR
FIRST QUARTER -----------------------------------------------
1998 1997 1996 1995 1994 1993
------------- ------- ------- ------- ------- -------
<S> <C> <C> <C> <C> <C> <C>
From net income......................... $ -- $ -- $1,702 $5,577 $4,404 $5,498
Representing return of capital/(2)/..... -- 25,000 -- -- -- --
------------- ------- ------ ------ ------ ------
Total $ -- $25,000 $1,702 $5,577 $4,404 $5,498
============= ======= ====== ====== ====== ======
</TABLE>
_____________________
/(1)/ A Partnership Unit represents a $100,000 original investment in Desert
Springs.
/(2)/ Computed as all distributions in excess of distributions from operating
cash flow.
COMPENSATION AND DISTRIBUTIONS TO THE GENERAL PARTNER. Under Desert Spring's
partnership agreement, the General Partner does not receive fees or compensation
in connection with managing the affairs of Desert Springs but the General
Partner and its affiliates are reimbursed for certain costs and expenses
incurred on behalf of Desert Springs. The following information has been
prepared to compare the amount of reimbursements paid and cash distributions
made by Desert Springs to the General Partner and its affiliates to the amounts
that would have been paid if the reimbursement and distribution structure which
will be in effect after the REIT Conversion had been in effect for the periods
presented.
Following the REIT Conversion, Host REIT will be operated as a self-
administered REIT and as a result no reimbursements or other compensation will
be received by the General Partner.
During the First Quarter 1998, fiscal years 1997, 1996 and 1995 amounts
actually paid by Desert Springs to the General Partner are shown below under
"Historical" and the estimated amounts that would
Desert Springs Supp-13
<PAGE>
have been paid had the Consolidation been in effect for the periods presented
(assuming the Full Participation Scenario) are shown under "Pro Forma."
HISTORICAL AND PRO FORMA REIMBURSEMENTS AND DISTRIBUTIONS
TO THE GENERAL PARTNER AND ITS AFFILIATES
(IN THOUSANDS)
<TABLE>
<CAPTION>
FIRST QUARTER FISCAL YEAR
---------------------
1998 1997 1996 1995
------------- ----- ----- -----
<S> <C> <C> <C> <C>
Historical
Reimbursements $ -- $ 273 $ 250 $ 67
Distributions -- 227 15 51
------------- ----- ----- -----
Total Historical $ -- $ 500 $ 265 $ 118
============= ===== ===== =====
Pro Forma
Reimbursements $ -- $ -- $ -- $ --
Distributions attributable to
Units/(1)/ N/A N/A N/A N/A
------------- ----- ----- ------
Total Pro Forma $ -- $ -- $ -- $ --
============= ===== ===== ======
</TABLE>
_____________________
(1) The OP Units to be received by Host in connection with the REIT Conversion
will be equal to the number of shares of Host's outstanding common stock
and not allocated based upon their interests in any of the Partnerships,
including Desert Springs. Thus, the distributions received by Host and its
affiliates by way of their interests in the Partnerships, including Desert
Springs, cannot be determined on a pro forma basis.
CERTAIN INFORMATION REGARDING THE HOTEL OWNED BY DESERT SPRINGS
<TABLE>
<CAPTION>
Number of
Name of Hotel Location of Hotel Rooms Date Opened
- ------------- ----------------- --------- -----------
<S> <C> <C> <C>
Marriott's Desert Springs Resort and Spa Palm Desert, CA 884 1987
</TABLE>
The table below sets forth certain performance information for Desert
Springs' Hotel for the indicated periods.
<TABLE>
<CAPTION>
First Quarter Fiscal Year
--------------------- ---------------------------------
1998 1997 1997 1996 1995
--------- --------- --------- --------- ---------
<S> <C> <C> <C> <C> <C>
Average daily rate $236.40 $210.60 $169.55 $158.15 $150.34
Occupancy 82.20% 81.30% 73.00% 71.40% 68.90%
REVPAR $194.32 $171.22 $123.77 $112.92 $103.58
% REVPAR change 14.00% -- 9.60% 9.00% --
</TABLE>
Marriott's Desert Springs Resort and Spa is a full-service Marriott hotel
and, with the second golf course, is located on approximately 185 acres of land.
It is located approximately 11 miles from the Palm Springs Airport and two hours
east of Los Angeles.
The Hotel opened on February 2, 1987. The Hotel consists of 884 large
guest rooms including 65 luxury suites. Each room has a private balcony, mini-
bar and other deluxe accommodations. The Hotel has an 18-hole championship golf
course owned by the Partnership, with an additional 18-hole course which is
leased by the Partnership. Twenty-three acres of man-made lakes are
interspersed throughout the resort grounds and lower level of the Hotel's main
lobby. Boats depart from inside the main lobby and carry guests to the various
resort functions. There are a total of five outdoor pools divided between three
guest areas. The main guest pool area, the Oasis, was expanded during 1995 and
now has three pools and two spas, and the Spring Pool and Health Spa areas each
have one pool and one spa. The tennis complex includes a separate tennis pro
shop building, 20
Desert Springs Supp-14
<PAGE>
tennis courts of various surfaces and badminton and volleyball courts. The
health spa is housed in a separate one-story building. Within the health spa are
separate men's and women's facilities, lap pool, hot and cold plunge pools,
saunas, steam rooms, aerobics and exercise rooms, lounge and locker rooms. Food
and beverage services within the resort include four fine dining restaurants
that range from casual American to Japanese sushi and overlook the water.
Additionally, there are two grille/snack bars at the outdoor pools, two golf
club snack bars, lobby lounge, coffee bar and entertainment lounge. The 40,000
square foot lobby has an eight-story high view of the nearby mountains. The
Hotel has a three-story garage with parking for approximately 1,500 vehicles.
The meeting and exhibit spaces total 51,300 square feet of flexible space with
33 meeting rooms, including the 25,000 square foot "Desert" ballroom and the
21,000 square foot "Springs" ballroom.
Legal Proceedings
Texas Multi-Partnership Lawsuit. On March 16, 1998, limited partners in
several limited partnerships sponsored by Host filed a lawsuit, Robert M. Haas,
---------------
Sr. and Irwin Randolph Joint Tenants, et al. v. Marriott International, Inc., et
- --------------------------------------------------------------------------------
al, Case NO. CI-04092, in the 57th Judicial District Court of Bexar County,
- --
Texas, alleging that the defendants conspired to sell hotels to the partnerships
for inflated prices and that they charged the partnerships excessive management
fees to operate the partnerships' hotels. The plaintiffs further allege that the
Defendants committed fraud, breached fiduciary duties and violated the
provisions of various contracts. The plaintiffs are seeking unspecified damages.
Although the partnerships have not been named as defendants, their partnership
agreements include provisions which require the partnerships to indemnify the
general partners against losses, expenses and fees.
AMENDMENTS TO DESERT SPRINGS' PARTNERSHIP AGREEMENT
In order to allow the Hotel of Desert Springs to be leased to SLC in
connection with the Merger and the REIT Conversion, Desert Springs' partnership
agreement must be amended. Currently, there is no provision in Desert Springs'
partnership agreement to allow Desert Springs' Hotel to be leased. Therefore,
Section 5.02B of Desert Springs' partnership agreement must be amended to add a
new paragraph 5.02B(x) to read as follows:
(x) lease (or consent to the lease), directly or indirectly, in one transaction
or a series of related transactions, of the Hotel.
Other Amendments. Amendments to certain terms and sections of the Desert
----------------
Springs partnership agreement would be made in order to (i) reduce to one the
number of appraisals of the fair market value of Desert Springs' Hotel that
Desert Springs must provide to the Desert Springs Limited Partners before the
General Partner can cause the Desert Springs to sell its assets to the General
Partner or an affiliate, (ii) delete certain obsolete references to entities and
agreements that are no longer in existence, (iii) update the Desert Springs
partnership agreement to reflect the passage of time since the formation of
Desert Springs and (iv) make any other amendments to the Desert Springs
partnership agreement deemed necessary or advisable, in the sole discretion of
the General Partner, in connection with the consummation of the Mergers and the
REIT Conversion. The General Partner does not believe that these amendments
would affect the rights of the Desert Springs Limited Partners in any material
respect nor the duties and obligations of the General Partner. These changes are
included, along with the other proposed amendments, in the copy of Desert
Springs partnership agreement, as proposed to be amended, which is attached
hereto. The amended Desert Springs partnership agreement is marked to indicate
the revisions made to the existing Desert Springs partnership agreement and
should be read in its entirety. Deleted provisions are contained in brackets and
struck through and added provisions are in bold type and underlined.
The vote required for such amendments is a majority of the outstanding
limited partnership interests. The General Partner does not own limited
partnership interests in Desert Springs.
THE GENERAL PARTNER RECOMMENDS THAT DESERT SPRINGS LIMITED PARTNERS VOTE TO
APPROVE THE REQUESTED AMENDMENTS TO THE DESERT SPRINGS' PARTNERSHIP AGREEMENT.
FAIRNESS ANALYSIS AND OPINION
FAIRNESS ANALYSIS
The General Partner believes that the terms of the Merger provide
substantial benefits and are fair to the Limited Partners of Desert Springs and
recommends that all Limited Partners of Desert Springs consent to the Merger.
The General Partner bases this recommendation primarily on (i) its view that the
expected benefits of the Merger for the Desert Springs Limited Partners outweigh
the risks and potential detriments of the Merger to the Desert Springs Limited
Partners (see "Background and Reasons for the Mergers and the REIT Conversion --
Reasons for the Mergers" and "Risk Factors"), (ii) its view that the value of
the OP Units allocable to the Desert Springs Limited Partners on the basis of
the Exchange Value established for Desert Springs represents fair consideration
for the Partnership Interests held by the Desert Springs Limited Partners and is
fair to the Desert Springs Limited Partners from a financial point of view, and
(iii) the Fairness Opinion of AAA stating that (a) the methodologies and
underlying assumptions used to determine the Exchange Value, the Adjusted
Appraised Value, the Continuation Value and the Liquidation Value of Desert
Springs and each other Partnership, including, without limitation, the
assumptions used to determine the various adjustments to the Appraised Values of
the Hotels, are fair and reasonable, from a financial point of view, to the
Limited Partners of Desert Springs and each other Partnership and (b) the
methodologies used to determine the value of an OP Unit and to allocate the
equity interest in the Operating Partnership to be received by the Desert
Springs Limited Partners and the Limited Partners of each Partnerships are fair
and reasonable to the Desert Springs Limited Partners and the Limited Partners
of each other Partnership.
The Merger is not conditioned upon the consummation of the other Mergers.
The General Partner has considered this fact in evaluating the fairness of the
Merger. The General Partner believes that the fairness of the Merger will not
be materially affected by the presence or absence of any other individual
Partnership or by any particular combination of other Partnerships and that the
Merger will be fair to the Desert Springs Limited Partners, individually and as
a whole, if it is consummated with any combination of other Participating
Partnerships. The General Partner bases this belief primarily on the fact that
the consideration to be paid to the Desert Springs Limited Partners has been
established based upon Desert Springs' Exchange Value, without regard to any
possible combination of other Partnerships.
In reaching the conclusions implicit in the above recommendation, the
General Partner has taken into account the following considerations:
. The General Partner has concluded that the Exchange Value for Desert
Springs, which is equal to its Adjusted Appraised Value, represents
fair consideration for the Partnership Interests of the Desert Springs
Limited Partners in the Merger in relation to Desert Springs. The
General Partner also has concluded that the Exchange Value established
for the Desert Springs Limited Partners fairly reflects the value of
the assets held by Desert Springs. In addition, the Fairness Opinion
supports these conclusions.
. The General Partner has concluded that the potential benefits of the
Merger to the Desert Springs Limited Partners, as described under
"Background and Reasons for the Mergers and the REIT Conversion --
Reasons for the Mergers," outweigh the potential risks and detriments
of the Merger for the Desert Springs Limited Partners, as described in
"Risk Factors."
. The Fairness Opinion, in the view of the General Partner, supports the
fairness of the Merger, even though it includes qualifications,
limitations and assumptions relating to its scope and other factors
that Desert Springs Limited Partners should consider carefully.
. Host will contribute its wholly owned full-service hotel assets, its
interests in the Hotel Partnerships and its other assets (excluding
its senior living assets) to the Operating Partnership in exchange for
(i) a number of OP Units equal to the number of outstanding shares of
common stock of Host, (ii) preferred partnership interests in the
Operating Partnership corresponding to any shares of Host preferred
stock outstanding at the time of the REIT Conversion and (iii) the
assumption by the Operating Partnership of certain liabilities of
Host. Following these contributions, the Operating Partnership and its
subsidiaries will directly own all of Host's wholly-owned hotels and
all of Host's interests in the Hotel Partnerships and other assets.
Host REIT will not receive any compensation for its services as
general partner to the Operating Partnership following the REIT
Conversion and will benefit from the operations of the Operating
Partnership only to the extent of the distributions received based
upon its percentage interest in the Operating Partnership to the same
extent as the other limited partners. Because Host REIT will share in
the value of the Operating Partnership solely through distributions
and not through any separate compensation structure, the General
Partner believes that this is a factor supporting the fairness of the
Merger to the Desert Springs Limited Partners.
. The General Partner believes that the value of the consideration to be
received by the Desert Springs Limited Partners in the Merger is fair
in relation to the value which would be derived by such Limited
Partners under any of the alternatives described under "Background and
Reasons for the Mergers and the REIT Conversion -- Alternatives to the
Mergers," especially since the Exchange Value of Desert Springs is
equal to its Adjusted Appraised Value, which is the greatest of the
three values the Adjusted Appraised Value, the Continuation Value and
the Liquidation Value. The General Partner does not believe that the
sale of any of Desert Springs' Hotels and liquidation of Desert
Springs will obtain for Desert Springs Limited Partners as much value
as the value to be received by such Desert Springs Limited Partners
following the Merger. The General Partner believes that the following
benefits are of the greatest value and importance to the Desert
Springs Limited Partners:
Desert Springs Supp-15
<PAGE>
. Enhanced Liquidity. The Mergers and the REIT Conversion will
offer Desert Springs Limited Partners significantly enhanced
liquidity with respect to their investments in D esert Springs
because, after the expiration of the Initial Holding Period,
Desert Springs Limited Partners will be able to exercise their
Unit Redemption Right at any time, subject to certain limited
exceptions. Host has approximately 204 million shares of common
stock outstanding and the closing price on the NYSE on May 28,
1998 was $19.4375 per share (reflecting a total common equity
market capitalization of approximately $4 billion). The
exercise of the Unit Redemption Right, however, generally would
result in recognition of taxable income or gain at that time.
. Public Market Valuation. The General Partner believes that by
exchanging interests in which is a non-traded limited
partnership for interests in a publicly traded real estate
company focused primarily on a more diverse and growing full-
service hotel portfolio, the Desert Springs Limited Partners
will have the opportunity to participate in the recent trend of
ownership of real estate through a publicly traded entity,
which, in many instances, has resulted in market valuations of
public real estate companies in excess of the estimated net
asset values of those companies.
. Regular Quarterly Cash Distributions. The General Partner
expects that the Operating Partnership will make regular
quarterly cash distributions to holders of OP Units.
. Substantial Tax Deferral. The General Partner expects that
Desert Springs Limited Partners who do not elect to receive
Notes generally should be able to obtain the benefits of the
Merger while continuing to defer recognition for federal income
tax purposes of at least a substantial portion, if not all, of
the gain with respect to their Partnership Interests that
otherwise would be recognized in the event of a liquidation of
Desert Springs or a sale or other disposition of its assets in
a taxable transaction.
. The General Partner believes that the economic terms of the leases of
the Desert Springs Hotels are fair and reasonable from the standpoint
of the Operating Partnership.
The General Partner believes that the factors described above, which
support the fairness of the Merger to the Desert Springs Limited Partners, when
weighed against the factors that may be disadvantageous, taken as a whole,
indicate that the Merger is fair to the Desert Springs Limited Partners.
AAA, an independent financial advisory firm with substantial real estate
and partnership transaction experience, was engaged by the General Partner and
the other General Partners to perform the Appraisals and to render the Fairness
Opinion that (i) the methodologies and underlying assumptions used to determine
the Exchange Value, the Adjusted Appraised Value, the Continuation Value and the
Liquidation Value of Desert Springs and each other Partnership, including,
without limitation, the assumptions used to determine the various adjustments to
the Appraised Values of the Hotels, are fair and reasonable, from a financial
point of view, to the Desert Springs Limited Partners and the Limited Partners
of each other Partnership, and (ii) the methodologies used to determine the
value of an OP Unit and to allocate the equity in the Operating Partnership to
be received by the Desert Springs Limited Partners and the Limited Partners of
each Partnership are fair and reasonable to the Desert Springs Limited Partners
and the Limited Partners of each other Partnership. The Fairness Opinion is
addressed to each Partnership and it may be relied upon by each of the Desert
Springs Limited Partners and the Limited Partners of the other Partnerships.
The full text of the Fairness Opinion, which contains a description of the
assumptions and qualifications applicable to the review and analysis by AAA, is
set forth in Appendix B to the Consent Solicitation and should be read in its
entirety. The material assumptions and qualifications to the Fairness Opinion
are summarized below, although this summary does not purport to be a complete
description of the various inquiries and analyses undertaken by AAA in rendering
the Fairness Opinion. Arriving at a fairness opinion is a complex analytical
process not necessarily susceptible to partial analysis or amenable to summary
description. For a more complete description of the assumptions and
qualifications that limit the scope of the Fairness Opinion, see "Qualifications
to Fairness Opinion" and " Assumptions" below.
Although the General Partner advised AAA that certain assumptions were
appropriate in its view, the General Partner imposed no conditions or
limitations on the scope of the investigation by AAA or the methods and
procedures to be followed by AAA in rendering the Fairness Opinion. The fees
and expenses of AAA will be treated as a Merger Expense and will be paid by the
Operating Partnership. In addition, the General Partner has agreed to indemnify
AAA against certain liabilities. See "-- Compensation and Material
Relationships."
QUALIFICATIONS TO FAIRNESS OPINION. In the Fairness Opinion, AAA
specifically states that it did not: (a) specifically consider other
methodologies for allocation of the OP Units, (b) address or conclude that other
methodologies for allocation of the OP Units to the Desert Springs and the other
Partnerships might not have been more favorable to the Limited Partners in
certain of the Partnerships, (c) negotiate with Desert Springs, the other
Partnerships or Host, (d) participate in establishing the terms of the Merger
and the other Mergers, (e) provide an opinion as to the terms and conditions of
the Merger and the other Mergers other than those explicitly stated in the
Fairness Opinion, (f) make any independent review of the capital expenditure
estimates set forth in the Engineering Study, (g) make any estimates of Desert
Springs' and each other Partnership's contingent liabilities.
Desert Springs Supp-16
<PAGE>
In connection with preparing the Fairness Opinion, AAA was not engaged to,
and consequently did not, prepare any written report or compendium of its
analysis for internal or external use beyond the analysis set forth in Appendix
B. AAA will not deliver any additional written opinion of the analysis, other
than to update the written opinion if requested by the Operating Partnership.
EXPERIENCE OF AAA. AAA is the world's largest independent valuation
consulting firm and is regularly and continually engaged in the valuation of
commercial real estate and businesses and their securities in connection with
tender offers, mergers and acquisitions, recapitalizations and reorganizations,
divestitures, employee stock ownership plans, leveraged buyout plans, private
placements, limited partnerships, estate and corporate matters, other financial
advisory matters and other valuation purposes.
AAA was selected because of its experience in the valuation of businesses
and their securities in connection with tender offers, mergers and acquisitions,
recapitalizations and reorganizations, including transactions involving hotel
partnerships. In addition, Host and its affiliates have previously engaged AAA
to provide appraisals and fairness opinions in connection with other
transactions. The General Partner and the other General Partners considered
several other firms for purposes of performing the appraisals and rendering the
Fairness Opinion, but selected AAA for the foregoing reasons.
SUMMARY OF MATERIALS CONSIDERED AND INVESTIGATION UNDERTAKEN. As a basis
for rendering for Fairness Opinion, AAA has made such reviews, studies and
analyses as it deemed necessary and pertinent in order to provide it with a
reasonable basis for the Fairness Opinion, including, but not limited to, the
following: (i) reviewed the transaction documents and SEC reporting and/or
filing documents, including drafts of the Form S-4 for the Mergers; (ii)
provided the Market Value of each Hotel owned by each Partnership in a separate
short form appraisal report and each such report was reviewed and certified by
an MAI appraiser as to its preparation in accordance with the requirements of
the Standards of Professional Practice of the Appraisal Institute and the
Uniform Standards of Professional Appraisal Practice of the Appraisal
Foundation; as part of the Appraisals, AAA reviewed historical operating
statements, 1998 budget and year-to-date results, and other financial
information as it deemed necessary as a basis for the Fairness Opinion and the
Appraisals also considered market transactions of similar lodging properties as
appropriate as a basis for the Market Value of each Hotel; (iii) reviewed the
methodologies used by each of the General Partners in their determination of the
Exchange Value of each Partnership, including the nature and amount of all
adjustments to the Appraised Values in determining such Exchange Values; AAA
reviewed and tested for the fairness and reasonableness of all adjustments as
well as for consideration of all adjustments deemed to be appropriate by AAA;
(iv) reviewed the methodologies used by each of the General Partners in their
determination of the value of an OP Unit and the allocation of the equity
interest in the Operating Partnership to be received by the limited partners of
each Partnership, and AAA reviewed and tested for the fairness and
reasonableness of the methods and measurements made by the General Partners; (v)
reviewed the General Partners' determination of the Liquidation Value of each
Partnership, and AAA reviewed and tested for the fairness and reasonableness of
all adjustments proposed by the General Partners, as well as for consideration
of all adjustments deemed appropriate by AAA; (vi) provided an estimate of the
Continuation Value of each Partnership based upon the estimated present value of
expected benefits to be received by each limited partner interest as though the
Mergers did not occur and each Partnership's assets were sold within a twelve
year period; AAA, as part of its analysis and review, determined appropriate
rates of growth in house profit or net operating income, as well as reviewed
other key variables affecting partnership cash flows and other
economic/financial factors affecting the Partnerships' expected operations and
results;(vii) reviewed the terms of the ground leases of the Hotels and the
partnership agreement of each Partnership; (viii) reviewed audited and unaudited
historical income statements, balance sheets and statements of sources and uses
of funds of each Partnership and Host and pro forma financial information for
Host REIT; (ix) reviewed audited and unaudited historical operating statements
of each Hotel, as well as current operating statements and budgets; (x)
conducted real estate valuation and financial due diligence with respect to the
Partnerships and their underlying assets, liabilities and equity; (xi) reviewed
internal Marriott International, Host and Partnership financial analyses and
other internally generated data for each Hotel; and (xii) discussed all of the
foregoing information, where appropriate, with management of Marriott
International, Host and the Partnerships, and their respective employees.
ASSUMPTIONS. In rendering its opinion, AAA relied, without independent
verification, on the accuracy and completeness in all material respects of
certain relevant publicly available information and information provided to AAA
by the Host and the Hotels. AAA assumed that all information furnished by Host,
the Hotels and the Partnerships and their representatives, upon which AAA
relied, presented and accurate description in all material respects of the
current and prospective status of the Hotels and the Partnerships from an
operational and financial point of view. AAA also noted that the Fairness
Opinion was based upon financial, economic, market and other considerations as
they existed and could be evaluated on the date thereof.
CONCLUSIONS. AAA concluded that, based upon and subject to its analysis
and assumptions and limiting conditions, and as of the date of the Fairness
Opinion: (i) the methodologies used to determine the Exchange Value, the
Adjusted Appraised Value, the Continuation Value and the Liquidation Value each
Partnership, including, without limitation, the assumptions used to determine
the various adjustments to the Appraised Values of each of the Hotels, are fair
and reasonable, from a financial point of view, to the Desert Springs Limited
Partners and the Limited Partners of each Partnership, and (ii) the
methodologies used to determine the value of an OP Unit and to allocate the
equity interest in the Operating Partnership to be received by the Desert
Springs Limited Partners and the Limited Partners of each Partnership are fair
and reasonable to the Limited Partners of each Partnership.
COMPENSATION AND MATERIAL RELATIONSHIPS. AAA has been paid a fee of
$________ for its services as described herein, including the Appraisals and
preparing to deliver the Fairness Opinion. In addition, AAA will be reimbursed
for all reasonable out-of-pocket expenses, including legal fees, and will be
indemnified against certain liabilities, including certain liabilities under the
securities laws. The fee was negotiated between Host, the General Partners and
AAA. Payment of the fee to AAA is not dependent upon completion of the Mergers.
AAA has been previously engaged by Host and its affiliates to provide fairness
opinions in connection with other transactions.
VOTING PROCEDURES
The consent of Limited Partners holding more than 50% of the outstanding
limited partnership interests constituting a quorum is required for
participation in the Merger. A majority of limited partnership interests held
by Limited Partners constitutes a quorum.
A Desert Springs Limited Partner may mark the Consent Form to vote "FOR,"
"AGAINST" or "ABSTAIN" with respect to participation in the Merger by Desert
Springs. THE FAILURE OF A LIMITED PARTNER OF DESERT SPRINGS TO VOTE WILL MEAN
THAT SUCH LIMITED PARTNER'S PARTNERSHIP INTEREST WILL NOT BE COUNTED FOR
PURPOSES OF ESTABLISHING A QUORUM AND WILL NOT AFFECT THE MANNER IN WHICH HOST
IS REQUIRED TO VOTE ITS LIMITED PARTNERSHIP INTERESTS. AN ABSTENTION OF A
DESERT SPRINGS LIMITED PARTNERS WILL BE COUNTED FOR PURPOSES OF ESTABLISHING A
QUOROM BUT WILL EFFECTIVELY BE COUNTED AS A VOTE "AGAINST" THE MERGER. A CONSENT
FORM THAT IS PROPERLY SIGNED BUT NOT MARKED WILL BE VOTED FOR THE MERGER. The
voting procedures applicable to Desert Springs Limited Partners are set forth in
the Consent Solicitation under the heading "Voting Procedures -- Required Vote
and Other Conditions."
FEDERAL INCOME TAX CONSIDERATIONS
In addition to the federal income tax considerations discussed in the sections
of the Consent Solicitation entitled "Federal Income Tax Considerations" and
"Risk Factors -- Federal Income Tax Risks," Desert Springs Limited Partners
should read carefully the following discussion of federal income tax
considerations applicable specifically to the Desert Springs Limited Partners.
The information included in this discussion is based upon various factual
assumptions and information which are believed by the Operating Partnership and
the General Partner to be reliable. However, some of these assumptions
inevitably will not materialize, and unanticipated events and circumstances will
occur. Therefore, there likely will be differences between the information
provided herein, including the numerical data and estimates, and actual results,
and the variations may be material and adverse.
Desert Springs Supp-17
<PAGE>
APPLICABILITY OF TAX OPINIONS
Hogan & Hartson L.L.P. ("Hogan & Hartson"), counsel to Host REIT, Host and the
Operating Partnership, has provided to Host REIT and the Operating Partnership
an opinion letter (substantially in the form of Appendix C to the Consent
Solicitation) as to certain federal income tax consequences to the Operating
Partnership and the Desert Springs Limited Partners resulting from the Mergers
and the REIT Conversion. The opinion letter is based upon certain assumptions
and certain representations provided by Host REIT, Host, the Operating
Partnership and the General Partners. These representations generally involve
factual matters relating to the organization, ownership and operations
(including the income, assets, businesses, liabilities and properties) of the
Partnerships and Hotels contributed to the Operating Partnership by Host and the
Blackstone Entities prior to the Mergers and of Host REIT, the Operating
Partnership and the Hotel Partnerships following the Mergers and the REIT
Conversion. In addition, on the Closing Date, Hogan & Hartson expects to
provide to Host REIT and the Operating Partnership an opinion letter
(substantially in the form of Appendix D to the Consent Solicitation) as to the
qualification and taxation of Host REIT as a REIT under the Code following the
REIT Conversion. See "Federal Income Tax Considerations -- Summary of Tax
Opinions" in the Consent Solicitation.
Each opinion provided by Hogan & Hartson in the opinion letter that is
substantially in the form of Appendix C to the Consent Solicitation is
applicable to the Desert Springs Limited Partners.
The opinions already rendered by Hogan & Hartson are based on the Code and
Treasury Regulations in effect on the date hereof, current administrative
interpretations and positions of the IRS and existing court decisions, and the
opinions to be rendered by Hogan & Hartson on the Closing Date will be based on
the same authorities as of the Closing Date. No assurance can be given that
future legislation, Treasury Regulations, administrative interpretations and
court decisions will not significantly change the law or the above conclusions
reached by counsel. In addition, any such change could apply retroactively to
transactions preceding the date of change. Moreover, opinions of counsel merely
represent counsel's best judgment with respect to the probable outcome on the
merits and are not binding on the IRS or the courts. Accordingly, even if there
is no change in applicable law, no assurance can be provided that such opinions
(which do not bind the IRS or the courts) will not be challenged by the IRS or
will be sustained by a court if so challenged. With the one exception described
below (see " -- Tax Consequences of the Merger -- Deemed Cash Distribution and
Resulting Taxable Gain") and in the Consent Solicitation under "Federal Income
Tax Considerations -- Tax Consequences of the Mergers -- IRS Ruling Request
Regarding Allocation of Partnership Liabilities," neither Host REIT, the
Operating Partnership nor the General Partners have requested or plan to request
any rulings from the IRS concerning the tax consequences of the Mergers or the
treatment of either the Operating Partnership or Host REIT subsequent to the
REIT Conversion.
TAX CONSEQUENCES OF THE MERGER
Overview. Hogan & Hartson has provided an opinion to the effect that the
--------
Merger will not result in the recognition of taxable gain or loss at the time of
the Merger to a Desert Springs Limited Partner (i) who does not exercise his
Unit Redemption Right on a date sooner than the date two years after the date of
the consummation of the Merger; (ii) who does not receive a cash distribution
(or a deemed cash distribution resulting from relief from liabilities, including
as a result of any repayment of the GMAC Senior Loan or the Goldman Sachs
Mezzanine Loan) in connection with the Merger or the REIT Conversion in excess
of his aggregate adjusted basis in his Desert Springs Partnership Units at the
time of the Merger; (iii) who does not elect to receive a Note in exchange for
his OP Units in connection with the Merger (the "Note Election"); (iv) who is
not required to recognize gain by reason of the exercise by another Desert
Springs Limited Partner of his right to make the Note Election (which, in
counsel's opinion, described below, should not be the result of such election);
and (v) who does not have his "at risk" amount fall below zero as a result of
the Merger or the REIT Conversion. See "Federal Income Tax Considerations --
Summary of Tax Opinions" in the Consent Solicitation.
With respect to the foregoing exceptions to nonrecognition treatment, the
Operating Partnership and the General Partner believe as follows: (i) a Desert
Springs Limited Partner who acquired his Desert Springs Partnership Units in the
original offering of such Partnership Units and who has held such
Desert Springs Supp-18
<PAGE>
Partnership Units at all times since would not be considered to receive, as a
result of the Merger, a distribution (or a deemed cash distribution resulting
from relief from liabilities) that exceeds his aggregate adjusted basis in his
Desert Springs Partnership Units at the time of the Merger, and would not have
his "at risk" amount fall below zero as a result of the Merger (in this regard,
the Operating Partnership has no plan to prepay or repay either the GMAC Senior
Loan or the Goldman Sachs Mezzanine Loan in connection with the REIT
Conversion), and (ii) none of the personal property owned by Desert Springs will
need to be sold to a Non-Controlled Subsidiary in connection with the REIT
Conversion. See "Federal Income Tax Considerations -- Tax Consequences of the
Mergers -- Overview" in the Consent Solicitation.
With respect to the effects of a Desert Springs Limited Partner's election to
receive a Note in exchange for his OP Units in connection with the Merger, Hogan
& Hartson is of the opinion that, although the matter is not free from doubt, a
Desert Springs Limited Partner who does not elect to receive a Note in
connection with the Merger should not be required to recognize gain by reason of
another Desert Springs Limited Partner's exercise of such right. With respect
to the exercise of a Unit Redemption Right, Hogan & Hartson is of the opinion
that it is more likely than not that a Desert Springs Limited Partner's exercise
of his Unit Redemption Right more than one year after the date of consummation
of the Merger but less than two years after such date will not cause the Merger
itself to be a taxable transaction for the Desert Springs Limited Partner (or
the other Desert Springs Limited Partners). See "Federal Income Tax
Considerations -- Summary of Tax Opinions" in the Consent Solicitation.
Opinions of counsel, however, do not bind the IRS or the courts, and no
assurances can be provided that such opinions will not be challenged by the IRS
or will be sustained by a court if so challenged.
Deemed Cash Distribution and Resulting Taxable Gain. With respect to his
---------------------------------------------------
Desert Springs Partnership Units, a Desert Springs Limited Partner will receive
no actual cash distribution in connection with the Merger but would be deemed to
receive a cash distribution in connection with the Merger to the extent that his
share of Operating Partnership liabilities immediately after the Merger and the
REIT Conversion is less than his share of Desert Springs liabilities immediately
prior to the Merger. For example, any repayment of the GMAC Senior Loan or the
Goldman Sachs Mezzanine Loan or debt encumbering other Hotels may result in a
deemed cash distribution to the Desert Springs Limited Partners. See "Federal
Income Tax Considerations -- Tax Consequences of the Mergers -- Relief from
Liabilities/Deemed Cash Distribution" in the Consent Solicitation. Even though
the GMAC Senior Loan, the Goldman Sachs Mezzanine Loan and the debt encumbering
other Hotels is not expected to be repaid or refinanced in connection with the
Merger and the REIT Conversion, a Desert Springs Limited Partner's share of
indebtedness following the Merger and the REIT Conversion may nonetheless
decrease in comparison to the Limited Partner's estimated aggregate share of
Desert Springs indebtedness as of December 31, 1998 (calculated based on the
assumption that the Merger did not occur) by reason of the manner in which the
debt allocation rules work when multiple assets with different levels of
leverage are consolidated into a single partnership.
A Desert Springs Limited Partner, however, would recognize taxable gain as a
result of any deemed cash distribution only to the extent that the deemed cash
distribution were to exceed his adjusted tax basis in his Desert Springs
Partnership Units immediately prior to the Merger. As noted above, the
Operating Partnership and the General Partner believe, based upon and subject to
the assumptions and other limitations described below, that a Desert Springs
Limited Partner who acquired his Desert Springs Partnership Units in the
original offering of such Partnership Units and has held the Partnership Units
at all times since the offering will have an adjusted tax basis in excess of the
deemed cash distribution that might occur in connection with the Merger and the
REIT Conversion. Therefore, such a Desert Springs Limited Partner should not
recognize gain due to such deemed cash distribution resulting from the relief
from liabilities in connection with the Merger and the REIT Conversion.
The adjusted tax basis of a Desert Springs Limited Partner who did not acquire
his Desert Springs Partnership Units in the original offering of such
Partnership Units or who has not held his Desert Springs Partnership Units at
all times since such offering could vary materially from that of a Desert
Springs Limited Partner who did so. If a Desert Springs Limited Partner has an
adjusted tax basis in his Desert Springs Partnership Units (per Desert Springs
Partnership Unit) that is substantially less than the adjusted
Desert Springs Supp-19
<PAGE>
tax basis of a Desert Springs Limited Partner who acquired his Desert Springs
Partnership Units in the original offering of such Partnership Units and has
held such Partnership Units at all times since, he could (although it is
unlikely) recognize gain due to any deemed cash distribution resulting from the
relief from liabilities in connection with the Merger and the REIT Conversion.
The Operating Partnership has no current plan or intention to cause the
prepayment of the GMAC Senior Loan or the Goldman Sachs Mezzanine Loan or,
except as described in the Consent Solicitation, any of the nonrecourse
liabilities encumbering the Hotels owned by the other Partnerships. The
Operating Partnership, however, will have to repay mortgage indebtedness
securing the Hotels owned by the Partnerships at the time such indebtedness
matures. There can be no assurance that at such time the Operating Partnership
will be able to secure nonrecourse mortgage indebtedness secured only by those
Hotels in an amount sufficient to avoid a deemed cash distribution to the former
Limited Partners in those Partnerships, including Desert Springs. Moreover, the
Operating Partnership's current long-term financing strategy is to have as
little debt as possible that is secured by individual Hotels and to have as much
debt as possible in the form of unsecured debt, held either by the public or by
institutional investors, which debt may or may not be recourse to Host REIT, as
general partner of the Operating Partnership. In view of these considerations
and the potential adverse consequences to Limited Partners in certain
Partnerships, including the Desert Springs Limited Partners, the Operating
Partnership has requested from the IRS a ruling to the effect that such
unsecured indebtedness of the Operating Partnership that is issued initially to
institutional investors and is not recourse to Host REIT (i) would qualify as
"nonrecourse liabilities" for purposes of Code Section 752, (ii) to the extent
the proceeds thereof are applied to repay existing nonrecourse mortgage
indebtedness secured by one or more Hotels (including the GMAC Senior Loan or
the Goldman Sachs Mezzanine Loan), would be considered to be "secured" by those
Hotels for purposes of allocating the liabilities for tax basis purposes (and
thus would be allocable, at least in substantial part, to the former Limited
Partners in the Partnership owning those Hotels, including the Desert Springs
Limited Partners), and (iii) would constitute "qualified nonrecourse financing"
secured by such Hotels for purposes of Code Section 465. The IRS has recently
issued a ruling to that effect to another taxpayer, and has indicated to the
Operating Partnership's representatives that it is favorably inclined to issue
that ruling to the Operating Partnership.
Each Desert Springs Limited Partner will gradually begin to recognize income
over the term of his ownership of OP Units (beginning, perhaps, in his first
year of ownership of OP Units) attributable to deemed cash distributions
resulting from the relief from liabilities, as the aggregate principal amount of
nonrecourse indebtedness encumbering (or deemed to encumber) the Hotel amortizes
in accordance with its terms. The Operating Partnership will make regular
quarterly cash distributions to the Desert Springs Limited Partners that may or
may not be sufficient to allow the Desert Springs Limited Partners to pay the
federal and state income tax owed on the income allocated to such Limited
Partners by reason of the amortization of the debt secured by the Desert Springs
Hotel.
Even if Desert Springs does not participate in the Merger, the General Partner
has estimated that the Desert Springs Limited Partners will be required to
recognize in taxable year 1998 income of approximately $1,700 per Desert Springs
Partnership Unit, as of December 31, 1998 resulting, in part, from the
amortization of the GMAC Senior Loan and the Goldman Sachs Mezzanine Loan.
Section 465(e) Recapture. As discussed in the Consent Solicitation, see
------------------------
"Federal Income Tax Considerations -- Tax Consequences of the Mergers -- Section
465(e) Recapture," the "at risk" rules of Section 465 of the Code generally
apply to limit the use of partnership losses by a partner. Under Section 465(e)
of the Code, a partner may be required to include in gross income, or
"recapture," losses previously allowed to such partner with respect to his
investment in a partnership if the amount for which the partner is "at risk" in
relation to his investment in the partnership is less than zero at the close of
the taxable year.
It is possible that the consummation of the Merger and the REIT Conversion or
the repayment of certain "qualified nonrecourse financing" of the Operating
Partnership, the Hotel Partnerships or the Hotels contributed to the Operating
Partnership by the Blackstone Entities at the time of or following the Merger
and the REIT Conversion could, singularly or in combination, cause a Desert
Springs Limited Partner's
Desert Springs Supp-20
<PAGE>
amount at risk in relation to his investment in Desert Springs (and, after the
Merger, in the Operating Partnership) to be reduced below zero, resulting in an
income inclusion to the Limited Partner under Section 465(e) of the Code.
Currently, a sufficient portion of the current debt of Desert Springs
constitutes "qualified nonrecourse financing" so that the Desert Springs Limited
Partners have positive at risk amounts, and the Operating Partnership expects
that most of the current debt with respect to the other Hotel Partnerships and
the Hotels contributed by the Blackstone Entities that will be assumed by the
Operating Partnership as part of the Merger and the REIT Conversion should
qualify as "qualified nonrecourse financing." The Operating Partnership and the
General Partner believe, based upon and subject to the assumptions and other
limitations described below, that a Desert Springs Limited Partner who acquired
his Desert Springs Partnership Units in the original offering of such
Partnership Units and has held the Partnership Units at all times since will
have a positive at risk amount immediately following the Merger and the REIT
Conversion.
It is possible, however, that a former Desert Springs Limited Partner's at
risk amount could decline in the future, either because of the allocation of
losses from the Operating Partnership to that former Desert Springs Limited
Partner or because of cash distributions by the Operating Partnership to that
former Desert Springs Limited Partner in excess of the taxable income allocable
to him with respect to his OP Units. Moreover, there can be no assurance that
debt incurred by the Operating Partnership in the future to refinance the GMAC
Senior Loan, the Goldman Sachs Mezzanine Loan or outstanding mortgage debt of
the other Hotel Partnerships or the Hotels contributed by the Blackstone
Entities will qualify as "qualified nonrecourse financing." If, however, the
Operating Partnership were to obtain the requested ruling from the IRS, and were
to refinance existing mortgage indebtedness of the Partnerships with the type of
indebtedness described in the ruling, such indebtedness should constitute
"qualified nonrecourse financing" for purposes of the "at risk" rules.
Impact of Assumption of Desert Springs Liabilities by the Operating
-------------------------------------------------------------------
Partnership. As described in the Consent Solicitation, see "Federal Income Tax
- -----------
Considerations -- Tax Consequences of the Mergers -- Disguised Sale
Regulations," a Desert Springs Limited Partner will recognize gain to the extent
he is treated as having sold all or part of his Desert Springs Partnership
Interest in a "disguised sale." For purposes of these rules, certain reductions
in a partner's share of partnership liabilities are treated as a transfer of
money or other property from the partnership to the partner which may give rise
to a disguised sale, even if that reduction would not otherwise result in a
taxable deemed cash distribution in excess of the partner's basis in his
partnership interest. However, if a transfer of property by a partner to a
partnership is not otherwise treated as part of a disguised sale, then any
reduction in the partner's share of "qualified liabilities" also will not be
treated as part of a disguised sale. A "qualified liability" in connection with
a transfer of property to a partnership includes (i) any liability incurred more
than two years prior to the earlier of the transfer of the property or the date
the partner agrees in writing to the transfer, as long as the liability has
encumbered the transferred property throughout the two-year period; (ii) a
liability that was not incurred in anticipation of the transfer of the property
to a partnership, but that was incurred by the partner within the two-year
period prior to the earlier of the date the partner agrees in writing to
transfer the property or the date the partner transfers the property to a
partnership and that has encumbered the transferred property since it was
incurred; (iii) a liability that is traceable under the Treasury Regulations to
capital expenditures with respect to the property; and (iv) a liability that was
incurred in the ordinary course of the trade or business in which property
transferred to the partnership was used or held, but only if all the assets
related to that trade or business are transferred, other than assets that are
not material to a continuation of the trade or business. However, a recourse
liability is not a "qualified liability" unless the amount of the liability does
not exceed the fair market value of the transferred property (less any other
liabilities that are senior in priority and encumber such property or any
allocable liabilities described in (iii) or (iv), above) at the time of
transfer.
The General Partner believes that all liabilities of Desert Springs fall into
one of the four categories of "qualified liabilities" described in the preceding
paragraph. However, the General Partner estimates that approximately
$19.3 million of Desert Springs indebtedness ($22,200 per $100,000 original
investment in Desert Springs), as of December 31, 1998, may be "qualified
liabilities" solely by reason of exception (ii) in the preceding paragraph
(i.e., a liability incurred within two years of the Merger but not in
anticipation of
Desert Springs Supp-21
<PAGE>
the Merger) and, thus, Desert Springs and the Desert Springs Limited Partners
will be required to disclose such indebtedness on a completed IRS Form 8275 or
on a statement attached to their tax returns for the taxable year in which the
Merger occur. There can be no assurance, however, that the IRS will not
challenge the position of Desert Springs that this indebtedness is a "qualified
liability."
TAX TREATMENT OF DESERT SPRINGS LIMITED PARTNERS WHO HOLD OP UNITS FOLLOWING
THE MERGER
Initial Basis in Units. In general, a Desert Springs Limited Partner will
----------------------
have an initial tax basis in his OP Units received in the Merger with respect to
his Desert Springs Partnership Units equal to the basis in his Desert Springs
Partnership Units at the time of the Merger, reduced to reflect any deemed cash
distributions resulting from a reduction in his share of Desert Springs
liabilities and increased to reflect his share of other liabilities of the
Operating Partnership and any gain required to be recognized in connection with
the Merger and the REIT Conversion. For a discussion of the federal income tax
considerations for a Desert Springs Limited Partner from a reduction in basis
that may result from the Merger and the REIT Conversion, see "Federal Income Tax
Considerations -- Tax Treatment of Limited Partners Who Hold OP Units Following
the Mergers -- Initial Tax Basis of OP Units" in the Consent Solicitation.
Tax Allocations with Respect to Contributed Hotel upon a Sale of Desert
-----------------------------------------------------------------------
Springs Hotel. Pursuant to Section 704(c) of the Code, income, gain, loss and
- -------------
deduction attributable to appreciated or depreciated property that is
contributed to a partnership must be allocated for federal income tax purposes
in a manner such that the contributor is charged with, or benefits from, the
unrealized gain or unrealized loss associated with the property at the time of
contribution. The amount of such unrealized gain or unrealized loss is
generally equal to the difference between the fair market value of the
contributed property at the time of contribution and the adjusted tax basis of
such property at the time of contribution (referred to as the "Book-Tax
Difference"). The Operating Partnership and the General Partner estimate, based
upon and subject to the assumptions and other limitations described below, that
the aggregate Book-Tax Difference with respect to the Desert Springs Hotel will
be $________ upon the consummation of the Merger.
If the Operating Partnership were to sell the Desert Springs Hotel, the former
partners of Desert Springs (including Host REIT with respect to Host's interest
in Desert Springs held through the General Partner) would be specially allocated
by the Operating Partnership an aggregate amount of taxable gain equal to the
Book-Tax Difference with respect to the Desert Springs Hotel ($ ______ in the
aggregate if the Desert Springs Hotel were sold immediately after the
consummation of the Merger, according to the estimate in the previous
paragraph). The share of such gain allocable to a Desert Springs Limited
Partner who acquired his Desert Springs Partnership Units in the original
offering of such Partnership Units and held such Partnership Units at all times
since would be $_____ per Desert Springs Partnership Unit for a Limited Partner
who acquired his Partnership Units for cash, and $_____ per Desert Springs
Partnership Unit for a Limited Partner who acquired his Partnership Units
pursuant to the installment purchase plan. The share of such gain of a Desert
Springs Limited Partner who did not acquire his Desert Springs Partnership Units
in the original offering of such Partnership Units or who has not held his
Desert Springs Partnership Units at all times since such offering could vary
materially from this amount. If the Operating Partnership were to sell the
Desert Springs Hotel, the remaining Book-Tax Difference at the time the Hotel is
sold would be required to be allocated exclusively to the former Desert Springs
Limited Partners and the General Partner, even though the proceeds of such sale
would be allocated proportionately among all the partners in the Operating
Partnership (and would likely be retained by the Operating Partnership, rather
than distributed to holders of OP Units and Common Shares of Host REIT). The
Desert Springs Limited Partners would not be entitled to any special
distributions from the Operating Partnership in connection with such a sale, and
thus would not necessarily receive cash distributions from the Operating
Partnership sufficient to pay such additional taxes. Although the Partnership
Agreement does not impose any restrictions upon the Operating Partnership
preventing it from causing the sale of the Desert Springs Hotel at any time
following the Merger, the Operating Partnership does not have current plans to
pursue a sale of the Desert Springs Hotel. See "Federal Income Tax
Considerations -- Tax Treatment of Limited Partners Who Hold OP Units Following
the Mergers -- Sale of Individual Hotels" in the Consent Solicitation.
Desert Springs Supp-22
<PAGE>
Tax Allocations with Respect to Contributed Hotel Generally. The tax
-----------------------------------------------------------
allocations of depreciation to the Desert Springs Limited Partners may change
significantly as a result of the Merger and the REIT Conversion for two reasons.
First, as described above, pursuant to Section 704(c) of the Code, depreciation
and deductions attributable to the Desert Springs Hotel will be required to be
allocated for federal income tax purposes in a manner such that the Desert
Springs Limited Partners are charged with the Book-Tax Difference associated
with the Desert Springs Hotel at the time of the consummation of the Merger.
Consequently, a Desert Springs Limited Partner will be allocated less
depreciation with respect to the Desert Springs Hotel than would be the case if
the Merger had not occurred and the Desert Springs Limited Partner had continued
to hold his Desert Springs Partnership Units. (On the other hand, a former
Desert Springs Limited Partner will be allocated depreciation with respect to
other Hotels acquired by the Operating Partnership in connection with the Merger
and the REIT Conversion, including the Hotels owned by the other Hotel
Partnerships and the Hotels being contributed to the Operating Partnership by
Host and the Blackstone Entities in connection with the Merger and the REIT
Conversion.) Second, the Merger will cause the technical termination under
Section 708(b)(1)(B) of the Code of Desert Springs and each of the other Hotel
Partnerships that participates in the Merger. Section 168(i)(7) of the Code
provides, in effect, that when a partnership terminates under Section
708(b)(1)(B) of the Code, the partnership must begin new depreciation periods
for its property. As a result, the remaining bases of the real estate
components of the Desert Springs Hotel and the Hotels held by the other Hotel
Partnerships will be depreciated over 39 years, rather than over the remaining
current lives of such Hotels (which range from less than one year to 39 years).
See "Federal Income Tax Considerations -- Tax Treatment of Limited Partners Who
Hold OP Units Following the Mergers -- Effect of Mergers on Depreciation" in the
Consent Solicitation.
In light of the complexity of the governing rules affecting the calculation
and allocation of depreciation with respect to properties contributed to a
partnership, particularly when a number of those properties are subject to the
separate adjustments required in connection with a technical termination under
Section 708 of the Code, the number of Hotels that the Operating Partnership
will be acquiring in connection with the Mergers and the REIT Conversion, and
the impact on these calculations of other outside events, including equity
offerings by Host or Host REIT and other acquisitions undertaken by Host, Host
REIT or the Operating Partnership prior to or in connection with the REIT
Conversion, the Operating Partnership and the General Partner believe that it is
impossible to predict with any degree of precision the impact that the Mergers
and the REIT Conversion will have on the future depreciation (and, consequently,
the amount of taxable income) allocable to a Desert Springs Limited Partner.
Impact on Passive Activity Losses of an Investment in a Publicly Traded
-----------------------------------------------------------------------
Partnership. The passive loss limitation rules generally provide that
- -----------
individuals, estates, trusts and certain closely held corporations and personal
service corporations can only deduct losses from passive activities (generally
activities in which the taxpayer does not materially participate, which would
include the Operating Partnership for Desert Springs Limited Partners) to the
extent that such losses are not in excess of the taxpayer's income from passive
activities or investments. A Desert Springs Limited Partner would be able to
offset losses from other passive activities against income from the Operating
Partnership that is considered passive income (but not portfolio income) so long
as the Operating Partnership is not treated as a publicly traded partnership.
The Operating Partnership and the General Partner believe, however, that there
is a substantial risk that the Operating Partnership will be treated as a
publicly traded partnership for purposes of the passive loss limitation rules.
In this event, any losses or deductions of the Operating Partnership allocable
to a Desert Springs Limited Partner after the Merger could not be used to offset
passive income from other passive activities. Similarly, losses from other
passive activities (including losses attributable to Desert Springs for periods
prior to the Merger) could not be applied to offset income of the Operating
Partnership allocated to a Desert Springs Limited Partner. A Desert Springs
Limited Partner, however, would be able to offset any passive losses from his
investment in Desert Springs (or other investments) against any gain recognized
by the Desert Springs Limited Partner as a result of the Merger. The Operating
Partnership and the Desert Springs General Partner estimate that, as of December
31, 1998, a Desert Springs Limited Partner who purchased his Desert Springs
Partnership Units at the time of the original offering, has held those
Partnership Units continuously since that time, and whose Partnership Units have
been his only investment in a passive activity would have a passive activity
loss carryforward of approximately $5,217, on a per Unit
Desert Springs Supp-23
<PAGE>
basis, if such Partnership Units were acquired for cash, and $12,286, on a per
Unit basis, if such Partnership Units were acquired on the installment purchase
plan.
State and Local Taxes. Desert Springs Limited Partners holding OP Units will
---------------------
be subject to state and local taxation in a number of jurisdictions in which the
Operating Partnership directly or indirectly holds real property and would be
required to file periodic tax returns in those jurisdictions. In this regard,
immediately following the Merger and the REIT Conversion, the Operating
Partnership expects that it will own properties in approximately 28 states
across the United States and the District of Columbia. Currently, Desert Springs
owns property in only one state. See "Federal Income Tax Considerations-- Tax
Treatment of Limited Partners Who Hold OP Units Following the Merger -- State
and Local Taxes" in the Consent Solicitation.
ASSUMPTIONS USED IN DETERMINING TAX CONSEQUENCES OF THE MERGER
In preparing the discussion set forth above, the Operating Partnership and the
General Partner made several key assumptions, which are described below. If any
such assumption is not accurate with respect to a particular Desert Springs
Limited Partner, the tax consequences of the Merger to such Desert Springs
Limited Partner could be substantially different from those reflected above.
ACCORDINGLY, EACH DESERT SPRINGS LIMITED PARTNER IS STRONGLY URGED TO CONSULT
WITH HIS OWN TAX ADVISOR TO DETERMINE THE IMPACT OF SUCH DESERT SPRINGS LIMITED
PARTNER'S PARTICULAR TAX SITUATION ON THE ANTICIPATED TAX CONSEQUENCES OF
PARTICIPATING IN THE MERGER.
First, with respect to a Desert Springs Limited Partner's basis in his Desert
Springs Partnership Units prior to the Merger, the Operating Partnership and the
Desert Springs General Partner assumed that a Desert Springs Limited Partner
acquired his Desert Springs Partnership Units in the original offering of such
Partnership Units and has held such Partnership Units at all times since the
offering (the "Original Limited Partner's Adjusted Basis"). In general, each
Desert Springs Limited Partner had an initial tax basis in his Desert Springs
Partnership Units ("Initial Basis") equal to his cash investment in Desert
Springs (plus his proportionate share of Desert Spring's nonrecourse liabilities
at the time he acquired his Desert Springs Partnership Units). A Desert Springs
Limited Partner's Initial Basis generally has been increased by (a) such Limited
Partner's share of Desert Springs taxable income and (b) any increases in his or
her share of liabilities of Desert Springs. Generally, such Limited Partner's
Initial Basis has been decreased (but not below zero) by (i) his share of Desert
Springs cash distributions, (ii) any decreases in his share of liabilities of
Desert Springs, (iii) his share of losses of Desert Springs and (iv) his share
of nondeductible expenditures of Desert Springs that are not chargeable to
capital. Because "syndication costs" are chargeable to capital and not
deductible for tax purposes, a Desert Springs Limited Partner's basis in his
Desert Springs Partnership Units effectively would include his share of the
syndication costs incurred by Desert Springs at formation.
The General Partner has set forth on Appendix E to the Consent Solicitation
for Desert Springs (i) the Original Limited Partner's Adjusted Basis as of
December 31, 1997 for each such Desert Springs Limited Partner, and (ii) an
estimate of such Desert Springs Limited Partner's Original Limited Partner's
Adjusted Basis as of December 31, 1998 (computed without regard to the Merger
and based upon the assumptions set forth in Appendix C to the Consent
Solicitation). The General Partner also has set forth on Appendix E to the
Consent Solicitation for each Desert Springs Limited Partner whose adjusted
basis in his Desert Springs Partnership Interest is the same as the Original
Limited Partner's Adjusted Basis (i) the Desert Springs liabilities allocable to
such Desert Springs Limited Partner as of December 31, 1997, and (ii) an
estimate of the Desert Springs liabilities allocable to such Limited Partner as
of December 31, 1998 (computed without regard to the Merger and based upon the
assumptions set forth in Appendix C to the Consent Solicitation). Each of these
estimates is shown separately for those Desert Springs Limited Partners who
acquired their Partnership Units at the time of the original offering pursuant
to the installment purchase plan.
The adjusted tax basis of a Desert Springs Limited Partner who did not acquire
his Desert Springs Partnership Units in the original offering of such
Partnership Units could vary materially from that of a
Desert Springs Supp-24
<PAGE>
Desert Springs Limited Partner who did so for various reasons. If a Desert
Springs Limited Partner has an adjusted tax basis in his Desert Springs
Partnership Units that is less than the Original Limited Partner's Adjusted Tax
Basis, the Merger might result in the receipt by the Desert Springs Limited
Partner of a deemed distribution of cash in excess of his adjusted tax basis in
his Desert Springs Partnership Units, which could (although it is unlikely)
result in the recognition of income or gain.
Second, the Operating Partnership and the General Partner assumed that the
method expected to be used by the Operating Partnership to allocate liabilities
among the partners will be respected for federal income tax purposes. The
Operating Partnership will allocate liabilities associated with the Desert
Springs Hotel as described in "Federal Income Tax Considerations -- Tax
Consequences of the Mergers -- Relief from Liabilities/Deemed Cash Distribution"
in the Consent Solicitation. If the method used by the Operating Partnership
were not respected for federal income tax purposes and the nonrecourse
liabilities actually allocable to a Desert Springs Limited Partner are less than
the amount assumed by the Operating Partnership and the General Partner, the
Merger might result in the receipt by such Desert Springs Limited Partner of a
deemed distribution of cash that is greater than the deemed distribution of cash
expected to be received by such Desert Springs Limited Partner as described
above in "Tax Consequences of the Merger -- Deemed Cash Distribution and
Resulting Taxable Gain." For a Desert Springs Limited Partner who did not
acquire his Desert Springs Partnership Units in the original offering of such
Partnership Units or who did not hold such Partnership Units at all times since,
this deemed distribution of cash could (although it is unlikely) exceed his
adjusted tax basis in his Desert Springs Partnership Units, which could result
in the recognition of income or gain.
Finally, the Operating Partnership and the General Partner assumed that the
Merger will be treated for federal income tax purposes as the transfer by the
Desert Springs Limited Partners of their interests in the Hotel Partnerships to
the Operating Partnership in exchange for OP Units. There can be no assurance,
however, that the IRS will not seek to recharacterize each Merger as either (i)
the liquidation of a Partnership followed by the distribution by the Partnership
of its assets to its partners and the subsequent transfers by such partners of
such assets to the Operating Partnership in exchange for OP Units, or (ii) the
transfer by a Partnership of its assets to the Operating Partnership in exchange
for OP Units (and possibly Notes) and the subsequent distribution of such OP
Units (and possibly Notes) to its partners. If the Merger is recharacterized in
the manner described in (ii) in the preceding sentence, the tax consequences of
the Merger to the Desert Springs Limited Partners likely would be materially
affected.
EACH DESERT SPRINGS LIMITED PARTNER IS STRONGLY URGED TO CONSULT WITH HIS OWN
TAX ADVISOR TO DETERMINE THE IMPACT OF SUCH DESERT SPRINGS LIMITED PARTNER'S
PARTICULAR TAX SITUATION ON THE ANTICIPATED TAX CONSEQUENCES OF PARTICIPATING IN
THE MERGER. THE TAX CONSEQUENCES OF PARTICIPATING IN THE MERGER TO A PARTICULAR
DESERT SPRINGS LIMITED PARTNER COULD VARY SUBSTANTIALLY FROM THE CONSEQUENCES
DESCRIBED ABOVE.
TAX TREATMENT OF DESERT SPRINGS LIMITED PARTNERS WHO EXERCISE THEIR RIGHT TO
MAKE THE NOTE ELECTION
A Desert Springs Limited Partner who exercises his right to make the Note
Election and receives a Note in connection with the Merger will be treated as
having made a taxable disposition of his OP Units. The amount realized in
connection with such disposition will equal the sum of the "issue price" of the
Note (i.e., the face amount of the Note, currently estimated as $27,617 per
Desert Springs Partnership Unit) plus the portion of Desert Springs liabilities
allocable to the Desert Springs Limited Partner for federal income tax purposes
immediately prior to the disposition of the OP Units (estimated as $_____ per
Desert Springs Partnership Unit as of December 31, 1998). To the extent the
amount realized exceeds the Desert Springs Limited Partner's adjusted basis in
his Desert Springs Partnership Units, the Desert Springs Limited Partner will
recognize gain. The Operating Partnership and the Desert Springs General Partner
estimate (assuming the Desert Springs Limited Partner acquired his Desert
Springs Partnership Units at the time of the original offering and has held such
Partnership Units at all times since the offering) that the amount of gain that
would be recognized by a Desert Springs Limited Partner who made the Note
Election would be approximately $________ per Desert Springs Partnership Unit,
as of December 31, 1998 if such Partnership
Desert Springs Supp-25
<PAGE>
Unit was acquired for cash, and $_________ per Desert Springs Partnership Unit
if such Partnership Unit was acquired pursuant to an installment purchase plan.
For a discussion of the federal income tax rates applicable to the net capital
gain from the sale of a capital asset, see "Federal Income Tax Considerations --
Tax Treatment of Limited Partners Who Hold OP Units Following the Mergers --
Disposition of OP Units by Limited Partners" in the Consent Solicitation. In
this regard, the General Partner estimates that, as of December 31, 1998, if
Desert Springs sold its Hotel in a fully taxable transaction for a net amount,
after payment of liabilities, equal to the Note Election Amount of Desert
Springs, the "unrecognized Section 1250 gain" per Desert Springs Partnership
Unit would be $______ if the Desert Springs Partnership Unit were acquired for
cash, and $___ if such Partnership Unit were acquired pursuant to the
installment purchase plan. The gain subject to tax as ordinary income under Code
Section 1245 per Desert Springs Partnership Unit would be $______ if the Desert
Springs Partnership Unit were acquired for cash, and $___ if such Partnership
Unit were acquired pursuant to the installment purchase plan. A Desert Springs
Limited Partner who makes the Note Election would be able to treat any per
Partnership Unit passive activity loss carryforward with respect to the
activities of Desert Springs, to the extent the sum of such losses exceeds his
passive activity income for 1998, as losses that are not from a passive activity
and, therefore, not subject to the passive activity loss limitation rules. For
purposes of determining the gain recognized by a Limited Partner as a result of
making the Note Election, an Original Limited Partner's Adjusted Basis will
reflect such Limited Partner's share of the syndication costs incurred by his
Partnership at formation.
A Desert Springs Limited Partner who elects to receive a Note may be eligible
to defer at least a small portion of that gain under the "installment sale"
rules. Those rules, however, will not permit the Desert Springs Limited Partner
to defer all of the gain, and, to the extent that the face amount of the Note
(and any other installment obligations received by the taxpayer during the year)
outstanding at the end of the taxable year in which the Merger occurs exceeds
$5,000,000, will require that the Desert Springs Limited Partner who defers gain
pay to the IRS interest on the resulting tax that has been deferred. The Desert
Springs Limited Partner will not be eligible to defer gain recognized upon the
receipt of the Note to the extent that its share of Desert Springs liabilities
at the time of the Merger exceeds his adjusted tax basis in his Desert Springs
Partnership Units immediately prior to the Merger (that is, to the extent that
he has a "negative capital account" for tax purposes). In addition, the Desert
Springs Limited Partner will not be eligible to defer gain to the extent that
such gain would be taxed as ordinary income under Sections 1245 and 1250 of the
Code. Lastly, if a Desert Springs Limited Partner disposes of its Note, any
gain that had been deferred would be recognized in the year of disposition.
THE SPECIFIC TAX ATTRIBUTES OF A PARTICULAR DESERT SPRINGS LIMITED PARTNER
COULD HAVE A MATERIAL IMPACT ON THE TAX CONSEQUENCES OF THE MERGER, AND THE
SUBSEQUENT OWNERSHIP AND DISPOSITION OF NOTES. THEREFORE, IT IS ESSENTIAL THAT
DESERT SPRINGS LIMITED PARTNERS CONSIDERING ELECTING TO RECEIVE NOTES CONSULT
WITH THEIR OWN TAX ADVISORS WITH REGARD TO THE APPLICATION OF THE FEDERAL INCOME
TAX LAWS TO SUCH DESERT SPRINGS LIMITED PARTNERS' RESPECTIVE PERSONAL TAX
SITUATIONS, AS WELL AS ANY TAX CONSEQUENCES ARISING UNDER THE LAWS OF ANY STATE,
LOCAL OR FOREIGN TAXING JURISDICTION.
Tax Consequences If Desert Springs Does Not Participate In The Merger
If Desert Springs does not participate in the Merger, the Desert Springs
Limited Partners would not have any tax consequences resulting from the Merger.
The consequences of continued ownership of Desert Springs Partnership Units will
be the same as would have resulted if the Merger had not been proposed.
* * *
The above description is not exhaustive of all possible tax considerations
associated with the Merger and the REIT Conversion. This summary does not
discuss foreign tax considerations, nor does it discuss all of the aspects of
federal income taxation or state and local taxation that may be relevant to
Desert Springs Limited Partners in light of their particular circumstances.
EACH DESERT SPRINGS LIMITED PARTNER IS STRONGLY URGED TO CONSULT WITH HIS OWN
TAX ADVISOR TO DETERMINE THE IMPACT OF SUCH DESERT SPRINGS LIMITED PARTNER'S
PARTICULAR TAX SITUATION ON THE ANTICIPATED TAX CONSEQUENCES OF PARTICIPATING IN
THE MERGER.
Desert Springs Supp-26
<PAGE>
SELECTED FINANCIAL DATA
The following table presents selected historical financial data derived from
the audited financial statements for the five most recent fiscal years in the
period ended December 31, 1997 and the unaudited financial statements for the
First Quarter 1998 and First Quarter 1997. The following data should be read in
conjunction with the financial statements and the notes thereto, Management's
Discussion and Analysis of Financial Condition and Results of Operations and the
other financial information included elsewhere herein.
<TABLE>
<CAPTION>
First Quarter Fiscal Year
--------------------------- -----------------------------------------------
1998 1997 1997 1996 1995 1994 1993
---- ---- ---- ---- ---- ---- ----
(unaudited) (amounts in thousands, except per Partnership Unit)/(3)/
<S> <C> <C> <C> <C> <C> <C> <C>
Revenues(1)........................................$ 16,153 $ 6,264 $ 27,233 $ 25,781 $ 24,351 $ 22,641 $ 21,571
Operating profit................................... 11,616 3,763 16,381 14,510 13,293 9,873 9,990
Income (loss) before
extraordinary item(2) 7,330 376 2,161 109 1,585 (2,264) (3,099)
Net income (loss).................................. 7,330 376 29,699 109 1,585 (2,264) (3,099)
Distributions:
General partner................................. -- -- 227 15 51 40 50
Limited partners................................ -- -- 22,500 1,532 5,020 3,964 4,948
------------------------------------------------------------------------------
Total........................................... -- -- 22,727 1,547 5,071 4,004 4,998
Per Partnership Unit:(3)
Net income (loss)............................... 8,063 413 32,669 120 1,743 (2,490) (3,409)
Distributions................................... -- -- 25,000 1,702 5,577 4,404 5,498
EBITDA(4) (unaudited).............................. 13,457 5,757 24,170 23,342 22,779 20,039 18,774
Cash provided by
operating activities.......................... 8,510 5,417 12,441 7,017 6,724 5,859 5,541
Cash used in investing activities.................. (2,066) (573) (3,862) (3,096) (2,050) (4,437) (3,760)
Cash used in financing activities.................. (2,192) (5,197) (9,781) (8,379) (1,399) (740) (2,855)
Increase (decrease) in cash and
cash equivalents.............................. 4,252 (353) (1,202) (4,458) 3,275 682 (1,074)
Ratio of earnings to fixed charges(5)
(unaudited)................................... 2.62x 1.10x 1.14x 1.01x 1.12x -- --
Deficiency of earnings to
fixed charges(5) (unaudited).................. -- -- -- -- -- 2,264 3,099
Total assets at book value......................... 182,440 172,029 172,156 164,882 173,742 172,238 175,451
Cash and cash equivalents.......................... 8,805 5,402 4,553 5,755 10,213 6,938 6,256
Total debt(6)...................................... 182,164 186,362 182,727 185,913 190,087 186,415 183,196
Total liabilities.................................. 189,775 193,290 186,821 186,519 193,941 188,951 185,941
Partner's capital (deficit):
Limited partners............................... (7,387) (21,174) (14,644) (21,546) (20,122) (16,671) (10,511)
General partner................................ 52 (87) (21) (91) (77) (42) 21
Book value per Partnership Unit
(unaudited)(3)................................. (8,208) (23,527) (16,271) (23,940) (22,358) (18,523) (11,679)
Exchange value per Partnership Unit
(unaudited)(3)................................. 40,880 -- -- -- -- -- --
</TABLE>
(1) On November 25, 1997, the Partnership converted its Operating Lease with
Marriott Hotel Services, Inc. to a management agreement.
(2) In 1997 Desert Springs Marriott Limited Partnership recognized an
extraordinary gain of $27,538,000 on the forgiveness of additional rental
paid by hotel lessee at the conversion of the Operating Lease to a
management agreement.
(3) A Partnership Unit represents a $100,000 original investment in Desert
Springs.
(4) EBITDA consists of the sum of net income, interest expense and depreciation
and amortization. EBITDA data is presented because such data is used by
certain investors to determine the Partnership's ability to meet debt
service requirements. The Partnership considers EBITDA to be an indicative
measure of the Partnership's operating performance due to the significance
of the Partnership's long-lived assets and because of EBITDA can be used to
measure the Partnership's ability to service debt, fund capital
expenditures and expand its business; however, such information should not
be considered as an alternative to net income, operating profit, cash flows
from operations, or any other operating or liquidity performance measure
prescribed by generally accepted accounting principles. Cash expenditures
for various long-term assets and interest expense have been, and will be,
incurred which are not reflected in the EBITDA presentations.
(5) The ratio of earnings to fixed charges is computed by dividing net income
before interest expense and other fixed charges by total fixed charges,
including interest expense, amortization of debt issuance costs and the
portion of rent expense that is deemed to represent interest. The
deficiency of earnings of fixed charges is largely the result of
depreciation and amortization of $8,932,000 and $8,502,000 as of December
31, 1994 and 1993, respectively.
Desert Springs Supp-27
<PAGE>
(6) Total debt includes amounts due Host Marriott for the Mezzanine Debt and
Host Marriott Junior Loan of $79,524,000 and $79,727,000 as of March 27,
1998 and December 31, 1997, respectively.
Management's Discussion and Analysis of Financial Condition and Results of
Operations
General
The following discussion and analysis addresses the results of operations of
the Partnership for the First Quarter 1998 and the fiscal years ended December
31, 1997, 1996 and 1995.
Growth in the Partnership's total Hotel room sales, and thus rental income
and revenue, is primarily a function of average occupancy and average room
rates, as well as control of hotel operating costs. In addition, due to the
amount of meeting/convention business at the Hotel, food and beverage and golf
and spa operations have a direct effect on the Partnership's rental income and
revenue. REVPAR, or revenue per available room, represents the combination of
the average daily room rate charged and the average daily occupancy achieved and
is a commonly used indicator of hotel performance (although it is not a GAAP
measure of revenue). REVPAR does not include food and beverage or other
ancillary revenues generated by the Hotel. REVPAR for the years ended December
31, 1997, 1996 and 1995 was $124, $113 and $104, respectively. Food and beverage
sales increased to $40.4 million in 1997 from $38.4 million in 1996 from $33.5
million in 1995 due to increased group sales.
Revenue for the period of November 25 through December 31, 1997 and net
rental income from the Hotel rental and the airline equipment lease with Trans
World Airline, Inc. (the "Equipment") are applied to debt service, property
taxes, partnership administrative costs, Partnership funded capital expenditures
and cash distributions to the partners.
Results of Operations
First Quarter 1998 Compared to First Quarter 1997
Revenues. On November 25, 1997, the Partnership completed a refinancing of
its mortgage debt. In connection with the refinancing, the Partnership
converted its operating lease with Marriott Hotel Services, Inc., a wholly-owned
subsidiary of Marriott International ("MHS" or the "Tenant/Manager") to a
management agreement (the "Conversion"). As a result, Partnership Revenues
reported for the First Quarter 1998 are not comparable to the Partnership
Revenues reported for First Quarter 1997. Prior to the Conversion, the
Partnership recognized estimated annual hotel rental income on a straight-line
basis throughout the year. The profits from the Hotel are seasonal and first
and second quarter results are generally higher than the last two quarters of
the year. Lease payments in excess of the income recognized by the Partnership
were deferred and, to the extent not subject to possible future repayment to the
Hotel lessee, were recognized as income during the remainder of the year.
Pursuant to the terms of the Operating Lease, Annual Rental, as defined, was
equal to the greater of Basic Rental (80% of Operating Profit, as defined) and
Owner's Priority, as defined. Additionally, the Hotel tenant was required to
pay property taxes, make contributions equal to a percentage of Hotel sales to a
property improvement fund (4.5% in 1997 and 5.5% thereafter) and pay rental on
the second golf course.
Subsequent to the Conversion, the Partnership records revenue based on house
profit generated by the Hotel. House profit reflects Hotel operating results,
and represents gross hotel sales less property-level expenses, excluding
depreciation, base and incentive management fees, property taxes, and certain
other costs, which are disclosed separately in the statement of operations.
Revenues are recorded based on house
Desert Springs Supp-28
<PAGE>
profit because the Partnership has delegated substantially all of the operating
decisions related to the generation of house profit to MHS.
On a comparative basis, house profit increased $1.5 million, or 10%, for
the First Quarter 1998 when compared to the same period in 1997 due to
significant increases in rooms and food and beverage revenue. REVPAR, or revenue
per available room, represents the combination of the average daily room rate
charged and the average daily occupancy achieved and is a commonly used
indicator of hotel performance (although it is not a measure under generally
accepted accounting principles). For the First Quarter 1998, REVPAR increased
14% to $194 due to a 12% increase in average room rate to approximately $236
while average occupancy remained stable when compared to First Quarter 1997.
Average room rates increased by 15% for group business and 9% for transient
business. Additionally, group roomnights sold increased by over 3,000 roomnights
or 8% over First Quarter 1997 while transient roomnights declined by 2,600
roomnights or 14% from First Quarter 1997. The increase in the higher rated
group roomnights sold more than offset the decline in transient room revenue. As
a result of the increase in REVPAR combined with the increase in group
roomnights and group average rate, hotel room sales increased 14% or $1.7
million for the First Quarter 1998 when compared to the First Quarter 1997. Food
and beverage sales increased 12% or $1.4 million in First Quarter 1998 when
compared to the First Quarter 1997 due primarily to the increase in group
business and related increases in banquet sales and audio visual rental revenue.
Operating Costs and Expenses. Operating costs and expenses increased $2
million from $2.5 million in First Quarter 1997 to $4.5 million in First Quarter
1998 due primarily to the impact of the Conversion. Prior to the Conversion, the
Partnership did not record incentive management fee expense. Additionally, base
management fees, though a component in the calculation of Operating Profit prior
to the Conversion, was not a component of the Partnership's operating costs. On
a comparative basis, base management fees for the First Quarter 1998 increased
$97,000, or 10% from $984,000 in First Quarter 1997 to $1.1 million in First
Quarter 1998 with the increase in hotel operations discussed above.
Depreciation. Depreciation decreased $284,000, or 14.6%, for the First
Quarter 1998 when compared to the First Quarter 1997 as the Partnership's
original 10-year equipment was fully depreciated during 1997.
Interest Expense. On November 25, 1997 the Partnership refinanced its $160
million mortgage debt with $182.7 million of debt. The increase in debt along
with an increase in the weighted average interest rate from 8.2% in the First
Quarter 1997 to 9.8% in the First Quarter 1998 resulted in an increase in
interest expense of $1.1 million, or 30%, from $3.4 million to $4.5 million.
Interest Income and Other. Interest income and other includes $74,000 in
First Quarter 1998 which represents payments made to the Partnership by Marriott
Vacation Club International ("MVCI") for the rental of a gallery and marketing
desk in the Hotel's lobby. In First Quarter 1997, MVCI rental of $77,000 was
recognized and included in the $6.3 million of Hotel rental income.
Net Income. Net income increased $7 million to $7.3 million in First
Quarter 1998 as a result of the changes discussed above, primarily the
Conversion, and improved property operating results.
1997 Compared to 1996
Hotel Rental Income. On November 25, 1997, in connection with the
refinancing, the General Partner and the Tenant/Manager converted the Operating
Lease to a management agreement (the "Management Agreement"). As a result of
this conversion, full year 1997 hotel rental income is not comparable to full
year 1996 hotel rental income. Hotel rental income for the period January 1
through November 25, 1997 was $24 million. For the year, total Hotel sales
increased 6% due primarily to a 7.6% increase in rooms revenue. REVPAR improved
10% to $124 due to a 7% increase in average room rate to approximately $170 and
a 2.0 percentage point increase in average daily occupancy to approximately 73%.
Desert Springs Supp-29
<PAGE>
Hotel Revenues. Effective November 25, 1997, the Partnership records
revenues which represent gross hotel sales less property-level expenses,
excluding depreciation and amortization, base and incentive fees, property
taxes, insurance and certain other costs. As a result of the conversion from an
Operating Lease to a Management Agreement, Partnership hotel revenues were $2.6
million. This consists of the Hotel's operating results for the period of
November 25 through December 31, 1997.
Airline Equipment Rental Income. Airline equipment rental income was $1.2
million in 1996. The airline equipment lease was terminated in April 1996. On
April 24, 1996, Trans World Airlines, Inc. ("TWA"), the lessee, terminated the
lease and purchased the equipment, as permitted under the lease agreement.
Other Income. Other income decreased 45% from $1.1 million in 1996 to
$607,000 in 1997. The decrease is primarily due to the Partnership utilizing
$8.2 million of cash and cash equivalents to reduce the balance of its
outstanding mortgage debt combined with paying $2.7 million in refinancing costs
which decreased the cash balance on which interest income is earned.
Interest Expense. Interest expense decreased 5% from $15.5 million in 1996
to $14.8 million in 1997 due to a decrease in the Partnership's weighted average
interest rate from 9.0% to 8.4%. The Partnership's $160 million Bridge Loan
accrued interest at LIBOR plus 2.75 percentage points from January 1 through
November 25, 1997, the closing date of the Bridge Loan refinancing. The
weighted average interest rate for the Bridge Loan (see "-- Debt financing") for
this period was 8.4% compared to 9.0% in 1996. The refinancing of the Bridge
Loan consists of three tiers of debt: a senior loan which bears interest at a
fixed rate of 7.8%; a mezzanine loan, which bears interest at a fixed rate of
10.365%; and a Host Marriott junior loan which bears interest at a fixed rate of
13%.
Depreciation. Depreciation and amortization decreased by $550,000 due to
the retirement of $7 million of equipment in 1997.
Property Taxes. Property taxes were unchanged at $2.0 million for both
1997 and 1996.
Partnership Administration and Other. Partnership administration and other
decreased from $474,000 in 1996 to $445,000 in 1997 due to a slight decrease in
administrative costs related to the refinancing.
Base Management Fee. As a result of the conversion to a management
agreement, the Partnership recorded base management fees from November 26
through December 31, 1997. Base management fees are calculated as 3% of sales or
$281,000 for 1997.
Insurance and Other. As a result of the conversion to a management
agreement, insurance and other expense was $256,000. This expense includes a
loss of $163,000 on the retirement of fixed assets, $65,000 of insurance expense
and $28,000 in equipment rental and permits and licenses.
Incentive Management Fee. As a result of the conversion to a management
agreement, the Partnership's incentive management fee expense from November 26
through December 31, 1997 was $123,000. As further explained in Note 7 to the
financial statements, Marriott International is entitled to a total of $2
million in fees for 1997, $123,000 of which is incentive management fee expense.
Extraordinary Items. The Partnership recognized an extraordinary gain in
1997 of $27.5 million representing the forgiveness of additional rental by the
Tenant/Manager.
1996 Compared to 1995
Hotel Rental Income. Hotel rental income for 1996 increased 18% from $19.9
million in 1995 to $23.4 million in 1996. For the year, total Hotel revenues
increased 15% due to increases in all areas of the Hotel including rooms, food
and beverage, golf and spa and other ancillary revenues. REVPAR improved 9% to
$113 due to a 5% increase in average room rate to approximately $158 and a 2.5
percentage point increase in average
Desert Springs Supp-30
<PAGE>
daily occupancy to approximately 71%. Food and beverage revenues increased 15%
from $33.5 million in 1995 to $38.4 million in 1996.
Airline Equipment Rental Income. Airline equipment rental income decreased
56% from $2.8 million in 1995 to $1.2 million in 1996 due to the termination of
the airline equipment lease in April 1996. On April 24, 1996, TWA, the lessee,
terminated the lease and purchased the equipment, as permitted under the lease
agreement.
Other Income. Other income decreased 34% from $1.6 million in 1995 to $1.1
million in 1996. The decrease is primarily due to $692,000 of income recognized
in 1995 on the funding of the pool expansion by Marriott Vacation Club
International ("MVCI") offset by a $108,000 increase in interest income earned
in 1996 on the Partnership's cash held for refinancing.
Interest Expense. Interest expense increased 16% from $13.4 million in
1995 to $15.5 million in 1996 due to an increase in the weighted average
interest rate. The mortgage debt matured on July 27, 1996 and went into default
on the maturity date. Pursuant to the loan documents, the mortgage debt accrued
interest at the default rate of 10.75% until the refinancing on December 23,
1996. The weighted average interest rate on the first mortgage debt was 9.0% in
1996 and 7.8% in 1995.
Depreciation. Depreciation and amortization decreased by $91,000 due to
the write-off in 1995 of the airline equipment partially offset by an increase
in building and equipment depreciation due to the $9.1 million rooms renovation.
Property Taxes. Property tax expense increased 61% to $2.0 million in 1996
from $1.2 million in 1995 primarily due to a nonrecurring $600,000 refund
received in 1995 related to property taxes paid in prior years.
Partnership administration and other. Partnership administration and other
increased 34% primarily due to an increase in administrative costs due to the
refinancing of the mortgage debt.
Capital Resources and Liquidity
The Partnership's financing needs have historically been funded primarily
through loan agreements with independent financial institutions. The General
Partner believes that the Partnership will have sufficient capital resources and
liquidity to continue to conduct its operations in the ordinary course of
business.
Principal Sources and Uses of Cash
The Partnership's principal source of cash is from Hotel operations. Its
principal uses of cash are to make debt service payments, fund the Hotel's
property improvement fund and establish reserves required by the lender.
Cash provided by operations for the First Quarter 1998 and First Quarter
1997 was $8.5 million and $5.4 million, respectively. Cash provided by
operations increased $3.1 million primarily due to the Conversion combined with
improved Hotel operations. Prior to the Conversion, the Partnership recognized
estimated annual hotel rental income on a straight-line basis throughout the
year. This change combined with an overall improvement in hotel operations
(discussed below under Revenues) and an increase in accounts payable of $2.1
million due to increased accrued interest liability, resulted in the increase in
cash from operations.
Cash used in investing activities for the First Quarter 1998 and First
Quarter 1997 was $2.1 million and $573,000, respectively. The Partnership's cash
investing activities consist primarily of contributions to the property
improvement fund and capital expenditures for improvements at the Hotel.
Contributions to the property improvement fund were $2 million for First Quarter
1998 and $1.5 million for First Quarter
Desert Springs Supp-31
<PAGE>
1997. Capital expenditures were $1.5 million and $619,000 in First Quarter 1998
and First Quarter 1997, respectively.
Cash used in financing activities for the First Quarter 1998 and First
Quarter 1997 was $2.2 million and $5.2 million respectively. The Partnership's
cash financing activities consist primarily of payments of the mortgage debt and
contributions to the restricted cash reserves. Additionally, in First Quarter
1997, the Partnership made $900,000 of loan repayments from the property
improvement fund on the $1.7 million rooms refurbishment loan from Marriott
International, Inc. The General Partner believes that cash contributions to the
property improvement fund will provide adequate funds in the short-term and
long-term to meet the Hotel's capital needs.
The Partnership's principal source of cash was from the Hotel Operating
Lease up until November 25, 1997, at which time the Operating Lease was
converted to the Management Agreement. Prior to the Equipment Lease
termination, the Partnership's principal sources of cash included rents received
under the Equipment Lease and proceeds from Equipment sales. Its principal uses
of cash are to fund the property improvement fund, pay debt service and cash
distributions to the partners. Additionally, during 1996 and 1997, the
Partnership utilized cash to pay financing costs incurred in connection with the
refinancing of the mortgage debt.
The Hotel Operating Lease provided for the payment of the greater of Basic
Rental or Owner's Priority. Basic Rental equaled 80% of Operating Profit, as
defined in the Hotel Operating Lease. Owner's Priority equaled the greater of
(i) $20 million plus debt service on certain additional debt to expand the Hotel
or (ii) Debt Service, as defined.
Pursuant to an agreement reached with Marriott International, for fiscal
year 1997, the $20 million Owner's Priority was increased to $20.5 million.
Marriott International was entitled only to the next $2 million of Operating
Profit. Any additional Operating Profit in excess of $22.5 million was remitted
entirely to the Partnership. For 1997, Operating Profit was $23.7 million,
Marriott International earned $2.0 million and the remaining $1.2 million was
remitted to the Partnership. In connection with the long-term financing,
Marriott International agreed to waive any and all claims to Additional Rental
(as defined in the Operating Lease) that accrued prior to the consummation of
the loan ($27.5 million).
On November 25, 1997, in connection with the refinancing, the General
Partner also negotiated with the Tenant/Manager to convert the Operating Lease
to a management agreement (the "Management Agreement"). The Tenant/Manager
would become manager of the Hotel (the "Manager"). The initial term of the
Management Agreement continues through 2022 with four successive renewal options
of ten years each.
Beginning with fiscal year 1998 forward, the Management Agreement provides
that no incentive fee will be paid to the Manager with respect to the first
$21.5 million of Operating Profit (the "Owner's Priority"). Thereafter the
Manager will receive the next $1.8 million of Operating Profit as an incentive
management fee and any Operating Profit in excess of the $23.3 million will be
divided 75% to the Partnership and 25% to the Manager. Any such payments will
be made annually after completion of the audit of the Partnership's books.
Total cash provided by operations of the Hotel was $12.4 million, $7.0
million and $6.7 million for the years ended December 31, 1997, 1996 and 1995,
respectively. Proceeds from the sale of airline equipment were $2.5 million for
the year ended December 31, 1996, and $4.0 million for the year ended December
31, 1995 due to the sale of the equipment in 1996. Cash contributed to the
property improvement fund of the Hotel was $4.6 million, $4.4 million and $3.8
million for the years ended December 31, 1997, 1996 and 1995, respectively. Cash
distributed to the partners was $22.7 million, $1.5 million and $5.1 million
during the years ended December 31, 1997, 1996 and 1995, respectively. Financing
costs related to refinancing the mortgage debt were $1.2 million in 1997 and
$2.7 million in 1996. There were no refinancing costs in 1995.
The General Partner expects that contributions to the property improvement
fund will be a sufficient reserve for the future capital repair and replacement
needs of the Hotel's property and equipment.
Desert Springs Supp-32
<PAGE>
Pursuant to the terms of the Hotel Operating Lease and Management
Agreement, the Partnership is obligated to fund major improvements for the
Hotel's mechanical and heating systems. During 1998, the Partnership expects to
fund approximately $2.0 million for improvements to the Hotel's HVAC system
(heating, ventilating and air conditioning). Also, during 1998, the Partnership
expects to fund approximately $350,000 on roof repair projects. The Partnership
has established a reserve to pay for these improvements which is expected to be
sufficient. This reserve is being held by the mortgage loan lender. There are
currently no additional Partnership funded capital expenditure items expected
for 1998.
DEBT FINANCING
On December 23, 1996, pursuant to an agreement with the Partnership, GMAC
Commercial Mortgage Corporation ("GMAC") purchased the existing mortgage debt of
the Partnership and amended and restated certain terms thereof (as amended and
restated, the "Bridge Loan"). The Bridge Loan consisted of a $160 million
nonrecourse mortgage loan. The Partnership utilized $8.2 million from its
refinancing reserve to reduce the outstanding principal balance of the existing
mortgage debt to the $160 million outstanding under the Bridge Loan. In
addition, the Partnership utilized $2.6 million from the refinancing reserve to
pay costs associated with the financing including lender's fees, property
appraisals, environmental studies and legal fees. Approximately half of the $2.6
million was for fees related to the long-term financing. The Bridge Loan was
originated by Goldman Sachs Mortgage Company ("GSMC"), matured on October 31,
1997 and bore interest at the London Interbank Offered Rate ("LIBOR") plus 2.75
percentage points and required that all excess cash from Hotel operations, if
any, be held in a debt service reserve for future debt service or to reduce the
outstanding principal balance of the Bridge Loan upon maturity. For the year
ended December 31, 1996, the weighted-average interest rate on the Partnership's
mortgage debt was 9.0%. For the period of January 1 through November 25, 1997
the weighted average interest rate was 8.4%.
The Bridge Loan was secured by the Partnership's fee interest in the Hotel,
a security interest in certain personal property associated with the Hotel
including furniture and equipment, contracts and other general intangibles and a
security interest in the Partnership's rights under the Hotel operating lease,
the Hotel purchase agreement and other related agreements.
Pursuant to the terms of the debt refinancing, there are no continuing
requirements for a debt service guarantee. Host and the General Partner were
released from their obligations to the Partnership under their original debt
service guarantee with the refinancing of the Partnership's mortgage debt.
In conjunction with the refinancing of the mortgage debt, the General
Partner reaffirmed a foreclosure guarantee to the lender in the amount of $50
million. Pursuant to the terms of the foreclosure guarantee, amounts would be
payable only upon a foreclosure of the Hotel and only to the extent that the
gross proceeds from a foreclosure sale were less than $50 million. The
foreclosure guarantee was not reaffirmed with the refinancing of the Bridge
Loan.
On September 26, 1997, the General Partner received unrevoked consents
approving a new loan structure and certain amendments to the Partnership
Agreement which were necessary to refinancing negotiations of the Bridge Loan.
An extension agreement was signed with the current lender on October 30, 1997,
extending the maturity date and loan terms of the Bridge Loan from October 31,
1997 until December 31, 1997, without penalty.
On November 25, 1997, the Partnership secured long-term refinancing for its
$160 million Bridge Loan. The new financing consists of three tranches: 1) a
$103 million senior loan, 2) a $20 million loan and 3) a $59.7 million junior
loan. The $103 million senior loan (the "Senior Loan") is from GMAC Commercial
Mortgage Company ("GMAC") to a newly formed bankruptcy remote subsidiary of the
Partnership, DS Hotel LLC, which owns the Hotel and related assets. The Senior
Loan matures in December, 2022 and is secured by a first mortgage lien on the
Hotel. The loan bears interest at a fixed rate of 7.8% and requires monthly
payments of interest and principal with amortization over its twenty-five year
term. On June 11, 2010 the
Desert Springs Supp-33
<PAGE>
interest rate increases to 200 basis points over the then current yield on 12
year U.S. treasuries and also additional principal payments will be required as
defined in the loan agreement.
The second tranche of debt consists of a $20 million loan (the "Mezzanine
Loan") from Goldman Sachs Mortgage Company ("GSMC") to a newly formed bankruptcy
remote subsidiary of the Partnership, Marriott DSM LLC, which secures the loan.
Marriott DSM LLC owns a 100% interest in DS Hotel LLC. The Mezzanine Loan
consists of a fully amortizing $20 million loan maturing in December, 2010. The
loan bears interest at a fixed rate of 10.365% and requires monthly payments of
interest and principal with amortization over a twelve and one-half year term.
The third tranche of debt consists of a junior loan, (the "HM Junior Loan")
to the Partnership from MDSM Finance LLC ("MDSM"), a wholly owned subsidiary of
the General Partner. The HM Junior Loan has a term of thirty years and requires
no principal amortization for the first twelve and one-half years with a
seventeen and one-half year amortization schedule thereafter. Security for the
HM Junior Loan is the Partnership's 100% interest in Marriott DSM LLC. If
remaining cash flow is insufficient to pay interest on the HM Junior Loan,
interest is deferred and will accrue and compound and be payable from future
cash flow. The HM Junior Loan also entitles MDSM to receive 30% of any excess
cash flow, as defined, available annually, plus 30% of any net capital/residual
proceeds after full repayment of the Senior Loan, the Mezzanine Loan and the HM
Junior Loan.
In conjunction with the refinancing of the mortgage debt, the Partnership
was required to establish cash reserves which are held by an agent of the lender
including:
. $6.2 million debt service reserve
. $1.5 million reserve for capital expenditures
. $2.0 million reserve for payment of fees to the Tenant/Manager
The reserves were established from the Partnership's restricted cash
related to the Bridge Loan in addition to Partnership operating cash.
In addition, the Partnership is required to establish with the lender a
separate escrow account for payments of insurance premiums and real estate taxes
for the Hotel if the credit rating of Marriott International is downgraded by
Standard and Poor's Rating Services. The Manager is a wholly-owned subsidiary
of Marriott International. In March 1997, Marriott International acquired the
Renaissance Hotel Group N.V., adding greater geographic diversity and growth
potential to its lodging portfolio. The assumption of additional debt
associated with this transaction resulted in a single downgrade of Marriott
International's long-term senior unsecured debt effective April, 1997.
Therefore, the Partnership was required to establish a reserve account for
insurance and real estate tax. As of December 31, 1997, $581,000 remains
available to pay insurance and real estate taxes. The escrow reserve is
included in restricted cash and the resulting tax and insurance liability is
included in accounts payable and accrued liabilities in the accompanying balance
sheet.
The Partnership utilized $1.2 million from the refinancing reserve to pay
costs associated with the financing including lender or subsidiary fees,
property appraisals, environmental studies and legal fees.
Debt to Marriott International
On April 30, 1996, the Partnership entered into a short-term loan with
Marriott International in the amount of $1,700,000 to fund a portion of the
Hotel's rooms refurbishment project. The loan's stated maturity was June 13,
1997, bore interest at 8.5% and was to be repaid from the property improvement
fund as contributions were made during the year. At December 31, 1996, the loan
balance was $900,000. The loan was fully repaid on March 28, 1997.
Desert Springs Supp-34
<PAGE>
Property Improvement Fund
The Partnership is required to maintain the Hotel in good repair and
condition. The Hotel Operating Lease Agreement and Management Agreement require
the Tenant/Manager to make annual contributions to the property improvement fund
for the Hotel on behalf of the Partnership. Contributions to the fund are equal
to 4.5% of Hotel gross revenues through 1997 increasing to 5.5% thereafter.
Total contributions to the fund were $3.8 million in 1995, $4.4 million in 1996
and $4.6 million in 1997. The balance of the Hotel's property improvement fund
was $1.6 million as of December 31, 1997.
During the summer of 1996, a $9.1 million rooms refurbishment was completed
at the Hotel. The property improvement fund was not sufficient to fund the
refurbishment. The Partnership arranged a short-term loan from Marriott
International of up to $1.7 million at a fixed rate of 8.5% to finance the
anticipated shortfall. The loan was repaid from the property improvement fund
prior to its maturity on June 13, 1997. The General Partner believes that funds
available from the property improvement fund will be adequate for anticipated
renewal and replacement expenditures.
During 1995, the Hotel's main swimming pool was expanded. This $2.1 million
expansion was funded partially with $692,000 in proceeds received from Marriott
Vacation Club International ("MVCI") pursuant to an agreement between the
Partnership and MVCI for the development of additional time share units on land
adjacent to the Hotel. The Partnership funded the remaining $1.4 million from
cash reserves.
Equipment Lease
The Partnership leased airline equipment to TWA under an operating lease
which expired in April 1995. On April 20, 1995, the Partnership reached an
agreement with TWA whereby TWA was obligated to pay quarterly payments of
$780,000 plus interest in arrears at 17%. At the end of the lease in July 1996
(or earlier if a termination option was exercised), TWA had the option to
purchase the equipment for one dollar ($1). The lease generated $5.4 million in
cash flow during the 1995 fiscal year. As a result of the lease renewal terms,
the Partnership recorded a receivable for the future lease payments due from TWA
and deferred the gain on the transaction. The deferred gain was recognized as
income as lease payments were received. Total rental income recognized in 1995
and 1996 on the lease was $2.8 million and $1.2 million, respectively. The
original cost of the airline equipment was depreciated over the life of the
operating lease. Depreciation expense on the airline equipment was $526,000 for
the year ended December 31, 1995.
On April 24, 1996, TWA exercised its early termination option under the
airline equipment lease and paid the rent due on that date of $847,000 along
with the termination value of $780,000 plus the $1 purchase option. Rental
income of $1,248,000 was generated by the lease in 1996.
Golf Course Lease
The Second Golf Course is located near the Hotel on approximately 100 acres
of land and is leased to the Partnership by a subsidiary of Marriott
International. The Second Golf Course and related facilities were subleased by
the Partnership to the Tenant/Manager pursuant to an operating lease with annual
rental equal to $100,000. The term of the lease for the Second Golf Course
expires on December 31, 2011, with five 10-year renewal periods at the option of
the Partnership. Under the terms of the lease for the Second Golf Course, the
Partnership pays annual rent equal to $100,000 and is responsible for all costs
of operating and maintaining the Second Golf Course. Upon termination of the
lease for the Second Golf Course, the Second Golf Course and all facilities and
improvements thereon will become the property of Marriott's Desert Springs
Development Corporation. All costs of operating and maintaining the course are
deductions from gross revenues and all revenues from operation of the course are
items of gross revenues of the Hotel. In conjunction with the refinancing of the
mortgage debt, the golf course is no longer subleased to the Operating Tenant.
The Manager manages the golf course for the Partnership pursuant to the terms of
the Golf Course Lease.
Desert Springs Supp-35
<PAGE>
Homeowners Agreement
A subsidiary of Marriott International, MVCI has been developing a portion
of land adjacent to the golf courses for time shares. The Partnership, Marriott
International, Marriott's Desert Springs Development Corporation and MVCI
entered into an Agreement (the "Homeowners Agreement") whereby it was agreed
that each purchaser of a time share unit will receive certain golf course and
other privileges (including preferred tee times at the golf courses equal to one
tee time per week per time share unit) at the Hotel. Time share purchasers will
not pay membership fees, but rather will pay regular green fees for use of the
golf courses, and do not receive preferred tennis court times or free access to
the health spa. Time share purchasers will have use of the latter facilities and
other Hotel facilities, if they are available, on the same basis as regular
Hotel guests and will pay the same fees as regular Hotel guests.
Office Space Rental Agreement
On January 27, 1995, the Partnership entered into an agreement with MVCI
whereby MVCI occupies the space of eleven guest rooms and built a vacation
gallery. The initial term of the agreement is April 1, 1995 to March 31, 1999,
with initial annual rental of $150,000. The annual rental may be increased in
the second, third and fourth year of the lease by the local area Consumer Price
Index plus 1% subject to a maximum of 10%.
INFLATION
For the three fiscal years ended December 31, 1997 and the First Quarter
1998, the rate of inflation has been relatively low and, accordingly, has not
had a significant impact on the Partnership's gross income and net income. The
Operating Tenant/Manager is generally able to pass through increased costs to
customers through higher room rates. In 1997, the increase in average room
rates at the Hotel exceeded those of direct competitors as well as the general
level of inflation.
SEASONALITY
Demand, and thus occupancy and room rates, is affected by normally
recurring seasonal patterns. Demand tends to be higher during the months of
November through April than during the remainder of the year. This seasonality
tends to affect the results of operations, increasing the revenue and rental
income during these months. In addition, this seasonality may also increase the
liquidity of the Partnership during these months.
Desert Springs Supp-36
<PAGE>
FINANCIAL STATEMENTS
Desert Springs Supp-37
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
TO THE PARTNERS OF DESERT SPRINGS MARRIOTT LIMITED PARTNERSHIP:
We have audited the accompanying balance sheet of Desert Springs Marriott
Limited Partnership and subsidiaries (a Delaware limited partnership) as of
December 31, 1997 and 1996, and the related statements of operations, changes in
partners' (deficit) capital and cash flows for each of the three years in the
period ended December 31, 1997. These financial statements are the
responsibility of the General Partner'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, the financial statements referred to above present fairly, in
all material respects, the financial position of Desert Springs Marriott Limited
Partnership and subsidiaries as of December 31, 1997 and 1996, and the results
of its operations and its cash flows for each of the three years in the period
ended December 31, 1997, in conformity with generally accepted accounting
principles.
ARTHUR ANDERSEN LLP
Washington, D.C.
February 18, 1998
Desert Springs Supp-38
<PAGE>
DESERT SPRINGS MARRIOTT LIMITED PARTNERSHIP AND SUBSIDIARIES
BALANCE SHEETS
AS OF DECEMBER 31, 1997 AND 1996
(IN THOUSANDS)
<TABLE>
<CAPTION>
1997 1996
--------- ---------
<S> <C> <C>
ASSETS
Property and equipment, net.................................. $151,401 $155,441
Due from Marriott International, Inc......................... 1,368 8
Property improvement fund.................................... 1,598 1,041
Deferred financing, net of accumulated amortization.......... 3,000 2,637
Restricted cash.............................................. 10,236 --
Cash and cash equivalents.................................... 4,553 5,755
-------- --------
$172,156 $164,882
======== ========
LIABILITIES AND PARTNERS' DEFICIT
LIABILITIES
Mortgage debt.............................................. $103,000 $160,000
Note payable............................................... 20,000 --
Due to Host Marriott and affiliates........................ 59,727 --
Additional rental paid by hotel lessee..................... -- 25,013
Due to Marriott International, Inc......................... 2,122 1,022
Accounts payable and accrued expenses...................... 1,972 484
-------- --------
Total Liabilities......................................... 186,821 186,519
-------- --------
PARTNERS' DEFICIT
General Partner
Capital contribution...................................... 909 909
Capital distributions..................................... (829) (602)
Cumulative net losses..................................... (101) (398)
-------- --------
(21) (91)
-------- --------
Limited Partners
Capital contributions, net of offering costs of $10,576... 77,444 77,444
Investor notes receivable................................. (22) (22)
Capital distributions..................................... (82,084) (59,584)
Cumulative net losses..................................... (9,982) (39,384)
-------- --------
(14,644) (21,546)
-------- --------
Total Partners' Deficit................................... (14,665) (21,637)
-------- --------
$172,156 $164,882
======== ========
</TABLE>
See Notes to financial statements.
Desert Springs Supp-39
<PAGE>
DESERT SPRINGS MARRIOTT LIMITED PARTNERSHIP AND SUBSIDIARIES
STATEMENTS OF OPERATIONS
FOR THE YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(IN THOUSANDS, EXCEPT PER UNIT AMOUNTS)
<TABLE>
<CAPTION>
1997 1996 1995
------- ------- -------
<S> <C> <C> <C>
INCOME
Rentals
Hotel.................................... $24,016 $23,433 $19,851
Airline equipment (Note 6)............... -- 1,248 2,837
Hotel revenues (Note 10)................... 2,610 -- --
Other...................................... 607 1,100 1,663
------- ------- -------
27,233 25,781 24,351
------- ------- -------
EXPENSES
Interest................................... 14,827 15,501 13,371
Depreciation............................... 7,182 7,732 7,823
Property taxes............................. 1,958 1,965 1,219
Partnership administration and other....... 445 474 353
Base management fee........................ 281 -- --
Insurance and other........................ 256 -- --
Incentive management fee................... 123 -- --
------- ------- -------
25,072 25,672 22,766
------- ------- -------
NET INCOME BEFORE EXTRAORDINARY ITEM........ 2,161 109 1,585
------- ------- -------
EXTRAORDINARY ITEM
Gain on forgiveness of additional rental... 27,538 -- --
------- ------- -------
NET INCOME.................................. $29,699 $ 109 $ 1,585
======= ======= =======
ALLOCATION OF NET INCOME
General Partner............................ $ 297 $ 1 $ 16
Limited Partners........................... 29,402 108 1,569
------- ------- -------
$29,699 $ 109 $ 1,585
======= ======= =======
NET INCOME PER LIMITED PARTNER
UNIT (900 Units)........................... $32,669 $ 120 $ 1,743
======= ======= =======
</TABLE>
See Notes to financial statements.
Desert Springs Supp-40
<PAGE>
DESERT SPRINGS MARRIOTT LIMITED PARTNERSHIP AND SUBSIDIARIES
STATEMENTS OF CHANGES IN PARTNERS' CAPITAL (DEFICIT)
FOR THE YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(IN THOUSANDS)
<TABLE>
<CAPTION>
General Limited
Partner Partners Total
-------- --------- ---------
<S> <C> <C> <C>
Balance, December 31, 1994........................ $ (42) $(16,671) $(16,713)
Net income....................................... 16 1,569 1,585
Capital distributions............................ (51) (5,020) (5,071)
----- -------- --------
Balance, December 31, 1995........................ (77) (20,122) (20,199)
Net income....................................... 1 108 109
Capital distributions............................ (15) (1,532) (1,547)
----- -------- --------
Balance, December 31, 1996........................ (91) (21,546) (21,637)
Net income....................................... 297 29,402 29,699
Capital distributions............................ (227) (22,500) (22,727)
----- -------- --------
Balance, December 31, 1997........................ $ (21) $(14,644) $(14,665)
===== ======== ========
</TABLE>
See Notes to financial statements.
Desert Springs Supp-41
<PAGE>
DESERT SPRINGS MARRIOTT LIMITED PARTNERSHIP AND SUBSIDIARIES
STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(IN THOUSANDS)
<TABLE>
<CAPTION>
1997 1996 1995
---------- ---------- --------
<S> <C> <C> <C>
OPERATING ACTIVITIES
Net income....................................................... $ 29,699 $ 109 $ 1,585
Extraordinary item............................................... (27,538) -- --
--------- --------- -------
Income before extraordinary item................................. 2,161 109 1,585
Noncash items:
Depreciation................................................... 7,182 7,732 7,823
Amortization of deferred financing costs as interest expense... 807 104 135
Loss (gain) on dispositions of property and equipment.......... 163 (1,248) (1,972)
Changes in operating accounts:
Due to/from Marriott International, Inc. and affiliates........ 640 2,287 (2,241)
Due from airline equipment lessee.............................. -- -- 1,357
Accounts payable and accrued interest.......................... 1,488 (1,967) 37
--------- --------- -------
Cash provided by operations.................................. 12,441 7,017 6,724
--------- --------- -------
INVESTING ACTIVITIES
Additions to property and equipment.............................. (3,318) (9,989) (3,979)
Change in property improvement fund, net......................... (544) 4,384 (2,035)
Proceeds from sales of airline equipment......................... -- 2,509 3,964
--------- --------- -------
Cash used in investing activities............................ (3,862) (3,096) (2,050)
--------- --------- -------
FINANCING ACTIVITIES
Proceeds from mortgage loan...................................... 182,727 160,000 --
Repayment of mortgage debt....................................... (160,000) (168,239) --
Capital distributions to partners................................ (22,727) (1,547) (5,071)
Change in restricted cash........................................ (10,236) -- --
Additional rental paid by hotel lessee........................... 2,525 3,165 3,672
Payment of refinancing costs..................................... (1,170) (2,658) --
Repayment of note payable to Marriott International, Inc......... (900) (800) --
Advances from Marriott International, Inc........................ -- 1,700 --
--------- --------- -------
Cash used in financing activities............................ (9,781) (8,379) (1,399)
--------- --------- -------
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS.................. (1,202) (4,458) 3,275
CASH AND CASH EQUIVALENTS at beginning of year.................... 5,755 10,213 6,938
--------- --------- -------
CASH AND CASH EQUIVALENTS at end of year.......................... $ 4,553 $ 5,755 $10,213
========= ========= =======
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid for mortgage interest and other........................ $ 12,959 $ 17,372 $13,237
========= ========= =======
</TABLE>
See Notes to financial statements.
Desert Springs Supp-42
<PAGE>
DESERT SPRINGS MARRIOTT LIMITED PARTNERSHIP AND SUBSIDIARIES
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1997 AND 1996
NOTE 1. THE PARTNERSHIP
Description of the Partnership
Desert Springs Marriott Limited Partnership (the "Partnership"), a Delaware
limited partnership, was formed to acquire and own Marriott's Desert Springs
Resort and Spa and the land on which the 884-room hotel and a golf course are
located (the "Hotel") and airline equipment. The sole general partner of the
Partnership, with a 1% interest, is Marriott Desert Springs Corporation (the
"General Partner"), a wholly-owned subsidiary of Host Marriott Corporation
("Host Marriott"). The Hotel was leased to Marriott Hotel Services, Inc. (the
"Tenant"), a wholly-owned subsidiary of Marriott International, along with a
second golf course leased by the Partnership from Marriott Desert Springs
Development Corporation, also a wholly-owned subsidiary of Marriott
International. The airline equipment was leased to TransWorld Airlines, Inc.
("TWA") pursuant to the terms of an operating lease through April 20, 1995. On
April 20, 1995, the Partnership entered into a new sales-type lease agreement
which was due to expire on June 24, 1996. On April 24, 1996, TWA exercised its
early termination option under the airline equipment lease and paid the rent due
on that date of $847,000 along with the termination value of $780,000 plus the
$1 purchase option (see Note 6).
The Partnership was formed on February 26, 1987, and operations commenced on
April 24, 1987 (the "Unit Offering Closing Date"). Between March 20, 1987, and
the Unit Offering Closing Date, 900 limited partnership interests (the "Units")
were subscribed pursuant to a private placement offering. The offering price
per Unit was $100,000; $25,000 payable at subscription with the balance due in
three annual installments through June 15, 1990, or, as an alternative, $87,715
in cash at closing as full payment of the subscription price. Of the total 900
Units, 740.5 were purchased on the installment basis and 159.5 Units were paid
in full. The General Partner contributed $909,100 in cash for its 1% general
partnership interest.
In connection with the mortgage debt refinancing in 1997 (see Note 5), the
General Partner received unrevoked consents of limited partners approving
certain amendments to the partnership agreement. The amendments, among other
things, allowed the formation of certain subsidiaries of the Partnership
including DS Hotel LLC and Marriott DSM LLC. The Partnership contributed the
Hotel and its related assets to Marriott DSM LLC, which in turn contributed them
to DS Hotel LLC, a bankruptcy remote subsidiary. Marriott DSM LLC, a bankruptcy
remote subsidiary of the Partnership owns 100% interest in DS Hotel LLC. The
Partnership owns 100% interest in Marriott DSM LLC. In addition, effective
November 25, 1997, the Hotel is managed by the Tenant (the "Manager").
Partnership Allocations and Distributions
Under the partnership agreement, Partnership allocations, for Federal income tax
purposes, and distributions are generally made as follows:
a. Cash available for distribution will generally be distributed (i) first, 1%
to the General Partner and 99% to the limited partners until the General
Partner and the limited partners (collectively, the "Partners") have
received cumulative distributions of sale or refinancing proceeds ("Capital
Receipts") equal to $45,454,545; and (ii) thereafter, 10% to the General
Partner and 90% to the limited partners.
b. Refinancing proceeds and proceeds from the sale or other disposition of
less than substantially all of the assets of the Partnership, not retained
by the Partnership, will be distributed (i) first, 1% to the General
Partner and 99% to the limited partners, until the Partners have received
cumulative distributions of Capital Receipts equal to $90,909,100; and (ii)
thereafter, 10% to the General Partner and 90% to the limited partners.
Desert Springs Supp-43
<PAGE>
Proceeds from the sale or other disposition of all or substantially all of
the assets of the Partnership or from the sale or other disposition of all
or substantially all of the Hotel will be distributed to the Partners pro
rata in accordance with their capital account balances as defined in the
partnership agreement.
c. Net profits will be allocated as follows: (i) first, through and including
the year ended December 31, 1990, 99% to the General Partner and 1% to the
limited partners; (ii) next, through and including the year ending December
31, 1992, 70% to the General Partner and 30% to the limited partners; and
(iii) thereafter, 10% to the General Partner and 90% to the limited
partners.
d. Net losses will be allocated 100% to the General Partner through December
31, 1990, and thereafter, 70% to the General Partner and 30% to the limited
partners, subject to certain limitations, as specified in the partnership
agreement, regarding allocations to the limited partners.
e. The deduction for interest on the Purchase Note, as defined, which
cumulatively will not exceed $12,285 per Unit will be allocated to those
limited partners owning the Units purchased on the installment basis.
f. In general, gain recognized by the Partnership will be allocated as
follows: (i) first, to all Partners whose capital accounts have negative
balances until such negative balances are brought to zero; (ii) next, to
all Partners up to the amount necessary to bring their respective capital
account balances to an amount equal to their respective invested capital,
as defined; (iii) third, in the case of gain arising from the sale or other
disposition (or from a related series of sales or dispositions) of all or
substantially all of the assets of the Partnership, (a) to the limited
partners in an amount equal to the excess, if any, of (1) the sum of the
product of 12% times the weighted-average of the limited partners' invested
capital, as defined, each year, minus (2) the sum of cumulative
distributions to the limited partners of cash available for distribution,
and (b) next, to the General Partner until it has been allocated an amount
equal to 10/90 times the amount allocated to the limited partners in (a);
and (iv) thereafter, 12% to the General Partner and 88% to the limited
partners.
For financial reporting purposes, profits and losses are allocated among the
Partners based upon their stated interests in cash available for distribution.
NOTE 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Accounting
The Partnership records are maintained on the accrual basis of accounting and
its fiscal year coincides with the calendar year.
Use of 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.
Revenues and Expenses
Effective November 25, 1997, the Partnership records hotel revenues which
represent house profit of the hotel since the Partnership has delegated
substantially all of the operating decisions related to the generation of house
profit of the Hotel to the Manager. House profit reflects Hotel operating
results, and represents gross hotel sales less property-level expenses,
excluding depreciation, base and incentive management fees, property taxes,
insurance and certain other costs, which are disclosed separately in the
statement of operations.
Desert Springs Supp-44
<PAGE>
On November 20, 1997, the Emerging Issues Task Force ("EITF") of the Financial
Accounting Standards Board reached a consensus on EITF 97-2, "Application of
FASB Statement No. 94 and APB Opinion No. 16 to Physician Practice Management
Entities and Certain Other Entities with Contractual Management Arrangements."
EITF 97-2 addresses the circumstances in which a management entity may include
the revenues and expenses of a managed entity in its financial statements.
The Partnership is assessing the impact of EITF 97-2 on its policy of excluding
the property-level revenues and operating expenses of the Hotel from its
statements of operations.
Property and Equipment
Property and equipment is recorded at cost. Depreciation is computed using the
straight-line method over the following estimated useful lives of the assets
less an estimated residual value of 10% on the original building cost and 20% on
the airline equipment cost:
Building and improvements 50 years
Furniture and equipment 4 to 10 years
Airline equipment 8 years
All Hotel property and equipment is pledged as security for the Senior Loan
described in Note 5.
The Partnership assesses impairment of its real estate property based on whether
estimated undiscounted future cash flow from the hotel will be less than its net
book value. If the property is impaired, its basis is adjusted to fair market
value.
Deferred Financing Costs
Deferred financing costs represent the costs incurred in connection with
obtaining debt financing and are amortized over the term thereof. The original
Mortgage Debt (see Note 5) matured on July 27, 1996. Deferred financing costs
associated with that debt, totaling $943,000, were fully amortized at maturity
and removed from the Partnership's books. Costs associated with the Bridge Loan
totaled $2,658,000 at December 31, 1996. Total financing costs associated with
the Bridge Loan and long-term financing completed on November 25, 1997 totaled
$3,828,000. At December 31, 1997 and 1996, accumulated amortization of deferred
financing costs totaled $828,000 and $21,000, respectively.
Restricted Cash Reserves
In conjunction with the refinancing of the mortgage debt, the Partnership was
required to establish cash reserves which are held by an agent of the lender
including:
. $6.2 million debt service reserve
. $1.5 million reserve for capital expenditures
. $2.0 million reserve for payment of fees to the Tenant/Manager
In addition, the Partnership is required to establish with the lender a separate
escrow account for payments of insurance premiums and real estate taxes for the
Hotel if the credit rating of Marriott International is downgraded by Standard
and Poor's Rating Services. The Manager is a wholly-owned subsidiary of
Marriott International. In March 1997, Marriott International acquired the
Renaissance Hotel Group N.V., adding greater geographic diversity and growth
potential to its lodging portfolio. The assumption of additional debt
associated with this transaction resulted in a single downgrade of Marriott
International's long-term senior unsecured debt effective April, 1997.
Therefore, the Partnership was required to establish a reserve account for
insurance and real estate tax. As of December 31, 1997, $581,000 remains
available to pay insurance and real estate taxes. The escrow reserve is
included in restricted cash and the resulting tax and insurance liability is
included in accounts payable and accrued liabilities in the accompanying balance
sheet.
Desert Springs Supp-45
<PAGE>
The reserves were established from the Partnership's restricted cash related to
the Bridge Loan in addition to Partnership operating cash.
Additional Rental
Under the terms of the Hotel operating lease (see Note 7), the Tenant paid
Additional Rental to the Partnership which was subject to possible repayment
under defined conditions; therefore, Additional Rental had been recorded as a
liability in the financial statements. At the termination of the Operating
Lease, all Additional Rental was forgiven and is recorded as an Extraordinary
Gain in the financial statements.
Cash and Cash Equivalents
The Partnership considers all highly liquid investments with a maturity of less
than three months at date of purchase to be cash equivalents.
Income Taxes
Provision for Federal and state income taxes has not been made in the
accompanying financial statements since the Partnership does not pay income
taxes, but rather, allocates its profits and losses to the individual partners.
Significant differences exist between the net loss/net income for financial
reporting purposes and the net loss/net income reported in the Partnership's tax
return. These differences are due primarily to the use for income tax purposes
of accelerated depreciation methods, shorter depreciable lives for the assets
and differences in the timing of recognition of rental income. As a result of
these differences, the excess of the tax basis in net Partnership liabilities
and the net liabilities reported in the accompanying financial statements at
December 31, 1997 and 1996 was $55.7 million and $26.0 million, respectively.
New Statements of Financial Accounting Standards
The Partnership adopted SFAS No. 121 "Accounting for the Impairment of Long-
Lived Assets and for Long-Lived Assets to Be Disposed Of" during 1996. Adoption
of SFAS No. 121 did not have any effect on the Partnership's financial
statements.
NOTE 3. PROPERTY AND EQUIPMENT
Property and equipment consists of the following as of December 31 (in
thousands):
<TABLE>
<CAPTION>
1997 1996
--------- ---------
<S> <C> <C>
Land and land improvements.................................. $ 13,690 $ 13,690
Building and improvements................................... 155,497 155,570
Furniture and equipment..................................... 44,090 47,800
-------- --------
213,277 217,060
Less accumulated depreciation............................... (61,876) (61,619)
-------- --------
$151,401 $155,441
======== ========
</TABLE>
NOTE 4. ESTIMATED FAIR VALUE OF FINANCIAL INSTRUMENTS
The estimated fair value of financial instruments are shown below. Fair values
of financial instruments not included in this table are estimated to be equal to
their carrying amounts (in thousands):
Desert Springs Supp-46
<PAGE>
<TABLE>
<CAPTION>
As of December 31, 1997 As of December 31, 1996
----------------------- -----------------------
Estimated Estimated
Carrying Fair Carrying Fair
Amount Value Amount Value
---------- ----------- --------- ------------
<S> <C> <C> <C> <C>
Mortgage debt............................ $ 103,000 $ 103,000 $ 160,000 $ 160,000
Note payable............................. 20,000 20,000 -- --
Due to Host Marriott and affiliates...... 59,727 59,727 -- --
Note Payable to Marriott International... -- -- 900 900
Additional rental paid by Hotel lessee... -- -- 25,013 --
</TABLE>
The estimated fair value of mortgage debt and other long term obligations is
based on the expected future debt service payments discounted at estimated
market rates. Additional rental paid by the Hotel lessee was valued based on
the expected future payments from operating cash flow discounted at a risk-
adjusted rate. As further explained in Note 7, upon closing of the permanent
financing, Marriott International agreed to waive all claims to Additional
Rental that had accrued prior to the consummation of the loan. Consequently, the
estimated fair value of Additional Rental paid by the Hotel lessee is zero.
NOTE 5. DEBT
In 1996, Partnership debt consisted of a $168.2 million nonrecourse mortgage
loan (the "Mortgage Debt") which matured on July 27, 1996. The Mortgage Debt
bore interest at a fixed rate of 7.76% and required no amortization of principal
prior to maturity. Upon maturity, the Mortgage Debt went into default as the
Partnership was unable to secure replacement financing or negotiate a
forbearance agreement with the lender. Pursuant to the loan documents, the
Mortgage Debt began to accrue interest at the Default Rate, as defined, of
10.75% which was 2.5 percentage points above the Lender's Corporate Base Rate,
as defined, from the maturity date through December 23, 1996. The Mortgage Debt
was refinanced on December 23, 1996.
As of December 31, 1996, Partnership debt consisted of a $160 million
nonrecourse mortgage loan (the "Bridge Loan"). The Bridge Loan was originated
by Goldman, Sachs & Co. ("Goldman Sachs") and the lender was GMAC Commercial
Mortgage Corporation providing an interim $160 million mortgage loan bearing
interest at LIBOR plus 2.75 percentage points which matured on October 31, 1997.
Pursuant to the terms of the Bridge Loan, all excess cash from Hotel operations,
if any, was held in a debt service reserve for future debt service or to reduce
the outstanding principal balance upon maturity. Through November 25, 1997, the
weighted average interest rate on the Bridge Loan was 8.4%.
On September 26, 1997, the General Partner received unrevoked consents approving
a new loan structure and certain amendments to the Partnership Agreement which
were necessary to refinancing negotiations of the Bridge Loan. An extension
agreement was signed with the current lender on October 30, 1997, extending the
maturity date of the Bridge Loan from October 31, 1997 to December 31, 1997,
without penalty.
On November 25, 1997, the Partnership secured long-term financing for its $160
million Bridge Loan. The new financing consists of three tranches: 1) a $103
million senior loan, 2) a $20 million loan and 3) a $59.7 million junior loan.
The $103 million senior loan (the "Senior Loan") is from GMAC Commercial
Mortgage Company ("GMAC") to a newly formed bankruptcy remote subsidiary of the
Partnership, DS Hotel LLC, which owns the Hotel and related assets. The Senior
Loan matures in December, 2022 and is secured by a first mortgage lien on the
Hotel. The loan bears interest at a fixed rate of 7.8% and requires monthly
payments of interest and principal with amortization over its twenty-five year
term.
The second tranche of debt consists of a $20 million loan (the "Mezzanine Loan")
from Goldman Sachs Mortgage Company ("GSMC") to a newly formed bankruptcy remote
subsidiary of the Partnership, Marriott DSM LLC, which secures the loan. The
Mezzanine Loan consists of a fully amortizing $20 million loan bearing interest
at 10.365% for a twelve and one-half year term maturing in December, 2010.
Desert Springs Supp-47
<PAGE>
The third tranche of debt consists of a junior loan, (the "HM Junior Loan") to
the Partnership from MDSM Finance LLC ("MDSM"), a wholly owned subsidiary of the
General Partner. The HM Junior Loan has a term of thirty years and requires no
principal amortization for the first twelve and one-half years with a seventeen
and one-half year amortization schedule thereafter. If remaining cash flow is
insufficient to pay interest on the HM Junior Loan, interest is deferred and
will accrue and compound and be payable from future cash flow. The HM Junior
Loan also entitles MDSM to receive 30% of any excess cash flow, as defined,
available annually, plus 30% of any net capital/residual proceeds after full
repayment of the Senior Loan, the Mezzanine Loan and the HM Junior Loan.
On the Closing Date, the Partnership was required to establish certain reserves
which are discussed in Note 2.
The Partnership utilized $1.2 million in 1997 from the refinancing reserve to
pay costs associated with the financing including lender or subsidiary fees,
property appraisals, environmental studies and legal fees.
The required principal payments of the Senior Loan, Mezzanine Loan and the HM
Junior Loan at December 31, 1997 are as follows (in thousands):
<TABLE>
<CAPTION>
<S> <C>
1998......... $ 2,186
1999......... 2,389
2000......... 2,581
2001......... 2,850
2002......... 3,116
Thereafter... 169,605
--------
$182,727
========
</TABLE>
Debt to Marriott International
On April 30, 1996, the Partnership entered into a short-term loan with Marriott
International in the amount of $1,700,000 to fund a portion of the Hotel's rooms
refurbishment project. The loan matured on June 13, 1997, bearing interest at
8.5% and was repaid from the property improvement fund as contributions were
made during the year. The loan was fully repaid on March 28, 1997.
NOTE 6. AIRLINE EQUIPMENT LEASE
The Partnership leased airline equipment to TWA under the terms of an operating
lease which expired in April 1995. Pursuant to the terms of the airline
equipment lease, TWA was obligated to make semi-annual payments, in arrears,
based upon specified percentages of the Partnership's cost of the airline
equipment. Rental income under the operating lease is included in "Airline
equipment income" in the statement of operations and was $852,000 in 1995.
On April 20, 1995, the Partnership reached an agreement with TWA whereby TWA was
obligated to pay renewal rents under a 15-month lease agreement. The renewal
rents consisted of quarterly payments of $780,000 plus 17% interest paid in
arrears, all of which totaled $6.5 million. At the end of the lease term, TWA
had the option to purchase the equipment for one dollar ($1). The Partnership
classified the new lease as a sales-type lease and recorded a receivable for the
future lease payments due from TWA, along with a deferred gain on the
transaction. The deferred gain was recognized as income as lease payments were
received on the installment method as a component of the line item "Airline
Equipment Income" in the statement of operations. Deferred gain amortization
was $1,248,000 in 1996 and $1,985,000 in 1995. On April 24, 1996, TWA exercised
its early termination option under the airline equipment lease and paid the rent
due on that date of $847,000 along with the termination value of $780,000 plus
the $1 purchase option.
NOTE 7. OPERATING LEASE
Desert Springs Supp-48
<PAGE>
The Partnership leased the Hotel to the Tenant pursuant to an agreement which
commenced on April 24, 1987, with an initial term of 25 years (the "Operating
Lease") with renewal options for five successive periods of 10 years each.
Annual Rental was equal to the greater of Basic Rental or Owner's Priority, as
described below:
1. Basic Rental equals 85% of Operating Profit, as defined, until December 31,
1993, and 80% thereafter.
2. Owner's Priority equals the greater of (i) $20 million plus debt service on
certain additional debt to expand the Hotel ("Expansion Debt Service") or
(ii) Debt Service, as defined. If there is a new mortgage (in an amount
which exceeds the outstanding balance of the existing mortgage by at least
$45,455,000), Owner's Priority will equal the greater of (i) $20 million
plus Expansion Debt Service, (ii) Debt Service or (iii) the lesser of Debt
Service on the new mortgage or $24 million plus Expansion Debt Service. In
no event will Owner's Priority for any year exceed Operating Profit.
3. Additional Rental equals the cumulative amount by which Owner's Priority
exceeds Basic Rental plus $268,000 and is recorded as a liability in the
accompanying financial statements. If in any year Basic Rental exceeds
Owner's Priority, Annual Rental will be reduced to equal Basic Rental minus
the lower of (i) Additional Rental then outstanding or (ii) 25% of the
amount by which Basic Rental exceeds Owner's Priority.
Pursuant to an agreement reached with Marriott International, for fiscal year
1997 the $20 million Owner's Priority was increased to $20.5 million. Marriott
International was entitled only to the next $2 million of Operating Profit. Any
additional Operating Profit in excess of $22.5 million was remitted entirely to
the Partnership. In connection with the long-term financing, Marriott
International agreed to waive any and all claims to Additional Rental that
accrued prior to the consummation of the loan. The Partnership recorded an
extraordinary gain of $27.5 million in 1997 to recognize the gain which resulted
from the forgiveness of these fees.
Rental income for 1997 included Basic Rental of $17,608,000 and Additional
Rental of $4,402,000. Operating Profit in 1997 totaled $23,698,000. In
accordance with an agreement reached with Marriott International, the
Partnership was entitled to receive Owner's Priority of $20,500,000 and Marriott
International was entitled to the next $2,000,000 with the remaining $1,198,000
to the Partnership.
In addition to the Annual Rental, the Tenant was required to pay property taxes,
make annual contributions equal to a percentage of Hotel sales to a property
improvement fund (4.5% through 1997 and 5.5% thereafter) and pay rental on the
second golf course.
Pursuant to the terms of the Hotel purchase agreement, the Tenant and its
affiliates may utilize a portion of the land adjacent to the Hotel for
development of residences and timeshare condominiums. Purchasers of the
residences have the opportunity to use certain Hotel facilities and services for
a fee. Purchasers of the timeshare condominiums also have the ability to use
the Hotel's facilities but such use is subject to the same fees charged to Hotel
guests.
During 1995, the Hotel's main swimming pool was expanded at a cost of
approximately $2.1 million. The project was funded partially by proceeds
received from Marriott Vacation Club International ("MVCI"), a wholly-owned
indirect subsidiary of Marriott International, pursuant to an agreement between
the Partnership and MVCI for the development of additional timeshare units on
land adjacent to the Hotel. As part of this agreement, the Hotel's spa was also
expanded during 1994. Pursuant to the terms of the agreement, MVCI contributed
a total of $1.3 million towards the pool expansion and the spa expansion
projects; the remaining costs were funded by Partnership cash reserves. Funding
by MVCI in 1995 was $692,000, and was included in "Other Income" in the
statement of operations.
NOTE 8. MANAGEMENT AGREEMENT
Desert Springs Supp-49
<PAGE>
On November 25, 1997, in connection with the refinancing, the General Partner
also negotiated with the Tenant to convert the Operating Lease to a management
agreement (the "Management Agreement"). The Tenant would become manager of the
Hotel (the "Manager"). The initial term of the Management Agreement continues
through 2022 with four successive renewal options of ten years each. The
Manager is paid a base management fee equal to 3% of gross hotel sales.
Beginning in fiscal year 1998, the Management Agreement provides that no
incentive fee will be paid to the Manager with respect to the first $21.5
million of Operating Profit (the "Owner's Priority"). Thereafter the Manager
will receive the next $1.8 million of Operating Profit as incentive management
fee and any operating profit in excess of $23.3 million will be divided 75% to
the Partnership and 25% to the Manager. Any such payments will be made annually
after completion of the audit of the Partnership's books.
The Management Agreement provides that the owner may terminate the Management
Agreement if, in any two of three consecutive fiscal years, Operating Profit is
less than $15 million. The Manager may, however, prevent termination by paying
the owner such amounts as are necessary to achieve the performance standards.
Pursuant to the Management Agreement, the Manager is required to furnish the
Hotel with certain services ("Chain Services") which are generally provided on a
central or regional basis to all hotels in the Manager's full-service hotel
system. Chain Services include central training, advertising and promotion, a
national reservations system, computerized payroll and accounting services and
such additional services as needed which may be more efficiently performed on a
centralized basis. Costs and expenses incurred in providing such services are
allocated among all domestic full-service hotels managed, owned or leased by the
Manager or its subsidiaries. In addition, the Hotels also participate in the
Manager's Marriott Rewards Program. The cost of this program is charged to all
hotels in the Manager's full-service hotel system based upon the Marriott
Rewards sales at each hotel. The total amount of Chain Services and Marriott
Rewards costs charged to the Partnership from November 25 through December 31,
1997 were $169,000.
The Management Agreements provide for the establishment of a property
improvement fund for the Hotel to cover the cost of certain non-routine repairs
and maintenance to the Hotel which are normally capitalized and the cost of
replacements and renewals to the Hotel's property and improvements.
Contributions to the property improvement fund are based on a percentage of
gross sales. Contributions to the property improvement fund are 4.5% in 1997
and 5.5% thereafter. Contributions to the property improvement fund from
November 25 through December 31, 1997 were $421,000.
NOTE 9. HOTEL OPERATING RESULTS
The following is a summary of Hotel Operating Profit, as defined in the Hotel
lease agreement, for the three years ended December 31, 1997 (in thousands):
<TABLE>
<CAPTION>
1997 1996 1995
-------- ------- -------
<S> <C> <C> <C>
REVENUES
Rooms................................................... $ 39,825 $ 37,031 $ 33,495
Food and beverage....................................... 40,366 38,431 33,453
Other................................................... 23,130 22,437 18,450
-------- -------- --------
103,321 97,899 85,398
-------- -------- --------
EXPENSES
Departmental direct costs
Rooms.................................................. 8,933 8,545 7,715
Food and beverage...................................... 27,642 26,623 23,335
Other operating expenses................................ 43,048 41,686 35,987
-------- -------- --------
79,623 76,854 67,037
-------- -------- --------
OPERATING PROFIT......................................... $ 23,698 $ 21,045 $ 18,361
======== ======== ========
</TABLE>
Desert Springs Supp-50
<PAGE>
NOTE 10. REVENUES
Partnership revenues for the period of November 25 through December 31, 1997
consist of the Hotel's operating results (in thousands):
<TABLE>
<CAPTION>
HOTEL SALES
<S> <C>
Rooms.............................................................. $3,620
Food and beverage.................................................. 3,330
Other.............................................................. 2,403
------
9,353
------
HOTEL EXPENSES
Departmental direct costs
Rooms............................................................. 801
Food and beverage................................................. 2,646
Other............................................................. 3,296
------
Other Hotel operating expenses..................................... 6,743
------
HOTEL REVENUES...................................................... $2,610
======
</TABLE>
Desert Springs Supp-51
<PAGE>
Desert Springs Marriott Limited Partnership and Subsidiaries
Condensed Consolidated Statements of Operations
(Unaudited)
(in thousands, except per unit amounts)
<TABLE>
<CAPTION>
Twelve Weeks Ended
----------------------------------
March 27, March 28,
1998 1997
----------------- ----------------
<S> <C> <C>
REVENUES (Note 3)
Hotel rentals.................................... $ -- $ 6,264
Hotel revenues................................... 16,153 --
-------- -------
16,153 6,264
-------- -------
OPERATING COSTS AND EXPENSES
Incentive management fees........................ 1,010 --
Depreciation..................................... 1,657 1,941
Base management fees............................. 1,081 --
Property taxes and other......................... 789 560
-------- -------
4,537 2,501
-------- -------
OPERATING PROFIT.................................. 11,616 3,763
Interest expense (including amounts related to
Host Marriott debt of $1,855)................... (4,470) (3,440)
Interest income and other........................ 184 53
-------- -------
NET INCOME........................................ $ 7,330 $ 376
======== =======
ALLOCATION OF NET INCOME
General Partner.................................. $ 73 $ 4
Limited Partners................................. 7,257 372
-------- -------
$ 7,330 $ 376
======== =======
NET INCOME PER LIMITED PARTNER UNIT (900 Units)... $ 8,063 $ 413
======== =======
</TABLE>
See Notes to Condensed Consolidated Financial Statements.
Desert Springs Supp-52
<PAGE>
Desert Springs Marriott Limited Partnership and Subsidiaries
Condensed Consolidated Balance Sheets
(in thousands)
<TABLE>
<CAPTION>
March 27, December 31,
1998 1997
----------- -------------
(unaudited)
<S> <C> <C>
ASSETS
Property and equipment, net........................... $ 151,284 $ 151,401
Due from Marriott Hotel Services, Inc................. 5,420 1,368
Property improvement fund............................. 2,124 1,598
Deferred financing, net of accumulated amortization... 3,027 3,000
Restricted cash reserves.............................. 11,780 10,236
Cash and cash equivalents............................. 8,805 4,553
--------- ---------
$ 182,440 $ 172,156
========= =========
LIABILITIES AND PARTNERS' DEFICIT
LIABILITIES
Mortgage debt......................................... $ 102,640 $ 103,000
Note payable.......................................... 19,797 20,000
Note payable to Host Marriott and affiliates.......... 59,727 59,727
Due to Marriott Hotel Services, Inc................... 3,133 2,122
Accounts payable and accrued expenses................. 4,478 1,972
--------- ---------
Total Liabilities................................. 189,775 186,821
--------- ---------
PARTNERS' DEFICIT
General Partner....................................... 52 (21)
Limited Partners...................................... (7,387) (14,644)
--------- ---------
Total Partners' Deficit........................... (7,335) (14,665)
--------- ---------
$ 182,440 $ 172,156
========= =========
</TABLE>
See Notes to Condensed Consolidated Financial Statements.
Desert Springs Supp-53
<PAGE>
Desert Springs Marriott Limited Partnership and Subsidiaries
Condensed Consolidated Statements of Cash Flows
(Unaudited)
(in thousands)
<TABLE>
<CAPTION>
Twelve Weeks Ended
-----------------------
March 27, March 28,
1998 1997
---------- ----------
<S> <C> <C>
OPERATING ACTIVITIES
Net income.................................................. $ 7,330 $ 376
Noncash items............................................... 1,715 2,188
Change in operating accounts................................ (535) 2,853
-------- --------
Cash provided by operating activities................... 8,510 5,417
-------- --------
INVESTING ACTIVITIES
Additions to property and equipment, net.................... (1,540) (619)
Changes in property improvement fund........................ (526) 46
-------- --------
Cash used in investing activities....................... (2,066) (573)
-------- --------
FINANCING ACTIVITIES
Change in restricted cash................................... (1,544) (4,271)
Repayment of mortgage debt.................................. (360) --
Repayment of note payable................................... (203) --
Payment of refinancing costs................................ (85) (26)
Repayment of note payable to Marriott International, Inc.... -- (900)
-------- --------
Cash used in financing activities....................... (2,192) (5,197)
-------- --------
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS............. 4,252 (353)
CASH AND CASH EQUIVALENTS at beginning of period............. 4,553 5,755
-------- --------
CASH AND CASH EQUIVALENTS at end of period................... $ 8,805 $ 5,402
======== ========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid for interest...................................... $ 2,523 $ 2,788
======== ========
</TABLE>
See Notes to Condensed Consolidated Financial Statements.
Desert Springs Supp-54
<PAGE>
Desert Springs Marriott Limited Partnership and Subsidiaries
Notes to Condensed Consolidated Financial Statements
(Unaudited)
1. The accompanying condensed consolidated financial statements have been
prepared by Desert Springs Marriott Limited Partnership and subsidiaries
(the "Partnership") without audit. Certain information and footnote
disclosures normally included in financial statements presented in
accordance with generally accepted accounting principles have been
condensed or omitted from the accompanying statements. The Partnership
believes the disclosures made are adequate to make the information
presented not misleading. However, the condensed consolidated financial
statements should be read in conjunction with the consolidated financial
statements and notes thereto included in the Partnership's Annual Report on
Form 10-K for the fiscal year ended December 31, 1997.
In the opinion of the Partnership, the accompanying unaudited condensed
consolidated financial statements reflect all adjustments (which include
only normal recurring adjustments) necessary to present fairly the
financial position of the Partnership as of March 27, 1998 and December 31,
1997, and the results of operations for the twelve weeks ended March 27,
1998 and March 28, 1997. Interim results are not necessarily indicative of
fiscal year performance because of seasonal and short-term variations (see
Note 3).
For financial reporting purposes, net income of the Partnership is
allocated 99% to the Limited Partners and 1% to Marriott Desert Springs
Corporation (the "General Partner"). Significant differences exist between
the net income for financial reporting purposes and the net income for
Federal income tax purposes. These differences are due primarily to the
use, for income tax purposes, of accelerated depreciation methods, shorter
depreciable lives, no estimated salvage values for the assets and
differences in the timing of the recognition of rental income.
2. In connection with the mortgage debt refinancing in November 1997, the
General Partner received unrevoked consents of limited partners approving
certain amendments to the partnership agreement. The amendments, among
other things, allowed the formation of certain subsidiaries of the
Partnership including DS Hotel LLC and Marriott DSM LLC. The Partnership
contributed the Hotel and its related assets to Marriott DSM LLC, which in
turn contributed them to DS Hotel LLC, a bankruptcy remote subsidiary.
Marriott DSM LLC, a bankruptcy remote subsidiary of the Partnership owns
100% interest in DS Hotel LLC. The Partnership owns 100% interest in
Marriott DSM LLC.
3. On November 25, 1997, the Partnership completed a refinancing of its
mortgage debt. In connection with the refinancing, the Partnership
converted its operating lease with Marriott Hotel Services, Inc. ("MHS") to
a management agreement (the "Conversion"). Prior to the Conversion, the
Partnership recognized estimated annual hotel rental income on a straight-
line basis throughout the year. The profits from the Hotel are seasonal and
first and second quarter results are generally higher than the last two
quarters of the year. Lease payments in excess of the income recognized by
the Partnership were deferred and, to the extent not subject to possible
future repayment to the Hotel tenant, were recognized as income during the
remainder of the year. Pursuant to the terms of the Operating Lease, Annual
Rental, as defined, was equal to the greater of Basic Rental (80% of
Operating Profit, as defined) and Owner's Priority, as defined.
Additionally, the Hotel tenant was required to pay property taxes, make
contributions equal to a percentage of Hotel sales to a property
improvement fund (4.5% in 1997 and 5.5% thereafter) and pay rental on the
second golf course.
Subsequent to the Conversion, the Partnership records revenue based on
house profit generated by the Hotel. House profit reflects Hotel operating
results, and represents gross hotel sales less property-level expenses,
excluding depreciation, base and incentive management fees, property taxes,
and certain other costs, which are disclosed separately in the statement of
operations. Revenues are recorded based on house profit because the
Partnership has delegated substantially all of the operating decisions
related to the generation of house profit to MHS.
Desert Springs Supp-55
<PAGE>
The following is a summary of Hotel Revenues, for the twelve weeks ended
March 27, 1998 and March 28, 1997 (in thousands):
<TABLE>
<CAPTION>
March 27, March 28,
1998 1997
--------- ---------
<S> <C> <C>
HOTEL SALES
Rooms...................... $ 14,433 $ 12,712
Food and beverage.......... 13,471 12,060
Other...................... 8,115 8,013
-------- --------
36,019 32,785
-------- --------
HOTEL EXPENSES
Departmental direct costs
Rooms...................... 2,673 2,259
Food and beverage.......... 8,389 7,457
Other operating expenses.... 8,804 8,414
-------- --------
19,866 18,130
-------- --------
HOTEL REVENUES............... $ 16,153 $ 14,655
======== ========
</TABLE>
4. Pursuant to the terms of the management agreement, MHS earns an incentive
management fee based on Operating Profit as defined. For fiscal year 1998,
the Partnership is entitled to the first $21.5 million of Operating Profit
(the "Owners Priority"). Thereafter, MHS will receive the next $1.8 million
of Operating Profit as an incentive management fee and any operating profit
in excess of $23.3 million will be divided 75% to the Partnership and 25%
to MHS. Any such payments will be made annually after completion of the
audit of the Partnership's books. Pursuant to the terms of the management
agreement, contributions to the property improvement fund in 1998 are 5.5%
of gross Hotel sales, a one percentage point increase over the prior year
level.
5. On April 17, 1998, Host Marriott Corporation ("Host Marriott"), the parent
of the General Partner of the Partnership, announced that its Board of
Directors has authorized the company to reorganize its business operations
to qualify as a real estate investment trust ("REIT") to become effective
as of January 1, 1999. As part of the REIT conversion, Host Marriott
expects to form a new operating partnership (the "Operating Partnership")
and limited partners in certain Host Marriott full-service hotel
partnerships and joint ventures, including the Partnership, are expected to
be given an opportunity to receive, on a tax-deferred basis, Operating
Partnership units in the new Operating Partnership in exchange for their
current partnership interest.
Desert Springs Supp-56
<PAGE>
HOST MARRIOTT, L.P.
Supplement Dated __________ __, 1998 for
Prospectus/Consent Solicitation Statement Dated _________ __, 1998 for
Hanover Marriott Limited Partnership
On the terms described in the Prospectus/Consent Solicitation Statement
(the "Consent Solicitation"), dated ______ __, 1998, of which this Supplement
(the "Supplement") is a part, Host Marriott Corporation, a Delaware corporation
("Host"), has adopted a plan to reorganize its business operations so that it
will qualify as a real estate investment trust ("REIT"). As part of this
reorganization (the "REIT Conversion"), Host and its consolidated subsidiaries
will contribute their full-service hotel properties and certain other businesses
and assets to Host Marriott, L.P., a newly formed Delaware limited partnership
(the "Operating Partnership"), in exchange for units of limited partnership
interest in the Operating Partnership ("OP Units") and the assumption of certain
liabilities. The sole general partner of the Operating Partnership will be Host
Marriott Trust, the entity resulting from the conversion of Host from a Delaware
corporation to a Maryland REIT ("Host REIT"). The Operating Partnership and Host
REIT will operate together as an umbrella partnership REIT. Host REIT expects to
qualify as a REIT beginning with its first full taxable year after the closing
of the REIT Conversion, which Host REIT currently expects to be the year
beginning January 1, 1999.
Following the REIT Conversion and the Blackstone Acquisition (defined
below), the Operating Partnership and its subsidiaries initially will own
outright, or have controlling interests in, approximately 120 full-service
hotels operating primarily under the Marriott, Ritz-Carlton, Four Seasons,
Swissotel and Hyatt brand names (the "Hotels"). Concurrently with the REIT
Conversion, the Operating Partnership will acquire ownership of, or controlling
interests in, 12 hotels and a mortgage loan secured by a thirteenth hotel
controlled by The Blackstone Group and a series of funds controlled by
Blackstone Real Estate Partners (collectively, the "Blackstone Entities") in
exchange for OP Units, the assumption of liabilities and other consideration
(the "Blackstone Acquisition"). The Operating Partnership will be one of the
largest owners of full-service hotels in the United States.
As part of the REIT Conversion, the Operating Partnership is proposing
to acquire by merger (the "Mergers") Hanover Marriott Limited Partnership, a
Delaware limited partnership ("Hanover" or the "Partnership"), and up to seven
other limited partnerships (the "Partnerships") that own full-service hotels in
which Host or its subsidiaries are general partners. As more fully described in
the Consent Solicitation, limited partners of those Partnerships who participate
in the Mergers will receive either OP Units or, at their election, unsecured
____% Notes due December 15, 2005 issued by the Operating Partnership ("Notes"),
in exchange for their partnership interests in such Partnerships (with respect
to the Partnerships, those limited partners of the Partnerships who are
unaffiliated with Host are referred to herein as the "Limited Partners," and
with respect to Hanover, the "Hanover Limited Partners").
The number of OP Units to be allocated to Hanover will be based upon
(i) Hanover's Exchange Value (as defined herein) and (ii) the deemed value of an
OP Unit at the time of the Merger, determined as described herein. See
"Determination of Exchange Values and Allocation of OP Units." The principal
amount of Notes that Hanover Limited Partners may elect to receive in exchange
for the OP Units received in the Merger will be based upon Hanover's Note
Election Amount (as defined herein). See "Description of the Notes." The
estimated Exchange Value set forth herein may increase or decrease as a result
of various adjustments, and will be finally calculated shortly before the deemed
Closing Date (as defined herein). Pursuant to the Merger, Hanover Limited
Partners will receive OP Units with a deemed value of $123,202 per Partnership
Unit (as defined herein), or if a Hanover Limited Partner elects, a Note in a
principal amount of $88,474 per Partnership Unit.
In connection with the REIT Conversion, each outstanding share of Host
common stock will be converted into one common share of beneficial interest, par
value $.01 per share (a "Common Share"), of Host REIT. Following the closing of
the REIT Conversion, the Common Shares will be listed on the New York Stock
Exchange. Beginning one year after the Mergers, Limited Partners will have the
right to redeem their OP Units at any time and receive, at the election of Host
REIT, either Common Shares on a one-for-one basis (subject to adjustment) or
cash in an amount equal to the market value of such shares (the "Unit Redemption
Right").
Because REITs are not permitted under current federal income tax law to
derive revenues directly from the operation of hotels, the Operating Partnership
will lease the Hotels to lessees (the "Lessees") that will operate the Hotels
under the existing management agreements and pay rent to the Operating
Partnership, as more fully described herein. The Lessees generally will be
indirect controlled subsidiaries of HMC Senior Communities, Inc., which
currently is a wholly owned subsidiary of Host ("SLC"), but which will become a
separate public company as part of the REIT Conversion when Host distributes the
common stock of SLC to its existing shareholders and the Blackstone Entities.
Shares of Host REIT and SLC will become separately traded securities and the
companies will operate independently. Initially, there may be a partial overlap
between the boards of Host REIT and SLC but this will be phased out over time.
There also will be a substantial overlap of shareholders of the two companies
initially, but this likely will diverge over time.
Hanover Supp-1
<PAGE>
Marriott Hanover Hotel Corporation (the "General Partner"), the general
partner of Hanover, believes that the terms of the Merger provide substantial
benefits and are fair to the Hanover Limited Partners and recommends that all
Hanover Limited Partners vote FOR the Merger.
The effects of the Mergers may be different for Limited Partners of the
various Partnerships. This Supplement has been prepared to highlight for Hanover
Limited Partners the specific risks, benefits, effects and fairness of the
Merger to them and to provide other information specific to Hanover. Supplements
have also been prepared for each of the other Partnerships. This Supplement,
together with the supplements of the other Partnerships (collectively, the
"Supplements"), are part of the Consent Solicitation. Upon receipt of a written
request by a Limited Partner or his representative so designated in writing, the
General Partner will send a copy of any Supplement without charge. All requests
for a copy of a Supplement should be directed to: Investor Relations, 10400
Fernwood Road, Bethesda, Maryland 20817, telephone number 301-380-2070 (between
the hours of 9:00 a.m. and 4:00 p.m., eastern time).
All cross-references refer to the Consent Solicitation unless stated
otherwise. Capitalized terms not defined herein shall have the meaning set forth
in the Consent Solicitation. The information contained herein, unless otherwise
indicated, assumes the REIT Conversion occurs with all Hotel Partnerships
participating and no Notes being issued (the "Full Participation Scenario").
Risk Factors
In deciding whether to approve the Merger, Hanover Limited Partners
should consider certain risks and other factors. The General Partner believes
that Hanover Limited Partners should particularly consider the following, which
should be read in conjunction with the information in the Consent Solicitation
under "Risk Factors" and "Federal Income Tax Considerations:"
. Substantial Benefits to Related Parties. The Mergers will
facilitate consummation and enable Host to reap the full benefits
of the REIT Conversion and will result in an increase in Host
REIT's Funds From Operations per Common Share on a pro forma
basis. By converting to a REIT, Host expects to benefit from the
advantages enjoyed by REITs in raising capital and acquiring
additional assets, participating in a larger group of comparable
companies and increasing its potential base of shareholders. Also,
Host will realize significant savings through the substantial
reduction of its future corporate-level income taxes. To the
extent that such anticipated benefits initially are reflected in
the value of Host's common stock before the Closing Date, they
will not be shared initially with the Limited Partners. Host might
be required to transfer its interests in certain Partnerships that
do not participate in a Merger, if any, to a Non-Controlled
Subsidiary, in which case Host's share of such Partnerships'
earnings would continue to be subject to corporate-level income
tax.
. Absence of Arm's Length Negotiations. No independent
representative was retained to negotiate on behalf of the Hanover
Limited Partners or the other Limited Partners. Although the
General Partner has obtained the Appraisal and the Fairness
Opinion from AAA, AAA has not negotiated with the General Partner
or Host and has not participated in establishing the terms of the
Mergers. Consequently, the terms and conditions of the Mergers may
have been more favorable to the Hanover Limited Partners or the
other Limited Partners if such terms and conditions were the
result of arm's length negotiations.
Hanover Supp-2
<PAGE>
. Other Conflicts of Interest. The Mergers, the REIT Conversion and
the recommendations of the General Partners involves the following
conflicts of interest because of the relationships among Host, the
Operating Partnership, the General Partners and SLC: (i) the
General Partners, which are all subsidiaries of Host (except for
PHLP, of which Host is the General Partner), must assess whether
the terms of the Mergers are fair and equitable to the Limited
Partners of its Partnership without regard to whether the Mergers
and the REIT Conversion may benefit Host and (ii) the terms of the
Leases of the Hotels, including the Participating Partnership'
Hotels, will be determined by Host, which will distribute the
common stock of SLC, the parent of the Lessees, to its
shareholders after such terms have been set and (iii) the terms of
the Partnership Agreement, including provisions which benefit Host
REIT, have been determined by Host. Such conflicts may result in
decisions that do not fully reflect the interests of all Limited
Partners, including the Hanover Limited Partners.
. Valuation of SLC. The value of the SLC common stock distributed
to Host's shareholders and the Blackstone Entities will be one
factor used in determining the value of an OP Unit. Although
Host's Board of Directors will determine the value of the SLC
common stock in good faith and in reliance in part up on the
opinion of an independent financial advisor, conflicts of interest
still exist. If the SLC common stock is undervalued by Host's
Board of Directors, the deemed value of an OP Unit for purposes of
the Mergers may be higher than the level at which the Host REIT
Common Shares will trade following the REIT Conversion and the
Hanover Limited Partners could receive less than the full Exchange
Value of their Partnership Interests and Host REIT could receive
an overall higher percentage of the ownership of the Operating
Partnership.
. Determination of Exchange Value. The deemed value of OP Units
that each Hanover Limited Partner will receive (if such Hanover
Limited Partner elects to retain OP Units rather than receive a
Note) will equal the Exchange Value of such Hanover Limited
Partner's Partnership Interest. The Exchange Value of Hanover will
be its Adjusted Appraised Value, which is the greatest of its
Adjusted Appraised Value, Continuation Value and Liquidation
Value, each of which is determined according to a different method
of valuation and involves numerous estimates and assumptions.
There is no assurance that the Exchange Value of Hanover will
equal the fair market value of the Hotel and other assets
contributed by Hanover. Host REIT, on the other hand, will receive
a number of OP Units equal to the number of shares of Host common
stock outstanding on the Closing Date (and, if Host has
outstanding shares of preferred stock at the time of the REIT
Conversion, a corresponding number of preferred partnership
interests in the Operating Partnership), which should fairly
represent the market value of Host REIT but may not be equal to
the fair market or net asset value of the Hotels and other assets
that Host will contribute to the Operating Partnership. See
"Determination of Exchange Values and Allocation of OP Units."
. Valuation of OP Units. The value of an OP Unit, for purposes of
the Mergers and the REIT Conversion, will be deemed to be equal to
the value of a share of Host common stock immediately prior to the
REIT Conversion minus the amount of cash and the estimated value
of the SLC common stock or other property to be distributed with
respect to each share of Host common stock in connection with the
REIT Conversion. There is no assurance that, following the REIT
Conversion, the value of the publicly traded Common Shares (and
therefore the value of the OP Units) will in fact equal or exceed
the deemed value of the OP Units used for purposes of the Mergers.
These factors could result in the Limited Partners receiving OP
Units with an actual value that is less than either the deemed
value of the OP Units for purposes of the Mergers or the fair
market value of their Partnership Interests.
. Determination of the Value of the Notes. At the same time that he
votes on the Merger, each Hanover Limited Partner also may elect
to receive at the time of the Merger, in exchange for OP Units, an
unsecured, seven-year Note with a principal amount equal to the
Note Election Amount of his Partnership Interest, which is based
upon numerous assumptions and estimates. The deemed value of the
OP Units to be received by the Hanover Limited Partners will
exceed the principal amount of the corresponding Notes (because
the Exchange Value is higher than the Note Election Amount), and
there is no assurance that the Note a Hanover Limited Partner
receives will have a value equal to the fair market value of the
Hanover Limited Partner's share of the Hotel and
Hanover Supp-3
<PAGE>
other assets owned by Hanover. There will be no public market for
the Notes. If the Notes are sold, they may sell at prices
substantially below their issuance price. Noteholders are likely
to receive the full principal amount of a Note only if they hold
the Note to maturity, which is December 15, 2005, or if the
Operating Partnership repays the Notes prior to maturity. Because
the Notes are unsecured obligations of the Operating Partnership,
they will be effectively subordinated to all secured debt of the
Operating Partnership and all obligations of both the
Participating Partnerships and the Operating Partnership's other
subsidiaries. See "Description of the Notes." As of March 27,
1998, on a pro forma basis assuming the Full Participation
Scenario, the Operating Partnership would have had aggregate
consolidated debt of approximately $4.6 billion to which the Notes
were effectively subordinated or which rank equally with such
Notes.
. Fundamental Change in Nature of Investment; Potential
Underperformance. The Mergers and the REIT Conversion involve a
fundamental change in the nature of a Hanover Limited Partner's
investment from holding an interest in Hanover, which has a fixed
portfolio of one Hotel and distributes the cash flow from the
operation of the Hotel to the Hanover Limited Partners, to holding
an interest in an operating real estate company with a portfolio
of approximately 120 Hotels that collects and distributes to its
limited partners rents received from the Lessees (which will bear
the risks and receive the direct benefits of the Hotels'
operations), has the ability to acquire additional hotels, is able
to reinvest proceeds from sales or refinancings of existing Hotels
in other hotels and has a publicly traded general partner. In
addition, each Hanover Limited Partner's investment will change
from one that allows a Hanover Limited Partner to receive a return
of capital in the form of distributions from any net proceeds of a
sale or refinancing of Hanover's assets to an investment in which
a Hanover Limited Partner likely would realize a return of capital
only through the exercise of the Unit Redemption Right. Although
it is expected that the Hanover Limited Partners will receive
added benefits from an investment in the Operating Partnership,
Hanover Limited Partner's share of the liquidation proceeds, if
any, from the sale of Hanover's Hotel could be higher than the
amount realized upon exercise of the Unit Redemption Right (or
payments on any Note received by a Hanover Limited Partner who
elects to receive such Note). An investment in the Operating
Partnership may not outperform an investment in Hanover. See
"Comparison of Ownership of Partnership Interests, OP Units and
Common Shares -- Nature of Investment."
. Exposure to Risks from Other Hotels. As a result of the Mergers,
Hanover Limited Partners who elect to receive OP Units will own
interests in a much larger partnership with a broader range of
assets than Hanover individually. A material adverse change
affecting the Operating Partnership's assets will affect all
Limited Partners regardless of whether a particular Limited
Partner previously was an investor in such affected assets.
Hanover owns discrete assets, and the Mergers and the REIT
Conversion will significantly diversify the types and geographic
locations of the Hotels in which the Hanover Limited Partners will
have interests. As a result, the Hotels owned by the Operating
Partnership may be affected differently by economic and market
conditions than the Hotel previously owned by Hanover.
. Hanover Limited Partners Have No Cash Appraisal Rights. Hanover
Limited Partners who vote against the Merger will not have a right
to receive cash based upon an appraisal of their Partnership
Interests.
. Uncertainties as to the Size and Leverage of the Operating
Partnership. Host is an existing operating company that regularly
issues and repays debt, acquires additional hotels and disposes of
existing hotels. Also, some or all of the Partnerships may elect
not to participate in a Merger. In that case, Host may contribute
its interests in such Partnerships to a Non-Controlled Subsidiary,
which is subject to corporate-level income taxation, rather than
the Operating Partnership. In addition, outside partners in
certain Private Partnerships may not consent to a lease of their
partnership's Hotel(s). Host also may repurchase outstanding
securities or issue new debt or equity securities prior to the
consummation of the Mergers and the REIT Conversion. For these
reasons, the Hanover Limited Partners cannot know at the time they
vote on the Merger the exact size and amount of leverage of the
Operating Partnership.
Hanover Supp-4
<PAGE>
. Other Uncertainties at the Time of Voting. There are several
other uncertainties at the time the Hanover Limited Partners must
vote on the Merger, including (i) the exact Exchange Value for
Hanover (which will be adjusted for changes in lender and capital
expenditure reserves, indebtedness, deferred maintenance and other
items prior to the Closing Date), (ii) the deemed value of the OP
Units for purposes of the Merger which, together with the Exchange
Value, will determine the number of OP Units the Hanover Limited
Partners will receive and (iii) the exact principal amount of the
Notes that may be received in exchange for OP Units. For these
reasons, the Hanover Limited Partners cannot know at the time they
vote on the Merger these important aspects of the Merger.
. Lack of Control over Hotel Operations. Due to current federal
income tax law restrictions on a REIT's ability to derive revenues
directly from the operation of a hotel, the Operating Partnership
will lease virtually all of its consolidated Hotels to the
Lessees, which will operate the Hotels by continuing to retain the
Managers pursuant to the Management Agreements. The Operating
Partnership will not operate the Hotels or participate in the
decisions affecting the daily operations of the Hotels. Although
the Operating Partnership's subsidiaries will have certain rights
as lessors under the Leases (including control over decisions
relating to capital expenditures) and will remain obligated under
the Management Agreements, the Operating Partnership will have
only a limited ability to require the Lessees or the Managers to
operate or manage the Hotels in any particular manner or to govern
any particular aspect of their day-to-day operation or management.
Therefore, the Operating Partnership will be dependent for its
revenue upon the ability of the Lessees and the Managers to
operate and manage the Hotels.
. Expiration of Leases. The Leases will expire seven to ten years
after the Closing Date, and there can be no assurance that such
Leases will be renewed (or if renewed, will be renewed on terms as
favorable to the Operating Partnership). If the Leases are not
renewed, the Operating Partnership will be required to find other
lessees, which lessees must meet certain requirements set forth in
the Management Agreements. There can be no assurance that
satisfactory lessees could be found or as to the terms and
conditions on which the Operating Partnership would be able to
renew the Leases or enter into new leases with such lessees.
. Requisite Vote of Hanover Limited Partners Binds All Hanover
Limited Partners. For Hanover, approval of a Merger is by a
majority of the Partnership Interests of Hanover that are eligible
to be voted, as described in "Voting Procedures -- Required Vote
and Other Conditions." Such approval will cause Hanover to
participate in the Merger and will bind all Hanover Limited
Partners, including Hanover Limited Partners who voted against or
abstained from voting with respect to the Merger.
. Risks of Lodging Industry. The profitability of the Hotels is
subject to general economic conditions, the management abilities
of the Managers (primarily Marriott International), competition,
the desirability of particular locations and other factors
relating to the operation of the Hotels. The full-service segment
of the lodging industry, in which virtually all of the Hotels
operate, is highly competitive, and the Hotels generally operate
in geographical markets that contain numerous competitors. The
Hotels' success will be dependent, in large part, upon their
ability to compete in such areas as access, location, quality of
accommodations, room rate structure, the quality and scope of food
and beverage facilities and other services and amenities. The
lodging industry, including the Hotels (and thus the Operating
Partnership), may be adversely affected in the future by (i)
national and regional economic conditions, (ii) changes in travel
patterns, (iii) taxes and government regulations which influence
or determine wages, prices, interest rates, construction
procedures and costs, (iv) the availability of credit and (v)
other factors beyond the control of the Operating Partnership.
. Risks of Leverage. The Operating Partnership will have
substantial indebtedness. As of March 27, 1998, on a pro forma
basis assuming the Full Participation Scenario, the Operating
Partnership would have had outstanding indebtedness totaling $4.6
billion, which represents a 44% debt-to-total market
capitalization ratio on a pro forma basis at such date (based upon
a price per Common Share of Host REIT of $20.00). The Operating
Partnership's business is capital intensive, and it will have
significant capital requirements in the future. The Operating
Hanover Supp-5
<PAGE>
Partnership's leverage level could affect its ability to (i)
obtain financing in the future, (ii) undertake refinancings on
terms and subject to conditions deemed acceptable by the Operating
Partnership, (iii) make distributions to partners, (iv) pursue its
acquisition strategy or (v) compete effectively or operate
successfully under adverse economic conditions.
. No Limitation on Debt. There are no limitations in Host REIT's or
the Operating Partnership's organizational documents which limit
the amount of indebtedness either may incur, although both the
Notes and the Operating Partnership's other debt instruments will
contain certain restrictions on the amount of indebtedness that
the Operating Partnership may incur.
. Rental Revenues from Hotels Subject to Rights of Lenders. In
accordance with the mortgage loan agreements with respect to
outstanding indebtedness of certain Hotel Partnerships, the rental
revenues received by such Hotel Partnerships under certain Leases
first will be used to satisfy the debt service on such outstanding
indebtedness and any cash flow remaining thereafter will be
available to satisfy other obligations of the Hotel Partnership
(including paying property taxes and insurance, funding the
required FF&E reserves for the Hotels and capital improvements)
and to make distributions to partners, including Host REIT.
. Ownership Limitations. No person may own, actually or
constructively (as determined under the applicable Code
provisions), (i) in excess of 9.8% of the number or value of
outstanding Common Shares of Host REIT or (ii) in excess of 4.9%
of the OP Units (other than Host REIT and The Blackstone Group),
subject to waiver or modification by Host REIT or the Operating
Partnership, as the case may be, in certain limited circumstances.
. Timing of REIT Conversion. If the REIT Conversion does not occur
in time for Host REIT to elect REIT status effective January 1,
1999, the effectiveness of Host REIT's election could be delayed
to January 1, 2000, which would result in Host REIT continuing to
pay corporate-level income taxes in 1999 and could cause the
Blackstone Acquisition not to be consummated.
. Effect of Subsequent Events upon Recognition of Gain. Even though
the Hanover Limited Partners (other than those who elect to
receive a Note in exchange for OP Units) generally are not
expected to recognize significant taxable gain at the time of the
Merger, there are a variety of events and transactions (including
the sale of the Hotel currently owned by Hanover or the reduction
of indebtedness securing the Hotel) that could cause a Hanover
Limited Partner to recognize all or a part of the gain that
otherwise has been deferred through the REIT Conversion. See
"Federal Income Tax Considerations -- Tax Treatment of Hanover
Limited Partners Who Hold OP Units Following the Merger." Certain
Hotels (including the Blackstone Hotels) will be covered by
agreements with third parties which will restrict the Operating
Partnership's ability to dispose of those properties or refinance
their debt. As for the remaining initial properties (including the
Hotel owned by Hanover), the partnership agreement of the
Operating Partnership, which is substantially in the form attached
hereto as Appendix A (the "Partnership Agreement"), does not
impose any restrictions on the Operating Partnership's ability to
dispose of the Hotels or to refinance debt secured by the Hotels
(but the Operating Partnership is obligated to pay any taxes Host
REIT incurs as a result of such transactions). In addition, the
Partnership Agreement expressly provides that Host REIT, as
general partner of the Operating Partnership, is not required to
take into account the tax consequences of the limited partners in
deciding whether to cause the Operating Partnership to undertake
specific transactions and the limited partners have no right to
approve or disapprove such transactions. See "Description of OP
Units -- Sales of Assets."
. Adverse Tax Consequences of General Partner of a Sale of the
Hotel. Hanover had disproportionately allocated tax losses to the
General Partner, in past years, with the result that if the
Hanover Hotel was to be sold in a taxable transaction, the General
Partner (and thus Host) would incur a disproportionately larger
tax gain than the Hanover Limited Partners. Accordingly, the
General Partner has an additional conflict of interest in deciding
the appropriate course of action for Hanover with respect to its
Hotel.
. Election to Receive Notes. A Hanover Limited Partner who elects
to receive a Note in connection with the Merger in exchange for
his OP Units may be treated as having made a taxable disposition
of his Partnership Interest. The Hanover Limited Partner will be
eligible to defer a
Hanover Supp-6
<PAGE>
majority of that gain under the "installment sale" rules. A
Limited Partner with a "negative capital accounts" with respect to
his Partnership Interest who elects to receive a Note will
recognize "phantom income" in that amount at the time of the
Merger in any event. See "Federal Income Tax Considerations -- Tax
Treatment of Hanover Limited Partners Who Exercise Their Right to
Make the Note Election."
. Failure of Host REIT to Qualify as a REIT for Tax Purposes.
Taxation of Host REIT as a corporation if it fails to qualify as a
REIT, and Host REIT's subsequent liability for federal, state and
local taxes on its income and property, would, among other things,
have the effect of reducing cash available for distribution to
Host REIT's shareholders and materially reducing the value of the
Common Shares and OP Units.
. Failure of the Operating Partnership to Qualify as a Partnership
for Tax Purposes. Taxation of the Operating Partnership as a
corporation if it fails to qualify as a partnership and the
Operating Partnership's subsequent liability for federal, state
and local income taxes, would, among other things, have the effect
of reducing cash available for distribution to holders of OP
Units, would cause Host REIT to fail to qualify as a REIT for tax
purposes and would cause the holders of OP Units to recognize
substantial taxable gain at the time the Operating Partnership
ceases to qualify as a partnership.
. Change in Tax Laws. No assurance can be provided that new
legislation, Treasury Regulations, administrative interpretations
or court decisions will not significantly change the tax laws with
respect to Host REIT's qualification as a REIT or the federal
income tax consequences of such qualification.
Expected Benefits of the REIT Conversion
The General Partner believes that participating in the REIT Conversion
would likely be beneficial to the Hanover Limited Partners for the reasons set
forth below. This information is qualified by and should be read in conjunction
with the information in the Consent Solicitation under "Background and Reasons
for the Mergers and the REIT Conversion -- Reasons for the Mergers." These
benefits, which should be viewed as alternatives to continuing the business and
operations of Hanover, are expected to include:
. Value of OP Units to be Received in the Merger. Hanover Limited
Partners who elect to receive OP Units in the Merger will receive
OP Units with a deemed value of $123,202 per Partnership Unit.
. Enhanced Liquidity of Investment. The REIT Conversion will offer
Hanover Limited Partners significantly enhanced liquidity with
respect to their investments in Hanover because, after the
expiration of the Initial Holding Period, Hanover Limited Partners
will be able to exercise their Unit Redemption Right at any time,
subject to certain limited exceptions. Host has approximately 204
million shares of common stock outstanding and the closing price
on the NYSE on May 28, 1998 was $19.4375 per share (reflecting a
total common equity market capitalization of approximately $4
billion). The exercise of the Unit Redemption Right, however,
generally would result in recognition of taxable income or gain at
that time.
. Public Market Valuation of Assets. The Partnership Units of
Hanover currently trade at a discount to the net asset value of
Hanover's assets. In contrast, the General Partner believes that
by exchanging interests in Hanover, which is a non-traded limited
partnership, for interests in a publicly traded real estate
company focused primarily on a more diverse and growing
full-service hotel portfolio, the Hanover Limited Partners will
have the opportunity to participate in the recent trend of
ownership of real estate through a publicly traded entity, which,
in many instances, has resulted in market valuations of public
real estate companies in excess of the estimated net asset values
of those companies. There can be no assurance, however, that the
Common Shares of Host REIT will trade at a premium to the private
market values of the Operating Partnership's assets or that the
relative pricing differential will not change or be eliminated in
the future. Also, the initial benefit of Host's conversion to a
REIT will not be shared by the Hanover Limited Partners if and to
the extent that such initial benefit is reflected in the market
valuation of Host's common stock prior to the REIT Conversion.
Hanover Supp-7
<PAGE>
. Regular Quarterly Cash Distributions. The General Partner expects
that the Operating Partnership will make regular quarterly cash
distributions to holders of OP Units. The General Partner expects
that these distributions will be higher than the estimated 1998
cash distributions of Hanover, and in any event, the ability to
receive distributions quarterly and in regular amounts would be
enhanced. For additional information regarding historical and
estimated future distributions for Hanover and the other
Partnerships, see "Background and Reasons for the Mergers and the
REIT Conversion --Reasons for the Mergers."
. Substantial Tax Deferral. The General Partner expects that
Hanover Limited Partners who do not elect to receive a Note in
exchange for OP Units generally should be able to obtain the
benefits of the Merger while continuing to defer recognition for
federal income tax purposes of at least a substantial portion, if
not all, of the gain with respect to their Partnership Interests
that otherwise would be recognized in the event of a liquidation
of Hanover or a sale or other disposition of its assets in a
taxable transaction. Thereafter, such Hanover Limited Partners
generally should be able to defer at least a substantial portion
of such built-in gain until they elect to exercise their Unit
Redemption Right or the Hotel currently owned by Hanover is sold
or otherwise disposed of in a taxable transaction by the Operating
Partnership or the debt now secured by such Hotel is repaid,
prepaid or substantially reduced. The federal income tax
consequences of the Merger are highly complex and, with respect to
each Hanover Limited Partner, are dependent upon many variables,
including the particular circumstances of such Hanover Limited
Partner. See "Federal Income Tax Considerations -- Tax
Consequences of the Merger." Each Hanover Limited Partner is
urged to consult with his own tax advisors as to the consequences
of the Merger in light of his particular circumstances.
. Risk Diversification. Participation in the Merger, as well as
future hotel acquisitions by the Operating Partnership, will
reduce the dependence of Hanover Limited Partners upon the
performance of, and the exposure to the risks associated with, its
Hotel and spread such risk over a broader and more varied
portfolio, including more diverse geographic locations and
multiple brands. See "Business and Properties -- Business
Objectives."
. Reduction in Leverage and Interest Costs. It is expected that the
Operating Partnership will have a significantly lower leverage to
value ratio than Hanover currently, which has a leverage ratio of
81% (calculated as a percentage of Appraised Value), resulting in
significant interest and debt service savings and greater
financial stability.
. Growth Potential. The General Partner believes that the Hanover
Limited Partners, by owning interests in a publicly traded real
estate company focused primarily on a more diverse and growing
upscale and luxury full-service hotel portfolio, will be able to
participate in growth opportunities that would not otherwise be
available to them.
. Greater Access to Capital. With publicly traded equity
securities, a larger base of assets and a substantially greater
equity value than Hanover individually, Host REIT expects to
have greater access to the capital necessary to fund the Operating
Partnership's operations and to consummate acquisitions on more
attractive terms than would be available to Hanover individually.
This greater access to capital should provide greater financial
stability to the Operating Partnership and reduce the level of
risk associated with refinancing existing loans upon maturity, as
compared to Hanover individually.
DETERMINATION OF EXCHANGE VALUE OF HANOVER
AND ALLOCATION OF OP UNITS
The Exchange Value of Hanover will be equal to the greatest of its
Adjusted Appraised Value, Continuation Value and Liquidation Value, each of
which has been determined as follows:
. Adjusted Appraised Value. The General Partner has retained AAA to
determine the fair market value of the Hotel as of March 1, 1998
(the "Appraised Value"). The "Adjusted Appraised Value" of Hanover
equals the Appraised Value of its Hotel, adjusted for lender
reserves, capital expenditure reserves, existing indebtedness
(including a "mark to market" adjustment to reflect the market
value of such indebtedness), certain deferred maintenance costs,
deferred management fees and transfer and recordation taxes and
fees.
Hanover Supp-8
<PAGE>
. Continuation Value. The "Continuation Value" of Hanover represents
AAA's estimate, as adopted by the General Partner, of the
discounted present value, as of January 1, 1998, of the Hanover
limited partners' share of estimated future cash distributions and
estimated net sales proceeds (plus lender reserves), assuming that
Hanover continues as an operating business for twelve years and
its assets are sold on December 31, 2009 for their then estimated
market value.
. Liquidation Value. The "Liquidation Value" of Hanover represents
the General Partner's estimate of the net proceeds to Hanover
limited partners resulting from the assumed sale as of December
31, 1998 of the Hotel of Hanover, at its Adjusted Appraised Value
(after eliminating any "mark to market" adjustment and adding back
the deduction for transfer taxes and fees, if any, made in
deriving the Adjusted Appraised Value), less (i) estimated
liquidation costs, expenses and contingencies equal to 2.5% of
Appraised Value and (ii) prepayment penalties or defeasance costs,
as applicable.
Final determination of the Exchange Value of Hanover will be made as of the
end of the four week accounting period ending at least 20 days prior to the
Closing Date (the "Final Valuation Date") and will be equal to the greatest of
Adjusted Appraised Value, Continuation Value and Liquidation Value as of such
date. Adjusted Appraised Value, Continuation Value and Liquidation Value will
be adjusted as of the Final Valuation Date (i) to reflect the amount of lender
and capital expenditure reserves and the amount of deferred management fees as
of such date, (ii) to increase the Adjusted Appraised Value by any amounts
actually expended by Hanover after the Initial Valuation Date to perform
deferred maintenance previously subtracted in determining the estimated Adjusted
Appraised Value of Hanover and (iii) to reflect any changes in Hanover's other
reserves, such as for litigation expenses and indemnification costs and any
revised estimates of transfer and recordation taxes and fees.
Appraised Value. Hanover's Hotel was appraised as of March 1, 1998 by AAA,
an independent, nationally recognized hotel valuation and financial advisory
firm experienced in the appraisals of lodging properties such as Hanover's
Hotel. The appraisal ("Appraisal") was reviewed by an MAI appraiser and
certified by such MAI appraiser as having been prepared in accordance with the
requirements of the Standards of Professional Practice of the Appraisal
Institute and the Uniform Standards of Professional Appraisal Practice of the
Appraisal Foundation.
The purpose of the Appraisal is to provide an estimate of the "Market
Value" of the Hotel. "Market Value" means the most probable price which a
property should bring in a competitive and open market under all conditions
requisite to a fair sale, the buyer and seller each acting prudently and
knowledgeably and assuming the price is not affected by undue stimuli. Implicit
in this definition is the consummation of a sale as of a specified date and the
passing of title from seller to buyer under conditions whereby: (i) the buyer
and seller are equally motivated; (ii) both parties are well informed or well
advised, and each is acting in what he considers his own best interest; (iii) a
reasonable time frame is allowed for exposure in the open market; (iv) payment
is made in terms of cash in U.S. dollars or in terms of financial arrangements
comparable thereto and (v) the price represents the normal consideration for the
property sold unaffected by special or creative financing or sales concessions
granted by anyone associated with the sale. AAA made a site visit at Hanover's
Hotel for purposes of the Appraisal.
Hanover Supp-9
<PAGE>
In preparing the Appraisals, AAA relied primarily on the income
capitalization method of valuation, and then compared the value estimated by
this method with recent sales of comparable properties, as a check on the
reasonableness of the value determined through the income capitalization method.
AAA employed the following procedures for determining the Appraised Value of
each Hotel:
. Historical 1997 and Projected Year's Earnings. AAA reviewed the historical
1997 net operating income (i.e., income before interest, taxes, depreciation
and amortization) ("NOI") prior to incentive management fees and certain
capital expenditures for the applicable Hotel. AAA also prepared a projection
of the net operating income prior to incentive management fees and certain
capital expenditures for the applicable Hotel for the twelve month period
ending February 28, 1999 (the "Projected Year"), using historical financial
information for the Hotel, budget information, a survey with the manager of
the Hotel addressing the physical condition of the Hotel, local market
conditions (including business mix, demand generators, future trends and
predictability of business), changes in the competitive environment,
comparison with direct competitors of the Hotel and risk factors relating to
the particular Hotel. The resulting gross margin (ratio of total revenues to
NOI prior to incentive management fees) was checked against AAA's database of
the gross margins for similar hotels for reasonableness.
. Impact of Incentive Management Fees. AAA estimated a normalized annual amount
of incentive management fees payable under the applicable management
agreement and subtracted this amount from the NOI prior to incentive
management fees and certain capital expenditures for 1997 and the Projected
Year.
. Impact of Owner Funded Capital Expenditures. AAA estimated normalized annual
amounts of owner funded capital expenditures (over and above the FF&E
reserve) based in part on projected owner funded capital expenditures
estimated in the Engineering Study, including in the case of Hanover certain
identified 1998 capital expenditures for which reserves have been set aside.
The normalized amounts were then subtracted from the NOI prior to owner
funded capital expenditures for 1997 and the Projected Year.
. Capitalization of Adjusted NOI. AAA then capitalized the amount resulting
from the foregoing adjustments ("Adjusted NOI") for 1997 and the Projected
Year by dividing such amounts by capitalization rates that AAA determined to
be appropriate. A capitalization rate represents the relationship between net
operating income and sales prices of income producing property. AAA selected
the capitalization rates based upon its review of current published surveys
reflecting the opinions of investors and participants such as REITs, hotel
acquisition/management companies and pension funds, lenders, brokers and
consultants as to current capitalization rates, and its own database of
capitalization rates reflected in recent transactions, adjusted for factors
specific to the individual Hotel, such as location, physical condition,
reserve policies, local market volatility and competition, guest mix,
renovation influences and other income characteristics. AAA used separate
capitalization rates that it deemed appropriate to capitalize 1997 historical
Adjusted NOI and estimated Projected Year's Adjusted NOI. AAA then estimated
the value of the Hotel based upon each of the values estimated by
capitalizing 1997 and Projected Year's Adjusted NOI and its professional
judgment. The following table sets forth the effective capitalization rates
for 1997 and Projected Year's Adjusted NOI resulting from AAA's estimated
Appraised Values of Hanover's Hotel.
RESULTING EFFECTIVE CAPITALIZATION RATES FOR APPRAISALS OF HANOVER'S HOTEL
<TABLE>
<CAPTION>
PROJECTED YEAR
1997 (ENDING FEBRUARY 28, 1999)
---- --------------------------
<S> <C>
9.4% 10.1%
</TABLE>
The resulting Appraised Value of Hanover's Hotel, as estimated by AAA, is
$49,400,000.
. Comparison with Comparable Sales. AAA checked the Appraised Value of each
Hotel derived by the foregoing procedures against its database of comparable
sale transactions for reasonableness.
Hanover's Hotel was encumbered by a ground lease as of the date of the
Appraisal. Accordingly, the Appraised Value of Hanover's Hotel has been
decreased to reflect the encumbrance of the ground lease and the interest of the
ground lessor in the operating cash flows of the Hotel. The Appraised Value
assumes all contractual provisions for FF&E reserves are adequate and have not
been reduced to reflect deferred maintenance or environmental remediation costs
with respect to Hanover's Hotel (but estimated deferred maintenance costs have
been deducted in estimating the Adjusted Appraised Value of Hanover's Hotel).
The Appraised Value did not take into account the costs that might be incurred
in selling the Hotel (but estimated costs for transfer and recordation taxes and
fees have been deducted in estimating the Adjusted Appraised Value of the
Hotel).
Hanover Supp-10
<PAGE>
The Appraisals are not guarantees of present or future values and no
assurance can be given as to the actual value of Hanover's Hotel. The
Appraisals should be read in conjunction with other information, such as, but
not limited to, the audited financial statements of Hanover.
The Appraised Value, and the assumptions underlying the projections on
which the Appraised Value is based, are contingent upon a series of future
events, the outcomes of which are not necessarily within the Operating
Partnership's control and cannot be determined at this time. There can be no
assurance that another appraiser would not have arrived at a different result.
Some of the assumptions inevitably will not materialize, and unanticipated
events and circumstances will occur subsequent to the date of the Appraisals.
Furthermore, the actual results achieved from Hanover's Hotel will vary from the
results projected in the Appraisal and the variations may be material.
Adjusted Appraised Value. The Adjusted Appraised Value of Hanover was
determined by making various adjustments to the Appraised Value of Hanover's
Hotel, as described below.
. 1998 Capital Expenditure Reserves. For Hanover, an amount equal to the
capital expenditure reserves which were set aside as of March 1, 1998 for
various identified capital improvements in 1998 (which amounts resulted
in reductions in the Appraised Value as described above) was added back
to the Appraised Value.
. Mortgage and Other Debt. The estimated principal balance and accrued
interest as of the Closing Date (assumed to be December 31, 1998) of all
mortgage and other debt of Hanover has been subtracted from the Appraised
Value.
. Mark to Market Adjustments. The third-party loans of the Partnerships
have various interest rates and terms to maturity. In order to reflect
the fair market value of the third-party loans of each Partnership, the
estimated Adjusted Appraised Value for Hanover has been increased or
decreased to "mark to market" the interest rate for such loans. This
adjustment has been estimated by comparing the interest cost using the
applicable interest rates on existing third-party loans over their
remaining term to the interest cost using the interest rate that the
Operating Partnership believes it would be able to obtain for unsecured
debt in the market as of the Final Valuation Date (which would have been
8.0% per annum based on a 225 basis point (2.25 percent) spread over the
yield on seven-year U.S. Treasury securities as of May 8, 1998). The mark
to market adjustment for each loan was calculated by determining the
difference between the present values, as of December 31, 1998, of the
interest payments over the remaining term of the loan from January 1,
1999 to maturity using the actual interest rate as the discount rate as
compared to using the assumed market rate as the discount rate.
. Deferred Maintenance Costs. The estimated cost to complete any deferred
maintenance items identified in the Engineering Study relating to the
Hotel of Hanover has been subtracted from the Appraised Value. The
adjustments for this item will be reduced at the Final Valuation Date to
reflect amounts expended after the Initial Valuation Date to perform such
deferred maintenance. No adjustments have been made for previously
budgeted capital expenditures or deferred maintenance costs estimated in
the Engineering Study that are reflected in the cash flow projections
used for purposes of estimating Appraised Value.
The following table sets forth the adjustments to the Appraised Value of
Hanover's Hotel made to derive the estimated Adjusted Appraised Value for
Hanover as of the Initial Valuation Date.
CALCULATION OF ESTIMATED ADJUSTED APPRAISED VALUE FOR HANOVER
AS OF THE INITIAL VALUATION DATE
(IN THOUSANDS, EXCEPT PER PARTNERSHIP UfNIT AMOUNT)
<TABLE>
<CAPTION>
<S> <C>
Appraised Value $ 49,400
Capital expenditure 1,690
reserve
Mortgage debt (29,394)
Other debt (10,398)
Mark to market adjustment (435)
Deferred maintenance costs (72)
--------
Estimated Adjusted $ 10,791
Appraised Value ========
Limited partners' share $ 10,349
Per Partnership Unit $123,202
</TABLE>
Continuation Value. AAA estimated the Continuation Value of Hanover using
the following methodology:
. Estimated Future Cash Distributions. AAA prepared estimates of future
partnership cash flow for Hanover for the 12-year period from January 1,
1998 through December 31, 2009 based upon the estimated 1998 NOI before
incentive management fees used in the Appraisals and for each subsequent
year applying an assumed annual stabilized growth rate (as shown in the
table below) developed by AAA for this analysis. For each year in the
projection period, AAA estimated the amount of cash available for
distribution to Hanover's limited partners after payment of all
management fees, debt service, owner funded capital expenditures based on
the Engineering Study and other partnership expenses and after
application of the applicable partnership agreement provisions. AAA
assumed that Hanover's FF&E reserve was adequate and understood that Host
determined that there were no reserve shortfalls or surpluses.
. Refinancing Assumptions. For debt that matures during the 12-year period,
AAA assumed that the debt would be refinanced with interest rates ranging
from 7.25% to 8.60% per annum and a 20- to 25-year amortization schedule,
with estimated refinancing costs of 1% of the refinanced amount being
paid from operating cash flow (or added to the principal balance of the
loan, if cash flow was estimated to be insufficient).
. Determination of Residual Value. To estimate the residual value of the
Hanover limited partners' interest in Hanover at the end of the 12-year
period, AAA assumed that the Hanover Hotel would be sold as of December
31, 2009 at their then market value. AAA estimated the market value of
the Hotel as of such date by applying an exit capitalization rate that it
deemed appropriate, using the factors described above in connection with
the "-- Appraised Value," which are set forth in the table below, to the
estimated Adjusted NOI for 2009 (estimated as described above). AAA then
subtracted estimated sales costs of 2.0% of the estimated market value,
and subtracted the estimated outstanding principal balance of debt as of
December 31, 2009 to arrive at net sales proceeds available for
distribution to partners. AAA then determined what portion of such
estimated net sales proceeds would be distributable to Hanover's limited
partners under the various partnership and debt agreements.
Hanover Supp-11
<PAGE>
. Discounting Distributions to Present Value. As a final step, AAA
discounted the estimated future cash distributions to Hanover's limited
partners from operations and estimated net sales proceeds to their
present value as of January 1, 1998, using a discount rate of 20% per
annum. AAA believes that this discount rate reflects the return on
investment that investors expect from leveraged investments of this
nature.
The growth rate and exit capitalization rate used to determine the
estimated Continuation Value for Hanover are as set forth below:
GROWTH RATES, EXIT CAPITALIZATION RATES
AND ESTIMATED CONTINUATION VALUE FOR HANOVER
<TABLE>
<CAPTION>
ESTIMATED
CONTINUATION VALUE
GROWTH RATE EXIT CAPITALIZATION RATE (2009) (PER PARTNERSHIP UNIT)
- ------------------------ ----------------------------------- -------------------------------
<S> <C> <C>
3.7% 9.8% $98,090
</TABLE>
Liquidation Value. The Liquidation Value of Hanover was estimated by the
General Partner and represents the estimated value of Hanover if all of its
assets were sold as of December 31, 1998. Such value was based upon the
Adjusted Appraised Value of Hanover, with the following adjustments: (i) the
"mark to market" adjustment used to estimate the Adjusted Appraised Value was
eliminated and instead prepayment or defeasance costs that would be payable
under existing debt agreements (regardless of whether the debt in fact can be
prepaid on December 31, 1998) were deducted from the Appraised Value and (ii)
the deduction for transfer and recordation taxes used to estimate the Adjusted
Appraised Value was eliminated and instead an amount equal 2.5% of the Appraised
Value of Hanover's Hotel was subtracted from the Appraised Value for estimated
liquidation costs, expenses and contingencies. The General Partner then
determined the portion of the estimated Liquidation Value that would be
distributable to Hanover's limited partners under the terms of the partnership
agreement and other contractual arrangements.
The following table sets forth the adjustments made to the Adjusted
Appraised Value to estimate the Liquidation Value of Hanover as of the Initial
Valuation Date:
CALCULATION OF ESTIMATED LIQUIDATION VALUE OF HANOVER
AS OF THE INITIAL VALUATION DATE
(IN THOUSANDS, EXCEPT PER PARTNERSHIP UNIT AMOUNT)
<TABLE>
<CAPTION>
<S> <C>
Appraised Value $ 49,400
Capital expenditure reserve 1,690
Mortgage debt (29,394)
Other debt (10,398)
Prepayment/defeasance costs (2,168)
Deferred maintenance costs (72)
Sales costs (1,235)
Estimated Liquidation Value $ 7,823
========
Limited partners' share $ 7,432
Per Partnership Unit $ 88,474
</TABLE>
Estimated Exchange Value. The following table sets forth the estimated
Exchange Value of Hanover (based upon the Appraised Value of Hanover's Hotel as
of March 1, 1998 and the estimated adjustments described above) and the
estimated Note Election Amount for Hanover, all on a per Partnership Unit basis.
The estimated Exchange Value for Hanover (which will be received by each Hanover
Limited Partner retaining OP Units in the Merger) is equal to estimated Adjusted
Appraised Value for Hanover. The estimated Note Election Amount for Hanover
(which will be received by Hanover Limited Partners electing to receive Notes
in exchange for OP Units) is equal to the Liquidation Value for Hanover. The
estimated values set forth below may increase or decrease as a result of various
adjustments, which will be finally calculated as of the Final Valuation Date but
will not change as a result of less than all of the Partnerships participating
in the Mergers.
ESTIMATED EXCHANGE VALUE OF HANOVER
Per Partnership Unit(1)
<TABLE>
<CAPTION>
ESTIMATED ESTIMATED ESTIMATED ESTIMATED ESTIMATED
ADJUSTED APPRAISED CONTINUATION LIQUIDATION EXCHANGE NOTE ELECTION
VALUE VALUE VALUE VALUE(2) AMOUNT(3)
- ---------------------------------------- ------------ ----------- ---------- --------------
<S> <C> <C> <C> <C>
$123,202 $98,090 $88,474 $123,202 $88,474
</TABLE>
_________________
(1) A Partnership Unit in Hanover represents an original investment of
$100,000.
(2) The estimated Exchange Value is equal to the greatest of estimated Adjusted
Appraised Value, estimated Continuation Value and estimated Liquidation
Value.
(3) The principal amount of Notes is equal to the greater of (i) the
Liquidation Value or (ii) 60% of the Exchange Value (the "Note Election
Amount").
Hanover Supp-12
<PAGE>
Valuation of OP Units Allocated to Hanover's Limited Partners. Each Hanover
Limited Partner will receive OP Units with a deemed value equal to the Exchange
Value of such Hanover Limited Partner's Partnership Interests. The value of an
OP Unit for this purpose will be deemed to be equal to (i) the average of the
closing price of shares of Host common stock on the NYSE for the 10 trading days
ending on the third trading day prior to the record date for the distribution of
SLC common stock to Host shareholders minus (ii) the amount of cash and the
estimated value, as determined by Host's Board of Directors in good faith and in
reliance in part upon an opinion of an independent financial advisor, of the SLC
common stock or other property to be distributed with respect to each share of
Host common stock (currently estimated to aggregate approximately $___ - $____
per share) in connection with the REIT Conversion. The closing price per share
of Host common stock on May 28, 1998 was $19.4375.
Hanover Limited Partners who receive OP Units will receive cash
distributions from Hanover for all of 1998 and, if the Merger does not occur in
1998, any portion of 1999 prior to the Merger for which period they do not
receive a cash distribution from the Operating Partnership.
No fractional OP Units will be issued. Fractional amounts less than or
equal to 0.50 of an OP Unit will be rounded down to the next whole number and
fractional amounts greater than 0.50 will be rounded up to the next whole number
of OP Units.
Cash Distributions
Historical Cash Distributions Paid by Hanover. Hanover has not paid any
cash distributions to its Limited Partners in the First Quarter 1998 and the
fiscal years 1993 through 1997.
Compensation and Distributions to the General Partner. Under Hanover's
partnership agreement, the General Partner does not receive fees or compensation
in connection with managing the affairs of Hanover but the General Partner and
its affiliates are reimbursed for certain costs and expenses incurred on behalf
of Hanover. The following information has been prepared to compare the amount of
reimbursements paid and cash distributions made by Hanover to the General
Partner and its affiliates to the amounts that would have been paid if the
reimbursement and distribution structure which will be in effect after the REIT
Conversion had been in effect for the periods presented.
Following the REIT Conversion, Host REIT will be operated as a
self-administered REIT and as a result no reimbursements or other compensation
will be received by the General Partner.
During First Quarter 1998 and fiscal years 1997, 1996 and 1995 amounts
actually paid by Hanover to the General Partner are shown below under
"Historical" and the estimated amounts that would have been paid had the REIT
Conversion been in effect for the periods presented (assuming the Full
Participation Scenario) are shown under "Pro Forma."
Historical and Pro Forma Reimbursements and Distributions
to the General Partner and its Affiliates
(in thousands)
<TABLE>
<CAPTION>
First Quarter Fiscal Year
------------- -----------------------------------------------
1998 1997 1996 1995
---- ---- ---- ----
<S> <C> <C> <C> <C>
Historical
Reimbursements $ -- $ 191 $ 56 $ 43
Distributions -- -- -- --
------------- ---------- -------- --------
Total Historical $ -- $ 191 $ 56 $ 43
============ ========= ======= =======
Pro Forma
Reimbursements $ -- $ -- $ -- $ --
Distributions attributable to Units(1)
N/A N/A N/A N/A
------------ --------- ------- -------
Total Pro Forma $ -- $ -- $ -- $ --
============ ========= ======= =======
</TABLE>
- ----------------
(1) The OP Units to be received by Host in connection with the REIT Conversion
will be equal to the number of shares of Host's outstanding common stock
and not allocated based upon their interests in any of the Partnerships,
including Hanover. Thus, the distributions received by Host and its
affiliates by way of their interests in the Partnerships, including
Hanover, cannot be determined on a pro forma basis.
Certain Information Regarding the Hotel Owned by Hanover
Number of
Name of Hotel Location of Hotel Rooms Date Opened
------------- ----------------- ----------- -----------
Hanover Marriott Hotel Hanover, NJ 353 1986
Hanover Supp-13
<PAGE>
The table below sets forth certain performance information for
Hanover's Hotel for the indicated periods.
<TABLE>
<CAPTION>
First Quarter Fiscal Year
---------------------------- ----------------------------------------
1998 1997 1997 1996 1995
---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Average daily rate.................... $152.47 $126.54 $123.55 $113.50 $108.39
Occupancy............................. 62.0% 79.9% 80.8% 79.1% 74.4%
REVPAR................................ $94.53 $101.11 $99.83 $89.78 $80.64
% REVPAR change (7.0%) -- 11.2% 11.3% --
</TABLE>
The Hanover Marriott Hotel, Hanover, New Jersey
The Hanover Marriott Hotel is a full-service Marriott hotel located on
approximately 13.41 acres in a business/industrial park district. The Hotel is
near several major highways, including New Jersey State Route 10 and I-287, as
well as New Jersey State Routes 202, 206, 15, 46 and 24. Such routes are
well-maintained two to six lane highways which run both north-south and
east-west, providing easy access to Newark International Airport, New York City
and points west.
The Hotel is located within 10 miles of many large corporations and
manufacturers, including several Fortune 500 companies. The Hotel is across
Route 10 from the 600-acre Prudential Business Campus, which contains 1.5
million square feet of office space and which is the home office for Prudential
Eastern Region, Nabisco Brands and Baker Industries. Nearby Morristown is Morris
County's central business district and seat of government, and also provides
business, retail and historical attractions.
The Hotel, which opened July 30, 1986, has a total of 260,000 square
feet of building area and is operated as part of the Marriott Hotels, Resorts
and Suites system. The Hotel contains a total of 353 guest rooms, including 203
kings, 146 double/doubles and four suites. The Hotel also contains 18,848 square
feet of meeting space in the form of a grand ballroom and smaller meeting rooms
and conference suites. The Hotel has one multi-purpose restaurant and one
Japanese steak house as well as a 164-seat cocktail lounge and a 60-seat lobby
lounge. Other features of the Hotel include a gift shop, business center, small
hotel laundry, parking for 695 cars and a package of recreational facilities
that includes an indoor/outdoor swimming pool, sauna, hydrotherapy pool and
health club.
Amendments to the Partnership Agreement of Hanover
In order to allow the Hotel of Hanover to be leased to SLC in
connection with the Merger and the REIT Conversion, Hanover's partnership
agreement must be amended. Currently, there is no provision in Hanover's
partnership agreement to allow Hanover's Hotel to be leased. Therefore, Section
5.02B of Hanover's partnership agreement must be amended to add a new paragraph
5.02B(x) to read as follows:
(x) lease (or consent to the lease), directly or indirectly, in
one transaction or a series of related transactions of the
Hotel.
Other Amendments. Amendments to certain terms and sections of Hanover's
----------------
partnership agreement would be made in order to (i) reduce to one the number of
appraisals of the fair market value of Hanover's Hotel that Hanover must provide
to the Hanover Limited Partners before the General Partner can cause Hanover to
sell assets to the General Partner or an affiliate, (ii) delete certain obsolete
references to entities and agreements that are no longer in existence, (iii)
update Hanover's partnership agreement to reflect the passage of time since the
formation of Hanover and (iv) make any other amendments to Hanover's
partnership agreement deemed necessary or advisable, in the sole discretion of
the General Partner, in connection with the consummation of the Mergers and the
REIT Conversion. The General Partner does not believe that these amendments
would affect the rights of the Hanover Limited Partners in any material respect
nor the duties and obligations of the General Partner. These changes are
included, along with the other proposed amendments, in the copy of Hanover's
partnership agreement, as proposed to be amended, which is attached hereto. The
amended Hanover partnership agreement is marked to indicate the revisions made
to the existing Hanover partnership agreement and should be read in its
entirety. Deleted provisions are contained in brackets and struck through and
added provisions are in bold type and underlined.
The vote required for such amendments is a majority of the outstanding
limited partnership interests. An affiliate of the General Partner owns 47.6% of
the limited partnership interests and may vote such interests in connection with
the Merger. Such affiliate of the General Partner must vote its limited
partnership interest in the same manner as the majority of the limited
partnerships interests constituting a quorum vote.
THE GENERAL PARTNER RECOMMENDS THAT HANOVER LIMITED PARTNERS VOTE TO
APPROVE THE REQUESTED AMENDMENTS TO HANOVER'S PARTNERSHIP AGREEMENT.
Hanover Supp-14
<PAGE>
FAIRNESS ANALYSIS AND OPINION
FAIRNESS ANALYSIS
The General Partner believes that the terms of the Merger provide
substantial benefits and are fair to the Limited Partners of Hanover and
recommends that all Limited Partners of Hanover consent to the Merger. The
General Partner bases this recommendation primarily on (i) its view that the
expected benefits of the Merger for the Hanover Limited Partners outweigh the
risks and potential detriments of the Merger to the Hanover Limited Partners
(see "Background and Reasons for the Mergers and the REIT Conversion -- Reasons
for the Mergers" and "Risk Factors"), (ii) its view that the value of the OP
Units allocable to the Hanover Limited Partners on the basis of the Exchange
Value established for Hanover represents fair consideration for the Partnership
Interests held by the Hanover Limited Partners and is fair to the Hanover
Limited Partners from a financial point of view, and (iii) the Fairness Opinion
of AAA stating that (a) the methodologies and underlying assumptions used to
determine the Exchange Value, the Adjusted Appraised Value, the Continuation
Value and the Liquidation Value of Hanover and each other Partnership,
including, without limitation, the assumptions used to determine the various
adjustments to the Appraised Values of the Hotels, are fair and reasonable, from
a financial point of view, to the Limited Partners of Hanover and each other
Partnership and (b) the methodologies used to determine the value of an OP Unit
and to allocate the equity interest in the Operating Partnership to be received
by the Hanover Limited Partners and the Limited Partners of each Partnerships
are fair and reasonable to the Hanover Limited Partners and the Limited Partners
of each other Partnership.
The Merger is not conditioned upon the consummation of the other Mergers.
The General Partner has considered this fact in evaluating the fairness of the
Merger. The General Partner believes that the fairness of the Merger will not be
materially affected by the presence or absence of any other individual
Partnership or by any particular combination of other Partnerships and that the
Merger will be fair to the Hanover Limited Partners, individually and as a
whole, if it is consummated with any combination of other Participating
Partnerships. The General Partner bases this belief primarily on the fact that
the consideration to be paid to the Hanover Limited Partners has been
established based upon Hanover's Exchange Value, without regard to any possible
combination of other Partnerships.
In reaching the conclusions implicit in the above recommendation, the
General Partner has taken into account the following considerations:
. The General Partner has concluded that the Exchange Value for
Hanover, which is equal to the greatest of its Adjusted Appraised
Value, represents fair consideration for the Partnership Interests
of the Hanover Limited Partners in the Merger in relation to
Hanover. The General Partner also has concluded that the Exchange
Value established for the Hanover Limited Partners fairly reflects
the value of the assets held by Hanover. In addition, the Fairness
Opinion supports these conclusions.
. The General Partner has concluded that the potential benefits of
the Merger to the Hanover Limited Partners, as described under
"Background and Reasons for the Mergers and the REIT Conversion --
Reasons for the Mergers," outweigh the potential risks and
detriments of the Merger for the Hanover Limited Partners, as
described in "Risk Factors."
. The Fairness Opinion, in the view of the General Partner, supports
the fairness of the Merger, even though it includes
qualifications, limitations and assumptions relating to its scope
and other factors that Hanover Limited Partners should consider
carefully.
. Host will contribute its wholly owned full-service hotel assets, its
interests in the Hotel Partnerships and its other assets (excluding
its senior living assets) to the Operating Partnership in exchange for
(i) a number of OP Units equal to the number of outstanding shares of
common stock of Host, (ii) preferred partnership interests in the
Operating Partnership corresponding to any shares of Host preferred
stock outstanding at the time of the REIT Conversion and (iii) the
assumption by the Operating Partnership of certain liabilities of
Host. Following these contributions, the Operating Partnership and its
subsidiaries will directly own all of Host's wholly-owned hotels and
all of Host's interests in the Hotel Partnerships and other assets.
Host REIT will not receive any compensation for its services as
general partner to the Operating Partnership following the REIT
Conversion and will benefit from the operations of the Operating
Partnership only to the extent of the distributions received based
upon its percentage interest in the Operating Partnership to the same
extent as the other limited partners. Because Host REIT will share in
the value of the Operating Partnership solely through distributions
and not through any separate compensation structure, the General
Partner believes that this is a factor supporting the fairness of the
Merger to the Hanover Limited Partners.
. The General Partner believes that the value of the consideration
to be received by the Hanover Limited Partners in the Merger is
fair in relation to the value which would be derived by such
Limited Partners under any of the alternatives described under
"Background and Reasons for the Mergers and the REIT Conversion --
Alternatives to the Mergers," especially since the Exchange Value
of Hanover is equal to its Adjusted Appraised Value, which is the
greatest of the three values the Adjusted Appraised Value, the
Continuation Value and the Liquidation Value. The General Partner
does not believe that the sale of any of Hanover's Hotels and
liquidation of Hanover will obtain for Hanover Limited Partners as
much value as the value to be received by such Hanover Limited
Partners following the Merger. The General Partner believes that
the following benefits are of the greatest value and importance to
the Hanover Limited Partners:
. Enhanced Liquidity. The Mergers and the REIT Conversion will offer
Hanover Limited Partners significantly enhanced liquidity with respect
to their investments in Hanover because, after the expiration of the
Initial Holding Period, Hanover Limited Partners will be able to
exercise their Unit Redemption Right at any time, subject to certain
limited exceptions. Host has approximately 204 million shares of
common stock outstanding and the closing price on the NYSE on May 28,
1998 was $19.4375 per share (reflecting a total common equity market
capitalization of approximately $4 billion). The exercise of the Unit
Redemption Right, however, generally would result in recognition of
taxable income or gain at that time.
. Public Market Valuation. The General Partner believes that by
exchanging interests in which is a non-traded limited partnership for
interests in a publicly traded real estate company focused primarily
on a more diverse and growing full-service hotel portfolio, the
Hanover Limited Partners will have the opportunity to participate in
the recent trend of ownership of real estate through a publicly traded
entity, which, in many instances, has resulted in market valuations of
public real estate companies in excess of the estimated net asset
values of those companies.
. Regular Quarterly Cash Distributions. The General Partner expects that
the Operating Partnership will make regular quarterly cash
distributions to holders of OP Units.
. Substantial Tax Deferral. The General Partner expects that Hanover
Limited Partners who do not elect to receive Notes generally should be
able to obtain the benefits of the Merger while continuing to defer
recognition for federal income tax purposes of at least a substantial
portion, if not all, of the gain with respect to their Partnership
Interests that otherwise would be recognized in the event of a
liquidation of Hanover or a sale or other disposition of its assets in
a taxable transaction.
. The General Partner believes that the economic terms of the lease
of the Hanover Hotel is fair and reasonable from the standpoint of
the Operating Partnership.
Hanover Supp-15
<PAGE>
The General Partner believes that the factors described above, which
support the fairness of the Merger to the Hanover Limited Partners, when weighed
against the factors that may be disadvantageous, taken as a whole, indicate that
the Merger is fair to the Hanover Limited Partners.
AAA, an independent financial advisory firm with substantial real estate
and partnership transaction experience, was engaged by the General Partner and
the other General Partners to perform the Appraisals and to render the Fairness
Opinion that (i) the methodologies and underlying assumptions used to determine
the Exchange Value, the Adjusted Appraised Value, the Continuation Value and the
Liquidation Value of Hanover and each other Partnership, including, without
limitation, the assumptions used to determine the various adjustments to the
Appraised Values of the Hotels, are fair and reasonable, from a financial point
of view, to the Hanover Limited Partners and the Limited Partners of each other
Partnership, and (ii) the methodologies used to determine the value of an OP
Unit and to allocate the equity in the Operating Partnership to be received by
the Hanover Limited Partners and the Limited Partners of each Partnership are
fair and reasonable to the Hanover Limited Partners and the Limited Partners of
each other Partnership. The Fairness Opinion is addressed to each Partnership
and it may be relied upon by each of the Hanover Limited Partners and the
Limited Partners of the other Partnerships. The full text of the Fairness
Opinion, which contains a description of the assumptions and qualifications
applicable to the review and analysis by AAA, is set forth in Appendix B to the
Consent Solicitation and should be read in its entirety. The material
assumptions and qualifications to the Fairness Opinion are summarized below,
although this summary does not purport to be a complete description of the
various inquiries and analyses undertaken by AAA in rendering the Fairness
Opinion. Arriving at a fairness opinion is a complex analytical process not
necessarily susceptible to partial analysis or amenable to summary description.
For a more complete description of the assumptions and qualifications that limit
the scope of the Fairness Opinion, see " Qualifications to Fairness Opinion" and
" Assumptions" below.
Although the General Partner advised AAA that certain assumptions were
appropriate in its view, the General Partner imposed no conditions or
limitations on the scope of the investigation by AAA or the methods and
procedures to be followed by AAA in rendering the Fairness Opinion. The fees
and expenses of AAA will be treated as a Merger Expense and will be paid by the
Operating Partnership. In addition, the General Partner has agreed to indemnify
AAA against certain liabilities. See "-- Compensation and Material
Relationships."
QUALIFICATIONS TO FAIRNESS OPINION. In the Fairness Opinion, AAA
specifically states that it did not: (a) specifically consider other
methodologies for allocation of the OP Units, (b) address or conclude that other
methodologies for allocation of the OP Units to the Hanover and the other
Partnerships might not have been more favorable to the Limited Partners in
certain of the Partnerships, (c) negotiate with Hanover, the other Partnerships
or Host, (d) participate in establishing the terms of the Merger and the other
Mergers, (e) provide an opinion as to the terms and conditions of the Merger and
the other Mergers other than those explicitly stated in the Fairness Opinion,
(f) make any independent review of the capital expenditure estimates set forth
in the Engineering Study, (g) make any estimates of Hanover's and each other
Partnership's contingent liabilities.
In connection with preparing the Fairness Opinion, AAA was not engaged to,
and consequently did not, prepare any written report or compendium of its
analysis for internal or external use beyond the analysis set forth in Appendix
B. AAA will not deliver any additional written opinion of the analysis, other
than to update the written opinion if requested by the Operating Partnership.
EXPERIENCE OF AAA. AAA is the world's largest independent valuation
consulting firm and is regularly and continually engaged in the valuation of
commercial real estate and businesses and their securities in connection with
tender offers, mergers and acquisitions, recapitalizations and reorganizations,
divestitures, employee stock ownership plans, leveraged buyout plans, private
placements, limited partnerships, estate and corporate matters, other financial
advisory matters and other valuation purposes.
AAA was selected because of its experience in the valuation of businesses
and their securities in connection with tender offers, mergers and acquisitions,
recapitalizations and reorganizations, including transactions involving hotel
partnerships. In addition, Host and its affiliates have previously engaged AAA
to provide appraisals and fairness opinions in connection with other
transactions. The General Partner and the other General Partners considered
several other firms for purposes of performing the appraisals and rendering the
Fairness Opinion, but selected AAA for the foregoing reasons.
SUMMARY OF MATERIALS CONSIDERED AND INVESTIGATION UNDERTAKEN. As a basis
for rendering for Fairness Opinion, AAA has made such reviews, studies and
analyses as it deemed necessary and pertinent in order to provide it with a
reasonable basis for the Fairness Opinion, including, but not limited to, the
following: (i) reviewed the transaction documents and SEC reporting and/or
filing documents, including drafts of the Form S-4 for the Mergers; (ii)
provided the Market Value of each Hotel owned by each Partnership in a separate
short form appraisal report and each such report was reviewed and certified by
an MAI appraiser as to its preparation in accordance with the requirements of
the Standards of Professional Practice of the Appraisal Institute and the
Uniform Standards of Professional Appraisal Practice of the Appraisal
Foundation; as part of the Appraisals, AAA reviewed historical operating
statements, 1998 budget and year-to-date results, and other financial
information as it deemed necessary as a basis for the Fairness Opinion and the
Appraisals also considered market transactions of similar lodging properties as
appropriate as a basis for the Market Value of each Hotel; (iii) reviewed the
methodologies used by each of the General Partners in their determination of the
Exchange Value of each Partnership, including the nature and amount of all
adjustments to the Appraised Values in determining such Exchange Values; AAA
reviewed and tested for the fairness and reasonableness of all adjustments as
well as for consideration of all adjustments deemed to be appropriate by AAA;
(iv) reviewed the methodologies used by each of the General Partners in their
determination of the value of an OP Unit and the allocation of the equity
interest in the Operating Partnership to be received by the limited partners of
each Partnership, and AAA reviewed and tested for the fairness and
reasonableness of the methods and measurements made by the General Partners; (v)
reviewed the General Partners' determination of the Liquidation Value of each
Partnership, and AAA reviewed and tested for the fairness and reasonableness of
all adjustments proposed by the General Partners, as well as for consideration
of all adjustments deemed appropriate by AAA; (vi) provided an estimate of the
Continuation Value of each Partnership based upon the estimated present value of
expected benefits to be received by each limited partner interest as though the
Mergers did not occur and each Partnership's assets were sold within a twelve
year period; AAA, as part of its analysis and review, determined appropriate
rates of growth in house profit or net operating income, as well as reviewed
other key variables affecting partnership cash flows and other
economic/financial factors affecting the Partnerships' expected operations and
results;(vii) reviewed the terms of the ground leases of the Hotels and the
partnership agreement of each Partnership; (viii) reviewed audited and unaudited
historical income statements, balance sheets and statements of sources and uses
of funds of each Partnership and Host and pro forma financial information for
Host REIT; (ix) reviewed audited and unaudited historical operating statements
of each Hotel, as well as current operating statements and budgets; (x)
conducted real estate valuation and financial due diligence with respect to the
Partnerships and their underlying assets, liabilities and equity; (xi) reviewed
internal Marriott International, Host and Partnership financial analyses and
other internally generated data for each Hotel; and (xii) discussed all of the
foregoing information, where appropriate, with management of Marriott
International, Host and the Partnerships, and their respective employees.
ASSUMPTIONS. In rendering its opinion, AAA relied, without independent
verification, on the accuracy and completeness in all material respects of
certain relevant publicly available information and information provided to AAA
by the Host and the Hotels. AAA assumed that all information furnished by Host,
the Hotels and the Partnerships and their representatives, upon which AAA
relied, presented and accurate description in all material respects of the
current and prospective status of the Hotels and the Partnerships from an
operational and financial point of view. AAA also noted that the Fairness
Opinion was based upon financial, economic, market and other considerations as
they existed and could be evaluated on the date thereof.
CONCLUSIONS. AAA concluded that, based upon and subject to its analysis
and assumptions and limiting conditions, and as of the date of the Fairness
Opinion: (i) the methodologies used to determine the Exchange Value, the
Adjusted Appraised Value, the Continuation Value and the Liquidation Value each
Partnership, including, without limitation, the assumptions used to determine
the various adjustments to the Appraised Values of each of the Hotels, are fair
and reasonable, from a financial point of view, to the Hanover Limited Partners
and the Limited Partners of each Partnership, and (ii) the methodologies used to
determine the value of an OP Unit and to allocate the equity interest in the
Operating Partnership to be received by the Hanover Limited Partners and the
Limited Partners of each Partnership are fair and reasonable to the Limited
Partners of each Partnership.
COMPENSATION AND MATERIAL RELATIONSHIPS. AAA has been paid a fee of
$________ for its services as described herein, including the Appraisals and
preparing to deliver the Fairness Opinion. In addition, AAA will be reimbursed
for all reasonable out-of-pocket expenses, including legal fees, and will be
indemnified against certain liabilities, including certain liabilities under the
securities laws. The fee was negotiated between Host, the General Partners and
AAA. Payment of the fee to AAA is not dependent upon completion of the Mergers.
AAA has been previously engaged by Host and its affiliates to provide fairness
opinions in connection with other transactions.
Hanover Supp-16
<PAGE>
Voting Procedures
The consent of Limited Partners holding more than 50% of the
outstanding limited partnership interests is required for participation in the
Merger. An affiliate of the General Partner holds 47.6% of the outstanding
limited partnership interests. The affiliate of the General Partner must vote
all of its limited partnership interests in the same manner as the majority of
limited partnership interests constituting a quorum vote. A majority of limited
partnership interests held by Limited Partners constitutes a quorum.
A Hanover Limited Partner may mark the Consent Form to vote "FOR,"
"AGAINST" or "ABSTAIN" with respect to participation in the Merger by Hanover.
The failure of a Limited Partner of Hanover to vote will mean that such Limited
Partner's Partnership Interest will not be counted for purposes of establishing
a quorum and will not affect the manner in which Host is required to vote its
limited partnership interests. A Consent Form that is properly signed but not
marked will be voted FOR the Merger. The voting procedures applicable to Hanover
Limited Partners are set forth in the Consent Solicitation under the heading
"Voting Procedures -- Required Vote and Other Conditions."
Federal Income Tax Considerations
In addition to the federal income tax considerations discussed in the
sections of the Consent Solicitation entitled "Federal Income Tax
Considerations" and "Risk Factors -- Federal Income Tax Risks," Hanover Limited
Partners should read carefully the following discussion of federal income tax
considerations applicable specifically to the Hanover Limited Partners. The
information included in this discussion is based upon various factual
assumptions and information which are believed by the Operating Partnership and
the General Partner to be reliable. However, some of these assumptions
inevitably will not materialize, and unanticipated events and circumstances will
occur. Therefore, there likely will be differences between the information
provided herein, including the numerical data and estimates, and actual results,
and the variations may be material and adverse.
Applicability of Tax Opinions
Hogan & Hartson L.L.P. ("Hogan & Hartson"), counsel to Host REIT, Host,
and the Operating Partnership, has provided to Host REIT and the Operating
Partnership an opinion letter (substantially in the form of Appendix E to the
Consent Solicitation) as to certain federal income tax consequences to the
Operating Partnership and the Hanover Limited Partners resulting from the
Mergers and the REIT Conversion. The opinion letter is based upon certain
assumptions and certain representations provided by Host REIT, Host, the
Operating Partnership and the General Partners. These representations generally
involve factual matters relating to the organization, ownership and operations
(including the income, assets, businesses, liabilities and properties) of the
Partnerships and Hotels contributed to the Operating Partnership by Host and the
Blackstone Entities prior to the Mergers and of Host REIT, the Operating
Partnership and the Hotel Partnerships following the Mergers and the REIT
Conversion. In addition, on the Closing Date, Hogan & Hartson expects to provide
to Host REIT and the Operating Partnership an opinion letter (substantially in
the form of Appendix __ to the Consent Solicitation) as to the qualification and
taxation of Host REIT as a REIT under the Code following the REIT Conversion.
See "Federal Income Tax Considerations -- Summary of Tax Opinions" in the
Consent Solicitation.
Each opinion provided by Hogan & Hartson in the opinion letter that is
substantially in the form of Appendix E to the Consent Solicitation is
applicable to the Hanover Limited Partners.
The opinions already rendered by Hogan & Hartson are based on the Code
and Treasury Regulations in effect on the date hereof, current administrative
interpretations and positions of the IRS and existing court decisions, and the
opinions to be rendered by Hogan & Hartson on the Closing Date will be based on
the same authorities as of the Closing Date. No assurance can be given that
future legislation, Treasury Regulations, administrative interpretations and
court decisions will not significantly change the law or the above conclusions
reached by counsel. In addition, any such change could apply retroactively to
transactions preceding the date of change. Moreover, opinions of counsel merely
represent counsel's best judgment with respect to the probable outcome on the
merits and are not binding on the IRS or the courts. Accordingly, even if there
is no change in applicable law, no assurance can be provided that such opinions
(which do not bind the IRS or the courts) will not be challenged by the IRS or
will be sustained by a court if so challenged.
Hanover Supp-17
<PAGE>
With the one exception described below (see " -- Tax Consequences of the
Merger -- Deemed Cash Distribution and Resulting Taxable Gain") and in the
Consent Solicitation under "Federal Income Tax Considerations -- Tax
Consequences of the Mergers -- IRS Ruling Request Regarding Allocation of
Partnership Liabilities," neither Host REIT, the Operating Partnership nor the
General Partners have requested or plan to request any rulings from the IRS
concerning the tax consequences of the Mergers or the treatment of either the
Operating Partnership or Host REIT subsequent to the REIT Conversion.
Tax Consequences of the Merger
Overview. Hogan & Hartson has provided an opinion to the effect that
--------
the Merger will not result in the recognition of taxable gain or loss at the
time of the Merger to a Hanover Limited Partner (i) who does not exercise his
Unit Redemption Right on a date sooner than the date two years after the date of
the consummation of the Merger; (ii) who does not receive a cash distribution
(or a deemed cash distribution resulting from relief from liabilities, including
as a result of any prepayment of the Hanover Mortgage Debt) in connection with
the Merger or the REIT Conversion in excess of his aggregate adjusted basis in
his Hanover Partnership Units at the time of the Merger; (iii) who does not
elect to receive a Note in exchange for his OP Units in connection with the
Merger (the "Note Election"); (iv) who is not required to recognize gain by
reason of the exercise by another Hanover Limited Partner of his right to make
the Note Election (which, in counsel's opinion, described below, should not be
the result of such election); and (v) who does not have his "at risk" amount
fall below zero as a result of the Merger or the REIT Conversion. See "Federal
Income Tax Considerations -- Summary of Tax Opinions" in the Consent
Solicitation.
With respect to the foregoing exceptions to nonrecognition treatment,
the Operating Partnership and the General Partner believe as follows: (i) a
Hanover Limited Partner who acquired his Hanover Partnership Units in the
original offering of such Partnership Units and who has held such Partnership
Units at all times since would not be considered to receive, as a result of the
Merger, a distribution (or a deemed cash distribution resulting from relief from
liabilities) that exceeds his aggregate adjusted basis in his Hanover
Partnership Units at the time of the Merger, and would not have his "at risk"
amount fall below zero as a result of the Merger, even if all of the Hanover
Mortgage Debt were to be repaid in connection with the Merger or the REIT
Conversion, and (ii) a portion of the personal property owned by Hanover will
need to be sold to a Non-Controlled Subsidiary in connection with the REIT
Conversion, although this sale should not result in the recognition of any
income by the Hanover Limited Partners. See "Federal Income Tax Considerations
- -- Tax Consequences of the Mergers -- Overview" in the Consent Solicitation and
"Tax Allocations upon the Sale of Certain Personal Property Associated with the
Hanover Marriott" below.
With respect to the effects of a Hanover Limited Partner's election to
receive a Note in exchange for his OP Units in connection with the Merger, Hogan
& Hartson is of the opinion that although the matter is not free from doubt, a
Hanover Limited Partner who does not elect to receive a Note in connection with
the Merger should not be required to recognize gain by reason of another Hanover
Limited Partner's exercise of such right. With respect to the exercise of a Unit
Redemption Right, Hogan & Hartson is of the opinion that it is more likely than
not that a Hanover Limited Partner's exercise of his Unit Redemption Right more
than one year after the date of consummation of the Merger but less than two
years after such date will not cause the Merger itself to be a taxable
transaction for the Hanover Limited Partner (or the other Hanover Limited
Partners). See "Federal Income Tax Considerations -- Summary of Tax Opinions" in
the Consent Solicitation. Opinions of counsel, however, do not bind the IRS or
the courts, and no assurances can be provided that such opinions will not be
challenged by the IRS or will be sustained by a court if so challenged.
Deemed Cash Distribution and Resulting Taxable Gain. With respect to
---------------------------------------------------
his Hanover Partnership Units, a Hanover Limited Partner will receive no actual
cash distribution in connection with the Merger but would be deemed to receive a
cash distribution in connection with the Merger to the extent that his share of
Operating Partnership liabilities immediately after the Merger and the REIT
Conversion is less than his share of Hanover liabilities immediately prior to
the Merger. For example, any prepayment of the Hanover Mortgage Debt or debt
encumbering other Hotels may result in a deemed cash distribution to the Hanover
Limited Partners. See "Federal Income Tax Considerations -- Tax Consequences of
the Mergers -- Relief from Liabilities/Deemed Cash Distribution" in the Consent
Solicitation. Even though the Hanover Mortgage Debt and the debt encumbering
other Hotels is not expected to be repaid or refinanced in connection with the
Hanover Supp-18
<PAGE>
Merger and the REIT Conversion, a Hanover Limited Partner's share of
indebtedness following the Merger and the REIT Conversion may nonetheless
decrease in comparison to the Limited Partner's estimated aggregate share of
Hanover indebtedness as of December 31, 1998 (calculated based on the assumption
that the Merger did not occur) by reason of the manner in which the debt
allocation rules work when multiple assets with different levels of leverage are
consolidated into a single partnership.
A Hanover Limited Partner, however, would recognize taxable gain as a
result of any deemed cash distribution only to the extent that the deemed cash
distribution were to exceed his adjusted tax basis in his Hanover Partnership
Units immediately prior to the Merger. As noted above, the Operating Partnership
and the General Partner believe, based upon and subject to the assumptions and
other limitations described below, that a Limited Partner who acquired his
Hanover Partnership Units in the original offering of such Partnership Units and
has held the Partnership Units at all times since the offering will have an
adjusted tax basis in excess of the deemed cash distribution that might occur in
connection with the Merger and the REIT Conversion. Therefore, such a Hanover
Limited Partner should not recognize gain due to such deemed cash distribution
resulting from the relief from liabilities in connection with the Merger and the
REIT Conversion.
The adjusted tax basis of a Hanover Limited Partner who did not acquire
his Hanover Partnership Units in the original offering of such Partnership Units
or who has not held his Hanover Partnership Units at all times since such
offering could vary materially from that of a Hanover Limited Partner who did
so. If a Hanover Limited Partner has an adjusted tax basis in his Hanover
Partnership Units (per Hanover Partnership Unit) that is substantially less than
the adjusted tax basis of a Hanover Limited Partner who acquired his Hanover
Partnership Units in the original offering of such Partnership Units and has
held such Partnership Units at all times since, he could (although it is
unlikely) recognize gain due to any deemed cash distribution resulting from the
relief from liabilities in connection with the Merger and the REIT Conversion.
The Operating Partnership has no current plan or intention to cause the
prepayment of the Hanover Mortgage Debt or, except as described in the Consent
Solicitation, any of the nonrecourse liabilities encumbering the Hotels owned by
the other Partnerships. The Operating Partnership, however, will have to repay
mortgage indebtedness securing the Hotels owned by the Partnerships at the time
such indebtedness matures. There can be no assurance that at such time the
Operating Partnership will be able to secure nonrecourse mortgage indebtedness
secured only by those Hotels in an amount sufficient to avoid a deemed cash
distribution to the former Limited Partners in those Partnerships, including
Hanover (although such a deemed distribution of cash may or may not result in
the recognition of taxable income or gain by the former Hanover Limited
Partners). Moreover, the Operating Partnership's current long-term financing
strategy is to have as little debt as possible that is secured by individual
Hotels and to have as much debt as possible in the form of unsecured debt, held
either by the public or by institutional investors, which debt may or may not be
recourse to Host REIT, as general partner of the Operating Partnership. In view
of these considerations and the potential adverse consequences to Limited
Partners in certain Partnerships, the Operating Partnership has requested from
the IRS a ruling to the effect that such unsecured indebtedness of the Operating
Partnership that is issued initially to institutional investors and is not
recourse to Host REIT (i) would qualify as "nonrecourse liabilities" for
purposes of Code Section 752, (ii) to the extent the proceeds thereof are
applied to repay existing nonrecourse mortgage indebtedness secured by one or
more Hotels (including the Hanover Mortgage Debt), would be considered to be
"secured" by those Hotels for purposes of allocating the liabilities for tax
basis purposes (and thus would be allocable, at least in substantial part, to
the former Limited Partners in the Partnership owning those Hotels, including
the Hanover Limited Partners), and (iii) would constitute "qualified nonrecourse
financing" secured by such Hotels for purposes of Code Section 465. The IRS has
recently issued a ruling to that effect to another taxpayer, and has indicated
to the Operating Partnership's representatives that it is favorably inclined to
issue that ruling to the Operating Partnership.
Section 465(e) Recapture. As discussed in the Consent Solicitation, see
------------------------
"Federal Income Tax Considerations -- Tax Consequences of the Mergers -- Section
465(e) Recapture," the "at risk" rules of Section 465 of the Code generally
apply to limit the use of partnership losses by a partner. Under Section 465(e)
of the Code, a partner may be required to include in gross income, or
"recapture," losses previously allowed to such partner with respect to his
investment in a partnership if the amount for which the partner
Hanover Supp-19
<PAGE>
is "at risk" in relation to his investment in the partnership is less than zero
at the close of the taxable year. The "at risk" rules generally do not apply to
losses attributable to real property placed in service prior to January 1, 1987
by the taxpayer or to losses attributable to a partnership in which the taxpayer
acquired his interests before that date (the "grandfather" rule). Thus, the "at
risk" rules have not been applicable to date to those Hanover Limited Partners
who acquired their Partnership Units at the time of the original offering in
November of 1986 or at any time prior to January 1, 1987 and who have held those
Partnership Units since the date of the acquisition. The Hanover Limited
Partners will, however, become subject to the "at risk" rules as a result of the
Merger and their receipt of OP Units in connection therewith (since the OP Units
do not qualify for the "grandfather" rule).
It is possible that the consummation of the Merger and the REIT
Conversion or the repayment of certain "qualified nonrecourse financing" of the
Operating Partnership, the Hotel Partnerships or the Hotels contributed to the
Operating Partnership by the Blackstone Entities at the time of or following the
Merger and the REIT Conversion could, singularly or in combination, cause a
Hanover Limited Partner's amount at risk in relation to his investment in
Hanover (and, after the Merger, in the Operating Partnership) to be reduced
below zero, resulting in an income inclusion to the Limited Partner under
Section 465(e) of the Code. Currently, a sufficient portion of the current debt
of Hanover constitutes "qualified nonrecourse financing" so that the Hanover
Limited Partners have positive at risk amounts, and the Operating Partnership
expects that most of the current debt with respect to the other Hotel
Partnerships and the Hotels contributed by the Blackstone Entities that will be
assumed by the Operating Partnership as part of the Merger and the REIT
Conversion should qualify as "qualified nonrecourse financing." The Operating
Partnership and the General Partner believe, based upon and subject to the
assumptions and other limitations described below, that a Hanover Limited
Partner who acquired his Hanover Partnership Units in the original offering of
such Partnership Units and has held the Partnership Units at all times since
will have a positive at risk amount immediately following the Merger and the
REIT Conversion, even if all of the Hanover Mortgage Debt were to be repaid in
connection with the Merger and the REIT Conversion and such Hanover Limited
Partners were to have no share of any other "qualified nonrecourse financing"
following the Merger and the REIT Conversion.
It is possible, however, that a former Hanover Limited Partner's at
risk amount could decline in the future, either because of the allocation of
losses from the Operating Partnership to that former Hanover Limited Partner or
because of cash distributions by the Operating Partnership to that former
Hanover Limited Partner in excess of the taxable income allocable to him with
respect to his OP Units. In that event, it may be necessary for the former
Hanover Limited Partner to have a share of "qualified nonrecourse financing"
from the Operating Partnership in order to avoid recognizing income by reason of
his at risk amount falling below zero. Moreover, there can be no assurance that
debt incurred by the Operating Partnership in the future to refinance the
Hanover Mortgage Debt or outstanding mortgage debt of the other Hotel
Partnerships or the Hotels contributed by the Blackstone Entities will qualify
as "qualified nonrecourse financing." If, however, the Operating Partnership
were to obtain the requested ruling from the IRS and were to refinance existing
mortgage indebtedness of the Partnerships with the type of indebtedness
described in the ruling, such indebtedness should constitute "qualified
nonrecourse financing" for purposes of the "at risk" rules.
Impact of Assumption of Hanover Liabilities by the Operating
------------------------------------------------------------
Partnership. As described in the Consent Solicitation, see "Federal Income Tax
- -----------
Considerations -- Tax Consequences of the Mergers -- Disguised Sale
Regulations," a Hanover Limited Partner will recognize gain to the extent he is
treated as having sold all or part of his Hanover Partnership Interest in a
"disguised sale." For purposes of these rules, certain reductions in a partner's
share of partnership liabilities are treated as a transfer of money or other
property from the partnership to the partner which may give rise to a disguised
sale, even if that reduction would not otherwise result in a taxable deemed cash
distribution in excess of the partner's basis in his partnership interest.
However, if a transfer of property by a partner to a partnership is not
otherwise treated as part of a disguised sale, then any reduction in the
partner's share of "qualified liabilities" also will not be treated as part of a
disguised sale. A "qualified liability" in connection with a transfer of
property to a partnership includes (i) any liability incurred more than two
years prior to the earlier of the transfer of the property or the date the
partner agrees in writing to the transfer, as long as the liability has
encumbered the transferred property throughout the two-year period; (ii) a
liability that was not incurred in anticipation of
Hanover Supp-20
<PAGE>
the transfer of the property to a partnership, but that was incurred by the
partner within the two-year period prior to the earlier of the date the partner
agrees in writing to transfer the property or the date the partner transfers the
property to a partnership and that has encumbered the transferred property since
it was incurred; (iii) a liability that is traceable under the Treasury
Regulations to capital expenditures with respect to the property; and (iv) a
liability that was incurred in the ordinary course of the trade or business in
which property transferred to the partnership was used or held, but only if all
the assets related to that trade or business are transferred, other than assets
that are not material to a continuation of the trade or business. However, a
recourse liability is not a "qualified liability" unless the amount of the
liability does not exceed the fair market value of the transferred property
(less any other liabilities that are senior in priority and encumber such
property or any allocable liabilities described in (iii) or (iv), above) at the
time of transfer.
The General Partner believes that all liabilities of Hanover fall into
one of the four categories of "qualified liabilities" described above and,
accordingly, that the mere assumption by the Operating Partnership of the
outstanding liabilities of Hanover will not give rise to a "disguised sale" by
any of the Hanover Limited Partners.
Tax Treatment of Hanover Limited Partners Who Hold OP Units Following
the Merger
Initial Basis in Units. In general, a Hanover Limited Partner will have
----------------------
an initial tax basis in his OP Units received in the Merger with respect to his
Hanover Partnership Units equal to the basis in his Hanover Partnership Units at
the time of the Merger, reduced to reflect any deemed cash distributions
resulting from a reduction in his share of Hanover liabilities and increased to
reflect his share of other liabilities of the Operating Partnership and any gain
required to be recognized in connection with the Merger and the REIT Conversion.
For a discussion of the federal income tax considerations for a Hanover Limited
Partner from a reduction in basis that may result from the Merger and the REIT
Conversion, see "Federal Income Tax Considerations -- Tax Treatment of Limited
Partners Who Hold OP Units Following the Mergers -- Initial Tax Basis of OP
Units" in the Consent Solicitation.
Tax Allocations upon a Sale by the Operating Partnership of Hanover
-------------------------------------------------------------------
Marriott Hotel. Pursuant to Section 704(c) of the Code, income, gain, loss and
- --------------
deduction attributable to appreciated or depreciated property that is
contributed to a partnership must be allocated for federal income tax purposes
in a manner such that the contributor is charged with, or benefits from, the
unrealized gain or unrealized loss associated with the property at the time of
contribution. The amount of such unrealized gain or unrealized loss is generally
equal to the difference between the fair market value of the contributed
property at the time of contribution and the adjusted tax basis of such property
at the time of contribution (referred to as the "Book-Tax Difference"). The
Operating Partnership and the General Partner estimate, based upon and subject
to the assumptions and other limitations described below, that the aggregate
Book-Tax Difference with respect to the Hanover Marriott Hotel will be $________
upon the consummation of the Merger.
If the Operating Partnership were to sell the Hanover Marriott Hotel,
the former partners of Hanover (including Host REIT with respect to Host's
interest in Hanover currently held indirectly by Host through the General
Partner and Hanover Hotel Acquisition Corp.) would be specially allocated by the
Operating Partnership an aggregate amount of taxable gain equal to the Book-Tax
Difference with respect to the Hanover Marriott Hotel ($ ____ in the aggregate
if the Hanover Marriott Hotel were sold immediately after the consummation of
the Merger, according to the estimate in the previous paragraph). The share of
such gain allocable to a Hanover Limited Partner who acquired his Hanover
Partnership Units in the original offering of such Partnership Units and held
such Partnership Units at all times since would be $___ per Hanover Partnership
Unit if such Limited Partner acquired his Hanover Partnership Units for cash,
and $___ per Hanover Partnership Unit if such Limited Partner required his
Partnership Units pursuant to an installment purchase plan. The share of such
gain of a Hanover Limited Partner who did not acquire his Hanover Partnership
Units in the original offering of such Partnership Units or who has not held his
Partnership Units at all times since such offering could vary materially from
this amount. If the Operating Partnership were to sell the Hanover Marriott
Hotel with a Book-Tax Difference, the remaining Book-Tax Difference at the time
the Hotel is sold would be required to be allocated exclusively to the former
Hanover Limited Partners and the General Partner, even though the proceeds of
such sale would be allocated proportionately among all the partners in the
Operating Partnership (and would likely be retained by the
Hanover Supp-21
<PAGE>
Operating partnership, rather than distributed to holders of OP Units and Common
Shares of Host REIT). The Hanover Limited Partners would not be entitled to any
special distributions from the Operating Partnership in connection with such a
sale, and thus would not necessarily receive cash distributions from the
Operating Partnership sufficient to pay such additional taxes. Although the
Partnership Agreement does not impose any restrictions upon the Operating
Partnership preventing it from causing the sale of the Hanover Marriott Hotel at
any time following the Merger, the Operating Partnership does not have current
plans to pursue a sale of the Hotel. See "Federal Income Tax Considerations --
Tax Treatment of Limited Partners Who Hold OP Units Following the Mergers --
Sale of Individual Hotels" in the Consent Solicitation.
Tax Allocations upon the Sale of Certain Personal Property Associated
---------------------------------------------------------------------
with the Hanover Marriott Hotel. As discussed in the Consent Solicitation, see
- -------------------------------
"Federal Income Tax Considerations -- Federal Income Taxation of Host REIT
Following the REIT Conversion -- Income Tests Applicable to REITs" and "--
Taxable Income Attributable to Sales of Personal Property in Connection with the
REIT Conversion," if the rent attributable to personal property leased in
connection with the lease of each Hotel is greater than 15% of the total rent
received under the lease of such Hotel, the portion of the rent attributable to
the personal property will not constitute qualifying income to Host REIT (the
"15% Personal Property Test"). The Operating Partnership and the General Partner
have determined that the percentage of rent attributable to the personal
property to be leased in connection with the lease of the Hanover Marriott Hotel
would not satisfy the 15% Personal Property Test. The 15% Personal Property Test
is a mechanical test that is based not on the relative fair market value of the
assets subject to lease, or the relative fair rental value of those assets, but,
rather, is based on the average relative adjusted tax bases of the assets
subject to the lease. Accordingly, immediately prior to the Merger, the
Operating Partnership will require Hanover, if it chooses to participate in the
Merger, to sell to a Non-Controlled Subsidiary a portion of the personal
property associated with the Hanover Marriott Hotel. This sale, which will be a
taxable transaction, will result in the recognition by Hanover of an amount of
taxable gain to the extent of the difference, if any, between the fair market
value of the personal property at the time of the sale and the adjusted tax
basis of such property at that time. The actual amount of such gain will be
determinable only at the time of the sale and will be affected by the specific
personal property selected to be sold and the fair market value and adjusted
basis of that personal property. However, the Operating Partnership and the
General Partner believe that such gain, in the aggregate, could be in the range
of approximately $_____ to $_____. Pursuant to the Hanover partnership
agreement, all of such taxable gain will be characterized as ordinary recapture
income and will be allocated by Hanover to the Hanover partners in the same
proportions and to the same extent that such partners were allocated any
deductions directly or indirectly giving rise to the treatment of such gains as
recapture income prior to the Merger. The Operating Partnership and the General
Partner have determined that all of such recapture income arising upon the sale
of the personal property should properly be allocated to the General Partner,
which would not be entitled to any special distribution from Hanover in
connection with such a sale of personal property.
Tax Allocations with Respect to Contributed Hotels Generally. The tax
------------------------------------------------------------
allocations of depreciation to the Hanover Limited Partners may change
significantly as a result of the Merger and the REIT Conversion for two reasons.
First, as described above, pursuant to Section 704(c) of the Code, depreciation
and deductions attributable to the Hanover Marriott Hotel will be required to be
allocated for federal income tax purposes in a manner such that the Hanover
Limited Partners are charged with the Book-Tax Difference associated with the
Hotel at the time of the consummation of the Merger. Consequently, a Hanover
Limited Partner will be allocated less depreciation with respect to the Hanover
Marriott Hotel than would be the case if the Merger had not occurred and the
Hanover Limited Partner had continued to hold his Hanover Partnership Units. (On
the other hand, a former Hanover Limited Partner will be allocated depreciation
with respect to other Hotels acquired by the Operating Partnership in connection
with the Merger and the REIT Conversion, including the Hotels owned by the other
Hotel Partnerships and the Hotels being contributed to the Operating Partnership
by Host and the Blackstone Entities in connection with the Merger and the REIT
Conversion.) Second, the Merger will cause the technical termination under
Section 708(b)(1)(B) of the Code of Hanover and each of the other Hotel
Partnerships that participates in the Merger. Section 168(i)(7) of the Code
provides, in effect, that when a partnership terminates under Section
708(b)(1)(B) of the Code, the partnership must begin new depreciation periods
for its property. As a result, the remaining bases of the real estate components
of the Hanover Marriott Hotel and the Hotels held by the
Hanover Supp-22
<PAGE>
other Hotel Partnerships will be depreciated over 39 years, rather than over the
remaining current lives of such Hotels (which range from less than one year to
39 years). See "Federal Income Tax Considerations -- Tax Treatment of Limited
Partners Who Hold OP Units Following the Mergers -- Effect of Mergers on
Depreciation" in the Consent Solicitation.
In light of the complexity of the governing rules affecting the
calculation and allocation of depreciation with respect to properties
contributed to a partnership, particularly when a number of those properties are
subject to the separate adjustments required in connection with a technical
termination under Section 708 of the Code, the number of Hotels that the
Operating Partnership will be acquiring in connection with the Merger and the
REIT Conversion, and the impact on these calculations of other outside events,
including equity offerings by Host or Host REIT and other acquisitions
undertaken by Host, Host REIT or the Operating Partnership prior to or in
connection with the REIT Conversion, the Operating Partnership and the General
Partner believe that it is impossible to predict with any degree of precision
the impact that the Mergers and the REIT Conversion will have on the future
depreciation (and, consequently, the amount of taxable income) allocable to a
Hanover Limited Partner.
Impact on Passive Activity Losses of an Investment in a Publicly Traded
-----------------------------------------------------------------------
Partnership. The passive loss limitation rules generally provide that
- -----------
individuals, estates, trusts and certain closely held corporations and personal
service corporations can only deduct losses from passive activities (generally
activities in which the taxpayer does not materially participate, which would
include the Operating Partnership for Hanover Limited Partners) to the extent
that such losses are not in excess of the taxpayer's income from passive
activities or investments. A Hanover Limited Partner would be able to offset
losses from other passive activities against income from the Operating
Partnership that is considered passive income (but not portfolio income) so long
as the Operating Partnership is not treated as a publicly traded partnership.
The Operating Partnership and the General Partner believe, however, that there
is a substantial risk that the Operating Partnership will be treated as a
publicly traded partnership for purposes of the passive loss limitation rules.
In this event, any losses or deductions of the Operating Partnership allocable
to a Hanover Limited Partner after the Merger could not be used to offset
passive income from other passive activities. Similarly, losses from other
passive activities (including losses attributable to Hanover for periods prior
to the Merger) could not be applied to offset income of the Operating
Partnership allocated to a Hanover Limited Partner. A Hanover Limited Partner,
however, would be able to offset any passive losses from his investment in
Hanover (or other investments) against any gain recognized by the Hanover
Limited Partner as a result of the Merger.
State and Local Taxes. Hanover Limited Partners holding OP Units will
---------------------
be subject to state and local taxation in a number of jurisdictions in which the
Operating Partnership directly or indirectly holds real property and would be
required to file periodic tax returns in those jurisdictions. In this regard,
immediately following the Merger and the REIT Conversion, the Operating
Partnership expects that it will own properties in approximately 28 states
across the United States and the District of Columbia. Currently, Hanover owns
property in only one state. See "Federal Income Tax Considerations -- Tax
Treatment of Limited Partners Who Hold OP Units Following the Mergers -- State
and Local Taxes" in the Consent Solicitation.
Assumptions Used in Determining Tax Consequences of the Merger
In preparing the discussion set forth above, the Operating Partnership
and the General Partner made several key assumptions, which are described below.
If any such assumption is not accurate with respect to a particular Hanover
Limited Partner, the tax consequences of the Merger to such Hanover Limited
Partner could be substantially different from those reflected above.
ACCORDINGLY, EACH HANOVER LIMITED PARTNER IS STRONGLY URGED TO CONSULT WITH HIS
OWN TAX ADVISOR TO DETERMINE THE IMPACT OF SUCH HANOVER LIMITED PARTNER'S
PARTICULAR TAX SITUATION ON THE ANTICIPATED TAX CONSEQUENCES OF PARTICIPATING IN
THE MERGER.
First, with respect to a Hanover Limited Partner's basis in his Hanover
Partnership Units prior to the Merger, the Operating Partnership and the General
Partner assumed that a Hanover Limited Partner acquired his Hanover Partnership
Units in the original offering of such Partnership Units and has held such
Hanover Supp-23
<PAGE>
Partnership Units at all times since the offering (the "Original Limited
Partner's Adjusted Basis"). In general, each Hanover Limited Partner had an
initial tax basis in his Hanover Partnership Units ("Initial Basis") equal to
his cash investment Hanover (plus his proportionate share of the Hanover's
nonrecourse liabilities at the time he acquired his Hanover Partnership Units).
A Hanover Limited Partner's Initial Basis generally has been increased by (a)
such Limited Partner's share of Hanover's taxable income and (b) any increases
in his share of the liabilities of Hanover. Generally, such Limited Partner's
Initial Basis has been decreased (but not below zero) by (i) his share of
Hanover cash distributions, (ii) any decreases in his share of liabilities of
Hanover, (iii) his share of losses of Hanover, and (iv) his share of
nondeductible expenditures of Hanover that are not chargeable to capital.
Because "syndication costs" are chargeable to capital and not deductible for tax
purposes, a Hanover Limited Partner's basis in his Hanover Partnership Units
effectively would include his share of the syndication costs incurred by Hanover
at formation.
The General Partner has set forth on Appendix E to the Consent
Solicitation for Hanover (i) the Original Limited Partner's Adjusted Basis as of
December 31, 1997 for each such Hanover Limited Partner, and (ii) an estimate of
such Hanover Limited Partner's Original Limited Partner's Adjusted Basis as of
December 31, 1998 (computed without regard to the Merger and based upon the
assumptions set forth in Appendix C to the Consent Solicitation). The General
Partner also has set forth on Appendix E to the Consent Solicitation for each
Hanover Limited Partner whose adjusted basis in his Hanover Partnership Interest
is the same as the Original Limited Partner's Adjusted Basis (i) the Hanover
liabilities allocable to such Hanover Limited Partner as of December 31, 1997,
and (ii) an estimate of the Hanover liabilities allocable to such Limited
Partner as of December 31, 1998 (computed without regard to the Merger and based
upon the assumptions set forth in Appendix C to the Consent Solicitation).
Each of these estimates is shown separately for those Hanover Limited Partners
who required their Partnership Units at the time of the original offering
pursuant to an installment purchase plan.
The adjusted tax basis of a Hanover Limited Partner who did not acquire
his Hanover Partnership Units in the original offering of such Partnership Units
could vary materially from that of a Hanover Limited Partner who did so for
various reasons. If a Hanover Limited Partner has an adjusted tax basis in his
Hanover Partnership Units that is less than the Original Limited Partner's
Adjusted Tax Basis, the Merger might result in the receipt by the Hanover
Limited Partner of a deemed distribution of cash in excess of his adjusted tax
basis in his Hanover Partnership Units, which could (although it is unlikely)
result in the recognition of income or gain.
Finally, the Operating Partnership and the General Partner assumed that
the Merger will be treated for federal income tax purposes as the transfer by
the Hanover Limited Partners of their interests in the Hotel Partnerships to the
Operating Partnership in exchange for OP Units. There can be no assurance,
however, that the IRS will not seek to recharacterize each Merger as either (i)
the liquidation of a Partnership followed by the distribution by the Partnership
of its assets to its partners and the subsequent transfers by such partners of
such assets to the Operating Partnership in exchange for OP Units, or (ii) the
transfer by a Partnership of its assets to the Operating Partnership in exchange
for OP Units (and possibly Notes) and the subsequent distribution of such OP
Units (and possibly Notes) to its partners. If the Merger is recharacterized in
the manner described in (ii) in the preceding sentence, the tax consequences of
the Merger to the Hanover Limited Partners likely would be materially affected.
EACH HANOVER LIMITED PARTNER IS STRONGLY URGED TO CONSULT WITH HIS OWN
TAX ADVISOR TO DETERMINE THE IMPACT OF SUCH HANOVER LIMITED PARTNER'S PARTICULAR
TAX SITUATION ON THE ANTICIPATED TAX CONSEQUENCES OF PARTICIPATING IN THE
MERGER. THE TAX CONSEQUENCES OF PARTICIPATING IN THE MERGER TO A PARTICULAR
HANOVER LIMITED PARTNER COULD VARY SUBSTANTIALLY FROM THE CONSEQUENCES DESCRIBED
ABOVE.
Tax Treatment of Hanover Limited Partners Who Exercise Their Right
to Make the Note Election
A Hanover Limited Partner who exercises right to make the Note Election
and receive a Note in connection with the Merger will be treated as having made
a taxable disposition of his OP Units. The amount realized in connection with
such disposition will equal the sum of the "issue price" of the Note (i.e.,
Hanover Supp-24
<PAGE>
the face amount of the Notes, currently estimated as $88,474 per Hanover
Partnership Unit) plus the portion of the Hanover liabilities allocable to the
Hanover Limited Partner for federal income tax purposes immediately prior to the
disposition of the OP Units (estimated as $_______ per Hanover Partnership Unit
as of December 31, 1998). To the extent the amount realized exceeds the Hanover
Limited Partner's adjusted basis in his Hanover Partnership Units, the Hanover
Limited Partner will recognize gain. The Operating Partnership and the General
Partner estimate (assuming the Hanover Limited Partner acquired his Hanover
Partnership Units at the time of the original offering, and has held such
Partnership Units at all times since the offering) that the amount of gain that
would be recognized by a Hanover Limited Partner who made the Note Election
would be approximately $____ per Hanover Partnership Unit, as of December 31,
1998 if such Partnership Unit were acquired for cash, and $____ per Hanover
Partnership Unit if such Partnership Unit were acquired pursuant to an
installment purchase plan. For a discussion of the federal income tax rates
applicable to the net capital gain from the sale of a capital asset, see
"Federal Income Tax Considerations -- Tax Treatment of Limited Partners Who Hold
OP Units Following the Mergers -- Disposition of OP Units by Limited Partners"
in the Consent Solicitation. In this regard, the General Partner estimates that,
as of December 31, 1998, if Hanover sold the Hanover Marriott Hotel in a fully
taxable transaction for a net amount, after payment of liabilities, equal to the
Note Election Amount of Hanover, the "unrecognized Section 1250 gain" per
Hanover Partnership Unit would be $______ if such Partnership Unit were acquired
for cash, and $____ per Hanover Partnership Unit if such Partnership Unit were
acquired pursuant to an installment purchase plan and the gain subject to tax as
ordinary income under Code Section 1245 per Hanover Partnership Unit would be
$______ if such Partnership Unit were acquired for cash, and $____ per Hanover
Partnership Unit if such Partnership Unit were acquired pursuant to an
installment purchase plan. A Hanover Limited Partner who makes the Note Election
would be able to treat any per Partnership Unit passive activity loss
carryforward with respect to the activities of Hanover, to the extent the sum of
such losses exceeds its passive activity income for 1998, as losses that are not
from a passive activity and, therefore, not subject to the passive activity loss
limitation rules. For purposes of determining the gain recognized by a Limited
Partner as a result of making the Note Election, an Original Limited Partner's
Adjusted Basis will reflect such Limited Partner's share of the syndication
costs incurred by his Partnership at formation.
A Hanover Limited Partner who elects to receive a Note may be eligible
to defer a majority of that gain under the "installment sale" rules. Those
rules, however, will not permit the Hanover Limited Partner to defer all of the
gain, and, to the extent that the face amount of the Note (and any other
installment obligations received by the taxpayer during the year) outstanding at
the end of the taxable year in which the Merger occur exceeds $5,000,000, will
require that the Hanover Limited Partner who defers gain pay to the IRS interest
on the resulting tax that has been deferred. The Hanover Limited Partner would
not be eligible to defer gain recognized upon the receipt of the Note to the
extent that his share of Hanover liabilities at the time of the Merger exceeds
his adjusted tax basis in his Hanover Partnership Units immediately prior to the
Merger (that is, to the extent that he has a "negative capital account" for tax
purposes). In addition, the Hanover Limited Partner would not be eligible to
defer gain to the extent that such gain would be taxed as ordinary income under
Sections 1245 and 1250 of the Code. Lastly, if a Hanover Limited Partner
disposes of his Note, any gain that had been deferred would be recognized in the
year of disposition.
THE SPECIFIC TAX ATTRIBUTES OF A PARTICULAR HANOVER LIMITED PARTNER
COULD HAVE A MATERIAL IMPACT ON THE TAX CONSEQUENCES OF THE MERGER, AND THE
SUBSEQUENT OWNERSHIP AND DISPOSITION OF NOTES. THEREFORE, IT IS ESSENTIAL THAT
HANOVER LIMITED PARTNERS CONSIDERING ELECTING TO RECEIVE NOTES CONSULT WITH
THEIR OWN TAX ADVISORS WITH REGARD TO THE APPLICATION OF THE FEDERAL INCOME TAX
LAWS TO SUCH HANOVER LIMITED PARTNERS' RESPECTIVE PERSONAL TAX SITUATIONS, AS
WELL AS ANY TAX CONSEQUENCES ARISING UNDER THE LAWS OF ANY STATE, LOCAL, OR
FOREIGN TAXING JURISDICTION.
Tax Consequences if Hanover Does Not Participate in the Merger
If Hanover does not participate in the Merger, the Hanover Limited
Partners would not have any tax consequences resulting from the Merger. The
consequences of continued ownership of Hanover Partnership Units will be the
same as would have resulted if the Merger had not been proposed.
* * *
Hanover Supp-25
<PAGE>
The above description is not exhaustive of all possible tax
considerations associated with the Merger and the REIT Conversion. This summary
does not discuss foreign tax considerations, nor does it discuss all of the
aspects of federal income taxation or state and local taxation that may be
relevant to Hanover Limited Partners in light of their particular circumstances.
EACH HANOVER LIMITED PARTNER IS STRONGLY URGED TO CONSULT WITH HIS OWN TAX
ADVISOR TO DETERMINE THE IMPACT OF SUCH HANOVER LIMITED PARTNER'S PARTICULAR TAX
SITUATION ON THE ANTICIPATED TAX CONSEQUENCES OF PARTICIPATING IN THE MERGER.
Hanover Supp-26
<PAGE>
SELECTED FINANCIAL DATA
The following table presents selected historical financial data derived
from the Hanover financial statements for the five most recent fiscal years in
the period ended December 31, 1997 and the unaudited financial statements for
the First Quarter 1998. The following data should be read in conjunction with
Hanover financial statements and the notes thereto, Management's Discussion and
Analysis of Financial Condition and Results of Operations and the other
financial information included elsewhere herein.
<TABLE>
<CAPTION>
First Quarter Fiscal Year
-------------------- ---------------------------------------------------------
1998 1997 1997 1996 1995 1994 1993
---- ---- ---- ---- ---- ---- ----
(unaudited) (amounts in thousands, except per Partnership Unit)/(3)/
<S> <C> <C> <C> <C> <C> <C> <C>
Revenues.............................. 1,312 1,459 $ 6,853 $ 5,296 $ 4,487 $ 3,727 $ 3,435
Operating profit...................... 711 1,088 4,400 3,624 2,752 2,345 434
Income (loss) before
extraordinary item(1)............. (228) 303 663 940 (219) (1,206) (3,224)
Net income (loss)..................... (228) 303 5,757 940 (219) (1,206) (3,224)
Distributions:
General partner................... -- -- -- -- -- -- --
Limited partners.................. -- -- -- -- -- -- --
Per Partnership Unit:(3)
Net income (loss)................. (2,583) 3,429 65,107 10,631 (2,476) (13,643) (36,464)
Distributions..................... -- -- -- -- -- -- --
EBITDA(2)(unaudited).................. 1,008 1,401 5,836 4,966 3,995 3,508 2,670
Cash provided by (used in)
operating activities.............. 263 561 2,167 1,918 2,561 331 (327)
Cash used in investing
activities........................ (1,763) (259) (1,058) (830) (1,241) (715) (427)
Cash provided by (used in) financing
activities........................ (83) (114) (1,714) (272) -- (31) 690
Increase (decrease) in cash and
cash equivalents.................. (1,583) 188 (605) 816 1,320 (415) (64)
Ratio of earnings to fixed
charges(4)(unaudited)................. -- 1.37x 1.17x 1.33x -- 1.34x 1.88x
Deficiency of earnings to
fixed charges(4)(unaudited)....... 228 -- -- -- 219 -- --
Total assets at book value............ 32,922 33,761 32,883 33,533 32,652 31,559 32,353
Cash and cash equivalents............. 369 2,745 1,952 2,557 1,741 421 836
Total debt(5)......................... 40,281 40,413 40,364 40,527 40,527 40,527 40,596
Total liabilities..................... 41,670 47,735 41,403 47,810 47,869 46,557 46,145
Partner's deficit:
Limited partners.................. (8,385) (13,349) (8,168) (13,637) (14,530) (14,322) (13,176)
General partner................... (363) (625) (352) (640) (687) (676) (616)
Book value per Partnership Unit
(unaudited)(3).................... (99,821) (158,917) (97,238) (162,345) (172,976) (170,500) (156,857)
Exchange value per Partnership
Unit (unaudited)(3) .............. 123,202 -- -- -- -- -- --
</TABLE>
(1) During 1997, the Partnership recorded on extraordinary gain on the
forgiveness of additional rental recorded in conjunction with the
refinancing of the Partnership's mortgage debt.
(2) EBITDA consists of the sum of net income, interest expense, and
depreciation and amortization. EBITDA data is presented because such data
is used by certain investors to determine the Partnership's ability to
meet debt service requirements. The Partnership considers EBITDA to be an
indicative measure of the Partnership's operating performance due to the
significance of the Partnership's long-lived assets and because of EBITDA
can be used to measure the Partnership's ability to service debt, fund
capital expenditures and expand its business; however, such information
should not be considered as an alternative to net income, operating
profit, cash flows from operations, or any other operating or liquidity
performance measure prescribed by generally accepted accounting
principles. Cash expenditures for various long-term assets and interest
expense have been, and will be, incurred which are not reflected in the
EBITDA presentations.
(3) A Partnership Unit represents a $100,000 original investment in Hanover.
(4) The ratio of earnings to fixed charges is computed by dividing net income
before interest expense and other fixed charges by total fixed charges,
including interest expense, amortization of debt issuance costs and the
portion of rent expense that is deemed to represent interest. The
deficiency of earnings to fixed charges in the First Quarter 1998 and
1995 is largely the result of depreciation and amortization of $286,000
and $1,178,000 respectively.
Hanover Supp-27
<PAGE>
(5) Total debt includes amounts due to Host Marriott and affiliate, for the
Subordinated Loan of $7,053,000 and $7,077,000 as of March 27, 1998 and
December 31, 1997, respectively, and the Working Capital Loan of $127,000
for all periods presented and Debt Service Guarantee of $3,400,000 for
March 27, 1998, March 28, 1997 and December 31, 1997-1993 and $3,469,000
as of December 31, 1993.
Management's Discussion and Analysis of Financial Condition and Results of
Operations
Results Of Operations
On August 18, 1997, the Partnership completed a refinancing of its
Mortgage Debt. In connection with the refinancing, the Partnership converted the
Operating Lease with MHS to the Management Agreement (the "Conversion"). Prior
to the Conversion, the Partnership recorded revenue based on the rental income
to be received from MHS. Annual rental during the term of the Operating Lease
was equal to the greater of: (i) Minimum Rental of $100,000 or (ii) Basic Rental
equal to 80% of Operating Profit, as defined, reduced to 75% of Operating Profit
after the Partnership received $4,421,000 of cumulative Capital Receipts, as
defined; or (iii) Adjusted Rental equal to debt service on the mortgage debt
plus Partnership administration costs (collectively referred to as "Debt
Service") plus the greater of: (a) a preferred return equal to $840,000 or (b)
50% of the amount by which Operating Profit exceeded Debt Service. In no event
was Adjusted Rental to exceed Operating Profit.
The amount by which Adjusted Rental exceeded Basic Rental in any fiscal
year was defined as Additional Rentals. Cumulative Additional Rentals were
recoverable by MHS in any fiscal year when Basic Rental exceeded Adjusted
Rentals, provided no loans from the General Partner or Host Marriott were then
outstanding. Annual Rental was reduced by 50% of such excess to the extent
cumulative Additional Rental existed. In addition to the Annual Rental, MHS was
required to pay real estate taxes.
Subsequent to the Conversion, the Partnership records revenue based on
house profit generated by the Hotel. House profit reflects Hotel operating
results, and represents gross hotel sales less property-level expenses,
excluding depreciation and amortization, base and incentive management fees,
real estate taxes, insurance and certain other costs, which are disclosed
separately in the statement of operations. Revenues are recorded based on house
profit of the Hotel because the Partnership has delegated substantially all of
the operating decisions related to the generation of house profit from the Hotel
to MHS. As a result, Hotel revenues reported for the twelve weeks ended March
27, 1998 are not comparable with Hotel rental reported for the twelve weeks
ended March 28, 1997.
First Quarter 1998 Compared to First Quarter 1997
Revenues: On a comparative basis, hotel revenues decreased $609,000, or
32%, to $1.3 million for First Quarter 1998 when compared to first quarter 1997.
The decrease in hotel revenues is primarily due to decreases in room and in food
and beverage sales. For first quarter 1998, room sales decreased $198,000, or
7%, to $2.8 million resulting from an 18.0 percentage point decline in average
occupancy. The decline in average occupancy for first quarter 1998 is a result
of rooms being temporarily out of inventory during the rooms refurbishment that
began in January 1998 and was completed in late March. Additionally, the Hanover
market reported an overall seven percentage point decline in occupancy for
January and February 1998. The Hotel's average rate increased $26, or 21%, to
$152 which resulted in a decrease in REVPAR of $7, or 7%, to $95. REVPAR, or
revenue per available room, represents the combination of average daily room
rate charged and the average daily occupancy achieved and is a commonly used
indicator of hotel performance (although it is not a measure under generally
accepted accounting principles). As a result of the decline in average
occupancy, food and beverage sales decreased $602,000, or 30%, to $1.4 million
for first quarter 1998 from $2.0 million in first quarter 1997. For the
remainder of the year, operations are expected to improve as a result of the new
rooms product and expected increases in the market occupancy and demand.
Hanover Supp-28
<PAGE>
Operating Costs and Expenses: The Partnership's operating costs and
expenses increased $230,000, or 62%, to $601,000 for First Quarter 1998 when
compared to First Quarter 1997 due primarily to the Conversion. Prior to the
Conversion, the Partnership did not record base management fees or insurance as
components of the Partnership's operating costs although they were components in
the calculation of Operating Profit. On a comparative basis, base management
fees for First Quarter 1998 decreased $25,000 or 16%, with the decline in hotel
sales discussed above. In addition, real estate taxes increased $27,000, or 30%,
to $118,000 for First Quarter 1998 when compared to First Quarter 1997 due to a
re-assessment of the property in 1997.
Operating Profit: As a result of changes in revenues and operating
costs and expenses discussed above, operating profit decreased by $377,000, or
35%, to $711,000 for first quarter 1998 when compared to first quarter 1997.
Interest Expense: Interest expense increased $132,000, or 16%, to
$950,000 due to refinancing the Partnership's mortgage debt at a higher interest
rate. The weighted average interest rate on the Partnership's debt, which
includes the Subordinated Loan for First Quarter 1998 and 1997 was 9.6% and 7.4%
respectively.
Net (Loss) Income: The net loss for First Quarter 1998 was $228,000
compared to net income of $303,000 for First Quarter 1997 as a result of the
items discussed above.
1997 Compared to 1996
Revenues: Total revenues increased by $1.6 million, or 29%, to $6.9
million in 1997 when compared to 1996, and hotel rental income decreased by $1.2
million, or 24%, to $4.0 million in 1997 when compared to 1996 due to the
Conversion. For the period January 1, 1997 to August 17, 1997, the Partnership
received Hotel rental income in accordance with the Operating Lease. For the
period August 18, 1997 to December 31, 1997 under the Management Agreement,
Hotel revenues represent hotel sales less direct hotel operating costs and
expenses.
On a comparative basis, house profit increased $1.1 million, or 16%, to
$8.0 million in 1997 when compared to 1996. The increase in house profit is
primarily due to an increase in REVPAR. REVPAR for 1997 increased $10, or 11%,
to $100 compared to 1996, primarily due to the increase in average room rate of
$10, or 9%, to $124 and a two percentage point increase in the average occupancy
to 81%.
During 1997, the Hotel increased its rates several times. The result
was the average transient and group rates increased 10% to $134 and 12% to $95,
respectively. As of December 31, 1997, the corporate rate, excluding discounts,
was approximately $195 representing a 37% increase from 1996. Due to growth in
the group segment, food and beverage sales also increased due to a 16% increase
in catering and audio visual sales in comparison to 1996.
As a result of the REVPAR increase, hotel sales increased $1.7 million,
or 8%, to $22.5 million in 1997 when compared to 1996. Due to the continued high
average occupancy, the Partnership expects future increases in REVPAR to be
driven by room rate increases, rather than changes in occupancy. However, there
can be no assurance that REVPAR will continue to increase in the future.
Operating Costs and Expenses: The Partnership's operating costs and
expenses increased $781,000, or 47%, to $2.5 million in 1997 when compared to
1996 primarily due to the Conversion. Prior to the Conversion, the Partnership
did not record base management fees or insurance as components of the
Partnership's operating costs although they were components in the calculation
of Operating Profit. On a comparative basis, base management fees for 1997
increased $52,000, or 8%, due to increased hotel sales. The Hotel's real estate
taxes in 1997 increased $102,000 from 1996 due to a re-assessment of the
property
Hanover Supp-29
<PAGE>
during 1997. In addition, Partnership administration increased due to
administrative costs associated with the refinancing in August 1997.
Operating Profit: As a result of changes in revenues and operating
costs and expenses discussed above, operating profit increased $776,000, or 21%,
to $4.4 million in 1997 when compared to 1996.
Interest Expense: Interest expense increased $1.1 million, or 40%, to
$3.9 million due to refinancing the Partnership's mortgage debt, which includes
the Subordinated Loan. The weighted average interest rate on the Partnership's
debt for 1997 and 1996 was 7.9% and 6.4%, respectively.
Income Before Extraordinary Items: Income before extraordinary items
decreased $277,000 to $663,000, or 10% of revenues, in 1997, from $940,000, or
18% of revenues, in 1996.
Extraordinary Items: The Partnership recognized an extraordinary gain
in 1997 of $5.1 million representing the forgiveness of Additional Rental by
MHS.
Net Income: Net income increased by $4.8 million in 1997 to $5.8
million when compared to 1996 as a result of the items discussed above.
1996 Compared to 1995
Revenues: Revenue increased $809,000, or 18%, to $5.3 million in 1996
when compared to 1995. The Partnership's rental income was impacted by improved
lodging results. The increase was driven primarily by growth in REVPAR.. REVPAR
for 1996 increased $9, or 11%, to $90 compared to 1995, primarily due to the
increase in combined average room rate of $5, or 5%, to $114 and a five
percentage point increase in the average occupancy to 79%. As a result of the
REVPAR increase, hotel sales increased $2.4 million, or 13%, to $20.7 million in
1996 when compared to 1995.
Operating Costs and Expenses: The Partnership's operating costs and
expenses decreased $63,000, or 4%, to $1.7 million in 1996 when compared to
1995, primarily due to a decrease in Partnership administration.
Operating Profit: As a result of changes in revenues and operating
costs and expenses discussed above, operating profit increased $872,000, or 32%,
to $3.6 million in 1996 when compared to 1995.
Interest Expense: Interest expense decreased $225,000, or 7%, to $2.8
million due to lower interest rates on the Partnership's mortgage debt. The
weighted average interest rate on the mortgage debt for 1996 and 1995 was 6.4%
and 7.2%, respectively.
Net Income (Loss): For 1996, the Partnership had net income of $940,000
compared to a net loss of $219,000 in 1995 as a result of the items discussed
above.
Capital Resources and Liquidity
Principal Sources and Uses of Cash
The Partnership's financing needs have been historically funded through
loan agreements with independent financial institutions and Host Marriott. As a
result of the successful refinancing of the Partnership's mortgage debt, the
General Partner believes that the Partnership will have sufficient capital
resources and liquidity to conduct its operations in the ordinary course of
business.
Cash provided by operations was $263,000 and $561,000 for First Quarter
1998 and First Quarter 1997, respectively. The Partnership's principal source of
cash is cash from operations. Cash provided by operations was lower in First
Quarter 1998 primarily due to the conversion combined with a decrease in the
Hotel's sales as a result of the rooms refurbishment discussed above. This
decline offset increases in cash
Hanover Supp-30
<PAGE>
provided by changes in operating accounts related to an increase in accounts
payable and accrued expenses of $328,000 due to an increased accrued interest
liability.
Cash provided by operations was $2.2 million, $1.9 million and $2.6
million for the years ended December 31, 1997, 1996 and 1995, respectively. The
decrease in cash from operations in 1996 from 1995 was primarily due to repaying
MHS $285,000 for Additional Rental earned in 1995. There was no Additional
Rental due MHS at December 31, 1996.
Cash used in investing activities was $1.8 million and $259,000 for
First Quarter 1998 and First Quarter 1997, respectively. The Partnership's cash
used in investing activities consists primarily of contributions to the property
improvement fund and capital expenditures for improvements to the Hotel. The
increase in cash used in investing activities is due to payments for the rooms
refurbishment in First Quarter 1998. Contributions, including interest income to
the property improvement fund were $217,000 and $249,000 for First Quarters 1998
and 1997, respectively. Capital expenditures were $1.6 million and $37,000 for
First Quarters 1998 and 1997, respectively.
Cash used in investing activities was $1.1 million, $830,000 and $1.2
million for the years ended December 31, 1997, 1996 and 1995, respectively.
Under the Operating Lease and Management Agreement, the Partnership is required
to make annual contributions to the property improvement fund which provides
funding for capital expenditures and replacement of furniture, fixtures and
equipment. Contributions to the fund equaled 4% of gross hotel sales, net of
interest income, in 1996 and 1995. In 1997, the contribution increased to 5%,
net of interest income. The General Partner believes that cash contributions
from the Hotel's property improvement fund will provide adequate funds in the
short and long-term to meet the Hotel's capital needs. Capital expenditures were
$1.4 million, $527,000 and $1.1 million for the years ended December 31, 1997,
1996 and 1995, respectively. The increase in capital expenditures in 1997 from
1996 is due to a $1.0 million payment in December 1997 for the rooms
refurbishment.
Cash used in financing activities was $83,000 and $114,000 for First
Quarter 1998 and First Quarter 1997, respectively, representing principal
payments made on the Partnership's mortgage debt.
Cash used in financing activities was $1.7 million and $272,000 in 1997
and 1996, respectively. No cash was provided by or used in financing activities
in 1995. The Partnership's $37.0 million Mortgage Debt required interest only
payments during the years 1996 and 1995. In 1997, the Partnership refinanced the
Mortgage Debt with the New Mortgage Debt of $29.9 million. In addition, Host
Marriott funded the $10 million Subordinated Loan to the Partnership which was
used to make a $10 million principal payment on the Mortgage Debt. During 1997,
the Partnership amortized $115,000 and $2.9 million of principal on the New
Mortgage Debt and Subordinated Loan, respectively. In addition, the Partnership
made a $1.4 million payment on debt service guarantees provided by the General
Partner in prior years.
Debt
In April 1997, Host Marriott funded a fully-amortizing $10 million
subordinated loan to the Partnership (the "Subordinated Loan") that bears
interest at a fixed rate of 14.5% over a 15-year term with required monthly
payments. The Subordinated Loan matures June 1, 2012.
In August 1997, the General Partner refinanced all of the Partnership's
outstanding mortgage debt. The total amount of the mortgage debt decreased from
$37.0 million to $29.9 million. The new non-recourse loan matures August 18,
2004, requires principal amortization on a 25-year term and bears interest at a
fixed rate of 8.58%.
Pursuant to the Subordinated Loan, any proceeds in excess of the $27
million for the New Mortgage Debt were to be used to repay the Subordinated
Loan. Therefore, the Partnership repaid principal of $2.9 million on the
Subordinated Loan at refinancing.
Hanover Supp-31
<PAGE>
Property Improvement Fund
The Management Agreement and Operating Lease require annual
contributions to a property improvement fund to ensure that the physical
condition and product quality of the Hotel is maintained. Contributions to this
fund are based on a percentage of annual total Hotel sales, net of interest
income earned on the fund. Prior to 1997, the contribution rate was 4%, net of
interest income and the current contribution is 5% of gross Hotel sales, net of
interest income. The General Partner believes that the 5% contribution
requirement is consistent with industry standards. However, in accordance with
the Management Agreement, contributions to the property improvement fund may be
increased or decreased by MHS if the current contribution of 5% of gross Hotel
sales, net of interest income, is either insufficient or excessive to make the
replacements, renewals and repairs to maintain the Hotel in accordance with
MHS's standards for a full-service Marriott hotel. Of the total $1.6 million of
net additions to property and equipment in First Quarter 1998, $1.5 million was
owner funded. Therefore, the balance in the fund totaled $404,000 as of March
27, 1998 and $287,000 as of December 31, 1997.
The General Partner believes that cash contributions from the Hotel's
property improvement fund will provide adequate funds in the short and long term
to meet the Hotel's capital needs.
Inflation
The rate of inflation has been relatively low in the past four years.
MHS is generally able to pass through increased costs to customers through
higher room rates and prices. In 1997, average rates of the Hotel exceeded
inflationary costs. On August 18, 1997, the Partnership refinanced its mortgage
debt and fixed its interest costs, thereby eliminating the Partnership's
exposure to the impact of inflation on future interest costs.
Seasonality
Demand, and thus occupancy, is affected by normally recurring seasonal
patterns. Demand is higher in the spring and summer months (March through
October) than during the remainder of the year.
Hanover Supp-32
<PAGE>
FINANCIAL STATEMENTS
Hanover Supp-33
<PAGE>
Report of Independent Public Accountants
TO THE PARTNERS OF HANOVER MARRIOTT LIMITED PARTNERSHIP:
We have audited the accompanying balance sheet of Hanover Marriott Limited
Partnership (a Delaware limited partnership, the "Partnership") as of December
31, 1997 and 1996 and the related statements of operations, changes in partners'
capital (deficit) and cash flows for the three years in the period ended
December 31, 1997. These financial statements are the responsibility of the
General Partner'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 an 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, the financial statements referred to above present fairly, in
all material respects, the financial position of Hanover Marriott Limited
Partnership as of December 31, 1997 and 1996, and the results of its operations
and its cash flows for each of the three years in the period ended December 31,
1997, in conformity with generally accepted accounting principles.
ARTHUR ANDERSEN LLP
Washington, D.C.
April 6, 1998
Hanover Supp-34
<PAGE>
Hanover Marriott Limited Partnership
Balance Sheets
December 31, 1997 and 1996
(in thousands)
<TABLE>
<CAPTION>
1997 1996
------------- --------------
<S> <C> <C>
ASSETS
Property and equipment, net......................................................$ 29,984 $ 29,850
Due from Marriott Hotel Services, Inc............................................ 204 254
Property improvement fund........................................................ 287 645
Deferred financing costs, net of accumulated amortization........................ 456 227
Cash and cash equivalents........................................................ 1,952 2,557
------------- --------------
$ 32,883 $ 33,533
============= ==============
LIABILITIES AND PARTNERS' CAPITAL (DEFICIT)
LIABILITIES
Mortgage debt....................................................................$ 29,760 $ 37,000
Due to Marriott International, Inc. for Additional Rental........................ -- 5,094
Subordinated loan from Host Marriott Corporation................................. 7,077 --
Notes payable and related interest due to the General Partner.................... 4,317 5,367
Deferred revenue................................................................. 169 287
Accounts payable and accrued expenses............................................ 80 62
------------- --------------
Total Liabilities............................................................ 41,403 47,810
------------- --------------
PARTNERS' DEFICIT
General Partner
Capital contribution, net of offering costs of $21............................. 421 421
Cumulative net loss............................................................ (773) (1,061)
------------- --------------
(352) (640)
------------- --------------
Limited Partners
Capital contributions, net of offering costs of $1,122......................... 7,147 7,147
Cumulative net loss............................................................ (14,693) (20,162)
Capital distributions.......................................................... (622) (622)
------------- --------------
(8,168) (13,637)
------------- --------------
Total Partners' Capital (Deficit)............................................ (8,520) (14,277)
------------- --------------
$ 32,883 $ 33,533
============= ==============
</TABLE>
See Notes to financial statements.
Hanover Supp-35
<PAGE>
Hanover Marriott Limited Partnership
Statements of Operations
For the Years Ended December 31, 1997, 1996 and 1995
(in thousands)
<TABLE>
<CAPTION>
1997 1996 1995
------ ------ ------
<S> <C> <C> <C>
REVENUES
Hotel rental.......................................................... $3,950 $5,177 $4,377
Hotel revenues ....................................................... 2,785 -- --
Other................................................................. 118 119 110
------ ------ ------
6,853 5,296 4,487
------ ------ ------
EXPENSES
Depreciation and amortization......................................... 1,239 1,215 1,178
Real estate taxes..................................................... 483 381 371
Partnership administration............................................ 269 76 186
Base management fee to Marriott International, Inc. (see Note 6)...... 252 -- --
Insurance and other................................................... 131 -- --
Incentive management fee to Marriott International, Inc. (see Note 6). 79 -- --
------ ------ ------
2,453 1,672 1,735
------ ------ ------
OPERATING PROFIT ........................................................ 4,400 3,624 2,752
Interest expense..................................................... (3,934) (2,811) (3,036)
Interest income...................................................... 197 127 65
------ ------ ------
NET INCOME (LOSS) BEFORE EXTRAORDINARY ITEM.............................. 663 940 (219)
EXTRAORDINARY ITEM
Gain on forgiveness of additional rental.............................. 5,094 -- --
------ ------ ------
NET INCOME (LOSS) ....................................................... $5,757 $ 940 $ (219)
====== ====== ======
ALLOCATION OF NET INCOME (LOSS)
General Partner....................................................... $ 288 $ 47 $ (11)
Limited Partners...................................................... 5,469 893 (208)
------ ----- -----
$5,757 $ 940 $ (219)
====== ====== ======
</TABLE>
See Notes to financial statements.
Hanover Supp-36
<PAGE>
Hanover Marriott Limited Partnership
Statements of Changes in Partners' Capital (Deficit)
For the Years Ended December 31, 1997, 1996 and 1995
(in thousands)
<TABLE>
<CAPTION>
General Limited
Partner Partners Total
--------- ----------- -----------
<S> <C> <C> <C>
Balance, December 31, 1994...............................................$ (676) $ (14,322) $ (14,998)
Net loss.............................................................. (11) (208) (219)
--------- ----------- -----------
Balance, December 31, 1995............................................... (687) (14,530) (15,217)
Net loss.............................................................. 47 893 940
--------- ----------- -----------
Balance, December 31, 1996............................................... (640) (13,637) (14,277)
Net income............................................................ 288 5,469 5,757
--------- ----------- -----------
Balance, December 31, 1997...............................................$ (352) $ (8,168) $ (8,520)
========= =========== ===========
</TABLE>
See Notes to financial statements.
Hanover Supp-37
<PAGE>
Hanover Marriott Limited Partnership
Statements of Cash Flows
For the Years Ended December 31, 1997, 1996 and 1995
(in thousands)
<TABLE>
<CAPTION>
1997 1996 1995
----------- ----------- -----------
<S> <C> <C> <C>
OPERATING ACTIVITIES
Net income (loss).....................................................$ 5,757 $ 940 $ (219)
Extraordinary item.................................................... (5,094) -- --
------- ------ ------
Net income (loss) before extraordinary item........................... 663 940 (219)
Noncash items:
Depreciation and amortization....................................... 1,239 1,215 1,178
Interest on notes payable due to General Partner.................... -- 329 346
Amortization of deferred financing costs as interest................ 272 75 35
Loss on disposition of property and equipment....................... 43 -- 98
Changes in operating accounts:
Due to Marriott International for Additional Rental................. -- -- 285
Due from (to) Marriott Hotel Services, Inc.......................... 50 (530) 434
Deferred revenue.................................................... (118) (119) 406
Accounts payable and accrued expenses............................... 18 8 (2)
----------- ----------- -----------
Cash provided by operating activities............................. 2,167 1,918 2,561
----------- ----------- -----------
INVESTING ACTIVITIES
Additions to property and equipment, net.............................. (1,427) (527) (1,046)
Change in property improvement fund................................... 369 (303) (195)
----------- ----------- -----------
Cash used in investing activities................................. (1,058) (830) (1,241)
----------- ----------- -----------
FINANCING ACTIVITIES
Repayment of mortgage debt............................................ (37,115) -- --
Proceeds from first mortgage loan..................................... 29,875 -- --
Proceeds from subordinated loan from Host Marriott
Corporation ....................................................... 10,000 -- --
Repayment of subordinated loan from Host Marriott
Corporation ....................................................... (2,923) -- --
Repayment of notes payable and related interest due
to General Partner.................................................. (1,050) -- --
Payment of financing costs........................................... (501) (272) --
----------- ----------- -----------
Cash used in financing activities................................. (1,714) (272) --
----------- ----------- -----------
(DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS......................... (605) 816 1,320
CASH AND CASH EQUIVALENTS at beginning of year........................... 2,557 1,741 421
----------- ----------- -----------
CASH AND CASH EQUIVALENTS at end of year.................................$ 1,952 $ 2,557 $ 1,741
=========== =========== ===========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid for mortgage and other interest.............................$ 4,727 $ 2,418 $ 2,666
=========== =========== ===========
</TABLE>
See Notes to financial statements.
Hanover Supp-38
<PAGE>
Hanover Marriott Limited Partnership
Notes to Financial Statements
December 31, 1997 and 1996
(Income Tax Basis)
NOTE 1. THE PARTNERSHIP
Description of the Partnership
Hanover Marriott Limited Partnership (the "Partnership") is a Delaware limited
partnership formed on October 8, 1986 to acquire and own the 353-room Hanover
Marriott Hotel and the land on which it is located (the "Hotel"). The sole
general partner of the Partnership, with a 5% interest, is Marriott Hanover
Hotel Corporation (the "General Partner"), a Delaware Corporation and a
wholly-owned subsidiary of Host Marriott Corporation ("Host Marriott"), formerly
Marriott Corporation. The Hotel, which opened on July 30, 1986, was leased by
the Partnership to Marriott Hotel Services, Inc. ("MHS"), a wholly-owned
subsidiary of Marriott International, Inc. ("Marriott International"), under a
long-term operating lease (the "Operating Lease"). Effective August 18, 1997,
the Operating Lease was converted to a long-term management agreement with MHS
(the "Management Agreement") (see Note 6).
On November 24, 1986 (the "Closing Date"), 84 limited partnership interests (the
"Units"), representing a 95% interest in the Partnership, were sold at $100,000
per Unit pursuant to a private placement. Each limited partner paid $15,560 at
subscription with the balance due in four annual installments through March 15,
1990, or, as an alternative, $87,600 in cash at closing as full payment of the
subscription price. The limited partners paid $2,063,460 in cash on the Closing
Date. Seventy-three and one-half Units were purchased on the installment basis.
The General Partner contributed $442,000 in cash for its 5% general partnership
interest.
On April 2, 1997, Hanover Hotel Acquisition Corporation (the "Purchaser"), a
wholly-owned subsidiary of Host Marriott, completed a tender offer for limited
partnership Units in the Partnership. The Purchaser acquired 40 units for an
aggregate consideration of $1.6 million or $40,000 per Unit. Combined with its
prior ownership position, Host Marriott now indirectly owns through affiliates,
over 50% of the Partnership. Additionally, in a Partnership vote held in
conjunction with the tender offer, the limited partners approved all of the
proposed amendments to the Amended and Restated Partnership Agreement that were
conditions to the tender offer. The most significant amendments (i) revised the
provisions limiting the voting rights of the General Partner and its affiliates
to permit the General Partner and its affiliates (including the Purchaser) to
have full voting rights with respect to all Units currently held by the General
Partner or acquired by its affiliates except on matters where the General
Partner or its affiliates have an actual economic interest other than as a
limited partner or General Partner (an "Interested Transaction"), (ii) modified
the voting provisions with respect to Interested Transactions to permit action
to be taken, if approved, by limited partners holding a majority of the
outstanding Units, with all Units held by the General Partner and its affiliates
being voted in the same manner as a majority of the Units actually voted by
limited partners other than the General Partner and its affiliates and (iii)
eliminated limited partner consent requirements relating to sale transactions
with third parties and vested the sole authority with respect to such
transactions to the General Partner. As a result of the approval of the proposed
amendments, the Amended and Restated Partnership Agreement was amended and
restated effective April 3, 1997 (the "Second Amended and Restated Partnership
Agreement").
Partnership Allocations and Distributions
Pursuant to the terms of the Second Amended and Restated Partnership Agreement,
Partnership allocations and distributions are generally made as follows:
a. The Partnership generally allocates cash available for distribution (after
a 10% priority return to the limited partners on their invested capital)
and net profits as follows: (i) 5% to the General Partner and 95% to the
limited partners until cumulative distributions of sale or refinancing
proceeds ("Capital Receipts") equal to 50% of the partners' capital
contributions have been distributed; (ii) next, 15% to the General
Hanover Supp-39
<PAGE>
Partner and 85% to the limited partners until cumulative distributions of
Capital Receipts equal to the full amount of the partners' capital
contributions have been distributed; and (iii) thereafter, 35% to the
General Partner and 65% to the limited partners.
b. Net losses were allocated 100% to the limited partners in 1986. Thereafter,
net losses are allocated 100% to the General Partner.
c. Capital Receipts (other than from the sale of substantially all of the
Partnership assets) not retained by the Partnership will be distributed (i)
first, 5% to the General Partner and 95% to the limited partners until the
partners have received cumulative distributions of Capital Receipts equal
to their capital contributions and (ii) thereafter, 35% to the General
Partner and 65% to the limited partners.
Upon the sale of substantially all of the Partnership assets, gains and sales
proceeds will be allocated and (to the extent available) distributed based on
specific provisions of the partnership agreement in order to first provide the
limited partners with an annual 12% cumulative return on their invested capital,
to the extent not previously distributed.
For financial reporting purposes, profits and losses are allocated based on the
Partner's stated ownership interest in the Partnership.
NOTE 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Use of 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.
Revenues and Expenses
Hotel revenues since August 18, 1997 (see Note 1) represent house profit of the
Partnership's Hotel since the Partnership has delegated substantially all of the
operating decisions related to the generation of house profit of the Hotel to
the Manager. House profit reflects Hotel operating results which flow to the
Partnership as property owner and represents Hotel sales less property-level
expenses, excluding depreciation and amortization, base and incentive management
fees, real estate taxes, insurance and certain other costs, which are disclosed
separately in the accompanying statement of operations.
On November 20, 1997, the Emerging Issues Task Force ("EITF") of the Financial
Accounting Standards Board reached a consensus on EITF 97-2, "Application of
FASB Statement No. 94 and APB Opinion No. 16 to Physician Practice Management
Entities and Certain Other Entities with Contractual Management Arrangements."
EITF 97-2 addresses the circumstances in which a management entity may include
the revenues and expenses of a managed entity in its financial statements.
The Partnership is assessing the impact of EITF 97-2 on its policy of excluding
the property-level revenues and operating expenses of the Hotel from its
statements of operations.
Property and Equipment
Property and equipment are recorded at cost. Depreciation is computed using the
straight-line method over the estimated useful lives of the assets as follows:
Building and improvements 40 years
Furniture and equipment 7 years
Hanover Supp-40
<PAGE>
All property and equipment is pledged as security for the mortgage debt
described in Note 5.
The Partnership assesses impairment of the Hotel based on whether estimated
undiscounted future cash flows from the Hotel will be less than its net book
value. If the Hotel is impaired, its basis is adjusted to fair market value.
Deferred Financing Costs
Prior to 1997, deferred financing costs of $520,000 were incurred in connection
with obtaining and extending the Mortgage Debt (see Note 5) which were fully
amortized and written-off when the refinancing of such debt occurred in 1997.
Amortization expense on these deferred financing costs for the years ended
December 31, 1997 and 1996 totaled $247,000 and $75,000, respectively. In
connection with the refinancing of the Mortgage Debt, the Partnership paid
$481,000 of refinancing costs in 1997 and is amortizing the costs over the
related terms of the debt (see Note 5). At December 31, 1997 and 1996,
accumulated amortization was $25,000 and $293,000, respectively.
Income Taxes
Provision for Federal and state income taxes has not been made in the
accompanying financial statements since the Partnership does not pay income
taxes but rather allocates its profits and losses to the individual partners.
Significant differences exist between the net income for financial reporting
purposes and the net income as reported on the Partnership's tax return. These
differences are due primarily to the use, for income tax purposes, of
accelerated depreciation methods, shorter depreciable lives of the assets, and
different treatments of additional rental. As a result of these differences, the
excess of the net Partnership liabilities reported in the accompanying
consolidated financial statements over the tax basis in the net Partnership
liabilities was $18,557,000 and $18,314,000, respectively as of December 31,
1997 and 1996.
Cash and Cash Equivalents
The Partnership considers all highly liquid investments with a maturity of three
months or less at date of purchase to be cash equivalents.
Hanover Supp-41
<PAGE>
NOTE 3. REVENUES
The following is a summary of Hotel Operating Profit, as defined in the
Operating Lease, for the period January 1, 1997 to August 17, 1997 and the year
ended December 31, 1996 (in thousands):
<TABLE>
<CAPTION>
1997 1996
---------- ----------
<S> <C> <C>
REVENUES
Rooms................................................................. $ 8,031 $ 11,710
Food and beverage..................................................... 5,541 8,246
Other................................................................. 464 767
---------- ----------
14,036 20,723
---------- ----------
DEPARTMENT DIRECT COSTS
Rooms................................................................. 1,775 2,631
Food and beverage..................................................... 3,733 5,964
Other................................................................. 259 459
---------- ----------
5,767 9,054
---------- ----------
OTHER EXPENSES............................................................ 4,480 6,678
---------- ----------
HOTEL OPERATING PROFIT.................................................... $ 3,789 $ 4,991
========== ==========
</TABLE>
Hotel revenues under the Management Agreement effective August 18, 1997 consist
of Hotel operating results for the period August 18, 1997 to December 31, 1997
(in thousands):
<TABLE>
<S> <C>
HOTEL SALES
Rooms................................................................................ $ 4,796
Food and beverage.................................................................... 3,392
Other................................................................................ 226
----------
8,414
----------
HOTEL EXPENSES
Departmental direct costs
Rooms............................................................................ 1,130
Food and beverage................................................................ 2,534
Other hotel operating expenses....................................................... 1,965
----------
5,629
----------
HOTEL REVENUES........................................................................... $ 2,785
==========
</TABLE>
NOTE 4. PROPERTY AND EQUIPMENT
Property and equipment consists of the following as of December 31 (in
thousands):
<TABLE>
<CAPTION>
1997 1996
----------- ----------
<S> <C> <C>
Land and improvements....................... $ 3,219 $ 3,203
Building and improvements................... 32,386 32,433
Furniture and equipment..................... 10,770 9,879
----------- ----------
46,375 45,515
Accumulated depreciation.................... (16,391) (15,665)
----------- ----------
$ 29,984 $ 29,850
=========== ==========
</TABLE>
Hanover Supp-42
<PAGE>
NOTE 5. DEBT
The Partnership originally entered into a loan agreement on November 24, 1986
(the "Original Loan") with a bank that provided $36.5 million to finance the
acquisition of the Hotel. On October 26, 1989, the Partnership refinanced the
Original Loan with a $37 million nonrecourse first mortgage loan (the "Mortgage
Debt") which matured on October 16, 1996. The Mortgage Debt bore interest at a
floating rate from October 27, 1994, through October 28, 1996 equal to 70 basis
points over either (i) the London Interbank Offer Rate ("LIBOR") or (ii) an
adjusted certificate of deposit rate. On October 28, 1996, the Partnership's $37
million Mortgage Debt matured without replacement financing in place. However,
the Partnership secured an extension of the Mortgage Debt until October 24, 1997
provided that the Partnership would make a $10 million principal paydown on the
Mortgage Debt by April 30, 1997. During the extension period the debt bore
interest at LIBOR plus 2.0 percentage points and required quarterly principal
amortization equal to all excess cash flow as defined in the extension
agreement.
On April 30, 1997, in connection with the tender offer for limited partnership
units (see Note 1), Host Marriott funded a fully-amortizing $10 million
subordinated loan to the Partnership (the "Subordinated Loan") that bears
interest at a fixed rate of 14.5% over a 15-year term with required monthly
payments. The Partnership used the proceeds of the Subordinated Loan to make the
required principal payment under the mortgage loan extension agreement. If cash
flow is insufficient to service the Subordinated Loan, the unpaid portion will
be added to principal and interest will accrue.
On August 18, 1997, the Partnership refinanced its Mortgage Debt with a then
outstanding balance of $25.9 million with new mortgage debt ("New Mortgage
Debt") of $29.9 million. The New Mortgage Debt bears interest at a fixed rate of
8.58% over its seven year term with required principal amortization based on a
25-year schedule. Pursuant to the Subordinated Loan, any proceeds from the New
Mortgage Debt in excess of $27 million were to be used to repay the Subordinated
Loan. Therefore, on August 18, 1997, $2.9 million was repaid on the Subordinated
Loan. Pursuant to the limited partnership agreement, the remaining proceeds and
cash held at the Partnership for refinancing were used to pay refinancing costs
(see Note 2) and to repay debt service guarantee advances made by the General
Partner in prior years. For 1997 and 1996, the weighted-average interest rate on
the Partnership's mortgage debt was 7.9% and 6.4%, respectively.
The New Mortgage Debt is secured by the Hotel and substantially all other assets
of the Partnership, including furniture and equipment and the Partnership's
rights under the assignment of the rents and leases. Host Marriott and the
General Partner also provided additional security on the Original Loan and the
Mortgage Debt in the form of debt service guarantees in the aggregate amount of
$7,200,000 (the "Guarantees"). On October 27, 1994 Host Marriott and the General
Partner were released from their obligations to advance funds. As of December
31, 1997 and 1996, $3,400,000 remains outstanding under the Guarantees. All
advances made under the Guarantees accrue interest at one percent over the prime
rate as announced by Bankers Trust Company. Pursuant to the limited partnership
agreement, $1,382,000 of accrued interest was paid on the Guarantees from loan
refinancing proceeds. Accrued interest payable on the Guarantees as of December
31, 1997 and 1996, totaled $714,000 and $1,775,000, respectively. The
weighted-average interest rate on these advances was 9.3% for 1997 and 1996.
Prior to 1996, the General Partner advanced $127,000 to the Partnership as a
working capital advance which accrues interest at one percent over the prime
rate as announced by Bankers Trust Company. As of December 31, 1997 and 1996,
$203,000 and $192,000, including accrued interest, was outstanding on the
working capital advance, respectively, and is included in notes payable and
related interest due to the General Partner in the accompanying financial
statements.
In addition, the General Partner has provided a foreclosure guarantee to the
lender of the New Mortgagee Debt in the amount of $10 million. Pursuant to the
terms of the foreclosure guarantee, amounts would be payable only upon a
foreclosure of the Hotel and only to the extent that the gross proceeds from a
foreclosure sale are less than $10 million.
Hanover Supp-43
<PAGE>
NOTE 6. OPERATING LEASE AGREEMENT/MANAGEMENT AGREEMENT
The Partnership, through an assignment of a lease from Host Marriott on November
24, 1986, acquired all rights to a 25-year operating lease with five 10-year
renewal options to lease the Hotel to MHS. Effective August 18, 1997, this
agreement was converted to a long-term management agreement with MHS.
Operating Lease Agreement
Annual Rental during the term of the Operating Lease was equal to the greater
of:
(i) Minimum Rental of $100,000; or
(ii) Basic Rental equal to 80% of Operating Profit, as defined, reduced to 75%
of Operating Profit after the Partnership has received $4,421,000 of
cumulative Capital Receipts; or
(iii) Adjusted Rental equal to debt service on the mortgage debt plus
Partnership administration costs (collectively referred to as "Debt
Service") plus the greater of: (a) a preferred return equal to $840,000
or (b) 50% of the amount by which Operating Profit exceeds Debt Service.
In no event will Adjusted Rental exceed Operating Profit.
The amount by which Adjusted Rental exceeded Basic Rental in any fiscal year was
defined as Additional Rentals. Cumulative Additional Rentals were recoverable by
MHS in any fiscal year when Basic Rental exceeded Adjusted Rentals, provided no
loans from the General Partner or Host Marriott were then outstanding. Annual
Rental was reduced by 50% of such excess to the extent cumulative Additional
Rentals existed.
For financial reporting purposes, Additional Rental was not recognized as
revenue but was deferred and recorded as a liability on the balance sheet. As a
result of the conversion of the Operating Lease to a management agreement, the
Manager forgave all Additional Rental. The Partnership recorded an extraordinary
gain of $5.1 million related to this forgiveness.
For 1997 and 1996, Basic Rental of $3,031,000 and $3,993,000, respectively was
remitted to the Partnership by MHS. In accordance with the Operating Lease, MHS
was entitled to $758,000 and $998,000 of Operating Profit for the period from
January 1, 1997 to August 17, 1997 and the year ended December 31, 1996,
respectively. Prior to its forgiveness in 1997 (see below) this amount was
recorded as a liability on the Partnership financial statements. In addition to
the Annual Rental, MHS was required to pay real estate taxes and make annual
contributions equal to 4% of sales net of interest to the property improvement
fund on behalf of the Partnership. In accordance with the Operating Lease,
annual contributions to the property improvement fund increased to 5% of sales
net of interest at the beginning of 1997.
Management Agreement
Effective August 18, 1997, in conjunction with the refinancing of the
Partnership's Mortgage Debt (see Note 5), the Operating Lease was converted to a
long-term management agreement with MHS. The Management Agreement has an initial
term expiring on December 31, 2011. Thereafter, the term is renewed
automatically for each of five successive 10-year periods. Pursuant to the terms
of the Management Agreement, the Manager receives a base management fee equal to
3% of gross revenues. The Partnership is entitled to the first $4,650,000 of
operating profit generated by the Hotel each fiscal year ("Owner's Priority").
Owner's Priority is increased by 10% of any Additional Invested Capital, as
defined in the Management Agreement. In addition to a base management fee, the
Manager will be paid an incentive management fee of the next $400,000 from
operating profit, as defined. Any cash remaining after the payment of the
Owner's Priority and the incentive management fee will be allocated 75% to the
Partnership and 25% to the Manager. The Partnership may terminate the Management
Agreement if in any two of three consecutive fiscal years there is an operating
loss. The Manager may, however, prevent termination by paying to the Partnership
such amounts equal to the operating losses during such two fiscal years.
Hanover Supp-44
<PAGE>
Pursuant to the terms of the Management Agreement, MHS is required to furnish
the Hotel with certain services ("Chain Services") which are generally provided
on a central or regional basis to all hotels in Marriott International's full
service hotel system. Chain Services include central training, advertising and
promotion, a national reservation system and such additional services, as
needed, which may be more efficiently performed on a centralized basis. Costs
and expenses incurred in providing such services are allocated among all
domestic full service hotels managed, owned or leased by Marriott International
or its subsidiaries. In addition, MHS is required to furnish the Hotel with
certain other services ("Central Office Services") such as executive
supervision, planning and policy making, corporate finance, in-house legal
services, research and development, and technical and operational expertise. The
Hotel also participates in Marriott International's Marriott's Reward Program
("MRP"). The cost of this program is charged to all hotels in Marriott
International's full service hotel system based upon the MRP sales at each
hotel. The total amount of Chain and Central Office Services and MRP costs
charged to the Partnership under the Management Agreement was $186,000 for the
period August 18, 1997 to December 31, 1997.
Additionally, in conjunction with the conversion from an operating lease to a
management agreement, Marriott International agreed to waive all laws to
Additional Rental that had accrued prior to the conversion. This forgiveness of
deferred fees of $5.1 million was recorded as an extraordinary gain in the
accompanying financial statements.
The Management Agreement provides for the establishment of a property
improvement fund for the Hotel which provides for the replacement of furniture,
fixtures and equipment. Pursuant to the Management Agreement, contributions to
the property improvement fund are based on a percentage of gross hotel sales
equal to 5%, net of interest income, however, MHS has the right to increase or
decrease this percentage. Contributions to the property improvement fund for
1997 were $1.1 million.
Under the Management Agreement, the Manager received base and incentive
management fees of $252,000 and $79,000, respectively, for the period August 18,
1997 through December 31, 1997.
NOTE 7. OTHER OPERATING LEASE
On January 28, 1995, the Partnership entered into an agreement with Marriott
Vacation Club International (MVCI), formerly known as Marriott Ownership
Resorts, Inc., a wholly-owned subsidiary of Marriott International. Under the
terms of the five year lease with MVCI expiring in January 2000, MVCI funded the
renovation of a portion of the Hotel's lounge into a junior ballroom (for use by
the Hotel) and a MVCI sales office. The total cost of the renovations was
$516,000. The lease with MVCI stipulates that $200,000 of those costs will be
treated as rent concessions. The Partnership will begin receiving rental
payments of $18,123 in 1998, $55,600 in 1999 and $4,277 in 2000. In the event
MVCI chooses to exercise its right to terminate the lease agreement prior to the
end of the five year term, any prepayment of rent by MVCI is non-refundable.
Hanover Supp-45
<PAGE>
NOTE 8. ESTIMATED FAIR VALUE OF FINANCIAL INSTRUMENTS
The estimated fair values of financial instruments are shown below. The
estimated fair values of financial instruments not included in this table are
estimated to be equal to their carrying amounts (in thousands):
<TABLE>
<CAPTION>
As of December 31, 1997 As of December 31, 1996
------------------------- --------------------------
Estimated Estimated
Carrying Fair Carrying Fair
Amount Value Amount Value
-------- --------- -------- ---------
<S> <C> <C> <C> <C>
Mortgage debt $ 29,760 $ 29,760 $ 37,000 $ 37,000
Subordinated loan 7,077 7,077 -- --
Notes payable and related interest
due to General Partner 4,317 4,170 5,367 3,539
Additional Rental -- -- 6,099 2,031
</TABLE>
The estimated fair value of the Mortgage Debt is based on the expected future
debt service payments discounted at estimated market rates. Additional rental
paid by the Hotel lessee was valued based on the expected future payments from
operating cash flow discounted at a risk-adjusted rate. As further explained in
Note 6, upon the closing of the debt refinancing on August 18, 1997, MHS agreed
to waive all claims to Additional Rental that had accrued prior to the
conversion to a management agreement. Consequently, the estimated fair value of
Additional Rental paid by the Hotel lessee is zero.
Hanover Supp-46
<PAGE>
Hanover Marriott Limited Partnership
Condensed Statements of Operations
(Unaudited)
(in thousands except per Unit amounts)
<TABLE>
<CAPTION>
Twelve Weeks Ended
March 27, March 28,
1998 1997
-------------- --------------
<S> <C> <C>
REVENUES
Hotel rental........................................................................ $ -- $ 1,432
Hotel revenues...................................................................... 1,285 --
Other............................................................................... 27 27
-------------- --------------
1,312 1,459
-------------- --------------
OPERATING COSTS AND EXPENSES
Depreciation and amortization....................................................... 286 280
Base management fees................................................................ 130 --
Real estate taxes................................................................... 118 91
Partnership administration.......................................................... 39 --
Insurance and other................................................................. 28 --
-------------- --------------
601 371
-------------- --------------
OPERATING PROFIT...................................................................... 711 1,088
Interest expense.................................................................... (950) (818)
Interest income..................................................................... 11 33
-------------- --------------
NET (LOSS) INCOME..................................................................... $ (228) $ 303
============== ==============
ALLOCATION OF NET INCOME
General Partner..................................................................... $ (11) $ 15
Limited Partners.................................................................... (217) 288
-------------- --------------
$ (228) $ 303
============== ==============
NET (LOSS) INCOME PER LIMITED PARTNER UNIT (84 Units)................................. $ (2,583) $ 3,429
============== ==============
</TABLE>
See Notes to Condensed Financial Statements.
Hanover Supp-47
<PAGE>
Hanover Marriott Limited Partnership
Condensed Balanced Sheets
(in thousands)
<TABLE>
<CAPTION>
March 27, December 31,
1998 1997
-------------- ---------------
(Unaudited)
<S> <C> <C>
ASSETS
Property and equipment, net.......................................................... $ 31,344 $ 29,984
Due from Marriott International, Inc. ............................................... 365 204
Other assets......................................................................... 440 456
Restricted cash...................................................................... 404 287
Cash and cash equivalents............................................................ 369 1,952
-------------- ---------------
$ 32,922 $ 32,883
============== ===============
LIABILITIES AND PARTNERS' DEFICIT
LIABILITIES
Mortgage debt....................................................................... $ 29,701 $ 29,760
Subordinated loan from Host Marriott Corporation.................................... 7,053 7,077
Notes payable and related interest due to the General Partner....................... 4,396 169
Deferred revenue.................................................................... 142 4,317
Accounts payable and accrued expenses............................................... 378 80
-------------- ---------------
Total Liabilities................................................................. 41,670 41,403
-------------- ---------------
PARTNERS' DEFICIT
General Partner..................................................................... (363) (352)
Limited Partners.................................................................... (8,385) (8,168)
-------------- ---------------
Total Partners' Deficit........................................................... (8,748) (8,520)
-------------- ---------------
$ 32,922 $ 32,883
============== ===============
</TABLE>
See Notes to Condensed Financial Statements.
Hanover Supp-48
<PAGE>
Hanover Marriott Limited Partnership
Condensed Statements of Cash Flows
(Unaudited)
(in thousands)
<TABLE>
<CAPTION>
Twelve Weeks Ended
March 27, March 28,
1998 1997
-------------- ---------------
<S> <C> <C>
OPERATING ACTIVITIES
Net (loss) income.................................................................. $ (228) $ 303
Noncash items...................................................................... 354 398
Changes in operating accounts...................................................... 137 (140)
-------------- ---------------
Cash provided by operating activities............................................ 263 561
-------------- --------------
INVESTING ACTIVITIES
Additions to property and equipment, net........................................... (1,646) (37)
Change in property improvement funds............................................... (117) (222)
-------------- --------------
Cash used in investing activities................................................ (1,763) (259)
-------------- --------------
FINANCING ACTIVITIES
Principal repayments on debt....................................................... (83) (114)
-------------- --------------
(DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS..................................... (1,583) 188
CASH AND CASH EQUIVALENTS at beginning of period...................................... 1,952 2,557
-------------- --------------
CASH AND CASH EQUIVALENTS at end of period............................................ $ 369 $ 2,745
============== ==============
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid for mortgage and other interest.......................................... $ 596 $ 672
============== ==============
</TABLE>
See Notes to Condensed Financial Statements.
Hanover Supp-49
<PAGE>
Hanover Marriott Limited Partnership
Notes to Condensed Financial Statements
(Unaudited)
1. The accompanying condensed financial statements have been prepared by
Hanover Marriott Limited Partnership (the "Partnership") without audit.
Certain information and footnote disclosures normally included in financial
statements presented in accordance with generally accepted accounting
principles have been condensed or omitted from the accompanying statements.
The Partnership believes the disclosures made are adequate to make the
information presented not misleading. However, the condensed financial
statements should be read in conjunction with the Partnership's financial
statements and notes thereto for the fiscal year ended December 31, 1997.
In the opinion of the Partnership's management, the accompanying unaudited
condensed consolidated financial statements reflect all adjustment (which
include only normal recurring adjustments) necessary to present fairly the
financial position of the Partnership as of March 27, 1998 and December 31,
1997, and the results of operations for the twelve weeks ended March 27,
1998 and March 28, 1997. Interim results are not necessarily indicative of
fiscal year performance because of seasonal and short-term variations.
For financial reporting purposes, net income of the Partnership is
allocated 95% to the Limited Partners and 5% to Marriott Hanover Hotel
Corporation (the "General Partner"). Significant differences exist between
the net income for financial reporting purposes and the net income for
Federal income tax purposes. These differences are due primarily to the
use, for income tax purposes, of accelerated depreciation methods, shorter
depreciable lives, no estimated salvage values for the assets and
differences in the timing of the recognition of rental income.
2. On August 18, 1997, the Partnership completed a refinancing of its Mortgage
Debt. In connection with the refinancing, the Partnership converted the
Operating Lease with MHS to the Management Agreement (the Conversion).
Prior to the Conversion, the Partnership recorded revenue based on the
rental income to be received from MHS.
Annual rental during the term of the Operating Lease was equal to the
greater of: (i) Minimum Rental of $100,000; or (ii) Basic Rental equal to
80% of Operating Profit, as defined, reduced to 75% of Operating Profit
after the Partnership received $4,421,000 of cumulative Capital Receipts,
as defined; or (iii) Adjusted Rental equal to debt service on the mortgage
debt plus Partnership administration costs (collectively referred to as
"Debt Service") plus the greater of: (a) a preferred return equal to
$840,000 or (b) 50% of the amount by which Operating Profit exceeded Debt
Service. In no event was Adjusted Rental to exceed Operating Profit.
The amount by which Adjusted Rental exceeded Basic Rental in any fiscal
year was defined as Additional Rentals. Cumulative Additional Rentals were
recoverable by MHS in any fiscal year when Basic Rental exceeded Adjusted
Rentals, provided no loans from the General Partner or Host Marriott were
then outstanding. Annual Rental was reduced by 50% of such excess to the
extent cumulative Additional Rentals existed. In addition to the Annual
Rental, MHS was required to pay real estate taxes.
Subsequent to the Conversion, the Partnership records revenue based on
house profit generated by the Hotel. House profit reflects Hotel operating
results, and represents gross hotel sales less property-level expenses,
excluding depreciation and amortization, base and incentive management
fees, real estate taxes, insurance and certain other costs, which are
disclosed separately in the statement of operations. Revenues are recorded
based on house profit of the Hotel because the Partnership has delegated
substantially all of the operating decisions related to the generation of
house profit from the Hotel to MHS.
Hanover Supp-50
<PAGE>
The following is a summary of Hotel revenues, as defined in the Management
Agreement, for the twelve weeks ended March 27, 1998 and March 28, 1997 (in
thousands):
<TABLE>
<CAPTION>
1998 1997
------------ ------------
<S> <C> <C>
HOTEL SALES
Rooms................................................................ $ 2,801 $ 2,999
Food and beverage.................................................... 1,398 2,000
Other................................................................ 139 175
------------ ------------
4,338 5,174
------------ ------------
HOTEL EXPENSES
Departmental direct costs
Rooms.............................................................. 654 633
Food and beverage.................................................. 1,204 1,379
Other hotel operating expenses....................................... 1,195 1,268
------------ ------------
3,053 3,280
------------ ------------
HOTEL REVENUES.......................................................... $ 1,285 $ 1,894
============ ============
</TABLE>
3. On April 17, 1998, Host Marriott Corporation ("Host Marriott"), the General
Partner of the Partnership, announced that its Board of Directors has
authorized the company to reorganize its business operations to qualify as
a real estate investment trust ("REIT") to become effective as of January
1, 1999. As part of the REIT conversion, Host Marriott expects to form a
new operating partnership (the "Operating Partnership") and limited
partners in certain Host Marriott full-service hotel partnerships and joint
ventures, including the Partnership, are expected to be given an
opportunity to receive, on a tax-deferred basis, Operating Partnership
units in the new Operating Partnership in exchange for their current
partnership interest.
Hanover Supp-51
<PAGE>
HOST MARRIOTT, L.P.
Supplement Dated __________ __, 1998 for
Prospectus/Consent Solicitation Statement Dated _________ __, 1998 for
Marriott Diversified American Hotels, L.P.
On the terms described in the Prospectus/Consent Solicitation Statement
(the "Consent Solicitation"), dated ______ __, 1998, of which this Supplement
(the "Supplement") is a part, Host Marriott Corporation, a Delaware corporation
("Host"), has adopted a plan to reorganize its business operations so that it
will qualify as a real estate investment trust ("REIT"). As part of this
reorganization (the "REIT Conversion"), Host and its consolidated subsidiaries
will contribute their full-service hotel properties and certain other businesses
and assets to Host Marriott, L.P., a newly formed Delaware limited partnership
(the "Operating Partnership"), in exchange for units of limited partnership
interest in the Operating Partnership ("OP Units") and the assumption of certain
liabilities. The sole general partner of the Operating Partnership will be Host
Marriott Trust, the entity resulting from the conversion of Host from a Delaware
corporation to a Maryland REIT ("Host REIT"). The Operating Partnership and Host
REIT will operate together as an umbrella partnership REIT. Host REIT expects to
qualify as a REIT beginning with its first full taxable year after the closing
of the REIT Conversion, which Host REIT currently expects to be the year
beginning January 1, 1999.
Following the REIT Conversion and the Blackstone Acquisition (defined
below), the Operating Partnership and its subsidiaries initially will own
outright, or have controlling interests in, approximately 120 full-service
hotels operating primarily under the Marriott, Ritz-Carlton, Four Seasons,
Swissotel and Hyatt brand names (the "Hotels"). Concurrently with the REIT
Conversion, the Operating Partnership will acquire ownership of, or controlling
interests in, 12 hotels and a mortgage loan secured by a thirteenth hotel
controlled by The Blackstone Group and a series of funds controlled by
Blackstone Real Estate Partners (collectively, the "Blackstone Entities") in
exchange for OP Units, the assumption of liabilities and other consideration
(the "Blackstone Acquisition"). The Operating Partnership will be one of the
largest owners of full-service hotels in the United States.
As part of the REIT Conversion, the Operating Partnership is proposing
to acquire by merger (the "Mergers") Marriott Diversified American Hotels, L.P.,
a Delaware limited partnership ("MDAH" or the "Partnership"), and up to seven
other limited partnerships (the "Partnerships") that own full-service hotels in
which Host or its subsidiaries are general partners. As more fully described in
the Consent Solicitation, limited partners of those Partnerships who participate
in the Mergers will receive either OP Units or, at their election, unsecured
___% Notes due December 15, 2005 issued by the Operating Partnership ("Notes"),
in exchange for their partnership interests in such Partnerships (with respect
to the Partnerships, those limited partners of the Partnerships who are
unaffiliated with Host are referred to herein as the "Limited Partners, and with
respect to MDAH, the "MDAH Limited Partners").
The number of OP Units to be allocated to MDAH will be based upon (i)
MDAH's Exchange Value (as defined herein) and (ii) the deemed value of an OP
Unit at the time of the Merger, determined as described herein. See
"Determination of Exchange Values and Allocation of OP Units." The principal
amount of Notes that MDAH Limited Partners may elect to receive in exchange for
the OP Units received in the Merger will be based upon MDAH's Note Election
Amount (as defined herein). See "Description of the Notes." The estimated
Exchange Value set forth herein may increase or decrease as a result of various
adjustments, and will be finally calculated shortly before the Closing Date.
Pursuant to the Merger, MDAH Limited Partners will receive OP Units with a
deemed value of $109,216 per Partnership Unit (as defined herein) or, if an MDAH
Limited Partner elects, a Note in a principal amount of $98,343 per Partnership
Unit.
In connection with the REIT Conversion, each outstanding share of Host
common stock will be converted into one common share of beneficial interest, par
value $.01 per share (a "Common Share"), of Host REIT. Following the closing of
the REIT Conversion, the Common Shares will be listed on the New York Stock
Exchange. Beginning one year after the Mergers, Limited Partners will have the
right to redeem their OP Units at any time and receive, at the election of Host
REIT, either Common Shares on a one-for-one basis (subject to adjustment) or
cash in an amount equal to the market value of such shares (the "Unit Redemption
Right").
Because REITs are not permitted under current federal income tax law to
derive revenues directly from the operation of hotels, the Operating Partnership
will lease the Hotels to lessees (the "Lessees") that will operate the Hotels
under the existing management agreements and pay rent to the Operating
Partnership, as more fully described herein. The Lessees generally will be
indirect controlled subsidiaries of HMC Senior Communities, Inc., which
currently is a wholly owned subsidiary of Host ("SLC"), but which will become a
separate public company as part of the REIT Conversion when Host distributes the
common stock of SLC to its existing shareholders and the Blackstone Entities.
Shares of Host REIT and SLC will become separately traded securities and the
companies will operate independently. Initially, there may be a partial overlap
between the boards of Host REIT and SLC but this will be phased out over time.
MDAH Supp - 1
<PAGE>
There also will be a substantial overlap of shareholders of the two companies
initially, but this likely will diverge over time.
MDAH One Corporation (the "General Partner"), the general partner of
MDAH, believes that the terms of the Merger provide substantial benefits and are
fair to the MDAH Limited Partners and recommends that all MDAH Limited Partners
vote FOR the Merger.
The effects of the Mergers may be different for Limited Partners of the
various Partnerships. This Supplement has been prepared to highlight for MDAH
Limited Partners the specific risks, benefits, effects and fairness of the
Merger to them and to provide other information specific to MDAH. Supplements
have also been prepared for each of the other Partnerships. This Supplement,
together with the supplements of the other Partnerships (collectively, the
"Supplements"), are part of the Consent Solicitation. Upon receipt of a written
request by a Limited Partner or his representative so designated in writing, the
General Partner will send a copy of any Supplement without charge. All requests
for a copy of a Supplement should be directed to: Investor Relations, 10400
Fernwood Road, Bethesda, Maryland 20817, telephone number 301-380-2070 (between
the hours of 9:00 a.m. and 4:00 p.m., eastern time).
All cross-references refer to the Consent Solicitation unless stated
otherwise. Capitalized terms not defined herein shall have the meaning set forth
in the Consent Solicitation. The information contained herein, unless otherwise
indicated, assumes the REIT Conversion occurs with all Partnerships
participating and no Notes being issued (the "Full Participation Scenario").
Risk Factors
In deciding whether to approve the Merger, MDAH Limited Partners should
consider certain risks and other factors. The General Partner believes that MDAH
Limited Partners should particularly consider the following, which should be
read in conjunction with the information in the Consent Solicitation under "Risk
Factors" and "Federal Income Tax Considerations:"
. Substantial Benefits to Related Parties. The Mergers will
facilitate consummation and enable Host to reap the full benefits
of the REIT Conversion and will result in an increase in Host
REIT's Funds From Operations per Common Share on a pro forma
basis. By converting to a REIT, Host expects to benefit from the
advantages enjoyed by REITs in raising capital and acquiring
additional assets, participating in a larger group of comparable
companies and increasing its potential base of shareholders. Also,
Host will realize significant savings through the substantial
reduction of its future corporate-level income taxes. To the
extent that such anticipated benefits initially are reflected in
the value of Host's common stock before the Closing Date, they
will not be shared initially with the Limited Partners. Host might
be required to transfer its interests in certain Partnerships that
do not participate in a Merger, if any, to a Non-Controlled
Subsidiary, in which case Host's share of such Partnerships'
earnings would continue to be subject to corporate-level income
tax.
. Absence of Arm's Length Negotiations. No independent
representative was retained to negotiate on behalf of the MDAH
Limited Partners or the other Limited Partners. Although the
General Partner has obtained the Appraisals and the Fairness
Opinion from AAA, AAA has not negotiated with the General Partner
or Host and has not participated in establishing the terms of the
Mergers. Consequently, the terms and conditions of the Mergers may
have been more favorable to the MDAH Limited Partners or the other
Limited Partners if such terms and conditions were the result of
arm's length negotiations.
MDAH Supp - 2
<PAGE>
. Other Conflicts of Interest. The Mergers, the REIT Conversion and
the recommendations of the General Partner involves the following
conflicts of interest because of the relationships among Host, the
Operating Partnership, the General Partner and SLC: (i) the
General Partners, which are all subsidiaries of Host (except for
PHLP, of which Host is the General Partner), must assess whether
the terms of the Mergers are fair and equitable to the Limited
Partners of its Partnership without regard to whether the Mergers
and the REIT Conversion may benefit Host, (ii) the terms of the
Leases of the Hotels, including the Participating Partnerships'
Hotels, will be determined by Host, which will distribute the
common stock of SLC, the parent of the Lessees, to its
shareholders after such terms have been set, and (iii) the terms
of the Partnership Agreement, including provisions which benefit
Host REIT, have been determined by Host. Such conflicts may result
in decisions that do not fully reflect the interests of all
Limited Partners, including the MDAH Limited Partners.
. Valuation of SLC. The value of the SLC common stock distributed
to Host's shareholders and the Blackstone Entities will be one
factor used in determining the value of an OP Unit. Although
Host's Board of Directors will determine the value of the SLC
common stock in good faith in reliance in part upon the opinion of
an independent financial advisor, conflicts of interest still
exist. If the SLC common stock distributed to Host's shareholders
is undervalued by Host's Board of Directors, the deemed value of
an OP Unit for purposes of the Mergers may be higher than the
level at which the Host REIT Common Shares will trade following
the REIT Conversion and the MDAH Limited Partners could receive
less than the full Exchange Value of their Partnership Interests
and Host REIT could receive an overall higher percentage of the
ownership of the Operating Partnership.
. Determination of Exchange Value. The deemed value of OP Units
that each MDAH Limited Partner will receive (if such MDAH Limited
Partner elects to retain OP Units rather than receive a Note) will
equal the Exchange Value of such MDAH Limited Partner's
Partnership Interest. The Exchange Value of MDAH will be its
Adjusted Appraised Value, which is the greatest of its Adjusted
Appraised Value, Continuation Value and Liquidation Value, each of
which is determined according to a different method of valuation
and involves numerous estimates and assumptions. There is no
assurance that the Exchange Value of MDAH will equal the fair
market value of the Hotels and other assets contributed by MDAH.
Host REIT, on the other hand, will receive a number of OP Units
equal to the number of shares of Host common stock outstanding on
the Closing Date (and, if Host has outstanding shares of preferred
stock at the time of the REIT Conversion, a corresponding number
of preferred partnership interests in the Operating Partnership),
which should fairly represent the market value of Host REIT but
may not be equal to the fair market or net asset value of the
Hotels and other assets that Host will contribute to the Operating
Partnership. See "Determination of Exchange Values and Allocation
of OP Units."
. Valuation of OP Units. The value of an OP Unit, for purposes of
the Mergers and the REIT Conversion, will be deemed to be equal to
the value of a share of Host common stock immediately prior to the
REIT Conversion minus the amount of cash and the estimated value
of the SLC common stock or other property to be distributed with
respect to each share of Host common stock in connection with the
REIT Conversion. There is no assurance that, following the REIT
Conversion, the value of the publicly traded Common Shares (and
therefore the value of the OP Units) will in fact equal or exceed
the deemed value of the OP Units used for purposes of the Mergers.
These factors could result in the MDAH Limited Partners receiving
OP Units with an actual value that is less than either the deemed
value of the OP Units for purposes of the Mergers or the fair
market value of their Partnership Interests.
. Determination of the Value of the Notes. At the same time that he
votes on the Merger, each MDAH Limited Partner also may elect to
receive at the time of the Merger, in exchange for OP Units, an
unsecured, seven-year Note with a principal amount equal to the
Note Election Amount of his Partnership Interest, which is based
upon numerous assumptions and estimates. The deemed value of the
OP Units to be received by the MDAH Limited Partners will exceed
the principal amount of the corresponding Notes (because the
Exchange Value is higher than the Note Election Amount), and there
is no assurance that the Note an MDAH Limited Partner receives
will have a value equal to the fair market value of the MDAH
Limited Partner's share of the Hotels and other assets owned by
MDAH. There will be no public market for the Notes. If the Notes
are sold, they
MDAH Supp - 3
<PAGE>
may sell at prices substantially below their issuance price.
Noteholders are likely to receive the full principal amount of a
Note only if they hold the Note to maturity, which is December 15,
2005, or if the Operating Partnership repays the Notes prior to
maturity. Because the Notes are unsecured obligations of the
Operating Partnership, they will be effectively subordinated to
all secured debt of the Operating Partnership and all obligations
of both the Participating Partnerships and the Operating
Partnership's other subsidiaries. See "Description of the Notes."
As of March 27, 1998, on a pro forma basis assuming the Full
Participation Scenario, the Operating Partnership would have had
aggregate consolidated debt of approximately $4.6 billion to which
the Notes were effectively subordinated or which ranked equally
with such Notes.
. Fundamental Change in Nature of Investment; Potential
Underperformance. The Mergers and the REIT Conversion involve a
fundamental change in the nature of an MDAH Limited Partner's
investment from holding an interest in MDAH, which has a fixed
portfolio of six Hotels and distributes the cash flow from the
operation of such Hotels to the MDAH Limited Partners, to holding
an interest in an operating real estate company with a portfolio
of approximately 120 Hotels that collects and distributes to its
limited partners rents received from the Lessees (which will bear
the risks and receive the direct benefits of the Hotels'
operations), has the ability to acquire additional hotels, is able
to reinvest proceeds from sales or refinancings of existing Hotels
in other hotels and has a publicly traded general partner. In
addition, each MDAH Limited Partner's investment will change from
one that allows a MDAH Limited Partner to receive a return of
capital in the form of distributions from any net proceeds of a
sale or refinancing of MDAH's assets to an investment in which an
MDAH Limited Partner likely would realize a return of capital only
through the exercise of the Unit Redemption Right. Although it is
expected that the MDAH Limited Partners will receive added
benefits from an investment in the Operating Partnership, an MDAH
Limited Partner's share of the liquidation proceeds, if any, from
the sale of an MDAH Hotel or Hotels could be higher than the
amount realized upon exercise of the Unit Redemption Right (or
payments on any Note received by an MDAH Limited Partner who
elects to receive such Note). An investment in the Operating
Partnership may not outperform an investment in MDAH. See
"Comparison of Ownership of Partnership Interests, OP Units and
Common Shares-- Nature of Investment."
. Exposure to Risks from Other Hotels. As a result of the Mergers,
MDAH Limited Partners who elect to receive OP Units will own
interests in a much larger partnership with a broader range of
assets than MDAH individually. A material adverse change affecting
the Operating Partnership's assets will affect all Limited
Partners regardless of whether a particular Limited Partner
previously was an investor in such affected assets. MDAH owns
discrete assets, and the Mergers and the REIT Conversion will
significantly diversify the types and geographic locations of the
Hotels in which the MDAH Limited Partners will have interests. As
a result, the Hotels owned by the Operating Partnership may be
affected differently by economic and market conditions than those
Hotels previously owned by MDAH.
. MDAH Limited Partners Have No Cash Appraisal Rights. MDAH Limited
Partners who vote against the Merger will not have a right to
receive cash based upon an appraisal of their Partnership
Interests.
. Uncertainties as to the Size and Leverage of the Operating
Partnership. Host is an existing operating company that regularly
issues and repays debt, acquires additional hotels and disposes of
existing hotels. Also, some or all of the Partnerships may elect
not to participate in a Merger. In that case, Host may contribute
its interests in such Partnerships to a Non-Controlled Subsidiary,
which is subject to corporate-level income taxation, rather than
the Operating Partnership. In addition, outside partners in
certain Private Partnerships may not consent to a lease of their
partnership's Hotel(s). Host also may repurchase outstanding
securities or issue new debt or equity securities prior to the
consummation of the Mergers and the REIT Conversion. For these
reasons, the MDAH Limited Partners cannot know at the time they
vote on a Merger the exact size and amount of leverage of the
Operating Partnership.
. Other Uncertainties at the Time of Voting. There are several
other uncertainties at the time the MDAH Limited Partners must
vote on the Mergers, including (i) the exact Exchange Value for
MDAH (which will be adjusted for changes in lender and capital
expenditure reserves,
MDAH Supp - 4
<PAGE>
indebtedness, deferred maintenance and other items prior to the
Closing Date), (ii) the deemed value of the OP Units for purposes
of the Mergers which, together with the Exchange Value, will
determine the number of OP Units the MDAH Limited Partners
will receive and (iii) the exact principal amount of the Notes
that may be received in exchange for OP Units. For these reasons,
the MDAH Limited Partners cannot know at the time they vote on the
Merger these important aspects of the Merger.
. Lack of Control over Hotel Operations. Due to current federal
income tax law restrictions on a REIT's ability to derive revenues
directly from the operation of a hotel, the Operating Partnership
will lease virtually all of its consolidated Hotels to the
Lessees, which will operate the Hotels by continuing to retain the
Managers pursuant to the Management Agreements. The Operating
Partnership will not operate the Hotels or participate in the
decisions affecting the daily operations of the Hotels. Although
the Operating Partnership's subsidiaries will have certain rights
as lessors under the Leases (including control over decisions
relating to capital expenditures) and will remain obligated under
the Management Agreements, the Operating Partnership will have
only a limited ability to require the Lessees or the Managers to
operate or manage the Hotels in any particular manner or to govern
any particular aspect of their day-to-day operation or management.
Therefore, the Operating Partnership will be dependent for its
revenue upon the ability of the Lessees and the Managers to
operate and manage the Hotels.
. Expiration of Leases. The Leases will expire seven to ten years
after the Closing Date, and there can be no assurance that such
Leases will be renewed (or if renewed, will be renewed on terms as
favorable to the Operating Partnership). If the Leases are not
renewed, the Operating Partnership will be required to find other
lessees, which lessees must meet certain requirements set forth in
the Management Agreements. There can be no assurance that
satisfactory lessees could be found or as to the terms and
conditions on which the Operating Partnership would be able to
renew the Leases or enter into new leases with such lessees.
. Requisite Vote of MDAH Limited Partners Binds All MDAH Limited
Partners. For MDAH, approval of a Merger is by a majority of the
Partnership Interests of MDAH that are eligible to be voted, as
described in "Voting Procedures -- Required Vote and Other
Conditions." Such approval will cause MDAH to participate in the
Merger and will bind all MDAH Limited Partners, including MDAH
Limited Partners who voted against or abstained from voting with
respect to the Merger.
. Risks of Lodging Industry. The profitability of the Hotels is
subject to general economic conditions, the management abilities
of the Managers (primarily Marriott International), competition,
the desirability of particular locations and other factors
relating to the operation of the Hotels. The full-service segment
of the lodging industry, in which virtually all of the Hotels
operate, is highly competitive, and the Hotels generally operate
in geographical markets that contain numerous competitors. The
Hotels' success will be dependent, in large part, upon their
ability to compete in such areas as access, location, quality of
accommodations, room rate structure, the quality and scope of food
and beverage facilities and other services and amenities. The
lodging industry, including the Hotels (and thus the Operating
Partnership), may be adversely affected in the future by (i)
national and regional economic conditions, (ii) changes in travel
patterns, (iii) taxes and government regulations which influence
or determine wages, prices, interest rates, construction
procedures and costs, (iv) the availability of credit and (v)
other factors beyond the control of the Operating Partnership.
. Risks of Leverage. The Operating Partnership will have
substantial indebtedness. As of March 27, 1998, on a pro forma
basis assuming the Full Participation Scenario, the Operating
Partnership would have had outstanding indebtedness totaling $4.6
billion, which represents a 44% debt-to-total market
capitalization ratio on a pro forma basis at such date (based upon
a price per Common Share of Host REIT of $20.00). The Operating
Partnership's business is capital intensive, and it will have
significant capital requirements in the future. The Operating
Partnership's leverage level could affect its ability to (i)
obtain financing in the future, (ii) undertake refinancings on
terms and subject to conditions deemed acceptable by the Operating
Partnership, (iii) make distributions to partners, (iv) pursue its
acquisition strategy or (v) compete effectively or operate
successfully under adverse economic conditions.
MDAH Supp - 5
<PAGE>
. No Limitation on Debt. There are no limitations in Host REIT's or
the Operating Partnership's organizational documents which limit
the amount of indebtedness either may incur, although both the
Notes and the Operating Partnership's other debt instruments will
contain certain restrictions on the amount of indebtedness that
the Operating Partnership may incur.
. Rental Revenues from Hotels Subject to Rights of Lenders. In
accordance with the mortgage loan agreements with respect to
outstanding indebtedness of certain Hotel Partnerships, the rental
revenues received by such Hotel Partnerships under certain Leases
first will be used to satisfy the debt service on such outstanding
indebtedness and any cash flow remaining thereafter will be
available to satisfy other obligations of the Hotel Partnership
(including paying property taxes and insurance, funding the
required FF&E reserves for the Hotels and capital improvements)
and to make distributions to partners, including Host REIT.
. Ownership Limitations. No person may own, actually or
constructively (as determined under the applicable Code
provisions), (i) in excess of 9.8% of the number or value of
outstanding Common Shares of Host REIT or (ii) in excess of 4.9%
of the OP Units (other than Host REIT and The Blackstone Group),
subject to waiver or modification by Host REIT or the Operating
Partnership, as the case may be, in certain limited circumstances.
. Timing of REIT Conversion. If the REIT Conversion does not occur
in time for Host REIT to elect REIT status effective January 1,
1999, the effectiveness of Host REIT's election could be delayed
to January 1, 2000, which would result in Host REIT continuing to
pay corporate-level income taxes in 1999 and could cause the
Blackstone Acquisition not to be consummated.
. Effect of Subsequent Events upon Recognition of Gain. Even though
the MDAH Limited Partners (other than those who elect to receive a
Note in exchange for OP Units) generally are not expected to
recognize significant taxable gain at the time of the Mergers,
there are a variety of events and transactions (including the sale
of one or more of the Hotels currently owned by MDAH or the
reduction of indebtedness securing one or more of the Hotels) that
could cause an MDAH Limited Partner to recognize all or a part of
the gain that otherwise has been deferred through the REIT
Conversion. See "Federal Income Tax Considerations -- Tax
Treatment of MDAH Limited Partners Who Hold OP Units Following the
Merger." Certain Hotels (including the Blackstone Hotels and the
Hotel owned by Atlanta Marquis) will be covered by agreements with
third parties which will restrict the Operating Partnership's
ability to dispose of those properties or refinance their debt. As
for the remaining initial properties (including the Hotels owned
by MDAH), the partnership agreement of the Operating Partnership,
which is substantially in the form attached hereto as Appendix A
(the "Partnership Agreement"), does not impose any restrictions on
the Operating Partnership's ability to dispose of the Hotels or to
refinance debt secured by the Hotels (but the Operating
Partnership is obligated to pay any taxes Host REIT incurs as a
result of such transactions). In addition, the Partnership
Agreement expressly provides that Host REIT, as general partner of
the Operating Partnership, is not required to take into account
the tax consequences of the limited partners in deciding whether
to cause the Operating Partnership to undertake specific
transactions and the limited partners have no right to approve or
disapprove such transactions. See "Description of OP Units --
Sales of Assets."
. Adverse Tax Consequences of the General Partner of a Sale of the
Hotel. MDAH has disproportionately allocated tax losses to the
General Partner in past years with the result that if the MDAH
Hotels were to be sold in a taxable transaction, the General
Partner (and thus Host) would incur a disproportionately larger
tax gain than the MDAH Limited Partners. Accordingly, the General
Partner and Host have an additional conflict of interest in
deciding the appropriate course of action for MDAH with respect to
its Hotels.
. Election to Receive Notes. An MDAH Limited Partner who elects to
receive a Note in connection with the Merger in exchange for his
OP Units will be treated as having made a taxable disposition of
his Partnership Interest. The MDAH Limited Partner may be eligible
to defer at least a portion, but not all, of that gain under the
"installment sale" rules. A Limited Partner with a "negative
capital account" with respect to his Partnership Interest who
elects to receive a Note will recognize "phantom income" in that
amount at the time of the Merger in any event. See "Federal Income
Tax Considerations -- Tax Treatment of MDAH Limited Partners Who
Exercise Their Right to Make the Note Election."
MDAH Supp - 6
<PAGE>
. Failure of Host REIT to Qualify as a REIT for Tax Purposes.
Taxation of Host REIT as a corporation if it fails to qualify as a
REIT, and Host REIT's subsequent liability for federal, state and
local taxes on its income and property, would, among other things,
have the effect of reducing cash available for distribution to
Host REIT's shareholders and materially reducing the value of the
Common Shares and OP Units.
. Failure of the Operating Partnership to Qualify as a Partnership
for Tax Purposes. Taxation of the Operating Partnership as a
corporation if it fails to qualify as a partnership and the
Operating Partnership's subsequent liability for federal, state
and local income taxes, would, among other things, have the effect
of reducing cash available for distribution to holders of OP
Units, would cause Host REIT to fail to qualify as a REIT for tax
purposes and would cause the holders of OP Units to recognize
substantial taxable gain at the time the Operating Partnership
ceases to qualify as a partnership.
. Change in Tax Laws. No assurance can be provided that new
legislation, Treasury Regulations, administrative interpretations
or court decisions will not significantly change the tax laws with
respect to Host REIT's qualification as a REIT or the federal
income tax consequences of such qualification.
Expected Benefits of the REIT Conversion
The General Partner believes that participating in the REIT Conversion
would likely be beneficial to the MDAH Limited Partners for the reasons set
forth below. This information is qualified by and should be read in conjunction
with the information in the Consent Solicitation under "Background and Reasons
for the Mergers and the REIT Conversion -- Expected Benefits of the Mergers."
These benefits, which should be viewed as alternatives to continuing the
business and operations of MDAH, are expected to include:
. Value of OP Units to be Received in the Merger. MDAH Limited
Partners who elect to receive OP Units in the Merger will receive
OP Units with a deemed value of $109,216 per Partnership Unit.
. Enhanced Liquidity of Investment. The REIT Conversion will offer
MDAH Limited Partners significantly enhanced liquidity with
respect to their investments in MDAH because, after the expiration
of the Initial Holding Period, MDAH Limited Partners will be able
to exercise their Unit Redemption Right at any time, subject to
certain limited exceptions. Host has approximately 204 million
shares of common stock outstanding, and the closing price of on
the NYSE on May 28, 1998 was $19.4375 per share (reflecting a
total common equity market capitalization of approximately $4
billion). The exercise of the Unit Redemption Right, however,
generally would result in recognition of taxable income or gain at
that time.
. Public Market Valuation of Assets. The Partnership Units of MDAH
currently trade at a discount to the net asset value of MDAH's
assets. In contrast, the General Partner believes that by
exchanging interests in MDAH, which is a non-traded limited
partnership, for interests in a publicly traded real estate
company focused primarily on a more diverse and growing
full-service hotel portfolio, the MDAH Limited Partners will have
the opportunity to participate in the recent trend of ownership of
real estate through a publicly traded entity, which, in many
instances, has resulted in market valuations of public real estate
companies in excess of the estimated net asset values of those
companies. There can be no assurance, however, that the Common
Shares of Host REIT will trade at a premium to the private market
values of the Operating Partnership's assets or that the relative
pricing differential will not change or be eliminated in the
future. Also, the initial benefit of Host's conversion to a REIT
will not be shared by the MDAH Limited Partners if and to the
extent that such initial benefit is reflected in the market
valuation of Host's common stock prior to the REIT Conversion.
. Regular Quarterly Cash Distributions. The General Partner expects
that the Operating Partnership will make regular quarterly cash
distributions to holders of OP Units. The General Partner expects
that these distributions will be higher than the estimated 1998
cash distributions of MDAH, and in any event, the ability to
receive distributions quarterly and in regular amounts would be
enhanced. For additional information regarding historical and
estimated future distributions for
MDAH Supp - 7
<PAGE>
MDAH and the other Partnerships, see "Background and Reasons for
the Mergers and the REIT Conversion --Reasons for the Mergers."
. Substantial Tax Deferral. The General Partner expects that MDAH
Limited Partners who do not elect to receive a Note in exchange
for OP Units generally should be able to obtain the benefits of
the Merger while continuing to defer recognition for federal
income tax purposes of at least a substantial portion, if not all,
of the gain with respect to their Partnership Interests that
otherwise would be recognized in the event of a liquidation of
MDAH or a sale or other disposition of its assets in a taxable
transaction. Thereafter, such MDAH Limited Partners generally
should be able to defer at least a substantial portion of such
built-in gain until they elect to exercise their Unit Redemption
Right or one or more of the Hotels currently owned by MDAH are
sold or otherwise disposed of in a taxable transaction by the
Operating Partnership or the debt now secured by such Hotels is
repaid, prepaid or substantially reduced. The federal income tax
consequences of the Merger are highly complex and, with respect to
each MDAH Limited Partner, are dependent upon many variables,
including the particular circumstances of such MDAH Limited
Partner. See "Federal Income Tax Considerations -- Tax
Consequences of the Merger." Each MDAH Limited Partner is urged
to consult with his own tax advisors as to the consequences of the
Merger in light of his particular circumstances.
. Risk Diversification. Participation in the Merger, as well as
future hotel acquisitions by the Operating Partnership, will
reduce the dependence of MDAH Limited Partners upon the
performance of, and the exposure to the risks associated with, the
MDAH Hotels and spread such risk over a broader and more varied
portfolio, including more diverse geographic locations and
multiple brands. See "Business and Properties -- Business
Objectives."
. Reduction in Leverage and Interest Costs. It is expected that the
Operating Partnership will have a lower leverage to value ratio
than MDAH currently, which has a leverage ratio of 58% (calculated
as a percentage of Appraised Value), resulting in interest and
debt service savings and greater financial stability.
. Growth Potential. The General Partner believes that the MDAH
Limited Partners, by owning interests in a publicly traded real
estate company focused primarily on a more diverse and growing
upscale and luxury full-service hotel portfolio, will be able to
participate in growth opportunities that would not otherwise be
available to them.
. Greater Access to Capital. With publicly traded equity
securities, a larger base of assets and a substantially greater
equity value than MDAH individually, Host REIT expects to have
greater access to the capital necessary to fund the Operating
Partnership's operations and to consummate acquisitions on more
attractive terms than would be available to MDAH individually.
This greater access to capital should provide greater financial
stability to the Operating Partnership and reduce the level of
risk associated with refinancing existing loans upon maturity
(including, specifically, the refinancing of the MDAH Mortgage
Debt, substantially all of which will mature on December 15,
1999), as compared to MDAH individually.
DETERMINATION OF EXCHANGE VALUE OF MDAH AND ALLOCATION OF OP UNITS
General. The Exchange Value of MDAH will be equal to the greatest of its
Adjusted Appraised Value, Continuation Value and Liquidation Value, each of
which has been determined as follows:
. Adjusted Appraised Value. The General Partner has retained AAA to
determine the market value of each of the Hotels as of March 1, 1998 (the
"Appraised Value"). The "Adjusted Appraised Value" of MDAH equals the
Appraised Value of its Hotels, adjusted as of the Final Valuation Date
for lender reserves, capital expenditure reserves, existing indebtedness
(including a "mark to market" adjustment to reflect the market value of
such indebtedness), certain deferred maintenance costs, deferred
management fees and transfer and recordation taxes and fees.
. Continuation Value. The "Continuation Value" of MDAH represents AAA's
estimate, as adopted by the General Partner, of the discounted present
value, as of January 1, 1998, of the MDAH limited partners' share of
estimated future cash distributions and estimated net sales proceeds
(plus lender reserves), assuming that MDAH continues as an operating
business for twelve years and its assets are sold on December 31, 2009
for their then estimated market value.
. Liquidation Value. The "Liquidation Value" of MDAH represents the General
Partner's estimate of the net proceeds to MDAH limited partners resulting
from the assumed sale as of December 31, 1998 of the Hotels of MDAH, each
at its Adjusted Appraised Value (after eliminating any "mark to market"
adjustment and adding back the deduction for transfer taxes and fees, if
any, made in deriving the Adjusted Appraised Value), less (i) estimated
liquidation costs, expenses and contingencies equal to 2.5% of Appraised
Value and (ii) prepayment penalties or defeasance costs, as applicable.
MDAH Supp - 8
<PAGE>
Final determination of the Exchange Value of MDAH will be made as of the
end of the four week accounting period ending at least 20 days prior to the
Closing Date (the "Final Valuation Date") and will be equal to the greatest of
Adjusted Appraised Value, Continuation Value and Liquidation Value as of such
date. Adjusted Appraised Value, Continuation Value and Liquidation Value will
be adjusted as of the Final Valuation Date (i) to reflect the amount of lender
and capital expenditure reserves and the amount of deferred management fees as
of such date, (ii) to increase the Adjusted Appraised Value by any amounts
actually expended by MDAH after the Initial Valuation Date to perform deferred
maintenance previously subtracted in determining the estimated Adjusted
Appraised Value of MDAH and (iii) to reflect any changes in MDAH's other
reserves, such as for litigation expenses and indemnification costs and any
revised estimates of transfer and recordation taxes and fees.
Appraised Value. MDAH's Hotels were appraised as of March 1, 1998 by AAA,
an independent, nationally recognized hotel valuation and financial advisory
firm experienced in the appraisals of lodging properties such as MDAH's Hotels.
Each appraisal (an "Appraisal") was reviewed by an MAI appraiser and certified
by such MAI appraiser as having been prepared in accordance with the
requirements of the Standards of Professional Practice of the Appraisal
Institute and the Uniform Standards of Professional Appraisal Practice of the
Appraisal Foundation.
The purpose of each Appraisal is to provide an estimate of the "Market
Value" of the related Hotel. "Market Value" means the most probable price which
a property should bring in a competitive and open market under all conditions
requisite to a fair sale, the buyer and seller each acting prudently and
knowledgeably and assuming the price is not affected by undue stimuli. Implicit
in this definition is the consummation of a sale as of a specified date and the
passing of title from seller to buyer under conditions whereby: (i) the buyer
and seller are equally motivated; (ii) both parties are well informed or well
advised, and each is acting in what he considers his own best interest; (iii) a
reasonable time frame is allowed for exposure in the open market; (iv) payment
is made in terms of cash in U.S. dollars or in terms of financial arrangements
comparable thereto and (v) the price represents the normal consideration for the
property sold unaffected by special or creative financing or sales concessions
granted by anyone associated with the sale. AAA made site visits at half of
MDAH's Hotels for purposes of the Appraisals. In preparing the Appraisals, AAA
relied primarily on the income capitalization method of valuation, and then
compared the value estimated by this method with recent sales of comparable
properties, as a check on the reasonableness of the value determined through the
income capitalization method. AAA employed the following procedures for
determining the Appraised Value of each Hotel:
. Historical 1997 and Projected Year's Earnings. AAA reviewed the historical
1997 net operating income (i.e., income before interest, taxes, depreciation
and amortization) ("NOI") prior to incentive management fees and certain
capital expenditures for each Hotel. AAA also prepared a projection of the NOI
prior to incentive management fees and certain capital expenditures for each
Hotel for the twelve month period ending February 28, 1999 (the "Projected
Year"), using historical financial information for each Hotel, budget
information, a survey with the manager of each Hotel addressing the physical
condition of each Hotel, local market conditions (including business mix,
demand generators, future trends and predictability of business), changes in
the competitive environment, comparison with direct competitors of each Hotel
and risk factors relating to the particular Hotel. The resulting gross margin
(ratio of total revenues to NOI prior to incentive management fees) was
checked against AAA's database of the gross margins for similar hotels for
reasonableness.
. Impact of Incentive Management Fees. AAA estimated a normalized annual amount
of incentive management fees payable under the applicable management agreement
and subtracted this amount from the NOI prior to incentive management fees and
certain capital expenditures for 1997 and the Projected Year.
. Impact of Owner Funded Capital Expenditures. AAA estimated normalized annual
amounts of owner funded capital expenditures (over and above the FF&E reserve)
based in part on projected owner funded capital expenditures estimated in the
Engineering Study. The normalized amounts were then subtracted from the NOI
prior to owner funded capital expenditures for 1997 and the Projected Year.
. Capitalization of Adjusted NOI. AAA then capitalized the amount resulting from
the foregoing adjustments ("Adjusted NOI") for 1997 and the Projected Year by
dividing such amounts by capitalization rates that AAA determined to be
appropriate. A capitalization rate represents the relationship between net
operating income and sales prices of income producing property. AAA selected
the capitalization rates based upon its review of current published surveys
reflecting the opinions of investors and participants such as REITs, hotel
acquisition/management companies and pension funds, lenders, brokers and
consultants as to current capitalization rates, and its own database of
capitalization rates reflected in recent transactions, adjusted for factors
specific to the individual Hotel, such as location, physical condition,
reserve policies, local market volatility and competition, guest mix,
renovation influences and other income characteristics. AAA used separate
capitalization rates that it deemed appropriate to capitalize 1997 historical
Adjusted NOI and estimated Projected Year's Adjusted NOI. AAA then estimated
the value of each Hotel based upon each of the values estimated by
capitalizing 1997 and Projected Year's Adjusted NOI and its professional
judgment. The following table sets forth the effective capitalization rates
for 1997 and Projected Year's Adjusted NOI resulting from AAA's estimated
Appraised Values of MDAH's Hotels.
MDAH Supp - 9
<PAGE>
RESULTING EFFECTIVE CAPITALIZATION RATES FOR APPRAISALS OF MDAH'S HOTELS
PROJECTED YEAR
1997 (ENDING FEBRUARY 28, 1999)
---- --------------------------
9.1 - 9.9% 10.1 - 10.6%
The resulting Appraised Value of MDAH's Hotels, as estimated by AAA, is
$165,900,000.
. Comparison with Comparable Sales. AAA checked the Appraised Value of each
Hotel derived by the foregoing procedures against its database of comparable
sale transactions for reasonableness.
With respect to MDAH's Hotels, one property was encumbered by a ground
lease as of the date of the Appraisal. Accordingly, the Appraised Value of such
Hotel has been decreased to reflect the encumbrance of the ground lease and the
interest of the ground lessor in the operating cash flows of such Hotel. The
Appraised Value assumes all contractual provisions for FF&E reserves are
adequate and have not been reduced to reflect deferred maintenance or
environmental remediation costs with respect to MDAH's Hotels (but estimated
deferred maintenance costs have been deducted in estimating the Adjusted
Appraised Value of each of MDAH's Hotels). The Appraised Value did not take
into account the costs that might be incurred in selling a Hotel (but estimated
costs for transfer and recordation taxes and fees have been deducted in
estimating the Adjusted Appraised Value of each Hotel).
The Appraisals are not guarantees of present or future values and no
assurance can be given as to the actual value of MDAH's Hotels. The Appraisals
should be read in conjunction with other information, such as, but not limited
to, the audited financial statements of MDAH.
The Appraised Value, and the assumptions underlying the projections on
which the Appraised Value is based, are contingent upon a series of future
events, the outcomes of which are not necessarily within the Operating
Partnership's control and cannot be determined at this time. There can be no
assurance that another appraiser would not have arrived at a different result.
Some of the assumptions inevitably will not materialize, and unanticipated
events and circumstances will occur subsequent to the date of the Appraisals.
Furthermore, the actual results achieved from MDAH's Hotels will vary from the
results projected in the Appraisals and the variations may be material.
Adjusted Appraised Value. The Adjusted Appraised Value of MDAH was
determined by totaling the Appraised Values of all of the Hotels of MDAH and
then making various adjustments to the aggregate Appraised Value, as described
below.
. Lender Reserves. MDAH's debt service reserves are required to be held by
third-party lenders. The amount of these lender reserves as of the
Initial Valuation Date was added to the Appraised Values of these Hotels.
A final determination of the lender reserves of MDAH will be made on the
Final Valuation Date and any changes in such reserves will be reflected
in the Adjusted Appraised Value.
. Mortgage and Other Debt. The estimated principal balance and accrued
interest as of the Closing Date (assumed to be December 31, 1998) of all
mortgage and other debt of MDAH has been subtracted from the Appraised
Value.
. Mark to Market Adjustments. The third-party loans of the Partnerships
have various interest rates and terms to maturity. In order to reflect
the fair market value of the third-party loans of each Partnership, the
estimated Adjusted Appraised Value for MDAH has been increased to "mark
to market" the interest rate for such loans. This adjustment has been
estimated by comparing the interest cost using the applicable interest
rates on existing third-party loans over their remaining term to the
interest cost using the interest rate that the Operating Partnership
believes it would be able to obtain for unsecured debt in the market as
of the Final Valuation Date (which would have been 8.0% per annum based
on a 225 basis point (2.25 percent) spread over the yield on seven-year
U.S. Treasury securities as of May 8, 1998). The mark to market
adjustment for each loan was calculated by determining the difference
between the present values, as of December 31, 1998, of the interest
payments over the remaining term of the loan from January 1, 1999 to
maturity using the actual interest rate as the discount rate as compared
to using the assumed market rate as the discount rate.
. Deferred Maintenance Costs. The estimated cost to complete any deferred
maintenance items identified in the Engineering Study relating to the
Hotels of MDAH has been subtracted from the Appraised Value. The
adjustments for this item will be reduced at the Final Valuation Date to
reflect amounts expended after the Initial Valuation Date to perform such
deferred maintenance. No adjustments have been made for previously
budgeted capital expenditures or deferred maintenance costs estimated in
the Engineering Study that are reflected in the cash flow projections
used for purposes of estimating Appraised Values.
MDAH Supp - 10
<PAGE>
The following table sets forth the adjustments to the aggregate Appraised
Value made to derive the estimated Adjusted Appraised Value for MDAH as of the
Initial Valuation Date.
CALCULATION OF ESTIMATED ADJUSTED APPRAISED VALUE FOR MDAH
AS OF THE INITIAL VALUATION DATE
(IN THOUSANDS, EXCEPT PER PARTNERSHIP UNIT AMOUNT)
Appraised Value $165,900
Lender reserves 3,000
Mortgage debt (97,371)
Other debt (25,355)
Mark to market adjustment 399
Deferred maintenance costs (825)
Estimated Adjusted
Appraised Value $ 45,748
========
Limited partners' share $ 45,215
Per Partnership Unit $109,216
Continuation Value. AAA estimated the Continuation Value of MDAH using the
following methodology:
. Estimated Future Cash Distributions. AAA prepared estimates of future
partnership cash flow for MDAH for the 12-year period from January 1,
1998 through December 31, 2009 based upon the estimated 1998 NOI before
incentive management fees used in the Appraisals and for each subsequent
year applying an assumed annual stabilized growth rate (as shown in the
table below) developed by AAA for this analysis. For each year in the
projection period, AAA estimated the amount of cash available for
distribution to MDAH's limited partners after payment of all management
fees, debt service, owner funded capital expenditures based on the
Engineering Study and other partnership expenses and after application of
the applicable partnership agreement provisions. AAA assumed that MDAH's
FF&E reserve was adequate and understood that Host determined that there
were no reserve shortfalls or surpluses.
. Refinancing Assumptions. For MDAH's first mortgage loan, which matures
during the 12-year period, AAA assumed that the debt would be refinanced
with an interest rate of 7.25% per annum and a 20- year amortization
schedule, with estimated refinancing costs of 1% of the refinanced amount
being paid from operating cash flow.
. Determination of Residual Value. To estimate the residual value of the
MDAH limited partners' interest in MDAH at the end of the 12-year period,
AAA assumed that the MDAH Hotels would be sold as of December 31, 2009 at
their then market value. AAA estimated the market value of each Hotel as
of such date by applying an exit capitalization rate that it deemed
appropriate, using the factors described above in connection with the "--
Appraised Value," which are set forth in the table below, to the
estimated Adjusted NOI for 2009 (estimated as described above). AAA then
subtracted estimated sales costs of 2.0% of the estimated market value,
added lender reserves, and subtracted the estimated outstanding principal
balance of debt as of December 31, 2009 and deferred management fees to
arrive at net sales proceeds available for distribution to partners. AAA
then determined what portion of such estimated net sales proceeds would
be distributable to MDAH's limited partners under the various partnership
and debt agreements.
. Discounting Distributions to Present Value. As a final step, AAA
discounted the estimated future cash distributions to MDAH's limited
partners from operations and estimated net sales proceeds to their
present value as of January 1, 1998, using a discount rate of 20% per
annum. AAA believes that this discount rate reflects the return on
investment that investors expect from leveraged investments of this
nature.
The growth rate and exit capitalization rate used to determine the
estimated Continuation Value for MDAH are as set forth below:
GROWTH RATE, EXIT CAPITALIZATION RATE
AND ESTIMATED CONTINUATION VALUE FOR MDAH
ESTIMATED
CONTINUATION VALUE
GROWTH RATE EXIT CAPITALIZATION RATE (2009) (PER PARTNERSHIP UNIT)
- ----------- ------------------------------- ----------------------
3.4% 10.1% $89,340
MDAH Supp - 11
<PAGE>
Liquidation Value. The Liquidation Value of MDAH was estimated by the
General Partner and represents the estimated value of MDAH if all of its assets
were sold as of December 31, 1998. Such value was based upon the Adjusted
Appraised Value of MDAH, with the following adjustments: (i) the "mark to
market" adjustment used to estimate the Adjusted Appraised Value was eliminated
and instead prepayment or defeasance costs that would be payable under existing
debt agreements (regardless of whether the debt in fact can be prepaid on
December 31, 1998) were deducted from the Appraised Value; and (ii) the
deduction for transfer and recordation taxes used to estimate the Adjusted
Appraised Value was eliminated and instead an amount equal 2.5% of the Appraised
Value of MDAH's Hotels was subtracted from the Appraised Value for estimated
liquidation costs, expenses and contingencies. The General Partner then
determined the portion of the estimated Liquidation Value that would be
distributable to MDAH's limited partners under the terms of the partnership
agreement and other contractual arrangements.
The following table sets forth the adjustments made to the Adjusted
Appraised Value to estimate the Liquidation Value of MDAH as of the Initial
Valuation Date:
CALCULATION OF ESTIMATED LIQUIDATION VALUE OF MDAH
AS OF THE INITIAL VALUATION DATE
(IN THOUSANDS, EXCEPT PER PARTNERSHIP UNIT AMOUNT)
Appraised Value $165,900
Lender reserves 3,000
Mortgage debt (97,371)
Other debt (25,355)
Deferred maintenance costs (825)
Sales costs (4,148)
Estimated Liquidation Value
$ 41,201
========
Limited partners' share $ 40,714
Per Partnership Unit $ 98,343
Estimated Exchange Value. The following table sets forth the estimated
Exchange Value of MDAH (based upon the Appraised Values of MDAH's Hotels as of
March 1, 1998 and the estimated adjustments described above) and the estimated
Note Election Amount for MDAH, all on a per Partnership Unit basis. The
estimated Exchange Value for MDAH (which will be received by each MDAH Limited
Partner retaining OP Units in the Merger) is equal to its estimated Adjusted
Appraised Value. The estimated Note Election Amount for MDAH (which will be
received by MDAH Limited Partners electing to receive Notes in exchange for OP
Units) is equal to the Liquidation Value for MDAH. The estimated values set
forth below may increase or decrease as a result of various adjustments, which
will be finally calculated as of the Final Valuation Date but will not change
as a result of less than all of the Partnerships participating in the Mergers.
ESTIMATED EXCHANGE VALUE OF MDAH
PER PARTNERSHIP UNIT(1)
ESTIMATED ESTIMATED ESTIMATED ESTIMATED ESTIMATED
ADJUSTED APPRAISED CONTINUATION LIQUIDATION EXCHANGE NOTE ELECTION
VALUE VALUE VALUE VALUE (2) AMOUNT(3)
- ------------------ ------------ ----------- ---------- -------------
$ 109,216 $89,340 $98,343 $109,216 $98,343
_________________
(1) A Partnership Unit in MDAH represents an original investment of $100,000.
(2) The estimated Exchange Value is equal to the greatest of estimated Adjusted
Appraised Value, estimated Continuation Value and estimated Liquidation
Value.
(3) The principal amount of Notes is equal to the greater of (i) the
Liquidation Value or (ii) 60% of the Exchange Value (the "Note Election
Amount").
Valuation of OP Units Allocated to MDAH's Limited Partners. Each MDAH
Limited Partner will receive OP Units with a deemed value equal to the Exchange
Value of such MDAH Limited Partner's Partnership Interests. The value of an OP
Unit for this purpose will be deemed to be equal to (i) the average of the
closing price of shares of Host common stock on the NYSE for the 10 trading days
ending on the third trading day prior to the record date for the distribution of
SLC common stock to Host shareholders minus (ii) the amount of cash and the
estimated value, as determined by Host's Board of Directors in good faith and in
reliance in part upon an opinion of an independent financial advisor, of the SLC
common stock or other property to be distributed with respect to each share of
Host common stock (currently estimated to aggregate approximately $___ - $____
per share) in connection with the REIT Conversion. The closing price per share
of Host common stock on May 28, 1998 was $19.4375.
MDAH Limited Partners who receive OP Units will receive cash distributions
from MDAH for all of 1998 and, if the Merger does not occur in 1998, any portion
of 1999 prior to the Merger for which period they do not receive a cash
distribution from the Operating Partnership.
No fractional OP Units will be issued. Fractional amounts less than or
equal to 0.50 of an OP Unit will be rounded down to the next whole number and
fractional amounts greater than 0.50 will be rounded up to the next whole number
of OP Units.
MDAH Supp - 12
<PAGE>
Cash Distributions
Historical Cash Distributions Paid by MDAH. The following table sets
forth the distributions paid to MDAH Limited Partners (per Partnership Unit) for
the periods indicated. The information below should be read in conjunction with
the information in this Supplement under the caption "Selected Financial Data."
Historical Cash Distributions Paid by MDAH
(Per Partnership Unit)/(1)/
<TABLE>
<CAPTION>
First Quarter Fiscal Year
------------- ----------------------------------------------------
1998 1997 1996 1995 1994 1993
---- ---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C> <C>
From net income.............................. $ $ 3,304 $ 4,575 $ 4,481 $ 3,427 $ --
Representing return of capital/(2)/.......... -- -- -- -- -- --
------------ ------- ------- ------- ------- -------
Total............................... $ $ 3,304 $ 4,575 $ 4,481 $ 3,427 $ --
============ ======= ======= ======= ======= =======
</TABLE>
- -----------
(1) A Partnership Unit represents a $100,000 original investment in MDAH.
(2) Computed as all distributions in excess of distributions from operating cash
flow.
Compensation and Distributions to the General Partner. Under MDAH's
partnership agreement, the General Partner does not receive fees or compensation
in connection with managing the affairs of MDAH but the General Partner and its
affiliates are reimbursed for certain costs and expenses incurred on behalf of
MDAH. The following information has been prepared to compare the amount of
reimbursements paid and cash distributions made by MDAH to the General Partner
and its affiliates to the amounts that would have been paid if the reimbursement
and distribution structure which will be in effect after the REIT Conversion had
been in effect for the periods presented.
Following the REIT Conversion, Host REIT will be operated as a
self-administered REIT and as a result no reimbursements or other compensation
will be received by the General Partner.
During the First Quarter 1998 and fiscal years 1997, 1996 and 1995
amounts actually paid by MDAH to the General Partner are shown below under
"Historical" and the estimated amounts that would have been paid had the REIT
Conversion been in effect for the periods presented (assuming the Full
Participation Scenario) are shown under "Pro Forma."
Historical and Pro Forma Reimbursements and Distributions to the
General Partner and its Affiliates
(in thousands)
<TABLE>
<CAPTION>
First Quarter Fiscal Year
-------------- ----------------------------------------
1998 1997 1996 1995
---- ---- ---- ----
<S> <C> <C> <C> <C>
Historical
Reimbursements $ 63 $ 124 $ 109 $ 68
Distributions -- 21 28 27
------------- ---------- --------- ---------
Total Historical $ 63 $ 145 $ 137 $ 95
============ ========= ======== ========
Pro Forma
Reimbursements $ -- $ -- $ -- $ --
Distributions attributable to Units/(1)/ N/A N/A N/A N/A
------------- ---------- --------- ---------
Total Pro Forma $ -- $ -- $ -- $ --
============ ========= ======== ========
</TABLE>
- -----------
(1) The OP Units to be received by Host and its subsidiaries in connection with
the REIT Conversion will be equal to the number of shares of Host's
outstanding common stock and not allocated based upon its interest in any
of the Partnerships, including MDAH. Thus, the distributions received by
Host and its affiliates by way of their interests in the Partnerships,
including MDAH, cannot be determined on a pro forma basis.
MDAH Supp - 13
<PAGE>
Certain Information Regarding the Hotels Owned by MDAH
Number of
Name of Hotel Location of Hotel Rooms Date Opened
- ------------- ----------------- ------------- -----------
Dayton Marriott Livonia Hotel Dayton, OH 399 1982
Fairview Park Marriott Hotel Fairfax County, VA 395 1989
Fullerton Marriott Hotel Orange County, CA 224 1989
Livonia Marriott Hotel Livonia, MI 224 1989
Marriott Hotel at Research
Triangle Park Raleigh, NC 224 1988
Southfield Marriott Hotel Southfield, MI 226 1989
-----
TOTAL 1,692
=====
The table below sets forth certain performance information for MDAH's
Hotels for the indicated periods.
First Quarter Fiscal Year
------------- ---------------------------
1998 1997 1997 1996 1995
---- ---- ---- ---- ----
Average daily rate......... $114.04 $101.07 $102.97 $93.33 $86.39
Occupancy.................. 75.6% 75.1% 76.4% 74.6% 76.1%
REVPAR..................... $86.21 $75.88 $78.66 $69.62 $65.74
% REVPAR change 13.6% -- 13.0% 5.9% --
Dayton Marriott Hotel, Dayton, Ohio
The Dayton Marriott Hotel is a full-service Marriott hotel located on
9.9 acres of fee-owned land approximately 1.5 miles south of downtown Dayton,
Ohio. The Hotel is situated at the intersection of South Patterson Boulevard and
River Park Drive, which is approximately one-half mile east of I-75. The Hotel
is visible from the interstate and is adjacent to both the University of Dayton
and the world headquarters of NCR Corporation. Because of its recognized
position in the market, the Dayton Marriott Hotel serves the entire Dayton
metropolitan areas, including the Wright-Patterson Airforce Base and the
downtown convention center.
The Dayton Marriott Hotel originally opened in January 1982 with 299
rooms and was expanded to 399 rooms in August 1987. The Dayton Hotel contains
399 guest rooms, of which nine are suites and 50 are concierge-level guest rooms
offering special amenities, decor and services. The Hotel has approximately
10,300 square feet of meeting and banquet space, including a 6,400 square foot
ballroom capable of accommodating up to 800 people for receptions and up to 580
people for banquets. In addition, the Hotel contains a restaurant capable of
seating 165 persons and a lounge capable of seating 112 persons. Other amenities
offered by the Hotel include an indoor/outdoor pool, a hydrotherapy pool, an
exercise room, a sauna, bicycle rentals, a gift/sundry shop and parking for 547
cars.
MDAH Supp-14
<PAGE>
Competition. The primary competition for the Hotel comes from three hotels
in the Dayton area: (i) the Crown Plaza; (ii) the Doubletree Hotel; and (iii)
the Holiday Inn Fairborn. A comparison of these hotels and the Dayton Hotel is
shown below:
Approximate
No. of Year Meeting Space
Rooms Opened (sq. ft.)
--------- --------- --------------
DAYTON MARRIOTT HOTEL................... 399 1982 10,300
Crown Plaza ...................... 284 1996 12,000
Doubletree Hotel ...................... 189 1988 8,000
Holiday Inn Fairborn.................... 202 1987 8,000
In addition to the properties described above, the Dayton Hotel faces
secondary competition from various other hotels. These other hotels, however,
differ from the Hotel in terms of size, room rates, facilities, amenities and
services offered, market orientation and/or location. No new primary competition
is expected to open in the Dayton area. However, the Residence Inn and Fairfield
Inn Troy opened in January 1998.
Fairview Park Marriott Hotel, Fairfax County, Virginia
The Fairview Park Marriott Hotel is located approximately nine miles
west of downtown Washington, D.C., on a parcel of approximately 5.2 acres of
fee-owned land in the 220-acre Fairview Park development in Fairfax County,
Virginia. The Hotel is located at the interchange of U.S. Highway 50 and the
heavily traveled Capital Beltway (I-495), which circles Washington, D.C. The
Hotel is located directly across the Capital Beltway from the world headquarters
of Mobil Corporation, is four miles south of Tysons Corner, Virginia, a major
regional commercial and retail center and is near several middle-income and
upscale residential areas. At 15 stories, the Hotel is the tallest building in
the Fairview Park development and is visible from the Capital Beltway.
The Fairview Park Marriott Hotel opened in August 1989. The Hotel
contains 395 guest rooms, of which eight are suites, two are parlors and 30 are
concierge-level guest rooms offering special amenities, decor and services. The
Hotel has approximately 13,000 square feet of meeting and banquet space
(including a ballroom of 10,300 square feet) and six hospitality suites which
are available to accommodate meetings of small groups. The Hotel has a
restaurant which seats 130 and one lounge which seats a total of 55, and offers
an indoor/outdoor pool and whirlpool, an exercise room, men and women's locker
rooms with saunas, a business center, a gift/sundry shop and indoor/outdoor
parking for 660 cars. More than half of the Fairview Park development has been
preserved as woodlands, and the Hotel is located in a wooded area which offers a
park-like setting containing jogging and cycling trails that connect with
adjacent communities. The Hotel also is adjacent to a small retail shopping
center which offers a food court and shops.
Ground Lease. The Partnership leases the land on which the Fairview
Park Marriott Hotel parking garage is located. The lease expires in 2085 and
requires a nominal rental of $1 per year.
Competition. Four hotels, the Sheraton Tysons Corner, the Hilton
McLean, the Tysons Corner Marriott and the Ritz Carlton Tysons Corner, provide
the primary competition for the Fairview Park Marriott Hotel. A comparison of
these hotels and the Fairview Park Marriott Hotel is shown in the table below:
Approximate
No. of Year Meeting Space
Rooms Opened (sq. ft.)
---------- -------- ---------------
FAIRVIEW PARK
MARRIOTT HOTEL ...................... 395 1989 13,000
Sheraton Tysons Corner.................. 455 1986 26,000
Hilton McLean ...................... 457 1987 22,000
Tysons Corner Marriott.................. 392 1981 13,600
Ritz Carlton Tysons Corner.............. 232 1985 18,500
MDAH Supp-15
<PAGE>
The Homewood Suites Hotel, a 109 room extended-stay hotel opened in
February 1998, and is located 4 miles from Fairview Park.
Fullerton Marriott Hotel, Fullerton, California
The Fullerton Marriott Hotel is located in Fullerton, California on a
4.7 acre leased parcel of land located on the campus of California State
University at Fullerton. The Fullerton campus of California State University has
approximately 25,000 students, making it the seventh largest of the 20 campuses
in the California State University system. Fullerton is located in northern
Orange County, California's third largest center of high technology which
includes the communities of Fullerton, Placentia, Brea, La Habra, Yorba Linda
and Buena Park. The Fullerton Marriott Hotel is located at the interchange of
State Highway 57 and Nutwood Avenue, approximately 20 miles north of the John
Wayne International Airport and approximately eight miles north of Disneyland.
The Fullerton Marriott Hotel is designed principally to accommodate the needs of
travelers visiting the University and the many corporate facilities located in
the area and to cater to the needs of group meetings, but the General Partner
expects the Hotel to attract a significant number of leisure travelers as well.
The Hotel offers 224 guest rooms, of which three are suites and 39 are
concierge-level rooms offering special amenities, decor and services. The Hotel
has approximately 4,617 square feet of meeting and banquet space (including a
2,749 square foot ballroom), a restaurant which seats 68, a lounge which seats
44, an outdoor pool and whirlpool, an exercise room, men and women's locker
rooms with saunas, a gift/sundry shop and parking for 286 cars. The Hotel is a
six-story building located on the southeast corner of the University campus. The
restaurant and lounge are located on the first floor just off the lobby, and the
meeting and banquet space is located primarily on the first floor. The guest
rooms are located on floors one though six. Under the Ground Lease, the
Partnership will be prohibited from making any structural or exterior
alterations to the Hotel which are inconsistent with the development project
plans without the written consent of the Ground Lessor and the Trustees of
California State University.
Ground Lease. The Partnership leases the land on which the Fullerton
Marriott Hotel is located. The initial term expires on 2019 with four successive
10-year renewals at the Partnership's option. The lease provides for percentage
rental equal to 4% of gross room sales for each year.
Competition. Four hotels, the Embassy Suites Anaheim, the Holiday
Inn-Fullerton, Chase Suites and the Embassy Suites Fullerton, provide the
primary competition for the Fullerton Marriott Hotel. A comparison of these
hotels and the Fullerton Marriott Hotel is shown in the following table:
Approximate
No. of Year Meeting Space
Rooms Opened (sq. ft.)
---------- ---------- -------------
FULLERTON MARRIOTT HOTEL................ 224 1989 4,617
Embassy Suites Anaheim.................. 224 1987 8,000
Holiday Inn Fullerton................... 289 1973 9,200
Chase Suites ...................... 96 1995 2,700
Embassy Suites ...................... 229 1987 9,000
In addition to the properties described above, the Hotel faces
secondary competition from various other hotels. These other hotels, however,
differ from the Hotel in terms of size, room rates, facilities, amenities and
services offered, market orientation and/or location. The Days Inn Fullerton is
converting to Sheraton in the First Quarter 1998.
Detroit Marriott Livonia Hotel, Livonia, Michigan
The Detroit Marriott Livonia Hotel is located on 4 acres of fee-owned
land within Laurel Park Place, a 750,000 square foot upscale office and regional
shopping mall development in Livonia, Michigan, an affluent suburb of Detroit
located west of downtown in the rapidly expanding I-275 corridor. Laurel Park
Place is one of Livonia's three major shopping malls, containing over 60
specialty shops and restaurants, a ten-screen cinema,
MDAH Supp-16
<PAGE>
over 300,000 square feet of office space, the largest Jacobsen's department
store ever built and space for another anchor department store. The Hotel, which
opened in September 1989, is located approximately 15 miles west of downtown
Detroit and is designed principally to accommodate the needs of business
travelers visiting the automobile manufacturing and other corporate facilities
located in the area.
The Hotel contains 226 guest rooms, of which four are suites and 39 are
concierge-level rooms offering special amenities, decor and services. The Hotel
is a six story building and has approximately 5,000 square feet of meeting and
banquet space (including a ballroom of 3,168 square feet), a restaurant with a
seating capacity of 75, a lounge with a seating capacity of 50, an indoor pool
and whirlpool, an exercise room, men and women's locker rooms with saunas, a
gift/sundry shop and parking for 280 cars. The Hotel is adjacent to the Laurel
Park Place mall and has an entranceway that opens into the retail section of the
mall.
Competition. Three hotels, the Novi Hilton, the Holiday Inn and the
Embassy Suites, provide the primary competition for the Livonia Hotel. A
comparison of these hotels and the Detroit Marriott Livonia Hotel is shown in
the table below:
Approximate
No. of Year Meeting Space
Rooms Opened (sq. ft.)
-------- -------- ---------------
DETROIT MARRIOTT
LIVONIA HOTEL ...................... 226 1989 3,965
Novi Hilton ......................... 237 1985 15,344
Holiday Inn ......................... 212 1988 11,000
Embassy Suites ...................... 137 1989 7,000
In addition to the properties described above, the Hotel faces
secondary competition from various other hotels. These other hotels, however,
differ from the Hotel in terms of size, room rates, facilities, amenities and
services offered, market orientation and/or location. No new primary competition
is expected to open in the Livonia area in the near term.
Marriott Hotel at Research Triangle Park, Durham, North Carolina
The Marriott Hotel at Research Triangle Park Hotel is a full-service
Marriott hotel located in Durham, North Carolina, approximately 15 miles
northwest of Raleigh and approximately nine miles southeast of downtown Durham.
The Hotel is located on 10.3 acres of fee-owned land approximately 4.5 miles
from the Raleigh-Durham Airport and approximately one-half mile from Research
Triangle park. The primary demand generator for the Hotel is Research Triangle
Park, a 6,700 acre research park located in the triangle formed by Duke
University, the University of North Carolina and North Carolina State
University. Research Triangle park contains facilities occupied by over 50
corporations, institutions and government agencies, all of which are engaged in
research, development or science-oriented production. The Hotel is approximately
12.5 miles from Duke University, 12 miles from the University of North Carolina
and 13 miles from North Carolina State University.
The Hotel, which opened in April 1988, is designed principally to meet
the needs of business travelers visiting Research Triangle Park, but it also
caters to the group meeting and leisure traveler segments of the hotel market.
The Hotel offers 224 guest rooms, of which four are suites or parlors and 50 are
concierge-level rooms offering special amenities, decor and services. The Hotel
is a six story building and has approximately 4,000 square feet of meeting
space, including a 2,816 square foot ballroom. The Hotel also has a restaurant
which seats 75 persons, a lounge which seats 50 persons, an indoor pool, a
hydrotherapy pool, an exercise room, men and women's saunas, a gift/sundry shop,
a business center and parking for 351 cars.
Competition. Four hotels, the Sheraton Imperial Hotel, the Holiday
Inn-Research Triangle Park, Doubletree Suites and the Radisson Governors Inn,
provide the primary competition for the Research Triangle Park Hotel. A
comparison of these hotels and the Marriott Hotel at Research Triangle Park
Hotel is shown in the following table:
MDAH Supp-17
<PAGE>
Approximate
No. of Year Meeting Space
Rooms Opened (sq. ft.)
-------- --------- --------------
MARRIOTT HOTEL at
RESEARCH TRIANGLE PARK.................. 224 1988 4,000
Sheraton Imperial Hotel................. 340 1986 31,000
Holiday Inn-RTP ...................... 250 1988 4,850
Doubletree Suites ...................... 203 1987 3,000
Radisson Governors Inn.................. 200 1972 7,000
In addition to the properties described above, the Hotel faces
secondary competition from various other hotels. These other hotels, however,
differ from the Hotel in terms of size, room rates, facilities, amenities and
services offered, market orientation and/or location. An Embassy Suites and
several mid-priced hotels opened in the Research Triangle Park area in 1997. A
three hotel and multiple restaurant complex, is under development and scheduled
to open mid-year 1998.
Southfield Marriott Hotel, Southfield, Michigan
The Southfield Marriott Hotel is located along I-696 and Northwestern
Highway, adjacent to the First Center Office Park on 5.0 acres of fee-owned land
in Southfield, Michigan, a suburb of Detroit located approximately 15 miles
northwest of downtown Detroit, Michigan. Over one million square feet of office
space are located within one mile of the Southfield Hotel. Southfield is a major
commercial center. According to the Southfield Chamber of Commerce, Southfield
serves as headquarters for three Fortune 500 companies, and 62 other Fortune 500
companies have offices or other facilities there.
The Southfield Marriott Hotel which opened in September 1989, contains
226 guest rooms, of which four are suites and 39 are concierge-level rooms
offering special amenities, decor and services. The Southfield Marriott Hotel is
a six story building containing approximately 4,000 square feet of meeting and
banquet space, including a 2,816 square foot ballroom. In addition, the Hotel
contains a restaurant with a seating capacity of 75, a lounge with seating
capacity of 50, an indoor pool and whirlpool, an exercise room, men and women's
locker rooms with saunas, a gift/sundry shop and parking for 280 cars.
Competition. Four hotels--the Radisson Plaza, the Doubletree, the
Holiday Inn and the Hilton--provide the primary competition for the Southfield
Marriott Hotel. A comparison of these hotels and the Southfield Marriott Hotel
is shown in the following table:
Approximate
No. of Year Meeting Space
Rooms Opened (sq. ft.)
--------- --------- --------------
SOUTHFIELD MARRIOTT HOTEL............... 226 1989 4,000
Westin ................................ 385 1987 11,000
Doubletree ............................. 239 1987 8,000
Holiday Inn ........................... 417 1965 8,000
Hilton ................................. 197 1988 3,000
In addition to the properties described above, the Hotel faces
secondary competition from various other hotels. These other hotels, however,
differ from the Hotel in terms of size, room rates, facilities, amenities and
services offered, market orientation and/or location. No new primary competition
is expected to open in the Southfield market in the near term.
Amendments to MDAH's Partnership Agreement
In order to allow the Hotels of MDAH to be leased to SLC in connection
with the Merger and the REIT Conversion, MDAH's partnership agreement must be
amended. Currently, there is no provision in MDAH's partnership agreement to
allow MDAH's Hotels to be leased. Therefore, Section 5.02B of MDAH's partnership
agreement must be amended to add a new paragraph 5.02B(xiii) to read as follows:
MDAH Supp-18
<PAGE>
(xiii) lease or consent to the lease, directly or indirectly, in one
transaction or a series of related transactions, of any or all
of the Hotels.
Other Amendments. Amendments to certain terms and sections of MDAH's
----------------
partnership agreement would be made in order to (i) reduce to one the number of
appraisals of the fair market value of MDAH's Hotels that MDAH must provide to
the Limited Partners before the General Partner can cause MDAH to sell its
assets to the General Partner or an affiliate, (ii) delete certain obsolete
references to entities and agreements that are no longer in existence, (iii)
update MDAH's partnership agreement to reflect the passage of time since the
formation of MDAH and (iv) make any other amendments to MDAH's partnership
agreement deemed necessary or advisable, in the sole discretion of the General
Partner, in connection with the consummation of the Mergers and the REIT
Conversion. The General Partner does not believe that these amendments would
affect the rights of the MDAH Limited Partners in any material respect nor the
duties and obligations of the General Partner. These changes are included, along
with the other proposed amendments, in the copy of MDAH's partnership agreement,
as proposed to be amended, which is attached hereto. The amended MDAH
partnership agreement is marked to indicate the revisions made to the existing
MDAH partnership agreement and should be read in its entirety. Deleted
provisions are contained in brackets and struck through and added provisions are
in bold type and underlined.
The vote required for such amendments is a majority of the outstanding
limited partnership interests. The General Partner owns 0.60% of the outstanding
limited partnership interests. In connection with the amendment, the General
Partner may not vote its limited partnership interests.
THE GENERAL PARTNER RECOMMENDS THAT MDAH LIMITED PARTNERS VOTE TO
APPROVE THE REQUESTED AMENDMENTS TO THE MDAH PARTNERSHIP AGREEMENT.
FAIRNESS
FAIRNESS ANALYSIS
The General Partner believes that the terms of the Merger provide
substantial benefits and are fair to the Limited Partners of MDAH and recommends
that all Limited Partners of MDAH consent to the Merger. The General Partner
bases this recommendation primarily on (i) its view that the expected benefits
of the Merger for the MDAH Limited Partners outweigh the risks and potential
detriments of the Merger to the MDAH Limited Partners (see "Background and
Reasons for the Mergers and the REIT Conversion -- Reasons for the Mergers" and
"Risk Factors"), (ii) its view that the value of the OP Units allocable to the
MDAH Limited Partners on the basis of the Exchange Value established for MDAH
represents fair consideration for the Partnership Interests held by the MDAH
Limited Partners and is fair to the MDAH Limited Partners from a financial point
of view, and (iii) the Fairness Opinion of AAA stating that (a) the
methodologies and underlying assumptions used to determine the Exchange Value,
the Adjusted Appraised Value, the Continuation Value and the Liquidation Value
of MDAH and each other Partnership, including, without limitation, the
assumptions used to determine the various adjustments to the Appraised Values of
the Hotels, are fair and reasonable, from a financial point of view, to the
Limited Partners of MDAH and each other Partnership and (b) the methodologies
used to determine the value of an OP Unit and to allocate the equity interest in
the Operating Partnership to be received by the MDAH Limited Partners and the
Limited Partners of each Partnerships are fair and reasonable to the MDAH
Limited Partners and the Limited Partners of each other Partnership.
The Merger is not conditioned upon the consummation of the other Mergers.
The General Partner has considered this fact in evaluating the fairness of the
Merger. The General Partner believes that the fairness of the Merger will not
be materially affected by the presence or absence of any other individual
Partnership or by any particular combination of other Partnerships and that the
Merger will be fair to the MDAH Limited Partners, individually and as a whole,
if it is consummated with any combination of other Participating Partnerships.
The General Partner bases this belief primarily on the fact that the
consideration to be paid to the MDAH Limited Partners has been established based
upon MDAH's Exchange Value, without regard to any possible combination of other
Partnerships.
In reaching the conclusions implicit in the above recommendation, the
General Partner has taken into account the following considerations:
. The General Partner has concluded that the Exchange Value for MDAH, which
is equal to the greatest of its Adjusted Appraised Value, Continuation
Value and Liquidation Value, represents fair consideration for the
Partnership Interests of the MDAH Limited Partners in the Merger in
relation to MDAH The General Partner also has concluded that the Exchange
Value established for the MDAH Limited Partners fairly reflects the value
of the assets held by MDAH. In addition, the Fairness Opinion supports
these conclusions.
. The General Partner has concluded that the potential benefits of the
Merger to the MDAH Limited Partners, as described under "Background and
Reasons for the Mergers and the REIT Conversion -- Reasons for the
Mergers," outweigh the potential risks and detriments of the Merger for
the MDAH Limited Partners, as described in "Risk Factors."
. The Fairness Opinion, in the view of the General Partner, supports the
fairness of the Merger, even though it includes qualifications,
limitations and assumptions relating to its scope and other factors that
MDAH Limited Partners should consider carefully.
. Host will contribute its wholly owned full-service hotel assets, its
interests in the Hotel Partnerships and its other assets (excluding its
senior living assets) to the Operating Partnership in exchange for (i) a
number of OP Units equal to the number of outstanding shares of common
stock of Host, (ii) preferred partnership interests in the Operating
Partnership corresponding to any shares of Host preferred stock
outstanding at the time of the REIT Conversion and (iii) the assumption
by the Operating Partnership of certain liabilities of Host. Following
these contributions, the Operating Partnership and its subsidiaries will
directly own all of Host's wholly-owned hotels and all of Host's
interests in the Hotel Partnerships and other assets. Host REIT will not
receive any compensation for its services as general partner to the
Operating Partnership following the REIT Conversion and will benefit from
the operations of the Operating Partnership only to the extent of the
distributions received based upon its percentage interest in the
Operating Partnership to the same extent as the other limited partners.
Because Host REIT will share in the value of the Operating Partnership
solely through distributions and not through any separate compensation
structure, the General Partner believes that this is a factor supporting
the fairness of the Merger to the MDAH Limited Partners.
. The General Partner believes that the value of the consideration to be
received by the MDAH Limited Partners in the Merger is fair in relation
to the value which would be derived by such Limited Partners under any of
the alternatives described under "Background and Reasons for the Mergers
and the REIT Conversion -- Alternatives to the Mergers," especially since
the Exchange Value of MDAH is equal to its Adjusted Appraised Value.
The General Partner does not believe that the sale of any of MDAH's
Hotels and liquidation of MDAH will obtain for MDAH Limited Partners as
much value as the value to be received by such MDAH Limited Partners
following the Merger. The General Partner believes that the following
benefits are of the greatest value and importance to the MDAH Limited
Partners:
. Enhanced Liquidity. The Mergers and the REIT Conversion will offer
MDAH Limited Partners significantly enhanced liquidity with respect
to their investments in MDAH because, after the expiration of the
Initial Holding Period, MDAH Limited Partners will be able to
exercise their Unit Redemption Right at any time, subject to certain
limited exceptions. Host has approximately 204 million shares of
common stock outstanding and the closing price on the NYSE on May 28,
1998 was $19.4375 per share (reflecting a total common equity market
capitalization of approximately $4 billion). The exercise of the Unit
Redemption Right, however, generally would result in recognition of
taxable income or gain at that time.
MDAH Supp-19
<PAGE>
. Public Market Valuation. The General Partner believes that by
exchanging interests in MDAH, a non-traded limited partnership, for
interests in a publicly traded real estate company focused primarily
on a more diverse and growing full-service hotel portfolio, the MDAH
Limited Partners will have the opportunity to participate in the
recent trend of ownership of real estate through a publicly traded
entity, which, in many instances, has resulted in market valuations
of public real estate companies in excess of the estimated net asset
values of those companies.
. Regular Quarterly Cash Distributions. The General Partner expects
that the Operating Partnership will make regular quarterly cash
distributions to holders of OP Units. The General Partner expects
that these distributions will be higher than the estimated 1998 cash
distributions MDAH, and in any event, the ability to receive
distributions quarterly and in regular amounts would be enhanced.
. Substantial Tax Deferral. The General Partner expects that MDAH
Limited Partners who do not elect to receive Notes generally should
be able to obtain the benefits of the Merger while continuing to
defer recognition for federal income tax purposes of at least a
substantial portion, if not all, of the gain with respect to their
Partnership Interests that otherwise would be recognized in the event
of a liquidation of MDAH or a sale or other disposition of its assets
in a taxable transaction.
. The General Partner believes that the economic terms of the leases of the
MDAH Hotels are fair and reasonable from the standpoint of the Operating
Partnership.
The General Partner believes that the factors described above, which
support the fairness of the Merger to the MDAH Limited Partners, when weighed
against the factors that may be disadvantageous, taken as a whole, indicate that
the Merger is fair to the MDAH Limited Partners.
AAA, an independent financial advisory firm with substantial real estate
and partnership transaction experience, was engaged by the General Partner and
the other General Partners to perform the Appraisals and to render the Fairness
Opinion that (i) the methodologies and underlying assumptions used to determine
the Exchange Value, the Adjusted Appraised Value, the Continuation Value and the
Liquidation Value of MDAH and each other Partnership, including, without
limitation, the assumptions used to determine the various adjustments to the
Appraised Values of the Hotels, are fair and reasonable, from a financial point
of view, to the MDAH Limited Partners and the Limited Partners of each other
Partnership, and (ii) the methodologies used to determine the value of an OP
Unit and to allocate the equity in the Operating Partnership to be received by
the MDAH Limited Partners and the Limited Partners of each Partnership are fair
and reasonable to the MDAH Limited Partners and the Limited Partners of each
other Partnership. The Fairness Opinion is addressed to each Partnership and it
may be relied upon by each of the MDAH Limited Partners and the Limited Partners
of the other Partnerships. The full text of the Fairness Opinion, which
contains a description of the assumptions and qualifications applicable to the
review and analysis by AAA, is set forth in Appendix B to the Consent
Solicitation and should be read in its entirety. The material assumptions and
qualifications to the Fairness Opinion are summarized below, although this
summary does not purport to be a complete description of the various inquiries
and analyses undertaken by AAA in rendering the Fairness Opinion. Arriving at a
fairness opinion is a complex analytical process not necessarily susceptible to
partial analysis or amenable to summary description. For a more complete
description of the assumptions and qualifications that limit the scope of the
Fairness Opinion, see " Qualifications to Fairness Opinion" and " Assumptions"
below.
Although the General Partner advised AAA that certain assumptions were
appropriate in its view, the General Partner imposed no conditions or
limitations on the scope of the investigation by AAA or the methods and
procedures to be followed by AAA in rendering the Fairness Opinion. The fees
and expenses of AAA will be treated as a Merger Expense and will be paid by the
Operating Partnership. In addition, the General Partner has agreed to indemnify
AAA against certain liabilities. See "-- Compensation and Material
Relationships."
QUALIFICATIONS TO FAIRNESS OPINION. In the Fairness Opinion, AAA
specifically states that it did not: (a) specifically consider other
methodologies for allocation of the OP Units, (b) address or conclude that other
methodologies for allocation of the OP Units to the MDAH and the other
Partnerships might not have been more favorable to the Limited Partners in
certain of the Partnerships, (c) negotiate with MDAH, the other Partnerships or
Host, (d) participate in establishing the terms of the Merger and the other
Mergers, (e) provide an opinion as to the terms and conditions of the Merger and
the other Mergers other than those explicitly stated in the Fairness Opinion,
(f) make any independent review of the capital expenditure estimates set forth
in the Engineering Study, (g) make any estimates of MDAH's and each other
Partnership's contingent liabilities.
In connection with preparing the Fairness Opinion, AAA was not engaged to,
and consequently did not, prepare any written report or compendium of its
analysis for internal or external use beyond the analysis set forth in Appendix
B. AAA will not deliver any additional written opinion of the analysis, other
than to update the written opinion if requested by the Operating Partnership.
EXPERIENCE OF AAA. AAA is the world's largest independent valuation
consulting firm and is regularly and continually engaged in the valuation of
commercial real estate and businesses and their securities in connection with
tender offers, mergers and acquisitions, recapitalizations and reorganizations,
divestitures, employee stock ownership plans, leveraged buyout plans, private
placements, limited partnerships, estate and corporate matters, other financial
advisory matters and other valuation purposes.
AAA was selected because of its experience in the valuation of businesses
and their securities in connection with tender offers, mergers and acquisitions,
recapitalizations and reorganizations, including transactions involving hotel
partnerships. In addition, Host and its affiliates have previously engaged AAA
to provide appraisals and fairness opinions in connection with other
transactions. The General Partner and the other General Partners considered
several other firms for purposes of performing the appraisals and rendering the
Fairness Opinion, but selected AAA for the foregoing reasons.
SUMMARY OF MATERIALS CONSIDERED AND INVESTIGATION UNDERTAKEN. As a basis
for rendering for Fairness Opinion, AAA has made such reviews, studies and
analyses as it deemed necessary and pertinent in order to provide it with a
reasonable basis for the Fairness Opinion, including, but not limited to, the
following: (i) reviewed the transaction documents and SEC reporting and/or
filing documents, including drafts of the Form S-4 for the Mergers; (ii)
provided the Market Value of each Hotel owned by each Partnership in a separate
short form appraisal report and each such report was reviewed and certified by
an MAI appraiser as to its preparation in accordance with the requirements of
the Standards of Professional Practice of the Appraisal Institute and the
Uniform Standards of Professional Appraisal Practice of the Appraisal
Foundation; as part of the Appraisals, AAA reviewed historical operating
statements, 1998 budget and year-to-date results, and other financial
information as it deemed necessary as a basis for the Fairness Opinion and the
Appraisals also considered market transactions of similar lodging properties as
appropriate as a basis for the Market Value of each Hotel; (iii) reviewed the
methodologies used by each of the General Partners in their determination of the
Exchange Value of each Partnership, including the nature and amount of all
adjustments to the Appraised Values in determining such Exchange Values; AAA
reviewed and tested for the fairness and reasonableness of all adjustments as
well as for consideration of all adjustments deemed to be appropriate by AAA;
(iv) reviewed the methodologies used by each of the General Partners in their
determination of the value of an OP Unit and the allocation of the equity
MDAH Supp-20
<PAGE>
interest in the Operating Partnership to be received by the limited partners of
each Partnership, and AAA reviewed and tested for the fairness and
reasonableness of the methods and measurements made by the General Partners; (v)
reviewed the General Partners' determination of the Liquidation Value of each
Partnership, and AAA reviewed and tested for the fairness and reasonableness of
all adjustments proposed by the General Partners, as well as for consideration
of all adjustments deemed appropriate by AAA; (vi) provided an estimate of the
Continuation Value of each Partnership based upon the estimated present value of
expected benefits to be received by each limited partner interest as though the
Mergers did not occur and each Partnership's assets were sold within a twelve
year period; AAA, as part of its analysis and review, determined appropriate
rates of growth in house profit or net operating income, as well as reviewed
other key variables affecting partnership cash flows and other
economic/financial factors affecting the Partnerships' expected operations and
results;(vii) reviewed the terms of the ground leases of the Hotels and the
partnership agreement of each Partnership; (viii) reviewed audited and unaudited
historical income statements, balance sheets and statements of sources and uses
of funds of each Partnership and Host and pro forma financial information for
Host REIT; (ix) reviewed audited and unaudited historical operating statements
of each Hotel, as well as current operating statements and budgets; (x)
conducted real estate valuation and financial due diligence with respect to the
Partnerships and their underlying assets, liabilities and equity; (xi) reviewed
internal Marriott International, Host and Partnership financial analyses and
other internally generated data for each Hotel; and (xii) discussed all of the
foregoing information, where appropriate, with management of Marriott
International, Host and the Partnerships, and their respective employees.
ASSUMPTIONS. In rendering its opinion, AAA relied, without independent
verification, on the accuracy and completeness in all material respects of
certain relevant publicly available information and information provided to AAA
by the Host and the Hotels. AAA assumed that all information furnished by Host,
the Hotels and the Partnerships and their representatives, upon which AAA
relied, presented and accurate description in all material respects of the
current and prospective status of the Hotels and the Partnerships from an
operational and financial point of view. AAA also noted that the Fairness
Opinion was based upon financial, economic, market and other considerations as
they existed and could be evaluated on the date thereof.
CONCLUSIONS. AAA concluded that, based upon and subject to its analysis
and assumptions and limiting conditions, and as of the date of the Fairness
Opinion: (i) the methodologies used to determine the Exchange Value, the
Adjusted Appraised Value, the Continuation Value and the Liquidation Value each
Partnership, including, without limitation, the assumptions used to determine
the various adjustments to the Appraised Values of each of the Hotels, are fair
and reasonable, from a financial point of view, to the MDAH Limited Partners and
the Limited Partners of each Partnership, and (ii) the methodologies used to
determine the value of an OP Unit and to allocate the equity interest in the
Operating Partnership to be received by the MDAH Limited Partners and the
Limited Partners of each Partnership are fair and reasonable to the Limited
Partners of each Partnership.
COMPENSATION AND MATERIAL RELATIONSHIPS. AAA has been paid a fee of
$________ for its services as described herein, including the Appraisals and
preparing to deliver the Fairness Opinion. In addition, AAA will be reimbursed
for all reasonable out-of-pocket expenses, including legal fees, and will be
indemnified against certain liabilities, including certain liabilities under the
securities laws. The fee was negotiated between Host, the General Partners and
AAA. Payment of the fee to AAA is not dependent upon completion of the Mergers.
AAA has been previously engaged by Host and its affiliates to provide fairness
opinions in connection with other transactions.
Voting Procedures
The consent of MDAH Limited Partners holding more than 50% of the
outstanding limited partnership interests is required for participation in the
Merger. The General Partner owns 0.60% of the outstanding limited partnership
interests in MDAH. The General Partner may not vote its limited partnership
interests in connection with the Merger.
An MDAH Limited Partner may mark the Consent Form to vote "FOR,"
"AGAINST" or "ABSTAIN" with respect to participation in a Merger by MDAH. The
failure of a Limited Partner of MDAH to vote will have the same effect as if
such Limited Partner had voted his Partnership Interests "AGAINST" the Merger. A
Consent Form that is properly signed but not marked will be voted FOR the
Merger. The voting procedures applicable to MDAH Limited Partners are set forth
in the Consent Solicitation under the heading "Voting Procedures -- Required
Vote and Other Conditions."
Federal Income Tax Considerations
In addition to the federal income tax considerations discussed in the
sections of the Consent Solicitation entitled "Federal Income Tax
Considerations" and "Risk Factors -- Federal Income Tax Risks," MDAH Limited
Partners should read carefully the following discussion of federal income tax
considerations applicable specifically to the MDAH Limited Partners. The
information included in this discussion is based upon various factual
assumptions and information which are believed by the Operating Partnership and
the General Partner to be reliable. However, some of these assumptions
inevitably will not materialize, and unanticipated events and circumstances will
occur. Therefore, there likely will be differences between the information
provided herein, including the numerical data and estimates, and actual results,
and the variations may be material and adverse.
Applicability of Tax Opinions
Hogan & Hartson L.L.P. ("Hogan & Hartson"), counsel to Host REIT, Host
and the Operating Partnership, has provided to Host REIT and the Operating
Partnership an opinion letter (substantially in the form of Appendix C to the
Consent Solicitation) as to certain federal income tax consequences to the
Operating Partnership and the MDAH Limited Partners resulting from the Mergers
and the REIT Conversion. The opinion letter is based upon certain assumptions
and certain representations provided by Host REIT, Host, the Operating
Partnership and the General Partners. These representations generally involve
factual matters relating to the organization, ownership and operations
(including the income, assets, businesses, liabilities and properties) of the
Partnerships and Hotels contributed to the Operating Partnership by Host and the
Blackstone Entities prior to the Mergers and of Host REIT, the Operating
Partnership and the Hotel Partnerships following the Mergers and the REIT
Conversion. In addition, on the Closing Date, Hogan & Hartson expects to provide
to Host REIT and the Operating Partnership an opinion letter (substantially in
the form of Appendix D to the Consent Solicitation) as to the qualification and
taxation of Host REIT as a REIT under the Code following the REIT Conversion.
See "Federal Income Tax Considerations -- Summary of Tax Opinions" in the
Consent Solicitation.
Each opinion provided by Hogan & Hartson in the opinion letter that is
substantially in the form of Appendix C to the Consent Solicitation is
applicable to the MDAH Limited Partners.
The opinions already rendered by Hogan & Hartson are based on the Code
and Treasury Regulations in effect on the date hereof, current administrative
interpretations and positions of the IRS and existing court decisions, and the
opinions to be rendered by Hogan & Hartson on the Closing Date will be based on
the same authorities as of the Closing Date. No assurance can be given that
future legislation, Treasury Regulations, administrative interpretations and
court decisions will not significantly change the law or the above
MDAH Supp-21
<PAGE>
conclusions reached by counsel. In addition, any such change could apply
retroactively to transactions preceding the date of change. Moreover, opinions
of counsel merely represent counsel's best judgment with respect to the probable
outcome on the merits and are not binding on the IRS or the courts. Accordingly,
even if there is no change in applicable law, no assurance can be provided that
such opinions (which do not bind the IRS or the courts) will not be challenged
by the IRS or will be sustained by a court if so challenged. With the one
exception described below (see "- Tax Consequences of the Merger - Deemed Cash
Distribution and Resulting Taxable Gain") and in the Consent Solicitation under
"Federal Income Tax Considerations - Tax Consequences of the Mergers - IRS
Ruling Request Regarding Allocation of Partnership Liabilities," neither Host
REIT, the Operating Partnership nor the General Partners have requested or plan
to request any rulings from the IRS concerning the tax consequences of the
Mergers or the treatment of either the Operating Partnership or Host REIT
subsequent to the REIT Conversion.
Tax Consequences of the Merger
Overview. Hogan & Hartson has provided an opinion to the effect that
--------
the Merger will not result in the recognition of taxable gain or loss at the
time of the Merger to an MDAH Limited Partner (i) who does not exercise his Unit
Redemption Right on a date sooner than the date two years after the date of the
consummation of the Merger; (ii) who does not receive a cash distribution (or a
deemed cash distribution resulting from relief from liabilities, including as a
result of any prepayment of the MDAH Mortgage Debt) in connection with the
Merger or the REIT Conversion in excess of his aggregate adjusted basis in his
MDAH Partnership Units at the time of the Merger; (iii) who does not elect to
receive a Note in exchange for his OP Units in connection with the Merger (the
"Note Election"); (iv) who is not required to recognize gain by reason of the
exercise by another MDAH Limited Partner of his right to make the Note Election
(which, in counsel's opinion, described below, should not be the result of such
election); and (v) who does not have his "at risk" amount fall below zero as a
result of the Merger or the REIT Conversion. See "Federal Income Tax
Considerations --Summary of Tax Opinions" in the Consent Solicitation.
With respect to the foregoing exceptions to nonrecognition treatment,
the Operating Partnership and the General Partner believe as follows: (i) an
MDAH Limited Partner who acquired his MDAH Partnership Units in the original
offering of such Partnership Units and who has held such Partnership Units at
all times since would not be considered to receive, as a result of the Merger, a
distribution (or a deemed cash distribution resulting from relief from
liabilities) that exceeds his aggregate adjusted basis in his MDAH Partnership
Units at the time of the Merger, and would not have his "at risk" amount fall
below zero as a result of the Merger, even if all of the MDAH Mortgage Debt were
to be repaid in connection with the Merger or the REIT Conversion, and (ii) none
of the personal property owned by MDAH will need to be sold to a Non-Controlled
Subsidiary in connection with the REIT Conversion. See "Federal Income Tax
Considerations -- Tax Consequences of the Mergers -- Overview" in the Consent
Solicitation.
With respect to the effects of an MDAH Limited Partner's election to
receive a Note in exchange for his OP Units in connection with the Merger, Hogan
& Hartson is of the opinion that, although the matter is not free from doubt, an
MDAH Limited Partner who does not elect to receive a Note in connection with the
Merger should not be required to recognize gain by reason of another MDAH
Limited Partner's exercise of such right. With respect to the exercise of a Unit
Redemption Right, Hogan & Hartson is of the opinion that it is more likely than
not that an MDAH Limited Partner's exercise of his Unit Redemption Right more
than one year after the date of consummation of the Merger but less than two
years after such date will not cause the Merger itself to be a taxable
transaction for the MDAH Limited Partner (or the other MDAH Limited Partners).
See "Federal Income Tax Considerations -- Summary of Tax Opinions" in the
Consent Solicitation. Opinions of counsel, however, do not bind the IRS or the
courts, and no assurances can be provided that such opinions will not be
challenged by the IRS or will be sustained by a court if so challenged.
Deemed Cash Distribution and Resulting Taxable Gain. With respect to
---------------------------------------------------
his MDAH Partnership Units, an MDAH Limited Partner will receive no actual cash
distribution in connection with the Merger but would be deemed to receive a cash
distribution in connection with the Merger to the extent that his share of
Operating Partnership liabilities immediately after the Merger and the REIT
Conversion is less than his share of MDAH liabilities immediately prior to the
Merger. For example, any prepayment of the MDAH Mortgage Debt or debt
encumbering other Hotels may result in a deemed cash distribution to the MDAH
Limited Partners. See
MDAH Supp-22
<PAGE>
"Federal Income Tax Considerations -- Tax Consequences of the Mergers -- Relief
from Liabilities/Deemed Cash Distribution" in the Consent Solicitation. Even
though the MDAH Mortgage Debt and the debt encumbering the other Hotels is not
expected to be repaid or refinanced in connection with the Merger and the REIT
Conversion, an MDAH Limited Partner's share of indebtedness following the Merger
and the REIT Conversion may nonetheless decrease in comparison to the Limited
Partner's estimated aggregate share of MDAH indebtedness as of December 31, 1998
(calculated based on the assumption that the Merger did not occur) by reason of
the manner in which the debt allocation rules work when multiple assets with
different levels of leverage are consolidated into a single partnership.
An MDAH Limited Partner, however, would recognize taxable gain as a
result of any deemed cash distribution only to the extent that the deemed cash
distribution were to exceed his adjusted tax basis in his MDAH Partnership Units
immediately prior to the Merger. As noted above, the Operating Partnership and
the General Partner believe, based upon and subject to the assumptions and other
limitations described below, that an MDAH Limited Partner who acquired his MDAH
Partnership Units in the original offering of such Partnership Units and has
held the Partnership Units at all times since the offering will have an adjusted
tax basis in excess of the deemed cash distribution that might occur in
connection with the Merger and the REIT Conversion, even if all MDAH Mortgage
Debt were to be repaid. Therefore, such an MDAH Limited Partner should not
recognize gain due to such deemed cash distribution resulting from the relief
from liabilities in connection with the Merger and the REIT Conversion.
The adjusted tax basis of an MDAH Limited Partner who did not acquire
his MDAH Partnership Units in the original offering of such Partnership Units or
who has not held his MDAH Partnership Units at all times since such offering
could vary materially from that of an MDAH Limited Partner who did so. If an
MDAH Limited Partner has an adjusted tax basis in his MDAH Partnership Units
(per MDAH Partnership Unit) that is substantially less than the adjusted tax
basis of an MDAH Limited Partner who acquired his MDAH Partnership Units in the
original offering of such Partnership Units and has held such Partnership Units
at all times since, he could (although it is unlikely) recognize gain due to any
deemed cash distribution resulting from the relief from liabilities in
connection with the Merger and the REIT Conversion.
The Operating Partnership has no current plan or intention to cause the
prepayment of the MDAH Mortgage Debt as part of the Merger and the REIT
Conversion or, except as described in the Consent Solicitation, any of the
nonrecourse liabilities encumbering the Hotels owned by the other Partnerships.
The Operating Partnership, however, will have to repay mortgage indebtedness
securing the Hotels owned by the Partnerships at the time such indebtedness
matures (including the MDAH Mortgage Debt, which will mature on December 15,
1999). There can be no assurance that at the time of any such refinancing the
Operating Partnership will be able to secure nonrecourse mortgage indebtedness
secured only by those Hotels in an amount sufficient to avoid a deemed cash
distribution to the former Limited Partners in those Partnerships, including
MDAH in connection with the refinancing of the MDAH Mortgage Debt (although such
a deemed distribution of cash may or may not result in the recognition of
taxable income or gain by the former MDAH Limited Partners). Moreover, the
Operating Partnership's current long-term financing strategy is to have as
little debt as possible that is secured by individual Hotels and to have as much
debt as possible in the form of unsecured debt, held either by the public or by
institutional investors, which debt may or may not be recourse to Host REIT, as
general partner of the Operating Partnership. In view of these considerations
and the potential adverse consequences to Limited Partners in certain
Partnerships, including the MDAH Limited Partners, the Operating Partnership has
requested from the IRS a ruling to the effect that such unsecured indebtedness
of the Operating Partnership that is issued initially to institutional investors
and is not recourse to Host REIT (i) would qualify as "nonrecourse liabilities"
for purposes of Code Section 752, (ii) to the extent the proceeds thereof are
applied to repay existing nonrecourse mortgage indebtedness secured by one or
more Hotels (including the MDAH Mortgage Debt), would be considered to be
"secured" by those Hotels for purposes of allocating the liabilities for tax
basis purposes (and thus would be allocable, at least in substantial part, to
the former Limited Partners in the Partnership owning those Hotels, including
the MDAH Limited Partners), and (iii) would constitute "qualified nonrecourse
financing" secured by such Hotels for purposes of Code Section 465. The IRS has
recently issued a ruling to that effect to another taxpayer, and has indicated
to the Operating Partnership's representatives that it is favorably inclined to
issue that ruling to the Operating Partnership.
MDAH Supp-23
<PAGE>
Section 465(e) Recapture. As discussed in the Consent Solicitation, see
------------------------
"Federal Income Tax Considerations -- Tax Consequences of the Mergers -- Section
465(e) Recapture," the "at risk" rules of Section 465 of the Code generally
apply to limit the use of partnership losses by a partner. Under Section 465(e)
of the Code, a partner may be required to include in gross income, or
"recapture," losses previously allowed to such partner with respect to his
investment in a partnership if the amount for which the partner is "at risk" in
relation to his investment in the partnership is less than zero at the close of
the taxable year.
It is possible that the consummation of the Merger and the REIT
Conversion or the repayment of certain "qualified nonrecourse financing" of the
Operating Partnership, the Hotel Partnerships or the Hotels contributed to the
Operating Partnership by the Blackstone Entities at the time of or following the
Merger and the REIT Conversion could, singularly or in combination, cause an
MDAH Limited Partner's amount at risk in relation to his investment in MDAH
(and, after the Merger, in the Operating Partnership) to be reduced below zero,
resulting in an income inclusion to the Limited Partner under Section 465(e) of
the Code. Currently, a sufficient portion of the current debt of MDAH
constitutes "qualified nonrecourse financing" so that the MDAH Limited Partners
have positive at risk amounts, and the Operating Partnership expects that most
of the current debt with respect to the other Hotel Partnerships and the Hotels
contributed by the Blackstone Entities that will be assumed by the Operating
Partnership as part of the Merger and the REIT Conversion should qualify as
"qualified nonrecourse financing." The Operating Partnership and the General
Partner believe, based upon and subject to the assumptions and other limitations
described below, that an MDAH Limited Partner who acquired his MDAH Partnership
Units in the original offering of such Partnership Units and has held the
Partnership Units at all times since will have a positive at risk amount
immediately following the Merger and the REIT Conversion, even if all of the
MDAH Mortgage Debt were to be repaid in connection with the Merger and the REIT
Conversion and the MDAH Limited Partners were to have no share of any other
"qualified nonrecourse financing" following the Merger and the REIT Conversion.
It is possible, however, that a former MDAH Limited Partner's at risk
amount could decline in the future, either because of the allocation of losses
from the Operating Partnership to that former MDAH Limited Partner or because of
cash distributions by the Operating Partnership to that former MDAH Limited
Partner in excess of the taxable income allocable to him with respect to his OP
Units. In that event, it may be necessary for the former MDAH Limited Partner to
have a share of "qualified nonrecourse financing" from the Operating Partnership
in order to avoid recognizing income by reason of his at risk amount falling
below zero. Moreover, there can be no assurance that debt incurred by the
Operating Partnership in the future to refinance the MDAH Mortgage Debt or
outstanding mortgage debt of the other Hotel Partnerships or the Hotels
contributed by the Blackstone Entities will qualify as "qualified nonrecourse
financing." If, however, the Operating Partnership were to obtain the requested
ruling from the IRS and were to refinance existing mortgage indebtedness of the
Partnerships with the type of indebtedness described in the ruling, such
indebtedness should constitute "qualified nonrecourse financing" for purposes of
the "at risk" rules.
Impact of Assumption of MDAH Liabilities by the Operating Partnership.
----------------------------------------------------------------------
As described in the Consent Solicitation, see "Federal Income Tax Considerations
- -- Tax Consequences of the Mergers -- Disguised Sale Regulations," an MDAH
Limited Partner will recognize gain to the extent he is treated as having sold
all or part of his MDAH Partnership Interest in a "disguised sale." For purposes
of these rules, certain reductions in a partner's share of partnership
liabilities are treated as a transfer of money or other property from the
partnership to the partner which may give rise to a disguised sale, even if that
reduction would not otherwise result in a taxable deemed cash distribution in
excess of the partner's basis in his partnership interest. However, if a
transfer of property by a partner to a partnership is not otherwise treated as
part of a disguised sale, then any reduction in the partner's share of
"qualified liabilities" also will not be treated as part of a disguised sale. A
"qualified liability" in connection with a transfer of property to a partnership
includes (i) any liability incurred more than two years prior to the earlier of
the transfer of the property or the date the partner agrees in writing to the
transfer, as long as the liability has encumbered the transferred property
throughout the two-year period; (ii) a liability that was not incurred in
anticipation of the transfer of the property to a partnership, but that was
incurred by the partner within the two-year period prior to the earlier of the
date the partner agrees in writing to transfer the property or the date the
partner transfers the property to a partnership and that has encumbered the
transferred property since it was incurred; (iii) a liability that is traceable
under the Treasury Regulations to capital expenditures with respect to the
property;
MDAH Supp-24
<PAGE>
and (iv) a liability that was incurred in the ordinary course of the trade or
business in which property transferred to the partnership was used or held, but
only if all the assets related to that trade or business are transferred, other
than assets that are not material to a continuation of the trade or business.
However, a recourse liability is not a "qualified liability" unless the amount
of the liability does not exceed the fair market value of the transferred
property (less any other liabilities that are senior in priority and encumber
such property or any allocable liabilities described in (iii) or (iv), above) at
the time of transfer.
The General Partner believes that all liabilities of MDAH fall into one
of the four categories of "qualified liabilities" described above and,
accordingly, that the mere assumption by the Operating Partnership of the
outstanding liabilities of MDAH will not give rise to a "disguised sale" by any
of the MDAH Limited Partners.
Tax Treatment of MDAH Limited Partners Who Hold OP Units Following the
Merger
Initial Basis in Units. In general, an MDAH Limited Partner will have
----------------------
an initial tax basis in his OP Units received in the Merger with respect to his
MDAH Partnership Units equal to the basis in his MDAH Partnership Units at the
time of the Merger, reduced to reflect any deemed cash distributions resulting
from a reduction in his share of MDAH liabilities and increased to reflect his
share of other liabilities of the Operating Partnership and any gain required to
be recognized in connection with the Merger and the REIT Conversion. For a
discussion of the federal income tax considerations for an MDAH Limited Partner
from a reduction in basis that may result from the Merger and the REIT
Conversion, see "Federal Income Tax Considerations -- Tax Treatment of Limited
Partners Who Hold OP Units Following the Mergers -- Initial Tax Basis of OP
Units" in the Consent Solicitation.
Tax Allocations with Respect to Contributed Hotels upon a Sale of MDAH
----------------------------------------------------------------------
Hotels. Pursuant to Section 704(c) of the Code, income, gain, loss and deduction
- ------
attributable to appreciated or depreciated property that is contributed to a
partnership must be allocated for federal income tax purposes in a manner such
that the contributor is charged with, or benefits from, the unrealized gain or
unrealized loss associated with the property at the time of contribution. The
amount of such unrealized gain or unrealized loss is generally equal to the
difference between the fair market value of the contributed property at the time
of contribution and the adjusted tax basis of such property at the time of
contribution (referred to as the "Book-Tax Difference"). The Operating
Partnership and the General Partner estimate, based upon and subject to the
assumptions and other limitations described below, that the aggregate Book-Tax
Difference with respect to the MDAH Hotels will be $________ upon the
consummation of the Merger.
If the Operating Partnership were to sell all of the MDAH Hotels, the
former partners of MDAH (including Host REIT with respect to the interest in
MDAH held indirectly by Host through the General Partner) would be specially
allocated by the Operating Partnership an aggregate amount of taxable gain equal
to the Book-Tax Difference with respect to the MDAH Hotels ($ ____ in the
aggregate if the MDAH Hotels were sold immediately after the consummation of the
Merger, according to the estimate in the previous paragraph). The share of such
gain allocable to an MDAH Limited Partner who acquired his MDAH Partnership
Units in the original offering of such Partnership Units and held such
Partnership Units at all times since would be $___ per MDAH Partnership Unit for
a Limited Partner who acquired his Partnership Units for cash ($___ if such
Limited Partner elected to reduce his basis in his MDAH Partnership Units in
lieu of recognizing cancellation of indebtedness income in 1993), and $______
per MDAH Partnership Unit for a Limited Partner who acquired his Partnership
Units pursuant to the installment purchase plan ($___ if such Limited Partner
elected to reduce his basis in his MDAH Partnership Units in lieu of recognizing
cancellation of indebtedness income in 1993). The share of such gain of an MDAH
Limited Partner who did not acquire his MDAH Partnership Units in the original
offering of such Partnership Units or who has not held his MDAH Partnership
Units at all times since such offering could vary materially from these amounts.
If the Operating Partnership were to sell an MDAH Hotel with a Book-Tax
Difference, the remaining Book-Tax Difference at the time the Hotel is sold
would be required to be allocated exclusively to the former MDAH Limited
Partners and the General Partner, even though the proceeds of such sale would be
allocated proportionately among all the partners in the Operating Partnership
(and would likely be retained by the Operating Partnership, rather than
distributed to holders of OP Units and Common Shares of Host REIT). The MDAH
Limited Partners
MDAH Supp-25
<PAGE>
would not be entitled to any special distributions from the Operating
Partnership in connection with such a sale, and thus would not necessarily
receive cash distributions from the Operating Partnership sufficient to pay such
additional taxes. Although the Partnership Agreement does not impose any
restrictions upon the Operating Partnership preventing it from causing the sale
of any or all of the MDAH Hotels at any time following the Merger, the Operating
Partnership does not have current plans to pursue a sale of any of the MDAH
Hotels. See "Federal Income Tax Considerations -- Tax Treatment of Limited
Partners Who Hold OP Units Following the Mergers -- Sale of Individual Hotels"
in the Consent Solicitation.
Tax Allocations with Respect to Contributed Hotels Generally. The tax
------------------------------------------------------------
allocations of depreciation to the MDAH Limited Partners may change
significantly as a result of the Merger and the REIT Conversion for two reasons.
First, as described above, pursuant to Section 704(c) of the Code, depreciation
and deductions attributable to the MDAH Hotels will be required to be allocated
for federal income tax purposes in a manner such that the MDAH Limited Partners
are charged with the Book-Tax Difference associated with the MDAH Hotels at the
time of the consummation of the Merger. Consequently, an MDAH Limited Partner
will be allocated less depreciation with respect to the MDAH Hotels than would
be the case if the Merger had not occurred and the MDAH Limited Partner had
continued to hold his MDAH Partnership Units. (On the other hand, a former MDAH
Limited Partner will be allocated depreciation with respect to other Hotels
acquired by the Operating Partnership in connection with the Merger and the REIT
Conversion, including the Hotels owned by the other Hotel Partnerships and the
Hotels being contributed to the Operating Partnership by Host and the Blackstone
Entities in connection with the Merger and the REIT Conversion.) Second, the
Merger will cause the technical termination under Section 708(b)(1)(B) of the
Code of MDAH and each of the other Hotel Partnerships that participates in the
Merger. Section 168(i)(7) of the Code provides, in effect, that when a
partnership terminates under Section 708(b)(1)(B) of the Code, the partnership
must begin new depreciation periods for its property. As a result, the remaining
bases of the real estate components of the MDAH Hotels and the Hotels held by
the other Hotel Partnerships will be depreciated over 39 years, rather than over
the remaining current lives of such Hotels (which range from less than one year
to 39 years). See "Federal Income Tax Considerations -- Tax Treatment of Limited
Partners Who Hold OP Units Following the Mergers -- Effect of Mergers on
Depreciation" in the Consent Solicitation.
In light of the complexity of the governing rules affecting the
calculation and allocation of depreciation with respect to properties
contributed to a partnership, particularly when a number of those properties are
subject to the separate adjustments required in connection with a technical
termination under Section 708 of the Code, the number of Hotels that the
Operating Partnership will be acquiring in connection with the Merger and the
REIT Conversion, and the impact on these calculations of other outside events,
including equity offerings by Host or Host REIT and other acquisitions
undertaken by Host, Host REIT or the Operating Partnership prior to or in
connection with the REIT Conversion, the Operating Partnership and the General
Partner believe that it is impossible to predict with any degree of precision
the impact that the Mergers and the REIT Conversion will have on the future
depreciation (and, consequently, the amount of taxable income) allocable to an
MDAH Limited Partner.
Special Depreciation Adjustment for Certain MDAH Limited Partners.
------------------------------------------------------------------
Currently, MDAH is reporting on an annual basis to the MDAH Limited Partners
each Limited Partner's proportionate share of depreciation from MDAH's
depreciable real property to assist those MDAH Limited Partners who elected to
exclude from their taxable income certain discharge of indebtedness income
realized by MDAH in taxable year 1993 (and thus to reduce their adjusted basis
in their MDAH Partnership Units). At this time, there is no administrative
guidance regarding the impact of the Merger upon the MDAH Limited Partners who
made the election to exclude such income. In the absence of such guidance, it is
impossible for the Operating Partnership and the General Partner to predict the
tax treatment of such MDAH Limited Partners resulting from the Merger. More
specifically, it is unclear how the MDAH Limited Partners should account for the
basis adjustments following the Merger. One possible approach might be to
continue to recognize as income each year the depreciation that would have been
foregone with respect to the MDAH Hotels by reason of the basis adjustment if
the Merger had not occurred. There can be no assurance, however, that this
method is the correct approach for dealing with the basis adjustments following
the Merger. It is important that each MDAH Limited Partner who elected to adjust
his basis in his Partnership Units in lieu of recognizing cancellation of
indebtedness income in 1993 consult with his personal tax adviser as to how to
deal with these
MDAH Supp-26
<PAGE>
basis adjustments following the Merger. If MDAH participates in the Merger, the
Operating Partnership will provide an annual report to the former MDAH Limited
Partners showing the proportionate share of depreciation from MDAH's depreciable
property that would have been reported to the MDAH Limited Partners by MDAH if
the Merger had not occurred.
Impact on Passive Activity Losses of an Investment in a Publicly Traded
-----------------------------------------------------------------------
Partnership. The passive loss limitation rules generally provide that
- -----------
individuals, estates, trusts and certain closely held corporations and personal
service corporations can only deduct losses from passive activities (generally
activities in which the taxpayer does not materially participate, which would
include the Operating Partnership for MDAH Limited Partners) to the extent that
such losses are not in excess of the taxpayer's income from passive activities
or investments. An MDAH Limited Partner would be able to offset losses from
other passive activities against income from the Operating Partnership that is
considered passive income (but not portfolio income) so long as the Operating
Partnership is not treated as a publicly traded partnership. The Operating
Partnership and the General Partner believe, however, that there is a
substantial risk that the Operating Partnership will be treated as a publicly
traded partnership for purposes of the passive loss limitation rules. In this
event, any losses or deductions of the Operating Partnership allocable to an
MDAH Limited Partner after the Merger could not be used to offset passive income
from other passive activities. Similarly, losses from other passive activities
(including losses attributable to MDAH for periods prior to the Merger) could
not be applied to offset income of the Operating Partnership allocated to an
MDAH Limited Partner. An MDAH Limited Partner, however, would be able to offset
any passive losses from his investment in MDAH (or other investments) against
any gain recognized by the MDAH Limited Partner as a result of the Merger. The
Operating Partnership and the General Partner estimate that, as of December 31,
1998, an MDAH Limited Partner who acquired his MDAH Partnership Units in the
original offering of such Partnership Units, has held those Partnership Units
continuously since that time, and whose Partnership Units have been his only
investment in a passive activity would have a passive activity loss carryforward
of approximately $214, on a per Partnership Unit basis, for an MDAH Limited
Partner whose MDAH Partnership Units were acquired for cash (approximately
$16,039 if such Limited Partner elected to reduce his basis in his MDAH
Partnership Units in lieu of recognizing cancellation of indebtedness income in
1993), and approximately, $23,173, on a per Partnership Unit basis, for an MDAH
Limited Partner whose MDAH Partnership Units were acquired pursuant to the
installment purchase plan (approximately $28,418 if such Limited Partner elected
to reduce his basis in his MDAH Partnership Units in lieu of recognizing
cancellation of indebtedness income in 1993).
State and Local Taxes. MDAH Limited Partners holding OP Units will be
---------------------
subject to state and local taxation in a number of jurisdictions in which the
Operating Partnership directly or indirectly holds real property and would be
required to file periodic tax returns in those jurisdictions. In this regard,
immediately following the Merger and the REIT Conversion, the Operating
Partnership expects that it will own properties in approximately 28 states
across the United States and in the District of Columbia. Currently, MDAH owns,
directly and indirectly, properties in only five states. See "Federal Income Tax
Considerations -- Tax Treatment of Limited Partners Who Hold OP Units Following
the Merger -- State and Local Taxes" in the Consent Solicitation.
Assumptions Used in Determining Tax Consequences of the Merger
In preparing the discussion set forth above, the Operating Partnership
and the General Partner made several key assumptions, which are described below.
If any such assumption is not accurate with respect to a particular MDAH Limited
Partner, the tax consequences of the Merger to such Limited Partner could be
substantially different from those reflected above. ACCORDINGLY, EACH MDAH
LIMITED PARTNER IS STRONGLY URGED TO CONSULT WITH HIS OWN TAX ADVISOR TO
DETERMINE THE IMPACT OF SUCH MDAH LIMITED PARTNER'S PARTICULAR TAX SITUATION ON
THE ANTICIPATED TAX CONSEQUENCES OF PARTICIPATING IN THE MERGER.
First, with respect to an MDAH Limited Partner's basis in his MDAH
Partnership Units prior to the Merger, the Operating Partnership and the General
Partner assumed that an MDAH Limited Partner acquired his MDAH Partnership Units
in the original offering of such Partnership Units and has held such Partnership
Units at all times since the offering (the "Original Limited Partner's Adjusted
Basis"). In general,
MDAH Supp-27
<PAGE>
each MDAH Limited Partner had an initial tax basis in his MDAH Partnership Units
("Initial Basis") equal to his cash investment in MDAH (plus his proportionate
share of MDAH's nonrecourse liabilities at the time he acquired his MDAH
Partnership Units). An MDAH Limited Partner's Initial Basis generally has been
increased by (a) such Limited Partner's share of MDAH taxable income and (b) any
increases in his share of the liabilities of MDAH. Generally, such Limited
Partner's Initial Basis has been decreased (but not below zero) by (i) his share
of MDAH cash distributions, (ii) any decreases in his share of the liabilities
of MDAH, (iii) his share of losses of MDAH and (iv) his share of nondeductable
expenditures of MDAH that are not chargeable to capital. Because "syndication
costs" are chargeable to capital and not deductible for tax purposes, an MDAH
Limited Partner's basis in his MDAH Partnership Units effectively would include
his share of the syndication costs incurred by MDAH at formation. If an MDAH
Limited Partner has an adjusted tax basis in his MDAH Partnership Units that is
less than the tax basis of an MDAH Limited Partner who acquired his MDAH
Partnership Units in the original offering of such Partnership Units and has
held such Partnership Units at all times since, the Merger might result in the
receipt by the MDAH Limited Partner of a deemed distribution of cash in excess
of his adjusted tax basis in his MDAH Partnership Units, which could (although
it is unlikely) result in the recognition of income or gain.
The General Partner has set forth on Appendix E to the Consent
Solicitation for MDAH (i) the Original Limited Partner's Adjusted Basis as of
December 31, 1997 for each such MDAH Limited Partner, and (ii) an estimate of
such MDAH Limited Partner's Original Limited Partner's Adjusted Basis as of
December 31, 1998 (computed without regard to the Merger and based upon the
assumptions set forth in Appendix C to the Consent Solicitation). The General
Partner also has set forth on Appendix E to the Consent Solicitation for each
MDAH Limited Partner whose adjusted basis in his MDAH Partnership Interest is
the same as the Original Limited Partner's Adjusted Basis (i) the MDAH
liabilities allocable to such MDAH Limited Partner as of December 31, 1997, and
(ii) an estimate of the MDAH liabilities allocable to such Limited Partner as of
December 31, 1998 (computed without regard to the Merger and based upon the
assumptions set forth in Appendix C to the Consent Solicitation). Each of
these estimates is shown separately for those MDAH Limited Partners who acquired
their Partnership Units at the time of the original offering pursuant to an
installment purchase plan and reflects any adjustments attributable to an MDAH
Limited Partner's election to reduce his basis in his MDAH Partnership Units in
lieu of recognizing cancellation of indebtedness income in 1993.
The adjusted tax basis of an MDAH Limited Partner who did not acquire
his MDAH Partnership Units in the original offering of such Partnership Units
could vary materially from that of an MDAH Limited Partner who did so for
various reasons. If an MDAH Limited Partner has an adjusted tax basis in his
MDAH Partnership Units that is less than the Original Limited Partner's Adjusted
Tax Basis, the Merger might result in the receipt by the MDAH Limited Partner of
a deemed distribution of cash in excess of his adjusted tax basis in his MDAH
Partnership Units, which could (although it is unlikely) result in the
recognition of income or gain.
Finally, the Operating Partnership and the General Partner assumed that
the Merger will be treated for federal income tax purposes as the transfer by
the MDAH Limited Partners of their interests in the Hotel Partnerships to the
Operating Partnership in exchange for OP Units. There can be no assurance,
however, that the IRS will not seek to recharacterize each Merger as either (i)
the liquidation of a Hotel Partnership followed by the distribution by the
Partnership of its assets to its partners and the subsequent transfers by such
partners of such assets to the Operating Partnership in exchange for OP Units
(and possibly Notes), or (ii) the transfer by a Partnership of its assets to
the Operating Partnership in exchange for OP Units (and possibly Notes) and the
subsequent distribution of such OP Units to its partners. If the Merger is
recharacterized in the manner described in (ii) in the preceeding sentence, the
tax consequences of the Merger to the MDAH Limited Partners likely would be
materially affected.
EACH MDAH LIMITED PARTNER IS STRONGLY URGED TO CONSULT WITH HIS OWN TAX
ADVISOR TO DETERMINE THE IMPACT OF SUCH MDAH LIMITED PARTNER'S PARTICULAR TAX
SITUATION ON THE ANTICIPATED TAX CONSEQUENCES OF PARTICIPATING IN THE MERGER.
THE TAX CONSEQUENCES OF PARTICIPATING IN THE MERGER TO A PARTICULAR MDAH LIMITED
PARTNER COULD VARY SUBSTANTIALLY FROM THE CONSEQUENCES DESCRIBED ABOVE.
MDAH Supp-28
<PAGE>
Tax Treatment of MDAH Limited Partners Who Exercise Their Right to Make
the Note Election.
An MDAH Limited Partner who exercises his right to make the Note
Election and receive a Note in connection with the Merger will be treated as
having made a taxable disposition of his OP Units. The amount realized in
connection with such disposition will equal the sum of the "issue price" of the
Note (i.e., the face amount of the Note, currently estimated as $98,343 per MDAH
Partnership Unit) plus the portion of the MDAH liabilities allocable to the MDAH
Limited Partner for federal income tax purposes immediately prior to the
disposition of the OP Units (estimated as $_______ per MDAH Partnership Unit as
of December 31, 1998). To the extent the amount realized exceeds the MDAH
Limited Partner's adjusted basis in his MDAH Partnership Units, the MDAH Limited
Partner will recognize gain. The Operating Partnership and the General Partner
estimate (assuming the MDAH Limited Partner acquired his MDAH Partnership Units
at the time of the original offering and has held such Partnership Units at all
times since the offering) that the amount of gain that would be recognized by an
MDAH Limited Partner who made the Note Election would be approximately $______
per MDAH Partnership Unit, as of December 31, 1998, if such Partnership Unit was
acquired for cash ($____ if such Limited Partner elected to reduce his basis in
his MDAH Partnership Units in lieu of recognizing cancellation of indebtedness
income in 1993), and $____ per MDAH Partnership Unit if such Partnership Unit
was acquired pursuant to an installment purchase plan ($____ if such Limited
Partner elected to reduce his basis in his MDAH Partnership Units in lieu of
recognizing cancellation of indebtedness income in 1993). For a discussion of
the federal income tax rates applicable to the net capital gain from the sale of
a capital asset, see "Federal Income Tax Considerations -- Tax Treatment of
Limited Partners Who Hold OP Units Following the Merger -- Disposition of OP
Units by Limited Partners" in the Consent Solicitation. In this regard, the
General Partner estimates that, as of December 31, 1998, if MDAH sold all of its
Hotels in a fully taxable transaction for a net amount, after payment of
liabilities, equal to the Note Election Amount of MDAH, the "unrecognized
Section 1250 gain" per MDAH Partnership Unit would be $____ if such Partnership
Unit was acquired for cash ($____ if such Limited Partner elected to reduce his
basis in his MDAH Partnership Units in lieu of recognizing cancellation of
indebtedness income in 1993), and $____ per MDAH Partnership Unit if such
Partnership Unit was acquired pursuant to an installment purchase plan ($____ if
such Limited Partner elected to reduce his basis in his MDAH Partnership Units
in lieu of recognizing cancellation of indebtedness income in 1993) and the gain
subject to tax as ordinary income under Code Section 1245 per MDAH Partnership
Unit would be $____ if such Partnership Unit was acquired for cash ($____ if
such Limited Partner elected to reduce his basis in his MDAH Partnership Units
in lieu of recognizing cancellation of indebtedness income in 1993), and $___
per MDAH Partnership Unit if such Partnership Unit was acquired pursuant to an
installment purchase plan ($____ if such Limited Partner elected to reduce his
basis in his MDAH Partnership Units in lieu of recognizing cancellation of
indebtedness income in 1993). An MDAH Limited Partner who makes the Note
Election would be able to treat any per Partnership Unit passive activity loss
carryforward with respect to the activities of MDAH, to the extent the sum of
such losses exceeds his passive activity income for 1998, as losses that are not
from a passive activity and, therefore, not subject to the passive activity loss
limitation rules. For purposes of determining the gain recognized by a Limited
Partner as a result of making the Note Election, an Original Limited Partner's
Adjusted Basis will reflect such Limited Partner's share of the syndication
costs incurred by his Partnership at formation.
An MDAH Limited Partner who elects to receive a Note may be eligible to
defer at least a portion of that gain under the "installment sale" rules. Those
rules, however, will not permit the MDAH Limited Partner to defer all of the
gain, and, to the extent that the face amount of the Note (and any other
installment obligations received by the taxpayer during the year) outstanding at
the end of the taxable year in which the Merger occur exceeds $5,000,000, will
require that the MDAH Limited Partner who defers gain pay to the IRS interest on
the resulting tax that has been deferred. The MDAH Limited Partner will not be
eligible to defer gain recognized upon the receipt of the Note to the extent
that his share of MDAH liabilities at the time of the Merger exceeds his
adjusted tax basis in his MDAH Partnership Units immediately prior to the Merger
(that is, to the extent that he has a "negative capital account" for tax
purposes). In addition, the MDAH Limited Partner will not be eligible to defer
gain to the extent that such gain would be taxed as ordinary income under
Sections 1245 and 1250 of the Code. Lastly, if an MDAH Limited Partner disposes
of his Note, any gain that had been deferred would be recognized in the year of
disposition.
THE SPECIFIC TAX ATTRIBUTES OF A PARTICULAR MDAH LIMITED PARTNER COULD
HAVE A MATERIAL IMPACT ON THE TAX CONSEQUENCES OF THE MERGER, AND THE SUBSEQUENT
OWNERSHIP AND DISPOSITION OF NOTES. THEREFORE, IT IS ESSENTIAL THAT MDAH LIMITED
MDAH Supp-29
<PAGE>
PARTNERS CONSIDERING ELECTING TO RECEIVE NOTES CONSULT WITH THEIR OWN TAX
ADVISORS WITH REGARD TO THE APPLICATION OF THE FEDERAL INCOME TAX LAWS TO SUCH
MDAH LIMITED PARTNERS' RESPECTIVE PERSONAL TAX SITUATIONS, AS WELL AS ANY TAX
CONSEQUENCES ARISING UNDER THE LAWS OF ANY STATE, LOCAL, OR FOREIGN TAXING
JURISDICTION.
Tax Consequences if MDAH Does Not Participate in the Merger
If MDAH does not participate in the Merger, the MDAH Limited Partners
would not have any tax consequences resulting from the Merger. The consequences
of continued ownership of MDAH Partnership Units will be the same as would have
resulted if the Merger had not been proposed.
* * *
The above description is not exhaustive of all possible tax
considerations associated with the Merger and the REIT Conversion. This summary
does not discuss foreign tax considerations, nor does it discuss all of the
aspects of federal income taxation or state and local taxation that may be
relevant to MDAH Limited Partners in light of their particular circumstances.
EACH MDAH LIMITED PARTNER IS STRONGLY URGED TO CONSULT WITH HIS OWN TAX ADVISOR
TO DETERMINE THE IMPACT OF SUCH MDAH LIMITED PARTNER'S PARTICULAR TAX SITUATION
ON THE ANTICIPATED TAX CONSEQUENCES OF PARTICIPATING IN THE MERGER.
MDAH Supp-30
<PAGE>
SELECTED FINANCIAL DATA
The following table presents selected historical financial data derived
from the audited financial statements for the five most recent fiscal years in
the period ended December 31, 1997, the unaudited condensed financial statements
for the First Quarter 1998 and the First Quarter 1997. The following data should
be read in conjunction with audited financial statements and the notes thereto,
Management's Discussion and Analysis of Financial Condition and Results of
Operations and the other financial information included elsewhere herein.
<TABLE>
<CAPTION>
First Quarter Fiscal Year
------------------ ------------------------------------------------------
1998 1997 1997 1996 1995 1994 1993
------ ------ ------ ------ ------ ------ ------
(unaudited) (amounts in thousands, except per Partnership Unit)/(1)/
<S> <C> <C> <C> <C> <C> <C> <C>
Revenues.............................. $ 6,877 $ 5,524 $ 26,699 $ 22,374 $ 19,715 $17,020 $ 15,148
Operating profit 4,262 3,000 15,433 12,125 10,039 5,658 3,335
Income (loss) before
extraordinary item(2)............. 2,484 863 6,986 3,418 393 (1,982) 158
Net income (loss) 2,484 863 6,986 3,418 393 (1,982) 4,152
Distributions:
General partner................... -- -- 14 19 18 15 --
Limited partners.................. -- -- 1,368 1,894 1,855 1,419 --
------------------------------------------------------------------------------------
Total................................. -- -- 1,482 1,913 1,873 1,434 --
Per Partnership Unit(1):
Net income (loss)................. 5,940 2,063 16,705 8,174 940 (4,739) 9,928
Distributions..................... -- -- 3,304 4,575 4,481 3,428 --
EBITDA(3) (unaudited)................. 5,787 4,458 22,328 18,579 16,020 12,497 13,805
Cash provided by operating activities. 2,646 2,027 15,597 11,041 6,990 5,957 --
Cash used in investing activities..... (660) (403) (3,133) (2,752) (1,686) (1,694) (504)
Cash used in financing activities..... (2,024) (1,414) (14,089) (8,537) (4,898) (4,027) (4,110)
Increase (decrease) in cash
and cash equivalents.............. (38) 210 (1,625) (248) 406 236 (4,614)
Ratio of earnings to fixed charges(4)
(unaudited)....................... 2.28x 1.40x 1.78x 1.37x 1.04x -- 1.00x
Deficiency of earnings to
fixed charges(4) (unaudited)...... -- -- -- -- -- 1,982 --
Total assets at book value............ 132,338 130,796 129,831 129,918 130,360 133,073 137,310
Cash and cash equivalents............. 1,099 2,972 1,137 2,762 3,010 2,604 2,368
Total debt(5)......................... 137,412 144,151 137,643 144,374 147,052 150,350 152,489
Total liabilities.................... 146,333 152,016 146,310 152,001 153,948 155,181 156,032
Partner's capital (deficit):
Limited partners.................. (13,906) (21,058) (16,365) (21,913) (23,403) (21,937) (18,586)
General partner................... (89) (162) (114) (170) (185) (171) (136)
Book value per Partnership
Unit (unaudited)(1)............... (33,589) (50,867) (39,529) (52,930) (56,529) (52,988) (44,894)
Exchange value per Partnership
Unit (unaudited)(1)............... 109,216 -- -- -- -- -- --
</TABLE>
(1) A Partnership Unit represents a $100,000 original investment in MDAH.
(2) In 1993, the Partnership recorded an extraordinary gain of $3,994,000 for
the forgiveness of accrued incentive management fees in conjunction with
the refinancing of certain debt.
(3) EBITDA consists of the sum of net income, interest expense, depreciation
and amortization. EBITDA data is presented because such data is used by
certain investors to determine the Partnership's ability to meet debt
service requirements. The Partnership considers EBITDA to be an indicative
measure of the Partnership's operating performance due to the significance
of the Partnership's long-lived assets and because of EBITDA can be used
to measure the Partnership's ability to service debt, fund capital
expenditures and expand its business; however, such information should not
be considered as an alternative to net income, operating profit, cash
flows from operations, or any other operating or liquidity performance
measure prescribed by generally accepted accounting principles. Cash
expenditures for various long-term assets and interest expense have been,
and will be, incurred which are not reflected in the EBITDA presentations.
(4) The ratio of earnings to fixed charges is computed by dividing net income
before interest expense and other fixed charges by total fixed charges,
including interest expense, amortization of debt issuance costs and the
portion of rent expense that is deemed to represent interest. Interest
expense in 1993 includes a reduction of $2,884,000 related to the revision
of estimated 1992 interest rate swap termination costs in 1992. The
deficiency of earnings to fixed charges is largely the result of
depreciation and amortization of $6,548,000 in 1994.
(5) Total debt amounts includes amounts due to Host Marriott under Debt
Service guarantees, Notes Payable and Deferred Purchase Debt of
$15,629,000 as of March 27, 1998, March 28, 1997 and December 31, 1997 and
1996, $15,106,000 as of December 31, 1995 and $15,706,000 as of December
31, 1994 and 1993.
MDAH Supp-31
<PAGE>
Management's Discussion and Analysis of Financial Condition and Results of
Operations
Results of Operations
First Quarter 1998 Compared to First Quarter 1997
Revenues. Revenues increased $1.4 million, or 25%, to $6.8 million for
the First Quarter 1998 when compared to the First Quarter 1997, primarily due to
a 14% increase in REVPAR. The increase in REVPAR resulted from a 13% increase in
the combined average room rate to approximately $114 coupled with a slight
increase in the combined average occupancy to 76%.
Operating Costs and Expenses. Operating costs and expenses increased
slightly by $91,000 to $2.6 million in the first quarter of 1998. As a
percentage of Hotel revenues, Hotel operating costs and expenses represented 38%
of revenues for the First Quarter 1998 and 46% for the First Quarter 1997.
Operating Profit. As a result of the increased revenues, operating
profit increased $1.3 million to $4.3 million in the First Quarter 1998 as
compared to the First Quarter 1997.
Interest Expense. Interest expense decreased $245,000 to $1.9 million
in the First Quarter 1998 from $2.2 million in the First Quarter 1997 primarily
due to principal amortization.
Net Income. Net income increased $1.6 million to $2.5 million for the
First Quarter 1998 as compared to the First Quarter 1997 due to the items
discussed above.
1997 Compared to 1996
Revenues. Revenues increased $4.3 million, or 19% in 1997 to $26.7
million in 1997 as a result of strong growth in REVPAR of 13%. Hotel sales
increased $5.8 million, or 8%, to $75.3 million in 1997 also reflecting
improvements in REVPAR for the year. The increase in REVPAR was the result of an
increase in average room rates of 10% coupled with a 1.8 percentage point
increase in average occupancy.
Operating Costs and Expenses. Operating costs and expenses increased
$1.0 million to $11.3 million in 1997 from $10.2 million in 1996. As a
percentage of Hotel revenues, Hotel operating costs and expenses represented 42%
of revenues for 1997 and 46% in 1996.
Operating Profit. As a result of the changes in revenues and operating
costs and expenses discussed above, operating profit increased $3.3 million to
$15.4 million, or 58% of total revenues in 1997 from $12.1 million, or 54% of
revenues in 1996.
Interest Expense. Interest expense decreased $200,000 to $8.9 million
in 1997 from $9.1 million in 1996.
Net Income. Net income increased $3.6 million to $7.0 million in 1997,
due to the items discussed above.
1996 Compared to 1995
Revenues. Revenues increased $2.7 million, or 13%, to $22.4 million in
1996 from $19.7 million in 1995 as a result of strong growth in REVPAR of 6%.
The increase in REVPAR was primarily the result of a 8% increase in average room
rates offset by a 1.5 percentage point decrease in average occupancy.
Operating Costs and Expenses. Operating costs and expenses increased
$600,000 to $10.2 million, or 46% of Hotel revenues, in 1996 from $9.7 million,
or 49% of Hotel revenues, in 1995.
MDAH Supp-32
<PAGE>
Operating Profit. Operating profit increased $2.1 million to $12.1
million, or 54% of Hotel revenues, in 1996 from $10.0 million, or 51% of Hotel
revenues, in 1995 due to the changes in Hotel revenues and Hotel operating costs
discussed above.
Interest Expense. Interest expense decreased $1.0 million to $9.1
million in 1996. This decrease can be attributed to a decline in interest rates,
as well as a lower outstanding principal balance due to principal amortization
on the Mortgage Debt.
Net Income. Net income increased to $3.4 million in 1996, from
$393,000 in 1995 due to the items discussed above.
Capital Resources and Liquidity
The Partnership's financing needs have been historically funded through
loan agreements with independent financial institutions. The General Partner
believes that the Partnership will have sufficient capital resources and
liquidity to conduct its operations in the ordinary course of business.
The Partnership is required to maintain the Hotels in good condition.
The hotel management agreement provides for the establishment of a property
improvement fund for each Hotel. Contributions to the property improvement fund
are equal to a percentage of gross Hotel sales. Contributions to the fund for
the Fairview Park, Southfield, Livonia and Fullerton Hotels were 3% for the
years 1995 through 1999 and 4% for the year 2000 and thereafter. The Dayton
Hotel will contribute 4% annually. Annual contributions at the Research Triangle
Park Hotel were 3% through 1997 and will be 4% in 1998 and thereafter.
Contributions to the property improvement fund amounted to $2,442,000,
$2,258,000, $2,104,000, $619,000 and $523,000 for the years ended December 31,
1997, 1996 and 1995, First Quarter 1998 and First Quarter 1997 respectively.
For 1997, the Partnership paid a base management fee equal to 3% of
gross sales. No incentive management fees will be accrued by the Partnership or
be considered earned by the manager until the entire mortgage principal balance,
together with accrued interest, is paid in full. No incentive management fees
have been earned by or paid to MHSI since the inception of the Partnership.
Principal Sources and Uses of Cash
The Partnership's principal source of cash is from Hotel operations.
Its principal uses of cash are to pay debt service, fund the property
improvement fund and, until September 1996, make distributions to partners. Cash
provided by operations was $15.6 million, $11.0 million and $7.0 million for the
years ended December 31, 1997, 1996 and 1995, respectively and $2.6 million and
$2.0 million for the First Quarter 1998 and the First Quarter 1997,
respectively. The increase is primarily due to improved Hotel operations.
Cash used in investing activities was $3.1 million, $2.8 million and
$1.7 million in 1997, 1996 and 1995, respectively. The Partnership's cash
investing activities consist primarily of contributions to the property
improvement fund and capital expenditures for improvements to existing hotels.
Contributions to the property improvement fund amounted to $2,442,000,
$2,558,000 and $2,104,000 for the years ended December 31, 1997, 1996 and 1995,
respectively. Cash used in investing activities for the First Quarter 1998 and
the First Quarter 1997 was $660,000 and $403,000, respectively. Contributions to
the property improvement fund were $617,000 and $523,000 for the twelve weeks
ended March 27, 1998 and March 28, 1997.
Cash used in financing activities was $14.1 million, $8.5 million and
$4.9 million in 1997, 1996 and 1995, respectively. The Partnership's cash
financing activities consist primarily of capital distributions to partners and
payments of the mortgage debt. The increase in cash used in financing activities
in 1997 is primarily due to the increased principal amortization in 1997 as
compared to 1996 and 1995 as required under the loan agreement. For the First
Quarter 1998 and the First Quarter 1997, cash used in financing activities was
$2.0 million and $1.4 million, respectively. The increase in cash used during
the First Quarter 1998 compared to the First Quarter 1997 is due to increased
principal amortization in 1998.
MDAH Supp-33
<PAGE>
FINANCIAL STATEMENTS
MDAH Supp-34
<PAGE>
Report of Independent Public Accountants
TO THE PARTNERS OF MARRIOTT DIVERSIFIED AMERICAN HOTELS, L.P.:
We have audited the accompanying balance sheet of Marriott Diversified American
Hotels, L.P. (a Delaware limited partnership) as of December 31, 1997 and 1996,
and the related statements of operations, changes in partners' deficit and cash
flows for each of the three years in the period ended December 31, 1997. These
financial statements are the responsibility of the General Partner'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 an 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, the financial statements referred to above present fairly, in
all material respects, the financial position of Marriott Diversified American
Hotels, L.P. as of December 31, 1997 and 1996, and the results of its operations
and its cash flows for each of the three years in the period ended December 31,
1997 in conformity with generally accepted accounting principles.
ARTHUR ANDERSEN LLP
Washington, D.C.
April 8, 1998
MDAH Supp-35
<PAGE>
Marriott Diversified American Hotels, L.P.
Balance Sheets
December 31, 1997 and 1996
(in thousands)
<TABLE>
<CAPTION>
1997 1996
------------ ------------
<S> <C> <C>
ASSETS
Property and equipment, net.................................................. $ 108,153 $ 111,278
Mortgage escrow.............................................................. 11,624 5,710
Due from Marriott Hotel Services, Inc........................................ 3,714 4,571
Debt service reserve fund.................................................... 3,000 3,000
Property improvement fund.................................................... 1,667 1,781
Deferred financing costs, net................................................ 536 816
Cash and cash equivalents.................................................... 1,137 2,762
------------ ------------
Total Assets........................................................... $ 129,831 $ 129,918
============ ============
LIABILITIES AND PARTNERS' DEFICIT
LIABILITIES
Mortgage debt............................................................. $ 122,014 $ 128,745
Debt service guarantee and related interest payable to
Host Marriott Corporation.............................................. 19,762 18,600
Note payable and related interest due to the General Partner.............. 2,804 2,615
Deferred purchase debt and related interest payable to
Host Marriott Corporation.............................................. 676 675
Accounts payable and accrued expenses..................................... 1,054 1,366
------------ ------------
Total Liabilities...................................................... 146,310 152,001
------------ ------------
Partners' Deficit
General Partner
Capital contribution, net of offering costs of $15..................... 403 403
Capital distributions.................................................. (98) (84)
Cumulative net losses.................................................. (419) (489)
------------ ------------
(114) (170)
------------ ------------
Limited Partners
Capital contributions, net of offering costs of $4,785................. 35,830 35,830
Investor notes receivable.............................................. (966) (966)
Capital distributions.................................................. (9,738) (8,370)
Cumulative net losses.................................................. (41,491) (48,407)
------------ ------------
(16,365) (21,913)
------------ ------------
Total Partners' Deficit................................................ (16,479) (22,083)
------------ ------------
$ 129,831 $ 129,918
============ ============
</TABLE>
See Notes to Financial Statements.
MDAH Supp-36
<PAGE>
Marriott Diversified American Hotels, L.P.
Statements of Operations
For the Years Ended December 31, 1997, 1996 and 1995
(in thousands, except per Unit amounts)
<TABLE>
<CAPTION>
1997 1996 1995
------------ ------------ ------------
<S> <C> <C> <C>
REVENUES
Hotel Revenues (Note 3).................................. $ 26,699 $ 22,374 $ 19,715
------------ ------------ ------------
OPERATING COSTS AND EXPENSES
Depreciation and amortization............................ 6,398 6,032 5,534
Base management fee due to Marriott
Hotel Services, Inc.................................. 2,260 2,086 1,944
Property taxes and other................................. 2,608 2,131 2,198
------------ ------------ ------------
11,266 10,249 9,676
------------ ------------ ------------
OPERATING PROFIT .......................................... 15,433 12,125 10,039
Interest expense......................................... (8,944) (9,129) (10,093)
Interest income.......................................... 497 422 447
------------ ------------ ------------
NET INCOME.................................................. $ 6,986 $ 3,418 $ 393
============ ============ ============
ALLOCATION OF NET INCOME
General Partner.......................................... $ 70 $ 34 $ 4
Limited Partners......................................... 6,916 3,384 389
------------ ------------ ------------
$ 6,986 $ 3,418 $ 393
============ ============ ============
NET INCOME PER LIMITED PARTNER UNIT
(414 UNITS).............................................. $ 16,705 $ 8,174 $ 940
============ ============ ============
</TABLE>
See Notes to Financial Statements.
MDAH Supp-37
<PAGE>
Marriott Diversified American Hotels, L.P.
Statements of Changes in Partners' Deficit
For the Years Ended December 31, 1997, 1996 and 1995
(in thousands)
<TABLE>
<CAPTION>
General Limited
Partner Partners Total
------------- ------------- -------------
<S> <C> <C> <C>
Balance, December 31, 1994......................................... $ (171) $ (21,937) $ (22,108)
Capital distributions......................................... (18) (1,855) (1,873)
Net income ................................................... 4 389 393
------------- ------------- -------------
Balance, December 31, 1995......................................... (185) (23,403) (23,588)
Capital distributions......................................... (19) (1,894) (1,913)
Net income ................................................... 34 3,384 3,418
------------- ------------- -------------
Balance, December 31, 1996......................................... (170) (21,913) (22,083)
Capital distributions......................................... (14) (1,368) (1,382)
Net income ................................................... 70 6,916 6,986
------------- ------------- -------------
Balance, December 31, 1997......................................... $ (114) $ (16,365) $ (16,479)
============= ============= =============
</TABLE>
See Notes to Financial Statements.
MDAH Supp-38
<PAGE>
Marriott Diversified American Hotels, L.P.
Statements of Cash Flows
For the Years Ended December 31, 1997, 1996 and 1995
(in thousands)
<TABLE>
<CAPTION>
1997 1996 1995
-------- -------- --------
<S> <C> <C> <C>
OPERATING ACTIVITIES
Net income............................................................... $ 6,986 $ 3,418 $ 393
Noncash items:
Depreciation and amortization.......................................... 6,398 6,032 5,534
Deferred interest...................................................... 1,414 1,375 1,414
Amortization of deferred financing costs as interest expense........... 280 279 278
Loss on retirement of property and equipment........................... 15 12 73
Changes in operating accounts:
Due to/from Marriott Hotel Services, Inc............................... 816 (730) (153)
Accounts payable and accrued expenses.................................. (312) 55 104
Due to/from Host Marriott Corporation.................................. -- 600 (653)
-------- -------- --------
Cash provided by operations............................................ 15,597 11,041 6,990
-------- -------- --------
INVESTING ACTIVITIES
Additions to property and equipment...................................... (3,288) (3,588) (2,895)
Change in property improvement fund, net................................. 114 786 609
Return of working capital from Marriott Hotel Services, Inc.............. 41 50 600
-------- -------- --------
Cash used in investing activities...................................... (3,133) (2,752) (1,686)
-------- -------- --------
FINANCING ACTIVITIES
Payment of mortgage debt................................................. (6,731) (3,201) (2,698)
Mortgage escrow.......................................................... (5,914) (3,341) (326)
Capital distributions to partners........................................ (1,382) (1,913) (1,873)
Repayment of deferred purchase debt due to Host
Marriott Corporation................................................... (62) (82) --
Deferred financing costs................................................. -- -- (1)
-------- -------- --------
Cash used in financing activities...................................... (14,089) (8,537) (4,898)
-------- -------- --------
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS............................ (1,625) (248) 406
CASH AND CASH EQUIVALENTS at beginning of year.............................. 2,762 3,010 2,604
-------- -------- --------
CASH AND CASH EQUIVALENTS at end of year.................................... $ 1,137 $ 2,762 $ 3,010
======== ======== ========
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
Cash paid for interest:
Mortgage debt.......................................................... $ 7,373 $ 7,491 $ 8,362
Deferred purchase debt due to Host Marriott Corporation................ 62 10 81
-------- -------- --------
$ 7,435 $ 7,501 $ 8,443
======== ======== ========
</TABLE>
See Notes to Financial Statements.
MDAH Supp-39
<PAGE>
Marriott Diversified American Hotels, L.P.
Notes to Financial Statements
December 31, 1997 and 1996
NOTE 1. THE PARTNERSHIP
Description of the Partnership
Marriott Diversified American Hotels, L.P. (the "Partnership"), a Delaware
limited partnership, was formed on October 4, 1989 to acquire, own and operate
the following hotels (the "Hotels") which are managed as part of the Marriott
full-service hotel system by Marriott Hotel Services, Inc. ("MHSI"), a
wholly-owned subsidiary of Marriott International, Inc. ("Marriott
International"): (i) the 395-room Fairview Park Marriott in Virginia; (ii) the
399-room Dayton Marriott in Ohio; (iii) the 224-room Marriott at Research
Triangle Park in North Carolina; (iv) the 226-room Detroit Marriott Southfield
in Michigan; (v) the 224-room Detroit Marriott Livonia in Michigan; and (vi) the
224-room Fullerton Marriott in California. The sole general partner of the
Partnership, with a 1% interest, is Marriott MDAH One Corporation (the "General
Partner"), a wholly-owned subsidiary of Host Marriott Corporation ("Host
Marriott").
Partnership operations commenced on February 8, 1990 (the "Initial Closing
Date"). Between November 14, 1989 and the Initial Closing Date, 381 limited
partnership interests (the "Units") were sold pursuant to a private placement
offering. Between the Initial Closing Date and April 23, 1990 (the "Final
Closing Date"), the offering was completed with the sale of 33 additional Units.
The offering price per Unit was $100,000; $15,000 payable at subscription with
the balance due in three annual installments through June 20, 1992, or,
alternatively, $88,396 in cash at closing as full payment of the subscription
price. As of the Final Closing Date, 348.5 Units were purchased on the
installment basis, and 65.5 Units were paid in full. The limited partners'
obligation to make the installment payments is evidenced by promissory notes
(the "Investor Notes") payable to the Partnership and secured by the Units. The
General Partner contributed $418,182 in cash on the Initial Closing Date for its
1% general partnership interest.
On the Initial Closing Date, the Partnership executed a purchase agreement with
Host Marriott and certain of its affiliates to acquire the Hotels and the
Hotels' working capital and supplies for $157 million. Of the total purchase
price, $131.4 million was paid in cash from the proceeds of mortgage financing
and the initial installment on the sale of the Units with the remaining $25.6
million evidenced by a promissory note (the "Deferred Purchase Debt") payable to
Host Marriott.
Partnership Allocations and Distributions
Pursuant to the terms of the partnership agreement, Partnership allocations, for
Federal income tax purposes, and distributions are generally made as follows:
a. Cash available for distribution will generally be distributed (i) first,
1% to the General Partner and 99% to the limited partners, until the
partners have received, with respect to such year, an amount equal to 10%
of contributed capital, as defined; (ii) second, remaining cash available
for distribution will be distributed as follows, depending on the amount
of cumulative distributions of net refinancing and/or sales proceeds
("Capital Receipts") previously distributed:
(1) 1% to the General Partner and 99% to the limited partners, if the
partners have received aggregate cumulative distributions of Capital
Receipts of less than 50% of their original capital contributions;
or
(2) 10% to the General Partner and 90% to the limited partners, if the
partners have received aggregate cumulative distributions of Capital
Receipts equal to or greater than 50% but less than 100% of their
original capital contributions; or
MDAH Supp-40
<PAGE>
(3) 20% to the General Partner and 80% to the limited partners, if the
partners have received aggregate cumulative distributions of Capital
Receipts equal to 100% or more of their original capital
contributions.
b. Capital Receipts not retained by the Partnership will be distributed (i)
first, 1% to the General Partner and 99% to the limited partners until the
partners have received an amount equal to the unpaid portion of a
cumulative 15% return on Net Invested Capital, defined as the excess of
capital contributions over cumulative distributions of Capital Receipts,
plus contributed capital, as defined; and (ii) thereafter, 20% to the
General Partner and 80% to the limited partners.
c. Proceeds from the sale of substantially all of the assets of the
Partnership will be distributed to the partners in accordance with their
capital account balances as adjusted to take into account gain or loss
resulting from such sale.
d. Net profits will generally be allocated to the partners in proportion to
the distributions of cash available for distribution.
e. Net losses will be allocated 75% to the General Partner and 25% to the
limited partners.
f. Deductions for interest on the Deferred Purchase Debt (see Note 6), which
cumulatively will not exceed $11,604 per Unit, will be allocated to those
limited partners owning the Units purchased on the installment basis.
g. Gain recognized by the Partnership will be allocated as follows: (i)
first, to all partners whose capital accounts have negative balances until
such balances are brought to zero; (ii) next, to all partners in amounts
necessary to bring their respective capital account balances to an amount
equal to their Net Invested Capital plus a cumulative 15% return on Net
Invested Capital; and (iii) thereafter, 20% to the General Partner and 80%
to the limited partners.
h. Losses will generally be allocated as follows: (i) first, to all partners
whose capital accounts have positive balances until such balances have
been eliminated; and (ii) thereafter, 100% to the General Partner.
For financial reporting purposes, profits and losses are allocated among the
partners based upon their stated interests in cash available for distribution.
NOTE 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Accounting
The Partnership's records are maintained on the accrual basis of accounting, and
its fiscal year coincides with the calendar year.
Restricted Cash
In connection with the June 30, 1993 refinancing of the mortgage debt, a debt
service reserve in the amount of $3.0 million was required to be held by the
lender. In addition, the loan agreement requires that to the extent that there
was cash available after payment of principal and interest on Note A and
interest on Note B, then such remaining cash was split 50% to the Partnership
and 50% to the Mortgage Escrow. The Mortgage Escrow was applied annually 50% to
the payment of additional principal on Note A, and 50% to the principal on Note
B, until the Partnership received a cumulative amount equal to $7,352,000. The
Partnership reached this cumulative amount in September 1996. Thereafter, 100%
of remaining cash flow is reserved in the Mortgage Escrow and applied annually
25% to Note A and 75% to Note B. At December 31, 1997, the balance of the
Mortgage Escrow was $11.6 million. This amount will be applied toward principal
amortization in 1998.
MDAH Supp-41
<PAGE>
Use of 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.
Revenues and Expenses
Revenues represent house profit of the Hotels since the Partnership has
delegated substantially all of the operating decisions related to the generation
of house profit from the Hotels to MHSI. House profit reflects Hotel operating
results which flow to the Partnership as property owner and represents gross
Hotel sales less property-level expenses, excluding depreciation and
amortization, base management fees, real and personal property taxes, ground and
equipment rent, insurance and certain other costs, which are disclosed in the
statement of operations (see Note 3).
On November 20, 1997, the Emerging Issues Task Force ("EITF") of the Financial
Accounting Standards Board reached a consensus on EITF 97-2, "Application of
FASB Statement No. 94 and APB Opinion No. 16 to Physician Practice Management
Entities and Certain Other Entities with Contractual Management Arrangements."
EITF 97-2 addresses the circumstances in which a management entity may include
the revenues and expenses of a managed entity in its financial statements.
The Partnership is assessing the impact of EITF 97-2 on its policy of excluding
the property-level revenues and operating expenses of its hotels from its
statements of operations.
Property and Equipment
Property and equipment is recorded at cost. Depreciation and amortization are
computed using the straight-line method over the estimated useful lives of the
assets as follows:
Land improvements 40 years
Buildings and improvements 40 years
Leasehold improvements 40 years
Furniture and equipment 4 to 10 years
All property and equipment is pledged as security for the mortgage debt
described in Note 6.
The Partnership assesses impairment of its real estate properties based on
whether estimated undiscounted future cash flows from such properties on an
individual hotel basis will be less than their net book value. If the property
is impaired, its basis is adjusted to fair market value.
Deferred Financing and Organization Costs
Deferred financing costs represent the costs incurred in connection with
obtaining the Mortgage Debt and are being amortized over the term thereof.
Organization costs incurred in the formation of the Partnership were amortized
on a straight-line basis over five years. Organization costs were fully
amortized and removed from the Partnership's accounts as of December 31, 1995.
As of December 31, 1997 and 1996, accumulated amortization of deferred financing
costs totaled $1,995,000 and $1,715,000, respectively.
Cash and Cash Equivalents
The Partnership considers all highly liquid investments with a maturity of less
than three months at date of purchase to be cash equivalents.
MDAH Supp-42
<PAGE>
Income Taxes
Provision for Federal and state income taxes has not been made in the
accompanying financial statements since the Partnership does not pay income
taxes but rather allocates its profits and losses to the individual partners.
Significant differences exist between the net income (loss) for financial
reporting purposes and the net income (loss) reported in the Partnership's tax
return. These differences are primarily due to the use, for income tax purposes,
of accelerated depreciation methods and shorter depreciable lives of the assets.
As a result of these differences, the excess of the tax basis in net Partnership
liabilities over the net liabilities reported in the accompanying financial
statements is $3,462,000 and $5,650,000 as of December 31, 1997 and 1996,
respectively.
Statement of Financial Accounting Standards
In the first quarter of 1996, the Partnership adopted Statement of Financial
Accounting Standards ("SFAS") No. 121 "Accounting for the Impairment of
Long-Lived Assets and for Long-Lived Assets to Be Disposed Of." Adoption of SFAS
No. 121 did not have an effect on the financial statements.
Reclassification
Certain prior year amounts have been reclassified to conform with the current
year presentation.
NOTE 3. HOTEL REVENUES
Hotel Revenues consist of Hotel operating results for the three years ended
December 31, (in thousands):
<TABLE>
<CAPTION>
1997 1996 1995
------ --------- ---------
<S> <C> <C> <C>
HOTEL SALES
Rooms...........................................$ 48,427 $ 43,621 $ 40,201
Food and beverage............................... 22,900 22,058 20,716
Other........................................... 3,994 3,864 3,876
--------- --------- ---------
75,321 69,543 64,793
--------- --------- ---------
HOTEL EXPENSES
Departmental direct costs
Rooms........................................ 12,063 11,333 10,638
Food and beverage............................ 17,464 17,172 16,439
Other hotel operating expenses.................. 19,095 18,664 18,001
--------- --------- ---------
48,622 47,169 45,078
--------- --------- ---------
HOTEL REVENUES......................................$ 26,699 $ 22,374 $ 19,715
========= ========= =========
</TABLE>
NOTE 4. PROPERTY AND EQUIPMENT
Property and equipment consists of the following as of December 31 (in
thousands):
<TABLE>
<CAPTION>
1997 1996
--------- ---------
<S> <C> <C>
Land and improvements............................................$ 14,265 $ 14,265
Buildings and improvements....................................... 95,477 94,368
Leasehold improvements........................................... 15,717 15,173
Furniture and equipment.......................................... 29,255 27,832
--------- ---------
154,714 151,638
Less accumulated depreciation.................................... (46,561) (40,360)
--------- ---------
$ 108,153 $ 111,278
========= =========
</TABLE>
MDAH Supp-43
<PAGE>
NOTE 5. ESTIMATED FAIR VALUE OF FINANCIAL INSTRUMENTS
The estimated fair values of financial instruments are shown below. The fair
values of financial instruments not included in this table are estimated to be
equal to their carrying amounts (in thousands):
<TABLE>
<CAPTION>
As of December 31, 1997 As of December 31, 1996
----------------------- -----------------------
Estimated Estimated
Carrying Fair Carrying Fair
Amount Value Amount Value
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Mortgage debt..............................................$ 122,014 $ 113,300 $ 128,745 $ 117,231
Debt service guarantee and related interest
payable to Host Marriott Corporation.................... 19,762 17,600 18,600 7,800
Note payable and related interest due to
the General Partner..................................... 2,804 800 2,615 743
Deferred purchase debt and related interest payable to
Host Marriott Corporation............................... 676 450 675 384
</TABLE>
The estimated fair value of mortgage debt obligations is based on the expected
future debt service payments discounted at estimated market rates. Notes and
other payables due to Host Marriott and affiliates are valued based on the
expected future payments from operating cash flow discounted at risk-adjusted
rates.
NOTE 6. DEBT
Mortgage Debt
On June 30, 1993, the General Partner completed a restructuring of the
Partnership's first mortgage (the "Mortgage Debt"). Pursuant to the terms of the
restructuring, the original Mortgage Debt of $128 million was divided into two
notes, Note A with a principal balance of $85 million and Note B with a
principal balance of $43 million, which mature on December 15, 1999. In
addition, interest rate swap termination costs of $9.3 million relating to the
original Mortgage Debt were established as Note C with a maturity date of
December 15, 2010. The Partnership paid $12.3 million to the lender which was
applied as follows: $7.6 million to the interest due through closing, $3.0
million to fund a new debt service reserve (the "Reserve"), $1.0 million as a
loan extension fee, and $.7 million to principal. The 1992 purchase price
adjustment made by Host Marriott to the Partnership was applied toward the
scheduled interest payment and to partially fund the Reserve. The remainder of
the payment was funded by a $2.0 million loan from the General Partner and from
the Partnership's operating cash account funds. The loan from the General
Partner bears interest at the prime lending rate plus 1% and matures on June 30,
2008.
Interest on Note A accrues at a floating rate, as elected by the Partnership,
equal to one percentage point over either one, two, three or six-month London
interbank offered rate ("LIBOR"). Principal amortization of $600,000 was
required in 1993 escalating annually to $1 million in 1998. To the extent that
operating profit is not sufficient to fund required Note A interest and
principal, then necessary funds will be drawn from the Reserve. The
weighted-average effective interest rate on Note A was 6.7% and 6.2% for 1997
and 1996, respectively. Interest on Note B accrues at LIBOR. To the extent that
operating profit is not sufficient to fund Note B interest in any fiscal year,
then Note B interest is limited to cash available after payment of Note A
principal and interest. Unpaid Note B interest for any fiscal year is forgiven.
The weighted-average effective interest rate on Note B was 5.7% and 5.5% for
1997 and 1996, respectively. In addition, to the extent that there was cash
available after payment of principal and interest on Note A and interest on Note
B, then such remaining cash was split 50% to the Partnership and 50% to the
Mortgage Escrow. The Mortgage Escrow was applied annually 50% to the payment of
additional principal on Note A, and 50% to the principal on Note B, until the
Partnership received a cumulative amount equal to $7,352,000. The Partnership
reached this cumulative amount in September 1996. Thereafter, 100% of remaining
cash flow is applied 25% to Note A and 75% to Note B. At December 31, 1997, the
MDAH Supp-44
<PAGE>
balance of the Mortgage Escrow was $11.6 million and is included in the
accompanying balance sheet. Note C bears no interest and has no required
principal amortization prior to its maturity.
The Mortgage Debt is secured by first mortgages on each of the Hotels, the
Partnership's interest in the Fullerton Hotel ground lease, the land on which
the remaining Hotels are located, the Partnership's interest in the Fairview
Park Hotel parking garage lease, a security interest in all of the personal
property associated with each Hotel, a security interest in the Partnership's
rights under the management and purchase agreement and a security interest in
the Partnership's deposit accounts.
Scheduled amortization and maturities of the Mortgage Debt at December 31, 1997
are (in thousands):
1998 .................................$ 1,000
1999 ................................. 111,678
2000 ................................. 0
2001 ................................. 0
2002 ................................. 0
Thereafter ............................. 9,336
----------
$ 122,014
==========
As of December 31, 1993, Host Marriott's debt service guarantee on the original
Mortgage Debt totaling $13 million was fully exhausted. Advances under the
guarantee bear interest at the prime lending rate plus one-half percentage
point. For 1997 and 1996, the weighted-average effective interest rate was 8.9%
and 8.8%, respectively. These advances will be repaid from available cash flow
after payments of ground rent, Mortgage Debt Service, Partnership administrative
expenses in excess of Partnership interest income and retention by the
Partnership of an amount equal to 10% of the partners' contributed capital, as
defined. During 1997, no amounts were repaid to Host Marriott pursuant to the
debt service guarantees. In addition, the General Partner has provided a
foreclosure guarantee to the lender in the amount of $25 million. Pursuant to
the terms of the foreclosure guarantee, amounts would be payable only upon a
foreclosure on the Hotels and only to the extent that the gross proceeds from
the foreclosure sale were less than $25 million.
Deferred Purchase Debt
The Deferred Purchase Debt bears interest at 10% per annum and was due July 1,
1992. The note was required to be repaid from, and is secured by, the proceeds
of the Investor Notes which were due through June 20, 1992. Investor Notes
outstanding as of December 31, 1997 represent payments due from defaulters and
related interest payable under such notes. As a result of the Partnership's
failure to collect the Investor Notes in full, and subsequent failure to repay
the Deferred Purchase Debt in full, the Partnership is currently in default
under the terms of the Deferred Purchase Debt agreements. Host Marriott has the
right to perfect a security interest in the Units securing the defaulted
Investor Notes. However, Host Marriott agreed not to foreclose on its interest
in the Units prior to the earlier of the sale of the Hotels or January 1, 1998.
As of April 8, 1998, Host Marriott has not exercised its option to foreclose on
its interest in the Units. Total accrued interest on the Deferred Purchase Debt
at December 31, 1997 and 1996, was $47,000 and $42,000, respectively.
NOTE 7. MANAGEMENT AGREEMENT
The Partnership entered into a hotel management agreement on the Initial Closing
Date with Marriott International to manage the Hotels for an initial 20-year
term expiring December 31, 2009. During 1996, Marriott International assigned
all of its interest in the hotel management agreement to MHSI, a wholly-owned
subsidiary of Marriott International. MHSI has the option to renew the hotel
management agreement on one or more of the Hotels for up to five successive
10-year terms (four successive 10-year terms for the Fullerton Hotel). MHSI
earns a base management fee equal to 3% of gross sales.
In connection with the 1993 loan restructuring, the hotel management agreement
was modified. During the restructured loan term, no incentive management fees
will be accrued by the Partnership or be considered
MDAH Supp-45
<PAGE>
earned by the manager until the entire mortgage principal balance, together with
accrued interest, is paid in full. No incentive management fees have been paid
to MHSI since the inception of the Partnership.
Pursuant to the terms of the hotel management agreement, MHSI is required to
furnish the Hotels with certain services ("Chain Services") which are generally
provided on a central or regional basis to all hotels in the Marriott
full-service hotel system. Chain Services include central training, advertising
and promotion, a national reservation system, computerized payroll and
accounting services, and such additional services as needed which may be more
efficiently performed on a centralized basis. Costs and expenses incurred in
providing such services are allocated among all domestic full-service hotels
managed, owned or leased by Marriott International or its subsidiaries. In
addition, the Hotels also participate in Marriott's Rewards Program ("MRP")
which succeeded the Marriott Honored Guest Awards Program. The cost of this
program is charged to all hotels in the Marriott full-service hotel system based
upon the MRP sales at each hotel. The total amount of Chain Services and MRP
costs charged to the Partnership was $3,874,000 for 1997, $3,497,000 for 1996,
$3,316,000 for 1995.
Pursuant to the terms of the hotel management agreement, the Partnership is
required to provide MHSI with working capital and supplies to meet the operating
needs of the Hotels. MHSI converts cash advanced by the Partnership into other
forms of working capital consisting primarily of operating cash, inventories,
and trade receivables and payables which are maintained and controlled by MHSI.
Upon termination of the hotel management agreement, the working capital and
supplies will be returned to the Partnership. The individual components of
working capital and supplies controlled by MHSI are not reflected in the
Partnership's balance sheet. A total of $4,500,000 was advanced to MHSI for
working capital and supplies of which $600,000 was returned to the Partnership
during 1995, $50,000 was returned during 1996 and $41,000 was returned in 1997
leaving a balance of $3,900,000, $3,850,000 and $3,809,000 as of December 31,
1995, 1996 and 1997, respectively, which is included in Due from Marriott Hotel
Services, Inc. in the accompanying balance sheet. The supplies advanced to MHSI
are recorded at their estimated net realizable value. At December 31, 1997 and
1996, accumulated amortization related to the revaluation of these supplies
totaled $473,000.
The hotel management agreement provides for the establishment of a property
improvement fund for each Hotel. Contributions to the property improvement fund
are equal to a percentage of gross Hotel sales. Contributions to the fund for
the Fairview Park, Southfield, Livonia and Fullerton Hotels were 3% for the
years 1995 through 1999 and 4% for the year 2000 and thereafter. The Dayton
Hotel contributes 4% annually. Annual contributions at the Research Triangle
Park Hotel were 3% through 1997 and will be 4% in 1998 and thereafter. Aggregate
contributions to the property improvement fund amounted to $2,442,000,
$2,258,000 and $2,104,000 for the years ended December 31, 1997, 1996 and 1995,
respectively.
NOTE 8. GROUND LEASES
The Partnership leases the land on which the Fullerton Hotel is located. The
initial term expires in 2019 with four successive 10-year renewals at the
Partnership's option. The lease provides for percentage rental equal to 4% of
gross room sales for each year. Prior to October 1995, the lease provided for
percentage rent equal to 1% of gross room sales. Ground rent expense incurred
for this lease for the years ended December 31, 1997, 1996 and 1995 was
$199,000, $185,000 and $99,000, respectively. The Partnership also leases the
land on which the Fairview Park Hotel parking garage is located. The lease
expires in 2085 and requires a nominal rental of $1 per year.
MDAH Supp-46
<PAGE>
Marriott Diversified American Hotels, L.P.
Condensed Statements of Operations
(Unaudited)
(in thousands, except per Unit amounts)
<TABLE>
<CAPTION>
Twelve Weeks Ended
-----------------------------------
March 27, March 28,
1998 1997
--------------- ----------------
<S> <C> <C>
HOTEL REVENUES (Note 4).........................................................$ 6,877 $ 5,524
--------------- ----------------
OPERATING COSTS AND EXPENSES
Depreciation and amortization............................................... 1,381 1,428
Base management fees due to Marriott Hotel Services, Inc.................... 552 486
Property taxes and other.................................................... 682 610
--------------- ----------------
2,615 2,524
--------------- ----------------
OPERATING PROFIT .............................................................. 4,262 3,000
Interest expense............................................................ (1,922) (2,167)
Interest income............................................................. 144 30
--------------- ----------------
NET INCOME ............................................................. $ 2,484 $ 863
=============== ================
ALLOCATION OF NET INCOME
General Partner.............................................................$ 25 $ 9
Limited Partners............................................................ 2,459 854
--------------- ----------------
$ 2,484 $ 863
=============== ================
NET INCOME PER LIMITED PARTNER UNIT
(414 Units) ................................................................$ 5,940 $ 2,063
=============== ================
</TABLE>
See Notes To Condensed Financial Statements.
MDAH Supp-47
<PAGE>
Marriott Diversified American Hotels, L.P.
Condensed Balance Sheets
(in thousands)
<TABLE>
<CAPTION>
March 27, December 31,
1998 1997
------------- ------------
(unaudited)
<S> <C> <C>
ASSETS
Property and equipment, net...................................................$ 107,233 $ 108,153
Mortgage escrow............................................................... 13,417 11,624
Due from Marriott Hotel Services, Inc......................................... 5,250 3,714
Debt service reserve fund..................................................... 3,000 3,000
Property improvement fund..................................................... 1,867 1,667
Deferred financing costs, net................................................. 472 536
Cash and cash equivalents..................................................... 1,099 1,137
------------- -------------
Total Assets...........................................................$ 132,338 $ 129,831
============= =============
LIABILITIES AND PARTNERS' DEFICIT
LIABILITIES
Mortgage debt...............................................................$ 121,783 $ 122,014
Debt service guarantee and related interest payable to
Host Marriott Corporation................................................. 20,038 19,762
Note payable and related interest due to the General Partner................ 2,849 2,804
Deferred purchase debt and related interest payable to
Host Marriott Corporation................................................. 691 676
Accounts payable and accrued expenses....................................... 972 1,054
------------- -------------
Total Liabilities...................................................... 146,333 146,310
------------- -------------
PARTNERS' DEFICIT
General Partner
Capital contributions net of offering costs of $15........................ 403 403
Capital distributions..................................................... (98) (98)
Cumulative net losses..................................................... (394) (419)
------------- -------------
(89) (114)
------------- -------------
Limited Partners
Capital contributions net of offering costs of $4,785..................... 35,830 35,830
Interest notes receivable................................................. (966) (966)
Capital distributions..................................................... (9,738) (9,738)
Cumulative net losses..................................................... (39,032) (41,491)
------------- -------------
(13,906) (16,365)
------------- -------------
Total Partners' Deficit................................................ (13,995) (16,479)
------------- -------------
$ 132,338 $ 129,831
============= =============
</TABLE>
See Notes To Condensed Financial Statements.
MDAH Supp-48
<PAGE>
Marriott Diversified American Hotels, L.P.
Condensed Statements of Cash Flows
(Unaudited)
(in thousands)
<TABLE>
<CAPTION>
Twelve Weeks Ended
-----------------------------------
March 27, March 28,
1998 1997
--------------- ----------------
<S> <C> <C>
OPERATING ACTIVITIES
Net income ................................................................$ 2,484 $ 863
Noncash items .............................................................. 1,780 1,819
Change in operating accounts................................................. (1,618) (655)
--------------- ----------------
Cash provided by operating activities.................................. 2,646 2,027
--------------- ----------------
INVESTING ACTIVITIES
Additions to property and equipment, net..................................... (460) (1,120)
Change in property improvement fund.......................................... (200) 717
--------------- ----------------
Cash used in investing activities...................................... (660) (403)
--------------- ----------------
FINANCING ACTIVITIES
Debt service reserve fund.................................................... (1,793) (1,191)
Payment of mortgage debt..................................................... (231) (223)
--------------- ----------------
Cash used in financing activities...................................... (2,024) (1,414)
--------------- ----------------
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS................................ (38) 210
CASH AND CASH EQUIVALENTS at beginning of period................................ 1,137 2,762
--------------- ----------------
CASH AND CASH EQUIVALENTS at end of period......................................$ 1,099 $ 2,972
=============== ================
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid for mortgage interest..............................................$ 1,430 $ 1,858
=============== ================
</TABLE>
See Notes To Condensed Financial Statements.
MDAH Supp-49
<PAGE>
Marriott Diversified American Hotels, L.P.
Notes to Condensed Financial Statements
(Unaudited)
1. The accompanying condensed financial statements have been prepared by
Marriott Diversified American Hotels, L.P. (the "Partnership") without
audit. Certain information and footnote disclosures normally included in
financial statements presented in accordance with generally accepted
accounting principles have been condensed or omitted from the accompanying
statements. The Partnership believes the disclosures made are adequate to
make the information presented not misleading.
In the opinion of the Partnership, the accompanying condensed unaudited
financial statements reflect all adjustments (which include only normal
recurring adjustments) necessary to present fairly the financial position
of the Partnership as of March 27, 1998, and the results of operations and
cash flows for the twelve weeks ended March 27, 1998 and March 28, 1997.
Interim results are not necessarily indicative of fiscal year performance
because of seasonal and short-term variations.
2. The Partnership owns and operates the Marriott Research Triangle Park,
Southfield Marriott, Detroit Marriott at Livonia, Fullerton Marriott,
Fairview Park Marriott and Dayton Marriott. The sole general partner of
the Partnership, with a 1% interest, is Marriott Corporation (the "General
Partner"), a wholly-owned subsidiary of Host Marriott Corporation ("Host
Marriott"). The remaining 99% interest in the Partnership is owned by the
limited partners.
3. For financial reporting purposes, net income of the Partnership is
allocated 99% to the Limited Partners and 1% to the General Partner.
Significant differences exist between the net income for financial
reporting purposes and the net income reported for Federal income tax
purposes. These differences are due primarily to the use, for income tax
purposes, of accelerated depreciation methods and shorter depreciable
lives of the assets and differences in the timing of recognition of
incentive management fee expense.
4. Hotel revenues represent house profit of the Partnership's Hotels since
the Partnership has delegated substantially all of the operating decisions
related to the generation of house profit of the Hotels to Marriott Hotel
Services, Inc. (the "Manager"). House profit reflects hotel operating
results which flow to the Partnership as property owner and represents
gross hotel sales less property-level expenses, excluding depreciation and
amortization, base and incentive management fees, property taxes, ground
rent, insurance and other costs, which are disclosed separately in the
condensed statement of operations.
MDAH Supp-50
<PAGE>
Partnership revenues generated by the Hotels consist of (in thousands):
<TABLE>
<CAPTION>
Twelve Weeks Ended
-----------------------------------
March 27, March 28,
1998 1997
--------------- ----------------
<S> <C> <C>
HOTEL REVENUES
Rooms..................................................................$ 12,246 $ 10,781
Food and beverage...................................................... 5,218 4,569
Other.................................................................. 952 869
--------------- ----------------
18,416 16,219
--------------- ----------------
HOTEL EXPENSES
Departmental direct costs
Rooms............................................................... .2,960 2,681
Food and beverage................................................... 4,027 3,753
Other hotel operating expenses........................................ 4,552 4,261
--------------- ----------------
11,539 10,695
--------------- ----------------
HOUSE PROFIT.............................................................$ 6,877 $ 5,524
================ ================
</TABLE>
5. Certain reclassifications were made to the prior year financial statements
to conform to the 1998 presentation.
6. On April 17, 1998, Host Marriott Corporation ("Host Marriott"), parent
company of the General Partner of the Partnership, announced that its
Board of Directors has authorized the company to reorganize its business
operations to qualify as a real estate investment trust ("REIT") to become
effective as of January 1, 1999. As part of the REIT conversion, Host
Marriott expects to form a new operating partnership (the "Operating
Partnership") and limited partners in certain Host Marriott full-service
hotel partnerships and joint ventures, including the Partnership, are
expected to be given an opportunity to receive, on a tax-deferred basis,
Operating Partnership units in the new Operating Partnership in exchange
for their current partnership interest.
MDAH Supp-51
<PAGE>
HOST MARRIOTT, L.P.
SUPPLEMENT DATED __________ __, 1998 FOR
PROSPECTUS/CONSENT SOLICITATION STATEMENT DATED _________ __, 1998 FOR
MARRIOTT HOTEL PROPERTIES LIMITED PARTNERSHIP
On the terms described in the Prospectus/Consent Solicitation Statement
(the "Consent Solicitation"), dated ______ __, 1998, of which this Supplement
(the "Supplement") is a part, Host Marriott Corporation, a Delaware corporation
("Host"), has adopted a plan to reorganize its business operations so that it
will qualify as a real estate investment trust ("REIT"). As part of this
reorganization (the "REIT Conversion"), Host and its consolidated subsidiaries
will contribute their full-service hotel properties and certain other businesses
and assets to Host Marriott, L.P., a newly formed Delaware limited partnership
(the "Operating Partnership"), in exchange for units of limited partnership
interest in the Operating Partnership ("OP Units") and the assumption of certain
liabilities. The sole general partner of the Operating Partnership will be Host
Marriott Trust, the entity resulting from the conversion of Host from a Delaware
corporation to a Maryland REIT ("Host REIT"). The Operating Partnership and
Host REIT will operate together as an umbrella partnership REIT. Host REIT
expects to qualify as a REIT beginning with its first full taxable year after
the closing of the REIT Conversion, which Host REIT currently expects to be the
year beginning January 1, 1999.
Following the REIT Conversion and the Blackstone Acquisition (defined
below), the Operating Partnership and its subsidiaries initially will own
outright, or have controlling interests in, approximately 120 full-service
hotels operating primarily under the Marriott, Ritz-Carlton, Four Seasons,
Swissotel and Hyatt brand names (the "Hotels"). Concurrently with the REIT
Conversion, the Operating Partnership will acquire ownership of, or controlling
interests in, 12 hotels and a mortgage loan secured by a thirteenth hotel
controlled by The Blackstone Group and a series of funds controlled by
Blackstone Real Estate Partners (collectively, the "Blackstone Entities") in
exchange for OP Units, the assumption of liabilities and other consideration
(the "Blackstone Acquisition"). The Operating Partnership will be one of the
largest owners of full-service hotels in the United States.
As part of the REIT Conversion, the Operating Partnership is proposing to
acquire by merger (the "Mergers") Marriott Hotel Properties Limited Partnership,
a Delaware limited partnership ("MHP" or the "Partnership"), and up to seven
other limited partnerships (the "Partnerships") that own full-service hotels in
which Host or its subsidiaries are general partners. As more fully described in
the Consent Solicitation, limited partners of those Partnerships who participate
in the Mergers will receive either OP Units or, at their election, unsecured
____% Notes due December 15, 2005 issued by the Operating Partnership ("Notes"),
in exchange for their partnership interests in such Partnerships (with respect
to the Partnerships, those limited partners of the Partnerships who are
unaffiliated with Host are referred to herein as the "Limited Partners," and
with respect to MHP, the "MHP Limited Partners").
The number of OP Units to be allocated to MHP will be based upon (i) MHP's
Exchange Value (as defined herein) and (ii) the deemed value of an OP Unit at
the time of the Merger, determined as described herein. See "Determination of
Exchange Values and Allocation of OP Units." The principal amount of Notes that
MHP Limited Partners may elect to receive in exchange for the OP Units received
in the Merger will be based upon MHP's Note Election Amount (as defined herein).
See "Description of the Notes." The estimated Exchange Value set forth herein
may increase or decrease as a result of various adjustments, and will be finally
calculated shortly before the Closing Date. Pursuant to the Merger, MHP Limited
Partners will receive OP Units with a deemed value of $141,425 per Partnership
Unit (as defined herein), or if an MHP Limited Partner elects, a Note in a
principal amount of $124,261 per Partnership Unit.
In connection with the REIT Conversion, each outstanding share of Host
common stock will be converted into one common share of beneficial interest, par
value $.01 per share (a "Common Share"), of Host REIT. Following the closing of
the REIT Conversion, the Common Shares will be listed on the New York Stock
Exchange. Beginning one year after the Mergers, Limited Partners will have the
right to redeem their OP Units at any time and receive, at the election of Host
REIT, either Common Shares on a one-for-one basis (subject to adjustment) or
cash in an amount equal to the market value of such shares (the "Unit Redemption
Right").
Because REITs are not permitted under current federal income tax law to derive
revenues directly from the operation of hotels, the Operating Partnership will
lease the Hotels to lessees (the "Lessees") that will operate the Hotels under
the existing management agreements and pay rent to the Operating Partnership, as
more fully described herein. The Lessees generally will be indirect controlled
subsidiaries of HMC Senior Communities, Inc., which currently is a wholly owned
subsidiary of Host ("SLC"), but which will become a separate public company as
part of the REIT Conversion when Host distributes the common stock of SLC to its
existing shareholders and the Blackstone Entities. Shares of Host REIT and SLC
will become separately traded securities and the companies will operate
independently. Initially, there may be a partial overlap between the boards of
Host REIT and SLC but this will be phased out over time. There also will be a
substantial overlap of shareholders of the two companies initially, but this
likely will diverge over time.
MHP Supp-1
<PAGE>
MARRIOTT HOTEL PROPERTIES, INC. (THE "GENERAL PARTNER"), THE GENERAL
PARTNER OF MHP, BELIEVES THAT THE TERMS OF THE MERGER PROVIDE SUBSTANTIAL
BENEFITS AND ARE FAIR TO THE MHP LIMITED PARTNERS AND RECOMMENDS THAT ALL MHP
LIMITED PARTNERS VOTE FOR THE MERGER.
The effects of the Mergers may be different for Limited Partners of the
various Partnerships. This Supplement has been prepared to highlight for MHP
Limited Partners the specific risks, benefits, effects and fairness of the
Merger to them and to provide other information specific to MHP. Supplements
have also been prepared for each of the other Partnerships. This Supplement,
together with the supplements of the other Partnerships (collectively, the
"Supplements"), are part of the Consent Solicitation. Upon receipt of a written
request by a Limited Partner or his representative so designated in writing, the
General Partner will send a copy of any Supplement without charge. All requests
for a copy of a Supplement should be directed to: Investor Relations, 10400
Fernwood Road, Bethesda, Maryland 20817, telephone number 301-380-2070 (between
the hours of 9:00 a.m. and 4:00 p.m., eastern time).
All cross-references refer to the Consent Solicitation unless stated
otherwise. Capitalized terms not defined herein shall have the meaning set
forth in the Consent Solicitation. The information contained herein, unless
otherwise indicated, assumes the REIT Conversion occurs with all Partnerships
participating and no Notes being issued (the "Full Participation Scenario").
RISK FACTORS
In deciding whether to approve the Merger, MHP Limited Partners should
consider certain risks and other factors. The General Partner believes that MHP
Limited Partners should particularly consider the following, which should be
read in conjunction with the information in the Consent Solicitation under "Risk
Factors" and "Federal Income Tax Considerations:"
. Substantial Benefits to Related Parties. The Mergers will facilitate
consummation and enable Host to reap the full benefits of the REIT
Conversion and will result in an increase in Host REIT's Funds From
Operations per Common Share on a pro forma basis. By converting to a
REIT, Host expects to benefit from the advantages enjoyed by REITs in
raising capital and acquiring additional assets, participating in a
larger group of comparable companies and increasing its potential base
of shareholders. Also, Host will realize significant savings through
the substantial reduction of its future corporate-level income taxes.
To the extent that such anticipated benefits initially are reflected
in the value of Host's common stock before the Closing Date, they will
not be shared initially with the Limited Partners. Host might be
required to transfer its interests in certain Partnerships that do not
participate in a Merger, if any, to a Non-Controlled Subsidiary, in
which case Host's share of such Partnerships' earnings would continue
to be subject to corporate-level income tax.
. Absence of Arm's Length Negotiations. No independent representative
was retained to negotiate on behalf of the MHP Limited Partners or the
other Limited Partners. Although the General Partner has obtained the
Appraisals and the Fairness Opinion from AAA, AAA has not negotiated
with the General Partner and has not participated in establishing the
terms of the Mergers. Consequently, the terms and conditions of the
Mergers may have been more favorable to the MHP Limited Partners or
the other Limited Partners if such terms and conditions were the
result of arm's length negotiations.
MHP Supp-2
<PAGE>
. Other Conflicts of Interest. The Mergers, the REIT Conversion and the
recommendations of the General Partner involve the following conflicts
of interest because of the relationships among Host, the Operating
Partnership, the General Partner and SLC: (i) the General Partners,
which are all subsidiaries of Host (except for PHLP, of which Host is
the General Partner) must assess whether the terms of the Mergers are
fair and equitable to the Limited Partners of its Partnership without
regard to whether the Mergers and the REIT Conversion may benefit
Host, (ii) the terms of the Leases of the Hotels, including the
Participating Partnerships' Hotels, will be determined by Host, which
will distribute the common stock of SLC, the parent of the Lessees, to
its shareholders after such terms have been set and (iii) the terms of
the Partnership Agreement, including provisions which benefit Host
REIT, have been determined by Host. Such conflicts may result in
decisions that do not fully reflect the interests of all Limited
Partners, including the MHP Limited Partners.
. Valuation of SLC. The value of the SLC common stock distributed to
Host's shareholders and the Blackstone Entities will be one factor
used in determining the value of an OP Unit. Although Host's Board of
Directors will determine the value of the SLC common stock in good
faith and in reliance in part upon the opinion of an independent
financial advisor, conflicts of interest still exist. If the SLC
common stock is undervalued by Host's Board of Directors, the deemed
value of an OP Unit for purposes of the Mergers may be higher than the
level at which the Host REIT Common Shares will trade following the
REIT Conversion and the MHP Limited Partners could receive less than
the full Exchange Value of their Partnership Interests and Host REIT
could receive an overall higher percentage of the ownership of the
Operating Partnership.
. Determination of Exchange Value. The deemed value of OP Units that
each MHP Limited Partner will receive (if such MHP Limited Partner
elects to retain OP Units rather than receive a Note) will equal the
Exchange Value of such MHP Limited Partner's Partnership Interest.
The Exchange Value of MHP will be its Continuation Value, which is the
greatest of its Adjusted Appraised Value, Continuation Value and
Liquidation Value, each of which is determined according to a
different method of valuation and involves numerous estimates and
assumptions. There is no assurance that the Exchange Value of MHP
will equal the fair market value of the Hotels and other assets
contributed by MHP. Host REIT, on the other hand, will receive a
number of OP Units equal to the number of shares of Host common stock
outstanding on the Closing Date (and, if Host has outstanding shares
of preferred stock at the time of the REIT Conversion, a corresponding
number of preferred partnership interests in the Operating
Partnership), which should fairly represent the market value of Host
REIT but may not be equal to the fair market or net asset value of the
Hotels and other assets that Host will contribute to the Operating
Partnership. See "Determination of Exchange Values and Allocation of
OP Units."
. Valuation of OP Units. The value of an OP Unit, for purposes of the
Mergers and the REIT Conversion, will be deemed to be equal to the
value of a share of Host common stock immediately prior to the REIT
Conversion minus the amount of cash and the estimated value of the SLC
common stock or other property to be distributed with respect to each
share of Host common stock in connection with the REIT Conversion.
There is no assurance that, following the REIT Conversion, the value
of the publicly traded Common Shares (and therefore the value of the
OP Units) will in fact equal or exceed the deemed value of the OP
Units used for purposes of the Mergers. These factors could result in
the MHP Limited Partners receiving OP Units with an actual value that
is less than either the deemed value of the OP Units for purposes of
the Mergers or the fair market value of their Partnership Interests.
. Determination of the Value of the Notes. At the same time that he
votes on the Merger, each MHP Limited Partner also may elect to
receive at the time of the Merger, in exchange for OP Units, an
unsecured, seven-year Note with a principal amount equal to the Note
Election Amount of his Partnership Interest, which is based upon
numerous assumptions and estimates. The deemed value of the OP Units
to be received by the MHP Limited Partners will exceed the principal
amount of the corresponding Notes (because the Exchange Value is
higher than the Note Election Amount), and there is no assurance that
the Note an MHP Limited Partner receives will have a value equal to
the fair market value of the MHP Limited Partner's share of the Hotels
and other assets owned by MHP. There will be no public market for the
Notes. If the Notes are sold, they may sell at prices substantially
below their issuance price. Noteholders are likely to receive
MHP Supp-3
<PAGE>
the full principal amount of a Note only if they hold the Note to
maturity, which is December 15, 2005, or if the Operating Partnership
repays the Notes prior to maturity. Because the Notes are unsecured
obligations of the Operating Partnership, they will be effectively
subordinated to all secured debt of the Operating Partnership and all
obligations of both the Participating Partnerships and the Operating
Partnership's other subsidiaries. See "Description of the Notes." As
of March 27, 1998, on a pro forma basis assuming the Full
Participation Scenario, the Operating Partnership would have had
aggregate consolidated debt of approximately $4.6 billion to which the
Notes were effectively subordinated or which rank equally with such
Notes.
. Reduced Cash Distributions for MHP Limited Partners. The expected
initial cash distributions to the MHP Limited Partners from the OP
Units to be received in the Merger will be less than the estimated
1998 cash distributions of MHP.
. Fundamental Change in Nature of Investment; Potential
Underperformance. The Mergers and the REIT Conversion involve a
fundamental change in the nature of an MHP Limited Partner's
investment from holding an interest in MHP, which has a fixed
portfolio of two Hotels and distributes the cash flow from the
operation of such Hotels to the MHP Limited Partners, to holding an
interest in an operating real estate company with a portfolio of
approximately 120 Hotels that collects and distributes to its limited
partners rents received from the Lessees (which will bear the risks
and receive the direct benefits of the Hotels' operations), has the
ability to acquire additional hotels, is able to reinvest proceeds
from sales or refinancings of existing Hotels in other hotels and has
a publicly traded general partner. In addition, each MHP Limited
Partner's investment will change from one that allows an MHP Limited
Partner to receive a return of capital in the form of distributions
from any net proceeds of a sale or refinancing of MHP's assets to an
investment in which an MHP Limited Partner likely would realize a
return of capital only through the exercise of the Unit Redemption
Right. Although it is expected that the MHP Limited Partners will
receive added benefits from an investment in the Operating
Partnership, an MHP Limited Partner's share of the liquidation
proceeds, if any, from the sale of MHP's Hotels could be higher than
the amount realized upon exercise of the Unit Redemption Right (or
payments on any Note received by an MHP Limited Partner who elects to
receive such Note). An investment in the Operating Partnership may not
outperform an investment in MHP. See "Comparison of Ownership of
Partnership Interests, OP Units and Common Shares -- Nature of
Investment."
. Exposure to Risks from Other Hotels. As a result of the Mergers, MHP
Limited Partners who elect to receive OP Units will own interests in a
much larger partnership with a broader range of assets than MHP
individually. A material adverse change affecting the Operating
Partnership's assets will affect all Limited Partners regardless of
whether a particular Limited Partner previously was an investor in
such affected assets. MHP owns discrete assets, and the Mergers and
the REIT Conversion will significantly diversify the types and
geographic locations of the Hotels in which the MHP Limited Partners
will have interests. As a result, the Hotels owned by the Operating
Partnership may be affected differently by economic and market
conditions than those Hotels previously owned by MHP.
. MHP Limited Partners Have No Cash Appraisal Rights. MHP Limited
Partners who vote against the Merger will not have a right to receive
cash based upon an appraisal of their Partnership Interests.
. Uncertainties as to the Size and Leverage of the Operating
Partnership. Host is an existing operating company that regularly
issues and repays debt, acquires additional hotels and disposes of
existing hotels. Also, some or all of the Partnerships may elect not
to participate in a Merger. In that case, Host may contribute its
interests in such Partnerships to a Non-Controlled Subsidiary, which
is subject to corporate-level income taxation, rather than the
Operating Partnership. In addition, outside partners in certain
Private Partnerships may not consent to a lease of their partnership's
Hotel(s). Host also may repurchase outstanding securities or issue new
debt or equity securities prior to the consummation of the Mergers,
and the REIT Conversion. For these reasons, the MHP Limited Partners
cannot know at the time they vote on a Merger the exact size and
amount of leverage of the Operating Partnership.
MHP Supp-4
<PAGE>
. Other Uncertainties at the Time of Voting. There are several other
uncertainties at the time the MHP Limited Partners must vote on the
Mergers, including (i) the exact Exchange Value for MHP (which will be
adjusted for changes in lender and capital expenditure reserves,
indebtedness, deferred maintenance and other items prior to the
Closing Date), (ii) the deemed value of the OP Units for purposes of
the Mergers which, together with the Exchange Value, will determine
the number of OP Units the MHP Limited Partners will receive and
(iii) the exact principal amount of the Note that may be received in
exchange for OP Units. For these reasons, the MHP Limited Partners
cannot know at the time they vote on the Merger these important
aspects of the Merger.
. Lack of Control over Hotel Operations. Due to current federal income
tax law restrictions on a REIT's ability to derive revenues directly
from the operation of a hotel, the Operating Partnership will lease
virtually all of its consolidated Hotels to the Lessees, which will
operate the Hotels by continuing to retain the Managers pursuant to
the Management Agreements. The Operating Partnership will not operate
the Hotels or participate in the decisions affecting the daily
operations of the Hotels. Although the Operating Partnership's
subsidiaries will have certain rights as lessors under the Leases
(including control over decisions relating to capital expenditures)
and will remain obligated under the Management Agreements, the
Operating Partnership will have only a limited ability to require the
Lessees or the Managers to operate or manage the Hotels in any
particular manner or to govern any particular aspect of their day-to-
day operation or management. Therefore, the Operating Partnership
will be dependent for its revenue upon the ability of the Lessees and
the Managers to operate and manage the Hotels.
. Expiration of Leases. The Leases will expire seven to ten years after
the Closing Date, and there can be no assurance that such Leases will
be renewed (or if renewed, will be renewed on terms as favorable to
the Operating Partnership). If the Leases are not renewed, the
Operating Partnership will be required to find other lessees, which
lessees must meet certain requirements set forth in the Management
Agreements. There can be no assurance that satisfactory lessees could
be found or as to the terms and conditions on which the Operating
Partnership would be able to renew the Leases or enter into new leases
with such lessees.
. Requisite Vote of MHP Limited Partners Binds All MHP Limited Partners.
For MHP, approval of a Merger is by a majority of the Partnership
Interests of MHP that are eligible to be voted, as described in
"Voting Procedures -- Required Vote and Other Conditions." Such
approval will cause MHP to participate in the Merger and will bind all
MHP Limited Partners, including MHP Limited Partners who voted against
or abstained from voting with respect to the Merger.
. Risks of Lodging Industry. The profitability of the Hotels is subject
to general economic conditions, the management abilities of the
Managers (primarily Marriott International), competition, the
desirability of particular locations and other factors relating to the
operation of the Hotels. The full-service segment of the lodging
industry, in which virtually all of the Hotels operate, is highly
competitive, and the Hotels generally operate in geographical markets
that contain numerous competitors. The Hotels' success will be
dependent, in large part, upon their ability to compete in such areas
as access, location, quality of accommodations, room rate structure,
the quality and scope of food and beverage facilities and other
services and amenities. The lodging industry, including the Hotels
(and thus the Operating Partnership), may be adversely affected in the
future by (i) national and regional economic conditions, (ii) changes
in travel patterns, (iii) taxes and government regulations which
influence or determine wages, prices, interest rates, construction
procedures and costs, (iv) the availability of credit and (v) other
factors beyond the control of the Operating Partnership.
. Risks of Leverage. The Operating Partnership will have substantial
indebtedness. As of March 27, 1998, on a pro forma basis assuming the
Full Participation Scenario, the Operating Partnership would have had
outstanding indebtedness totaling $4.6 billion, which represents a 44%
debt-to-total market capitalization ratio on a pro forma basis at such
date (based upon a price per Common Share of Host REIT of $20.00). The
Operating Partnership's business is capital intensive, and it will
have significant capital requirements in the future. The Operating
Partnership's leverage level could affect its ability to (i) obtain
financing in the future,
MHP Supp-5
<PAGE>
(ii) undertake refinancings on terms and subject to conditions deemed
acceptable by the Operating Partnership, (iii) make distributions to
partners, (iv) pursue its acquisition strategy or (v) compete
effectively or operate successfully under adverse economic conditions.
. No Limitation on Debt. There are no limitations in Host REIT's or the
Operating Partnership's organizational documents which limit the
amount of indebtedness either may incur, although both the Notes and
the Operating Partnership's other debt instruments will contain
certain restrictions on the amount of indebtedness that the Operating
Partnership may incur.
. Rental Revenues from Hotels Subject to Rights of Lenders. In
accordance with the mortgage loan agreements with respect to
outstanding indebtedness of certain Hotel Partnerships, the rental
revenues received by such Hotel Partnerships under certain Leases
first will be used to satisfy the debt service on such outstanding
indebtedness and any cash flow remaining thereafter will be available
to satisfy other obligations of the Hotel Partnership (including
paying property taxes and insurance, funding the required FF&E
reserves for the Hotels and capital improvements) and to make
distributions to partners, including Host REIT.
. Ownership Limitations. No person may own, actually or constructively
(as determined under the applicable Code provisions), (i) in excess of
9.8% of the number or value of outstanding Common Shares of Host REIT
or (ii) in excess of 4.9% of the OP Units (other than Host REIT and
The Blackstone Group), subject to waiver or modification by Host REIT
or the Operating Partnership, as the case may be, in certain limited
circumstances.
. Timing of REIT Conversion. If the REIT Conversion does not occur in
time for Host REIT to elect REIT status effective January 1, 1999, the
effectiveness of Host REIT's election could be delayed to January 1,
2000, which would result in Host REIT continuing to pay corporate-
level income taxes in 1999 and could cause the Blackstone Acquisition
not to be consummated.
. Effect of Subsequent Events upon Recognition of Gain. Even though the
MHP Limited Partners (other than those who elect to receive a Note in
exchange for OP Units) generally are not expected to recognize
significant taxable gain at the time of the Mergers, there are a
variety of events and transactions (including the sale of one or more
of the Hotels currently owned by MHP or the reduction of indebtedness
securing one or more of the Hotels) that could cause a MHP Limited
Partner to recognize all or a part of the gain that otherwise has been
deferred through the REIT Conversion. See "Federal Income Tax
Considerations -- Tax Treatment of MHP Limited Partners Who Hold OP
Units Following the Merger." Certain Hotels (including the Blackstone
Hotels and the Hotel owned by Atlanta Marquis) will be covered by
agreements with third parties which will restrict the Operating
Partnership's ability to dispose of those properties or refinance
their debt. As for the remaining initial properties (including the
Hotels owned by MHP), the partnership agreement of the Operating
Partnership, which is substantially in the form attached hereto as
Appendix A (the "Partnership Agreement"), does not impose any
restrictions on the Operating Partnership's ability to dispose of the
Hotels or to refinance debt secured by the Hotels (but the Operating
Partnership is obligated to pay any taxes Host REIT incurs as a result
of such transactions). In addition, the Partnership Agreement
expressly provides that Host REIT, as general partner of the Operating
Partnership, is not required to take into account the tax consequences
of the limited partners in deciding whether to cause the Operating
Partnership to undertake specific transactions and the limited
partners have no right to approve or disapprove such transactions. See
"Description of OP Units-- Sales of Assets."
. Sale of Personal Property May Result in Gain to MHP Limited Partners.
In order to facilitate the participation of MHP in the merger without
adversely affecting Host REIT's qualification as a REIT, the Operating
Partnership will require, as part of the Merger, that MHP sell a
portion of the personal property associated with its Hotels to a Non-
Controlled Subsidiary. This sale will be a taxable transaction and may
result in an allocation of a relatively modest amount of ordinary
recapture income by MHP to MHP Limited Partners. This income will be
allocated to each MHP Limited Partner in the same proportion and to
the same extent that such MHP Limited Partner was allocated any
deductions directly or indirectly giving rise to the treatment of such
gains as recapture income. An MHP Limited Partner who receives such an
allocation of recapture income would not be entitled to any special
distribution from MHP in connection with the sale of personal
property.
MHP Supp-6
<PAGE>
. Election to Receive Notes. An MHP Limited Partner who elects to
receive a Note in connection with the Merger in exchange for his OP
Units will be treated as having made a taxable disposition of his
Partnership Interest. The MHP Limited Partner should be eligible to
defer a majority of that gain under the "installment sale" rules. A
Limited Partner with a "negative capital account" with respect to his
Partnership Interest who elects to receive a Note will recognize
"phantom income" in that amount at the time of the Merger in any
event. See "Federal Income Tax Considerations -- Tax Treatment of MHP
Limited Partners Who Exercise Their Right to Make the Note Election."
. Failure of Host REIT to Qualify as a REIT for Tax Purposes. Taxation
of Host REIT as a corporation if it fails to qualify as a REIT, and
Host REIT's subsequent liability for federal, state and local taxes on
its income and property, would, among other things, have the effect of
reducing cash available for distribution to Host REIT's shareholders
and materially reducing the value of the Common Shares and OP Units.
. Failure of the Operating Partnership to Qualify as a Partnership for
Tax Purposes. Taxation of the Operating Partnership as a corporation
if it fails to qualify as a partnership and the Operating
Partnership's subsequent liability for federal, state and local income
taxes, would, among other things, have the effect of reducing cash
available for distribution to holders of OP Units, would cause Host
REIT to fail to qualify as a REIT for tax purposes and would cause the
holders of OP Units to recognize substantial taxable gain at the time
the Operating Partnership ceases to qualify as a partnership.
. Change in Tax Laws. No assurance can be provided that new
legislation, Treasury Regulations, administrative interpretations or
court decisions will not significantly change the tax laws with
respect to Host REIT's qualification as a REIT or the federal income
tax consequences of such qualification.
EXPECTED BENEFITS OF THE REIT CONVERSION
The General Partner believes that participating in the REIT Conversion
would likely be beneficial to the MHP Limited Partners for the reasons set forth
below. This information is qualified by and should be read in conjunction with
the information in the Consent Solicitation under "Background and Reasons for
the Mergers and the REIT Conversion -- Expected Benefits of the Mergers." These
benefits, which should be viewed as alternatives to continuing the business and
operations of MHP, are expected to include:
. Value of OP Units to be Received in the Merger. MHP Limited Partners
who elect to receive OP Units in the Merger will receive OP Units with
a deemed value of $141,425 per Partnership Unit.
. Enhanced Liquidity of Investment. The REIT Conversion will offer MHP
Limited Partners significantly enhanced liquidity with respect to
their investments in MHP because, after the expiration of the Initial
Holding Period, MHP Limited Partners will be able to exercise their
Unit Redemption Right at any time, subject to certain limited
exceptions. Host has approximately 204 million shares of common stock
outstanding and the closing price on the NYSE on May 28, 1998 was
$19.4375 per share (reflecting a total common equity market
capitalization of approximately $4 billion). The exercise of the Unit
Redemption Right, however, generally would result in recognition of
taxable income or gain at that time.
. Public Market Valuation of Assets. The Partnership Units of MHP
currently trade at a discount to the net asset value of MHP's assets.
In contrast, the General Partner believes that by exchanging interests
in MHP, which is a non-traded limited partnership, for interests in a
publicly traded real estate company focused primarily on a more
diverse and growing full-service hotel portfolio, the MHP Limited
Partners will have the opportunity to participate in the recent trend
of ownership of real estate through a publicly traded entity, which,
in many instances, has resulted in market valuations of public real
estate companies in excess of the estimated net asset values of those
companies. There can be no assurance, however, that the Common Shares
of Host REIT will trade at a premium to the private market values of
the Operating Partnership's
MHP Supp-7
<PAGE>
assets or that the relative pricing differential will not change or be
eliminated in the future. Also, the initial benefit of Host's
conversion to a REIT will not be shared by the MHP Limited Partners if
and to the extent that such initial benefit is reflected in the market
valuation of Host's common stock prior to the REIT Conversion.
. Regular Quarterly Cash Distributions. The General Partner expects
that the Operating Partnership will make regular quarterly cash
distributions to holders of OP Units. The General Partner expects
that while these distributions will be lower than the 1998 estimated
cash distributions of MHP, the ability to receive distributions
quarterly and in regular amounts would be enhanced. For additional
information regarding historical and estimated future distributions
for MHP and the other Partnerships, see "Background and Reasons for
the Mergers and the REIT Conversion --Reasons for the Mergers."
. Substantial Tax Deferral. The General Partner expects that MHP
Limited Partners who do not elect to receive a Note in exchange for OP
Units generally should be able to obtain the benefits of the Merger
while continuing to defer recognition for federal income tax purposes
of at least a substantial portion, if not all, of the gain with
respect to their Partnership Interests that otherwise would be
recognized in the event of a liquidation of MHP or a sale or other
disposition of its assets in a taxable transaction (although MHP
Limited Partners may recognize a relatively modest amount of ordinary
income as the result of required sales of personal property to a Non-
Controlled Subsidiary in order to facilitate Host REIT's qualification
as a REIT). Thereafter, such MHP Limited Partners generally should be
able to defer at least a substantial portion of such built-in gain
until they elect to exercise their Unit Redemption Right, one or both
of the Hotels currently owned, directly or indirectly, by MHP are sold
or otherwise disposed of in a taxable transaction by the Operating
Partnership or the debt now secured by such Hotels is repaid, prepaid
or substantially reduced. The federal income tax consequences of the
Merger are highly complex and, with respect to each MHP Limited
Partner, are dependent upon many variables, including the particular
circumstances of such MHP Limited Partner. See "Federal Income Tax
Considerations -- Tax Consequences of the Merger." Each MHP Limited
Partner is urged to consult with his own tax advisors as to the
consequences of the Merger in light of his particular circumstances.
. Risk Diversification. Participation in the Merger, as well as future
hotel acquisitions by the Operating Partnership, will reduce the
dependence of MHP Limited Partners upon the performance of, and the
exposure to the risks associated with, MHP's Hotels and spread such
risk over a broader and more varied portfolio, including more diverse
geographic locations and multiple brands. See "Business and
Properties -- Business Objectives."
. Reduction in Leverage and Interest Costs. It is expected that the
Operating Partnership will have a significantly lower leverage to
value ratio than MHP currently, which has a leverage ratio of 56%
(calculated as a percentage of Appraised Value), resulting in interest
and debt service savings and greater financial stability.
. Growth Potential. The General Partner believes that the MHP Limited
Partners, by owning interests in a publicly traded real estate
company focused primarily on a more diverse and growing upscale and
luxury full-service hotel portfolio, will be able to participate in
growth opportunities that would not otherwise be available to them.
. Greater Access to Capital. With publicly traded equity securities, a
larger base of assets and a substantially greater equity value than
MHP individually, Host REIT expects to have greater access to the
capital necessary to fund the Operating Partnership's operations and
to consummate acquisitions on more attractive terms than would be
available to MHP individually. This greater access to capital should
provide greater financial stability to the Operating Partnership and
reduce the level of risk associated with refinancing existing loans
upon maturity, as compared to MHP individually.
MHP Supp-8
<PAGE>
DETERMINATION OF EXCHANGE VALUE OF MHP AND
ALLOCATION OF OP UNITS
General. The Exchange Value of MHP will be equal to the greatest of its
Adjusted Appraised Value, Continuation Value and Liquidation Value, each of
which has been determined as follows:
. Adjusted Appraised Value. The General Partner has retained AAA to
determine the market value of each of the Hotels as of March 1, 1998
(the "Appraised Value"). The "Adjusted Appraised Value" of MHP equals
the Appraised Value of its Hotels, adjusted as of the Final Valuation
Date for lender reserves, capital expenditure reserves, existing
indebtedness (including a "mark to market" adjustment to reflect the
market value of such indebtedness), certain deferred maintenance costs,
deferred management fees and transfer and recordation taxes and fees.
. Continuation Value. The "Continuation Value" of MHP represents AAA's
estimate, as adopted by the General Partner, of the discounted present
value, as of January 1, 1998, of the MHP limited partners' share of
estimated future cash distributions and estimated net sales proceeds
(plus lender reserves), assuming that MHP continues as an operating
business for twelve years and its assets are sold on December 31, 2009
for their then estimated market value.
. Liquidation Value. The "Liquidation Value" of MHP represents the General
Partner's estimate of the net proceeds to MHP limited partners resulting
from the assumed sale as of December 31, 1998 of the Hotels of MHP, each
at its Adjusted Appraised Value (after eliminating any "mark to market"
adjustment and adding back the deduction for transfer taxes and fees, if
any, made in deriving the Adjusted Appraised Value), less (i) estimated
liquidation costs, expenses and contingencies equal to 2.5% of Appraised
Value and (ii) prepayment penalties or defeasance costs, as applicable.
Final determination of the Exchange Value of MHP will be made as of the end
of the four week accounting period ending at least 20 days prior to the Closing
Date (the "Final Valuation Date") and will be equal to the greatest of Adjusted
Appraised Value, Continuation Value and Liquidation Value as of such date.
Adjusted Appraised Value, Continuation Value and Liquidation Value will be
adjusted as of the Final Valuation Date (i) to reflect the amount of lender and
capital expenditure reserves and the amount of deferred management fees as of
such date, (ii) to increase the Adjusted Appraised Value by any amounts actually
expended by MHP after the Initial Valuation Date to perform deferred maintenance
previously subtracted in determining the estimated Adjusted Appraised Value of
MHP and (iii) to reflect any changes in MHP's other reserves, such as for
litigation expenses and indemnification costs and any revised estimates of
transfer and recordation taxes and fees.
Appraised Value. MHP's Hotels were appraised as of March 1, 1998 by AAA,
an independent, nationally recognized hotel valuation and financial advisory
firm experienced in the appraisals of lodging properties such as MHP's Hotels.
Each appraisal (an "Appraisal") was reviewed by an MAI appraiser and certified
by such MAI appraiser as having been prepared in accordance with the
requirements of the Standards of Professional Practice of the Appraisal
Institute and the Uniform Standards of Professional Appraisal Practice of the
Appraisal Foundation.
The purpose of each Appraisal is to provide an estimate of the "Market
Value" of the related Hotel. "Market Value" means the most probable price which
a property should bring in a competitive and open market under all conditions
requisite to a fair sale, the buyer and seller each acting prudently and
knowledgeably and assuming the price is not affected by undue stimuli. Implicit
in this definition is the consummation of a sale as of a specified date and the
passing of title from seller to buyer under conditions whereby: (i) the buyer
and seller are equally motivated; (ii) both parties are well informed or well
advised, and each is acting in what he considers his own best interest; (iii) a
reasonable time frame is allowed for exposure in the open market; (iv) payment
is made in terms of cash in U.S. dollars or in terms of financial arrangements
comparable thereto and (v) the price represents the normal consideration for the
property sold unaffected by special or creative financing or sales concessions
granted by anyone associated with the sale. AAA made site visits to all of
MHP's Hotels for purposes of the Appraisals.
In preparing the Appraisals, AAA relied primarily on the income
capitalization method of valuation, and then compared the value estimated by
this method with recent sales of comparable properties, as a check on the
reasonableness of the value determined through the income capitalization method.
AAA employed the following procedures for determining the Appraised Value of
each Hotel:
. Historical 1997 and Projected Year's Earnings. AAA reviewed the historical
1997 net operating income (i.e., income before interest, taxes, depreciation
and amortization) ("NOI") prior to incentive management fees and certain
capital expenditures for each Hotel. AAA also prepared a projection of the
net operating income prior to incentive management fees and certain capital
expenditures for each Hotel for the twelve month period ending February 28,
1999 (the "Projected Year"), using historical financial information for each
Hotel, budget information, a survey with the manager of each Hotel addressing
the physical condition of each Hotel, local market conditions (including
business mix, demand generators, future trends and predictability of
business), changes in the competitive environment, comparison with direct
competitors of each Hotel and risk factors relating to the particular Hotel.
The resulting gross margin (ratio of total revenues to NOI prior to incentive
management fees) was checked against AAA's database of the gross margins for
similar hotels for reasonableness.
. Impact of Incentive Management Fees. AAA estimated a normalized annual amount
of incentive management fees payable under the applicable management agreement
and subtracted this amount from the NOI prior to incentive management fees and
certain capital expenditures for 1997 and the Projected Year.
. Impact of Owner Funded Capital Expenditures. AAA estimated normalized annual
amounts of owner funded capital expenditures (over and above the FF&E reserve)
based in part on projected owner funded capital expenditures estimated in the
Engineering Study. The normalized amounts were then subtracted from the NOI
prior to owner funded capital expenditures for 1997 and the Projected Year.
. Capitalization of Adjusted NOI. AAA then capitalized the amount resulting from
the foregoing adjustments ("Adjusted NOI") for 1997 and the Projected Year by
dividing such amounts by capitalization rates that AAA determined to be
appropriate. A capitalization rate represents the relationship between net
operating income and sales prices of income producing property. AAA selected
the capitalization rates based upon its review of current published surveys
reflecting the opinions of investors and participants such as REITs, hotel
acquisition/management companies and pension funds, lenders, brokers and
consultants as to current capitalization rates, and its own database of
capitalization rates reflected in recent transactions, adjusted for factors
specific to the individual Hotel, such as location, physical condition,
reserve policies, local market volatility and competition, guest mix,
renovation influences and other income characteristics. AAA used separate
capitalization rates that it deemed appropriate to capitalize 1997 historical
Adjusted NOI and estimated Projected Year's Adjusted NOI. AAA then estimated
the value of each Hotel based upon each of the values estimated by
capitalizing 1997 and Projected Year's Adjusted NOI and its professional
judgment. The following table sets forth the effective capitalization rates
for 1997 and Projected Year's Adjusted NOI resulting from AAA's estimated
Appraised Values of MHP's Hotels.
RESULTING EFFECTIVE CAPITALIZATION RATES FOR APPRAISALS OF MHP'S HOTELS
<TABLE>
<CAPTION>
PROJECTED YEAR
1997 (ENDING FEBRUARY 28, 1999)
---- --------------------------
<S> <C>
8.8 - 9.4% 9.8 - 10.2%
</TABLE>
MHP Supp-9
<PAGE>
The resulting Appraised Value of MHP's Hotels, as estimated by AAA, is
$354,261,000, which excludes 49.5% of the $122,300,000 Appraised Value of the
Harbor Beach Resort and the $82,266,000 in mortgage debt encumbering the Hotel.
. Comparison with Comparable Sales. AAA checked the Appraised Value of each
Hotel derived by the foregoing procedures against its database of comparable
sale transactions for reasonableness.
In the case of Harbor Beach Resort, which is only partly owned by MHP, the
Appraised Value of such Hotel was reduced proportionately to the amount
attributable to MHP'S ownership interest therein (but no adjustment was made to
reflect the effect that the outside interest might have on decisions with
respect to sales, refinancings or other major operational matters). With
respect to MHP's Hotels, one property was encumbered by a ground lease as of the
date of the Appraisal. Accordingly, the Appraised Value of such Hotel has been
decreased to reflect the encumbrance of the ground lease and the interest of the
ground lessor in the operating cash flows of such Hotel. The Appraised Value
assumes all contractual provisions for FF&E reserves are adequate and have not
been reduced to reflect deferred maintenance or environmental remediation costs
with respect to MHP's Hotels (but estimated deferred maintenance costs have been
deducted in estimating the Adjusted Appraised Value of each of MHP's Hotels).
The Appraised Value did not take into account the costs that might be incurred
in selling a Hotel (but estimated costs for transfer and recordation taxes and
fees have been deducted in estimating the Adjusted Appraised Value of each
Hotel).
The Appraisals are not guarantees of present or future values and no
assurance can be given as to the actual value of MHP's Hotels. The Appraisals
should be read in conjunction with other information, such as, but not limited
to, the audited financial statements of MHP.
The Appraised Value, and the assumptions underlying the projections on
which the Appraised Value is based, are contingent upon a series of future
events, the outcomes of which are not necessarily within the Operating
Partnership's control and cannot be determined at this time. There can be no
assurance that another appraiser would not have arrived at a different result.
Some of the assumptions inevitably will not materialize, and unanticipated
events and circumstances will occur subsequent to the date of the Appraisals.
Furthermore, the actual results achieved from MHP's Hotels will vary from the
results projected in the Appraisals and the variations may be material.
Adjusted Appraised Value. The Adjusted Appraised Value of MHP was
determined by totaling the Appraised Values of all of the Hotels of MHP and then
making various adjustments to the aggregate Appraised Value, as described below.
. Lender Reserves. MHP's debt service reserves are required to be held by
third-party lenders. The amount of these lender reserves as of the
Initial Valuation Date was added to the Appraised Values of these Hotels.
A final determination of the lender reserves of MHP will be made on the
Final Valuation Date and any changes in such reserves will be reflected
in the Adjusted Appraised Value.
. Mortgage and Other Debt. The estimated principal balance and accrued
interest as of the Closing Date (assumed to be December 31, 1998) of all
mortgage and other debt of MHP has been subtracted from the Appraised
Value.
. Mark to Market Adjustments. The third-party loans of the Partnerships
have various interest rates and terms to maturity. In order to reflect
the fair market value of the third-party loans of each Partnership, the
estimated Adjusted Appraised Value for MHP has been increased to "mark to
market" the interest rate for such loans. This adjustment has been
estimated by comparing the interest cost using the applicable interest
rates on existing third-party loans over their remaining term to the
interest cost using the interest rate that the Operating Partnership
believes it would be able to obtain for unsecured debt in the market as
of the Final Valuation Date (which would have been 8.0% per annum based
on a 225 basis point (2.25 percent) spread over the yield on seven-year
U.S. Treasury securities as of May 8, 1998). The mark to market
adjustment for each loan was calculated by determining the difference
between the present values, as of December 31, 1998, of the interest
payments over the remaining term of the loan from January 1, 1999 to
maturity using the actual interest rate as the discount rate as compared
to using the assumed market rate as the discount rate.
. Deferred Maintenance Costs. The estimated cost to complete any deferred
maintenance items identified in the Engineering Study relating to the
Hotels of MHP has been subtracted from the Appraised Value. The
adjustments for this item will be reduced at the Final Valuation Date to
reflect amounts expended after the Initial Valuation Date to perform such
deferred maintenance. No adjustments have been made for previously
budgeted capital expenditures or deferred maintenance costs estimated in
the Engineering Study that are reflected in the cash flow projections
used for purposes of estimating Appraised Values.
MHP Supp-10
<PAGE>
The following table sets forth the adjustments to the aggregate Appraised
Values made to derive the estimated Adjusted Appraised Value for MHP as of the
Initial Valuation Date.
CALCULATION OF ESTIMATED ADJUSTED APPRAISED VALUE FOR MHP
AS OF THE INITIAL VALUATION DATE
(IN THOUSANDS, EXCEPT PER PARTNERSHIP UNIT AMOUNT)
<TABLE>
<S> <C>
Appraised Value $ 354,261(1)
Lender reserves 1,800
Mortgage debt (192,137)
Other debt (722)
Mark to market adjustment 2,878
Deferred maintenance costs (245)
Estimated Adjusted Appraised $ 165,835
Value Value
Limited partners' share 140,032
Per Partnership Unit 140,032
</TABLE>
(1) Excludes 49.5% of the $122,300,000 Appraised Value of the Harbor Beach
Resort and the $82,266,000 in mortgage debt encumbering the Hotel.
Continuation Value. AAA estimated the Continuation Value of MHP using the
following methodology:
. Estimated Future Cash Distributions. AAA prepared estimates of future
partnership cash flow for MHP for the 12-year period from January 1,
1998 through December 31, 2009 based upon the estimated 1998 NOI before
incentive management fees used in the Appraisals and for each subsequent
year applying an assumed annual stabilized growth rate (as shown in the
table below) developed by AAA for this analysis. For each year in the
projection period, AAA estimated the amount of cash available for
distribution to MHP's limited partners after payment of all management
fees, debt service, owner funded capital expenditures based on the
Engineering Study and other partnership expenses and after application
of the applicable partnership agreement provisions. AAA assumed that
MHP's FF&E reserve was adequate and understood that Host determined that
there were no reserve shortfalls or surpluses.
. Refinancing Assumptions. For MHP's first mortgage loan, which matures
during the 12-year period, AAA assumed that the debt would be refinanced
with an interest rate of 7.25% per annum and a 25- year amortization
schedule, with estimated refinancing costs of 1% of the refinanced
amount being paid from operating cash flow.
. Determination of Residual Value. To estimate the residual value of the
MHP limited partners' interest in MHP at the end of the 12-year period,
AAA assumed that all of MHP's Hotels would be sold as of December 31,
2009 at their then market value. AAA estimated the market value of each
Hotel as of such date by applying an exit capitalization rate that it
deemed appropriate, using the factors described above in connection with
the "-- Appraised Value," which are set forth in the table below, to the
estimated Adjusted NOI for 2009 (estimated as described above). AAA then
subtracted estimated sales costs of 2.0% of the estimated market value,
added lender reserves, and subtracted the estimated outstanding
principal balance of debt as of December 31, 2009 and deferred
management fees to arrive at net sales proceeds available for
distribution to partners. AAA then determined what portion of such
estimated net sales proceeds would be distributable to MHP's limited
partners under the various partnership and debt agreements.
. Discounting Distributions to Present Value. As a final step, AAA
discounted the estimated future cash distributions to MHP's limited
partners from operations and estimated net sales proceeds to their
present value as of January 1, 1998, using a discount rate of 20% per
annum. AAA believes that this discount rate reflects the return on
investment that investors expect from leveraged investments of this
nature.
MHP Supp-11
<PAGE>
The growth rate and exit capitalization rate used to determine the
estimated Continuation Value for MHP are as set forth below:
GROWTH RATES, EXIT CAPITALIZATION RATES
AND ESTIMATED CONTINUATION VALUE FOR MHP
<TABLE>
<CAPTION>
ESTIMATED
CONTINUATION VALUE
GROWTH RATE EXIT CAPITALIZATION RATE (2009) (PER PARTNERSHIP UNIT)
- ------------------------ ----------------------------------- -------------------------------
<S> <C> <C>
3.47%(1) 9.9% $141,425
</TABLE>
/(1)/ REFLECTS THE AVERAGE OF THE STABILIZED GROWTH RATES OF HARBOR BEACH
RESORT (3.80% EACH YEAR) AND ORLANDO WORLD CENTER (3.50% BEGINNING IN
2003 TO REFLECT THE EFFECT OF THE PLANNED EXPANSION OF THE HOTEL).
Liquidation Value. The Liquidation Value of MHP was estimated by the
General Partner and represents the estimated value of MHP if all of its assets
were sold as of December 31, 1998. Such value was based upon the Adjusted
Appraised Value of MHP, with the following adjustments: (i) the "mark to market"
adjustment used to estimate the Adjusted Appraised Value was eliminated and
instead prepayment or defeasance costs that would be payable under existing debt
agreements (regardless of whether the debt in fact can be prepaid on December
31, 1998) were deducted from the Appraised Value; and (ii) the deduction for
transfer and recordation taxes used to estimate the Adjusted Appraised Value was
eliminated and instead an amount equal 2.5% of the Appraised Value of MHP's
Hotel(s) was subtracted from the Appraised Value for estimated liquidation
costs, expenses and contingencies. The General Partner then determined the
portion of the estimated Liquidation Value that would be distributable to MHP's
limited partners under the terms of the partnership agreement and other
contractual arrangements.
The following table sets forth the adjustments made to the Adjusted
Appraised Value to estimate the Liquidation Value of MHP as of the Initial
Valuation Date:
CALCULATION OF ESTIMATED LIQUIDATION VALUE OF MHP
AS OF THE INITIAL VALUATION DATE
(IN THOUSANDS, EXCEPT PER PARTNERSHIP UNIT AMOUNT)
<TABLE>
<S> <C>
Appraised Value $ 354,261/(1)/
Lender reserves 1,800
Mortgage debt (192,137)
Other debt (722)
Prepayment/defeasance costs (10,794)
Deferred maintenance costs (245)
Sales costs (8,857)
Estimated Liquidation Value $ 143,306
Limited partners' share $ 124,261
Per Partnership Unit $ 124,261
</TABLE>
/(1)/ Excludes 49.5% of the $122,300,000 Appraised Value of the Harbor Beach
Resort and the $82,266,000 in mortgage debt encumbering the Hotel.
Estimated Exchange Value. The following table sets forth the estimated
Exchange Value of MHP (based upon the Appraised Values of MHP's Hotels as of
March 1, 1998 and the estimated adjustments described above) and the estimated
Note Election Amount for MHP, all on a per Partnership Unit basis. The
estimated Exchange Value for MHP (which will be received by each MHP Limited
Partner retaining OP Units in the Merger) is equal to its Continuation Value.
The estimated Note Election Amount for MHP (which will be received by MHP
Limited Partners electing to receive Notes in exchange for OP Units) is equal
to its Liquidation for MHP. The estimated values set forth below may increase
or decrease as a result of various adjustments, which will be finally calculated
as of the Final Valuation Date but will not change as a result of less than all
of the Partnerships participating in the Mergers.
MHP Supp-12
<PAGE>
ESTIMATED EXCHANGE VALUE OF MHP
PER PARTNERSHIP UNIT/(1)/
<TABLE>
<CAPTION>
ESTIMATED ESTIMATED ESTIMATED ESTIMATED ESTIMATED
ADJUSTED APPRAISED CONTINUATION LIQUIDATION EXCHANGE NOTE ELECTION
VALUE VALUE VALUE VALUE/(2)/ AMOUNT/(3)/
- ---------------------------------------- ------------ ----------- ---------- --------------
<S> <C> <C> <C> <C>
$ 140,032 $141,425 $124,261 $141,425 $124,261
</TABLE>
_________________
/(1)/ A Partnership Unit in MHP represents an original investment of $100,000.
/(2)/ The estimated Exchange Value is equal to the greatest of estimated
Adjusted Appraised Value, estimated Continuation Value and estimated
Liquidation Value.
/(3)/ The principal amount of Notes is equal to the greater of (i) the
Liquidation Value or (ii) 60% of the Exchange Value (the "Note Election
Amount").
Valuation of OP Units Allocated to MHP's Limited Partners. Each MHP Limited
Partner will receive OP Units with a deemed value equal to the Exchange Value of
such MHP Limited Partner's Partnership Interests. The value of an OP Unit for
this purpose will be deemed to be equal to (i) the average of the closing price
of shares of Host common stock on the NYSE for the 10 trading days ending on the
third trading day prior to the record date for the distribution of SLC common
stock to Host shareholders minus (ii) the amount of cash and the estimated
value, as determined by Host's Board of Directors in good faith and in reliance
in part upon an opinion of an independent financial advisor, of the SLC common
stock or other property to be distributed with respect to each share of Host
common stock (currently estimated to aggregate approximately $___ - $____ per
share) in connection with the REIT Conversion. The closing price per share of
Host common stock on May 28, 1998 was $19.4375.
MHP Limited Partners who receive OP Units will receive cash distributions
from MHP for all of 1998 and, if the Merger does not occur in 1998, any portion
of 1999 prior to the Merger for which period they do not receive a cash
distribution from the Operating Partnership.
No fractional OP Units will be issued. Fractional amounts less than or
equal to 0.50 of an OP Unit will be rounded down to the next whole number and
fractional amounts greater than 0.50 will be rounded up to the next whole number
of OP Units.
CASH DISTRIBUTIONS
HISTORICAL CASH DISTRIBUTIONS PAID BY MHP. The following table sets forth
the distributions paid to MHP Limited Partners (per Partnership Unit) for the
periods indicated. The information below should be read in conjunction with the
information in this Supplement under the caption "Selected Financial Data."
HISTORICAL CASH DISTRIBUTIONS PAID BY MHP
(PER PARTNERSHIP UNIT)/(1)/
<TABLE>
<CAPTION>
FIRST QUARTER FISCAL YEAR
------------- --------------------------------------------
1998 1997 1996 1995 1994 1993
---- ---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C> <C>
From net income.......................... $ -- $7,706 $4,964 $2,084 $ -- $ --
Representing return of capital/(2)/...... -- -- -- -- -- --
----- ------ ------ ------ ----- -----
Total............................... $ -- $7,706 $4,964 $2,084 $ -- $ --
===== ====== ====== ====== ===== =====
</TABLE>
___________
/(1)/ A Partnership Unit represents a $100,000 original investment in MHP.
/(2)/ Computed as all distributions in excess of distributions from operating
cash flow.
COMPENSATION AND DISTRIBUTIONS TO THE GENERAL PARTNER. Under MHP's
partnership agreement, the General Partner does not receive fees or compensation
in connection with managing the affairs of MHP but the General Partner and its
affiliates are reimbursed for certain costs and expenses incurred on behalf of
MHP. The following information has been prepared to compare the amount of
reimbursements paid and cash distributions made by MHP to the General Partner
and its affiliates to the amounts that would have been paid if the reimbursement
and distribution structure which will be in effect after the REIT Conversion had
been in effect for the periods presented.
Following the REIT Conversion, Host REIT will be operated as a self-
administered REIT and as a result no reimbursements or other compensation will
be received by the General Partner.
MHP Supp-13
<PAGE>
During the First Quarter 1998 and fiscal years 1997, 1996 and 1995, amounts
actually paid by MHP to the General Partner are shown below under "Historical"
and the estimated amounts that would have been paid had the Merger been in
effect for the periods presented (assuming the Full Participation Scenario) are
shown under "Pro Forma."
HISTORICAL AND PRO FORMA REIMBURSEMENTS AND DISTRIBUTIONS TO THE GENERAL PARTNER
AND ITS AFFILIATES
(IN THOUSANDS)
<TABLE>
<CAPTION>
FISCAL YEAR
FIRST QUARTER
------------- -----------------------------
1998 1997 1996 1995
---- ---- ---- ----
<S> <C> <C> <C> <C>
Historical
Principal and Interest payments
on Orlando Ballroom Loan $ -- $2,429 $4,604 $3,531
Reimbursements 73 204 126 129
Distributions/(2)/ -- 3,845 102 43
----- ------ ------ ------
Total Historical $ 73 $6,478 $4,832 $3,703
===== ====== ====== ======
Pro Forma
Reimbursements $ -- $ -- $ -- $ --
Distributions attributable
to Units /(1)/ N/A N/A N/A N/A
----- ------ ------ ------
Total Pro Forma $ -- $ -- $ -- $ --
===== ====== ====== ======
</TABLE>
___________
/(1)/ The OP Units to be received by Host in connection with the REIT
Conversion will be equal to the number of shares of Host's common stock
outstanding and not allocated based upon their interests in any of the
Partnerships, including MHP. Thus, the distributions received by Host and
its affiliates by way of their interests in the Partnerships, including
MHP, cannot be determined on a pro forma basis.
/(2)/ In 1997, MHP Acquisition Corporation, an affiliate of the General
Partner, purchased a controlling interest in MHP. Distributions to the
General Partner were $63,000, $50,000 and $22,000 for the fiscal years
ended December 31, 1997, 1996 and 1995, respectively and to the
Partnership Units owned by Host were $3,782,000 for the fiscal year ended
December 31, 1997.
CERTAIN INFORMATION REGARDING THE HOTELS OWNED BY MHP
<TABLE>
<CAPTION>
NAME OF HOTEL LOCATION OF HOTEL NUMBER OF ROOMS DATE OPENED
- ------------- ------------------- --------------- -----------
<S> <C> <C> <C>
Marriott's Orlando World Center Orlando, FL 1,503 1986
Marriott's Harbor Beach Resort/(1)/ Fort Lauderdale, FL 624 1984
-----
Total 2,127
=====
</TABLE>
___________
/(1)/ MHP owns a 50.5% interest in Marriott's Harbor Beach Resort.
The table below sets forth certain performance information for MHP's Hotels
for the indicated periods.
<TABLE>
<CAPTION>
First Quarter Fiscal Year
-------------------
1998 1997 1997 1996 1995
-------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C>
Average daily rate $192.84 $182.03 $155.44 $145.33 $139.40
Occupancy 85.5% 88.6% 80.3% 78.7% 79.0%
REVPAR $164.88 $161.28 $124.82 $114.37 $110.13
% REVPAR change 2.2% -- 9.1% 3.9% --
</TABLE>
MHP Supp-14
<PAGE>
MARRIOTT'S ORLANDO WORLD CENTER, ORLANDO, FLORIDA
The Orlando Hotel is a full-service Marriott hotel located on approximately
190 acres of fee-owned land two miles from Walt Disney World Resort and is known
as Marriott's Orlando World Center. It is located approximately 15 miles from
the Orlando International Airport.
The Orlando Hotel opened on March 24, 1986. The Orlando Hotel contains
1,503 guest rooms, including 85 suites, in a 27-story building. Designed as
part of the Marriott International network of
convention hotels, it has extensive meeting and convention facilities totaling
200,000 square feet, all on one level of the hotel, including (i) a 38,675
square foot grand ballroom, (ii) additional ballroom space of 40,740 square feet
which can be subdivided into meeting rooms and exhibit space, (iii) a 50,960
square foot ballroom and exhibition hall which was completed in 1990 and (iv) 14
meeting rooms. Hotel facilities also include nine restaurants and lounges, an
18-hole championship golf course, eight lighted tennis courts, four pools, a
health club, golf and tennis pro shops, specialty and gift shops, a game room
and parking for 2,100 cars. MHP purchased the Orlando Hotel in 1984 for
approximately $211 million. In March 1998, MHP announced its plan to construct a
500-room tower with a new parking garage at the Orlando Hotel.
Competition. The primary competition for the Orlando Hotel comes from the
following five first-class convention and resort lodging-oriented hotels: (i)
the Sheraton Dolphin Hotel with 1,510 guest rooms and 202,000 square feet of
meeting space, (ii) the Westin Swan with 758 guest rooms and 52,000 square feet
of meeting space, (iii) the Peabody Hotel with 891 guest rooms and 54,000 square
feet of meeting space, (iv) the Hyatt Regency Grand Cypress Hotel, with 750
guest rooms and 65,000 square feet of meeting space and (v) the Coronado Springs
Resort, which opened in July 1997, with 1,967 rooms and 99,000 square feet of
meeting space. In addition, other hotels, including hotels owned by Disney,
also compete with the Orlando Hotel. None of these hotels are operated as part
of the Marriott International full-service hotel system. As a major convention
hotel, the Orlando Hotel also competes with similar facilities throughout the
country.
Several new hotel projects are expected to enter the market in the near
future, including hotels by Disney and Loews Corporation. Loews Corporation has
plans to construct two first-class hotels on Universal Studios Florida property
of approximately 800 and 1,300 rooms to be opened by the year 2000. As a result
of the continued expansion of Walt Disney World, the All Star Resort with 3,840
rooms is going to increase to 5,760 rooms. Additionally, the Animal Kingdom
attraction at Walt Disney World is planning to open a hotel by January 1999.
MARRIOTT'S HARBOR BEACH RESORT, FORT LAUDERDALE, FLORIDA
The Harbor Beach Hotel is a full-service Marriott hotel located on a 16.5
acre tract of leased beach-front property located in Fort Lauderdale, Florida
and is known as Marriott's Harbor Beach Resort. The Hotel is located
approximately five miles from the Fort Lauderdale/Hollywood International
Airport.
The Harbor Beach Hotel opened in October 1984 with 624 guest rooms,
including 35 suites, in a 15-story building. The Harbor Beach Hotel has
approximately 30,000 square feet of meeting and banquet space, including (i) a
14,900 square foot grand ballroom, (ii) an 8,000 square foot junior ballroom,
(iii) seven meeting rooms and (iv) two boardrooms. Hotel facilities also
include five restaurants, three lounges, a 1,100 foot private ocean beach with
50 private cabanas, an outdoor pool, five tennis courts, a health club, gift
shop, tennis pro shop and parking for 900 cars. The Harbor Beach Partnership,
of which MHP owns 50.5%, purchased the Harbor Beach Hotel in 1982 for
approximately $87 million.
Competition. The primary competition for the Harbor Beach Hotel comes from
the following five first-class hotels: (i) the Hyatt Pier 66 with 388 guest
rooms and 22,000 square feet of meeting space, (ii) the Boca Raton Hotel and
Club with 963 guest rooms and 70,000 square feet of meeting space, (iii) the
Marriott Marco Island Resort and Golf Club with 735 guest rooms and 48,000
square feet of meeting space, (iv) the Sheraton Bal Harbour with 644 guest rooms
and 73,000 square feet of meeting space and (v) the Breakers with 572 guest
rooms and 36,000 square feet of meeting space. The Marriott Marco Island Resort
and Golf Club is managed by Marriott International, and other than limited joint
marketing efforts, the Harbor Beach Hotel and the Marriott Marco Island Resort
are direct competitors. Host acquired another competing area hotel, the Fort
Lauderdale Marina Hotel, in January 1994. In addition, other hotels in the Fort
Lauderdale area also compete with the Harbor Beach Hotel; however, these differ
from the Harbor Beach Hotel in terms of size, room rates, facilities, amenities
and services offered, market orientation and/or location. None of these other
hotels are operated as part of the Marriott International full-service hotel
system. As a major resort facility, the Harbor Beach Hotel also competes with
similar facilities throughout the country. The Loews Miami Beach hotel with 800
rooms and 85,000 square feet of meeting space is scheduled to open in October
1998.
MHP Supp-15
<PAGE>
Ground Lease. The Harbor Beach Hotel is located on a site that is leased
from an unrelated third party for an initial term expiring November 30, 2080.
The Harbor Beach Partnership has the option to extend the term for an additional
25 years. The lease provides for annual rental of $1,560,000 for lease years
1995 through 1999. Thereafter, annual rentals for each succeeding five-year
period increase by an amount equal to 10% of the previous annual rental. Under
the lease, the Harbor Beach Partnership pays all costs, expenses, taxes and
assessments relating to the Harbor Beach Hotel and the underlying land,
including real estate taxes. In the event the ground lessor decides to sell the
leased premises, the Harbor Beach Partnership has a right of first refusal to
purchase the leased premises. Upon expiration or termination of the lease,
title to the Harbor Beach Hotel and all improvements revert to the ground
lessor.
AMENDMENTS TO MHP'S PARTNERSHIP AGREEMENT
In order to allow the Hotels of MHP to be leased to SLC in connection with
the Merger and the REIT Conversion, MHP's partnership agreement must be amended.
Currently, there is no provision in MHP's partnership agreement to allow MHP's
Hotels to be leased. Therefore, Section 5.02B of MHP's partnership agreement
must be amended to add a new paragraph 5.02B(xi) to read as follows:
(xi) lease or consent to the lease, directly or indirectly, in one
transaction or a series of related transactions, any or all of the
Hotels.
Other Amendments. Amendments to certain terms and sections of MHP's
----------------
partnership agreement would be made in order to (i) reduce to one the number of
appraisals of the fair market value of MHP's Hotels that MHP must provide to
MHP Limited Partners before the General Partners can cause MHP to sell its
assets to the General Partner or an affiliate, (ii) delete certain obsolete
references to entities and agreements that are no longer in existence, (iii)
update MHP's partnership agreement to reflect the passage of time since the
formation of MHP and (vi) make any other amendments to MHP's partnership
agreement deemed necessary or advisable, in the sole discretion of the General
Partner, in connection with the consummation of the Mergers and the REIT
Conversion. The General Partner does not believe that these amendments would
affect the rights of the MHP Limited Partners in any material respect nor the
duties and obligations of the General Partner. These changes are included,
along with the other proposed amendments, in the copy of MHP's partnership
agreement, as proposed to be amended, which is attached hereto. The amended MHP
partnership agreement is marked to indicate the revisions made to the existing
MHP partnership agreement and should be read in its entirety. Deleted
provisions are contained in brackets and struck through and added provisions are
in bold type and underlined.
The vote required for such amendments is a majority of the outstanding
limited partnership interests. The General Partner and its affiliate
collectively owns 48.3% of the outstanding limited partnership interests. In
connection with the amendments, the General Partner and its affiliate must vote
all of their limited partnership interests in the same manner as the majority of
limited partnership interests constituting a quorum vote. A majority of limited
partnership interests held by Limited Partners constitutes a quorum.
THE GENERAL PARTNER RECOMMENDS THAT MHP LIMITED PARTNERS VOTE TO APPROVE
THE REQUESTED AMENDMENTS TO THE MHP PARTNERSHIP AGREEMENT.
FAIRNESS
FAIRNESS ANALYSIS
The General Partner believes that the terms of the Merger provide
substantial benefits and are fair to the Limited Partners of MHP and recommends
that all Limited Partners of MHP consent to the Merger. The General Partner
bases this recommendation primarily on (i) its view that the expected benefits
of the Merger for the MHP Limited Partners outweigh the risks and potential
detriments of the Merger to the MHP Limited Partners (see "Background and
Reasons for the Mergers and the REIT Conversion -- Reasons for the Mergers" and
"Risk Factors"), (ii) its view that the value of the OP Units allocable to the
MHP Limited Partners on the basis of the Exchange Value established for MHP
represents fair consideration for the Partnership Interests held by the MHP
Limited Partners and is fair to the MHP Limited Partners from a financial point
of view, and (iii) the Fairness Opinion of AAA stating that (a) the
methodologies and underlying assumptions used to determine the Exchange Value,
the Adjusted Appraised Value, the Continuation Value and the Liquidation Value
of MHP and each other Partnership, including, without limitation, the
assumptions used to determine the various adjustments to the Appraised Values of
the Hotels, are fair and reasonable, from a financial point of view, to the
Limited Partners of MHP and each other Partnership and (b) the methodologies
used to determine the value of an OP Unit and to allocate the equity interest in
the Operating Partnership to be received by the MHP Limited Partners and the
Limited Partners of each Partnerships are fair and reasonable to the MHP Limited
Partners and the Limited Partners of each other Partnership.
MHP Supp-16
<PAGE>
The Merger is not conditioned upon the consummation of the other Mergers.
The General Partner has considered this fact in evaluating the fairness of the
Merger. The General Partner believes that the fairness of the Merger will not
be materially affected by the presence or absence of any other individual
Partnership or by any particular combination of other Partnerships and that the
Merger will be fair to the MHP Limited Partners, individually and as a whole, if
it is consummated with any combination of other Participating Partnerships. The
General Partner bases this belief primarily on the fact that the consideration
to be paid to the MHP Limited Partners has been established based upon MHP's
Exchange Value, without regard to any possible combination of other
Partnerships.
In reaching the conclusions implicit in the above recommendation, the
General Partner has taken into account the following considerations:
. The General Partner has concluded that the Exchange Value for MHP,
which is equal to the greatest of its Adjusted Appraised Value,
Continuation Value and Liquidation Value, represents fair
consideration for the Partnership Interests of the MHP Limited
Partners in the Merger in relation to MHP The General Partner also has
concluded that the Exchange Value established for the MHP Limited
Partners fairly reflects the value of the assets held by MHP. In
addition, the Fairness Opinion supports these conclusions.
. The General Partner has concluded that the potential benefits of the
Merger to the MHP Limited Partners, as described under "Background and
Reasons for the Mergers and the REIT Conversion -- Reasons for the
Mergers," outweigh the potential risks and detriments of the Merger
for the MHP Limited Partners, as described in "Risk Factors."
. The Fairness Opinion, in the view of the General Partner, supports the
fairness of the Merger, even though it includes qualifications,
limitations and assumptions relating to its scope and other factors
that MHP Limited Partners should consider carefully.
. Host will contribute its wholly owned full-service hotel assets, its
interests in the Hotel Partnerships and its other assets (excluding
its senior living assets) to the Operating Partnership in exchange for
(i) a number of OP Units equal to the number of outstanding shares of
common stock of Host, (ii) preferred partnership interests in the
Operating Partnership corresponding to any shares of Host preferred
stock outstanding at the time of the REIT Conversion and (iii) the
assumption by the Operating Partnership of certain liabilities of
Host. Following these contributions, the Operating Partnership and its
subsidiaries will directly own all of Host's wholly-owned hotels and
all of Host's interests in the Hotel Partnerships and other assets.
Host REIT will not receive any compensation for its services as
general partner to the Operating Partnership following the REIT
Conversion and will benefit from the operations of the Operating
Partnership only to the extent of the distributions received based
upon its percentage interest in the Operating Partnership to the same
extent as the other limited partners. Because Host REIT will share in
the value of the Operating Partnership solely through distributions
and not through any separate compensation structure, the General
Partner believes that this is a factor supporting the fairness of the
Merger to the MHP Limited Partners.
. The General Partner believes that the value of the consideration to be
received by the MHP Limited Partners in the Merger is fair in relation
to the value which would be derived by such Limited Partners under any
of the alternatives described under "Background and Reasons for the
Mergers and the REIT Conversion -- Alternatives to the Mergers,"
especially since the Exchange Value of MHP is equal to its Adjusted
Appraised Value, which is the greatest of the three values the
Adjusted Appraised Value, the Continuation Value and the Liquidation
Value. The General Partner does not believe that the sale of any of
MHP's Hotels and liquidation of MHP will obtain for MHP Limited
Partners as much value as the value to be received by such MHP Limited
Partners following the Merger. The General Partner believes that the
following benefits are of the greatest value and importance to the MHP
Limited Partners:
. Enhanced Liquidity. The Mergers and the REIT Conversion will
offer MHP Limited Partners significantly enhanced liquidity
with respect to their investments in MHP because, after the
expiration of the Initial Holding Period, MHP Limited
Partners will be able to exercise their Unit Redemption Right
at any time, subject to certain limited exceptions. Host has
approximately 204 million shares of common stock outstanding
and the closing price on the NYSE on May 28, 1998 was
$19.4375 per share (reflecting a total common equity market
capitalization of approximately $4 billion). The exercise of
the Unit Redemption Right, however, generally would result in
recognition of taxable income or gain at that time.
. Public Market Valuation. The General Partner believes that by
exchanging interests in which is a non-traded limited
partnership for interests in a publicly traded real estate
company focused primarily on a more diverse and growing full-
service hotel portfolio, the MHP Limited Partners will have
the opportunity to participate in the recent trend of
ownership of real estate through a publicly traded entity,
which, in many instances, has resulted in market valuations
of public real estate companies in excess of the estimated
net asset values of those companies.
. Regular Quarterly Cash Distributions. The General Partner
expects that the Operating Partnership will make regular
quarterly cash distributions to holders of OP Units. The
General Partner expects that these distributions will be less
than the estimated 1998 cash distributions for MHP, however,
the ability to receive distributions quarterly and in regular
amounts would be enhanced.
. Substantial Tax Deferral. The General Partner expects that
MHP Limited Partners who do not elect to receive Notes
generally should be able to obtain the benefits of the Merger
while continuing to defer recognition for federal income tax
purposes of at least a substantial portion, if not all, of
the gain with respect to their Partnership Interests that
otherwise would be recognized in the event of a liquidation
of MHP or a sale or other disposition of its assets in a
taxable transaction (although Limited Partners in MHP may
recognize a relatively modest amount of ordinary income as
the result of required sales of personal property to a Non-
Controlled Subsidiary in order to facilitate Host REIT's
qualification as a REIT).
. The General Partner believes that the economic terms of the leases of
the MHP Hotels are fair and reasonable from the standpoint of the
Operating Partnership.
The General Partner believes that the factors described above, which
support the fairness of the Merger to the MHP Limited Partners, when weighed
against the factors that may be disadvantageous, taken as a whole, indicate that
the Merger is fair to the MHP Limited Partners.
AAA, an independent financial advisory firm with substantial real estate
and partnership transaction experience, was engaged by the General Partner and
the other General Partners to perform the Appraisals and to render the Fairness
Opinion that (i) the methodologies and underlying assumptions used to determine
the Exchange Value, the Adjusted Appraised Value, the Continuation Value and the
Liquidation Value of MHP and each other Partnership, including, without
limitation, the assumptions used to determine the various adjustments to the
Appraised Values of the Hotels, are fair and reasonable, from a financial point
of view, to the MHP Limited Partners and the Limited Partners of each other
Partnership, and (ii) the methodologies used to determine the value of an OP
Unit and to allocate the equity in the Operating Partnership to be received by
the MHP Limited Partners and the Limited Partners of each Partnership are fair
and reasonable to the MHP Limited Partners and the Limited Partners of each
other Partnership. The Fairness Opinion is addressed to each Partnership and it
may be relied upon by each of the MHP Limited Partners and the Limited Partners
of the other Partnerships. The full text of the Fairness Opinion, which
contains a description of the assumptions and qualifications applicable to the
review and analysis by AAA, is set forth in Appendix B to the Consent
Solicitation and should be read in its entirety. The material assumptions and
qualifications to the Fairness Opinion are summarized below, although this
summary does not purport to be a complete description of the various inquiries
and analyses undertaken by AAA in rendering the Fairness Opinion. Arriving at a
fairness opinion is a complex analytical process not necessarily susceptible to
partial analysis or amenable to summary description. For a more complete
description of the assumptions and qualifications that limit the scope of the
Fairness Opinion, see " Qualifications to Fairness Opinion" and " Assumptions"
below.
Although the General Partner advised AAA that certain assumptions were
appropriate in its view, the General Partner imposed no conditions or
limitations on the scope of the investigation by AAA or the methods and
procedures to be followed by AAA in rendering the Fairness Opinion. The fees
and expenses of AAA will be treated as a Merger Expense and will be paid by the
Operating Partnership. In addition, the General Partner has agreed to indemnify
AAA against certain liabilities. See "-- Compensation and Material
Relationships."
QUALIFICATIONS TO FAIRNESS OPINION. In the Fairness Opinion, AAA
specifically states that it did not: (a) specifically consider other
methodologies for allocation of the OP Units, (b) address or conclude that other
methodologies for allocation of the OP Units to the MHP and the other
Partnerships might not have been more favorable to the Limited Partners in
certain of the Partnerships, (c) negotiate with MHP, the other Partnerships or
Host, (d) participate in establishing the terms of the Merger and the other
Mergers, (e) provide an opinion as to the terms and conditions of the Merger and
the other Mergers other than those explicitly stated in the Fairness Opinion,
(f) make any independent review of the capital expenditure estimates set forth
in the Engineering Study, (g) make any estimates of MHP's and each other
Partnership's contingent liabilities.
In connection with preparing the Fairness Opinion, AAA was not engaged to,
and consequently did not, prepare any written report or compendium of its
analysis for internal or external use beyond the analysis set forth in Appendix
B. AAA will not deliver any additional written opinion of the analysis, other
than to update the written opinion if requested by the Operating Partnership.
EXPERIENCE OF AAA. AAA is the world's largest independent valuation
consulting firm and is regularly and continually engaged in the valuation of
commercial real estate and businesses and their securities in connection with
tender offers, mergers and acquisitions, recapitalizations and reorganizations,
divestitures, employee stock ownership plans, leveraged buyout plans, private
placements, limited partnerships, estate and corporate matters, other financial
advisory matters and other valuation purposes.
AAA was selected because of its experience in the valuation of businesses
and their securities in connection with tender offers, mergers and acquisitions,
recapitalizations and reorganizations, including transactions involving hotel
partnerships. In addition, Host and its affiliates have previously engaged AAA
to provide appraisals and fairness opinions in connection with other
transactions. The General Partner and the other General Partners considered
several other firms for purposes of performing the appraisals and rendering the
Fairness Opinion, but selected AAA for the foregoing reasons.
SUMMARY OF MATERIALS CONSIDERED AND INVESTIGATION UNDERTAKEN. As a basis
for rendering for Fairness Opinion, AAA has made such reviews, studies and
analyses as it deemed necessary and pertinent in order to provide it with a
reasonable basis for the Fairness Opinion, including, but not limited to, the
following: (i) reviewed the transaction documents and SEC reporting and/or
filing documents, including drafts of the Form S-4 for the Mergers; (ii)
provided the Market Value of each Hotel owned by each Partnership in a separate
short form appraisal report and each such report was reviewed and certified by
an MAI appraiser as to its preparation in accordance with the requirements of
the Standards of Professional Practice of the Appraisal Institute and the
Uniform Standards of Professional Appraisal Practice of the Appraisal
Foundation; as part of the Appraisals, AAA reviewed historical operating
statements, 1998 budget and year-to-date results, and other financial
information as it deemed necessary as a basis for the Fairness Opinion and the
Appraisals also considered market transactions of similar lodging properties as
appropriate as a basis for the Market Value of each Hotel; (iii) reviewed the
methodologies used by each of the General Partners in their determination of the
Exchange Value of each Partnership, including the nature and amount of all
adjustments to the Appraised Values in determining such Exchange Values; AAA
reviewed and tested for the fairness and reasonableness of all adjustments as
well as for consideration of all adjustments deemed to be appropriate by AAA;
(iv) reviewed the methodologies used by each of the General Partners in their
determination of the value of an OP Unit and the allocation of the equity
interest in the Operating Partnership to be received by the limited partners of
each Partnership, and AAA reviewed and tested for the fairness and
reasonableness of the methods and measurements made by the General Partners; (v)
reviewed the General Partners' determination of the Liquidation Value of each
Partnership, and AAA reviewed and tested for the fairness and reasonableness of
all adjustments proposed by the General Partners, as well as for consideration
of all adjustments deemed appropriate by AAA; (vi) provided an estimate of the
Continuation Value of each Partnership based upon the estimated present value of
expected benefits to be received by each limited partner interest as though the
Mergers did not occur and each Partnership's assets were sold within a twelve
year period; AAA, as part of its analysis and review, determined appropriate
rates of growth in house profit or net operating income, as well as reviewed
other key variables affecting partnership cash flows and other
economic/financial factors affecting the Partnerships' expected operations and
results;(vii) reviewed the terms of the ground leases of the Hotels and the
partnership agreement of each Partnership; (viii) reviewed audited and unaudited
historical income statements, balance sheets and statements of sources and uses
of funds of each Partnership and Host and pro forma financial information for
Host REIT; (ix) reviewed audited and unaudited historical operating statements
of each Hotel, as well as current operating statements and budgets; (x)
conducted real estate valuation and financial due diligence with respect to the
Partnerships and their underlying assets, liabilities and equity; (xi) reviewed
internal Marriott International, Host and Partnership financial analyses and
other internally generated data for each Hotel; and (xii) discussed all of the
foregoing information, where appropriate, with management of Marriott
International, Host and the Partnerships, and their respective employees.
MHP Supp-17
<PAGE>
ASSUMPTIONS. In rendering its opinion, AAA relied, without independent
verification, on the accuracy and completeness in all material respects of
certain relevant publicly available information and information provided to AAA
by the Host and the Hotels. AAA assumed that all information furnished by Host,
the Hotels and the Partnerships and their representatives, upon which AAA
relied, presented and accurate description in all material respects of the
current and prospective status of the Hotels and the Partnerships from an
operational and financial point of view. AAA also noted that the Fairness
Opinion was based upon financial, economic, market and other considerations as
they existed and could be evaluated on the date thereof.
CONCLUSIONS. AAA concluded that, based upon and subject to its analysis
and assumptions and limiting conditions, and as of the date of the Fairness
Opinion: (i) the methodologies used to determine the Exchange Value, the
Adjusted Appraised Value, the Continuation Value and the Liquidation Value each
Partnership, including, without limitation, the assumptions used to determine
the various adjustments to the Appraised Values of each of the Hotels, are fair
and reasonable, from a financial point of view, to the MHP Limited Partners and
the Limited Partners of each Partnership, and (ii) the methodologies used to
determine the value of an OP Unit and to allocate the equity interest in the
Operating Partnership to be received by the MHP Limited Partners and the Limited
Partners of each Partnership are fair and reasonable to the Limited Partners of
each Partnership.
COMPENSATION AND MATERIAL RELATIONSHIPS. AAA has been paid a fee of
$________ for its services as described herein, including the Appraisals and
preparing to deliver the Fairness Opinion. In addition, AAA will be reimbursed
for all reasonable out-of-pocket expenses, including legal fees, and will be
indemnified against certain liabilities, including certain liabilities under the
securities laws. The fee was negotiated between Host, the General Partners and
AAA. Payment of the fee to AAA is not dependent upon completion of the Mergers.
AAA has been previously engaged by Host and its affiliates to provide fairness
opinions in connection with other transactions.
VOTING PROCEDURES
The consent of MHP Limited Partners holding a majority of the outstanding
limited partnership interests is required for participation in the Merger. The
General Partner and its affiliate collectively own 48.3% of the outstanding
limited partnership interests. The General Partner and its affiliate must vote
all of their limited partnership interests in the same manner as the majority of
limited partnership interests constituting a quorum vote. A majority of limited
partnership interests held by MHP Limited Partners constitutes a quorum.
A MHP Limited Partner may mark the Consent Form to vote "FOR," "AGAINST" or
"ABSTAIN" with respect to participation in the Merger by MHP. THE FAILURE OF A
LIMITED PARTNER OF MHP TO VOTE WILL MEAN THAT SUCH LIMITED PARTNER'S PARTNERSHIP
INTEREST WILL NOT BE COUNTED FOR PURPOSES OF ESTABLISHING A QUORUM AND WILL NOT
AFFECT THE MANNER IN WHICH HOST IS REQUIRED TO VOTE ITS LIMITED PARTNERSHIP
INTERESTS. A CONSENT FORM THAT IS PROPERLY SIGNED BUT NOT MARKED WILL BE VOTED
FOR THE MERGER. The voting procedures applicable to MHP Limited Partners are
set forth in the Consent Solicitation under the heading "Voting Procedures --
Required Vote and Other Conditions."
FEDERAL INCOME TAX CONSIDERATIONS
In addition to the federal income tax considerations discussed in the
sections of the Consent Solicitation entitled "Federal Income Tax
Considerations" and "Risk Factors -- Federal Income Tax Risks," MHP Limited
Partners should read carefully the following discussion of federal income tax
considerations applicable specifically to the MHP Limited Partners. The
information included in this discussion is based upon various factual
assumptions and information which are believed by the Operating Partnership and
the General Partner to be reliable. However, some of these assumptions
inevitably will not materialize, and unanticipated events and circumstances will
occur. Therefore, there likely will be differences between the
MHP Supp-18
<PAGE>
information provided herein, including the numerical data and estimates, and
actual results, and the variations may be material and adverse.
APPLICABILITY OF TAX OPINIONS
Hogan & Hartson L.L.P. ("Hogan & Hartson"), counsel to Host REIT, Host and
the Operating Partnership, has provided to Host REIT and the Operating
Partnership an opinion letter (substantially in the form of Appendix C to the
Consent Solicitation) as to certain federal income tax consequences to the
Operating Partnership and the MHP Limited Partners resulting from the Mergers
and the REIT Conversion. The opinion letter is based upon certain assumptions
and certain representations provided by Host REIT, Host, the Operating
Partnership and the General Partners. These representations generally involve
factual matters relating to the organization, ownership and operations
(including the income, assets, businesses, liabilities and properties) of the
Partnerships and Hotels contributed to the Operating Partnership by Host and the
Blackstone Entities prior to the Mergers and of Host REIT, the Operating
Partnership and the Hotel Partnerships following the Mergers and the REIT
Conversion. In addition, on the Closing Date, Hogan & Hartson expects to
provide to Host REIT and the Operating Partnership an opinion letter
(substantially in the form of Appendix D to the Consent Solicitation) as to the
qualification and taxation of Host REIT as a REIT under the Code following the
REIT Conversion. See "Federal Income Tax Considerations -- Summary of Tax
Opinions" in the Consent Solicitation.
Each opinion provided by Hogan & Hartson in the opinion letter that is
substantially in the form of Appendix C to the Consent Solicitation is
applicable to the MHP Limited Partners.
The opinions already rendered by Hogan & Hartson are based on the Code and
Treasury Regulations in effect on the date hereof, current administrative
interpretations and positions of the IRS and existing court decisions, and the
opinions to be rendered by Hogan & Hartson on the Closing Date will be based on
the same authorities as of the Closing Date. No assurance can be given that
future legislation, Treasury Regulations, administrative interpretations and
court decisions will not significantly change the law or the above conclusions
reached by counsel. In addition, any such change could apply retroactively to
transactions preceding the date of change. Moreover, opinions of counsel merely
represent counsel's best judgment with respect to the probable outcome on the
merits and are not binding on the IRS or the courts. Accordingly, even if there
is no change in applicable law, no assurance can be provided that such opinions
(which do not bind the IRS or the courts) will not be challenged by the IRS or
will be sustained by a court if so challenged. With the one exception described
below (see "-- Tax Consequences of the Merger -- Deemed Cash Distribution and
Resulting Taxable Gain") and in the Consent Solicitation under "Federal Income
Tax Considerations -- Tax Consequences of the Mergers -- IRS Ruling Request
Regarding Allocation of Partnership Liabilities," neither Host REIT, the
Operating Partnership nor the General Partners have requested or plan to request
any rulings from the IRS concerning the tax consequences of the Mergers or the
treatment of either the Operating Partnership or Host REIT subsequent to the
REIT Conversion.
MHP Supp-19
<PAGE>
TAX CONSEQUENCES OF THE MERGER
Overview. Hogan & Hartson has provided an opinion to the effect that,
--------
except for any gain attributable to the sale of personal property by MHP to a
Non-Controlled Subsidiary in connection with the REIT Conversion, the Merger
will not result in the recognition of taxable gain or loss at the time of the
Merger to an MHP Limited Partner (i) who does not exercise his Unit Redemption
Right on a date sooner than the date two years after the date of the
consummation of the Merger; (ii) who does not receive a cash distribution (or a
deemed cash distribution resulting from relief from liabilities, including as a
result of any repayment of the Orlando Mortgage or the Harbor Beach Mortgage) in
connection with the Merger or the REIT Conversion in excess of his aggregate
adjusted basis in his MHP Partnership Units at the time of the Merger; (iii) who
does not elect to receive a Note in exchange for his OP Units in connection with
the Merger (the "Note Election"); (iv) who is not required to recognize gain by
reason of the exercise by another MHP Limited Partner of his right to make the
Note Election (which, in counsel's opinion, described below, should not be the
result of such election); and (v) who does not have his "at risk" amount fall
below zero as a result of the Merger or the REIT Conversion. See "Federal Income
Tax Considerations -- Summary of Tax Opinions" in the Consent Solicitation.
With respect to the foregoing exceptions to nonrecognition treatment, the
Operating Partnership and the General Partner believe as follows: (i) an MHP
Limited Partner who acquired his MHP Partnership Units in the original offering
of such Partnership Units and who has held such Partnership Units at all times
since would not be considered to receive, as a result of the Merger, a
distribution (or a deemed cash distribution resulting from relief from
liabilities) that exceeds his aggregate adjusted basis in his MHP Partnership
Units at the time of the Merger, and would not have his "at risk" amount fall
below zero as a result of the Merger, and (ii) a portion of the personal
property associated with both of the Hotels owned by MHP will need to be sold to
a Non-Controlled Subsidiary in connection with the REIT Conversion, which will
result in the recognition of a relatively modest amount of income by the MHP
Limited Partners. See "Federal Income Tax Considerations -- Tax Consequences of
the Mergers -- Overview" in the Consent Solicitation and "Tax Allocations upon
the Sale of Certain Personal Property Associated with the MHP Hotels" below.
With respect to the effects of an MHP Limited Partner's election to receive
a Note in exchange for his OP Units in connection with the Merger, Hogan &
Hartson is of the opinion that, although the matter is not free from doubt, an
MHP Limited Partner who does not elect to receive a Note in connection with the
Merger should not be required to recognize gain by reason of another MHP Limited
Partner's exercise of such right. With respect to the exercise of a Unit
Redemption Right, Hogan & Hartson is of the opinion that it is more likely than
not that an MHP Limited Partner's exercise of his Unit Redemption Right more
than one year after the date of consummation of the Merger but less than two
years after such date will not cause the Merger itself to be a taxable
transaction for the MHP Limited Partner (or the other MHP Limited Partners).
See "Federal Income Tax Considerations -- Summary of Tax Opinions" in the
Consent Solicitation. Opinions of counsel, however, do not bind the IRS or the
courts, and no assurances can be provided that such opinions will not be
challenged by the IRS or will be sustained by a court if so challenged.
Deemed Cash Distribution and Resulting Taxable Gain. With respect to his
---------------------------------------------------
MHP Partnership Units, an MHP Limited Partner will receive no actual cash
distribution in connection with the Merger but would be deemed to receive a cash
distribution in connection with the Merger to the extent that his share of
Operating Partnership liabilities immediately after the Merger and the REIT
Conversion is less than his share of MHP liabilities immediately prior to the
Merger. For example, any repayment of the Orlando Mortgage or the Harbor Beach
Mortgage or debt encumbering other Hotels may result in a deemed cash
distribution to the MHP Limited Partners. See "Federal Income Tax
Considerations -- Tax Consequences of the Mergers -- Relief from
Liabilities/Deemed Cash Distribution" in the Consent Solicitation. Even though
the Orlando Mortgage, the Harbor Beach Mortgage and the debt encumbering other
Hotels is not expected to be repaid or refinanced in connection with the Merger
and the REIT Conversion, an MHP Limited Partner's share of indebtedness
following the Merger and the REIT Conversion may nonetheless decrease in
comparison to the Limited Partner's estimated aggregate share of MHP
indebtedness as of December 31, 1998 (calculated based on the assumption that
the Merger did not occur) by reason of the manner in which the debt allocation
rules work when multiple assets with different levels of leverage are
consolidated into a single partnership.
MHP Supp-20
<PAGE>
An MHP Limited Partner, however, would recognize taxable gain as a result
of any deemed cash distribution only to the extent that the deemed cash
distribution were to exceed his adjusted tax basis in his MHP Partnership Units
immediately prior to the Merger. As noted above, the Operating Partnership and
the General Partner believe, based upon and subject to the assumptions and other
limitations described below, that an MHP Limited Partner who acquired his MHP
Partnership Units in the original offering of such Partnership Units and has
held the Partnership Units at all times since the offering will have an adjusted
tax basis in excess of the deemed cash distribution that might occur in
connection with the Merger and the REIT Conversion. Therefore, such an MHP
Limited Partner should not recognize gain due to such deemed cash distribution
resulting from the relief from liabilities in connection with the Merger and the
REIT Conversion.
The adjusted tax basis of an MHP Limited Partner who did not acquire his
MHP Partnership Units in the original offering of such Partnership Units or who
has not held his MHP Partnership Units at all times since such offering could
vary materially from that of an MHP Limited Partner who did so. If an MHP
Limited Partner has an adjusted tax basis in his MHP Partnership Units (per MHP
Partnership Unit) that is substantially less than the adjusted tax basis of an
MHP Limited Partner who acquired his MHP Partnership Units in the original
offering of such Partnership Units and has held such Partnership Units at all
times since, he could (although it is unlikely) recognize gain due to any deemed
cash distribution resulting from the relief from liabilities in connection with
the Merger and the REIT Conversion.
The Operating Partnership has no current plan or intention to cause the
prepayment of the Orlando Mortgage or the Harbor Beach Mortgage or, except as
described in the Consent Solicitation, any of the nonrecourse liabilities
encumbering the Hotels owned by the other Partnerships. The Operating
Partnership, however, will have to repay mortgage indebtedness securing the
Hotels owned by the Partnerships at the time such indebtedness matures. There
can be no assurance that at such time the Operating Partnership will be able to
secure nonrecourse mortgage indebtedness secured only by those Hotels in an
amount sufficient to avoid a deemed cash distribution to the former Limited
Partners in those Partnerships, including MHP (although such a deemed
distribution of cash may or may not result in the recognition of taxable income
or gain by the former MHP Limited Partners). Moreover, the Operating
Partnership's current long-term financing strategy is to have as little debt as
possible that is secured by individual Hotels and to have as much debt as
possible in the form of unsecured debt, held either by the public or by
institutional investors, which debt may or may not be recourse to Host REIT, as
general partner of the Operating Partnership. In view of these considerations
and the potential adverse consequences to Limited Partners in certain
Partnerships, including the MHP Limited Partners, the Operating Partnership has
requested from the IRS a ruling to the effect that such unsecured indebtedness
of the Operating Partnership that is issued initially to institutional investors
and is not recourse to Host REIT (i) would qualify as "nonrecourse liabilities"
for purposes of Code Section 752, (ii) to the extent the proceeds thereof are
applied to repay existing nonrecourse mortgage indebtedness secured by one or
more Hotels (including the Orlando Mortgage and the Harbor Beach Mortgage),
would be considered to be "secured" by those Hotels for purposes of allocating
the liabilities for tax basis purposes (and thus would be allocable, at least in
substantial part, to the former Limited Partners in the Partnership owning those
Hotels, including the MHP Limited Partners), and (iii) would constitute
"qualified nonrecourse financing" secured by such Hotels for purposes of Code
Section 465. The IRS has recently issued a ruling to that effect to another
taxpayer, and has indicated to the Operating Partnership's representatives that
it is favorably inclined to issue that ruling to the Operating Partnership.
Each MHP Limited Partner will gradually begin to recognize income over the
term of his ownership of OP Units (beginning, perhaps, in his first year of
ownership of OP Units) attributable to deemed cash distributions resulting from
the relief from liabilities, as the aggregate principal amount of nonrecourse
indebtedness encumbering (or deemed to encumber) the Hotels amortizes in
accordance with its terms. The Operating Partnership will make regular
quarterly cash distributions to the MHP Limited Partners that may or may not be
sufficient to allow the MHP Limited Partners to pay the federal and state income
tax owed on the income allocated to such Limited Partners by reason of the
amortization of the debt secured by the MHP Hotels.
MHP Supp-21
<PAGE>
Section 465(e) Recapture. As discussed in the Consent Solicitation, see
------------------------
"Federal Income Tax Considerations -- Tax Consequences of the Mergers -- Section
465(e) Recapture," the "at risk" rules of Section 465 of the Code generally
apply to limit the use of partnership losses by a partner. Under Section 465(e)
of the Code, a partner may be required to include in gross income, or
"recapture," losses previously allowed to such partner with respect to his
investment in a partnership if the amount for which the partner is "at risk" in
relation to his investment in the partnership is less than zero at the close of
the taxable year. The "at risk" rules generally do not apply to losses
attributable to real property placed in service prior to January 1, 1987 by the
taxpayer or to losses attributable to a partnership in which the taxpayer
acquired his interests before that date (the "grandfather" rule). Thus, the "at
risk" rules have not been applicable to date to those MHP Limited Partners who
acquired their Partnership Units at the time of the original offering or at any
time prior to January 1, 1987 and who have held those Partnership Units since
the date of the acquisition. The MHP Limited Partners, however, will become
subject to the "at risk" rules as a result of the Merger and their receipt of OP
Units in connection therewith (since the OP Units do not qualify for the
"grandfather" rule).
It is possible that the consummation of the Merger and the REIT Conversion
or the repayment of certain "qualified nonrecourse financing" of the Operating
Partnership, the Hotel Partnerships or the Hotels contributed to the Operating
Partnership by the Blackstone Entities at the time of or following the Merger
and the REIT Conversion could, singularly or in combination, cause an MHP
Limited Partner's amount at risk in relation to his investment in MHP (and,
after the Merger, in the Operating Partnership) to be reduced below zero,
resulting in an income inclusion to the Limited Partner under Section 465(e) of
the Code. Currently, a sufficient portion of the current debt of MHP constitutes
"qualified nonrecourse financing" so that the MHP Limited Partners have positive
at risk amounts, and the Operating Partnership expects that most of the current
debt with respect to the other Hotel Partnerships and the Hotels contributed by
the Blackstone Entities that will be assumed by the Operating Partnership as
part of the Merger and the REIT Conversion should qualify as "qualified
nonrecourse financing." The Operating Partnership and the General Partner
believe, based upon and subject to the assumptions and other limitations
described below, that an MHP Limited Partner who acquired his MHP Partnership
Units in the original offering of such Partnership Units and has held the
Partnership Units at all times since will have a positive at risk amount
immediately following the Merger and the REIT Conversion.
It is possible, however, that a former MHP Limited Partner's at risk amount
could decline in the future, either because of the allocation of losses from the
Operating Partnership to that former MHP Limited Partner or because of cash
distributions by the Operating Partnership to that former MHP Limited Partner in
excess of the taxable income allocable to him with respect to his OP Partnership
Units. Moreover, there can be no assurance that debt incurred by the Operating
Partnership in the future to refinance existing debt would qualify as "qualified
nonrecourse financing." If, however, the Operating Partnership were to obtain
the requested ruling from the IRS and were to refinance existing mortgage
indebtedness of the Partnerships (including the Orlando Mortgage or the Harbor
Beach Mortgage) with the type of indebtedness described in the rulings, such
indebtedness should constitute "qualified nonrecourse financing" for purposes of
the "at risk" rules.
Impact of Assumption of MHP Liabilities by the Operating Partnership. As
--------------------------------------------------------------------
described in the Consent Solicitation, see "Federal Income Tax Considerations --
Tax Consequences of the Mergers -- Disguised Sale Regulations," an MHP Limited
Partner will recognize gain to the extent he is treated as having sold all or
part of his MHP Partnership Interest in a "disguised sale." For purposes of
these rules, certain reductions in a partner's share of partnership liabilities
are treated as a transfer of money or other property from the partnership to the
partner which may give rise to a disguised sale, even if that reduction would
not otherwise result in a taxable deemed cash distribution in excess of the
partner's basis in his partnership interest. However, if a transfer of property
by a partner to a partnership is not otherwise treated as part of a disguised
sale, then any reduction in the partner's share of "qualified liabilities" also
will not be treated as part of a disguised sale. A "qualified liability" in
connection with a transfer of property to a partnership includes (i) any
liability incurred more than two years prior to the earlier of the transfer
MHP Supp-22
<PAGE>
of the property or the date the partner agrees in writing to the transfer, as
long as the liability has encumbered the transferred property throughout the
two-year period; (ii) a liability that was not incurred in anticipation of the
transfer of the property to a partnership, but that was incurred by the partner
within the two-year period prior to the earlier of the date the partner agrees
in writing to transfer the property or the date the partner transfers the
property to a partnership and that has encumbered the transferred property since
it was incurred; (iii) a liability that is traceable under the Treasury
Regulations to capital expenditures with respect to the property; and (iv) a
liability that was incurred in the ordinary course of the trade or business in
which property transferred to the partnership was used or held, but only if all
the assets related to that trade or business are transferred, other than assets
that are not material to a continuation of the trade or business. However, a
recourse liability is not a "qualified liability" unless the amount of the
liability does not exceed the fair market value of the transferred property
(less any other liabilities that are senior in priority and encumber such
property or any allocable liabilities described in (iii) or (iv), above) at the
time of transfer.
The General Partner believes that all liabilities of MHP fall into one of
the four categories of "qualified liabilities" described in the preceding
paragraph. However, the General Partner estimates that approximately $8.8
million of MHP indebtedness ($8,800 per $100,000 original investment of MHP, as
of December 31, 1998, may be "qualified liabilities" solely by reason of
exception (ii) in the preceding paragraph (i.e., a liability incurred within two
years of the Merger but not in anticipation of the Merger) and, thus, MHP and
the MHP Limited Partners will be required to disclose such indebtedness on a
completed IRS Form 8275 or on a statement attached to their tax returns for the
taxable year in which the Merger occurs. There can be no assurance, however,
that the IRS will not challenge the position of MHP that this indebtedness is a
"qualified liability."
TAX TREATMENT OF MHP LIMITED PARTNERS WHO HOLD OP UNITS FOLLOWING THE
MERGER
Initial Basis in Units. In general, an MHP Limited Partner will have an
----------------------
initial tax basis in his OP Units received in the Merger with respect to his MHP
Partnership Units equal to the basis in his MHP Partnership Units at the time of
the Merger, reduced to reflect any deemed cash distributions resulting from a
reduction in his share of MHP liabilities and increased to reflect his share of
other liabilities of the Operating Partnership and any gain required to be
recognized in connection with the Merger and the REIT Conversion (including
income attributable to the sale of a portion of the personal property associated
with both the MHP Hotels, as described below under " -- Tax Allocations upon the
Sale of Certain Personal Property Associated with the MHP Hotels"). For a
discussion of the federal income tax considerations for an MHP Limited Partner
from a reduction in basis that may result from the Merger and the REIT
Conversion, see "Federal Income Tax Considerations -- Tax Treatment of Limited
Partners Who Hold OP Units Following the Mergers -- Initial Tax Basis of OP
Units" in the Consent Solicitation.
Tax Allocations with Respect to Contributed Hotels upon a Sale of MHP
---------------------------------------------------------------------
Hotels. Pursuant to Section 704(c) of the Code, income, gain, loss and
- ------
deduction attributable to appreciated or depreciated property that is
contributed to a partnership must be allocated for federal income tax purposes
in a manner such that the contributor is charged with, or benefits from, the
unrealized gain or unrealized loss associated with the property at the time of
contribution. The amount of such unrealized gain or unrealized loss is
generally equal to the difference between the fair market value of the
contributed property at the time of contribution and the adjusted tax basis of
such property at the time of contribution (referred to as the "Book-Tax
Difference"). The Operating Partnership and the General Partner estimate, based
upon and subject to the assumptions and other limitations described below, that
the aggregate Book-Tax Difference with respect to the MHP Hotels will be
$________ upon the consummation of the Merger.
If the Operating Partnership were to sell the Orlando World Center and its
interest in the Harbor Beach Hotel, the former partners of MHP (including Host
REIT with respect to Host's interest in MHP) would be specially allocated by the
Operating Partnership an aggregate amount of taxable gain equal to the Book-Tax
Difference with respect to those MHP Hotels ($ ____ in the aggregate if the
Hotels were sold immediately after the consummation of the Merger, according to
the estimate in the previous paragraph). The share of such gain allocable to an
MHP Limited Partner who acquired his MHP Partnership Units in the original
offering of such Partnership Units and held such Partnership Units at all times
since would be $___ per MHP Partnership Unit. The share of such gain of an MHP
Limited Partner who did not acquire his MHP
MHP Supp-23
<PAGE>
Partnership Units in the original offering of such Partnership Units or who has
not held his MHP Partnership Units at all times since such offering could vary
materially from this amount. If the Operating Partnership were to sell one of
the MHP Hotels with a Book-Tax Difference, the remaining Book-Tax Difference at
the time the Hotel is sold would be required to be allocated exclusively to the
former MHP Limited Partners and the General Partner, even though the proceeds of
such sale would be allocated proportionately among all the partners in the
Operating Partnership (and would likely be retained by the Operating
Partnership, rather than distributed to holders of OP Units and Common Shares of
Host REIT). The MHP Limited Partners would not be entitled to any special
distributions from the Operating Partnership in connection with such a sale, and
thus would not necessarily receive cash distributions from the Operating
Partnership sufficient to pay such additional taxes. Although the Partnership
Agreement does not impose any restrictions upon the Operating Partnership
preventing it from causing the sale of either or both of the MHP Hotels at any
time following the Merger, the Operating Partnership does not have current plans
to pursue a sale of either of the MHP Hotels. See "Federal Income Tax
Considerations -- Tax Treatment of Limited Partners Who Hold OP Units Following
the Mergers -- Sale of Individual Hotels" in the Consent Solicitation.
Tax Allocations upon the Sale of Certain Personal Property Associated with
---------------------------------------------------------------------------
the MHP Hotels. As discussed in the Consent Solicitation, see "Federal Income
- -------------
Tax Considerations -- Federal Income Taxation of Host REIT Following the REIT
Conversion -- Income Tests Applicable to REITs" and "-- Taxable Income
Attributable to Sales of Personal Property in Connection with the REIT
Conversion," if the rent attributable to personal property leased in connection
with the lease of each Hotel is greater than 15% of the total rent received
under the lease of such Hotel, the portion of the rent attributable to the
personal property will not constitute qualifying income to Host REIT (the "15%
Personal Property Test"). The Operating Partnership and the General Partner
have determined that the percentage of rent attributable to the personal
property to be leased in connection with the lease of the two MHP Hotels would
not satisfy the 15% Personal Property Test. The 15% Personal Property Test is a
mechanical test that is based not on the relative fair market value of the
assets subject to lease, or the relative fair rental value of those assets, but,
rather, is based on the average relative adjusted tax bases of the assets
subject to the lease. Accordingly, immediately prior to the Merger, the
Operating Partnership will require MHP, if it chooses to participate in the
Merger, to sell to a Non-Controlled Subsidiary a portion of the personal
property associated with the MHP Hotels. This sale, which will be a taxable
transaction, will result in the recognition by MHP (and the allocation to the
MHP Limited Partners) of a relatively modest amount of taxable gain to the
extent of the difference, if any, between the fair market value of the personal
property at the time of the sale and the adjusted tax basis of such property at
that time. The actual amount of such gain will be determinable only at the time
of the sale and will be affected by the specific personal property selected to
be sold and the fair market value and adjusted basis of that personal property.
However, the Operating Partnership and the General Partner believe that such
gain, in the aggregate, could be in the range of approximately $____ to $____;
based on this estimate, the share of such gain allocable to an MHP Limited
Partner who acquired his MHP Partnership Units in the original offering of such
Partnership Units and held such Partnership Units at all times since could range
from $____ to $____ per MHP Partnership Unit. Pursuant to the MHP partnership
agreement, all of such taxable gain will be characterized as ordinary recapture
income and will be allocated by MHP to the former MHP Limited Partners in the
same proportions and to the same extent that such Limited Partners were
allocated any deductions directly or indirectly giving rise to the treatment of
such gains as recapture income prior to the Merger. The MHP Limited Partners
would not be entitled to any special distributions from MHP in connection with
such a sale of personal property.
Tax Allocations with Respect to Contributed Hotels Generally. The tax
------------------------------------------------------------
allocations of depreciation to the MHP Limited Partners may change significantly
as a result of the Merger and the REIT Conversion for two reasons. First, as
described above, pursuant to Section 704(c) of the Code, depreciation and
deductions attributable to the two MHP Hotels will be required to be allocated
for federal income tax purposes in a manner such that the MHP Limited Partners
are charged with the Book-Tax Difference associated with the MHP Hotels at the
time of the consummation of the Merger. Consequently, an MHP Limited Partner
will be allocated less depreciation with respect to the MHP Hotels than would be
the case if the Merger had not occurred and the MHP Limited Partner had
continued to hold his MHP Partnership Units. (On the other hand, a former MHP
Limited Partner will be allocated depreciation with respect to other Hotels
acquired by
MHP Supp-24
<PAGE>
the Operating Partnership in connection with the Merger and the REIT Conversion,
including the Hotels owned by the other Hotel Partnerships and the Hotels being
contributed to the Operating Partnership by Host and the Blackstone Entities in
connection with the Merger and the REIT Conversion.) Second, the Merger will
cause the technical termination under Section 708(b)(1)(B) of the Code of MHP
and each of the other Hotel Partnerships that participates in the Merger.
Section 168(i)(7) of the Code provides, in effect, that when a partnership
terminates under Section 708(b)(1)(B) of the Code, the partnership must begin
new depreciation periods for its property. As a result, the remaining bases of
the real estate components of the MHP Hotels and the Hotels held by the other
Hotel Partnerships will be depreciated over 39 years, rather than over the
remaining current lives of such Hotels (which range from less than one year to
39 years). See "Federal Income Tax Considerations -- Tax Treatment of Limited
Partners Who Hold OP Units Following the Mergers-- Effect of Mergers on
Depreciation" in the Consent Solicitation.
In light of the complexity of the governing rules affecting the calculation
and allocation of depreciation with respect to properties contributed to a
partnership, particularly when a number of those properties are subject to the
separate adjustments required in connection with a technical termination under
Section 708 of the Code, the number of Hotels that the Operating Partnership
will be acquiring in connection with the Merger and the REIT Conversion, and the
impact on these calculations of other outside events, including equity offerings
by Host or Host REIT and other acquisitions undertaken by Host, Host REIT or the
Operating Partnership prior to or in connection with the REIT Conversion, the
Operating Partnership and the General Partner believe that it is impossible to
predict with any degree of precision the impact that the Mergers and the REIT
Conversion will have on the future depreciation (and, consequently, the amount
of taxable income) allocable to an MHP Limited Partner.
Impact on Passive Activity Losses of an Investment in a Publicly Traded
-----------------------------------------------------------------------
Partnership. The passive loss limitation rules generally provide that
- -----------
individuals, estates, trusts and certain closely held corporations and personal
service corporations can only deduct losses from passive activities (generally
activities in which the taxpayer does not materially participate, which would
include the Operating Partnership for MHP Limited Partners) to the extent that
such losses are not in excess of the taxpayer's income from passive activities
or investments. An MHP Limited Partner would be able to offset losses from
other passive activities against income from the Operating Partnership that is
considered passive income (but not portfolio income) so long as the Operating
Partnership is not treated as a publicly traded partnership. The Operating
Partnership and the General Partner believe, however, that there is a
substantial risk that the Operating Partnership will be treated as a publicly
traded partnership for purposes of the passive loss limitation rules. In this
event, any losses or deductions of the Operating Partnership allocable to an MHP
Limited Partner after the Merger could not be used to offset passive income from
other passive activities. Similarly, losses from other passive activities
(including losses attributable to MHP for periods prior to the Merger) could not
be applied to offset income of the Operating Partnership allocated to an MHP
Limited Partner. An MHP Limited Partner, however, would be able to offset any
passive losses from his investment in MHP (or other investments) against any
gain recognized by the MHP Limited Partner as a result of the Merger. The
Operating Partnership and the General Partner estimate that, as of December 31,
1998, an MHP Limited Partner that purchased his Partnership Units at the time of
the original offering has held those Partnership Units continuously since that
time, and whose Partnership Units have been his only investment in a passive
activity would have a passive activity loss carryforward of approximately
$4,248, on a per Partnership Unit basis.
State and Local Taxes. MHP Limited Partners holding OP Units will be
---------------------
subject to state and local taxation in a number of jurisdictions in which the
Operating Partnership directly or indirectly holds real property and would be
required to file periodic tax returns in those jurisdictions. In this regard,
immediately following the Merger and the REIT Conversion, the Operating
Partnership expects that it will own properties in approximately 28 states
across the United States and the District of Columbia. Currently, MHP owns,
directly and indirectly, only Florida properties. See "Federal Income Tax
Considerations -- Tax Treatment of Limited Partners Who Hold OP Units Following
the Merger -- State and Local Taxes" in the Consent Solicitation.
MHP Supp-25
<PAGE>
ASSUMPTIONS USED IN DETERMINING TAX CONSEQUENCES OF THE MERGER
In preparing the discussion set forth above, the Operating Partnership and
the General Partner made several key assumptions, which are described below. If
any such assumption is not accurate with respect to a particular MHP Limited
Partner, the tax consequences of the Merger to such MHP Limited Partner could be
substantially different from those reflected above. ACCORDINGLY, EACH MHP
LIMITED PARTNER IS STRONGLY URGED TO CONSULT WITH HIS OWN TAX ADVISOR TO
DETERMINE THE IMPACT OF SUCH MHP LIMITED PARTNER'S PARTICULAR TAX SITUATION ON
THE ANTICIPATED TAX CONSEQUENCES OF PARTICIPATING IN THE MERGER.
First, with respect to an MHP Limited Partner's basis in his MHP
Partnership Units prior to the Merger, the Operating Partnership and the General
Partner assumed that an MHP Limited Partner acquired his MHP Partnership Units
in the original offering of such Partnership Units and has held such Partnership
Units at all times since the offering (the "Original Limited Partner's Adjusted
Basis"). In general, each MHP Limited Partner had an initial tax basis in his
MHP Partnership Units ("Initial Basis") equal to his cash investment in MHP
(plus his proportionate share of MHP's nonrecourse liabilities at the time he
acquired his MHP Partnership Units). A MHP Limited Partner's Initial Basis
generally has been increased by (a) such Limited Partner's share of MHP taxable
income and (b) any increases in his share of liabilities of MHP. Generally, such
Limited Partner's Initial Basis has been decreased (but not below zero) by (i)
his share of MHP cash distributions, (ii) any decreases in his share of
liabilities of MHP, (iii) his share of losses of MHP and (iv) his share of
nondeductible expenditures of MHP that are not chargeable to capital. Because
"syndication costs" are chargeable to capital and not deductible for tax
purposes, an MHP Limited Partner's basis in his MHP Partnership Units
effectively would include his share of the syndication costs incurred by MHP at
formation.
The General Partner has set forth on Appendix E to the Consent
Solicitation for MHP (i) the Original Limited Partner's Adjusted Basis as of
December 31, 1997 for each such MHP Limited Partner, and (ii) an estimate of
such MHP Limited Partner's Original Limited Partner's Adjusted Basis as of
December 31, 1998 (computed without regard to the Merger and based upon the
assumptions set forth in Appendix C to the Consent Solicitation). The General
Partner also has set forth on Appendix E to the Consent Solicitation for each
MHP Limited Partner whose adjusted basis in his MHP Partnership Interest is the
same as the Original Limited Partner's Adjusted Basis (i) the MHP liabilities
allocable to such MHP Limited Partner as of December 31, 1997, and (ii) an
estimate of the MHP liabilities allocable to such Limited Partner as of December
31, 1998 (computed without regard to the Merger and based upon the assumptions
set forth in Appendix C to the Consent Solicitation).
The adjusted tax basis of an MHP Limited Partner who did not acquire his
MHP Partnership Units in the original offering of such Partnership Units could
vary materially from that of an MHP Limited Partner who did so for various
reasons. If an MHP Limited Partner has an adjusted tax basis in his MHP
Partnership Units that is less than the Original Limited Partner's Adjusted Tax
Basis, the Merger might result in the receipt by the MHP Limited Partner of a
deemed distribution of cash in excess of his adjusted tax basis in his MHP
Partnership Units, which could (although it is unlikely) result in the
recognition of income or gain.
Second, the Operating Partnership and the General Partner assumed that the
method expected to be used by the Operating Partnership to allocate liabilities
among the partners will be respected for federal income tax purposes. The
Operating Partnership will allocate liabilities associated with the MHP Hotels
as described in "Federal Income Tax Considerations -- Tax Consequences of the
Mergers -- Relief from Liabilities/Deemed Cash Distribution" in the Consent
Solicitation. If the method used by the Operating Partnership were not
respected for federal income tax purposes and the nonrecourse liabilities
actually allocable to an MHP Limited Partner are less than the amount assumed by
the Operating Partnership and the General Partner, the Merger might result in
the receipt by such MHP Limited Partner of a deemed distribution of cash that is
greater than the deemed distribution of cash expected to be received by such MHP
Limited Partner as described above in "Tax Consequences of the Merger -- Deemed
Cash Distribution and Resulting Taxable Gain." For an MHP Limited Partner who
did not acquire his MHP Partnership Units
MHP Supp-26
<PAGE>
in the original offering of such Partnership Units or who did not hold such
Partnership Units at all times since, this deemed distribution of cash could
exceed his adjusted tax basis in his MHP Partnership Units, which could
(although it is unlikely) result in the recognition of income or gain.
Finally, the Operating Partnership and the General Partner assumed that the
Merger will be treated for federal income tax purposes as the transfer by the
MHP Limited Partners of their interests in the Hotel Partnerships to the
Operating Partnership in exchange for OP Units. There can be no assurance,
however, that the IRS will not seek to recharacterize each Merger as either (i)
the liquidation of a Partnership followed by the distribution by the Partnership
of its assets to its partners and the subsequent transfers by such partners of
such assets to the Operating Partnership in exchange for OP Units, or (ii) the
transfer by a Partnership of its assets to the Operating Partnership in exchange
for OP Units (and possibly Notes) and the subsequent distribution of such OP
Units (and possibly Notes) to its partners. If the Merger is recharacterized in
the manner described in (ii) in the preceding sentence, the tax consequences of
the Merger to the MHP Limited Partners likely would be materially affected.
EACH MHP LIMITED PARTNER IS STRONGLY URGED TO CONSULT WITH HIS OWN TAX
ADVISOR TO DETERMINE THE IMPACT OF SUCH MHP LIMITED PARTNER'S PARTICULAR TAX
SITUATION ON THE ANTICIPATED TAX CONSEQUENCES OF PARTICIPATING IN THE MERGER.
THE TAX CONSEQUENCES OF PARTICIPATING IN THE MERGER TO A PARTICULAR MHP LIMITED
PARTNER COULD VARY SUBSTANTIALLY FROM THE CONSEQUENCES DESCRIBED ABOVE.
TAX TREATMENT OF MHP LIMITED PARTNERS WHO EXERCISE THEIR RIGHT TO MAKE
THE NOTE ELECTION
An MHP Limited Partner who exercises his right to make the Note Election
and receive a Note in connection with the Merger will be treated as having made
a taxable disposition of his OP Units. The amount realized in connection with
such disposition will equal the sum of the "issue price" of the Note (i.e., the
face amount of the Note, currently estimated as $124,262 per MHP Partnership
Unit) plus the portion of MHP liabilities allocable to the MHP Limited Partner
for federal income tax purposes immediately prior to the disposition of the OP
Units (estimated as $_____ per MHP Partnership Unit as of December 31, 1998).
To the extent the amount realized exceeds the MHP Limited Partner's adjusted
basis in his MHP Partnership Units, the MHP Limited Partner will recognize gain.
The Operating Partnership and the General Partner estimate (assuming the MHP
Limited Partner acquired his MHP Partnership Units at the time of the original
offering and has held such Partnership Units at all times since the offering)
that the amount of gain that would be recognized by an MHP Limited Partner who
made the Note Election would be approximately $________ per MHP Partnership
Unit, as of December 31, 1998. For a discussion of the federal income tax rates
applicable to the net capital gain from the sale of a capital asset, see
"Federal Income Tax Considerations -- Tax Treatment of Limited Partners Who Hold
OP Units Following the Mergers -- Disposition of OP Units by Limited Partners"
in the Consent Solicitation. In this regard, the General Partner estimates
that, as of December 31, 1998, if MHP sold both of its Hotels in a fully taxable
transaction for a net amount, after payment of liabilities, equal to the
Note Election Amount of MHP, the "unrecognized Section 1250 gain" per MHP
Partnership Unit would be $______ and the gain subject to tax as ordinary income
under Code Section 1245 per MHP Partnership Unit would be $______. An MHP
Limited Partner who makes the Note Election would be able to treat any per
Partnership Unit passive activity loss carryforward with respect to the
activities of MHP, to the extent the sum of such losses exceeds his passive
activity income for 1998, as losses that are not from a passive activity and,
therefore, not subject to the passive activity loss limitation rules.
For purposes of determining the gain recognized by a Limited Partner as a result
of making the Note Election, an Original Limited Partner's Adjusted Basis will
reflect such Limited Partner's share of the syndication costs incurred by his
Partnership at formation.
An MHP Limited Partner who elects to receive a Note may be eligible to
defer a majority of that gain under the "installment sale" rules. Those rules,
however, will not permit the MHP Limited Partner to defer all of the gain, and,
to the extent that the face amount of the Note (and any other installment
obligations received by the taxpayer during the year) outstanding at the end of
the taxable year in which the Merger occur exceeds $5,000,000, will require that
the MHP Limited Partner who defers gain pay to the IRS interest on the resulting
tax that has been deferred. The MHP Limited Partner will not be eligible to
defer gain recognized upon the receipt of the Note to the extent that his share
of MHP liabilities at the time of the Merger exceeds his adjusted tax basis in
his MHP Partnership Units immediately prior to the Merger (that
MHP Supp-27
<PAGE>
is, to the extent that he has a "negative capital account" for tax purposes).
In addition, the MHP Limited Partner will not be eligible to defer gain to the
extent that such gain would be taxed as ordinary income under Sections 1245 and
1250 of the Code. Lastly, if an MHP Limited Partner disposes of the Note, any
gain that had been deferred would be recognized in the year of disposition.
THE SPECIFIC TAX ATTRIBUTES OF A PARTICULAR MHP LIMITED PARTNER COULD HAVE
A MATERIAL IMPACT ON THE TAX CONSEQUENCES OF THE MERGER, AND THE SUBSEQUENT
OWNERSHIP AND DISPOSITION OF NOTES. THEREFORE, IT IS ESSENTIAL THAT MHP LIMITED
PARTNERS CONSIDERING ELECTING TO RECEIVE NOTES CONSULT WITH THEIR OWN TAX
ADVISORS WITH REGARD TO THE APPLICATION OF THE FEDERAL INCOME TAX LAWS TO SUCH
MHP LIMITED PARTNERS' RESPECTIVE PERSONAL TAX SITUATIONS, AS WELL AS ANY TAX
CONSEQUENCES ARISING UNDER THE LAWS OF ANY STATE, LOCAL, OR FOREIGN TAXING
JURISDICTION.
MHP Supp-28
<PAGE>
TAX CONSEQUENCES IF MHP DOES NOT PARTICIPATE IN THE MERGER
If MHP does not participate in the Merger, the MHP Limited Partners would not
have any tax consequences resulting from the Merger. The consequences of
continued ownership of MHP Partnership Units will be the same as would have
resulted if the Merger had not been proposed.
* * *
The above description is not exhaustive of all possible tax considerations
associated with the Merger and the REIT Conversion. This summary does not
discuss foreign tax considerations, nor does it discuss all of the aspects of
federal income taxation or state and local taxation that may be relevant to MHP
Limited Partners in light of their particular circumstances. EACH MHP LIMITED
PARTNER IS STRONGLY URGED TO CONSULT WITH HIS OWN TAX ADVISOR TO DETERMINE THE
IMPACT OF SUCH MHP LIMITED PARTNER'S PARTICULAR TAX SITUATION ON THE ANTICIPATED
TAX CONSEQUENCES OF PARTICIPATING IN THE MERGER.
MHP Supp-29
<PAGE>
SELECTED FINANCIAL DATA
The following table presents selected historical financial data derived from
the MHP financial statements for the five most recent fiscal years in the period
ended December 31, 1997 and First Quarter 1998 and First Quarter 1997. The
following data should be read in conjunction with MHP's financial statements and
the notes thereto, Management's Discussion and Analysis of Financial Condition
and Results of Operations and the other financial information included elsewhere
herein.
<TABLE>
<CAPTION>
First Quarter Fiscal Year
--------------------- ------------------------------------------------------------
1998 1997 1997 1996 1995 1994 1993
--------- --------- ---------- ---------- ---------- --------- ---------
(unaudited) (amounts in thousands, except per Partnership Unit/(1)/
<S> <C> <C> <C> <C> <C> <C> <C>
Revenues................................. $ 27,575 $ 27,553 $ 75,211 $ 71,834 $ 66,998 $ 58,474 $ 61,347
Operating profit......................... 18,926 19,143 42,095 42,185 36,053 28,677 23,338
Income before extraordinary item(2)...... 11,667 11,429 19,477 18,449 13,150 7,311 14,748
Net income............................... 11,667 11,429 16,416 18,449 13,150 7,311 14,748
Distributions:
General partner....................... -- -- 78 50 21 -- --
Limited partner....................... -- -- 7,706 4,964 2,084 -- --
------------------------------------------------------------------------------------
Total................................. -- -- 7,784 5,014 2,105 -- --
Per Partnership Unit(1):
Net income............................ 11,550 11,315 16,252 18,265 13,018 7,238 14,600
Distributions......................... -- -- 7,706 4,964 2,084 -- --
EBITDA (unaudited)(3).................... 21,534 21,514 51,519 50,693 47,001 41,794 36,793
Cash provided by operating activities.... 10,216 11,146 31,758 27,632 25,755 20,884 8,857
Cash used in investing activities........ (2,070) (2,732) (12,840) (8,911) (6,922) (8,241) (3,174)
Cash used in financing activities........ (1,355) (413) (9,831) (20,664) (18,026) (11,956) (14,225)
Increase (decrease) in cash and
cash equivalents.................... 6,791 8,001 9,087 (1,943) 807 687 (8,542)
Ratio of earnings to fixed
charges (unaudited)(4).............. 3.93x 3.68x 2.00x 1.92x 1.63x 1.32x --
Deficiency of earnings to
fixed charges (unaudited)(4)........ -- -- -- -- -- -- 4,590
Total assets at book value............... 272,740 260,740 261,109 249,441 251,217 254,058 257,620
Cash and cash equivalents................ 17,485 9,608 10,694 1,607 3,550 2,743 2,056
Total debt(5)............................ 239,458 234,733 240,748 235,146 248,659 260,843 271,879
Total liabilities........................ 241,225 238,142 241,261 238,272 253,483 267,369 278,242
Partner's capital (deficit):
Limited partners..................... 31,091 22,263 19,541 10,948 (2,353) (13,287) (20,525)
General partner...................... 424 335 307 221 87 (24) (97)
Book value per Partnership
Unit (unaudited)(1)................. 31,091 22,263 19,541 10,948 (2,353) (13,287) (20,525)
Exchange value per Partnership
Unit (unaudited)(1)................. 141,425 -- -- -- -- -- --
</TABLE>
(1) A Partnership Unit represents a $100,000 original investment in MHP.
(2) In 1997, the Partnership recognized a $3.1 million extraordinary loss
resulting from the prepayment penalty related to the early extinguishment of
the mortgage debt on the Orlando Hotel and the write-off of related deferred
financing costs.
(3) EBITDA consists of the sum of net income, interest expense, and depreciation
and amortization. EBITDA data is presented because such data is used by
certain investors to determine the Partnership's ability to meet debt
service requirements. The Partnership considers EBITDA to be an indicative
measure of the Partnership's operating performance due to the significance
of the Partnership's long-lived assets and because of EBITDA can be used to
measure the Partnership's ability to service debt, fund capital expenditures
and expand its business; however, such information should not be considered
as an alternative to net income, operating profit, cash flows from
operations, or any other operating or liquidity performance measure
prescribed by generally accepted accounting principles. Cash expenditures
for various long-term assets and interest expense have been, and will be,
incurred which are not reflected in the EBITDA presentations.
(4) The ratio of earnings to fixed charges is computed by dividing net income
before interest expense and other fixed charges by total fixed charges,
including interest expense, amortization of debt issuance costs and the
portion of rent expense that is deemed to represent interest. The deficiency
of earnings to fixed charges in 1993 was largely the result of depreciation
and amortization of $14,601,000.
(5) Total debt includes amounts due to Host Marriott of $2,295,000, $2,294,000,
$6,420,000, $9,149,000 and $13,207,000 as of March 28, 1997, December 31,
1996, 1995, 1994 and 1993, respectively.
MHP Supp-30
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
RESULTS OF OPERATIONS
First Quarter 1998 Compared to First Quarter 1997
The chart below summarizes REVPAR for First Quarter 1998 and the First Quarter
1997:
<TABLE>
<CAPTION>
First Quarter
-------------
1998 1997 % Increase
----- ------------- -----------
<S> <C> <C> <C>
Orlando World Center $ 148 $ 146 1%
Harbor Beach $ 205 $ 200 3%
Combined Average $ 166 $ 161 3%
</TABLE>
Total consolidated Partnership revenues for First Quarter 1998 increased
slightly to $27.6 million when compared to the same period in 1997 due to strong
operating results at the Orlando World Center and the Harbor Beach Hotel (the
"Hotels"). REVPAR, or revenue per available room, represents the combination of
the average daily room rate charged and the average daily occupancy achieved and
is a commonly used indicator of hotel performance (although it is not a GAAP, or
generally accepted accounting principles, measure of revenue). The combined
average REVPAR for the First Quarter 1998 improved 2%, to $165, over the
comparable period in 1997 due to a 6% increase in combined average room rate to
$193 offset by a three percentage point decrease in combined average occupancy
to 86%.
Hotel Revenues. For the First Quarter 1998, hotel revenues remained stable
at $18.2 million when compared to the same period in 1997. First Quarter 1998
REVPAR at the Orlando Hotel increased slightly over the same period in 1997 from
$146 to $148 due to a 4% increase in average room rate to $171 offset by a two
percentage point decrease in occupancy to 87%. Marketing efforts at the Orlando
Hotel are focused on attracting short-term group demand, as well as leisure
transient demand for the summer months. Demand is expected to remain strong in
the leisure transient segment.
Rental Income. For the First Quarter 1998, rental income from the Harbor
Beach Hotel increased slightly to $9.4 million when compared to the same period
in 1997. REVPAR for the First Quarter 1998 increased 4% over the same period in
1997 to $204 due to a 9% increase in average room rate to $247 offset by a four
percentage point decrease in average occupancy to 83%.
Operating costs and expenses. Indirect hotel operating costs and expenses
increased 3% to $8.6 million for the First Quarter 1998 when compared to the
same period in 1997. The principal reason for the increase in this category is
discussed below.
Depreciation and amortization. Depreciation and amortization increased 7%
to $2.4 million for the First Quarter 1998. The increase is primarily due to
the completion of the rooms renovation project at the Orlando Hotel during
fourth quarter 1997.
Operating profit. Operating profit decreased slightly to $19 million in
the First Quarter 1998 when compared to the same period in 1997.
Interest expense. Consolidated interest expense for the First Quarter 1998
decreased 6% to $4.7 million due to the refinancing of the Orlando World
Center's mortgage debt at a lower interest rate in 1997.
Minority interest in income. Based upon its 50.5% ownership interest, the
Partnership controls the Harbor Beach Partnership, and as a result, the
condensed consolidated financial statements of the Partnership include the
accounts of the Harbor Beach Partnership. Minority interest in income
represents the net income from the Harbor Beach Partnership allocable to the co-
general partner of that Partnership.
MHP Supp-31
<PAGE>
Minority interest in income decreased from $2.8 million in the First Quarter
1997 to $2.7 million in the First Quarter 1998 primarily due to a slight
decrease in net income from the Harbor Beach Partnership due to an increase in
depreciation expense.
Net income. For the First Quarter 1998, net income increased 2% to $11.7
million when compared to the same period in 1997. This increase was primarily
due to the decrease in interest expense, as discussed above.
1997 Compared to 1996
Hotel Revenues. Hotel revenues increased approximately $3.1 million, or
6%, over 1996 as a result of continued growth in corporate group business.
REVPAR at the Orlando Hotel increased 11% over 1996 to $118. This higher rate
resulted from increased demand generated by Disney's 25th Anniversary
celebration and an increase in group roomnights from the association and
international markets. Average occupancy increased by two percentage points to
80%. As a result of the increase in REVPAR, room sales at the Orlando World
Center increased $5.0 million, or 8%, over 1996. Food and beverage sales in
1997 increased $3.6 million, or 7.5%, over 1996 primarily due to an 11% increase
in banquet sales. Food and beverage profit increased $1.1 million, or 6%, over
1996 due to the increase in sales combined with continued emphasis on cost
containment. In 1998, the Orlando World Center expects demand will remain
strong and as a result, 1998 hotel revenues are expected to increase.
Direct operating costs and expenses increased $4.9 million, or 7%, over
1996 due to an increase in certain variable costs related to the increase in
room sales and higher food and beverage costs due to the creation of a special
events department at the Orlando World Center.
Rental Income. Rental income from the Harbor Beach Hotel increased by
approximately $326,000, or 2%, when compared to 1996 as a result of the Hotel's
ability to restrict discounted rates and achieve a higher transient room rate.
The Harbor Beach Hotel experienced an increase in corporate group demand of
almost 5,000 roomnights. REVPAR increased 6% over 1996 due to a 6% increase in
the average room rate to $173. As a result of the increase in REVPAR, room
sales and profit increased 4.5% and 4%, or $1.4 million and $1.1 million,
respectively, over 1996.
Indirect hotel operating costs and expenses. Indirect hotel operating
costs and expenses increased by $3.5 million, or 13%, from $29.6 million in 1996
to $33.1 million in 1997. The principal components of this category are
discussed below.
Depreciation and amortization. Depreciation and amortization increased 9%
from $9.7 million in 1996 to $10.6 million in 1997 primarily due to the addition
of furniture and equipment at the Harbor Beach Hotel in 1996.
Incentive management fees. In accordance with the Orlando World Center
Management Agreement, incentive management fees increased by $1.8 million, or
24%, over 1996 as a result of improved operating results at the Orlando World
Center. Cash flow from operations of the Orlando World Center Hotel was
sufficient to pay all incentive management fees earned by the Manager in 1997
and 1996. Additional incentive management fees of $1.4 million were also earned
by the Manager for the first time in 1997.
Base management fees. In accordance with the Orlando World Center Hotel
Management Agreement, base management fees increased 7%, from $3.6 million in
1996 to $3.8 million in 1997, due to improved total sales at the Orlando World
Center Hotel.
Operating Profit. Operating profit remained stable at $42.1 million due to
the increases in depreciation and amortization and incentive management fees, as
discussed above.
MHP Supp-32
<PAGE>
Interest expense. Interest expense decreased 6% from $5.1 million in 1996
to $4.7 million in 1997 primarily due to principal payments on the Orlando
Mortgage Debt prior to refinancing of $7.0 million and repayment of the entire
Orlando Ballroom Loan in 1997.
Minority interest in income. Based on its 50.5% ownership interest, the
Partnership controls the Harbor Beach Partnership and as a result, the accounts
of the Harbor Beach Partnership are consolidated in the consolidated financial
statements of the Partnership. Minority interest in income represents the net
income from the Harbor Beach Partnership allocable to the other general partner
in that Partnership. Minority interest in income decreased 3% in 1997 primarily
due to an increase in depreciation expense partially offset by an increase in
rental income from the Harbor Beach Hotel, as discussed above.
Net income. Net income for 1997 decreased $2.0 million, or 11%, over 1996
primarily due to the $3.1 million extraordinary loss resulting from the
prepayment penalty related to the early extinguishment of the mortgage debt on
the Orlando Hotel and the write-off of deferred financing costs related to that
debt. This loss was partially offset by higher hotel revenues in 1997.
1996 Compared to 1995
Hotel Revenues. Hotel revenues increased approximately $3.3 million, or
7%, over 1995 as a result of continued growth in corporate group and transient
business. REVPAR at the Orlando World Center increased 2% over 1995 to $106.
This increase was a result of the Hotel's ability to restrict discounted rates
and achieve a higher average room rate. The average room rate increased 4% from
1995 to $137. This increase was slightly offset by a 1.1 percentage point
decrease in average occupancy to 78%. The first half of a rooms renovation
project was completed during 1996, thus decreasing the availability of rooms for
sale. As a result of the increase in REVPAR, room sales at the Orlando World
Center increased $2.4 million, or 4%, over 1995. Food and beverage sales in
1996 increased $2.1 million, or 5%, over 1995 primarily due to a 6% increase in
banquet sales. Food and beverage profit increased $1.0 million, or 6%, over
1995 due to the increase in revenues combined with continued emphasis on cost
containment.
Direct hotel operating costs and expenses increased $2.7 million, or 4%,
over 1995 due to an increase in certain variable costs related to the increase
in room sales. The ratio of operating costs to room sales declined in 1996 to
58.0% as compared to 1995 at 58.7%.
Rental Income. Rental income from the Harbor Beach Hotel increased by
approximately $1.6 million, or 8%, when compared to 1995 due to increased
transient demand especially in the leisure segment, the highest average room
rate category. The Harbor Beach Hotel experienced record call volume during
prime season and a significant increase in international travelers. REVPAR
increased 7% over 1995 due to a 5% increase in the average room rate to $164
combined with an increase in average occupancy of 1.9 percentage points to 82%.
Despite a 3% decline in group roomnights, transient roomnights increased 13%
over 1995. As a result of the increase in REVPAR, room sales and profit
increased 9% and 10%, or $2.6 million and $2.3 million, respectively, over 1995.
Indirect hotel operating costs and expenses. Indirect hotel operating
costs and expenses decreased by $1.3 million, or 4%, from $30.9 million in 1995
to $29.6 million in 1996. The principal components of this category are
discussed below.
Depreciation and amortization. Depreciation and amortization decreased by
$2.0 million, or 17%, when compared to 1995 due to a portion of the Hotels'
furniture and fixtures becoming fully depreciated in 1995.
Incentive management fees. In accordance with the Orlando World Center
Management Agreement, incentive management fees increased by $0.5 million, or
7%, over 1995 as a result of improved operating results at the Orlando World
Center. Cash flow from operations of the Orlando World Center was sufficient to
pay all incentive management fees earned by the Manager in 1996 and 1995.
MHP Supp-33
<PAGE>
Base management fees. In accordance with the Orlando World Center
Management Agreement, base management fees increased 5%, from $3.4 million in
1995 to $3.6 million in 1996, due to improved total sales at the Orlando World
Center.
Operating Profit. As a result of the changes in revenues and operating
costs and expenses discussed above, operating profit increased by $6.1 million
to $42.2 million, or 59% of revenues, for 1996, from $36.1 million or 54% of
revenues for 1995.
Interest expense. Interest expense increased 1% from $21.9 million in 1995
to $22.0 million in 1996, primarily due to the Orlando Mortgage Debt loan
modification and extension in October 1995. The Orlando Mortgage Debt interest
rate was increased from 7% to 8% in October 1995. The interest rate increase
was offset slightly by principal payments on the Orlando Mortgage Debt of $7.5
million in 1996.
Minority interest in income. Based on its 50.5% ownership interest, the
Partnership controls the Harbor Beach Partnership and as a result, the accounts
of the Harbor Beach Partnership are consolidated in the consolidated financial
statements of the Partnership. Minority interest in income represents the net
income from the Harbor Beach Partnership allocable to the other general partner
in that Partnership. Minority interest in income increased from $1.7 million in
1995 to $2.6 million in 1996, primarily due to the increase in rental income
from the Harbor Beach Hotel, as discussed above.
Net income. Net income for 1996 increased $5.3 million, or 40%, over 1995
primarily due to higher Hotel revenues and rental income, offset by increased
incentive and base management fees and an increase in minority interest in
income.
CAPITAL RESOURCES AND LIQUIDITY
The Partnership's financing needs have historically been funded through
loan agreements with independent financial institutions, Host Marriott
Corporation ("Host Marriott") and its affiliates or Marriott International, Inc.
(the "Manager") and its affiliates. The general partner believes that the
Partnership will have sufficient capital resources and liquidity to continue to
conduct its business in the ordinary course.
Principal Sources and Uses of Cash
The Partnership's principal source of cash is from operations. Its
principal uses of cash are to fund the property improvement funds of the Hotels,
to pay required principal amortization of the mortgage debt and other debt
incurred to fund costs of capital improvements at the Hotels, financing costs
and cash distributions to the partners.
Total consolidated cash provided by operations for the First Quarter 1998
and the First Quarter 1997, was $10.2 million and $11.1 million, respectively.
The variance was primarily due to an increase in the receivable from the Manager
when compared to the First Quarter 1997. Total consolidated cash provided by
operations was $31.8 million, $27.6 million and $25.8 million for the years
ended December 31, 1997, 1996 and 1995, respectively.
For the First Quarter 1998 and the First Quarter 1997, cash used in
investing activities was $2.1 million and $2.7 million, respectively, consisting
of additions to property and equipment and cash contributed to the property and
improvement funds of the Hotels. Cash used in investing activities was $12.8
million, $8.9 million and $6.9 million for the years ended December 31, 1997,
1996, and 1995, respectively. The Partnership's investing activities consist
primarily of contributions to the property improvement fund of the Hotels of
$9.1 million, $8.7 million and $7.7 million for the years ended December 31,
1997, 1996 and 1995, respectively.
For the First Quarter 1998 and First Quarter 1997, cash used in financing
activities was $1.4 million and $0.4 million, respectively, consisting of
principal repayments on the mortgage debt and payments to the Manager and
affiliates on the rooms renovation loans for the Hotels. Cash used in financing
activities was $9.8
MHP Supp-34
<PAGE>
million, $20.7 million and $18.0 million for the years ended December 31, 1997,
1996 and 1995 respectively. Principal repayments made on the mortgage debt of
the Hotels totaled $8.5 million, $8.9 million and $9.0 million for the years
ended December 31, 1997, 1996 and 1995, respectively. Payment of financing costs
related to the mortgage debt of the Partnership Hotels totaled $2.0 million,
$40,000 and $2.3 million for the years ended December 31, 1997, 1996 and 1995,
respectively. Cash distributed to the partners was $7.8 million, $5.0 million
and $2.1 million for the years ended December 31, 1997, 1996 and 1995,
respectively. Cash distributions paid to minority interest were $2.0 million,
$2.1 million and $1.5 million for the years ended December 31, 1997, 1996 and
1995, respectively.
Pursuant to the refinancing of the Orlando Mortgage Debt, the Partnership
received proceeds of $152.0 million. Of the proceeds, $139.3 million was used
to repay the outstanding principal balance on the Orlando Mortgage Debt and
accrued interest, $2.0 million was used to pay related refinancing costs and
$1.9 million was used to pay prepayment penalties. The remaining $8.8 million
is held by the Partnership as working capital.
During 1997, Marriott International Capital Corporation ("MICC"), a wholly-
owned subsidiary of Marriott International, advanced $3.5 million to the Orlando
World Center to provide financing for the rooms and suites refurbishment.
Principal repayments to Host Marriott related to the Orlando Ballroom Loan and
the Orlando Rooms Renovation Loan totaled $2.3 million, $4.1 million and $2.7
million for the years ended December 31, 1997, 1996 and 1995, respectively.
Principal repayments to MICC related to the Harbor Beach Rooms Renovation Loan
totaled $0.6 million, $0.5 million and $0.5 million for each of the years ended
December 31, 1997, 1996 and 1995.
The General Partner believes that cash from operations will provide
adequate funds for the operational needs of the Partnership and the Harbor Beach
Partnership for the foreseeable future. The interest rates on the refinanced
Orlando Mortgage Debt and the Harbor Beach Mortgage Debt are fixed at 7.48% and
9.13%, respectively. The Harbor Beach Mortgage Debt matures in the year 2000,
at which time the loan-to-value ratios and debt service coverage of the Harbor
Beach Hotel is expected to enhance the Harbor Beach Partnership's ability to
secure replacement financing.
Property Improvement Funds
The Orlando World Center Management Agreement and the Harbor Beach Hotel
Operating Lease provide for the establishment of a property improvement fund for
each Hotel. Pursuant to these agreements, contributions to the funds are equal
to a percentage of total sales of each Hotel and are used to provide for the
funding of routine capital expenditures and the replacement of furniture,
fixtures and equipment. Upon maturity of the Orlando World Center Mortgage Debt
on June 16, 1995, contributions to the Orlando World Center fund increased from
4% to 5% of total sales. Total contributions to the Orlando World Center fund
were $6.4 million, $6.0 million and $5.1 million for the years ended December
31, 1997, 1996 and 1995, respectively. Total capital expenditures at the
Orlando World Center were $7.9 million, $8.1 million and $4.8 million for the
years ended December 31, 1997, 1996 and 1995, respectively. In addition,
principal and interest paid to MICC on the Orlando Rooms Renovation Loan totaled
$100,000 in 1997. The balance of the Orlando World Center fund was $2.9 million
as of December 31, 1997.
Contributions to the Harbor Beach Hotel's property improvement fund
are equal to 5% of total hotel sales. Total contributions to the Harbor Beach
Hotel fund were $2.7 million, $2.7 million and $2.6 million for the years ended
December 31, 1997, 1996 and 1995, respectively. Total capital expenditures at
the Harbor Beach Hotel were $2.5 million, $1.6 million and $1.3 million for the
years ended December 31, 1997, 1996 and 1995, respectively. The balance of the
Harbor Beach Hotel fund was $3.2 million as of December 31, 1997.
MHP Supp-35
<PAGE>
FINANCIAL STATEMENTS
MHP Supp-36
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
TO THE PARTNERS OF MARRIOTT HOTEL PROPERTIES LIMITED PARTNERSHIP:
We have audited the accompanying consolidated balance sheet of Marriott Hotel
Properties Limited Partnership (a Delaware limited partnership) and subsidiaries
as of December 31, 1997 and 1996, and the related consolidated statements of
operations, changes in partners' capital (deficit) and cash flows for each of
the three years in the period ended December 31, 1997. These financial
statements are the responsibility of the General Partner's management. Our
responsibility is to express an opinion on these financial statements based on
our audits. We did not audit the 1995 financial statements of Lauderdale Beach
Association, which statements reflect total assets and total revenues of 25
percent and 29 percent in 1995, respectively, of the consolidated totals. Those
statements were audited by other auditors whose report has been furnished to us
and our opinion, insofar as it relates to the amounts included for that entity,
is based solely on the report of the other auditors.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform an 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 and the report of other auditors provide a reasonable
basis for our opinion.
In our opinion, based on our audits and the report of other auditors, the
consolidated financial statements referred to above present fairly, in all
material respects, the financial position of Marriott Hotel Properties Limited
Partnership and subsidiaries as of December 31, 1997 and 1996, and the results
of their operations and their cash flows for each of the three years in the
period ended December 31, 1997, in conformity with generally accepted accounting
principles.
ARTHUR ANDERSEN LLP
Washington, D.C.
March 11, 1998
MHP Supp-37
<PAGE>
MARRIOTT HOTEL PROPERTIES LIMITED PARTNERSHIP AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
DECEMBER 31, 1997 AND 1996
(IN THOUSANDS)
<TABLE>
<CAPTION>
1997 1996
--------- ---------
<S> <C> <C>
ASSETS
w
Property and equipment, net..................................... $222,216 $222,491
Minority interest............................................... 10,042 10,641
Due from Marriott International, Inc. and affiliates............ 7,912 9,114
Property improvement funds...................................... 6,056 3,542
Deferred financing costs, net................................... 2,130 1,787
Loan deposit.................................................... 1,800 --
Prepaid ground rent............................................. 259 259
Cash and cash equivalents....................................... 10,694 1,607
-------- --------
$261,109 $249,441
======== ========
LIABILITIES AND PARTNERS' CAPITAL
Mortgage debt................................................... $235,946 $230,959
Notes payable and amounts due to Marriott International, Inc.
and affiliates................................................ 4,987 4,106
Accounts payable and accrued interest........................... 196 802
Note payable and amounts due to Host Marriott Corporation....... 132 2,405
-------- --------
Total Liabilities............................................ 241,261 238,272
-------- --------
PARTNERS' CAPITAL
General Partner
Capital contribution......................................... 1,010 1,010
Capital distributions........................................ (590) (512)
Cumulative net losses........................................ (113) (277)
-------- --------
307 221
-------- --------
Limited Partners
Capital contributions, net of offering costs of $10,978...... 89,022 89,022
Investor notes receivable.................................... -- (47)
Capital distributions........................................ (58,324) (50,618)
Cumulative net losses........................................ (11,157) (27,409)
-------- --------
19,541 10,948
-------- --------
Total Partners' Capital...................................... 19,848 11,169
-------- --------
$261,109 $249,441
======== ========
</TABLE>
See Notes to Consolidated Financial Statements.
MHP Supp-38
<PAGE>
MARRIOTT HOTEL PROPERTIES LIMITED PARTNERSHIP AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(IN THOUSANDS, EXCEPT PER UNIT AMOUNTS)
<TABLE>
<CAPTION>
1997 1996 1995
--------- --------- ---------
<S> <C> <C> <C>
REVENUES
Hotel (Note 3)................................................. $ 53,574 $ 50,523 $ 47,251
Rental income (Note 8)......................................... 21,637 21,311 19,747
-------- -------- --------
75,211 71,834 66,998
-------- -------- --------
OPERATING COSTS AND EXPENSES
Depreciation and amortization.................................. 10,601 9,693 11,739
Incentive management fees to Marriott International
and affiliates................................................ 9,308 7,518 7,047
Base management fees to Marriott International and
affiliates................................................. 3,846 3,609 3,431
Property taxes................................................. 3,336 3,059 3,104
Ground rent, insurance and other............................... 6,025 5,770 5,624
-------- -------- --------
33,116 29,649 30,945
-------- -------- --------
Operating Profit................................................ 42,095 42,185 36,053
Interest expense (including interest paid to related parties
of $0.3 million, $0.7 million and $1.0 million in 1997, 1996
and 1995, respectively)........................................ (20,842) (22,007) (21,864)
Interest income................................................. 803 919 679
-------- -------- --------
INCOME BEFORE MINORITY INTEREST AND EXTRAORDINARY ITEM.......... 22,056 21,097 14,868
MINORITY INTEREST IN INCOME..................................... (2,579) (2,648) (1,718)
-------- -------- --------
INCOME BEFORE EXTRAORDINARY ITEM................................ 19,477 18,449 13,150
EXTRAORDINARY ITEM:
Loss on extinguishment of debt................................. (3,061) -- --
-------- -------- --------
NET INCOME...................................................... $ 16,416 $ 18,449 $ 13,150
======== ======== ========
ALLOCATION OF NET INCOME
General Partner................................................ $ 164 $ 184 $ 132
Limited Partners............................................... 16,252 18,265 13,018
-------- -------- --------
$ 16,416 $ 18,449 $ 13,150
======== ======== ========
INCOME BEFORE EXTRAORDINARY ITEM PER
LIMITED PARTNER UNIT (1,000 Units)............................. $ 19,282 $ 18,265 $ 13,018
======== ======== ========
NET INCOME PER LIMITED PARTNER UNIT (1,000 Units)............... $ 16,252 $ 18,265 $ 13,018
======== ======== ========
</TABLE>
See Notes to Consolidated Financial Statements.
MHP Supp-39
<PAGE>
MARRIOTT HOTEL PROPERTIES LIMITED PARTNERSHIP AND SUBSIDIARIES
STATEMENTS OF CHANGES IN PARTNERS' CAPITAL (DEFICIT)
FOR THE YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(IN THOUSANDS)
<TABLE>
<CAPTION>
General Limited
Partner Partners Total
-------- --------- ---------
<S> <C> <C> <C>
Balance, December 31, 1994... $(24) $(13,287) $(13,311)
Net income.................. 132 13,018 13,150
Capital distributions....... (21) (2,084) (2,105)
---- -------- --------
Balance, December 31, 1995... 87 (2,353) (2,266)
Net income.................. 184 18,265 18,449
Capital distributions....... (50) (4,964) (5,014)
---- -------- --------
Balance, December 31, 1996... 221 10,948 11,169
Net income.................. 164 16,252 16,416
Investor note payments...... -- 47 47
Capital distributions....... (78) (7,706) (7,784)
---- -------- --------
Balance, December 31, 1997... $307 $ 19,541 $ 19,848
==== ======== ========
</TABLE>
See Notes to Consolidated Financial Statements.
MHP Supp-40
<PAGE>
MARRIOTT HOTEL PROPERTIES LIMITED PARTNERSHIP AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(IN THOUSANDS)
<TABLE>
<CAPTION>
1997 1996 1995
---------- --------- ---------
<S> <C> <C> <C>
OPERATING ACTIVITIES
Net income.................................................. $ 16,416 $ 18,449 $ 13,150
Extraordinary item.......................................... 3,061 -- --
--------- -------- --------
Income before extraordinary item............................ 19,477 18,449 13,150
Noncash items:
Depreciation and amortization.............................. 10,601 9,693 11,739
Minority interest in income................................ 2,579 2,648 1,718
Amortization of deferred financing costs as interest....... 519 519 1,041
Loss on disposal of property and equipment................. -- 6 48
Changes in operating accounts:
Payment of deferred incentive management fees.............. (2,046) (1,474) (1,972)
Due from Marriott International, Inc....................... 1,202 (1,964) (360)
Accounts payable and accrued interest...................... (595) (292) 325
Due to Host Marriott Corporation........................... 21 47 62
Prepaid ground rent and other receivables.................. -- -- 4
--------- -------- --------
Cash provided by operating activities..................... 31,758 27,632 25,755
--------- -------- --------
INVESTING ACTIVITIES
Additions to property and equipment......................... (10,326) (9,732) (6,123)
Changes in property improvement funds....................... (2,514) 821 (1,748)
Withdrawal from capital reserve escrow...................... -- -- 949
--------- -------- --------
Cash used in investing activities......................... (12,840) (8,911) (6,922)
--------- -------- --------
FINANCING ACTIVITIES
Proceeds from mortgage debt................................. 152,000 -- --
Repayments of mortgage debt and capital lease obligations... (147,013) (8,901) (8,970)
Capital distributions to partners........................... (7,777) (5,007) (2,105)
Proceeds from (repayments of) notes payable
to Marriott International, Inc............................. 2,909 (486) (485)
Repayments to Host Marriott Corporation..................... (2,294) (4,126) (2,727)
Payment of financing costs.................................. (2,004) (40) (2,254)
Capital distributions to minority interest.................. (1,980) (2,104) (1,485)
Payment of prepayment penalty............................... (1,919) -- --
Payment of loan deposit..................................... (1,800) -- --
Collection of investor notes receivable..................... 47 -- --
--------- -------- --------
Cash used in financing activities......................... (9,831) (20,664) (18,026)
--------- -------- --------
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS............. $ 9,087 $ (1,943) $ 807
CASH AND CASH EQUIVALENTS at beginning of year............... 1,607 3,550 2,743
--------- -------- --------
CASH AND CASH EQUIVALENTS at end of year..................... $ 10,694 $ 1,607 $ 3,550
========= ======== ========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid for mortgage and other interest................. $ 20,894 $ 21,390 $ 20,893
========= ======== ========
</TABLE>
See Notes to Consolidated Financial Statements.
MHP Supp-41
<PAGE>
MARRIOTT HOTEL PROPERTIES LIMITED PARTNERSHIP AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1997 AND 1996
NOTE 1. THE PARTNERSHIP
Description of the Partnership
Marriott Hotel Properties Limited Partnership (the "Partnership"), a Delaware
limited partnership, was formed on August 22, 1984, to acquire, construct, own
and operate the 1,503-room Marriott Orlando World Center Hotel (the "Orlando
World Center"). The Orlando World Center is managed as part of the Marriott
Hotels, Resorts and Suites full-service hotel system by Marriott International,
Inc. (the "Manager" or "Marriott International").
Between November 1, 1985 and November 27, 1985 (the "Closing Date"), 1,000
limited partnership interests (the "Units"), representing a 99% interest in the
Partnership, were sold in a private placement. The limited partners paid
$10,000,000 in cash on the Closing Date with the remainder due in five annual
installments through May 15, 1990. The limited partners' obligations to make
the installment payments were evidenced by promissory notes totaling $45,350,000
payable to the Partnership and secured by the Units. The general partner is
Hotel Properties Management, Inc. (the "General Partner"), a wholly-owned
subsidiary of Host Marriott Corporation, with a 1% general partnership interest.
On the Closing Date, the Partnership purchased from affiliates of Host Marriott
(i) a 99% limited partnership interest in the Warner Center Marriott Hotel
Limited Partnership (the "Warner Center Partnership"), which owned the 473-room
Warner Center Marriott Hotel (the "Warner Center Hotel") in Los Angeles,
California and (ii) a 49% general partnership interest in, and a loan receivable
of $3,680,000 from, Lauderdale Beach Association (the "Harbor Beach
Partnership"), a general partnership that owns Marriott's 624-room Harbor Beach
Resort (the "Harbor Beach Hotel") in Ft. Lauderdale, Florida. As a result of
certain transactions, the Partnership now owns a 50.5% interest in the Harbor
Beach Partnership. The Harbor Beach Hotel is leased to Marriott Hotel Services,
Inc. (the "Operating Tenant"), a wholly-owned subsidiary of Marriott
International. On November 17, 1993, the lender foreclosed on the Warner Center
Hotel. The foreclosure was followed by the dissolution of the Warner Center
Partnership.
On January 14, 1997, MHP Acquisition Corporation (the "Company"), a wholly-owned
subsidiary of Host Marriott, completed a tender offer for limited partnership
units in the Partnership. The Company purchased 463.75 units for an aggregate
consideration of $37.1 million or $80,000 per unit. Additionally, in a
Partnership vote held in conjunction with the tender offer, the limited partners
approved all of the proposed amendments to the partnership agreement that were
conditions to the tender offer. Subsequent to the tender offer, the Company
purchased an additional 8 units on March 29, 1997 and one unit on June 21, 1997.
Combined with its prior ownership position, Host Marriott now indirectly owns,
through affiliates, 49.33% of the Partnership.
Partnership Allocations and Distributions
The Partnership generally allocates net profits and losses, cash available for
distribution and tax credits as follows: (i) first, 1% to the General Partner
and 99% to the limited partners until cumulative distributions of sale and
refinancing proceeds ("Capital Receipts") equal to 50% of capital contributions
have been distributed; (ii) next, 15% to the General Partner and 85% to the
limited partners until cumulative distributions of Capital Receipts equal to all
capital contributions have been distributed; and (iii) thereafter, 30% to the
General Partner and 70% to the limited partners.
Capital Receipts not retained by the Partnership will generally be distributed
(i) first, 1% to the General Partner and 99% to the limited partners until the
General Partner and the limited partners (collectively the "Partners") have
received cumulative distributions of Capital Receipts equal to their capital
contributions; and (ii) thereafter, 30% to the General Partner and 70% to the
limited partners.
MHP Supp-42
<PAGE>
Gains are generally allocated (i) first, to Partners with negative capital
accounts, (ii) next, in amounts necessary to bring each Partner's capital
account balance equal to their invested capital, defined as the excess of paid-
in capital contributions over cumulative distributions of Capital Receipts, and
(iii) thereafter, 30% to the General Partner and 70% to the limited partners.
Upon the sale of substantially all of the assets, gains and sales proceeds will
be distributed based on a specific allocation, as stated in the partnership
agreement, in order to provide the limited partners (if proceeds are sufficient)
a 15% cumulative return, as defined, to the extent not previously received from
cash distributions.
For financial reporting purposes, net losses of the Partnership are allocated 1%
to the General Partner and 99% to the limited partners.
The Harbor Beach Partnership generally allocates profits and losses, cash
distributions, gains and losses, and Capital Receipts in the ratio of ownership
interests.
NOTE 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Accounting
The Partnership's records are maintained on the accrual basis of accounting and
its fiscal year coincides with the calendar year.
Use of 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.
Working Capital and Supplies
Pursuant to the terms of the management agreement discussed in Note 8, the
Partnership is required to provide the Manager with working capital and supplies
to meet the operating needs of the Orlando World Center. The Manager converts
cash advanced by the Partnership into other forms of working capital consisting
primarily of operating cash, inventories, and trade receivables and payables
which are maintained and controlled by the Manager. Upon the termination of the
management agreement, the Manager is required to convert working capital and
supplies into cash and return it to the Partnership. As a result of these
conditions, the individual components of working capital and supplies controlled
by the Manager are not reflected in the accompanying consolidated balance sheet.
As of December 31, 1997 and 1996, $4,707,000 has been advanced to the Manager
for working capital and supplies which is included in "Due from Marriott
International, Inc." on the accompanying consolidated balance sheet. The
supplies advanced to the Manager are recorded at their estimated net realizable
value. As of December 31, 1997 and 1996, accumulated amortization related to
the revaluation of these supplies totaled $762,000.
Revenues and Expenses
Hotel Revenues represents house profit from the Orlando World Center since the
Partnership has delegated substantially all of the operating decisions related
to the generation of house profit of the Orlando World Center to the Manager.
House profit reflects hotel operating results which flow to the Partnership as
property owner and represents gross hotel sales less property-level expenses,
excluding depreciation and amortization, base and incentive management fees,
real and personal property taxes, ground and equipment rent, insurance and
certain other costs, which are disclosed separately in the consolidated
statement of operations (see Note 3).
MHP Supp-43
<PAGE>
On November 20, 1997, the Emerging Issues Task Force ("EITF") of the Financial
Accounting Standards Board reached a consensus on EITF 97-2, "Application of
FASB Statement No. 94 and APB Opinion No. 16 to Physician Practice Management
Entities and Certain Other Entities with Contractual Management Arrangements."
EITF 97-2 addresses the circumstances in which a management entity may include
the revenues and expenses of a managed entity in its financial statements.
The Partnership is assessing the impact of EITF 97-2 on its policy of excluding
the property-level revenues and operating expenses of the Hotels from its
consolidated statements of operations.
Principles of Consolidation
The consolidated financial statements for the years ended December 31, 1997,
1996 and 1995 include the accounts of the Partnership and the Harbor Beach
Partnership (collectively the "Partnerships"). The 49.5% general partnership
interest in the Harbor Beach Partnership owned by an unrelated party is reported
as minority interest. All significant intercompany balances and transactions
have been eliminated.
Property and Equipment
Property and equipment is recorded at cost. Depreciation and amortization are
computed using the straight-line method over the following estimated useful
lives of the assets, less a 10% estimated residual value on the original
building cost and land improvements related to the Orlando World Center:
Land improvements 40 to 50 years
Building and improvements 40 to 50 years
Leasehold improvements 40 years
Furniture and equipment 3 to 10 years
All property and equipment is pledged as security for the mortgage debt
described in Note 6.
The Partnership and the Harbor Beach Partnership assess the impairment of their
real estate properties based on whether estimated future undiscounted cash flow
from such properties on an individual hotel basis will be less than their net
book value. If a property is impaired, its basis is adjusted to fair market
value.
Deferred Financing Costs
Prior to 1997, deferred financing costs consisted of costs incurred in
connection with the October 31, 1995 refinancing of the Orlando Mortgage Debt,
described in Note 6. Deferred financing costs associated with this refinancing
totaled $2,316,000. On December 31, 1997, the Partnership refinanced the
Orlando Mortgage Debt and incurred financing costs of $2,004,000. The deferred
financing costs are amortized over the period of the debt using the straight-
line method which approximates the effective interest rate method. The net
deferred financing costs associated with the 1995 refinancing of $1,142,000 were
amortized on December 31, 1997 and are reflected as part of the extraordinary
loss on the consolidated statement of operations. Deferred financing costs
associated with the restructuring of the Harbor Beach Mortgage Debt (see Note 6)
amounted to $350,000. Accumulated amortization of deferred financing costs was
$224,000 and $879,000 at December 31, 1997 and 1996, respectively.
Cash and Cash Equivalents
The Partnership considers all highly liquid investments with a maturity of three
months or less at date of purchase to be cash equivalents.
MHP Supp-44
<PAGE>
Income Taxes
Provision for Federal and state income taxes has not been made in the
accompanying financial statements since the Partnership does not pay income
taxes, but rather allocates its profits and losses to the individual partners.
Significant differences exist between the net income for financial reporting
purposes and the net income reported in the Partnership's tax return. These
differences are due primarily to the use, for income tax purposes, of
accelerated depreciation methods, shorter depreciable lives of the assets,
differences in the timing of the recognition of base and incentive management
fee expense and the expensing of certain costs incurred during construction
which have been capitalized in the accompanying financial statements. As a
result of these differences, the excess of the tax basis in net Partnership
liabilities over the net liabilities reported in the accompanying financial
statements amounted to $109,961,000 and $100,739,000 as of December 31, 1997 and
1996, respectively.
Statement of Financial Accounting Standards
In 1996, the Partnership adopted Statement of Financial Accounting Standards
("SFAS") No. 121 "Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to Be Disposed Of." Adoption of SFAS No. 121 has not had an
effect on the consolidated financial statements.
NOTE 3. HOTEL REVENUES
Hotel Revenues consist of hotel operating results for the Orlando World Center
for the three years ended December 31, 1997 (in thousands):
<TABLE>
<CAPTION>
1997 1996 1995
-------- -------- --------
HOTEL SALES
<S> <C> <C> <C>
Rooms............................ $ 64,277 $ 59,289 $ 56,881
Food and beverage................ 51,424 47,852 45,708
Other............................ 12,517 13,157 11,762
-------- -------- --------
128,218 120,298 114,351
-------- -------- --------
HOTEL EXPENSES
Departmental Direct Costs
Rooms.......................... 12,801 12,201 11,665
Food and beverage.............. 32,391 29,968 28,784
Other hotel operating expenses... 29,452 27,606 26,651
-------- -------- --------
74,644 69,775 67,100
-------- -------- --------
HOTEL REVENUES.................... $ 53,574 $ 50,523 $ 47,251
======== ======== ========
</TABLE>
MHP Supp-45
<PAGE>
NOTE 4. PROPERTY AND EQUIPMENT
Property and equipment consists of the following as of December 31 (in
thousands):
<TABLE>
<CAPTION>
1997 1996
---------- ----------
<S> <C> <C>
Land and improvements........... $ 31,074 $ 31,074
Building and improvements....... 152,560 152,361
Leasehold improvements.......... 82,871 80,841
Furniture and equipment......... 77,943 69,846
--------- ---------
344,448 334,122
Less accumulated depreciation... (122,232) (111,631)
--------- ---------
$ 222,216 $ 222,491
========= =========
</TABLE>
NOTE 5. ESTIMATED FAIR VALUE OF FINANCIAL INSTRUMENTS
The estimated fair values of financial instruments are shown below. The fair
values of financial instruments not included in this table are estimated to be
equal to their carrying amounts (in thousands):
<TABLE>
<CAPTION>
As of December 31, 1997 As of December 31, 1996
----------------------- -----------------------
Estimated Estimated
Carrying Fair Carrying Fair
Amount Value Amount Value
---------- ---------- ---------- ----------
(in thousands)
<S> <C> <C> <C> <C>
Mortgage debt....................................... $235,946 $237,725 $230,959 $233,468
Note payable due to Host Marriott Corporation....... -- -- 2,294 2,294
Incentive management fees payable to
Marriott International, Inc...................... -- -- 2,046 2,046
Notes payable due to Marriott International, Inc.... 4,802 4,748 1,893 1,847
</TABLE>
The estimated fair value of mortgage debt is based on the expected future debt
service payments discounted at estimated market rates. Notes payable due to
Host Marriott Corporation and Marriott International, Inc. and incentive
management fees payable to Marriott International, Inc. are valued based on the
expected future payments from operating cash flow discounted at risk -- adjusted
rates.
NOTE 6. DEBT
The Partnerships have entered into various long-term loan agreements to provide
non-recourse mortgage financing for the Hotels. Combined mortgage debt
maturities, at December 31, 1997 are (in thousands):
<TABLE>
<CAPTION>
<S> <C>
1998......... $ 2,965
1999......... 3,346
2000......... 82,049
2001......... 1,748
2002......... 1,884
Thereafter... 143,954
--------
$235,946
========
Orlando Mortgage
</TABLE>
On January 12, 1993 (the "Closing Date"), the General Partner refinanced the
Orlando World Center mortgage debt (the "Orlando Mortgage Debt"). On the Closing
Date, the Partnership paid $29.3 million to the lender which was applied as
follows: $12.0 million to the outstanding principal balance, $13.5 million to
interest due through the Closing Date and $3.8 million to financing costs. The
Orlando Mortgage Debt carried a fixed rate of interest of
MHP Supp-46
<PAGE>
6.705% and required semi-annual principal amortization totaling $22 million
through its maturity on June 16, 1995 (the "Maturity Date").
On the Maturity Date, the lender granted the Partnership a forbearance on the
loan extending it from June 16, 1995 through October 31, 1995. The Partnership
paid interest monthly in arrears at a floating rate equal to the applicable
Federal Funds rate plus 225 basis points. During the forbearance period, the
weighted average interest rate was 7.94%. On October 31, 1995, the Partnership
successfully completed a modification and extension of the Orlando Mortgage
Debt. The mortgage debt carried a fixed rate of interest of 8.44% and required
semi-annual amortization of principal. The loan was due to mature on June 16,
2000 with unamortized principal of $127.0 million due at that time. No debt
service guarantee was provided. As of December 31, 1997 and December 31, 1996,
the outstanding principal balance was $138,479,000 and $145,479,000,
respectively. The outstanding principal balance was repaid on December 31, 1997
with proceeds from the refinancing discussed below.
On October 31, 1997, the General Partner executed a commitment letter with two
new lenders to refinance the Orlando World Center's mortgage debt. The new loan
provides a total borrowing capacity of $240 million.
On December 31, 1997, the Partnership completed the refinancing of the mortgage
debt. The new lenders provided $152 million to pay the outstanding balance on
the existing mortgage and accrued interest of $139.3 million, related financing
costs of $2.0 million, a prepayment penalty of $1.9 million that has been
reflected as part of the extraordinary loss on the accompanying consolidated
statement of operations and the remaining $8.8 million is part of the
Partnership's working capital. The loan requires monthly payments of interest
at a fixed rate of 7.48% and principal based on a 30-year amortization schedule.
The loan matures on January 1, 2008.
The remaining balance of $88 million is available for the construction costs
associated with a 500-room expansion at the Orlando World Center. In connection
with the executed commitment letter, the Partnership advanced $2.4 million to
the lender as a good faith deposit. Upon completion of the $152 million portion
of the loan, the lender returned $600,000 of this deposit. The remaining $1.8
million will be returned to the Partnership upon completion of construction.
The General Partner is currently working with the lender to finalize the
documents related to this construction loan.
The refinanced mortgage debt is secured by the Orlando World Center, the land on
which the Orlando World Center and golf course are located and an assignment of
certain operating agreements.
Harbor Beach Mortgage
The original Harbor Beach loan agreement provided $86.6 million for construction
of the Harbor Beach Hotel. On June 30, 1986, this debt was refinanced with a
major insurance company. The $92 million replacement loan (the "Harbor Beach
Mortgage Debt") bore interest at a fixed rate of 9.375% and required payments of
interest only through July 1988 and monthly payments of principal and interest
in the amount of $765,000 thereafter until maturity on July 1, 1993. Upon
maturity, the lender granted the Harbor Beach Partnership a forbearance of the
loan for a fee of $165,000. Under the forbearance agreement, the Harbor Beach
Partnership continued to pay the lender through March 29, 1994, payments of
principal and interest in accordance with the terms of the Harbor Beach Mortgage
Debt.
On March 29, 1994 (the "Closing Date"), the Harbor Beach Partnership completed
the restructuring of the Harbor Beach Mortgage Debt. The restructured mortgage
debt carries a fixed rate of interest of 9.125% (the "Contract Interest Rate")
and is payable monthly in arrears. Interest only at the Contract Interest Rate
was due and payable for the first twelve payments through and including April 1,
1995. For the period from the Closing Date through April 1, 1995, the
difference between the interest only payment and $772,600 (the "Payment Amount")
was contributed to an escrow account with the lender to fund capital
improvements at the Harbor Beach Hotel. The Payment Amount represents the
amount necessary to amortize the outstanding principal balance, as of the
Closing Date, over a 22-year effective amortization period. The loan matures on
MHP Supp-47
<PAGE>
May 1, 2000. The restructured mortgage debt is collateralized by all property
and assets of the Harbor Beach Hotel. No debt service guarantee was provided.
As of December 31, 1997 and 1996, the outstanding principal balance was
$83,946,000 and $85,480,000, respectively.
Orlando Ballroom Loan
During 1990, Host Marriott agreed to provide interim financing of up to $14
million to fund the construction of a new ballroom and exhibition hall at the
Orlando World Center. Construction was completed in February 1990. On December
31, 1990, the interim financing was converted to a permanent loan from Host
Marriott with $13.2 million advanced. Interest only, at the Bankers Trust
Company prime rate, was payable from the Partnership's cash flow after debt
service. On June 16, 1992, in conjunction with the refinancing of the Orlando
Mortgage Debt, the Orlando ballroom loan was converted from a term loan to a
revolving line of credit with a floating interest rate equal to the Bankers
Trust Company prime rate. As of December 31, 1996, the outstanding principal
balance was $2,294,000. The remaining outstanding principal balance was paid in
full on June 24, 1997. The weighted average effective interest rate for the
period from January 1, 1997 through June 24, 1997 and for the years ended
December 31, 1996 and 1995 was 8.4%, 8.3% and 8.8%, respectively (rate as of
June 24, 1997 and December 31, 1996 was 8.5% and 8.3%, respectively).
Orlando Rooms Renovation Loan
During 1997, the Partnership entered into a loan agreement (the "Orlando Rooms
Renovation Loan") with Marriott International Capital Corporation ("MICC"), a
wholly-owned subsidiary of Marriott International, in conjunction with a rooms
and suites refurbishment at the Orlando World Center. The loan provided
financing of $3.5 million. The loan requires payments of principal and interest
to be paid from the Orlando World Center property improvement fund. This
unsecured loan carries a fixed interest rate of 9% and matures on June 16, 1999.
The outstanding principal balance was $3,472,000 on December 31, 1997.
Harbor Beach Rooms Renovation Loan
On July 21, 1994, the Harbor Beach Partnership entered into a loan agreement
with MICC in conjunction with a rooms and suites refurbishment at the Harbor
Beach Hotel. The loan provided financing of up to $2.8 million, plus accrued
interest through December 31, 1994, to fund costs in excess of funds available
in the Harbor Beach Partnership's property improvement fund. This unsecured
loan carries a fixed rate of interest of 8%. Accrued interest totaling $64,000
was rolled into the principal balance at December 31, 1994. Payments of
principal and interest based upon a five-year amortization period commenced in
January 1995. Under the terms of the loan, the debt service payments are
included as a deduction in determining the fees paid to the Operating Tenant, as
described in Note 8. As of December 31, 1997 and 1996, the outstanding
principal balance was $1,330,000 and $1,893,000, respectively. Interest earned
by MICC was $128,000, $171,000 and $211,000 in 1997, 1996 and 1995,
respectively.
NOTE 7. LEASES
The Harbor Beach Partnership, through an assignment of a lease on January 15,
1982, acquired all rights to a 99-year lease with a 25-year renewal option for
the land on which the Harbor Beach Hotel is located. On April 28, 1993, the
lessor sold its rights under the lease to an unrelated party. A provision under
the sale of the lease provided for the early refund to the Harbor Beach
Partnership of the remaining $1,250,000 balance of an initial $2,500,000
security deposit paid to the lessor and a $500,000 payment to facilitate the
modification of the lease.
Lease payments are made quarterly in advance in accordance with a lease year
that operates from December 1 through November 30. The annual rental is
$1,560,000 for lease years 1995 through 1999. After lease year 1999, annual
rentals for each succeeding five-year period increase by an amount equal to 10%
of the previous annual rental.
MHP Supp-48
<PAGE>
Minimum annual rentals during the term of the ground lease are (in thousands):
<TABLE>
<CAPTION>
Year
--------
<S> <C>
1998........................... $ 1,560
1999........................... 1,573
2000........................... 1,716
2001........................... 1,716
2002........................... 1,716
Thereafter..................... 311,043
--------
Total Minimum Lease Payments... $319,324
========
</TABLE>
NOTE 8. MANAGEMENT AND OPERATING LEASE AGREEMENTS
The Partnership has entered into a long-term management agreement with the
Manager, and the Harbor Beach Partnership has entered into a long-term operating
lease with the Operating Tenant. The Hotels are operated as part of the
Marriott Hotels, Resorts and Suites full-service hotel system. Significant
provisions under the agreements are as follows:
Orlando World Center. The management agreement provides for an initial term of
25 years, commencing with the opening of the Orlando World Center (March 24,
1986), and five 10-year renewals at the Manager's option. The Manager is paid a
base management fee of 3% of gross hotel sales and is also entitled to an
incentive management fee equal to 20% of operating profit, as defined, and an
additional incentive management fee equal to 30% of the following amount: (i)
80% of operating profit in each fiscal year less (ii) the greater of (a)
$25,000,000 or (b) debt service plus $7,000,000. Payment of the incentive
management fee is subordinate to debt service and retention of specified amounts
of operating profit by the Partnership. Unpaid incentive management fees are
deferred without interest and are payable from future operating cash flow, as
defined, but are due upon termination of the management agreement only if the
termination is the result of a default by the Partnership. Unpaid incentive
management fees as of December 31, 1996 were $2,046,000 which were paid in 1997.
Therefore, there were no unpaid incentive management fees as of December 31,
1997. In addition, based on higher cash flow from the Orlando Hotel, the
Manager earned additional incentive management fees in 1997 which were paid
during the year.
Under the management agreement, the Manager is required to furnish the Orlando
World Center with certain services ("Chain Services") which are generally
provided on a central or regional basis to all hotels in the Marriott full-
service hotel system. Chain Services include central training, advertising and
promotion, a national reservation system, computerized payroll and accounting
services, and such additional services as needed which may be more efficiently
performed on a centralized basis. Costs and expenses incurred in providing such
services are allocated among all domestic full-service hotels managed, owned or
leased by Marriott International or its subsidiaries. In addition, the Hotel
participates in Marriott International's Marriott Rewards Program ("MRP"). This
program was formerly known as the Honored Guest Awards Program ("HGA"). The
cost of this program is charged to all hotels in the Marriott hotel system based
upon the MRP sales at each hotel. The total amount of Chain Services and MRP
costs allocated to the Orlando World Center was $3,149,000, $3,588,000, and
$3,336,000 for the years ended December 31, 1997, 1996 and 1995, respectively.
Harbor Beach Hotel. The operating lease provides for an initial 36-year term
commencing with the opening of the Harbor Beach Hotel (October 29, 1984), with
options to renew for six successive 10-year periods based on certain defined
conditions. The annual rental paid to the Harbor Beach Partnership includes the
following:
. basic rental: annual rental payable under the land lease and insurance costs
. percentage rental: determined by multiplying the applicable percentage set
annually by the Harbor Beach Partnership by revenues
MHP Supp-49
<PAGE>
. performance rental: first $9,720,000 of operating profit of the Harbor Beach
Hotel, as defined
. additional performance rental: 50% of operating profit of the Harbor Beach
Hotel, as defined, in excess of $9,720,000
. contingent rental: up to 50% of operating profit of the Harbor Beach Hotel,
as defined, in excess of $9,720,000 if the aggregate annual rental is
otherwise insufficient to cover debt service.
Pursuant to the terms of the Harbor Beach rooms renovation loan (see Note 6),
the annual performance rental is adjusted upward by the annual debt service
required under the loan. For the five-year period beginning with 1995 and
ending in 1999, annual performance rental is increased by $696,557 to
$10,416,557. Subsequent to year-end 1999, performance rental will return to
$9,720,000.
Percentage rental is intended to cover the cost of utilities, repairs and
maintenance, and the required contribution to the property improvement fund (5%
of sales) and is therefore adjusted annually in order to equal the actual
applicable costs. Any payments of contingent rental reduce future payments of
additional performance rental (subject to limitations) in subsequent years. No
contingent rental has been accrued as of December 31, 1997 and 1996.
Rental income under the Harbor Beach Partnership operating lease for the three
years ended December 31, 1997 was (in thousands):
<TABLE>
<CAPTION>
1997 1996 1995
------- ------- -------
<S> <C> <C> <C>
Basic Rental.................... $ 1,712 $ 1,694 $ 1,616
Percentage Rental............... 6,284 6,240 5,921
Performance Rental.............. 10,417 10,417 10,417
Additional Performance Rental... 3,224 2,960 1,793
------- ------- -------
$21,637 $21,311 $19,747
======= ======= =======
</TABLE>
Cost and accumulated depreciation of the rental property were $103,110,000 and
$41,299,000 at December 31, 1997, and $100,647,000 and $37,279,000,
respectively, at December 31, 1996.
Property Improvement Funds
The management agreement and the operating lease provide for the establishment
of a property improvement fund for each of the Hotels. Contributions to the
property improvement funds are equal to five percent of gross sales of each
hotel. Contributions to the fund for the Orlando World Center totaled $6,411,000
and $6,015,000 for the years ended December 31, 1997 and 1996, respectively.
Contributions to the fund for the Harbor Beach Hotel totaled $2,730,000 and
$2,729,000 for the years ended December 31, 1997 and 1996, respectively.
MHP Supp-50
<PAGE>
NOTE 9. COMPARATIVE LEASED HOTEL OPERATING RESULTS
The Harbor Beach Hotel is a leased property whose income to the Partnership is
included in the consolidated statement of operations as rental income. The
following is a comparative summary of hotel operating results for the Harbor
Beach Hotel for the three years ended December 31, 1997 (in thousands):
<TABLE>
<CAPTION>
1997 1996 1995
------- ------- -------
<S> <C> <C> <C>
HOTEL SALES
Rooms............................ $32,322 $30,939 $28,384
Food and beverage................ 20,668 20,764 19,366
Other............................ 5,089 5,016 4,857
------- ------- -------
58,079 56,719 52,607
------ ------- -------
HOTEL EXPENSES
Departmental Direct Costs
Rooms........................... 5,882 5,566 5,332
Food and beverage............... 12,937 12,664 12,140
Other hotel operating expenses... 22,395 22,151 21,219
------- ------- -------
41,214 40,381 38,691
------- ------- -------
HOTEL REVENUES $16,865 $16,338 $13,916
======= ======= =======
</TABLE>
MHP Supp-51
<PAGE>
MARRIOTT HOTEL PROPERTIES LIMITED PARTNERSHIP AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
(IN THOUSANDS, EXCEPT PER UNIT AMOUNTS)
<TABLE>
<CAPTION>
Twelve Weeks Ended
-----------------------
March 27, March 28,
1998 1997
---------- ----------
<S> <C> <C>
REVENUES
Hotel.............................................. $18,213 $18,267
Rental income...................................... 9,362 9,286
------- -------
27,575 27,553
------- -------
OPERATING COSTS AND EXPENSES
Incentive management fees.......................... 2,870 2,877
Depreciation and amortization...................... 2,446 2,281
Base management fees............................... 1,112 1,100
Ground rent, property taxes and other.............. 2,221 2,152
------- -------
8,649 8,410
------- -------
OPERATING PROFIT.................................... 18,926 19,143
Interest expense................................... (4,723) (5,050)
Interest income.................................... 162 93
------- -------
INCOME BEFORE MINORITY INTEREST..................... 14,365 14,186
MINORITY INTEREST IN INCOME......................... (2,698) (2,757)
------- -------
NET INCOME.......................................... $11,667 $11,429
======= =======
ALLOCATION OF NET INCOME
General Partner.................................... $ 117 $ 114
Limited Partners................................... 11,550 11,315
------- -------
$11,667 $11,429
======= =======
NET INCOME PER LIMITED PARTNER UNIT (1,000 Units)... $11,550 $11,315
======= =======
</TABLE>
See Notes to Condensed Consolidated Financial Statements.
MHP Supp-52
<PAGE>
MARRIOTT HOTEL PROPERTIES LIMITED PARTNERSHIP AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
<TABLE>
<CAPTION>
March 27, December 31,
1998 1997
---------- ------------
(Unaudited)
ASSETS
<S> <C> <C>
Property and equipment, net............................ $221,344 $222,216
Due from Marriott International, Inc. and affiliates... 15,821 7,912
Minority interest...................................... 7,344 10,042
Other assets........................................... 10,746 10,245
Cash and cash equivalents.............................. 17,485 10,694
-------- --------
$272,740 $261,109
======== ========
<CAPTION>
LIABILITIES AND PARTNERS' CAPITAL
<S> <C> <C>
Mortgage debt......................................... $235,449 $235,946
Notes payable and amounts due to Marriott
International, Inc. and affiliates................... 4,163 4,987
Accounts payable and accrued interest................. 1,572 196
Amounts due to Host Marriott Corporation.............. 41 132
-------- --------
Total Liabilities................................... 241,225 241,261
-------- --------
PARTNERS' CAPITAL
General Partner....................................... 424 307
Limited Partners...................................... 31,091 19,541
-------- --------
Total Partners' Capital............................. 31,515 19,848
-------- --------
$272,740 $261,109
======== ========
</TABLE>
See Notes to Condensed Consolidated Financial Statements.
MHP Supp-53
<PAGE>
MARRIOTT HOTEL PROPERTIES LIMITED PARTNERSHIP AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(IN THOUSANDS)
<TABLE>
<CAPTION>
Twelve Weeks Ended
-----------------------
March 27, March 28,
1998 1997
---------- ----------
<S> <C> <C>
OPERATING ACTIVITIES
Net income.................................................. $11,667 $11,429
Noncash items............................................... 5,202 5,158
Changes in operating accounts............................... (6,653) (5,441)
------- -------
Cash provided by operating activities...................... 10,216 11,146
------- -------
INVESTING ACTIVITIES
Additions to property and equipment......................... (1,574) (882)
Changes in property improvement funds....................... (496) (1,850)
------- -------
Cash used in investing activities.......................... (2,070) (2,732)
------- -------
FINANCING ACTIVITIES
Repayments to Marriott International, Inc. and affiliates... (824) (167)
Principal repayments of mortgage debt....................... (497) (246)
Payment of financing costs.................................. (34) --
------- -------
Cash used in financing activities.......................... (1,355) (413)
------- -------
INCREASE IN CASH AND CASH EQUIVALENTS........................ 6,791 8,001
CASH AND CASH EQUIVALENTS at beginning of period............. 10,694 1,607
------- -------
CASH AND CASH EQUIVALENTS at end of period................... $17,485 $ 9,608
======= =======
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid for mortgage and other interest................... $ 3,292 $ 4,538
======= =======
</TABLE>
See Notes to Condensed Consolidated Financial Statements.
MHP Supp-54
<PAGE>
MARRIOTT HOTEL PROPERTIES LIMITED PARTNERSHIP AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. The accompanying condensed consolidated financial statements have been
prepared by Marriott Hotel Properties Limited Partnership (the "Partnership")
without audit. Certain information and footnote disclosures normally
included in financial statements presented in accordance with generally
accepted accounting principles have been condensed or omitted from the
accompanying statements. The Partnership believes the disclosures made are
adequate to make the information presented not misleading. However, the
condensed consolidated financial statements should be read in conjunction
with the Partnership's financial statements and notes thereto included in the
Partnership's Form 10-K for the fiscal year ended December 31, 1997.
In the opinion of the Partnership, the accompanying unaudited condensed
consolidated financial statements reflect all adjustments (which include only
normal recurring adjustments) necessary to present fairly the financial
position of the Partnership as of March 27, 1998 and the results of
operations and cash flows for the First Quarter 1998 and the First Quarter
1997. Interim results are not necessarily indicative of fiscal year
performance because of seasonal and short-term variations.
The Partnership owns Marriott's Orlando World Center (the "Orlando Hotel")
and a 50.5% interest in a partnership owning Marriott's Harbor Beach Resort
(the "Harbor Beach Partnership"), whose financial statements are consolidated
herein. The remaining 49.5% general partnership interest in the Harbor Beach
Partnership is reported as minority interest. All significant intercompany
balances and transactions have been eliminated.
For financial reporting purposes, net profits and net losses of the
Partnership are allocated 99% to the limited partners and 1% to the general
partner. Significant differences exist between the net profits and net losses
for financial reporting purposes and the net profits and net losses reported
for Federal income tax purposes. These differences are due primarily to the
use, for income tax purposes, of accelerated depreciation methods, shorter
depreciable lives of the assets, differences in the timing of the recognition
of management fee expense and the deduction of certain costs incurred during
construction which have been capitalized in the accompanying condensed
consolidated financial statements.
2. Certain reclassifications were made to the prior quarter financial statements
to conform to the current quarter presentation.
3. Hotel revenues represent house profit from the Orlando Hotel since the
Partnership has delegated substantially all of the operating decisions
related to the generation of house profit of the Orlando Hotel to Marriott
International, Inc. (the "Manager"). House profit reflects hotel operating
results which flow to the Partnership as property owner and represents gross
hotel sales less property-level expenses, excluding depreciation and
amortization, base and incentive management fees, property taxes and certain
other costs, which are disclosed separately in the accompanying condensed
consolidated statement of operations.
MHP Supp-55
<PAGE>
Hotel revenues consist of hotel operating results for the Orlando Hotel for
the twelve weeks ended (in thousands):
<TABLE>
<CAPTION>
Twelve Weeks Ended
---------------------
March 27, March 28,
1998 1997
--------- ---------
<S> <C> <C>
HOTEL SALES
Rooms $18,736 $18,493
Food and beverage................ 14,803 14,584
Other............................ 3,530 3,606
------- -------
37,069 36,683
------- -------
HOTEL EXPENSES
Departmental Direct Costs
Rooms......................... 3,238 3,072
Food and beverage............. 8,724 8,290
Other hotel operating expenses... 6,894 7,054
------- -------
18,856 18,416
------- -------
HOTEL REVENUES.................... $18,213 $18,267
======= =======
</TABLE>
4. Rental income under the Harbor Beach Partnership operating lease for the
twelve weeks ended was (in thousands):
<TABLE>
<CAPTION>
Twelve Weeks Ended
---------------------
March 27, March 28,
1998 1997
--------- ---------
<S> <C> <C>
Basic Rental......... $ 403 $ 362
Percentage Rental.... 1,731 1,964
Performance Rental... 7,228 6,960
------ ------
$9,362 $9,286
====== ======
</TABLE>
5. On April 15, 1998, the Partnership successfully completed the financing for
the expansion of the Orlando Hotel (the "Construction Loan"). The lender is
obligated to provide up to $88 million to fund costs related to the
construction of a 500-room tower, new parking garage, expansion of the
existing JW's Steakhouse restaurant, redesign of the existing golf course and
constructing 15,000 square feet of additional meeting space. During the
construction period, the Partnership is required to make interest only
payments at the fixed interest rate of 7.48% with such interest payments
funded by the Construction Loan. Upon completion of the expansion, the
Partnership will be required to pay principal and interest at the fixed
interest rate of 7.48% amortized over the remaining term of the loan. The
loan matures on January 1, 2008.
6. On April 17, 1998, Host Marriott Corporation ("Host Marriott"), parent
company of the General Partner of the Partnership, announced that its Board
of Directors has authorized the company to reorganize its business operations
to qualify as a real estate investment trust ("REIT") to become effective as
of January 1, 1999. As part of the REIT conversion, Host Marriott expects to
form a new operating partnership (the "Operating Partnership") and limited
partners in certain Host Marriott full-service hotel partnerships and joint
ventures, including the Partnership, are expected to be given an opportunity
to receive, on a tax-deferred basis, Operating Partnership units in the new
Operating Partnership in exchange for their current partnership interest.
MHP Supp-56
<PAGE>
HOST MARRIOTT, L.P.
SUPPLEMENT DATED __________ __, 1998 FOR
PROSPECTUS/CONSENT SOLICITATION STATEMENT DATED _________ __, 1998 FOR
MARRIOTT HOTEL PROPERTIES II LIMITED PARTNERSHIP
On the terms described in the Prospectus/Consent Solicitation Statement
(the "Consent Solicitation"), dated ______ __, 1998, of which this Supplement
(the "Supplement") is a part, Host Marriott Corporation, a Delaware corporation
("Host"), has adopted a plan to reorganize its business operations so that it
will qualify as a real estate investment trust ("REIT"). As part of this
reorganization (the "REIT Conversion"), Host and its consolidated subsidiaries
will contribute their full-service hotel properties and certain other businesses
and assets to Host Marriott, L.P., a newly formed Delaware limited partnership
(the "Operating Partnership"), in exchange for units of limited partnership
interest in the Operating Partnership ("OP Units") and the assumption of certain
liabilities. The sole general partner of the Operating Partnership will be Host
Marriott Trust, the entity resulting from the conversion of Host from a Delaware
corporation to a Maryland REIT ("Host REIT"). The Operating Partnership and
Host REIT will operate together as an umbrella partnership REIT. Host REIT
expects to qualify as a REIT beginning with its first full taxable year after
the closing of the REIT Conversion, which Host REIT currently expects to be the
year beginning January 1, 1999.
Following the REIT Conversion and the Blackstone Acquisition (defined
below), the Operating Partnership and its subsidiaries initially will own
outright, or have controlling interests in, approximately 120 full-service
hotels operating primarily under the Marriott, Ritz-Carlton, Four Seasons,
Swissotel and Hyatt brand names (the "Hotels"). Concurrently with the REIT
Conversion, the Operating Partnership will acquire ownership of, or controlling
interests in, 12 hotels and a mortgage loan secured by a thirteenth hotel
controlled by The Blackstone Group and a series of funds controlled by
Blackstone Real Estate Partners (collectively, the "Blackstone Entities") in
exchange for OP Units, the assumption of liabilities and other consideration
(the "Blackstone Acquisition"). The Operating Partnership will be one of the
largest owners of full-service hotels in the United States.
As part of the REIT Conversion, the Operating Partnership is proposing to
acquire by merger (the "Mergers") Marriott Hotel Properties II Limited
Partnership, a Delaware limited partnership ("MHP2" or the "Partnership"), and
up to seven other limited partnerships (the "Partnerships") that own full-
service hotels in which Host or its subsidiaries are general partners. As more
fully described in the Consent Solicitation, limited partners of those
Partnerships who participate in the Mergers will receive either OP Units or, at
their election, unsecured ____% Notes due December 15, 2005 issued by the
Operating Partnership ("Notes"), in exchange for their partnership interests in
such Partnerships (with respect to the Partnerships, those limited partners of
the Partnerships who are unaffiliated with Host are referred to herein as the
"Limited Partners", and with respect to MHP2, the "MHP2 Limited Partners").
The number of OP Units to be allocated to MHP2 will be based upon (i)
MHP2's Exchange Value (as defined herein) and (ii) the deemed value of an OP
Unit at the time of the Mergers, determined as described herein. See
"Determination of Exchange Values and Allocation of OP Units." The principal
amount of Notes that MHP2 Limited Partners may elect to receive in exchange for
the OP Units received in the Merger will be based upon MHP2's Note Election
Amount (as defined herein). See "Description of the Notes." The estimated
Exchange Value set forth herein may increase or decrease as a result of various
adjustments, and will be finally calculated shortly before the Closing Date.
Pursuant to the Merger, MHP2 Limited Partners will receive OP Units with a
deemed value of $237,334 per Partnership Unit (as defined herein), or if an MHP2
Limited Partner elects, a Note in a principal amount of $205,140 per Partnership
Unit.
In connection with the REIT Conversion, each outstanding share of Host
common stock will be converted into one common share of beneficial interest, par
value $.01 per share (a "Common Share"), of Host REIT. Following the closing of
the REIT Conversion, the Common Shares will be listed on the New York Stock
Exchange. Beginning one year after the Mergers, Limited Partners will have the
right to redeem their OP Units at any time and receive, at the election of Host
REIT, either Common Shares on a one-for-one basis (subject to adjustment) or
cash in an amount equal to the market value of such shares (the "Unit Redemption
Right").
Because REITs are not permitted under current federal income tax law to derive
revenues directly from the operation of hotels, the Operating Partnership will
lease the Hotels to lessees (the "Lessees") that will operate the Hotels under
the existing management agreements and pay rent to the Operating Partnership, as
more fully described herein. The Lessees generally will be indirect controlled
subsidiaries of HMC Senior Communities, Inc., which currently is a wholly owned
subsidiary of Host ("SLC"), but which will become a separate public company as
part of the REIT Conversion when Host distributes the common stock of SLC to its
existing shareholders and the Blackstone Entities. Shares of Host REIT and SLC
will become separately traded securities and the companies will operate
independently. Initially, there may be a partial overlap between the boards of
Host REIT and SLC but this will be phased out over time. There also will be a
substantial overlap of shareholders of the two companies initially, but this
likely will diverge over time.
MHP2 Supp-1
<PAGE>
MARRIOTT MHP TWO CORPORATION (THE "GENERAL PARTNER"), THE GENERAL PARTNER OF
MHP2, BELIEVES THAT THE TERMS OF THE MERGER PROVIDE SUBSTANTIAL BENEFITS AND ARE
FAIR TO THE MHP2 LIMITED PARTNERS AND RECOMMENDS THAT ALL MHP2 LIMITED PARTNERS
VOTE FOR THE MERGER.
The effects of the Mergers may be different for Limited Partners of the
various Partnerships. This Supplement has been prepared to highlight for MHP2
Limited Partners the specific risks, benefits, effects and fairness of the
Merger to them and to provide other information specific to MHP2. Supplements
have also been prepared for each of the other Partnerships. This Supplement,
together with the supplements of the other Partnerships (collectively, the
"Supplements"), are part of the Consent Solicitation. Upon receipt of a written
request by a Limited Partner or his representative so designated in writing, the
General Partner will send a copy of any Supplement without charge. All requests
for a copy of a Supplement should be directed to: Investor Relations, 10400
Fernwood Road, Bethesda, Maryland 20817, telephone number 301-380-2070 (between
the hours of 9:00 a.m. and 4:00 p.m., eastern time).
All cross-references refer to the Consent Solicitation unless stated
otherwise. Capitalized terms not defined herein shall have the meaning set
forth in the Consent Solicitation. The information contained herein, unless
otherwise indicated, assumes the REIT Conversion occurs with all Partnerships
participating and no Notes being issued (the "Full Participation Scenario").
RISK FACTORS
In deciding whether to approve the Merger, MHP2 Limited Partners should
consider certain risks and other factors. The General Partner believes that
MHP2 Limited Partners should particularly consider the following, which should
be read in conjunction with the information in the Consent Solicitation under
"Risk Factors" and "Federal Income Tax Considerations:"
. Substantial Benefits to Related Parties. The Mergers will facilitate
consummation and enable Host to reap the full benefits of the REIT
Conversion and will result in an increase in Host REIT's Funds From
Operations per Common Share on a pro forma basis. By converting to a
REIT, Host expects to benefit from the advantages enjoyed by REITs in
raising capital and acquiring additional assets, participating in a
larger group of comparable companies and increasing its potential base
of shareholders. Also, Host will realize significant savings through
the substantial reduction of its future corporate-level income taxes.
To the extent that such anticipated benefits initially are reflected
in the value of Host's common stock before the Closing Date, they will
not be shared initially with the Limited Partners. Host might be
required to transfer its interests in certain Partnerships that do not
participate in a Merger, if any, to a Non-Controlled Subsidiary, in
which case Host's share of such Partnerships' earnings would continue
to be subject to corporate-level income tax.
. Absence of Arm's Length Negotiations. No independent representative
was retained to negotiate on behalf of the MHP2 Limited Partners or
the other Limited Partners. Although the General Partner has obtained
the Appraisals and the Fairness Opinion from AAA, AAA has not
negotiated with the General Partner or Host and has not participated
in establishing the terms of the Mergers. Consequently, the terms and
conditions of the Mergers may have been more favorable to the MHP2
Limited Partners or the other Limited Partners if such terms and
conditions were the result of arm's length negotiations.
MHP2 Supp-2
<PAGE>
. Other Conflicts of Interest. The Mergers, the REIT Conversion and the
recommendations of the General Partner involves the following
conflicts of interest because of the relationships among Host, the
Operating Partnership, the General Partner and SLC: (i) the General
Partners, which are all subsidiaries of Host (except for PHLP, of
which Host is the General Partner), must assess whether the terms of
the Mergers are fair and equitable to the Limited Partners of its
Partnership without regard to whether the Mergers and the REIT
Conversion may benefit Host and (ii) the terms of the Leases of the
Hotels, including the Participating Partnerships' Hotels, will be
determined by Host, which will distribute the common stock of SLC, the
parent of the Lessees, to its shareholders after such terms have been
set and (iii) the terms of the Partnership Agreement, including
provisions which benefit Host REIT, have been determined by Host. Such
conflicts may result in decisions that do not fully reflect the
interests of all Limited Partners, including the MHP2 Limited
Partners.
. Valuation of SLC. The value of the SLC common stock distributed to
Host's shareholders and the Blackstone Entities will be one factor
used in determining the value of an OP Unit. Although Host's Board of
Directors will determine the value of the SLC common stock in good
faith and in reliance in part upon the opinion of an independent
financial advisor, conflicts of interest still exist. If the SLC
common stock distributed to Host's shareholders is undervalued by
Host's Board of Directors, the deemed value of an OP Unit for purposes
of the Mergers may be higher than the level at which the Host REIT
Common Shares will trade following the REIT Conversion and the MHP2
Limited Partners could receive less than the full Exchange Value of
their Partnership Interests and Host REIT could receive an overall
higher percentage of the ownership of the Operating Partnership.
. Determination of Exchange Value. The deemed value of OP Units that
each MHP2 Limited Partner will receive (if such MHP2 Limited Partner
elects to retain OP Units rather than receive a Note) will equal the
Exchange Value of such MHP2 Limited Partner's Partnership Interest.
The Exchange Value of MHP2 will be its Adjusted Appraised Value, which
is the greatest of its Adjusted Appraised Value, Continuation Value
and Liquidation Value, each of which is determined according to a
different method of valuation and involves numerous estimates and
assumptions. There is no assurance that the Exchange Value of MHP2
will equal the fair market value of the Hotels and other assets
contributed by MHP2. Host REIT, on the other hand, will receive a
number of OP Units equal to the number of shares of Host common stock
outstanding on the Closing Date (and, if Host has outstanding shares
of preferred stock at the time of the REIT Conversion, a corresponding
number of preferred partnership interests in the Operating
Partnership), which should fairly represent the market value of Host
REIT but may not be equal to the fair market or net asset value of the
Hotels and other assets that Host will contribute to the Operating
Partnership. See "Determination of Exchange Values and Allocation of
OP Units."
. Valuation of OP Units. The value of an OP Unit, for purposes of the
Mergers and the REIT Conversion, will be deemed to be equal to the
value of a share of Host common stock immediately prior to the REIT
Conversion minus the amount of cash and the estimated value of the SLC
common stock or other property to be distributed with respect to each
share of Host common stock in connection with the REIT Conversion.
There is no assurance that, following the REIT Conversion, the value
of the publicly traded Common Shares (and therefore the value of the
OP Units) will in fact equal or exceed the deemed value of the OP
Units used for purposes of the Mergers. These factors could result in
the MHP2 Limited Partners receiving OP Units with an actual value that
is less than either the deemed value of the OP Units for purposes of
the Mergers or the fair market value of their Partnership Interests.
. Determination of the Value of the Notes. At the same time that he
votes on the Merger, each MHP2 Limited Partner also may elect to
receive at the time of the Merger, in exchange for OP Units, an
unsecured, seven-year Note with a principal amount equal to the Note
Election Amount of his Partnership Interest, which is based upon
numerous assumptions and estimates. The deemed value of the OP Units
to be received by the MHP2 Limited Partners will exceed the principal
amount of the corresponding Notes (because the Exchange Value is
higher than the Note Election Amount), and there is no assurance that
the Note an MHP2 Limited Partner receives will have a value equal to
the fair market value of the MHP2 Limited Partner's share of the
Hotels and other assets owned by MHP2. There will be no public market
for the Notes. If the Notes are sold, they
MHP2 Supp-3
<PAGE>
may sell at prices substantially below their issuance price.
Noteholders are likely to receive the full principal amount of a Note
only if they hold the Note to maturity, which is December 15, 2005, or
if the Operating Partnership repays the Notes prior to maturity.
Because the Notes are unsecured obligations of the Operating
Partnership, they will be effectively subordinated to all secured debt
of the Operating Partnership and all obligations of both the
Participating Partnerships and the Operating Partnership's other
subsidiaries. See "Description of the Notes." As of March 27, 1998, on
a pro forma basis assuming the Full Participation Scenario, the
Operating Partnership would have had aggregate consolidated debt of
approximately $4.6 billion to which the Notes were effectively
subordinated or which rank equally with such Notes.
. Reduced Cash Distributions for MHP2 Limited Partners. The expected
initial cash distributions to the MHP2 Limited Partners from the OP
Units to be received in the Mergers will be less than the estimated
1998 cash distributions of MHP2.
. Fundamental Change in Nature of Investment; Potential
Underperformance. The Mergers and the REIT Conversion involve a
fundamental change in the nature of an MHP2 Limited Partner's
investment from holding an interest in MHP2, which has a fixed
portfolio of four Hotels and distributes the cash flow from the
operation of such Hotels to the MHP2 Limited Partners, to holding an
interest in an operating real estate company with a portfolio of
approximately 120 Hotels that collects and distributes to its limited
partners rents received from the Lessees (which will bear the risks
and receive the direct benefits of the Hotels' operations), has the
ability to acquire additional hotels, is able to reinvest proceeds
from sales or refinancings of existing Hotels in other hotels and has
a publicly traded general partner. In addition, each MHP2 Limited
Partner's investment will change from one that allows a MHP2 Limited
Partner to receive a return of capital in the form of distributions
from any net proceeds of a sale or refinancing of MHP2's assets to an
investment in which an MHP2 Limited Partner likely would realize a
return of capital only through the exercise of the Unit Redemption
Right. Although it is expected that the MHP2 Limited Partners will
receive added benefits from an investment in the Operating
Partnership, an MHP2 Limited Partner's share of the liquidation
proceeds, if any, from the sale of an MHP2 Hotel or Hotels could be
higher than the amount realized upon exercise of the Unit Redemption
Right (or payments on any Note received by an MHP2 Limited Partner who
elects to receive such Note). An investment in the Operating
Partnership may not outperform an investment in MHP2. See "Comparison
of Ownership of Partnership Interests, OP Units and Common Shares --
Nature of Investment."
. Exposure to Risks from Other Hotels. As a result of the Mergers, MHP2
Limited Partners who elect to receive OP Units will own interests in a
much larger partnership with a broader range of assets than MHP2
individually. A material adverse change affecting the Operating
Partnership's assets will affect all Limited Partners regardless of
whether a particular Limited Partner previously was an investor in
such affected assets. MHP2 owns discrete assets, and the Mergers and
the REIT Conversion will significantly diversify the types and
geographic locations of the Hotels in which the MHP2 Limited Partners
will have interests. As a result, the Hotels owned by the Operating
Partnership may be affected differently by economic and market
conditions than those Hotels previously owned by MHP2.
. MHP2 Limited Partners Have No Cash Appraisal Rights. MHP2 Limited
Partners who vote against the Merger will not have a right to receive
cash based upon an appraisal of their Partnership Interests.
. Uncertainties as to the Size and Leverage of the Operating
Partnership. Host is an existing operating company that regularly
issues and repays debt, acquires additional hotels and disposes of
existing hotels. Also, some or all of the Partnerships may elect not
to participate in a Merger. In that case, Host may contribute its
interests in such Partnerships to a Non-Controlled Subsidiary, which
is subject to corporate-level income taxation, rather than the
Operating Partnership. In addition, outside partners in certain
Private Partnerships may not consent to a lease of their partnership's
Hotel(s). Host also may repurchase outstanding securities or issue new
debt or equity securities prior to the consummation of the Mergers and
the REIT Conversion. For these reasons, the MHP2 Limited Partners
cannot know at the time they vote on a Merger the exact size and
amount of leverage of the Operating Partnership.
MHP2 Supp-4
<PAGE>
. Other Uncertainties at the Time of Voting. There are several other
uncertainties at the time the MHP2 Limited Partners must vote on the
Mergers, including (i) the exact Exchange Value for MHP2 (which will
be adjusted for changes in lender and capital expenditure reserves,
indebtedness, deferred maintenance and other items prior to the
Closing Date), (ii) the deemed value of the OP Units for purposes of
the Mergers which, together with the Exchange Value, will determine
the number of OP Units the MHP2 Limited Partners will receive and
(iii) the exact principal amount of the Notes that may be received in
exchange for OP Units. For these reasons, the MHP2 Limited Partners
cannot know at the time they vote on the Merger these important
aspects of the Merger.
. Lack of Control over Hotel Operations. Due to current federal income
tax law restrictions on a REIT's ability to derive revenues directly
from the operation of a hotel, the Operating Partnership will lease
virtually all of its consolidated Hotels to the Lessees, which will
operate the Hotels by continuing to retain the Managers pursuant to
the Management Agreements. The Operating Partnership will not operate
the Hotels or participate in the decisions affecting the daily
operations of the Hotels. Although the Operating Partnership's
subsidiaries will have certain rights as lessors under the Leases
(including control over decisions relating to capital expenditures)
and will remain obligated under the Management Agreements, the
Operating Partnership will have only a limited ability to require the
Lessees or the Managers to operate or manage the Hotels in any
particular manner or to govern any particular aspect of their day-to-
day operation or management. Therefore, the Operating Partnership will
be dependent for its revenue upon the ability of the Lessees and the
Managers to operate and manage the Hotels.
. Expiration of Leases. The Leases will expire seven to ten years after
the Closing Date, and there can be no assurance that such Leases will
be renewed (or if renewed, will be renewed on terms as favorable to
the Operating Partnership). If the Leases are not renewed, the
Operating Partnership will be required to find other lessees, which
lessees must meet certain requirements set forth in the Management
Agreements. There can be no assurance that satisfactory lessees could
be found or as to the terms and conditions on which the Operating
Partnership would be able to renew the Leases or enter into new leases
with such lessees.
. Requisite Vote of MHP2 Limited Partners Binds All MHP2 Limited
Partners. For MHP2, approval of a Merger is by a majority of the
Partnership Interests of MHP2 that are eligible to be voted, as
described in "Voting Procedures -- Required Vote and Other
Conditions." Such approval will cause MHP2 to participate in the
Merger and will bind all MHP2 Limited Partners, including MHP2 Limited
Partners who voted against or abstained from voting with respect to
the Merger.
. Risks of Lodging Industry. The profitability of the Hotels is subject
to general economic conditions, the management abilities of the
Managers (primarily Marriott International), competition, the
desirability of particular locations and other factors relating to the
operation of the Hotels. The full-service segment of the lodging
industry, in which virtually all of the Hotels operate, is highly
competitive, and the Hotels generally operate in geographical markets
that contain numerous competitors. The Hotels' success will be
dependent, in large part, upon their ability to compete in such areas
as access, location, quality of accommodations, room rate structure,
the quality and scope of food and beverage facilities and other
services and amenities. The lodging industry, including the Hotels
(and thus the Operating Partnership), may be adversely affected in the
future by (i) national and regional economic conditions, (ii) changes
in travel patterns, (iii) taxes and government regulations which
influence or determine wages, prices, interest rates, construction
procedures and costs, (iv) the availability of credit and (v) other
factors beyond the control of the Operating Partnership.
. Risks of Leverage. The Operating Partnership will have substantial
indebtedness. As of March 27, 1998, on a pro forma basis assuming the
Full Participation Scenario, the Operating Partnership would have had
outstanding indebtedness totaling $4.6 billion, which represents a 44%
debt-to-total market capitalization ratio on a pro forma basis at such
date (based upon a price per Common Share of Host REIT of $20.00). The
Operating Partnership's business is capital intensive, and it will
have significant capital requirements in the future. The Operating
Partnership's leverage level could affect its ability to (i) obtain
financing in the future, (ii) undertake refinancings on terms and
MHP2 Supp-5
<PAGE>
subject to conditions deemed acceptable by the Operating Partnership,
(iii) make distributions to partners, (iv) pursue its acquisition
strategy or (v) compete effectively or operate successfully under
adverse economic conditions.
. No Limitation on Debt. There are no limitations in Host REIT's or the
Operating Partnership's organizational documents which limit the
amount of indebtedness either may incur, although both the Notes and
the Operating Partnership's other debt instruments will contain
certain restrictions on the amount of indebtedness that the Operating
Partnership may incur.
. Rental Revenues from Hotels Subject to Rights of Lenders. In
accordance with the mortgage loan agreements with respect to
outstanding indebtedness of certain Hotel Partnerships, the rental
revenues received by such Hotel Partnerships under certain Leases
first will be used to satisfy the debt service on such outstanding
indebtedness and any cash flow remaining thereafter will be available
to satisfy other obligations of the Hotel Partnership (including
paying property taxes and insurance, funding the required FF&E
reserves for the Hotels and capital improvements) and to make
distributions to partners, including Host REIT.
. Ownership Limitations. No person may own, actually or constructively
(as determined under the applicable Code provisions), (i) in excess of
9.8% of the number or value of outstanding Common Shares of Host REIT
or (ii) in excess of 4.9% of the OP Units (other than Host REIT and
The Blackstone Group), subject to waiver or modification by Host REIT
or the Operating Partnership, as the case may be, in certain limited
circumstances.
. Timing of REIT Conversion. If the REIT Conversion does not occur in
time for Host REIT to elect REIT status effective January 1, 1999, the
effectiveness of Host REIT's election could be delayed to January 1,
2000, which would result in Host REIT continuing to pay corporate-
level income taxes in 1999 and could cause the Blackstone Acquisition
not to be consummated.
. Effect of Subsequent Events upon Recognition of Gain. Even though the
MHP2 Limited Partners (other than those who elect to receive a Note in
exchange for OP Units) generally are not expected to recognize
significant taxable gain at the time of the Mergers, there are a
variety of events and transactions (including the sale of one or more
of the Hotels currently owned by MHP2 or the reduction of indebtedness
securing one or more of the Hotels) that could cause an MHP2 Limited
Partner to recognize all or a part of the gain that otherwise has been
deferred through the REIT Conversion. See "Federal Income Tax
Considerations - Tax Treatment of MHP2 Limited Partners Who Hold OP
Units Following the Merger." Certain Hotels (including the Blackstone
Hotels and the Hotel owned by Atlanta Marquis) will be covered by
agreements with third parties which will restrict the Operating
Partnership's ability to dispose of those properties or refinance
their debt. As for the remaining initial properties (including the
Hotels owned by MHP2), the partnership agreement of the Operating
Partnership, which is substantially in the form attached hereto as
Appendix A (the "Partnership Agreement"), does not impose any
restrictions on the Operating Partnership's ability to dispose of
the Hotels or to refinance debt secured by the Hotels (but the
Operating Partnership is obligated to pay any taxes Host REIT incurs
as a result of such transactions). In addition, the Partnership
Agreement expressly provides that Host REIT, as general partner of the
Operating Partnership, is not required to take into account the tax
consequences of the limited partners in deciding whether to cause the
Operating Partnership to undertake specific transactions and the
limited partners have no right to approve or disapprove such
transactions. See "Description of OP Units-Sales of Assets."
. Election to Receive Notes. An MHP2 Limited Partner who elects to
receive a Note in connection with the Merger in exchange for his OP
Units will be treated as having made a taxable disposition of his
Partnership Interest. The MHP2 Limited Partner may be eligible to
defer at least a portion, but not all, of that gain under the
"installment sale" rules. See "Federal Income Tax Considerations --
Tax Treatment of MHP2 Limited Partners Who Exercise Their Right to
Make the Note Election."
. Failure of Host REIT to Qualify as a REIT for Tax Purposes. Taxation
of Host REIT as a corporation if it fails to qualify as a REIT, and
Host REIT's subsequent liability for federal, state and local taxes on
its income and property, would, among other things, have the effect of
reducing cash available for distribution to Host REIT's shareholders
and materially reducing the value of the Common Shares and OP Units.
MHP2 Supp-6
<PAGE>
. Failure of the Operating Partnership to Qualify as a Partnership for
Tax Purposes. Taxation of the Operating Partnership as a corporation
if it fails to qualify as a partnership and the Operating
Partnership's subsequent liability for federal, state and local income
taxes, would, among other things, have the effect of reducing cash
available for distribution to holders of OP Units, would cause Host
REIT to fail to qualify as a REIT for tax purposes and would cause the
holders of OP Units to recognize substantial taxable gain at the time
the Operating Partnership ceases to qualify as a partnership.
. Change in Tax Laws. No assurance can be provided that new legislation,
Treasury Regulations, administrative interpretations or court
decisions will not significantly change the tax laws with respect to
Host REIT's qualification as a REIT or the federal income tax
consequences of such qualification.
EXPECTED BENEFITS OF THE REIT CONVERSION
The General Partner believes that participating in the REIT Conversion
would likely be beneficial to the MHP2 Limited Partners for the reasons set
forth below. This information is qualified by and should be read in conjunction
with the information in the Consent Solicitation under "Background and Reasons
for the Mergers and the REIT Conversion -- Reasons for the Mergers." These
benefits, which should be viewed as alternatives to continuing the business and
operations of MHP2, are expected to include:
. Value of OP Units to be Received in the Merger. MHP2 Limited Partners
who elect to receive OP Units in the Merger will receive OP Units with
a deemed value of $237,334 per Partnership Unit.
. Enhanced Liquidity of Investment. The REIT Conversion will offer MHP2
Limited Partners significantly enhanced liquidity with respect to
their investments in MHP2 because, after the expiration of the Initial
Holding Period, MHP2 Limited Partners will be able to exercise their
Unit Redemption Right at any time, subject to certain limited
exceptions. Host has approximately 204 million shares of common stock
outstanding and the closing price on the NYSE on May 28, 1998 was
$19.4375 per share (reflecting a total common equity market
capitalization of approximately $4 billion). The exercise of the Unit
Redemption Right, however, generally would result in recognition of
taxable income or gain at that time.
. Public Market Valuation of Assets. The Partnership Units of MHP2
currently trade at a discount to the net asset value of MHP2's assets.
In contrast, the General Partner believes that by exchanging interests
in MHP2, which is a non-traded limited partnership, for interests in a
publicly traded real estate company focused primarily on a more
diverse and growing full-service hotel portfolio, the MHP2 Limited
Partners will have the opportunity to participate in the recent trend
of ownership of real estate through a publicly traded entity, which,
in many instances, has resulted in market valuations of public real
estate companies in excess of the estimated net asset values of those
companies. There can be no assurance, however, that the Common Shares
of Host REIT will trade at a premium to the private market values of
the Operating Partnership's assets or that the relative pricing
differential will not change or be eliminated in the future. Also, the
initial benefit of Host's conversion to a REIT will not be shared by
the MHP2 Limited Partners if and to the extent that such initial
benefit is reflected in the market valuation of Host's common stock
prior to the REIT Conversion.
. Regular Quarterly Cash Distributions. The General Partner expects that
the Operating Partnership will make regular quarterly cash
distributions to holders of OP Units. The General Partner expects that
while these distributions will be lower than the estimated 1998 cash
distributions of MHP2, the ability to receive distributions quarterly
and in regular amounts would be enhanced. For additional information
regarding historical and estimated future distributions for MHP2 and
the other Partnerships, see "Background and Reasons for the Mergers
and the REIT Conversion -- Reasons for the Mergers."
MHP2 Supp-7
<PAGE>
. Substantial Tax Deferral. The General Partner expects that MHP2
Limited Partners who do not elect to receive a Note in exchange for OP
Units generally should be able to obtain the benefits of the Merger
while continuing to defer recognition for federal income tax purposes
of at least a substantial portion, if not all, of the gain with
respect to their Partnership Interests that otherwise would be
recognized in the event of a liquidation of MHP2 or a sale or other
disposition of its assets in a taxable transaction. Thereafter, such
MHP2 Limited Partners generally should be able to defer at least a
substantial portion of such built-in gain until they elect to exercise
their Unit Redemption Right or one or more of the Hotels currently
owned, directly or indirectly, by MHP2 are sold or otherwise disposed
of in a taxable transaction by the Operating Partnership or the debt
now secured by such Hotels is repaid, prepaid or substantially
reduced. The federal income tax consequences of the Merger are highly
complex and, with respect to each MHP2 Limited Partner, are dependent
upon many variables, including the particular circumstances of such
MHP2 Limited Partner. See "Federal Income Tax Considerations -- Tax
Consequences of the Merger." Each MHP2 Limited Partner is urged to
consult with his own tax advisors as to the consequences of the Merger
in light of his particular circumstances.
. Risk Diversification. Participation in the Merger, as well as future
hotel acquisitions by the Operating Partnership, will reduce the
dependence of MHP2 Limited Partners upon the performance of, and the
exposure to the risks associated with, MHP2's Hotels and spread such
risk over a broader and more varied portfolio, including more diverse
geographic locations and multiple brands. See "Business and
Properties -- Business Objectives."
. Reduction in Leverage and Interest Costs. It is expected that the
Operating Partnership will have a significantly lower leverage to
value ratio than MHP2 currently, which has a leverage ratio of 56%
(calculated as a percentage of Appraised Value), resulting in interest
and debt service savings and greater financial stability.
. Growth Potential. The General Partner believes that the MHP2 Limited
Partners, by owning interests in a publicly traded real estate
company focused primarily on a more diverse and growing upscale and
luxury full-service hotel portfolio, will be able to participate in
growth opportunities that would not otherwise be available to them.
. Greater Access to Capital. With publicly traded equity securities, a
larger base of assets and a substantially greater equity value than
MHP2 individually, Host REIT expects to have greater access to the
capital necessary to fund the Operating Partnership's operations and
to consummate acquisitions on more attractive terms than would be
available to MHP2 individually. This greater access to capital should
provide greater financial stability to the Operating Partnership and
reduce the level of risk associated with refinancing existing loans
upon maturity, as compared to MHP2 individually.
DETERMINATION OF EXCHANGE VALUE OF MHP2 AND ALLOCATION OF OP UNITS
General. The Exchange Value of MHP2 will be equal to the greatest of its
Adjusted Appraised Value, Continuation Value and Liquidation Value, each of
which has been determined as follows:
. Adjusted Appraised Value. The General Partner has retained AAA to
determine the market value of each of the Hotels as of March 1, 1998
(the "Appraised Value"). The "Adjusted Appraised Value" of MHP2 equals
the Appraised Value of its Hotels, adjusted as of the Final Valuation
Date for lender reserves, capital expenditure reserves, existing
indebtedness (including a "mark to market" adjustment to reflect the
market value of such indebtedness), certain deferred maintenance
costs, deferred management fees and transfer and recordation taxes and
fees.
. Continuation Value. The "Continuation Value" of MHP2 represents AAA's
estimate, as adopted by the General Partner, of the discounted present
value, as of January 1, 1998, of the MHP2 limited partners' share of
estimated future cash distributions and estimated net sales proceeds
(plus lender reserves), assuming that MHP2 continues as an operating
business for twelve years and its assets are sold on December 31, 2009
for their then estimated market value.
. Liquidation Value. The "Liquidation Value" of MHP2 represents the
General Partner's estimate of the net proceeds to MHP2 limited
partners resulting from the assumed sale as of December 31, 1998 of
the Hotel(s) of MHP2, each at its Adjusted Appraised Value (after
eliminating any "mark to market" adjustment and adding back the
deduction for transfer taxes and fees, if any, made in deriving the
Adjusted Appraised Value), less (i) estimated liquidation costs,
expenses and contingencies equal to 2.5% of Appraised Value and (ii)
prepayment penalties or defeasance costs, as applicable.
MHP2 Supp-8
<PAGE>
Final determination of the Exchange Value of MHP2 will be made as of the
end of the four week accounting period ending at least 20 days prior to the
Closing Date (the "Final Valuation Date") and will be equal to the greatest of
Adjusted Appraised Value, Continuation Value and Liquidation Value as of such
date. Adjusted Appraised Value, Continuation Value and Liquidation Value will
be adjusted as of the Final Valuation Date (i) to reflect the amount of lender
and capital expenditure reserves and the amount of deferred management fees as
of such date, (ii) to increase the Adjusted Appraised Value by any amounts
actually expended by MHP2 after the Initial Valuation Date to perform deferred
maintenance previously subtracted in determining the estimated Adjusted
Appraised Value of MHP2 and (iii) to reflect any changes in MHP2's other
reserves, such as for litigation expenses and indemnification costs and any
revised estimates of transfer and recordation taxes and fees.
Appraised Value. MHP2's Hotels were appraised as of March 1, 1998 by AAA,
an independent, nationally recognized hotel valuation and financial advisory
firm experienced in the appraisals of lodging properties such as MHP2's Hotels.
Each appraisal (an "Appraisal") was reviewed by an MAI appraiser and certified
by such MAI appraiser as having been prepared in accordance with the
requirements of the Standards of Professional Practice of the Appraisal
Institute and the Uniform Standards of Professional Appraisal Practice of the
Appraisal Foundation.
The purpose of each Appraisal is to provide an estimate of the "Market
Value" of the related Hotel. "Market Value" means the most probable price which
a property should bring in a competitive and open market under all conditions
requisite to a fair sale, the buyer and seller each acting prudently and
knowledgeably and assuming the price is not affected by undue stimuli. Implicit
in this definition is the consummation of a sale as of a specified date and the
passing of title from seller to buyer under conditions whereby: (i) the buyer
and seller are equally motivated; (ii) both parties are well informed or well
advised, and each is acting in what he considers his own best interest; (iii) a
reasonable time frame is allowed for exposure in the open market; (iv) payment
is made in terms of cash in U.S. dollars or in terms of financial arrangements
comparable thereto and (v) the price represents the normal consideration for the
property sold unaffected by special or creative financing or sales concessions
granted by anyone associated with the sale. AAA made site visits at all of
MHP2's Hotels for purposes of the Appraisals
In preparing the Appraisals, AAA relied primarily on the income
capitalization method of valuation, and then compared the value estimated by
this method with recent sales of comparable properties, as a check on the
reasonableness of the value determined through the income capitalization method.
AAA employed the following procedures for determining the Appraised Value of
each Hotel:
. Historical 1997 and Projected Year's Earnings. AAA reviewed the
historical 1997 net operating income (i.e., income before interest,
taxes, depreciation and amortization) ("NOI") prior to incentive
management fees and certain capital expenditures for the applicable
Hotel. AAA also prepared a projection of the net operating income
prior to incentive management fees and certain capital expenditures
for the applicable Hotel for the twelve month period ending February
28, 1999 (the "Projected Year"), using historical financial
information for the Hotel, budget information, a survey with the
manager of the Hotel addressing the physical condition of the Hotel,
local market conditions (including business mix, demand generators,
future trends and predictability of business), changes in the
competitive environment, comparison with direct competitors of the
Hotel and risk factors relating to the particular Hotel. The resulting
gross margin (ratio of total revenues to NOI prior to incentive
management fees) was checked against AAA's database of the gross
margins for similar hotels for reasonableness.
. Impact of Incentive Management Fees. AAA estimated a normalized annual
amount of incentive management fees payable under the applicable
management agreement and subtracted this amount from the NOI prior to
incentive management fees and certain capital expenditures for 1997
and the Projected Year.
. Impact of Owner Funded Capital Expenditures. AAA estimated normalized
annual amounts of owner funded capital expenditures (over and above
the FF&E reserve) based in part on projected owner funded capital
expenditures estimated in the Engineering Study. The normalized
amounts were then subtracted from the NOI prior to owner funded
capital expenditures for 1997 and the Projected Year.
. Capitalization of Adjusted NOI. AAA then capitalized the amount
resulting from the foregoing adjustments ("Adjusted NOI") for 1997 and
the Projected Year by dividing such amounts by capitalization rates
that AAA determined to be appropriate. A capitalization rate
represents the relationship between net operating income and sales
prices of income producing property. AAA selected the capitalization
rates based upon its review of current published surveys reflecting
the opinions of investors and participants such as REITs, hotel
acquisition/management companies and pension funds, lenders, brokers
and consultants as to current capitalization rates, and its own
database of capitalization rates reflected in recent transactions,
adjusted for factors specific to the individual Hotel, such as
location, physical condition, reserve policies, local market
volatility and competition, guest mix, renovation influences and other
income characteristics. AAA used separate capitalization rates that it
deemed appropriate to capitalize 1997 historical Adjusted NOI and
estimated Projected Year's Adjusted NOI. AAA then estimated the value
of each Hotel based upon each of the values estimated by capitalizing
1997 and Projected Year's Adjusted NOI and its professional judgment.
MHP2 Supp-9
<PAGE>
The following table sets forth the effective capitalization rates for 1997
and Projected Year's Adjusted NOI resulting from AAA's estimated Appraised
Values of MHP2's Hotels.
RESULTING EFFECTIVE CAPITALIZATION RATES FOR APPRAISALS OF MHP2'S HOTELS
<TABLE>
<CAPTION>
PROJECTED YEAR
1997 (Ending FEBRUARY 28, 1999)
---- ------------------------------------------
<S> <C>
9.1 - 9.6% 9.7 - 11.1%
</TABLE>
The resulting Appraised Value of MHP2's Hotels, as estimated by AAA, is
$463,300,000, which excludes 50% of the $126,200,000 Appraised Value of the
Santa Clara Marriott Hotel but includes 100% of the $42,500,000 in mortgage debt
encumbering the Hotel for which MHP2 is responsible.
. Comparison with Comparable Sales. AAA checked the Appraised Value of
each Hotel derived by the foregoing procedures against its database of
comparable sale transactions for reasonableness.
In the case of Santa Clara Marriott which is only partly owned by MHP2 the
Appraised Value of such Hotel was reduced proportionately to the amount
attributable MHP2's ownership interest therein (but no adjustment was made to
reflect the effect that the outside interest might have on decisions with
respect to sales, refinancings or other major operational matters). With
respect to MHP2's Hotels, three properties were encumbered by a ground lease as
of the date of the Appraisal. Accordingly, the Appraised Values of such Hotels
have been decreased to reflect the encumbrance of the ground lease and the
interest of the ground lessor in the operating cash flows of such Hotels. The
Appraised Value assumes all contractual provisions for FF&E reserves are
adequate and have not been reduced to reflect deferred maintenance or
environmental remediation costs with respect to MHP2's Hotels (but estimated
deferred maintenance costs have been deducted in estimating the Adjusted
Appraised Value of each of MHP2's Hotel). The Appraised Value did not take into
account the costs that might be incurred in selling a Hotel (but estimated costs
for transfer and recordation taxes and fees have been deducted in estimating the
Adjusted Appraised Value of each Hotel).
The Appraisals are not guarantees of present or future values and no
assurance can be given as to the actual value of MHP2's Hotels. The Appraisals
should be read in conjunction with other information, such as, but not limited
to, the audited financial statements of MHP2.
The Appraised Value, and the assumptions underlying the projections on
which the Appraised Value is based, are contingent upon a series of future
events, the outcomes of which are not necessarily within the Operating
Partnership's control and cannot be determined at this time. There can be no
assurance that another appraiser would not have arrived at a different result.
Some of the assumptions inevitably will not materialize, and unanticipated
events and circumstances will occur subsequent to the date of the Appraisals.
Furthermore, the actual results achieved from MHP2's Hotels will vary from the
results projected in the Appraisals and the variations may be material.
Adjusted Appraised Value. The Adjusted Appraised Value of MHP2 was
determined by totaling the Appraised Values of all of the Hotels of MHP2 and
then making various adjustments to the aggregate Appraised Value, as described
below.
. Lender Reserves. MHP2's debt service reserves are required to be held
by third-party lenders. The amount of these lender reserves as of the
Initial Valuation Date was added to the Appraised Values of these
Hotels. A final determination of the lender reserves of MHP2 will be
made on the Final Valuation Date and any changes in such reserves will
be reflected in the Adjusted Appraised Value.
. Mortgage and Other Debt. The estimated principal balance and accrued
interest as of the Closing Date (assumed to be December 31, 1998) of
all mortgage and other debt of MHP2 has been subtracted from the
Appraised Value.
. Mark to Market Adjustments. The third-party loans of the Partnerships
have various interest rates and terms to maturity. In order to reflect
the fair market value of the third-party loans of each Partnership,
the estimated Adjusted Appraised Value for MHP2 has been increased or
decreased to "mark to market" the interest rate for such loans. This
adjustment has been estimated by comparing the interest cost using the
applicable interest rates on existing third-party loans over their
remaining term to the interest cost using the interest rate that the
Operating Partnership believes it would be able to obtain for
unsecured debt in the market as of the Final Valuation Date (which
would have been 8.0% per annum based on a 225 basis point (2.25
percent) spread over the yield on seven-year U.S. Treasury securities
as of May 8, 1998). The mark to market adjustment for each loan was
calculated by determining the difference between the present values,
as of December 31, 1998, of the interest payments over the remaining
term of the loan from January 1, 1999 to maturity using the actual
interest rate as the discount rate as compared to using the assumed
market rate as the discount rate.
. Deferred Management Fees. The amount of deferred management fees
estimated to be payable under the Management Agreement(s) of MHP2 as
of December 31, 1998 have been subtracted from the Appraised Value.
The amount of such deferred management fees will be recalculated as of
the Final Valuation Date.
. Deferred Maintenance Costs. The estimated cost to complete any
deferred maintenance items identified in the Engineering Study
relating to the Hotels of MHP2 has been subtracted from the Appraised
Value. The adjustments for this item will be reduced at the Final
Valuation Date to reflect amounts expended after the Initial Valuation
Date to perform such deferred maintenance. No adjustments have been
made for previously budgeted capital expenditures or deferred
maintenance costs estimated in the Engineering Study that are
reflected in the cash flow projections used for purposes of estimating
Appraised Values.
MHP2 Supp-10
<PAGE>
The following table sets forth the adjustments to the aggregate Appraised
Values made to derive the estimated Adjusted Appraised Value for MHP2 as of the
Initial Valuation Date.
CALCULATION OF ESTIMATED ADJUSTED APPRAISED VALUE FOR MHP2
AS OF THE INITIAL VALUATION DATE
(IN THOUSANDS, EXCEPT PER PARTNERSHIP UNIT AMOUNT)
<TABLE>
<CAPTION>
<S> <C>
Appraised Value $ 463,300(1)
Lender reserves 6,800
Mortgage debt (259,945)
Mark to market adjustment (2,154)
Deferred management fees (3,184)
Deferred maintenance costs (1,673)
Estimated Adjusted Appraised
Value $ 203,144
=========
Limited partners' share $ 176,814
Per Partnership Unit $ 237,334
</TABLE>
(1) Excludes 50% of the $126,200,000 Appraised Value of the Santa Clara
Marriott Hotel but includes 100% of the $42,500,000 in mortgage debt
encumbering the Hotel for which MHP2 is responsible.
Continuation Value. AAA estimated the Continuation Value of MHP2 using
the following methodology:
. Estimated Future Cash Distributions. AAA prepared estimates of future
partnership cash flow for MHP2 for the 12-year period from January 1,
1998 through December 31, 2009 based upon the estimated 1998 NOI
before incentive management fees used in the Appraisals and for each
subsequent year applying an assumed annual stabilized growth rate (as
shown in the table below) developed by AAA for this analysis. For each
year in the projection period, AAA estimated the amount of cash
available for distribution to MHP2's limited partners after payment of
all management fees, debt service, owner funded capital expenditures
based on the Engineering Study and other partnership expenses and
after application of the applicable partnership agreement provisions.
AAA assumed that MHP2's FF&E reserve was adequate and understood that
Host determined that there were no reserve shortfalls or surpluses.
. Refinancing Assumptions. For debt that matures during the 12-year
period, AAA assumed that the debt would be refinanced with interest
rates ranging from 7.25% to 8.60% per annum and a 20-to 25-year
amortization schedule, with estimated refinancing costs of 1% of the
refinanced amount being paid from operating cash flow.
. Determination of Residual Value. To estimate the residual value of the
MHP2 limited partners' interest in MHP2 at the end of the 12-year
period, AAA assumed that the MHP2 Hotels would be sold as of December
31, 2009 at their then market value. AAA estimated the market value of
each Hotel as of such date by applying an exit capitalization rate
that it deemed appropriate, using the factors described above in
connection with the "-- Appraised Value," which are set forth in the
table below, to the estimated Adjusted NOI for 2009 (estimated as
described above). AAA then subtracted estimated sales costs of 2.0% of
the estimated market value, added lender reserves, and subtracted the
estimated outstanding principal balance of debt as of December 31,
2009 and deferred management fees to arrive at net sales proceeds
available for distribution to partners. AAA then determined what
portion of such estimated net sales proceeds would be distributable to
MHP2's limited partners under the various partnership and debt
agreements.
. Discounting Distributions to Present Value. As a final step, AAA
discounted the estimated future cash distributions to MHP2's limited
partners from operations and estimated net sales proceeds to their
present value as of January 1, 1998, using a discount rate of 20% per
annum. AAA believes that this discount rate reflects the return on
investment that investors expect from leveraged investments of this
nature.
The growth rate and exit capitalization rate used to determine the
estimated Continuation Value for MHP2 are as set forth below:
GROWTH RATES, EXIT CAPITALIZATION RATES
AND ESTIMATED CONTINUATION VALUE FOR MHP2
<TABLE>
<CAPTION>
ESTIMATED
CONTINUATION VALUE
GROWTH RATE EXIT CAPITALIZATION RATE (2009) (PER PARTNERSHIP UNIT)
- ------------------------ ----------------------------------- -------------------------------
<S> <C> <C>
3.4% 10.4% $212,032
</TABLE>
MHP2 Supp-11
<PAGE>
Liquidation Value. The Liquidation Value of MHP2 was estimated by the
General Partner and represents the estimated value of MHP2 if all of its assets
were sold as of December 31, 1998. Such value was based upon the Adjusted
Appraised Value of MHP2, with the following adjustments: (i) the "mark to
market" adjustment used to estimate the Adjusted Appraised Value was eliminated
and instead prepayment or defeasance costs that would be payable under existing
debt agreements (regardless of whether the debt in fact can be prepaid on
December 31, 1998) were deducted from the Appraised Value and (ii) the deduction
for transfer and recordation taxes used to estimate the Adjusted Appraised Value
was eliminated and instead an amount equal 2.5% of the Appraised Value of MHP2's
Hotel(s) was subtracted from the Appraised Value for estimated liquidation
costs, expenses and contingencies. The General Partner then determined the
portion of the estimated Liquidation Value that would be distributable to MHP2's
limited partners under the terms of the partnership agreement and other
contractual arrangements.
The following table sets forth the adjustments made to the Adjusted
Appraised Value to estimate the Liquidation Value of MHP2 as of the Initial
Valuation Date:
CALCULATION OF ESTIMATED LIQUIDATION VALUE OF MHP2
AS OF THE INITIAL VALUATION DATE
(IN THOUSANDS, EXCEPT PER PARTNERSHIP UNIT AMOUNT)
<TABLE>
<CAPTION>
<S> <C>
Appraised Value $ 463,300(1)
Lender reserves 6,800
Mortgage debt (259,945)
Prepayment/defeasance costs (20,551)
Deferred management fees (3,184)
Deferred maintenance costs (1,673)
Sales costs (11,583)
Estimated Liquidation Value $ 173,164
=========
Limited partners' share $ 152,829
Per Partnership Unit $ 205,140
</TABLE>
(2) Excludes 50% of the $126,200,000 Appraised Value of the Santa Clara
Marriott Hotel but includes 100% of the $42,500,000 in mortgage debt
encumbering the Hotel for which MHP2 is responsible.
Estimated Exchange Value. The following table sets forth the estimated
Exchange Value of MHP2 (based upon the Appraised Values of MHP2's Hotels as of
March 1, 1998 and the estimated adjustments described above) and the estimated
Note Election Amount for MHP2, all on a per Partnership Unit basis. The
estimated Exchange Value for MHP2 (which will be received by each MHP2 Limited
Partner retaining OP Units in the Merger) is equal to the estimated Adjusted
Appraised Value for MHP2. The estimated Note Election Amount for MHP2 (which
will be received by MHP2 Limited Partners electing to receive Notes in exchange
for OP Units) is equal to the Liquidation Value for MHP2. The estimated values
set forth below may increase or decrease as a result of various adjustments,
which will be finally calculated as of the Final Valuation Date but will not
change as a result of less than all of the Partnerships participating in the
Mergers.
MHP2 Supp-12
<PAGE>
ESTIMATED EXCHANGE VALUE OF MHP2
Per Partnership Unit(1)
<TABLE>
<CAPTION>
ESTIMATED ESTIMATED ESTIMATED ESTIMATED ESTIMATED
ADJUSTED APPRAISED CONTINUATION LIQUIDATION EXCHANGE NOTE ELECTION
VALUE VALUE VALUE VALUE (2) AMOUNT(3)
-------------------- ------------ ----------- ---------- --------------
<S> <C> <C> <C> <C>
$237,334 $212,032 $205,140 $237,334 $205,140
</TABLE>
_________________
(1) A Partnership Unit in MHP2 represents an original investment of $100,000.
(2) The estimated Exchange Value is equal to the greatest of estimated Adjusted
Appraised Value, estimated Continuation Value and estimated Liquidation
Value.
(3) The principal amount of Notes is equal to the greater of (i) the
Liquidation Value or (ii) 60% of the Exchange Value (the "Note Election
Amount").
Valuation of OP Units Allocated to MHP2's Limited Partners. Each MHP2
Limited Partner will receive OP Units with a deemed value equal to the Exchange
Value of such MHP2 Limited Partner's Partnership Interests. The value of an OP
Unit for this purpose will be deemed to be equal to (i) the average of the
closing price of shares of Host common stock on the NYSE for the 10 trading days
ending on the third trading day prior to the record date for the distribution of
SLC common stock to Host shareholders minus (ii) the amount of cash and the
estimated value, as determined by Host's Board of Directors in good faith and in
reliance in part upon an opinion of an independent financial advisor, of the SLC
common stock or other property to be distributed with respect to each share of
Host common stock (currently estimated to aggregate approximately $___ - $____
per share) in connection with the REIT Conversion. The closing price per share
of Host common stock on May 28, 1998 was $19.4375.
MHP2 Limited Partners who receive OP Units will receive cash distributions
from MHP2 for all of 1998 and, if the Merger does not occur in 1998, any portion
of 1999 prior to the Merger for which period they do not receive a cash
distribution from the Operating Partnership.
No fractional OP Units will be issued. Fractional amounts less than or
equal to 0.50 of an OP Unit will be rounded down to the next whole number and
fractional amounts greater than 0.50 will be rounded up to the next whole number
of OP Units.
CASH DISTRIBUTIONS
HISTORICAL CASH DISTRIBUTIONS PAID BY MHP2. The following table sets forth
the distributions paid to MHP2 Limited Partners (per Partnership Unit) for the
periods indicated. The information below should be read in conjunction with the
information in this Supplement under the caption "Selected Financial Data."
<TABLE>
<CAPTION>
HISTORICAL CASH DISTRIBUTIONS PAID BY MHP2
(PER PARTNERSHIP UNIT)/(1)/
FIRST QUARTER FISCAL YEAR
------------- ------------------------------------------------------
1998 1997 1996 1995 1994 1993
------------- -------- -------- ------- -------- --------
<S> <C> <C> <C> <C> <C> <C>
From net income $ -- $25,006 $24,616 $15,000 $15,077 $15,583
Representing return of capital/(2)/ -- -- -- -- -- --
Distribution of excess General
Partner reserve -- 4,873 -- -- -- --
-------- ------- ------- ------- ------- -------
Total $ -- $29,879 $24,616 $15,000 $15,077 $15,583
======== ======= ======= ======= ======= =======
</TABLE>
___________
/(1)/ A Partnership Unit represents a $100,000 original investment in MHP2.
/(2)/ Computed as all distributions in excess of distributions from operating
cash flow.
COMPENSATION AND DISTRIBUTIONS TO THE GENERAL PARTNER. Under MHP2's
partnership agreement, the General Partner does not receive fees or compensation
in connection with managing the affairs of MHP2 but the General Partner and its
affiliates are reimbursed for certain costs and expenses incurred on behalf of
MHP2. The following information has been prepared to compare the amount of
reimbursements paid and cash distributions made by MHP2 to the General Partner
and its affiliates to the amounts that would have been paid if the reimbursement
and distribution structure which will be in effect after the REIT Conversion had
been in effect for the periods presented.
Following the REIT Conversion, Host REIT will be operated as a self-
administered REIT and as a result no reimbursements or other compensation will
be received by the General Partner.
During the First Quarter 1998 and fiscal years 1997, 1996 and 1995 amounts
actually paid by MHP2 to the General Partner are shown below under "Historical"
and the estimated amounts that would have been paid had the REIT Conversion been
in effect for the periods presented (assuming the Full Participation Scenario)
are shown under "Pro Forma."
MHP2 Supp-13
<PAGE>
HISTORICAL AND PRO FORMA REIMBURSEMENTS AND DISTRIBUTIONS
TO THE GENERAL PARTNER AND ITS AFFILIATES
(IN THOUSANDS)
<TABLE>
<CAPTION>
FIRST QUARTER FISCAL YEAR
------------- --------------------------
1998 1997 1996 1995
------------- -------- ------- -----
Historical
<S> <C> <C> <C> <C>
Reimbursements $ 97 $ 351 $ 225 $ 89
Distributions/(2)/ -- 11,788 8,047 187
----- ------- ------ ------
Total Historical $ 97 $12,139 $8,272 $ 276
===== ======= ====== ======
Pro Forma
Reimbursements $ -- $ -- $ -- $ --
Distributions attributable to Units/(1)/ N/A N/A N/A N/A
------ ------- ------ ------
Total Pro Forma $ -- $ -- $ -- $ --
====== ======= ====== ======
</TABLE>
___________
/(1)/The OP Units to be received by Host in connection with the REIT Conversion
will be equal to the number of shares of Host's outstanding common stock
and not allocated based upon their interests in any of the Partnerships,
including MHP2. Thus, the distributions received by Host and its affiliates
by way of their interests in the Partnerships, including MHP2, cannot be
determined on a pro forma basis.
/(2)/In 1996, MHPII Acquisition Corp. an affiliate of the General Partner
purchased a controlling interest in MHP2. Distributions to the General
Partner were $225,000, $185,000 and $187,000 for the fiscal years ended
December 31, 1997, 1996 and 1995, respectively and to the Limited
Partnership Units purchased by MHP II Acquisition Corp. during the tender
offer were $11,563,000, $7,862,000 and $22,000 for the fiscal years ended
December 31, 1997, 1996 and 1995, respectively.
CERTAIN INFORMATION REGARDING THE HOTELS OWNED BY MHP2
<TABLE>
<CAPTION>
NAME OF HOTEL LOCATION OF HOTEL NUMBER OF ROOMS DATE OPENED
- ------------- ----------------- --------------- -----------
<S> <C> <C> <C>
Marriott Rivercenter Hotel San Antonio, TX 999 1988
New Orleans Marriott Hotel New Orleans, LA 1,290 1972
San Ramon Marriott Hotel San Ramon, CA 368 1989
Santa Clara Marriott Hotel/(1)/ Santa Clara, CA 754 1976
-----
TOTAL 3,411
=====
</TABLE>
___________
/(1)/ MHP2 owns a 50% limited partner interest in the partnership that owns the
Santa Clara Marriott Hotel and Host owns the remaining 50% interest.
The table below sets forth certain performance information for MHP2's
Hotels for the indicated periods.
<TABLE>
<CAPTION>
First Quarter Fiscal Year
------------------- ------------------------------
1998 1997 1997 1996 1995
-------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C>
Average daily rate.......................... $154.12 $140.78 $133.75 $122.08 $115.53
Occupancy................................... 80.0% 82.9% 80.7% 81.1% 80.6%
REVPAR...................................... $123.30 $116.71 $107.94 $ 99.01 $ 93.12
% REVPAR change............................. 5.6% -- 9.0% 6.3% --
</TABLE>
MHP2 Supp-14
<PAGE>
MARRIOTT RIVERCENTER HOTEL, SAN ANTONIO, TEXAS
The San Antonio Hotel is a full-service Marriott hotel located in downtown San
Antonio on a leased parcel of land of approximately 2.7 acres. The Hotel is
situated on the San Antonio Riverwalk and is located one block from the San
Antonio Convention Center and the Alamo. It is located approximately seven
miles from the San Antonio International Airport.
The Hotel opened in October 1988. The Hotel contains 999 guest rooms,
including 86 suites and 40 concierge-level guest rooms, in a 38-story building.
Designed as part of the Marriott International network of convention hotels, it
has extensive meeting and convention facilities, totaling 58,300 square feet,
including (i) a 40,000 square foot grand ballroom and (ii) 36 meeting rooms.
Hotel facilities also include two restaurants, two lounges, a health club, an
indoor/outdoor pool, a gift shop and a 650-space underground parking garage.
Capital Improvements. The Hotel is scheduled to complete a combined Softgoods
and Casegoods renovation of all of its guest rooms at an estimated cost of $12.5
million in 2000 and 2001.
Competition. The primary competition for the Hotel comes from the following
two first-class hotels in downtown San Antonio: (i) the Hyatt Regency and (ii)
the Hilton Palacio del Rio Hotel. These two competitors contain an aggregate of
approximately 1,100 rooms and 50,300 square feet of meeting space. The San
Antonio Marriott Riverwalk Hotel, which opened in 1980 and is managed by
Marriott International, is located across the street from the San Antonio Hotel.
Currently, the marketing and sales groups work together and the two management
teams are currently exploring the possibility of working more closely together
to maximize efficiencies. The San Antonio Marriott Riverwalk Hotel and another
area hotel, the Plaza San Antonio Hotel are both owned by Host Marriott. In
addition, other hotels in the San Antonio area also compete with the San Antonio
Hotel; however, these differ from the San Antonio Hotel in terms of size, room
rates, facilities, amenities and services offered, market orientation and/or
location. None of these other hotels are operated as part of the Marriott
International full-service hotel system.
In February 1997, the Residence Inn Alamo Plaza opened with 220 rooms. In
August of 1997, the Adams Mark Hotel opened on the Riverwalk with 410 rooms and
25,000 square feet of meeting space. Both hotels are in the San Antonio Hotel's
immediate market area and it is expected that the San Antonio Hotel will compete
directly with the Adams Mark Hotel for transient business. The downtown San
Antonio market has experienced a total room increase of 780 rooms in 1997, of
which the only full-service property is the Adams Mark Hotel. In addition, the
demand in this market is at a level that has created interest by a number of
parties in expanding existing properties and/or developing new full-service
hotels. Construction is underway on the expansion of the San Antonio Convention
Center which will bring its size to 500,000 square feet, thus ranking it as the
12th largest convention center in the country. It is likely that the expansion
to the Convention Center will create demand for additional hotel rooms in the
San Antonio market. While it is difficult to predict the ultimate outcome of
this proposal, it is likely that hotel rooms will be added to the market and,
therefore, increase the San Antonio Hotel's competition.
Ground Lease. The San Antonio Hotel is located on a site that is leased from
an unrelated third party for an initial term expiring December 31, 2013. To
facilitate the refinancing, the Partnership exercised its option to extend the
land lease for an additional 20-year period. Therefore, the term of the San
Antonio land lease expires on December 31, 2033. The Partnership has the option
to extend the term for up to three successive terms of ten years each. The
lease provides for annual rental during the term of the lease equal to the
greater of $700,000 or 3.5% of annual gross room sales.
NEW ORLEANS MARRIOTT HOTEL, NEW ORLEANS, LOUISIANA
The New Orleans Hotel is a full-service Marriott hotel located on
approximately 1.88 acres of fee-owned land in the central business district in
downtown New Orleans on the western boundary of the famous French Quarter. The
Hotel is situated on Canal Street, the primary commercial route through the
downtown area. It is located approximately 12 miles from the New Orleans
International Airport.
The Hotel, which opened in July 1972, currently contains 1,290 guest rooms,
including 54 suites and 48 concierge-level guest rooms. The Hotel is comprised
of the original 42-story River Tower and the 20-story Quarter Tower. Designed
as part of the Marriott International network of convention hotels, it has
extensive meeting and convention facilities, totaling 80,000 square feet,
including (i) a 27,100 square foot grand ballroom, which is the largest hotel
ballroom in New Orleans, (ii) a 10,400 square foot junior ballroom and (iii) 25
meeting rooms. Hotel facilities also include three restaurants, three lounges,
a health club, an outdoor pool, a business center, a gift shop and a 475-space
parking garage.
Capital Improvements. The Hotel had 924 guest rooms when it originally opened
in 1972. A 400-room expansion was completed in 1979. The Hotel underwent an
$11.4 million renovation in 1988 which included reconfiguring certain guest
rooms, including 54 suites and 48 concierge-level guest rooms. The completion
of these two projects resulted in the 1,290 guest room count that the Hotel
currently contains. The Hotel is currently undergoing a complete refurbishment
of all of its guest rooms at an estimated cost of $13.0 million, which will
include the replacement of the carpeting, bedspreads, upholstery, drapes and
other similar items ("Softgoods") and also the dressers, chairs, beds and other
furniture ("Casegoods"). This renovation is expected to be completed in July
1998. In addition, the Hotel recently completed a lobby and restaurant
renovation at a cost of $2.1 million.
MHP2 Supp-15
<PAGE>
Competition. The primary competition for the New Orleans Hotel comes from the
following three first-class convention oriented hotels in the central business
district of New Orleans: (i) the Sheraton New Orleans Hotel, (ii) the Hyatt
Regency New Orleans Hotel and (iii) the New Orleans Hilton Riverside and Towers
Hotel. These three competitors contain an aggregate of approximately 3,900 rooms
and 254,000 square feet of meeting space. In addition, other hotels in the New
Orleans area also compete with the New Orleans Hotel; however, these differ from
the New Orleans Hotel in terms of size, room rates, facilities, amenities and
services offered, market orientation and/or location. None of these other hotels
are operated as part of the Marriott International full-service hotel system. As
a major convention facility, the New Orleans Hotel also competes with similar
facilities throughout the country.
A number of smaller hotel products entered the market in 1997 adding a total
of 1,225 rooms and an additional 724 rooms are expected to be completed in 1998.
None of these products are direct competitors of the New Orleans Hotel and no
new direct competitors are expected to open in New Orleans in the near-term.
However, the overall increase in room supply will affect the Hotel in periods of
weak demand.
SAN RAMON MARRIOTT HOTEL, SAN RAMON, CALIFORNIA
The San Ramon Hotel is a full-service Marriott hotel located within the Bishop
Ranch Business Park in San Ramon, California approximately 40 miles east of San
Francisco and approximately 20 miles east of Oakland. The Hotel is located on a
leased parcel of land of approximately 11.8 acres. It is located approximately
18 miles from the Oakland International Airport and 35 miles from the San
Francisco International Airport.
The Hotel opened in June 1989 and contains 368 guest rooms, including six
suites and 72 concierge-level guest rooms, in a six-story building. The Hotel
has approximately 16,300 square feet of meeting and banquet space, including (i)
a 10,000 square foot main ballroom, (ii) a 5,000 square foot junior ballroom and
(iii) six meeting rooms. Hotel facilities also include a restaurant, a lounge,
a heated outdoor pool, an exercise room, a sundry shop and outdoor parking for
over 560 cars.
Capital Improvements. In January 1997, the Hotel completed a $1.2 million
Softgoods renovation project. In addition, during 1997, the Hotel completed a
combined Softgoods and Casegoods refurbishment of its six suites.
Competition. The primary competition for the San Ramon Hotel comes from the
following three hotels: (i) the Pleasanton Hilton Inn, (ii) the Four Points
Hotel by Sheraton and (iii) the Marriott Residence Inn San Ramon. These three
competitors contain an aggregate of approximately 600 rooms and 21,000 square
feet of meeting space. In addition, other hotels in the San Ramon area also
compete with the San Ramon Hotel; however, these differ from the San Ramon Hotel
in terms of size, room rates, facilities, amenities and services offered, market
orientation and/or location. None of these other hotels are operated as part of
the Marriott International full-service hotel system. In 1997, 225 limited
service rooms were added to the market and another 640 are expected by June
1998. No new full-service competition is expected to open in the San Ramon area
in the near-term.
Ground Lease. The San Ramon Hotel is located on a site that is leased from an
unrelated third party for an initial term expiring in May 2014. To facilitate
the refinancing, the Partnership exercised its option to extend the land lease
for an additional 20-year period. Therefore, the current term of the San Ramon
land lease expires in May 2034. The Partnership has the option to extend the
term for up to three successive terms of ten years each. The lease provides for
annual rental during the term of the lease equal to the greater of $350,000 or
3% of annual gross sales. The minimum rent of $350,000 may be adjusted upward
beginning in June 1995, and every fifth year thereafter, to an amount equal to
75% of the average rent paid during the three years immediately preceding the
applicable five-year period. No such adjustment was necessary in June 1995.
SANTA CLARA MARRIOTT HOTEL, SANTA CLARA, CALIFORNIA
The Santa Clara Hotel is a full-service Marriott hotel located in Santa Clara,
California on two leased parcels of land, totaling approximately 21.9 acres.
The Hotel is situated in the center of "Silicon Valley," approximately one mile
from the Santa Clara Convention Center. It is located approximately four miles
from the San Jose International Airport and 36 miles from the San Francisco
International Airport.
The Hotel opened in June 1976. The Hotel contains 754 guest rooms, including
25 suites and 76 concierge-level guest rooms. The Hotel consists of two towers
(one 13 stories and one 10 stories) and a series of two-and three-story
buildings, all of which are interconnected. The Hotel has approximately 24,000
square feet of meeting and banquet space, which includes three separate
ballrooms, with a total of 20,200 square feet, and six meeting rooms. Hotel
facilities also include two restaurants, two lounges, an indoor/outdoor pool, an
exercise room, a game room, a gift shop and outdoor parking for over 1,200 cars.
Capital Improvements. In 1998, the Hotel is scheduled to complete a Softgoods
renovation of 202 rooms at an approximate cost of $1.8 million and a combined
Softgoods and Casegoods refurbishment of 264 rooms at an approximate cost of
$2.2 million.
MHP2 Supp-16
<PAGE>
Competition. The primary competition for the Santa Clara Hotel comes from the
following three hotels: (i) the Westin Santa Clara Hotel, (ii) the Doubletree
San Jose and (iii) the Embassy Suites Santa Clara Hotel. These three
competitors contain an aggregate of approximately 1,300 rooms and 46,000 square
feet of meeting space. In addition, other hotels in the Santa Clara area also
compete with the Santa Clara Hotel; however, these differ from the Santa Clara
Hotel in terms of size, room rates, facilities, amenities and services offered,
market orientation and/or location. None of these other hotels are operated as
part of the Marriott International full-service hotel system. No new
competition is expected to open in the Santa Clara area in the near-term.
LEGAL PROCEEDINGS
Two groups of limited partners of Marriott Hotel Properties II Limited
Partnership ("MHP2"), are each asserting putative class claims in a lawsuit,
Leonard Rosemblum, as Trustee of the Sylvia Bernie Rosemblum Trust, et al. V.
Marriott MHP TWO Corporation, et al., case No. 96-8377-CIV-HURLEY, and Mackenzie
Patterson Special Fund 2, L.P. et al. V. Marriott MHP TWO Corporation, et al.,
Case NO. 97-8989-CIV HURLEY respectively, against Host and certain of its
affiliates alleging that the defendants violated their fiduciary duties and
engaged in fraud and coercion in connection with a tender offer for MHP2 units.
AMENDMENTS TO MHP2'S PARTNERSHIP AGREEMENT
In order to allow the Hotels of MHP2 to be leased to SLC in connection with
the Merger and the REIT Conversion, MHP2's partnership agreement must be
amended. Currently, there is no provision in MHP2's partnership agreement to
allow MHP2's Hotels to be leased. Therefore, Section 5.02B of MHP2's
partnership agreement must be amended to add a new paragraph 5.02B(xiii) to read
as follows:
(xiii) lease or consent to the lease, directly or indirectly, in one
transaction or a series of related transactions of any or all of
the Hotels.
Other Amendments. Amendments to certain terms and sections of MHP2's
----------------
partnership agreement would be made in order to (i) reduce to one the number of
appraisals of the fair market value of MHP2's Hotels that MHP2 must provide to
the MHP2 Limited Partners before the General Partner can cause MHP2 to sell
assets to the General Partner or an affiliate, (ii) delete certain obsolete
references to entities and agreements that are no longer in existence, (iii)
update MHP2's partnership agreement to reflect the passage of time since the
formation of MHP2 and (iv) make any other amendments to MHP2's partnership
agreement deemed necessary or advisable, in the sole discretion of the General
Partner, in connection with the consummation of the Mergers and the REIT
Conversion. The General Partner does not believe that these amendments would
affect the rights of the MHP2 Limited Partners in any material respect nor the
duties and obligations of the General Partner. These changes are included, along
with the other proposed amendments, in the copy of MHP2's partnership agreement,
as proposed to be amended, which is attached hereto. The amended MHP2
partnership agreement is marked to indicate the revisions made to the existing
MHP2 partnership agreement and should be read in its entirety. Deleted
provisions are contained in brackets and struck through and added provisions are
in bold type and underlined.
The vote required for such amendments is a majority of the outstanding
limited partnership interests. The General Partner and its affiliate
collectively own 52.7% of the outstanding limited partnership interests. In
connection with the amendment, the General Partner and its affiliate must vote
all of their limited partnership interests in the same manner as the majority of
limited partnership interests constituting a quorum vote. A majority of limited
partnership interests held by Limited Partners constitutes a quorum.
THE GENERAL PARTNER RECOMMENDS THAT MHP2 LIMITED PARTNERS VOTE TO APPROVE
THE REQUESTED AMENDMENTS TO THE MHP2 PARTNERSHIP AGREEMENT.
FAIRNESS ANALYSIS AND OPINION
FAIRNESS ANALYSIS
The General Partner believes that the terms of the Merger provide
substantial benefits and are fair to the Limited Partners of MHP2 and recommends
that all Limited Partners of MHP2 consent to the Merger. The General Partner
bases this recommendation primarily on (i) its view that the expected benefits
of the Merger for the MHP2 Limited Partners outweigh the risks and potential
detriments of the Merger to the MHP2 Limited Partners (see "Background and
Reasons for the Mergers and the REIT Conversion -- Reasons for the Mergers" and
"Risk Factors"), (ii) its view that the value of the OP Units allocable to the
MHP2 Limited Partners on the basis of the Exchange Value established for MHP2
represents fair consideration for the Partnership Interests held by the MHP2
Limited Partners and is fair to the MHP2 Limited Partners from a financial point
of view, and (iii) the Fairness Opinion of AAA stating that (a) the
methodologies and underlying assumptions used to determine the Exchange Value,
the Adjusted Appraised Value, the Continuation Value and the Liquidation Value
of MHP2 and each other Partnership, including, without limitation, the
assumptions used to determine the various adjustments to the Appraised Values of
the Hotels, are fair and reasonable, from a financial point of view, to the
Limited Partners of MHP2 and each other Partnership and (b) the methodologies
used to determine the value of an OP Unit and to allocate the equity interest in
the Operating Partnership to be received by the MHP2 Limited Partners and the
Limited Partners of each Partnerships are fair and reasonable to the MHP2
Limited Partners and the Limited Partners of each other Partnership.
The Merger is not conditioned upon the consummation of the other Mergers.
The General Partner has considered this fact in evaluating the fairness of the
Merger. The General Partner believes that the fairness of the Merger will not
be materially affected by the presence or absence of any other individual
Partnership or by any particular combination of other Partnerships and that the
Merger will be fair to the MHP2 Limited Partners, individually and as a whole,
if it is consummated with any combination of other Participating Partnerships.
The General Partner bases this belief primarily on the fact that the
consideration to be paid to the MHP2 Limited Partners has been established based
upon MHP2's Exchange Value, without regard to any possible combination of other
Partnerships.
MHP2 Supp-17
<PAGE>
In reaching the conclusions implicit in the above recommendation, the
General Partner has taken into account the following considerations:
. The General Partner has concluded that the Exchange Value for MHP2
which is equal to the greatest of its Adjusted Appraised Value,
Continuation Value and Liquidation Value, represents fair
consideration for the Partnership Interests of the MHP2 Limited
Partners in the Merger in relation to MHP2. The General Partner also
has concluded that the Exchange Value established for the MHP2 Limited
Partners fairly reflects the value of the assets held by MHP2. In
addition, the Fairness Opinion supports these conclusions.
. The General Partner has concluded that the potential benefits of the
Merger to the MHP2 Limited Partners, as described under "Background
and Reasons for the Mergers and the REIT Conversion -- Reasons for the
Mergers," outweigh the potential risks and detriments of the Merger
for the MHP2 Limited Partners, as described in "Risk Factors."
. The Fairness Opinion, in the view of the General Partner, supports the
fairness of the Merger, even though it includes qualifications,
limitations and assumptions relating to its scope and other factors
that MHP2 Limited Partners should consider carefully.
. Host will contribute its wholly owned full-service hotel assets, its
interests in the Hotel Partnerships and its other assets (excluding
its senior living assets) to the Operating Partnership in exchange for
(i) a number of OP Units equal to the number of outstanding shares of
common stock of Host, (ii) preferred partnership interests in the
Operating Partnership corresponding to any shares of Host preferred
stock outstanding at the time of the REIT Conversion and (iii) the
assumption by the Operating Partnership of certain liabilities of
Host. Following these contributions, the Operating Partnership and its
subsidiaries will directly own all of Host's wholly-owned hotels and
all of Host's interests in the Hotel Partnerships and other assets.
Host REIT will not receive any compensation for its services as
general partner to the Operating Partnership following the REIT
Conversion and will benefit from the operations of the Operating
Partnership only to the extent of the distributions received based
upon its percentage interest in the Operating Partnership to the same
extent as the other limited partners. Because Host REIT will share in
the value of the Operating Partnership solely through distributions
and not through any separate compensation structure, the General
Partner believes that this is a factor supporting the fairness of the
Merger to the MHP2 Limited Partners.
. The General Partner believes that the value of the consideration to be
received by the MHP2 Limited Partners in the Merger is fair in
relation to the value which would be derived by such Limited Partners
under any of the alternatives described under "Background and Reasons
for the Mergers and the REIT Conversion -- Alternatives to the
Mergers," especially since the Exchange Value of MHP2 is equal to its
Adjusted Appraised Value, which is the greatest of the three values
the Adjusted Appraised Value, the Continuation Value and the
Liquidation Value. The General Partner does not believe that the sale
of any of MHP2's Hotels and liquidation of MHP2 will obtain for MHP2
Limited Partners as much value as the value to be received by such
MHP2 Limited Partners following the Merger. The General Partner
believes that the following benefits are of the greatest value and
importance to the MHP2 Limited Partners:
. Enhanced Liquidity. The Mergers and the REIT Conversion will offer
MHP2 Limited Partners significantly enhanced liquidity with respect to
their investments in MHP2 because, after the expiration of the Initial
Holding Period, MHP2 Limited Partners will be able to exercise their
Unit Redemption Right at any time, subject to certain limited
exceptions. Host has approximately 204 million shares of common stock
outstanding and the closing price on the NYSE on May 28, 1998 was
$19.4375 per share (reflecting a total common equity market
capitalization of approximately $4 billion). The exercise of the Unit
Redemption Right, however, generally would result in recognition of
taxable income or gain at that time.
. Public Market Valuation. The General Partner believes that by
exchanging interests in which is a non-traded limited partnership for
interests in a publicly traded real estate company focused primarily
on a more diverse and growing full-service hotel portfolio, the MHP2
Limited Partners will have the opportunity to participate in the
recent trend of ownership of real estate through a publicly traded
entity, which, in many instances, has resulted in market valuations of
public real estate companies in excess of the estimated net asset
values of those companies.
MHP2 Supp-18
<PAGE>
. Regular Quarterly Cash Distributions. The General Partner expects that
the Operating Partnership will make regular quarterly cash
distributions to holders of OP Units. The General Partner expects that
while the estimated 1998 cash distributions of MHP2 will be higher,
the ability to receive distributions quarterly and in regular amounts
would be enhanced.
. Substantial Tax Deferral. The General Partner expects that MHP2
Limited Partners who do not elect to receive Notes generally should be
able to obtain the benefits of the Merger while continuing to defer
recognition for federal income tax purposes of at least a substantial
portion, if not all, of the gain with respect to their Partnership
Interests that otherwise would be recognized in the event of a
liquidation of MHP2 or a sale or other disposition of its assets in a
taxable transaction
. The General Partner believes that the economic terms of the leases of
the MHP2 Hotels are fair and reasonable from the standpoint of the
Operating Partnership.
The General Partner believes that the factors described above, which
support the fairness of the Merger to the MHP2 Limited Partners, when weighed
against the factors that may be disadvantageous, taken as a whole, indicate that
the Merger is fair to the MHP2 Limited Partners.
AAA, an independent financial advisory firm with substantial real estate
and partnership transaction experience, was engaged by the General Partner and
the other General Partners to perform the Appraisals and to render the Fairness
Opinion that (i) the methodologies and underlying assumptions used to determine
the Exchange Value, the Adjusted Appraised Value, the Continuation Value and the
Liquidation Value of MHP2 and each other Partnership, including, without
limitation, the assumptions used to determine the various adjustments to the
Appraised Values of the Hotels, are fair and reasonable, from a financial point
of view, to the MHP2 Limited Partners and the Limited Partners of each other
Partnership, and (ii) the methodologies used to determine the value of an OP
Unit and to allocate the equity in the Operating Partnership to be received by
the MHP2 Limited Partners and the Limited Partners of each Partnership are fair
and reasonable to the MHP2 Limited Partners and the Limited Partners of each
other Partnership. The Fairness Opinion is addressed to each Partnership and it
may be relied upon by each of the MHP2 Limited Partners and the Limited Partners
of the other Partnerships. The full text of the Fairness Opinion, which
contains a description of the assumptions and qualifications applicable to the
review and analysis by AAA, is set forth in Appendix B to the Consent
Solicitation and should be read in its entirety. The material assumptions and
qualifications to the Fairness Opinion are summarized below, although this
summary does not purport to be a complete description of the various inquiries
and analyses undertaken by AAA in rendering the Fairness Opinion. Arriving at a
fairness opinion is a complex analytical process not necessarily susceptible to
partial analysis or amenable to summary description. For a more complete
description of the assumptions and qualifications that limit the scope of the
Fairness Opinion, see " Qualifications to Fairness Opinion" and " Assumptions"
below.
Although the General Partner advised AAA that certain assumptions were
appropriate in its view, the General Partner imposed no conditions or
limitations on the scope of the investigation by AAA or the methods and
procedures to be followed by AAA in rendering the Fairness Opinion. The fees
and expenses of AAA will be treated as a Merger Expense and will be paid by the
Operating Partnership. In addition, the General Partner has agreed to indemnify
AAA against certain liabilities. See "-- Compensation and Material
Relationships."
QUALIFICATIONS TO FAIRNESS OPINION. In the Fairness Opinion, AAA
specifically states that it did not: (a) specifically consider other
methodologies for allocation of the OP Units, (b) address or conclude that other
methodologies for allocation of the OP Units to the MHP2 and the other
Partnerships might not have been more favorable to the Limited Partners in
certain of the Partnerships, (c) negotiate with MHP2, the other Partnerships or
Host, (d) participate in establishing the terms of the Merger and the other
Mergers, (e) provide an opinion as to the terms and conditions of the Merger and
the other Mergers other than those explicitly stated in the Fairness Opinion,
(f) make any independent review of the capital expenditure estimates set forth
in the Engineering Study, (g) make any estimates of MHP2's and each other
Partnership's contingent liabilities.
In connection with preparing the Fairness Opinion, AAA was not engaged to,
and consequently did not, prepare any written report or compendium of its
analysis for internal or external use beyond the analysis set forth in Appendix
B. AAA will not deliver any additional written opinion of the analysis, other
than to update the written opinion if requested by the Operating Partnership.
EXPERIENCE OF AAA. AAA is the world's largest independent valuation
consulting firm and is regularly and continually engaged in the valuation of
commercial real estate and businesses and their securities in connection with
tender offers, mergers and acquisitions, recapitalizations and reorganizations,
divestitures, employee stock ownership plans, leveraged buyout plans, private
placements, limited partnerships, estate and corporate matters, other financial
advisory matters and other valuation purposes.
AAA was selected because of its experience in the valuation of businesses
and their securities in connection with tender offers, mergers and acquisitions,
recapitalizations and reorganizations, including transactions involving hotel
partnerships. In addition, Host and its affiliates have previously engaged AAA
to provide appraisals and fairness opinions in connection with other
transactions. The General Partner and the other General Partners considered
several other firms for purposes of performing the appraisals and rendering the
Fairness Opinion, but selected AAA for the foregoing reasons.
SUMMARY OF MATERIALS CONSIDERED AND INVESTIGATION UNDERTAKEN. As a basis
for rendering for Fairness Opinion, AAA has made such reviews, studies and
analyses as it deemed necessary and pertinent in order to provide it with a
reasonable basis for the Fairness Opinion, including, but not limited to, the
following: (i) reviewed the transaction documents and SEC reporting and/or
filing documents, including drafts of the Form S-4 for the Mergers; (ii)
provided the Market Value of each Hotel owned by each Partnership in a separate
short form appraisal report and each such report was reviewed and certified by
an MAI appraiser as to its preparation in accordance with the requirements of
the Standards of Professional Practice of the Appraisal Institute and the
Uniform Standards of Professional Appraisal Practice of the Appraisal
Foundation; as part of the Appraisals, AAA reviewed historical operating
statements, 1998 budget and year-to-date results, and other financial
information as it deemed necessary as a basis for the Fairness Opinion and the
Appraisals also considered market transactions of similar lodging properties as
appropriate as a basis for the Market Value of each Hotel; (iii) reviewed the
methodologies used by each of the General Partners in their determination of the
Exchange Value of each Partnership, including the nature and amount of all
adjustments to the Appraised Values in determining such Exchange Values; AAA
reviewed and tested for the fairness and reasonableness of all adjustments as
well as for consideration of all adjustments deemed to be appropriate by AAA;
(iv) reviewed the methodologies used by each of the General Partners in their
determination of the value of an OP Unit and the allocation of the equity
interest in the Operating Partnership to be received by the limited partners of
each Partnership, and AAA reviewed and tested for the fairness and
reasonableness of the methods and measurements made by the General Partners;
(v) reviewed the
MHP2 Supp-19
<PAGE>
General Partners' determination of the Liquidation Value of each Partnership,
and AAA reviewed and tested for the fairness and reasonableness of all
adjustments proposed by the General Partners, as well as for consideration of
all adjustments deemed appropriate by AAA; (vi) provided an estimate of the
Continuation Value of each Partnership based upon the estimated present value of
expected benefits to be received by each limited partner interest as though the
Mergers did not occur and each Partnership's assets were sold within a twelve
year period; AAA, as part of its analysis and review, determined appropriate
rates of growth in house profit or net operating income, as well as reviewed
other key variables affecting partnership cash flows and other
economic/financial factors affecting the Partnerships' expected operations and
results;(vii) reviewed the terms of the ground leases of the Hotels and the
partnership agreement of each Partnership; (viii) reviewed audited and unaudited
historical income statements, balance sheets and statements of sources and uses
of funds of each Partnership and Host and pro forma financial information for
Host REIT; (ix) reviewed audited and unaudited historical operating statements
of each Hotel, as well as current operating statements and budgets;
(x) conducted real estate valuation and financial due diligence with respect to
the Partnerships and their underlying assets, liabilities and equity; (xi)
reviewed internal Marriott International, Host and Partnership financial
analyses and other internally generated data for each Hotel; and (xii) discussed
all of the foregoing information, where appropriate, with management of Marriott
International, Host and the Partnerships, and their respective employees.
ASSUMPTIONS. In rendering its opinion, AAA relied, without independent
verification, on the accuracy and completeness in all material respects of
certain relevant publicly available information and information provided to AAA
by the Host and the Hotels. AAA assumed that all information furnished by Host,
the Hotels and the Partnerships and their representatives, upon which AAA
relied, presented and accurate description in all material respects of the
current and prospective status of the Hotels and the Partnerships from an
operational and financial point of view. AAA also noted that the Fairness
Opinion was based upon financial, economic, market and other considerations as
they existed and could be evaluated on the date thereof.
CONCLUSIONS. AAA concluded that, based upon and subject to its analysis
and assumptions and limiting conditions, and as of the date of the Fairness
Opinion: (i) the methodologies used to determine the Exchange Value, the
Adjusted Appraised Value, the Continuation Value and the Liquidation Value each
Partnership, including, without limitation, the assumptions used to determine
the various adjustments to the Appraised Values of each of the Hotels, are fair
and reasonable, from a financial point of view, to the MHP2 Limited Partners and
the Limited Partners of each Partnership, and (ii) the methodologies used to
determine the value of an OP Unit and to allocate the equity interest in the
Operating Partnership to be received by the MHP2 Limited Partners and the
Limited Partners of each Partnership are fair and reasonable to the Limited
Partners of each Partnership.
COMPENSATION AND MATERIAL RELATIONSHIPS. AAA has been paid a fee of
$________ for its services as described herein, including the Appraisals and
preparing to deliver the Fairness Opinion. In addition, AAA will be reimbursed
for all reasonable out-of-pocket expenses, including legal fees, and will be
indemnified against certain liabilities, including certain liabilities under the
securities laws. The fee was negotiated between Host, the General Partners and
AAA. Payment of the fee to AAA is not dependent upon completion of the Mergers.
AAA has been previously engaged by Host and its affiliates to provide fairness
opinions in connection with other transactions.
VOTING PROCEDURES
The consent of Limited Partners holding more than 50% of the outstanding
limited partnership interests in MHP2 is required for participation in the
Merger. The General Partner and its affiliate collectively own 52.7% of the
outstanding limited partnership interests. The General Partner and its
affiliate must vote all of their limited partnership interests in the same
manner as the majority of limited partnership interests constituting a quorum
vote. A majority of limited partnership interests held by Limited Partners
constitutes a quorum.
A MHP2 Limited Partner may mark the Consent Form to vote "FOR," "AGAINST"
or "ABSTAIN" with respect to participation in the Merger by MHP2. THE FAILURE OF
A LIMITED PARTNER OF MHP2 TO VOTE WILL MEAN THAT SUCH LIMITED PARTNER'S
PARTNERSHIP INTEREST WILL NOT BE COUNTED FOR PURPOSES OF ESTABLISHING A QUORUM
AND WILL NOT AFFECT THE MARKET IN WHICH HOST IS REQUIRED TO VOTE ITS LIMITED
PARTNERSHIP INTERESTS. A CONSENT FORM THAT IS PROPERLY SIGNED BUT NOT MARKED
WILL BE VOTED FOR THE MERGER. The voting procedures applicable to MHP2 Limited
Partners are set forth in the Consent Solicitation under the heading "Voting
Procedures -- Required Vote and Other Conditions."
FEDERAL INCOME TAX CONSIDERATIONS
In addition to the federal income tax considerations discussed in the
sections of the Consent Solicitation entitled "Federal Income Tax
Considerations" and "Risk Factors -- Federal Income Tax Risks," MHP2 Limited
Partners should read carefully the following discussion of federal income tax
considerations applicable specifically to the MHP2 Limited Partners. The
information included in this discussion is based upon various factual
assumptions and information which are believed by the Operating Partnership and
the General Partner to be reliable. However, some of these assumptions
inevitably will not materialize, and unanticipated events and circumstances will
occur. Therefore, there likely will be differences between the information
provided herein, including the numerical data and estimates, and actual results,
and the variations may be material and adverse.
APPLICABILITY OF TAX OPINIONS
Hogan & Hartson L.L.P. ("Hogan & Hartson"), counsel to Host REIT, Host, and
the Operating Partnership, has provided to Host REIT and the Operating
Partnership an opinion letter (substantially in the form of Appendix C to the
Consent Solicitation) as to certain federal income tax consequences to the
Operating Partnership and the MHP2 Limited Partners resulting from the Mergers
and the REIT Conversion. The opinion letter is based upon certain assumptions
and certain representations provided by Host REIT, Host, the Operating
Partnership and the General Partners. These representations generally involve
factual matters relating to the organization, ownership and operations
(including the income, assets, businesses, liabilities and properties) of the
Partnerships and Hotels contributed to the Operating Partnership by Host and the
Blackstone Entities prior to the Mergers and of Host REIT, the Operating
Partnership and the Hotel Partnerships following the Mergers and the REIT
Conversion. In addition, on the Closing Date, Hogan & Hartson expects to
provide to Host REIT and the Operating Partnership an opinion letter
(substantially in the form of Appendix D to the Consent Solicitation) as to the
qualification and taxation of Host REIT as a REIT under the Code following the
REIT Conversion. See "Federal Income Tax Considerations -- Summary of Tax
Opinions" in the Consent Solicitation.
Each opinion provided by Hogan & Hartson in the opinion letter that is
substantially in the form of Appendix C to the Consent Solicitation is
applicable to the MHP2 Limited Partners.
The opinions already rendered by Hogan & Hartson are based on the Code and
Treasury Regulations in effect on the date hereof, current administrative
interpretations and positions of the IRS and existing court
MHP2 Supp-20
<PAGE>
decisions, and the opinions to be rendered by Hogan & Hartson on the Closing
Date will be based on the same authorities as of the Closing Date. No assurance
can be given that future legislation, Treasury Regulations, administrative
interpretations and court decisions will not significantly change the law or the
above conclusions reached by counsel. In addition, any such change could apply
retroactively to transactions preceding the date of change. Moreover, opinions
of counsel merely represent counsel's best judgment with respect to the probable
outcome on the merits and are not binding on the IRS or the courts. Accordingly,
even if there is no change in applicable law, no assurance can be provided that
such opinions (which do not bind the IRS or the courts) will not be challenged
by the IRS or will be sustained by a court if so challenged. With the one
exception described below (see "-- Tax Consequences of the Merger -- Deemed Cash
Distribution and Resulting Taxable Gain") and in the Consent Solicitation under
"Federal Income Tax Considerations -- Tax Consequences of the Mergers -- IRS
Ruling Request Regarding Allocation of Partnership Liabilities," neither Host
REIT, the Operating Partnership nor the General Partners have requested or plan
to request any rulings from the IRS concerning the tax consequences of the
Merger or the treatment of either the Operating Partnership or Host REIT
subsequent to the REIT Conversion.
TAX CONSEQUENCES OF THE MERGER
Overview. Hogan & Hartson has provided an opinion to the effect that the
--------
Merger will not result in the recognition of taxable gain or loss at the time of
the Merger to an MHP2 Limited Partner (i) who does not exercise his Unit
Redemption Right on a date sooner than the date two years after the date of the
consummation of the Merger; (ii) who does not receive a cash distribution (or a
deemed cash distribution resulting from relief from liabilities, including as a
result of any prepayment of the MHP2 Mortgage Debt or the Santa Clara Mortgage
Debt) in connection with the Merger or the REIT Conversion in excess of his
aggregate adjusted basis in his MHP2 Partnership Units at the time of the
Merger; (iii) who does not elect to receive a Note in exchange for his OP Units
in connection with the Merger (the "Note Election"); (iv) who is not required to
recognize gain by reason of the exercise by another MHP2 Limited Partner of his
right to make the Note Election (which, in counsel's opinion, described below,
should not be the result of such election); and (v) who does not have his "at
risk" amount fall below zero as a result of the Merger or the REIT Conversion.
See "Federal Income Tax Considerations -- Summary of Tax Opinions" in the
Consent Solicitation.
With respect to the foregoing exceptions to nonrecognition treatment, the
Operating Partnership and the General Partner believe as follows: (i) an MHP2
Limited Partner who acquired his MHP2 Partnership Units in the original offering
of such Partnership Units and who has held such Partnership Units at all times
since would not be considered to receive, as a result of the Merger, a
distribution (or a deemed cash distribution resulting from relief from
liabilities) that exceeds his aggregate adjusted basis in his MHP2 Partnership
Units at the time of the Merger, and would not have his "at risk" amount fall
below zero as a result of the Merger, even if all of the MHP2 Mortgage Debt and
Santa Clara Mortgage Debt were to be repaid in connection with the Merger or the
REIT Conversion, and (ii) none of the personal property owned by MHP2 will need
to be sold to a Non-Controlled Subsidiary in connection with the REIT
Conversion. See "Federal Income Tax Considerations -- Tax Consequences of the
Mergers -- Overview" in the Consent Solicitation.
With respect to the effects of an MHP2 Limited Partner's election to receive a
Note in exchange for his OP Units in connection with the Merger, Hogan & Hartson
is of the opinion that although the matter is not free from doubt, an MHP2
Limited Partner who does not elect to receive a Note in connection with the
Merger should not be required to recognize gain by reason of another MHP2
Limited Partner's exercise of such right. With respect to the exercise of a
Unit Redemption Right, Hogan & Hartson is of the opinion that it is more likely
than not that an MHP2 Limited Partner's exercise of his Unit Redemption Right
more than one year after the date of consummation of the Merger but less than
two years after such date will not cause the Merger itself to be a taxable
transaction for the MHP2 Limited Partner (or the other MHP2 Limited Partners).
See "Federal Income Tax Considerations -- Summary of Tax Opinions" in the
Consent Solicitation. Opinions of counsel, however, do not bind the IRS or the
courts, and no assurances can be provided that such opinions will not be
challenged by the IRS or will be sustained by a court if so challenged.
MHP2 Supp-21
<PAGE>
Deemed Cash Distribution and Resulting Taxable Gain. With respect to his MHP2
---------------------------------------------------
Partnership Units, an MHP2 Limited Partner will receive no actual cash
distribution in connection with the Merger but would be deemed to receive a cash
distribution in connection with the Merger to the extent that his share of
Operating Partnership liabilities immediately after the Merger and the REIT
Conversion is less than his share of MHP2 liabilities immediately prior to the
Merger. For example, any prepayment of the MHP2 Mortgage Debt or the Santa
Clara Mortgage Debt or debt encumbering other Hotels may result in a deemed cash
distribution to the MHP2 Limited Partners. See "Federal Income Tax
Considerations -- Tax Consequences of the Mergers -- Relief from
Liabilities/Deemed Cash Distribution" in the Consent Solicitation. Even though
the MHP2 Mortgage Debt, the Santa Clara Mortgage Debt and the debt encumbering
other Hotels is not expected to be repaid or refinanced in connection with the
Merger and the REIT Conversion, an MHP2 Limited Partner's share of indebtedness
following the Merger and the REIT Conversion may nonetheless decrease in
comparison to the Limited Partner's estimated aggregate share of MHP2
indebtedness as of December 31, 1998 (calculated based on the assumption that
the Merger did not occur) by reason of the manner in which the debt allocation
rules work when multiple assets with different levels of leverage are
consolidated into a single partnership.
An MHP2 Limited Partner, however, would recognize taxable gain as a result of
any deemed cash distribution discussed in the previous paragraph only to the
extent that the deemed cash distribution were to exceed his adjusted tax basis
in his MHP2 Partnership Units immediately prior to the Merger. As noted above,
the Operating Partnership and the General Partner believe, based upon and
subject to the assumptions and other limitations described below, that an MHP2
Limited Partner who acquired his MHP2 Partnership Units in the original offering
of such Partnership Units and has held the Partnership Units at all times since
the offering will have an adjusted tax basis in excess of the deemed cash
distribution that might occur in connection with the Merger and the REIT
Conversion, even if all MHP2 Mortgage Debt and the Santa Clara Mortgage Debt
were to be repaid in connection with the Merger and the REIT Conversion, and the
MHP2 Limited Partner were to have no share of any Operating Partnership
indebtedness following the Merger and the REIT Conversion. Therefore, such an
MHP2 Limited Partner should not recognize gain due to such deemed cash
distribution resulting from the relief from liabilities in connection with the
Merger and the REIT Conversion.
The adjusted tax basis of an MHP2 Limited Partner who did not acquire his MHP2
Partnership Units in the original offering of such Partnership Units or who has
not held his MHP2 Partnership Units at all times since such offering could vary
materially from that of an MHP2 Limited Partner who did so. If an MHP2 Limited
Partner has an adjusted tax basis in his MHP2 Partnership Units (per MHP2
Partnership Unit) that is substantially less than the adjusted tax basis of an
MHP2 Limited Partner who acquired his MHP2 Partnership Units in the original
offering of such Partnership Units and has held such Partnership Units at all
times since, he could (although it is unlikely) recognize gain due to any deemed
cash distribution resulting from the relief from liabilities in connection with
the Merger and the REIT Conversion.
The Operating Partnership has no current plan or intention to cause the
prepayment of the MHP2 Mortgage Debt or the Santa Clara Mortgage Debt or, except
as described in the Consent Solicitation, any of the nonrecourse liabilities
encumbering the Hotels owned by the other Partnerships. The Operating
Partnership, however, will have to repay mortgage indebtedness securing the
Hotels owned by the Partnerships at the time such indebtedness matures. There
can be no assurance that at such time the Operating Partnership will be able to
secure nonrecourse mortgage indebtedness secured only by those Hotels in an
amount sufficient to avoid a deemed cash distribution to the former Limited
Partners in those Partnerships, including MHP2 (although such a deemed
distribution of cash may or may not result in the recognition of taxable income
or gain by the former MHP2 Limited Partners). Moreover, the Operating
Partnership's current long-term financing strategy is to have as little debt as
possible that is secured by individual Hotels and to have as much debt as
possible in the form of unsecured debt, held either by the public or by
institutional investors, which debt may or may not be recourse to Host REIT, as
general partner of the Operating Partnership. In view of these considerations
and the potential adverse consequences to Limited Partners in certain unsecured
indebtedness of the Operating Partnership that is issued initially to
institutional investors and is not recourse to Host REIT (i) would qualify as
"nonrecourse liabilities" for purposes of Code Section 752, (ii) to the extent
the proceeds thereof are applied to repay existing nonrecourse
MHP2 Supp-22
<PAGE>
mortgage indebtedness secured by one or more Hotels (including the MHP2 Mortgage
Debt or the Santa Clara Mortgage Debt), would be considered to be "secured" by
these Hotels for purposes of allocating the liabilities for tax basis purposes
(and thus would be allocable, at least in substantial part, to the former
Limited Partners in the Partnership owning those Hotels, including the MHP2
Limited Partners), and (iii) would constitute "qualified nonrecourse financing"
secured by such Hotels for purposes of Code Section 465. The IRS has recently
issued a ruling to that effect to another taxpayer, and has indicated to the
Operating Partnership's representatives that it is favorably inclined to issue
that ruling to the Operating Partnership.
Section 465(e) Recapture. As discussed in the Consent Solicitation, see
------------------------
"Federal Income Tax Considerations -- Tax Consequences of the Mergers -- Section
465(e) Recapture," the "at risk" rules of Section 465 of the Code generally
apply to limit the use of partnership losses by a partner. Under Section 465(e)
of the Code, a partner would be required to include in gross income, or
"recapture," losses previously allowed to such partner with respect to his
investment in a partnership if the amount for which the partner is "at risk" in
relation to his investment in the partnership is less than zero at the close of
the taxable year.
It is possible that the consummation of the Merger and the REIT Conversion
or the repayment of certain "qualified nonrecourse financing" of the Operating
Partnership, the Hotel Partnerships or the Hotels contributed to the Operating
Partnership by the Blackstone Entities at the time of or following the Merger
and the REIT Conversion could, singularly or in combination, cause an MHP2
Limited Partner's amount at risk in relation to his investment in MHP2 (and,
after the Merger, in the Operating Partnership) to be reduced below zero,
resulting in an income inclusion to the Limited Partner under Section 465(e) of
the Code. Currently, all of the current debt of MHP2 constitutes "qualified
nonrecourse financing" and the Operating Partnership expects that most of the
current debt with respect to the other Hotel Partnerships and the Hotels
contributed by the Blackstone Entities that will be assumed by the Operating
Partnership as part of the Merger and the REIT Conversion should qualify as
"qualified nonrecourse financing." The Operating Partnership and the General
Partner believe, based upon and subject to the assumptions and other limitations
described below, that an MHP2 Limited Partner who acquired his MHP2 Partnership
Units in the original offering of such Partnership Units and has held the
Partnership Units at all times since will have a positive at risk amounts
immediately following the Merger and the REIT Conversion, even if all of the
MHP2 Mortgage Debt and the Santa Clara Mortgage Debt were to be repaid in
connection with the Merger and the REIT Conversion and the MHP2 Limited Partners
were to have no share of any other "qualified nonrecourse financing" following
the Merger and the REIT Conversion.
It is possible, however, that a former MHP2 Limited Partner's at risk
amount could decline in the future, either because of the allocation of losses
from the Operating Partnership to that former MHP2 Limited Partner or because of
cash distributions by the Operating Partnership to that former MHP2 Limited
Partner in excess of the taxable income allocable to him with respect to his OP
Units. In that event, it may be necessary for the former MHP2 Limited Partner to
have a share of "qualified nonrecourse financing" from the Operating Partnership
in order to avoid recognizing income by reason of his at risk amount falling
below zero. Moreover, there can be no assurance that debt incurred by the
Operating Partnership in the future to refinance the MHP2 Mortgage Debt, the
Santa Clara Mortgage or outstanding mortgage debt of the other Hotel
Partnerships or the Hotels contributed by the Blackstone Entities will qualify
as "qualified nonrecourse financing." If, however, the Operating Partnership
were to obtain the requested ruling from the IRS and were to refinance existing
mortgage indebtedness of the Partnerships with the type of indebtedness
described in the ruling, such indebtedness should constitute "qualified
nonrecourse financing" for purposes of the "at risk" rules.
Impact of Assumption of MHP2 Liabilities by the Operating Partnership. As
---------------------------------------------------------------------
described in the Consent Solicitation, see "Federal Income Tax Considerations --
Tax Consequences of the Mergers -- Disguised Sale Regulations," an MHP2 Limited
Partner will recognize gain to the extent he is treated as having sold all or
part of his MHP2 Partnership Interest in a "disguised sale." For purposes of
these rules, certain reductions in a partner's share of partnership liabilities
are treated as a transfer of money or other property from the partnership to the
partner which may give rise to a disguised sale, even if that reduction would
not otherwise result in a taxable deemed cash distribution in excess of the
partner's basis in his partnership interest.
MHP2 Supp-23
<PAGE>
However, if a transfer of property by a partner to a partnership is not
otherwise treated as part of a disguised sale, then any reduction in the
partner's share of "qualified liabilities" also will not be treated as part of a
disguised sale. A "qualified liability" in connection with a transfer of
property to a partnership includes (i) any liability incurred more than two
years prior to the earlier of the transfer of the property or the date the
partner agrees in writing to the transfer, as long as the liability has
encumbered the transferred property throughout the two-year period; (ii) a
liability that was not incurred in anticipation of the transfer of the property
to a partnership, but that was incurred by the partner within the two-year
period prior to the earlier of the date the partner agrees in writing to
transfer the property or the date the partner transfers the property to a
partnership and that has encumbered the transferred property since it was
incurred; (iii) a liability that is traceable under the Treasury Regulations to
capital expenditures with respect to the property; and (iv) a liability that was
incurred in the ordinary course of the trade or business in which property
transferred to the partnership was used or held, but only if all the assets
related to that trade or business are transferred, other than assets that are
not material to a continuation of the trade or business. However, a recourse
liability is not a "qualified liability" unless the amount of the liability does
not exceed the fair market value of the transferred property (less any other
liabilities that are senior in priority and encumber such property or any
allocable liabilities described in (iii) or (iv), above) at the time of
transfer.
The General Partner believes that all liabilities of MHP2 fall into one of
the four categories of "qualified liabilities" described above and, accordingly,
that the mere assumption by the Operating Partnership of the outstanding
liabilities of MHP2 will not give rise to a "disguised sale" by any of the MHP2
Limited Partners.
TAX TREATMENT OF MHP2 LIMITED PARTNERS WHO HOLD OP UNITS FOLLOWING THE
MERGER
Initial Basis in Units. In general, an MHP2 Limited Partner will have an
----------------------
initial tax basis in his OP Units received in the Merger with respect to his
MHP2 Partnership Units equal to the basis in his MHP2 Partnership Units at the
time of the Merger, reduced to reflect any deemed cash distributions resulting
from a reduction in his share of MHP2 liabilities and increased to reflect his
share of other liabilities of the Operating Partnership and any gain required to
be recognized in connection with the Merger and the REIT Conversion. For a
discussion of the federal income tax considerations for an MHP2 Limited Partner
from a reduction in basis that may result from the Merger and the REIT
Conversion, see "Federal Income Tax Considerations -- Tax Treatment of Limited
Partners Who Hold OP Units Following the Mergers -- Initial Tax Basis of OP
Units" in the Consent Solicitation.
Tax Allocations with Respect to Contributed Hotels upon a Sale of MHP2
----------------------------------------------------------------------
Hotels. Pursuant to Section 704(c) of the Code, income, gain, loss and deduction
- ------
attributable to appreciated or depreciated property that is contributed to a
partnership must be allocated for federal income tax purposes in a manner such
that the contributor is charged with, or benefits from, the unrealized gain or
unrealized loss associated with the property at the time of contribution. The
amount of such unrealized gain or unrealized loss is generally equal to the
difference between the fair market value of the contributed property at the time
of contribution and the adjusted tax basis of such property at the time of
contribution (referred to as the "Book-Tax Difference"). The Operating
Partnership and the General Partner estimate, based upon and subject to the
assumptions and other limitations described below, that the aggregate Book-Tax
Difference with respect to the MHP2 Hotels will be $________ upon the
consummation of the Merger.
If the Operating Partnership were to sell all of the MHP2 Hotels, the former
partners of MHP2 (including Host REIT with respect to Host's interest in MHP2
held through the General Partner) would be specially allocated by the Operating
Partnership an aggregate amount of taxable gain equal to the Book-Tax Difference
with respect to the MHP2 Hotels ($ ____ in the aggregate if the MHP2 Hotels were
sold immediately after the consummation of the Merger, according to the estimate
in the previous paragraph). The share of such gain allocable to an MHP2 Limited
Partner who acquired his MHP2 Partnership Units in the original offering of such
Partnership Units and held such Partnership Units at all times since would be
$___ per MHP2 Partnership Unit if such Partnership Unit were acquired for cash,
and $____ if such Partnership Unit were acquired pursuant to the installment
purchase plan. The share of such gain of an MHP2 Limited
MHP2 Supp-24
<PAGE>
Partner who did not acquire his MHP2 Partnership Units in the original offering
of such Partnership Units or who has not held his MHP2 Partnership Units at all
times since such offering could vary materially from this amount. If the
Operating Partnership were to sell an MHP2 Hotel with a Book-Tax Difference, the
remaining Book-Tax Difference at the time the Hotel is sold would be required to
be allocated exclusively to the former MHP2 Limited Partners and the General
Partner, even though the proceeds of such sale would be allocated
proportionately among all the partners in the Operating Partnership (and would
likely be retained by the Operating Partnership, rather than distributed to
holders of OP Units and Common Shares of Host REIT). The MHP2 Limited Partners
would not be entitled to any special distributions from the Operating
Partnership in connection with such a sale, and thus would not necessarily
receive cash distributions from the Operating Partnership sufficient to pay such
additional taxes. Although the Partnership Agreement does not impose any
restrictions upon the Operating Partnership preventing it from causing the sale
of any or all of the MHP2 Hotels at any time following the Mergers, the
Operating Partnership does not have current plans to pursue a sale of any of the
MHP2 Hotels. See "Federal Income Tax Considerations -- Tax Treatment of Limited
Partners Who Hold OP Units Following the Mergers -- Sale of Individual Hotels"
in the Consent Solicitation.
Tax Allocations with Respect to Contributed Hotels Generally. The tax
------------------------------------------------------------
allocations of depreciation to the MHP2 Limited Partners may change
significantly as a result of the Merger and the REIT Conversion for two reasons.
First, as described above, pursuant to Section 704(c) of the Code, depreciation
and deductions attributable to the MHP2 Hotels will be required to be allocated
for federal income tax purposes in a manner such that the MHP2 Limited Partners
are charged with the Book-Tax Difference associated with the MHP2 Hotels at the
time of the consummation of the Merger. Consequently, an MHP2 Limited Partner
will be allocated less depreciation with respect to the MHP2 Hotels than would
be the case if the Merger had not occurred and the MHP2 Limited Partner had
continued to hold his MHP2 Partnership Units. (On the other hand, a former MHP2
Limited Partner will be allocated depreciation with respect to other Hotels
acquired by the Operating Partnership in connection with the Merger and the REIT
Conversion, including the Hotels owned by the other Hotel Partnerships and the
Hotels being contributed to the Operating Partnership by Host and the Blackstone
Entities in connection with the Merger and the REIT Conversion.) Second, the
Merger will cause the technical termination under Section 708(b)(1)(B) of the
Code of MHP2 and each of the other Hotel Partnerships that participates in the
Merger. Section 168(i)(7) of the Code provides, in effect, that when a
partnership terminates under Section 708(b)(1)(B) of the Code, the partnership
must begin new depreciation periods for his property. As a result, the
remaining bases of the real estate components of the MHP2 Hotels and the Hotels
held by the other Hotel Partnerships will be depreciated over 39 years, rather
than over the remaining current lives of such Hotels (which range from less than
one year to 39 years). See "Federal Income Tax Considerations -- Tax Treatment
of Limited Partners Who Hold OP Units Following the Mergers -- Effect of Mergers
on Depreciation" in the Consent Solicitation. The impact of the technical
termination on the amount of depreciation attributable to the MHP2 Hotels will
not be as significant as the impact on other Hotels, however, as MHP2 recently
experienced a similar technical termination in June of 1996.
In light of the complexity of the governing rules affecting the calculation
and allocation of depreciation with respect to properties contributed to a
partnership, particularly when a number of those properties are subject to the
separate adjustments required in connection with a technical termination under
Section 708 of the Code, the number of Hotels that the Operating Partnership
will be acquiring in connection with the Mergers and the REIT Conversion, and
the impact on these calculations of other outside events, including equity
offerings by Host or Host REIT and other acquisitions undertaken by Host, Host
REIT or the Operating Partnership prior to or in connection with the REIT
Conversion, the Operating Partnership and the General Partner believe that it is
impossible to predict with any degree of precision the impact that the Mergers
and the REIT Conversion will have on the future depreciation (and, consequently,
the amount of taxable income) allocable to an MHP2 Limited Partner.
Impact on Passive Activity Losses of an Investment in a Publicly Traded
-----------------------------------------------------------------------
Partnership. The passive loss limitation rules generally provide that
- -----------
individuals, estates, trusts and certain closely held corporations and personal
service corporations can only deduct losses from passive activities (generally
activities in which the taxpayer does not materially participate, which would
include the Operating Partnership for MHP2 Limited Partners) to the extent that
such losses are not in excess of the taxpayer's income from passive activities
or
MHP2 Supp-25
<PAGE>
investments. An MHP2 Limited Partner would be able to offset losses from
other passive activities against income from the Operating Partnership that is
considered passive income (but not portfolio income) so long as the Operating
Partnership is not treated as a publicly traded partnership. The Operating
Partnership and the General Partner believe, however, that there is a
substantial risk that the Operating Partnership will be treated as a publicly
traded partnership for purposes of the passive loss limitation rules. In this
event, any losses or deductions of the Operating Partnership allocable to an
MHP2 Limited Partner after the Merger could not be used to offset passive income
from other passive activities. Similarly, losses from other passive activities
(including losses attributable to MHP2 for periods prior to the Merger) could
not be applied to offset income of the Operating Partnership allocated to an
MHP2 Limited Partner. An MHP2 Limited Partner, however, would be able to offset
any passive losses from his other investments against any gain recognized by the
MHP2 Limited Partner as a result of the Merger.
State and Local Taxes. MHP2 Limited Partners holding Partnership Units will
---------------------
be subject to state and local taxation in a number of jurisdictions in which the
Operating Partnership directly or indirectly holds real property and would be
required to file periodic tax returns in those jurisdictions. In this regard,
immediately following the Merger and the REIT Conversion, the Operating
Partnership expects that it will own properties in approximately 28 states
across the United States and the District of Columbia. Currently, MHP2 owns,
directly and indirectly, properties in only three states. See "Federal Income
Tax Considerations - Tax Treatment of Limited Partners Who Hold OP Units
Following the Merger - State and Local Taxes" in the Consent Solicitation.
ASSUMPTIONS USED IN DETERMINING TAX CONSEQUENCES OF THE MERGER
In preparing the discussion set forth above, the Operating Partnership and the
General Partner made several key assumptions, which are described below. If any
such assumption is not accurate with respect to a particular MHP2 Limited
Partner, the tax consequences of the Merger to such MHP2 Limited Partner could
be substantially different from those reflected above. ACCORDINGLY, EACH MHP2
LIMITED PARTNER IS STRONGLY URGED TO CONSULT WITH HIS OWN TAX ADVISOR TO
DETERMINE THE IMPACT OF SUCH MHP2 LIMITED PARTNER'S PARTICULAR TAX SITUATION ON
THE ANTICIPATED TAX CONSEQUENCES OF PARTICIPATING IN THE MERGER.
First, with respect to an MHP2 Limited Partner's basis in his MHP2 Partnership
Units prior to the Merger, the Operating Partnership and the General Partner
assumed that an MHP2 Limited Partner acquired his MHP2 Partnership Units in the
original offering of such Partnership Units and has held such Partnership Units
at all times since the offering (the "Original Limited Partner's Adjusted
Basis"). In general, each MHP2 Limited Partner had an initial tax basis in his
MHP2 Partnership Units ("Initial Basis") equal to his cash investment in MHP2
(plus his proportionate share of the partnership's nonrecourse liabilities at
the time he acquired his MHP2 Partnership Units). An MHP2 Limited Partner's
Initial Basis generally has been increased by (a) such Limited Partner's share
of MHP2 taxable income and (b) any increases in his share of liabilities of
MHP2. Generally, such Limited Partner's Initial Basis has been decreased (but
not below zero) by (i) his share of MHP2 cash distributions, (ii) any decreases
in his share of liabilities of MHP2, (iii) his share of losses of MHP2 and (iv)
his share of nondeductible expenditures of MHP2 that are not chargeable to
capital. Because "syndication costs" are chargeable to capital and not
deductible for tax purposes, an MHP2 Limited Partner's basis in his MHP2
Partnership Units effectively would include his share of the syndication costs
incurred by MHP2 at formation.
The General Partner has set forth on Appendix E to the Consent Solicitation
for MHP2 (i) the Original Limited Partner's Adjusted Basis as of December 31,
1997 for each such MHP2 Limited Partner, and (ii) an estimate of such MHP2
Limited Partner's Original Limited Partner's Adjusted Basis as of December 31,
1998 (computed without regard to the Merger and based upon the assumptions set
forth in Appendix C to the Consent Solicitation). The General Partner also
has set forth on Appendix E to the Consent Solicitation for each MHP2 Limited
Partner whose adjusted basis in his MHP2 Partnership Interest is the same as the
Original Limited Partner's Adjusted Basis (i) the MHP2 liabilities allocable to
such MHP2 Limited Partner as of December 31, 1997, and (ii) an estimate of the
MHP2 liabilities allocable to such Limited Partner as of
MHP2 Supp-26
<PAGE>
December 31, 1998 (computed without regard to the Merger and based upon the
assumptions set forth in Appendix C to the Consent Solicitation). Each of
these estimates is shown separately for those MHP2 Limited Partners who acquired
their Partnership Units at the time of the original offering pursuant to an
installment purchase plan.
The adjusted tax basis of an MHP2 Limited Partner who did not acquire his MHP2
Partnership Units in the original offering of such Partnership Units could vary
materially from that of an MHP2 Limited Partner who did so for various reasons.
If an MHP2 Limited Partner has an adjusted tax basis in his MHP2 Partnership
Units that is less than the Original Limited Partner's Adjusted Tax Basis, the
Merger might result in the receipt by the MHP2 Limited Partner of a deemed
distribution of cash in excess of his adjusted tax basis in his MHP2 Partnership
Units, which could (although it is unlikely) result in the recognition of income
or gain.
Finally, the Operating Partnership and the General Partner assumed that the
Merger will be treated for federal income tax purposes as the transfer by the
MHP2 Limited Partners of their interests in the Hotel Partnerships to the
Operating Partnership in exchange for OP Units. There can be no assurance,
however, that the IRS will not seek to recharacterize each Merger as either (i)
the liquidation of a Partnership followed by the distribution by the Partnership
of its assets to its partners and the subsequent transfers by such partners of
such assets to the Operating Partnership in exchange for OP Units, or (ii) the
transfer by a Partnership of its assets to the Operating Partnership in exchange
for OP Units (and possibly Notes) and the subsequent distribution of such OP
Units (and possibly Notes) to its partners. If the Merger are recharacterized in
the manner describe in (ii) in the preceding sentence, the tax consequences of
the Merger to the MHP2 Limited Partners likely would be materially affected.
EACH MHP2 LIMITED PARTNER IS STRONGLY URGED TO CONSULT WITH HIS OWN TAX
ADVISOR TO DETERMINE THE IMPACT OF SUCH MHP2 LIMITED PARTNER'S PARTICULAR TAX
SITUATION ON THE ANTICIPATED TAX CONSEQUENCES OF PARTICIPATING IN THE MERGER.
THE TAX CONSEQUENCES OF PARTICIPATING IN THE MERGER TO A PARTICULAR MHP2 LIMITED
PARTNER COULD VARY SUBSTANTIALLY FROM THE CONSEQUENCES DESCRIBED ABOVE.
TAX TREATMENT OF MHP2 LIMITED PARTNERS WHO EXERCISE THEIR RIGHT TO MAKE
THE NOTE ELECTION
An MHP2 Limited Partner who exercises his right to make the Note Election and
receive a Note in connection with the Merger will be treated as having made a
taxable disposition of his OP Units. The amount realized in connection with
such disposition will equal the sum of the "issue price" of the Notes (i.e., the
face amount of the Note, currently estimated as $205,140 per MHP2 Partnership
Unit) plus the portion of the MHP2 liabilities allocable to the MHP2 Limited
Partner for federal income tax purposes immediately prior to the disposition of
the MHP2 OP Units (estimated as $_______ per MHP2 Partnership Unit as of
December 31, 1998). To the extent the amount realized exceeds the MHP2 Limited
Partner's adjusted basis in his MHP2 Partnership Units, the MHP2 Limited Partner
will recognize gain. The Operating Partnership and the General Partner estimate
(assuming the MHP2 Limited Partner acquired his MHP2 Partnership Units at the
time of the original offering and has held such Partnership Units at all times
since the offering) that the amount of gain that would be recognized by an MHP2
Limited Partner who made the Note Election would be approximately $___ per MHP2
Partnership Unit, as of December 31, 1998 if such Partnership Unit were acquired
for cash, and $__ per MHP2 Partnership Unit if such Partnership were acquired
pursuant to the installment purchase plan. For a discussion of the federal
income tax rates applicable to the net capital gain from the sale of a capital
asset, see "Federal Income Tax Considerations -- Tax Treatment of Limited
Partners Who Hold OP Units Following the Mergers -- Disposition of OP Units by
Limited Partners" in the Consent Solicitation. In this regard, the General
Partner estimates that, as of December 31, 1998, if MHP2 sold all of its Hotels
in a fully taxable transaction for a net amount, after payment of liabilities,
equal to the Note Election Amount of MHP2, the "unrecognized Section 1250 gain"
per MHP2 Partnership Unit would be $______ if such Partnership Unit were
acquired for cash,
MHP2 Supp-27
<PAGE>
and $_____ per MHP2 Partnership Unit if such Partnership were acquired pursuant
to the installment purchase plan. The gain subject to tax as ordinary income
under Code Section 1245 per MHP2 Partnership Unit would be $______ if such
Partnership Unit were acquired for cash, and $_____ per MHP2 Partnership Unit if
such Partnership were acquired pursuant to the installment purchase plan. An
MHP2 Limited Partner who makes the Note Election would be able to treat any per
Partnership Unit passive activity loss carryforward with respect to the
activities of MHP2, to the extent the sum of such losses exceeds his passive
activity income for 1998, as losses that are not from a passive activity and,
therefore, not subject to the passive activity loss limitation rules.
For purposes of determining the gain recognized by a Limited Partner as a result
of making the Note Election, an Original Limited Partner's Adjusted Basis will
reflect such Limited Partner's share of the syndication costs incurred by his
Partnership at formation.
An MHP2 Limited Partner who elects to receive a Note may be eligible to defer
at least a portion of that gain under the "installment sale" rules. Those
rules, however, will not permit the MHP2 Limited Partner to defer all of the
gain, and, to the extent that the face amount of the Note (and any other
installment obligations received by the taxpayer during the year) outstanding at
the end of the taxable year in which the Merger occur exceeds $5,000,000, will
require that the MHP2 Limited Partner who defers gain pay to the IRS interest on
the resulting tax that has been deferred. The MHP2 Limited Partner will not be
eligible to defer gain recognized upon the receipt of the Note to the extent
that his share of MHP2 liabilities at the time of the Merger exceeds his
adjusted tax basis in his MHP2 Partnership Units immediately prior to the Merger
(that is, to the extent that he has a "negative capital account" for tax
purposes). In addition, the MHP2 Limited Partner will not be eligible to defer
gain to the extent that such gain would be taxed as ordinary income under
Section 1245 and 1250 of the Code. Lastly, if an MHP2 Limited Partner disposes
of his Note, any gain that had been deferred would be recognized in the year of
disposition.
THE SPECIFIC TAX ATTRIBUTES OF A PARTICULAR MHP2 LIMITED PARTNER COULD HAVE A
MATERIAL IMPACT ON THE TAX CONSEQUENCES OF THE MERGER, AND THE SUBSEQUENT
OWNERSHIP AND DISPOSITION OF NOTES. THEREFORE, IT IS ESSENTIAL THAT MHP2
LIMITED PARTNERS CONSIDERING ELECTING TO RECEIVE NOTES CONSULT WITH THEIR OWN
TAX ADVISORS WITH REGARD TO THE APPLICATION OF THE FEDERAL INCOME TAX LAWS TO
SUCH MHP2 LIMITED PARTNERS' RESPECTIVE PERSONAL TAX SITUATIONS, AS WELL AS ANY
TAX CONSEQUENCES ARISING UNDER THE LAWS OF ANY STATE, LOCAL, OR FOREIGN TAXING
JURISDICTION.
TAX CONSEQUENCES IF MHP2 DOES NOT PARTICIPATE IN THE MERGER
If MHP2 does not participate in the Merger, the MHP2 Limited Partners would
not have any tax consequences resulting from the Merger. The consequences of
continued ownership of MHP2 Partnership Units will be the same as would have
resulted if the Merger had not been proposed.
* * *
The above description is not exhaustive of all possible tax considerations
associated with the Merger and the REIT Conversion. This summary does not
discuss foreign tax considerations, nor does it discuss all of the aspects of
federal income taxation or state and local taxation that may be relevant to MHP2
Limited Partners in light of their particular circumstances. EACH MHP2 LIMITED
PARTNER IS STRONGLY URGED TO CONSULT WITH HIS OWN TAX ADVISOR TO DETERMINE THE
IMPACT OF SUCH MHP2 LIMITED PARTNER'S PARTICULAR TAX SITUATION ON THE
ANTICIPATED TAX CONSEQUENCES OF PARTICIPATING IN THE MERGER.
MHP2 Supp-28
<PAGE>
SELECTED FINANCIAL DATA
The following table presents selected historical financial data derived from
the audited financial statements for the five most recent fiscal years in the
period ended December 31, 1997 and the unaudited financial statements for the
First Quarter 1998 and the First Quarter 1997. The following data should be read
in conjunction with audited financial statements and the notes thereto,
Management's Discussion and Analysis of Financial Condition and Results of
Operations and the other financial information included elsewhere herein.
<TABLE>
<CAPTION>
First Quarter Fiscal Year
--------------------- -----------------------------------------------------------
1998 1997 1997 1996 1995 1994 1993
--------- --------- ---------- ---------- --------- --------- ---------
(unaudited) (amounts in thousands, except per Partnership Unit)(1)
<S> <C> <C> <C> <C> <C> <C> <C>
Revenues.................................... $ 19,348 $ 19,538 $ 69,014 $ 66,292 $ 64,002 $ 58,703 $ 57,003
Operating profit............................ 9,914 10,216 31,782 30,280 28,579 25,929 24,581
Net income.................................. 6,841 6,505 17,014 14,811 13,045 8,428 6,869
Distributions:..............................
General partner.......................... -- -- 225 185 113 113 117
Limited partners......................... -- -- 22,260 18,339 11,175 11,232 11,609
-------------------------------------------------------------------------------------
Total.................................... -- -- 22,485 18,524 11,288 11,345 11,726
Per Partnership Unit: (1)
Net income............................... 9,091 8,644 22,609 19,682 17,336 11,200 9,128
Distributions............................ -- -- 29,879 24,616 15,000 15,077 15,583
EBITDA (unaudited)(2)....................... 14,225 14,101 48,942 46,572 44,212 38,558 37,409
Cash provided by operating activities....... 5,491 5,860 29,979 28,664 27,008 20,895 22,688
Cash used in investing activities........... (3,084) (1,785) (8,034) (5,722) (11,883) (7,925) (5,024)
Cash provided by (used in) financing
activities................................. 340 (34) (27,954) (28,171) (11,288) (11,345) (11,695)
Decrease (increase) in cash and
cash equivalents....................... 2,747 4,041 (6,009) (5,229) 3,837 1,625 5,969
Ratio of earnings to fixed charges
(unaudited)(3)............................. 2.24x 2.16x 1.72x 1.66x 1.50x 1.40x 1.33x
Total assets at book value.................. 252,612 258,406 249,418 251,740 254,113 250,461 254,184
Cash and cash equivalents................... 13,110 20,413 10,363 16,372 21,601 17,764 16,139
Total debt.................................. 220,690 222,500 221,814 222,500 222,500 222,500 222,500
Total liabilities........................... 234,634 235,293 238,281 235,132 233,792 231,897 232,703
Partner's capital:
Limited partners........................ 17,654 22,737 10,881 16,297 19,973 18,233 21,121
General partner......................... 324 376 256 311 348 331 360
Book value per Partnership
Unit (unaudited) (1)....................... 23,697 30,519 14,605 21,875 26,809 24,474 28,350
Exchange value per Partnership
Unit (unaudited) (1)....................... 237,334 -- -- -- -- -- --
</TABLE>
_________________
(1) A Partnership Unit represents a $100,000 original investment in MHP2.
(2) EBITDA consists of the sum of net income, interest expense, and depreciation
and amortization. EBITDA data is presented because such data is used by
certain investors to determine the Partnership's ability to meet debt
service requirements. The Partnership considers EBITDA to be an indicative
measure of the Partnership's operating performance due to the significance
of the Partnership's long-lived assets and because EBITDA can be used to
measure the Partnership's ability to service debt, fund capital expenditures
and expand its business; however, such information should not be considered
as an alternative to net income, operating profit, cash flows from
operations, or any other operating or liquidity performance measure
prescribed by generally accepted accounting principles. Cash expenditures
for various long-term assets and interest expense have been, and will be,
incurred which are not reflected in the EBITDA presentations.
(3) The ratio of earnings to fixed charges is computed by dividing net income
before interest expense and other fixed charges by total fixed charges,
including interest expense, amortization of debt issuance costs and the
portion of rent expense that is deemed to represent interest.
MHP2 Supp-29
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
RESULTS OF OPERATIONS
FIRST QUARTER 1998 COMPARED TO FIRST QUARTER 1997
Revenues. Partnership revenues for the First Quarter 1998 decreased 1% to
$19.3 million compared to $19.5 million in the First Quarter 1997 due to a
significant decrease in revenues at the New Orleans Hotel. REVPAR, or revenue
per available room, represents the combination of the average daily room rate
charged and the average daily occupancy achieved and is a commonly used
indicator of hotel performance (although it is not a GAAP, or generally accepted
accounting principles, measure of revenue). REVPAR increased 6% as a result of
a 10% increase in the combined average room rate to approximately $154 partially
offset by a 3.0 percentage point decrease in combined average occupancy to the
low-80's.
The following chart summarizes REVPAR for each Partnership Hotel for the
First Quarter 1998 and 1997 and the percentage change from the prior year:
<TABLE>
<CAPTION>
First Quarter 1998 First Quarter 1997
-------------------- -------------------
REVPAR % Change REVPAR % Change
------- ---------- ------- ---------
<S> <C> <C> <C> <C>
San Antonio $137 8% $126 6%
New Orleans $107 (8%) $117 15%
San Ramon $108 25% $ 86 8%
Santa Clara $140 18% $119 27%
---- ---- ---- ----
Combined Average $123 6% $116 12%
==== ==== ==== ====
</TABLE>
Individual hotel First Quarter operating results are discussed below:
New Orleans Marriott Hotel
Revenues at the New Orleans Marriott Hotel decreased 17%, or $1,595,000,
for the First Quarter 1998 when compared to the First Quarter 1997. The
decrease is primarily due to a 9%, or $995,000, decrease in room revenues
coupled with a 13%, or $202,000, decline in food and beverage revenues and a 6%
increase in other operating expenses. Room revenues decreased due to an 8%
decrease in REVPAR resulting from an 8.4 percentage point decrease in average
occupancy to the low-70's partially offset by a 3% increase in the average room
rate to approximately $149. Both the drop in average occupancy and decrease in
food and beverage revenues were primarily due to non-recurring sales generated
by Super Bowl XXXI which took place in New Orleans during the First Quarter
1997. Occupancy was strong due to heavy demand before, during and after the
Super Bowl and the Hotel's food and beverage outlets especially benefited from
this higher volume. Other operating expenses increased primarily due to
increased advertising expenses and legal costs incurred to appeal an increased
real estate tax assessment. In an effort to replace lost roomnights due to the
major conventions rotating to other cities in 1998, Hotel management has
targeted small groups of 50 rooms or less which has enabled them to increase the
average room rate. The lobby and restaurant were renovated recently at an
approximate cost of $2.1 million and, as previously discussed, the total rooms
refurbishment of all guest rooms is scheduled to be completed in early summer.
Marriott Rivercenter in San Antonio
The Marriott Rivercenter in San Antonio reported an 11%, or $921,000,
increase in the First Quarter 1998 revenues compared to the First Quarter 1997.
This increase is due to a 9%, or $762,000, increase in room revenues. Room
revenues increased due to an 8% increase in REVPAR resulting from a 6% increase
in the average room rate to approximately $153 combined with a 2.0 percentage
point increase in average occupancy to the high-80's. The increase in average
room rate is primarily due to a slight shift in customer mix from group business
to transient business. In addition, Hotel management has reduced the number of
special corporate
MHP2 Supp-30
<PAGE>
accounts, replacing this business with higher rated transient business. The
Hotel is planning a major renovation of its ballroom this year at an estimated
cost of $3.5 million.
San Ramon Marriott Hotel
Revenues at the San Ramon Marriott Hotel increased 33%, or $485,000, during
the First Quarter 1998 when compared to the First Quarter 1997. The increase is
due to a 30%, or $613,000, increase in room revenues. Room revenues increased
due to a significant increase in REVPAR. REVPAR increased 25% when compared to
1997 results due to a 23% increase in the average room rate to approximately
$132 combined with a 1.6 percentage point increase in average occupancy to the
low-80's. The increase in the average room rate is due to Hotel management's
continued success in increasing the corporate rate. Hotel's management
anticipates average occupancy may decline slightly during the remainder of 1998,
but has instituted aggressive cost containment strategies to counter the
softened demand.
Santa Clara Marriott Hotel
The Santa Clara Marriott Hotel reported a 33%, or $1,626,000, increase in
the First Quarter 1998 revenues when compared to the First Quarter 1997. The
increase is primarily due to a 19%, or $1,103,000, increase in room revenues
coupled with a 67%, or $490,000, increase in food and beverage revenues. Room
revenues increased due to an 18% increase in REVPAR. REVPAR increased due to a
21% increase in the average room rate to approximately $175, partially offset by
a 2.8 percentage point decrease in average occupancy to the low-80's. The
increase in the average room rate is due to an increase in the corporate rate.
The decline in average occupancy is due to an overall decline in demand in the
market. Food and beverage revenues increased primarily due to heavier
utilization of the catering facilities by existing groups, the implementation of
a new service charge for meeting room rental and effective menu pricing in the
Hotel's restaurant. Hotel management is planning to offset softened demand in
the Santa Clara market by initiating special corporate rates and pursuing room
contracts with local technology companies.
Operating Costs and Expenses. In the First Quarter 1998, operating costs
and expenses increased $112,000 to $9.4 million. As a percentage of revenues,
operating costs and expenses represented 49% and 48% of revenues for the First
Quarter 1998 and the First Quarter 1997, respectively.
Operating Profit. In the First Quarter 1998, operating profit decreased
$302,000 to $9.9 million primarily due to changes in revenues and operating
costs and expenses discussed above. As a percentage of total revenues,
operating profit represented 51% and 48% of revenues for the First Quarter 1998
and the First Quarter 1997, respectively.
Interest Expense. Interest expense decreased slightly for the First
Quarter 1998 when compared to the same period in 1997 due to a lower principal
balance on the Partnership's Mortgage Debt as a result of the principal
amortization that began in the fourth quarter of 1997.
Equity in Income of Santa Clara Partnership. In the First Quarter 1998,
equity in income of the Santa Clara Partnership increased $632,000 to $1.1
million primarily due to improved hotel operations at the Santa Clara Hotel
combined with a slight decrease in interest expense on the Santa Clara Mortgage
Debt.
Net Income. In the First Quarter 1998, net income increased $336,000 to
$6.8 million, or 35% of revenues, from $6.5 million, or 33% of revenues, in the
First Quarter 1997 primarily due to an increase in equity in income of Santa
Clara Partnership, partially offset by a decrease in operating profit.
1997 COMPARED TO 1996
Revenues. For 1997, Partnership revenues increased to $69.0 million in
1997 from $66.3 million in 1996 due to significant increases in revenues at the
San Antonio and San Ramon Hotels. REVPAR increased 7% as a
MHP2 Supp-31
<PAGE>
result of an 8% increase in the combined average room rate to $132 while the
combined average occupancy remained stable at 81%. Net income for 1997 increased
15% to $17.0 million from $14.8 million in 1996. The Partnership's equity in
income of the Santa Clara Partnership increased $1.4 million in 1997 when
compared to 1996 due to improved operations at the Santa Clara Hotel.
Individual hotel operating results are discussed below:
Marriott Rivercenter in San Antonio
The Marriott Rivercenter in San Antonio reported an 8%, or $2.4 million,
increase in revenues during 1997. This increase in revenues was primarily due to
an 8% increase in REVPAR to approximately $120 coupled with a 12%, or $789,000,
increase in food and beverage revenues. REVPAR increased due to a 7% increase
in the average room rate to approximately $140 combined with a 1.2 percentage
point increase in average occupancy to the mid-80's. The increase in the
average room rate was due to an increase in the transient average rate. Because
demand has remained strong in the group business segment, Hotel management has
been able to hold out for premium rates in the transient business segment.
Group roomnights increased 6%, or 12,600 roomnights, when compared to the prior
year primarily due to the major conventions rotating back into San Antonio this
year. Food and beverage revenues increased primarily due to an increase in
banquet sales as a result of a shift in customer mix to corporate business.
Although faced with the challenge of increased competition with the openings of
the Adams Mark Hotel and the Residence Inn Alamo Plaza, Hotel management is
optimistic that 1998 will be another strong year for the Hotel.
Santa Clara Marriott Hotel
The Partnership's Northern California Hotels both reported significant
increases in revenues during 1997. The Santa Clara Marriott Hotel reported a
25%, or $4.4 million, increase in revenues during 1997 when compared to 1996
results. The increase in revenues is primarily due to a 23% increase in REVPAR
to $118 as the average room rate increased 24% to approximately $147 with
average occupancy remaining stable in the low-80's. The increase in the average
room rate is the result of strong transient demand throughout the market which
has allowed the Hotel to maximize room rates in both the transient and group
business segments. Transient roomnights increased by approximately 9,000
roomnights, a 6% increase when compared to the prior year. Hotel management is
optimistic that demand in the Silicon Valley region will remain high throughout
1998. With no new full-service competition expected in the coming year, Hotel
management will continue its strategies of maximizing rates and effectively
managing their customer mix.
San Ramon Marriott
The San Ramon Marriott reported a 12% increase in revenues, or $706,000,
for 1997 when compared to 1996. This increase was due to a 14% increase in
REVPAR to $92 as the average room rate increased 15% to approximately $111
partially offset by a slight decrease in average occupancy to the low-80's. The
increase in the average room rate was achieved primarily as a result of an
increase in the corporate rate. In 1997, 225 limited service rooms were added to
the market and another 640 are expected to be added by June 1998. However, a
number of companies are filling the existing office space in the area and the
space currently under construction is already substantially committed. Hotel
management is optimistic that 1998 will be another successful year.
New Orleans Marriott Hotel
The New Orleans Marriott Hotel reported a slight decrease in revenues in
1997 when compared to 1996 results due to a 2%, or $904,000, decrease in room
revenues which was significantly offset by a 20%, or $783,000, increase in food
and beverage revenues. REVPAR remained stable at $97 due to a 2% increase in
the average room rate to approximately $127 partially offset by a 1.3 percentage
point decrease in average occupancy to the mid-70's. The increase in the
average room rate is due to growth in the group business segment. While group
roomnights were down 8,300 roomnights in 1997 when compared to 1996, the group
mix shifted to higher-rated association business. The decrease in average
occupancy is due to the lack of city-wide groups over the summer
MHP2 Supp-32
<PAGE>
months. This cycle generally repeats itself every three years as it is affected
by the tradition of the conventions, which meet in different cities on an
alternating basis. Food and beverage revenues increased when compared to the
prior year primarily as a result of Super Bowl XXXI taking place in New Orleans
in January 1997. This event generated significant catering and audio visual
revenues. In addition, food and beverage revenues increased due to the shift in
customer mix to association business which more heavily utilized the catering
facilities. The Hotel is currently undergoing a complete rooms refurbishment at
an approximate cost of $13.0 million which is scheduled to be completed in July
1998.
Operating Costs and Expenses: In 1997, operating costs and expenses
increased $1.2 million to $37.2 million primarily due to an increase in ground
rent, insurance and other. In 1997, ground rent, insurance and other increased
to $1.8 million in 1997 from $893,000 in 1996 primarily due to a loss on the
retirement of assets as a significant number of assets were retired at the New
Orleans Hotel in conjunction with the refurbishment of the guest rooms, an
increase in general and administrative expenses and an increase in ground rent
expense associated with improved hotel operations. As a percentage of revenues,
operating costs and expenses represented 54% of revenues for 1997 and 1996.
Operating Profit: In 1997, operating profit increased $1.5 million to
$31.8 million primarily due to the changes in revenues and operating costs and
expenses discussed above. As a percentage of total revenues, operating profit
represented 46% in 1997 and 1996.
Equity in Income of Santa Clara Partnership: In 1997, equity in income of
the Santa Clara Partnership increased to $2.0 million in 1997 from $665,000 in
1996 primarily due to improved hotel operations at the Santa Clara Hotel, while
interest expense increased only slightly from year to year on the Santa Clara
Mortgage Debt.
Net Income: In 1997, net income increased to $17.0 million in 1997 from
$14.8 million in 1996 primarily due to improved Hotel revenues and an increase
in equity in income of the Santa Clara Partnership.
1996 COMPARED TO 1995
Revenues. For 1996, Partnership revenues increased from $64.0 million in
1995 to $66.3 million in 1996 due to a 4% increase in REVPAR. REVPAR increased
primarily due to a 5% increase in the combined average room rate to $123 while
the combined average occupancy remained stable at 81%. Net income for 1996
increased 14% to $14.8 million from $13.0 million in 1995. Interest expense
increased slightly due to refinancing expenses incurred with the extension of
the Original Mortgage Debt which are reflected as interest expense in the
accompanying statement of operations. The Partnership's equity in income of the
Santa Clara Partnership increased $546,000 in 1996 when compared to 1995 due to
improved operations at the Santa Clara Hotel.
Individual hotel operating results are discussed below:
New Orleans Marriott
The New Orleans Marriott reported a 4% increase in revenues during 1996.
The increase was due to a 3% increase in REVPAR partially offset by a 3%
decrease in food and beverage revenues. REVPAR increased due to a 4% increase
in average room rate to approximately $125 while average occupancy remained
stable in the high-70's. The decline in food and beverage revenues was
primarily due to decreases in banquet sales.
Marriott Rivercenter in San Antonio
The Marriott Rivercenter in San Antonio reported a slight increase in
revenues during 1996 due to a 2% increase in REVPAR. REVPAR increased due to a
2% increase in average room rate to approximately $130 partially offset by a 1.0
percentage point decrease in average occupancy to the mid-80's.
MHP2 Supp-33
<PAGE>
San Ramon Marriott Hotel
Revenues at the Northern California Hotels increased significantly in 1996
when compared to 1995 results. The San Ramon Marriott Hotel reported a 15%
increase in revenues primarily due to an 11% increase in REVPAR. REVPAR
increased primarily due to an 8% increase in average room rate to approximately
$95 combined with a 1.8 percentage point increase in average occupancy to the
mid-80s.
Santa Clara Marriott Hotel
The Santa Clara Marriott Hotel reported a 19% increase in revenues in 1996.
This increase in revenues was primarily due to an 18% increase in REVPAR as
average room rate increased 14% to approximately $120 combined with a 2.8
percentage point increase in average occupancy to the low-80's.
Operating Costs and Expenses: In 1996, operating costs and expenses
increased $589,000 to $36.0 million. As a percentage of revenues, operating
costs and expenses represented 54% of revenues for 1996 and 55% for 1995.
Operating Profit: In 1996, operating profit increased $1.7 million to
$30.3 million primarily due to the changes in revenues and operating costs and
expenses discussed above. As a percentage of total revenues, operating profit
represented 46% in 1997 and 45% in 1996.
Interest Expense: In 1996, interest expense increased to $18.3 million
from $17.8 million in 1995, primarily due to the inclusion financing costs
incurred in obtaining the extension of Original Mortgage Debt in March 1996
which were included as interest expense in 1996.
Equity in Income of Santa Clara Partnership: In 1996, equity in income of
Santa Clara Partnership increased to $665,000 from $119,000 in 1995, primarily
due to improved hotel operations at the Santa Clara Hotel while interest expense
increased only slightly from year to year on the Santa Clara Mortgage Debt.
Net Income: In 1996, net income increased to $14.8 million from $13.0
million in 1995, primarily due to improved Hotel revenues and an increase in
equity in income of the Santa Clara Partnership.
CAPITAL RESOURCES AND LIQUIDITY
The Partnership's financing needs have historically been funded through
loan agreements with independent financial institutions. The General Partner
believes that the Partnership will have sufficient capital resources and
liquidity to continue to conduct its operations in the ordinary course of
business.
Mortgage Debt
- -------------
The Partnership is financed with mortgage debt of $222.5 million which is
nonrecourse to the Partnership and is secured by first mortgages on the Hotels,
as well as a pledge of its limited partner interest in the Santa Clara
Partnership. The mortgage debt bears interest at a fixed rate of 8.22% for an
11-year term expiring October 11, 2007. During the first loan year (October
1996 through September 1997), the mortgage debt required payments of interest
only. Subsequently, principal amortization based upon a 20-year amortization
schedule began. As a result of the required principal amortization, at the end
of the 11-year term, the mortgage debt's principal balance outstanding will have
been reduced $64.4 million. Partnership debt service was $19.2 million for 1997
and will be $22.6 million annually thereafter until the end of the 11-year term.
The General Partner expects cash flow from the Partnership's Hotels and the
Santa Clara Hotel will be sufficient to provide for the Partnership's and the
Santa Clara Partnership's debt service.
MHP2 Supp-34
<PAGE>
Principal Sources and Uses of Cash
The Partnership's principal source of cash is from operations and
distributions from the Santa Clara Partnership. Its principal uses of cash are
to pay debt service on the Partnership's Mortgage Debt, to fund the property
improvement funds of the Hotels, to establish reserves required by the lender
and to make cash distributions to the partners. Additionally, in 1996, the
Partnership received cash from the General Partner Reserve and, in 1996 and
1997, utilized cash to pay financing costs incurred in connection with the
refinancing of the Partnership's Mortgage Debt and the Santa Clara Mortgage
Debt.
Total cash provided from operations was $30.0 million, $28.7 million and
$27.0 million for the years ended December 31, 1997, 1996 and 1995,
respectively. The General Partner Reserve provided total cash of $25.7 million
for the year ended December 31, 1996. Debt service paid on the Partnership's
Mortgage Debt was $19.2 million, $17.2 million and $17.3 million for the years
ended December 31, 1997, 1996 and 1995, respectively. Total cash provided by
operating activities was $5.5 million and $5.9 million for the First Quarter
1998 and the First Quarter 1997, respectively. The decrease was due to a change
in operating accounts partially offset by an increase in net income.
Cash used in investing activities increased to $8.0 million in 1997 from
$5.7 million in 1996 primarily due to an increase in property and equipment
expenditures at the New Orleans Hotel associated with the rooms refurbishment.
Investing activities for the three years ended December 31, 1997, included the
following activities. Distributions from the Santa Clara Partnership were $2.4
million, $781,000 and $1.4 million for the years ended December 31, 1997, 1996
and 1995, respectively. Contributions to the property improvement funds of the
Hotels were $8.2 million, $6.6 million and $6.3 million for the years ended
December 31, 1997, 1996 and 1995, respectively. Contributions to the Santa
Clara Partnership property improvement fund were $2.4 million, $2.0 million and
$1.8 million for 1997, 1996 and 1995, respectively. Cash used in investing
activities increased to $3.1 million for the First Quarter 1998 from $1.8
million for the First Quarter 1997, primarily due to an increase in property and
equipment expenditures at the New Orleans Hotel associated with the
refurbishment of all of the guest rooms. Contributions to the property
improvement funds of the Hotels were $2.1 million and $1.8 million for the First
Quarter 1998 and the First Quarter 1997, respectively.
Cash used in financing activities decreased slightly to $28.0 million in
1997 from $28.2 million in 1996. Financing activities for the three years ended
December 31, 1997, included the following activities. The various reserves
required by the lender pursuant to the terms of the Partnership's Mortgage Debt
and the Santa Clara Mortgage Debt totaled $6.9 million and $12.8 million for the
years ended December 31, 1997 and 1996, respectively. The change in the reserve
accounts includes the $6.9 million deposited into the reserve accounts for the
payment of insurance premiums and real estate taxes as well as $854,000 of
interest earned on the lender reserves reduced by $2.7 million of accrued real
estate tax liabilities and $239,000 of capital expenditure reimbursements.
Cash distributed to the partners was $22.5 million, $18.5 million and $11.3
million for the years ended December 31, 1997, 1996 and 1995, respectively.
Financing costs related to the refinancing of the Partnership's Mortgage Debt
and the Santa Clara Mortgage Debt totaled $34,000 and $6.0 million for the years
ended December 31, 1997 and 1996, respectively. There were no financing costs
paid in 1995. Cash provided by financing activities was $340,000 for the First
Quarter 1998, while cash used in financing activities was $34,000 for the First
Quarter 1997. The change in financing activities is primarily due to a net
increase in the restricted lender reserves, partially offset by cash utilized to
make principal payments on the Partnership's mortgage debt. The change in the
reserve accounts includes $1.7 million of capital expenditure reimbursements
reduced by $194,000 of interest earned on the lender reserves.
The Partnership is required to maintain the Hotels and the Santa Clara
Hotel in good condition. Under the Management Agreements, the Partnership is
required to make annual contributions to the property improvement funds which
provide funding for replacement of furniture, fixtures and equipment.
Contributions to the property improvement fund are based on a percentage of
gross sales. Contributions to the fund by property are as follows: San
Antonio, 4% in 1994-1998 and 5% thereafter; San Ramon, 4% in 1994-1998 and 5%
thereafter; New Orleans and Santa Clara 5%. The contribution percentage for the
New Orleans Hotel was increased to 7% for 1997 and 1998 to allow for adequate
funding of the combined Softgoods and Casegoods
MHP2 Supp-35
<PAGE>
refurbishment of all rooms scheduled for 1998. This project is expected to cost
approximately $13.0 million and is estimated to be completed in July 1998.
The General Partner believes that cash from Hotel operations and the
reserves established in conjunction with the refinancing will continue to meet
the short and long-term operational needs of the Partnership. Including the
final 1997 distribution made in April 1998 of $9,864 per limited partner unit,
the Partnership distributed $26,621 per limited partner unit from 1997 operating
cash flow. This represents a 26.6% annual return on invested capital. In
addition, in May 1998, the Partnership made a cash distribution of $5,000 per
limited partner unit from the First Quarter 1998 operating cash flow.
Prospectively, the Partnership expects to increase distribution frequency from
its historic bi-annual distributions if operating results and forecasts indicate
it is warranted. In addition, the General Partner believes the property
improvement funds, as adjusted in the case of the New Orleans Hotel, and the
capital reserves established in conjunction with the refinancing will be
adequate for the future capital repairs and replacement needs of the Hotels.
INFLATION
The rate of inflation has been relatively low since the inception of the
Partnership and accordingly, has not had a significant impact on operating
results. However, the Hotels' and the Santa Clara's room rates and occupancy
are inflation sensitive. The Manager is generally able to pass through
increased costs to customers through higher room rates. In 1997, the increase
in average room rates at the San Antonio, San Ramon and Santa Clara Hotels
exceeded those of direct competitors as well as the general level of inflation.
As stated above, the Mortgage Debt bears a fixed interest rate, thereby
eliminating exposure to the impact of future increases in interest rates.
MHP2 Supp-36
<PAGE>
FINANCIAL STATEMENTS
MHP2 Supp-37
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
TO THE PARTNERS OF MARRIOTT HOTEL PROPERTIES II LIMITED PARTNERSHIP:
We have audited the accompanying balance sheet of Marriott Hotel Properties II
Limited Partnership (a Delaware limited partnership) as of December 31, 1997 and
1996, and the related statements of operations, changes in partners' capital and
cash flows for each of the three years in the period ended December 31, 1997.
These financial statements are the responsibility of the General Partner'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 an 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, the financial statements referred to above present fairly, in
all material respects, the financial position of Marriott Hotel Properties II
Limited Partnership as of December 31, 1997 and 1996, and the results of its
operations and its cash flows for each of the three years in the period ended
December 31, 1997, in conformity with generally accepted accounting principles.
ARTHUR ANDERSEN LLP
Washington, D.C.
March 18, 1998
MHP2 Supp-38
<PAGE>
MARRIOTT HOTEL PROPERTIES II LIMITED PARTNERSHIP
BALANCE SHEETS
DECEMBER 31, 1997 AND 1996
(IN THOUSANDS)
<TABLE>
<CAPTION>
1997 1996
---------- ---------
<S> <C> <C>
ASSETS
Property and equipment, net................................. $ 197,512 $198,826
Due from Marriott Hotel Services, Inc....................... 7,063 7,447
Deferred financing and organization costs, net.............. 5,663 5,932
Other assets................................................ 8,510 10,348
Restricted cash reserves.................................... 20,307 12,815
Cash and cash equivalents................................... 10,363 16,372
--------- --------
$ 249,418 $251,740
========= ========
LIABILITIES AND PARTNERS' CAPITAL
LIABILITIES
Mortgage debt............................................. $ 221,814 $222,500
Investment in Santa Clara Partnership..................... 8,737 8,360
Due to Marriott Hotel Services, Inc....................... 3,567 2,882
Accounts payable and accrued expenses..................... 4,163 1,390
--------- --------
Total Liabilities....................................... 238,281 235,132
--------- --------
PARTNERS' CAPITAL
General Partner
Capital contribution, net of offering costs of $22...... 731 731
Capital distributions................................... (1,036) (811)
Cumulative net income................................... 561 391
--------- --------
256 311
--------- --------
Limited Partners
Capital contribution, net of offering costs of $8,426... 64,689 64,689
Capital distributions................................... (109,378) (87,118)
Cumulative net income................................... 55,570 38,726
--------- --------
10,881 16,297
--------- --------
Total Partners' Capital................................. 11,137 16,608
--------- --------
$ 249,418 $251,740
========= ========
</TABLE>
See Notes to financial statements.
MHP2 Supp-39
<PAGE>
MARRIOTT HOTEL PROPERTIES II LIMITED PARTNERSHIP
STATEMENTS OF OPERATIONS
FOR THE YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(IN THOUSANDS, EXCEPT PER UNIT AMOUNTS)
<TABLE>
<CAPTION>
1997 1996 1995
--------- --------- ---------
<S> <C> <C> <C>
REVENUES (Note 3)................................. $ 69,014 $ 66,292 $ 64,002
-------- -------- --------
OPERATING COSTS AND EXPENSES
Depreciation and amortization................... 13,087 13,456 13,364
Incentive management fees....................... 9,925 9,813 9,412
Property taxes.................................. 5,712 5,208 5,526
Base management fees............................ 4,649 4,471 4,281
Ground rent, insurance and other................ 3,859 3,064 2,840
-------- -------- --------
37,232 36,012 35,423
-------- -------- --------
OPERATING PROFIT.................................. 31,782 30,280 28,579
Interest expense................................ (18,841) (18,305) (17,803)
Interest income................................. 2,047 2,171 2,150
-------- -------- --------
INCOME BEFORE EQUITY IN INCOME
OF SANTA CLARA PARTNERSHIP...................... 14,988 14,146 12,926
-------- -------- --------
EQUITY IN INCOME OF SANTA CLARA PARTNERSHIP....... 2,026 665 119
-------- -------- --------
NET INCOME........................................ $ 17,014 $ 14,811 $ 13,045
======== ======== ========
ALLOCATION OF NET INCOME
General Partner................................. $ 170 $ 148 $ 130
Limited Partners................................ 16,844 14,663 12,915
-------- -------- --------
$ 17,014 $ 14,811 $ 13,045
======== ======== ========
NET INCOME PER LIMITED PARTNER UNIT (745 Units)... $ 22,609 $ 19,682 $ 17,336
======== ======== ========
</TABLE>
See Notes to financial statements.
MHP2 Supp-40
<PAGE>
MARRIOTT HOTEL PROPERTIES II LIMITED PARTNERSHIP
STATEMENTS OF CHANGES IN PARTNERS' CAPITAL
FOR THE YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(IN THOUSANDS)
<TABLE>
<CAPTION>
General Limited
Partner Partners Total
-------- --------- ---------
<S> <C> <C> <C>
Balance, December 31, 1994..................................... $ 331 $ 18,233 $ 18,564
Capital distributions........................................ (113) (11,175) (11,288)
Net income................................................... 130 12,915 13,045
----- -------- --------
Balance, December 31, 1995..................................... 348 19,973 20,321
Capital distributions........................................ (185) (18,339) (18,524)
Net income................................................... 148 14,663 14,811
----- -------- --------
Balance, December 31, 1996..................................... 311 16,297 16,608
Capital distributions........................................ (225) (22,260) (22,485)
Net income................................................... 170 16,844 17,014
----- -------- --------
Balance, December 31, 1997..................................... $ 256 $ 10,881 $ 11,137
===== ======== ========
</TABLE>
See Notes to financial statements.
MHP2 Supp-41
<PAGE>
MARRIOTT HOTEL PROPERTIES II LIMITED PARTNERSHIP
STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(IN THOUSANDS)
<TABLE>
<CAPTION>
1997 1996 1995
--------- ---------- ---------
<S> <C> <C> <C>
OPERATING ACTIVITIES
Net income............................................... $ 17,014 $ 14,811 $ 13,045
Noncash items:
Depreciation and amortization.......................... 13,087 13,456 13,364
Deferred incentive management fees..................... 161 414 461
Equity in income of Santa Clara Partnership............ (2,026) (665) (119)
Amortization of deferred financing costs as interest... 303 206 489
Loss on retirement of assets........................... 473 27 10
Changes in operating accounts:
Due from Marriott Hotel Services, Inc.................. 384 (172) (426)
Accounts payable and accrued expenses.................. 30 957 61
Other assets........................................... 29 (223) --
Due to Marriott Hotel Services, Inc.................... 524 (147) 123
-------- --------- --------
Cash provided by operating activities................. 29,979 28,664 27,008
-------- --------- --------
INVESTING ACTIVITIES
Additions to property and equipment, net................. (12,250) (8,300) (5,566)
Distributions from Santa Clara Partnership............... 2,403 781 1,370
Change in property improvement funds..................... 1,813 1,797 (1,341)
Additions to restricted cash reserve..................... -- -- (6,346)
-------- --------- --------
Cash used in investing activities..................... (8,034) (5,722) (11,883)
-------- --------- --------
FINANCING ACTIVITIES
Capital distributions.................................... (22,485) (18,524) (11,288)
Additions to restricted lender reserves, net............. (4,749) (12,815) --
Principal payments on mortgage debt...................... (686) -- --
Payment of financing costs............................... (34) (6,025) --
Proceeds from mortgage loan.............................. -- 222,500 --
Repayment of mortgage debt............................... -- (213,307) --
-------- --------- --------
Cash used in financing activities..................... (27,954) (28,171) (11,288)
-------- --------- --------
(DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS......... (6,009) (5,229) 3,837
CASH AND CASH EQUIVALENTS at beginning of year........... 16,372 21,601 17,764
-------- --------- --------
CASH AND CASH EQUIVALENTS at end of year................. $ 10,363 $ 16,372 $ 21,601
======== ========= ========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash paid for mortgage interest.......................... $18,541 $17,173 $17,267
======= ======= ========
</TABLE>
See Notes to financial statements.
MHP2 Supp-42
<PAGE>
MARRIOTT HOTEL PROPERTIES II LIMITED PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1997 AND 1996
NOTE 1. THE PARTNERSHIP
Description of the Partnership
Marriott Hotel Properties II Limited Partnership (the "Partnership"), a Delaware
limited partnership, was formed to acquire and operate (i) the 1,290-room New
Orleans Marriott Hotel and underlying land in New Orleans, Louisiana (the "New
Orleans Hotel"); (ii) the 999-room Marriott Rivercenter Hotel in San Antonio,
Texas (the "San Antonio Hotel"); (iii) the 368-room Bishop Ranch Marriott Hotel
in San Ramon, California (the "San Ramon Hotel"); (collectively, the "Hotels")
and (iv) a 50% limited partner interest in the Santa Clara Marriott Hotel
Limited Partnership (the "Santa Clara Partnership"), a Delaware limited
partnership, which owns the 754-room Santa Clara Marriott Hotel in Santa Clara,
California (the "Santa Clara Hotel"). The remaining 50% interest in the Santa
Clara Partnership is owned by Marriott MHP Two Corporation (the "General
Partner") with a 1% interest, and HMH Properties, Inc., a wholly-owned indirect
subsidiary of Host Marriott Corporation ("Host Marriott") with a 49% limited
partner interest.
The sole general partner of the Partnership, with a 1% interest, is MHP Two
Corporation, a wholly-owned subsidiary of Host Marriott. The General Partner
made a capital contribution of $752,525 for its 1% general partner interest. On
March 20, 1989 (the "Partnership Closing Date"), 745 limited partner interests
(the "Units"), representing a 99% interest in the Partnership, were sold in a
private placement. The offering price per Unit was $100,000, payable in three
annual installments through June 1, 1991 (the "Investor Notes"), or as an
alternative, $89,247 in cash on the Partnership Closing Date as full payment of
the subscription price. On the Partnership Closing Date, the Partnership
executed purchase agreements (the "Purchase Agreements") with Host Marriott to
acquire the Hotels and the 50% limited partner interest in the Santa Clara
Partnership for $319.5 million. Of the total purchase price, $222.5 million was
paid from proceeds of the mortgage loan (the "Original Mortgage Debt"), $43.4
million was evidenced by a promissory note payable to Host Marriott (the
"Deferred Purchase Note"), $43.5 million was paid from a cash distribution by
the Santa Clara Partnership and the remainder from the initial payment on the
sale of the Units. The principal outstanding on the Deferred Purchase Note was
fully repaid in 1991 with the proceeds of the Investor Notes.
The New Orleans and San Antonio Hotels and the limited partner interest in the
Santa Clara Partnership were conveyed to the Partnership on the Partnership
Closing Date and the San Ramon Hotel was conveyed to the Partnership upon
completion of its construction on May 31, 1989. The Hotels and the Santa Clara
Hotel are managed by Marriott International, Inc. under long-term management
agreements. In conjunction with the refinancing of the Partnership's Mortgage
Debt described in Note 7, Marriott International, Inc. assigned all of its
interests in the management agreements to Marriott Hotel Services, Inc. (the
"Manager"), a wholly-owned subsidiary of Marriott International, Inc. ("Marriott
International").
On June 13, 1996, MHPII Acquisition Corp. (the "Company"), a wholly-owned
subsidiary of Host Marriott, completed a tender offer for the limited
partnership Units in the Partnership. The Company purchased 377 Units for an
aggregate consideration of $56,550,000 or $150,000 per Unit. Subsequent to the
tender offer, the Company purchased an additional ten Units in the Partnership.
As a result of these transactions, the Company became the majority limited
partner in the Partnership, owning 387 Units. In 1997, the Company acquired an
additional Unit bringing its total ownership to 388 Units, or approximately 52%
of the total Units outstanding. Additionally, in a Partnership vote held in
conjunction with the tender offer, the limited partners approved certain
amendments to the Partnership Agreement that were conditions to the tender
offer. The amendments: (i) revised the provisions limiting the voting rights of
the General Partner and its affiliates to permit the General Partner and its
affiliates (including the Company) to have full voting rights with respect to
all Units currently held by the General Partner or acquired by its affiliates
except on matters where the General Partner or its affiliates have an actual
economic interest other than as a Limited Partner or General Partner (an
"Interested
MHP2 Supp-43
<PAGE>
Transaction") and (ii) modified the voting provisions with respect to Interested
Transactions to permit action to be taken if approved by limited partners
holding a majority of the outstanding Units, with all Units held by the General
Partner and its affiliates being voted in the same manner as a majority of the
Units actually voted by limited partners other than the General Partner and its
affiliates. As a result of the approval of this and the other minor amendments,
the Partnership Agreement was amended and restated effective June 14, 1996.
Partnership Allocations and Distributions
Pursuant to the terms of the Partnership Agreement, Partnership allocations, for
Federal income tax purposes, and distributions are generally made as follows:
a. Cash available for distribution is distributed for each fiscal year semi-
annually as follows: (i) 100% to the limited partners until the limited
partners have received with respect to such fiscal year a non-cumulative
10% preferred distribution on their Invested Capital, as defined; (ii) 100%
to the General Partner until the General Partner has received an amount
equal to 1/99th of the amount distributed to the limited partners; (iii) 1%
to the General Partner and 99% to the limited partners until such time as
the limited partners have received the 15% Preferred Distribution, as
defined, plus $50,000 per Unit, payable only from Capital Receipts, as
defined, to the extent available after the payment of the 15% Preferred
Distribution; and (iv) thereafter, 20% to the General Partner and 80% to
the limited partners.
b. Refinancing and sales proceeds ("Capital Receipts") available for
distribution to the partners will be distributed as follows: (i) 1% to the
General Partner and 99% to the limited partners until the limited partners
have received cumulative distributions from Capital Receipts equal to the
15% Preferred Distribution plus $100,000 per Unit; and (ii) 20% to the
General Partner and 80% to the limited partners.
c. Net profits generally will be allocated to the partners in proportion to
the distributions of cash available for distribution.
d. Net losses generally will be allocated 75% to the General Partner and 25%
to the limited partners.
e. Gains recognized by the Partnership will be allocated in the following
order of priority: (i) to all partners up to the amount necessary to bring
the limited partners' capital account balances to an amount equal to the
limited partners' 15% Preferred Distribution plus the limited partners'
Invested Capital and to bring the General Partner's capital account balance
to an amount equal to 1/99th of the capital account balance of the limited
partners; and (ii) 20% to the General Partner and 80% to the limited
partners.
For financial reporting purposes, profits and losses are generally allocated
among the partners based on their stated interests in cash available for
distribution.
NOTE 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Accounting
The Partnership records are maintained on the accrual basis of accounting and
its fiscal year coincides with the calendar year.
Use of 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, disclosure of contingent
assets and liabilities and the reported amounts of revenues and expenses during
the reporting period. Actual results could differ from those estimates.
MHP2 Supp-44
<PAGE>
Revenues and Expenses
Hotel revenues represent house profit of the Partnership's Hotels since the
Partnership has delegated substantially all of the operating decisions related
to the generation of house profit of the Hotels to the Manager. House profit
reflects hotel operating results which flow to the Partnership as property owner
and represents gross hotel sales less property-level expenses, excluding
depreciation and amortization, base and incentive management fees, property
taxes, ground rent, insurance and other costs, which are disclosed separately in
the statement of operations.
On November 20, 1997, the Emerging Issues Task Force ("EITF") of the Financial
Accounting Standards Board reached a consensus on EITF 97-2 "Application of FASB
Statement No. 94 and APB Opinion No. 16 to Physician Practice Management
Entities and Certain Other Entities with Contractual Management Arrangements."
EITF 97-2 addresses the circumstances in which a management entity may include
the revenues and expenses of a managed entity in its financial statements.
The Partnership is assessing the impact of EITF 97-2 on its policy of excluding
the property-level revenues and operating expenses of its Hotels from its
statement of operations.
Property and Equipment
Property and equipment is recorded at cost. Depreciation is computed using the
straight-line method over the estimated useful lives as follows:
Land improvements 40 years
Building and improvements 30 to 40 years
Leasehold improvements 40 years
Furniture and equipment 3 to 10 years
All property and equipment is pledged as security against the Mortgage Debt
described in Note 7.
The Partnership assesses impairment of its real estate properties based on
whether estimated undiscounted future cash flows from such properties on an
individual hotel basis will be less than their net book value. If a property is
impaired, its basis is adjusted to fair market value.
Deferred Financing and Organization Costs
Deferred financing and organization costs consist of loan fees and legal and
accounting costs incurred in connection with obtaining Partnership financing and
the formation of the Partnership. Deferred financing costs totaling $3,280,000
were fully amortized at March 21, 1996. Additional financing costs of $34,000
and $6,025,000 were incurred in 1997 and 1996, respectively, in connection with
the refinancing of the Partnership's mortgage loan. Financing costs are
amortized using the straight-line method, which approximates the effective
interest method, over the 20 year loan term. At December 31, 1997 and 1996,
accumulated amortization of deferred financing and organization costs totaled
$396,000 and $92,000, respectively.
Restricted Cash Reserve
In 1994, a restricted cash reserve consisting of funds generated in excess of an
annual 17.5% return on partners' invested capital, as defined, was established
in an escrow account maintained by the lender. Through October of 1995, deposits
were made in conjunction with the bi-annual distributions to the limited
partners. At the time the mortgage debt matured on March 21, 1996, the
Partnership applied the balance in the reserve as of December 31, 1995,
$9,193,000, to the principal balance of the mortgage loan as a condition to the
extension of the loan agreement.
MHP2 Supp-45
<PAGE>
On September 23, 1996, the General Partner refinanced the Partnership's mortgage
debt. On this date, the Partnership was required to establish certain reserves
which are held by an agent of the lender including:
. $7.0 million Owner Funded Capital Expenditure Reserve--The funds will be
expended for various renewals, replacements and site improvements that are
the Partnership's obligation pursuant to the management agreement. A
majority of these projects were completed in 1997 utilizing escrow funds
and the General Partner will be seeking reimbursement of these funds during
1998.
. $1.1 million Capital Expenditure Reserve--The funds will be expended for
Americans with Disabilities Act of 1990 modifications and environmental
remediation projects identified during the course of the appraisals and
environmental studies undertaken in conjunction with the refinancing. A
majority of these projects were completed in 1997 utilizing escrow funds
and the General Partner will be seeking reimbursement of these funds during
1998.
. $4.5 million Debt Service Reserve--Based upon current forecasts, it is
expected that cash from operations will be sufficient for the required
payment terms of the Mortgage Debt. However, due to seasonality of the four
hotels' operations, the timing of debt service payments and the lender's
desire for additional security, the Partnership was required to establish a
debt service reserve for both the Partnership Mortgage Debt and the Santa
Clara Partnership mortgage debt totaling two months of debt service.
. $155,000 Ground Rent Reserve--This reserve is equal to one month of ground
rent.
These reserves were funded by using $12.2 million from the General Partner
Reserve and $634,000 from the Partnership and the Santa Clara Partnership
property improvement funds.
The loan agreement also requires that the Partnership deposit into the Capital
Expenditure Reserve $1.0 million in December of each calendar year commencing in
December 1997 until a total of $5.0 million has been deposited to be used for
air conditioning system maintenance at the New Orleans Hotel.
In addition, the loan agreement requires that should the long-term senior
unsecured debt of Marriott International be downgraded by Standard and Poors
Rating Services from an A- to a BBB+, additional reserves would need to be
established by the Partnership. In March 1997, Marriott International acquired
the Renaissance Hotel Group N.V., adding greater geographic diversity and growth
potential to its lodging portfolio. The assumption of additional debt
associated with this transaction resulted in a single downgrade of Marriott
International's long-term senior unsecured debt effective April 1, 1997.
Accordingly, at that time, the Partnership transferred $1.3 million from the
Manager's existing tax and insurance reserve account and $465,000 from
Partnership cash to the lender to establish a separate escrow account for the
payment of the next succeeding insurance premiums and real estate taxes for the
Hotels and the Santa Clara Hotel. In the future, the Partnership will make
deposits to the reserve account each period and the insurance premiums and real
estate taxes will continue to be paid by the lender until such time as Marriott
International's debt is upgraded to A-. In addition, the Partnership was
required to deposit an additional month's debt service for both the Partnership
and the Santa Clara Partnership into the Debt Service Reserve account totaling
$2.3 million. The money to fund these reserves had been set aside by the General
Partner prior to the distribution of the excess of the General Partner reserve
made to the partners in April 1997. The tax and insurance reserves and the Debt
Service Reserve are included in restricted cash reserves and the resulting tax
and insurance liability is included in accounts payable and accrued expenses in
the accompanying balance sheet.
Cash and Cash Equivalents
The Partnership considers all highly liquid investments with a maturity of three
months or less at date of purchase to be cash equivalents.
MHP2 Supp-46
<PAGE>
Investment in Santa Clara Partnership
The Partnership's earnings from the Santa Clara Partnership are recorded based
on the equity method of accounting. Equity in earnings from the Santa Clara
Partnership includes 100% of the interest expense related to the debt incurred
by the Santa Clara Partnership, the proceeds of which were distributed to the
Partnership. The $28.4 million excess of the purchase price of the Santa Clara
Partnership interest over the Partnership's proportionate share of the net book
value of the assets acquired is being amortized over the related remaining lives
of those assets. Amortization is included in Equity in Income of Santa Clara
Partnership in the accompanying statement of operations. At December 31, 1997
and 1996, accumulated amortization of the excess purchase price of the Santa
Clara Partnership investment was $11,917,000 and $11,006,000, respectively.
Pursuant to the terms of the Santa Clara partnership agreement, the Partnership
has an obligation to make capital contributions to fund certain debt service
shortfalls to the extent debt service is greater than 50% of cash flow available
before debt service (the "Debt Service Advances"). No contributions were made
in 1997 and 1996. Any outstanding Debt Service Advances, together with accrued
interest, would have been repayable prior to certain distributions and would
have been due, in any event, ten years after the date of each advance. There
have been no Debt Service Advances since inception of the Santa Clara
Partnership.
Interest Rate Swap Agreements
As of December 31, 1995, the Partnership was a party to an interest rate swap
agreement to reduce the Partnership's exposure to floating interest rates. The
Partnership accounted for the swap arrangement as a hedge of an obligation to
pay floating rates of interest and accordingly, recorded interest expense based
upon its payment obligation at a fixed rate. This agreement terminated at the
initial maturity of the Partnership's mortgage loan on March 21, 1996.
Income Taxes
Provision for Federal and state income taxes has not been made in the
accompanying financial statements since the Partnership does not pay income
taxes but rather allocates its profits and losses to the individual partners.
Significant differences exist between the net income for financial reporting
purposes and the net income as reported in the Partnership's tax return. These
differences are due primarily to the use, for income tax purposes, of
accelerated depreciation methods and shorter depreciable lives of the assets and
differences in the timing of recognition of incentive management fee expense.
As a result of these differences, the deficit of the net assets reported in the
accompanying financial statements over the tax basis in net Partnership assets
is $85.9 million and $87.9 million as of December 31, 1997 and 1996,
respectively. Following the Company's acquisition of limited partner interests
in the Partnership in 1996, the Partnership underwent a termination and
constructive liquidation for tax purposes. All partners were then deemed to
recontribute their assets to a newly reconstituted partnership. Upon
recontribution the Partnership recorded the fixed assets at their fair market
value for tax reporting purposes, as represented by the Company's purchase price
for limited partner units resulting in a significant change in the 1996 tax
basis when compared to the prior year.
Statement of Financial Accounting Standards
In the First Quarter of 1996, the Partnership adopted Statement of Financial
Accounting Standards ("SFAS") No. 121 "Accounting for the Impairment of Long-
Lived Assets and for Long-Lived Assets to Be Disposed Of." Adoption of SFAS No.
121 did not have an effect on its financial statements.
Reclassifications
Certain reclassifications were made to the prior year's financial statements to
conform to the 1997 presentation.
MHP2 Supp-47
<PAGE>
NOTE 3. REVENUES
Partnership revenues consist of the Hotels' operating results for the three
years ended December 31 (in thousands):
<TABLE>
<CAPTION>
1997 1996 1995
-------- -------- --------
<S> <C> <C> <C>
HOTEL SALES
Rooms................................................ $101,603 $ 98,436 $ 93,292
Food and beverage.................................... 44,877 42,427 42,198
Other................................................ 8,483 8,171 7,215
-------- -------- --------
154,963 149,034 142,705
-------- -------- --------
HOTEL EXPENSES
Departmental direct costs
Rooms.............................................. 19,676 18,878 18,416
Food and beverage.................................. 31,439 30,496 28,975
Other hotel operating expenses....................... 34,834 33,368 31,312
-------- -------- --------
85,949 82,742 78,703
-------- -------- --------
REVENUES.............................................. $ 69,014 $ 66,292 $ 64,002
======== ======== ========
</TABLE>
NOTE 4. PROPERTY AND IMPROVEMENTS
Property and equipment consists of the following as of December 31 (in
thousands):
<TABLE>
<CAPTION>
1997 1996
--------- ---------
<S> <C> <C>
Land and improvements................................. $ 17,091 $ 17,091
Building and improvements............................. 107,826 105,382
Leasehold improvements................................ 118,978 111,197
Furniture and equipment............................... 51,848 61,206
-------- --------
295,743 294,876
Less accumulated depreciation......................... (98,231) (96,050)
-------- --------
$197,512 $198,826
======== ========
</TABLE>
NOTE 5. ESTIMATED FAIR VALUE OF FINANCIAL INSTRUMENTS
The estimated fair values of financial instruments are shown below. The fair
values of financial instruments not included in this table are estimated to be
equal to their carrying amounts.
<TABLE>
<CAPTION>
As of December 31, 1997 As of December 31, 1996
------------------------ ------------------------
Estimated Estimated
Carrying Fair Carrying Fair
Amount Value Amount Value
------ ------ ------ -----
(in thousands) (in thousands)
<S> <C> <C> <C> <C>
Mortgage debt $221,814 $230,700 $222,500 $222,500
Incentive management fees
due to Marriott Hotel Services, Inc. 2,739 800 2,578 170
</TABLE>
MHP2 Supp-48
<PAGE>
The 1996 and 1997 estimated fair value of the mortgage debt obligation is based
on the expected future debt service payments discounted at risk adjusted rates.
Incentive management fees due are valued based on the expected future payments
from operating cash flow discounted at risk adjusted rates.
NOTE 6. SANTA CLARA PARTNERSHIP
Summarized financial information for the Santa Clara Partnership consists of the
following as of December 31 (in thousands):
<TABLE>
<CAPTION>
1997 1996
---- ----
<S> <C> <C>
BALANCE SHEET
Property and equipment.................................................. $28,688 $30,144
Due from Marriott International, Inc.................................... 2,059 2,170
Property improvement fund............................................... 2,619 1,230
Cash and cash equivalents............................................... 3,177 1,933
------- -------
Total Assets.......................................................... $36,543 $35,477
======= =======
Mortgage debt........................................................... $43,366 $43,500
Due to Marriott International, Inc...................................... 970 749
Accounts payable and accrued expenses................................... 482 522
Partners' Deficit....................................................... (8,275) (9,294)
------- -------
Total Liabilities and Partners' Deficit............................... $36,543 $35,477
======= =======
For the Years Ended December 31,
--------------------------------
1997 1996 1995
------- ------- -------
STATEMENT OF OPERATIONS
REVENUES................................................................ $21,709 $17,347 $14,516
OPERATING COSTS AND EXPENSES
Depreciation and amortization.......................................... 3,013 2,927 2,765
Interest............................................................... 3,625 3,318 3,063
Incentive management fees.............................................. 3,401 2,652 2,175
Base management fees................................................... 1,420 1,224 1,079
Property taxes......................................................... 470 499 508
Ground rent, insurance and other....................................... 281 264 201
------- ------- -------
12,210 10,884 9,791
------- ------- -------
NET INCOME.............................................................. $ 9,499 $ 6,463 $ 4,725
======= ======= =======
</TABLE>
NOTE 7. MORTGAGE DEBT
As of December 31, 1995, the Partnership's debt consisted of a $222.5 million
mortgage loan (the "Original Mortgage Debt"). The Original Mortgage Debt was
nonrecourse to the Partnership and was secured by a first mortgage on each of
the Hotels including the grant of a security interest in the Partnership's
furniture, fixtures and equipment, contracts and other intangibles and an
assignment of the Partnership's rights under the Management and Purchase
Agreements.
At the option of the Partnership, the Original Mortgage Debt loan agreement
provided for interest rate options which were tied to a Eurodollar rate, an
adjusted CD rate or the fluctuating corporate base rate. For Eurodollar
MHP2 Supp-49
<PAGE>
or CD elections, the Partnership paid the applicable rate plus an increment
equal to 0.9 percentage points. In April 1992, the Partnership entered into an
interest rate swap agreement for the entire loan amount with the primary lender
to effectively fix the interest rate on the Original Mortgage Debt at 7.8% per
annum from May 1992 through loan maturity. The Partnership's obligations under
the swap agreement were secured by a pledge of collateral by the General
Partner. The weighted average interest rate on the Original Mortgage Debt for
the year ended December 31, 1995 was 7.8%. The interest rate swap agreement
expired on March 21, 1996.
On March 21, 1996, the Original Mortgage Debt and the Santa Clara mortgage debt
matured, at which time the lender granted the Partnership an extension of the
two loans for an additional six months until replacement financing could be
finalized with another lender. Under the terms of the extension, interest
accrued at the London interbank offered rate ("LIBOR") plus 1.875 percentage
points for the first three months and accrued at LIBOR plus 2.25 percentage
points for the second three months. No principal amortization was required
during the extension period. However, under the terms of the extension, the
Partnership applied the $9.2 million accumulated in the primary lender reserve
account to pay down the principal balance of the Original Mortgage Debt to
$213.3 million and deposited $19.1 million into the primary lender reserve
account. The primary lender reserve account was established in 1994 to provide
funds for a principal paydown on the Original Mortgage Debt at maturity. The
$19.1 million deposit represented the balance ($16.8 million) from the
unrestricted reserve account included in cash in the accompanying balance sheet
as of December 31, 1995, previously established by the General Partner in 1992
(the "General Partner Reserve") and cash flow from the Partnership for the first
two accounting periods of 1996 ($2.3 million). During the extension period, the
Partnership also was required to deposit into the primary lender reserve account
all cash flow from the Hotels plus all of the Partnership's cash flow from the
Santa Clara Partnership, net of (i) $500,000 per accounting period, (ii) debt
service and (iii) current incentive management fees paid. The $500,000 per
accounting period was deposited into a separate expense reserve account which
was used by the Partnership to fund administrative expenses and refinancing
costs, any owner funded capital expenditures, as well as the Partnership's share
of any such costs incurred by the Santa Clara Partnership during the six month
extension period.
On September 23, 1996 (the "Closing Date"), the General Partner refinanced the
Partnership's Original Mortgage Debt, as well as the $43.5 million mortgage debt
of the Santa Clara Partnership. A total of $266.0 million was borrowed from a
new third party lender, $222.5 million of which is recorded on the Partnership's
financial statements (the "Mortgage Debt"). The Partnership's Mortgage Debt is
nonrecourse to the Partnership and is secured by first mortgages on the Hotels,
as well as a pledge of its limited partner interest in the Santa Clara
Partnership. The two loans are cross-defaulted. The debt bears interest at a
fixed rate of 8.22% for an 11-year term expiring October 11, 2007, requires
payments of interest only during the first loan year (October 1996 through
September 1997). Subsequently, principal amortization based upon a 20-year
amortization schedule beginning with the second loan year. The mortgage debt
balance was $221.8 million as of December 31, 1997. The weighted average
interest rate on the Mortgage Debt for the years ended December 31, 1997 and
1996 was 8.2% and 7.7%, respectively. On the Closing Date, the Partnership was
required to establish certain reserves. In addition, a new reserve was
established in 1997 and additional amounts were deposited into the existing
reserves. All reserves are discussed in Note 2.
The required principal payments of the Mortgage Debt at December 31, 1997 are as
follows (in thousands):
<TABLE>
<CAPTION>
<S> <C>
1998......... $ 4,379
1999......... 4,759
2000......... 5,119
2001......... 5,614
2002......... 6,100
Thereafter... 195,843
--------
$221,814
========
</TABLE>
MHP2 Supp-50
<PAGE>
NOTE 8. LAND LEASES
The San Antonio and San Ramon Hotels are located on sites with ground leases
from unrelated third parties. The initial lease terms expire in 2013 and 2014,
respectively. To facilitate the refinancing, the Partnership exercised its
option to extend the land leases of both properties for an additional twenty-
year period. Therefore, the current terms of the San Antonio and San Ramon land
leases expire in 2033 and 2034, respectively. The Partnership is obligated to
pay annual rent equal to the greater of a minimum rent or a percentage rent and
has the option to extend the terms for up to three successive ten-year terms
each. Ground rent on the San Antonio Hotel is equal to the greater of $700,000
or 3.5% of annual gross room sales. Ground rent on the San Ramon Hotel is equal
to the greater of $350,000 or 3% of annual gross sales for the first five years,
after which minimum rent was adjusted upward every five years, beginning in
1989, to an amount equal to 75% of the average rent paid during the three years
immediately preceding the applicable five-year period. No such adjustment was
necessary at that time. Ground rent expense for the San Antonio and San Ramon
Hotels totaled $2,122,000, $1,982,000 and $1,879,000, for the years ended
December 31, 1997, 1996 and 1995, respectively.
Future minimum annual rental commitments for all land leases entered into by the
Partnership, as described above, are as follows (in thousands):
<TABLE>
<CAPTION>
Fiscal Year Land Leases
----------- -----------
<S> <C>
1998.................. $ 1,050
1999.................. 1,050
2000.................. 1,050
2001.................. 1,050
2002.................. 1,050
Thereafter............ 32,900
-------
Total Minimum
Lease Payments....... $38,150
=======
</TABLE>
NOTE 9. MANAGEMENT AGREEMENTS
The Partnership entered into long-term hotel management agreements (the
"Management Agreements") with the Manager to manage the Hotels as part of the
Marriott International, Inc. full service hotel system. The Management
Agreement for each Hotel has an initial term expiring on December 31, 2008. To
facilitate the refinancing, the Manager exercised its option to renew the
Management Agreements for each Hotel for an additional 10-year term. Therefore,
the current terms of the Management Agreements for each Hotel expire on December
31, 2018. This, as well as the assignment of the Management Agreements
described in Note 1, and other minor changes were documented in an amendment to
each of the Management Agreements. The Manager has the option to renew the
Management Agreements for up to three additional 10-year terms. The Manager also
manages the Santa Clara Hotel on behalf of the Santa Clara Partnership. The
Manager is paid a base management fee equal to 3% of gross hotel sales. Base
management fees paid in 1997, 1996 and 1995 were $4,649,000, $4,471,000 and
$4,281,000, respectively.
In addition, the Manager is entitled to an incentive management fee equal to 20%
of each Hotel's Operating Profit, as defined. The incentive management fee with
respect to each Hotel is payable only out of 55% of each Hotel's Operating
Profit after the Partnership's payment or retention for such fiscal year of the
following: (i) the Ground Rent, if any, with respect to such Hotel; (ii) the
Qualifying Debt Service, as defined, with respect to such Hotel; (iii) such
Hotel's Pro-Rata Share of Total Mortgage Debt Service Shortfall, as defined, if
any, with respect to all Hotels; and (iv) the Partnership's non-cumulative 10%
Priority Return on the Adjusted Contributed Capital, as defined, with respect to
such Hotel.
Unpaid incentive management fees are accrued without interest and are paid from
cash flow available for incentive management fees following payment of any then
current incentive management fees. Incentive management fees earned for the
years ended December 31, 1997, 1996 and 1995 were $9,925,000, $9,813,000 and
MHP2 Supp-51
<PAGE>
$9,412,000, respectively. Deferred incentive management fees for the years
ended December 31, 1997 and 1996 were $2,739,000 and $2,578,000, respectively,
and are included in Due to Marriott Hotel Services, Inc. in the accompanying
balance sheet.
Pursuant to the Management Agreements, the Manager is required to furnish the
Hotels with certain services ("Chain Services") which are generally provided on
a central or regional basis to all hotels in the Manager's full-service hotel
system. Chain Services include central training, advertising and promotion, a
national reservations system, computerized payroll and accounting services and
such additional services as needed which may be more efficiently performed on a
centralized basis. Costs and expenses incurred in providing such services are
allocated among all domestic full-service hotels managed, owned or leased by the
Manager or its subsidiaries. In addition, the Hotels also participate in the
Manager's Marriott Rewards Program ("MRP"). This program succeeded the
Manager's Honored Guest Awards Program. The cost of this program is charged to
all hotels in the Manager's hotel system based upon the MRP sales at each hotel.
The total amount of Chain Services and MRP costs charged to the Partnership for
the years ended December 31, 1997, 1996 and 1995 were $5,593,000, $5,433,000 and
$5,151,000, respectively, and are included in Revenues (as defined in Note 3) in
the accompanying statement of operations.
The Management Agreements provide for the establishment of a property
improvement fund for each Hotel to cover the cost of certain non-routine repairs
and maintenance to the Hotels which are normally capitalized and the cost of
replacements and renewals to the Hotels' property and improvements.
Contributions to the property improvement fund are based on a percentage of
gross sales. Contributions to the property improvement fund for the San Antonio
Hotel are 4% in 1991 through 1998 and 5% thereafter. Contributions to the
property improvement fund for the San Ramon Hotel are 4% in 1994 through 1998
and 5% thereafter. Contributions to the property improvement fund for the New
Orleans Hotel are 5% each year; however, the contribution percentage was
increased to 7% for 1997 and 1998. Commencing with fiscal year 2003, the
Manager shall have the right, but not the obligation, to increase the amount it
transfers into the fund to any amount greater than 5% but not exceeding 6% of
gross sales. Total contributions to the property improvement fund for the years
ended December 31, 1997, 1996 and 1995 were $8,193,000, $6,622,000 and
$6,342,000, respectively.
Pursuant to the terms of the Management Agreements, the Partnership is required
to provide the Manager with working capital and supplies to meet the operating
needs of the Hotels. The Manager converts cash advanced by the Partnership into
other forms of working capital consisting primarily of operating cash,
inventories, and trade receivables and payables which are maintained and
controlled by the Manager. Upon termination of any of the Management
Agreements, the working capital and supplies of the related Hotel will be
returned to the Partnership. The individual components of working capital and
supplies controlled by the Manager are not reflected in the Partnership's
balance sheet. As of December 31, 1997 and 1996, $6,633,000 has been advanced
to the Manager for working capital and supplies which is included in Due from
Marriott Hotel Services, Inc. in the accompanying balance sheet. The supplies
advanced to the Manager are recorded at their estimated net realizable value.
Each of the Management Agreements also provides that the Partnership may
terminate any of the Management Agreements and remove the Manager if, during any
three consecutive fiscal years after fiscal year 1992, with respect to any
Hotel, the sum of the operating profit before real and personal property taxes,
fails to equal or exceed 8% of the sum of the original cost of the Hotel plus
certain additional hotel investments by the Partnership. The Manager may,
however, prevent termination by paying to the Partnership such amounts as are
necessary to achieve the above performance standards.
MHP2 Supp-52
<PAGE>
MARRIOTT HOTEL PROPERTIES II LIMITED PARTNERSHIP
CONDENSED STATEMENTS OF OPERATIONS
(UNAUDITED)
(IN THOUSANDS, EXCEPT PER UNIT AMOUNTS)
<TABLE>
<CAPTION>
Twelve Weeks Ended
-----------------------
March 27, March 28,
1998 1997
---------- ----------
<S> <C> <C>
REVENUES (Note 4)................................. $19,348 $19,538
------- -------
OPERATING COSTS AND EXPENSES
Depreciation and amortization.................... 2,969 3,106
Incentive management fees........................ 2,842 2,901
Property taxes................................... 1,584 1,394
Base management fees............................. 1,211 1,190
Ground rent...................................... 553 503
Insurance and other.............................. 275 228
------- -------
9,434 9,322
------- -------
OPERATING PROFIT.................................. 9,914 10,216
Interest expense................................. (4,415) (4,490)
Interest income.................................. 282 351
------- -------
INCOME BEFORE EQUITY IN INCOME OF
SANTA CLARA PARTNERSHIP....................... 5,781 6,077
EQUITY IN INCOME OF SANTA CLARA PARTNERSHIP....... 1,060 428
------- -------
NET INCOME........................................ $ 6,841 $ 6,505
======= =======
ALLOCATION OF NET INCOME
General Partner.................................. $ 68 $ 65
Limited Partners................................. 6,773 6,440
------- -------
$ 6,841 $ 6,505
======= =======
NET INCOME PER LIMITED PARTNER UNIT (745 Units)... $ 9,091 $ 8,644
======= =======
</TABLE>
See Notes to Condensed Financial Statements.
MHP2 Supp-53
<PAGE>
MARRIOTT HOTEL PROPERTIES II LIMITED PARTNERSHIP
CONDENSED BALANCE SHEETS
(IN THOUSANDS)
<TABLE>
<CAPTION>
March 27, December 31,
1998 1997
------------- -------------
(unaudited)
<S> <C> <C>
ASSETS
Property and equipment, net................... $195,803 $197,512
Due from Marriott Hotel Services, Inc......... 11,988 7,063
Other assets.................................. 10,334 8,510
Deferred financing costs, net................. 5,593 5,663
Restricted cash reserves...................... 15,784 20,307
Cash and cash equivalents..................... 13,110 10,363
-------- --------
$252,612 $249,418
======== ========
LIABILITIES AND PARTNERS' CAPITAL
LIABILITIES
<S> <C> <C>
Mortgage debt............................... $220,690 $221,814
Investment in Santa Clara Partnership....... 8,522 8,737
Due to Marriott International, Inc.......... 4,561 3,567
Accounts payable and accrued expenses....... 861 4,163
-------- --------
Total Liabilities........................ 234,634 238,281
-------- --------
PARTNERS' CAPITAL
General Partner............................. 324 256
Limited Partners............................ 17,654 10,881
-------- --------
Total Partners' Capital.................. 17,978 11,137
-------- --------
$252,612 $249,418
======== ========
</TABLE>
See Notes to Condensed Financial Statements.
MHP2 Supp-54
<PAGE>
MARRIOTT HOTEL PROPERTIES II LIMITED PARTNERSHIP
CONDENSED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(IN THOUSANDS)
<TABLE>
<CAPTION>
Twelve Weeks Ended
-----------------------
March 27, March 28,
1998 1997
---------- ----------
<S> <C> <C>
OPERATING ACTIVITIES
Net income........................................... $ 6,841 $ 6,505
Noncash items........................................ 2,824 2,748
Change in operating accounts......................... (4,174) (3,393)
------- -------
Cash provided by operating activities............. 5,491 5,860
------- -------
INVESTING ACTIVITIES
Additions to property and equipment, net............. (1,260) (1,746)
Change in property improvement fund.................. (1,824) (39)
------- -------
Cash used in investing activities................. (3,084) (1,785)
------- -------
FINANCING ACTIVITIES
Change in restricted lender reserves, net............ 1,464 --
Repayment of mortgage debt........................... (1,124) --
Payment of financing costs........................... -- (34)
------- -------
Cash provided by (used in) financing activities... 340 (34)
------- -------
INCREASE IN CASH AND CASH EQUIVALENTS................. 2,747 4,041
CASH AND CASH EQUIVALENTS at beginning of period...... 10,363 16,372
------- -------
CASH AND CASH EQUIVALENTS at end of period............ $13,110 $20,413
======= =======
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid for mortgage interest...................... $ 4,552 $ 4,572
======= =======
</TABLE>
See Notes to Condensed Financial Statements.
MHP2 Supp-55
<PAGE>
MARRIOTT HOTEL PROPERTIES II LIMITED PARTNERSHIP
NOTES TO CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
1. The accompanying condensed financial statements have been prepared by
Marriott Hotel Properties II Limited Partnership (the "Partnership")
without audit. Certain information and footnote disclosures normally
included in financial statements presented in accordance with generally
accepted accounting principles have been condensed or omitted from the
accompanying statements. The Partnership believes the disclosures made are
adequate to make the information presented not misleading. However, the
condensed financial statements should be read in conjunction with the
Partnership's financial statements and notes thereto included in the
Partnership's Form 10-K for the fiscal year ended December 31, 1997.
In the opinion of the Partnership, the accompanying condensed unaudited
financial statements reflect all adjustments (which include only normal
recurring adjustments) necessary to present fairly the financial position
of the Partnership as of March 27, 1998, and the results of operations and
cash flows for the twelve weeks ended March 27, 1998 and March 28, 1997.
Interim results are not necessarily indicative of fiscal year performance
because of seasonal and short-term variations.
For financial reporting purposes, net income of the Partnership is
allocated 99% to the limited partners and 1% to the General Partner.
Significant differences exist between the net income for financial
reporting purposes and the net income reported for Federal income tax
purposes. These differences are due primarily to the use, for income tax
purposes, of accelerated depreciation methods and shorter depreciable lives
of the assets and differences in the timing of recognition of incentive
management fee expense.
2. The Partnership owns the New Orleans, San Antonio Rivercenter and San Ramon
Marriott Hotels (the "Hotels"). In addition, the Partnership owns a 50%
limited partnership interest in the Santa Clara Marriott Hotel Limited
Partnership (the "Santa Clara Partnership") which owns the Santa Clara
Marriott Hotel (the "Santa Clara Hotel"). The sole general partner of the
Partnership and the Santa Clara Partnership, with a 1% interest in each, is
Marriott MHP Two Corporation (the "General Partner"), a wholly-owned
subsidiary of Host Marriott Corporation ("Host Marriott"). The remaining
49% interest in the Santa Clara Partnership is owned by HMH Properties,
Inc., a wholly-owned subsidiary of Host Marriott. The Partnership's income
from the Santa Clara Partnership is reported as Equity in Income of the
Santa Clara Partnership. In arriving at Equity in Income from the Santa
Clara Partnership, the Partnership is allocated 100% of the interest
expense related to the debt incurred to purchase the Santa Clara
Partnership interest. Summarized financial information for the Santa Clara
Partnership is presented in Note 5.
3. Certain reclassifications were made to the prior year financial statements
to conform to the 1998 presentation.
4. Hotel revenues represent house profit of the Partnership's Hotels since the
Partnership has delegated substantially all of the operating decisions
related to the generation of house profit of the Hotels to Marriott Hotel
Services, Inc. (the "Manager"). House profit reflects hotel operating
results which flow to the Partnership as property owner and represents
gross hotel sales less property-level expenses, excluding depreciation and
amortization, base and incentive management fees, property taxes, ground
rent, insurance and certain other costs, which are disclosed separately in
the condensed statement of operations.
MHP2 Supp-56
<PAGE>
Partnership revenues generated by the Hotels for 1998 and 1997 consist of
(in thousands):
<TABLE>
<CAPTION>
Twelve Weeks Ended
---------------------
March 27, March 28,
1998 1997
--------- ---------
<S> <C> <C>
HOTEL SALES
Rooms.................................................. $26,438 $25,905
Food and beverage...................................... 11,593 11,603
Other.................................................. 2,353 2,161
------- -------
40,384 39,669
------- -------
HOTEL EXPENSES
Departmental direct costs
Rooms................................................. 4,648 4,495
Food and beverage..................................... 7,929 7,717
Other hotel operating expenses......................... 8,459 7,919
------- -------
21,036 20,131
------- -------
REVENUES................................................. $19,348 $19,538
======= =======
</TABLE>
5. Summarized financial information for the Santa Clara Partnership for 1998 and
1997 is as follows (in thousands):
<TABLE>
<CAPTION>
Twelve Weeks Ended
-----------------------
March 27, March 28,
1998 1997
---------- ----------
<S> <C> <C>
Condensed Statement of Operations
---------------------------------
REVENUES................................................. $6,614 $4,987
OPERATING COSTS AND EXPENSES
Incentive management fee............................... 1,071 784
Depreciation and amortization.......................... 716 670
Base management fee.................................... 393 326
Property taxes......................................... 123 122
Ground rent, insurance and other....................... 121 95
------ ------
2,424 1,997
------ ------
OPERATING PROFIT......................................... 4,190 2,990
Interest expense....................................... (849) (864)
Interest income........................................ 49 14
------ ------
NET INCOME............................................... $3,390 $2,140
====== ======
</TABLE>
MHP2 Supp-57
<PAGE>
<TABLE>
<CAPTION>
March 27, December 31,
1998 1997
---------- -------------
<S> <C> <C>
Condensed Balance Sheets
------------------------
Property and equipment, net................................... $27,944 $28,688
Due from Marriott Hotel Services, Inc......................... 2,891 2,059
Other assets.................................................. 3,321 2,619
Cash and cash equivalents..................................... 2,115 3,177
------- -------
Total Assets................................................ $36,271 $36,543
======= =======
Mortgage debt................................................. $43,146 $43,366
Due to Marriott Hotel Services, Inc........................... 518 970
Accounts payable and accrued expenses......................... 409 482
Partners' deficit............................................. (7,802) (8,275)
------- -------
Total Liabilities and Partners' Deficit..................... $36,271 $36,543
======= =======
</TABLE>
6. On April 17, 1998, Host Marriott, parent company of the General Partner of
the Partnership, announced that its Board of Directors has authorized the
company to reorganize its business operations to qualify as a real estate
investment trust ("REIT") to become effective as of January 1, 1999. As
part of the REIT conversion, Host Marriott expects to form a new operating
partnership (the "Operating Partnership") and limited partners in certain
Host Marriott full-service hotel partnerships and joint ventures, including
the Partnership, are expected to be given an opportunity to receive, on a
tax-deferred basis, Operating Partnership units in the new Operating
Partnership in exchange for their current Partnership interest.
MHP2 Supp-58
<PAGE>
HOST MARRIOTT, L.P.
Supplement Dated __________ __, 1998 for
Prospectus/Consent Solicitation Statement Dated _________ __, 1998 for
Potomac Hotel Limited Partnership
On the terms described in the Prospectus/Consent Solicitation Statement
(the "Consent Solicitation"), dated _________ __, 1998, of which this Supplement
(the "Supplement") is a part, Host Marriott Corporation, a Delaware corporation
("Host"), has adopted a plan to reorganize its business operations so that it
will qualify as a real estate investment trust ("REIT"). As part of this
reorganization (the "REIT Conversion"), Host and its consolidated subsidiaries
will contribute their full-service hotel properties and certain other businesses
and assets to Host Marriott, L.P. (the "Operating Partnership"), a newly formed
Delaware limited partnership, in exchange for units of limited partnership
interest in the Operating Partnership ("OP Units") and the assumption of certain
liabilities. The sole general partner of the Operating Partnership will be Host
Marriott Trust, the entity resulting from the conversion of Host from a Delaware
corporation to a Maryland REIT ("Host REIT"). The Operating Partnership and Host
REIT will operate together as an umbrella partnership real estate investment
trust. Host REIT expects to qualify as a REIT beginning with its first full
taxable year after the closing of the REIT Conversion, which Host REIT currently
expects to be the year beginning January 1, 1999.
Following the REIT Conversion and the Blackstone Acquisition (defined
below), the Operating Partnership and its subsidiaries initially will own
outright, or have controlling interests in, approximately 120 full-service
hotels operating primarily under the Marriott, Ritz-Carlton, Four Seasons,
Swissotel and Hyatt brand names (the "Hotels"). Concurrently with the REIT
Conversion, the Operating Partnership will acquire ownership of, or controlling
interests in, 12 hotels and a mortgage loan secured by a thirteenth hotel
controlled by The Blackstone Group and a series of funds controlled by
Blackstone Real Estate Partners (collectively, the "Blackstone Entities") in
exchange for OP Units, the assumption of liabilities and other consideration
(the "Blackstone Acquisition"). The Operating Partnership will be one of the
largest owners of full-service hotels in the United States.
As part of the REIT Conversion, the Operating Partnership is proposing to
acquire by merger (the "Mergers") Potomac Hotel Limited Partnership, a Delaware
limited partnership ("PHLP" or the "Partnership"), and up to seven other limited
partnerships (the "Partnerships") that own full-service hotels in which Host or
its subsidiaries are general partners. As more fully described in the Consent
Solicitation, limited partners of those Partnerships who participate in the
Mergers will receive either OP Units or, at their election, unsecured ___% Notes
due December 15, 2005 issued by the Operating Partnership ("Notes"), in exchange
for their partnership interests in such Partnerships (with respect to the
Partnerships, those limited partners who are unaffiliated with Host are referred
to herein as the "Limited Partners," and with respect to PHLP, the "PHLP Limited
Partners").
The number of OP Units to be allocated to PHLP will be based upon (i)
PHLP's respective Exchange Value (as defined herein) and (ii) the deemed value
of an OP Unit at the time of the Merger, determined as described herein. See
"Determination of Exchange Values and Allocation of OP Units." The principal
amount of the Notes that PHLP Limited Partners may elect to receive in exchange
for the OP Units received in the Merger will be based upon PHLP's Note Election
Amount (as defined herein). See "Description of the Notes." The estimated
Exchange Value set forth herein may increase or decrease as a result of various
adjustments, and will be finally calculated shortly before the Closing Date.
Pursuant to the Merger, PHLP Limited Partners will receive OP Units with a
deemed value of $5,040 per Partnership Unit (as defined herein), or if a PHLP
Limited Partner elects, a Note in a principal amount of $3,024 per Partnership
Unit.
In connection with the REIT Conversion, each outstanding share of Host
common stock will be converted into one common share of beneficial interest, par
value $.01 per share (a "Common Share"), of Host REIT. Following the closing of
the REIT Conversion, the Common Shares will be listed on the New York Stock
Exchange. Beginning one year after the Mergers, Limited Partners will have the
right to redeem their OP Units at any time and receive, at the election of Host
REIT, either Common Shares on a one-for-one basis (subject to adjustment) or
cash in an amount equal to the market value of such shares (the "Unit Redemption
Right").
Because REITs are not permitted under current federal income tax law to
derive revenues directly from the operation of hotels, the Operating Partnership
will lease the Hotels to lessees (the "Lessees") that will operate the Hotels
under the existing management agreements and pay rent to the Operating
Partnership, as more fully described herein. The Lessees generally will be
indirect controlled subsidiaries of HMC Senior Communities, Inc., which
currently is a wholly owned subsidiary of Host ("SLC"), but which will become a
separate public company as part of the REIT Conversion when Host distributes the
common stock of SLC to its existing shareholders and the Blackstone Entities.
Shares of Host REIT and SLC will become separately traded securities and the
companies will operate independently. Initially, there may be a partial overlap
between the boards of Host REIT and SLC but this will be phased out over time.
There also will be a substantial overlap of shareholders of the two companies
initially, but this likely will diverge over time.
PHLP Supp - 1
<PAGE>
Host Marriott Corporation (the "General Partner"), the general partner
of PHLP, believes that the terms of the Merger provide substantial benefits and
are fair to the PHLP Limited Partners and recommends that all PHLP Limited
Partners vote FOR the Merger. The General Partner also recommends that PHLP
Limited Partners do not elect to receive Notes as such election may result in a
substantial taxable gain.
The effects of the Mergers may be different for Limited Partners of the
various Partnerships. This Supplement has been prepared to highlight for PHLP
Limited Partners the specific risks, benefits, effects and fairness of the
Merger to them and to provide other information specific to PHLP. Supplements
have also been prepared for each of the other Partnerships. This Supplement,
together with the supplements of the other Partnerships (collectively, the
"Supplements"), are part of the Consent Solicitation. Upon receipt of a written
request by a Limited Partner or his representative so designated in writing, the
General Partner will send a copy of any Supplement without charge. All requests
for a copy of a Supplement should be directed to: Investors Relations, 10400
Fernwood Road, Bethesda, Maryland 20817, telephone number 301-380-2070 (between
the hours of 9:00 a.m. and 4:00 p.m., eastern time).
All cross-references refer to the Consent Solicitation unless stated
otherwise. Capitalized terms not defined herein shall have the meaning set forth
in the Consent Solicitation. The information contained herein, unless otherwise
indicated, assumes the REIT Conversion occurs with all Partnerships
participating and no Notes being issued (the "Full Participation Scenario").
Risk Factors
In deciding whether to approve the Merger, PHLP Limited Partners should
consider certain risks and other factors. The General Partner believes that PHLP
Limited Partners should particularly consider the following, which should be
read in conjunction with the information in the Consent Solicitation under "Risk
Factors" and "Federal Income Tax Considerations:"
. Substantial Benefits to Related Parties. The Mergers will
facilitate consummation and enable Host to reap the full benefits
of the REIT Conversion and will result in an increase in Host
REIT's Funds From Operations per Common Share on a pro forma
basis. By converting to a REIT, Host expects to benefit from the
advantages enjoyed by REITs in raising capital and acquiring
additional assets, participating in a larger group of comparable
companies and increasing its potential base of shareholders. Also,
Host will realize significant savings through the substantial
reduction of its future corporate-level income taxes. To the
extent that such anticipated benefits initially are reflected in
the value of Host's common stock before the Closing Date, they
will not be shared initially with the Limited Partners. Host might
be required to transfer its interests in certain Partnerships that
do not participate in a Merger, if any, to a Non-Controlled
Subsidiary, in which case Host's share of the Partnership's
earnings, if any, would continue to be subject to corporate-level
income tax.
. Absence of Arm's Length Negotiations. No independent
representative was retained to negotiate on behalf of the PHLP
Limited Partners or the other Limited Partners. Although the
General Partner has obtained the Appraisals and Fairness Opinion
from AAA, AAA has not negotiated with the General Partner and has
not participated in establishing the terms of the Mergers.
Consequently, the terms and conditions of the Mergers may have
been more favorable to the PHLP Limited Partners or the other
Limited Partners if such terms and conditions were the result of
arm's length negotiations.
PHLP Supp - 2
<PAGE>
. Other Conflicts of Interest. The Mergers, the REIT Conversion and
the recommendations of the General Partners involve the following
conflicts of interest because of the relationships among Host, the
Operating Partnership, the General Partners and SLC: (i) the
General Partners, which are all subsidiaries of Host (except for
PHLP, of which Host is the General Partner), must assess whether
the terms of the Mergers are fair and equitable to the Limited
Partners of its Partnership without regard to whether the Mergers
and the REIT Conversion may benefit Host, (ii) the terms of the
Leases of the Hotels, including the Participating Partnerships'
Hotels, will be determined by Host, which will distribute the
common stock of SLC, the parent of the Lessees, to its
shareholders after such terms have been set and (iii) the terms of
the Partnership Agreement, including provisions which benefit Host
REIT, have been determined by Host. Such conflicts may result in
decisions that do not fully reflect the interests of all Limited
Partners, including the PHLP Limited Partners.
. Valuation of SLC. The value of the SLC common stock distributed
to Host's shareholders and the Blackstone Entities will be one
factor used in determining the value of an OP Unit. Although
Host's Board of Directors will determine the value of the SLC
common stock in good faith and in reliance in part upon the
opinion of an independent financial advisor, conflicts of interest
still exist. If the SLC common stock is undervalued by Host's
Board of Directors, the deemed value of an OP Unit for purposes of
the Mergers may be higher than the level at which the Host REIT
Common Shares will trade following the REIT Conversion and the
PHLP Limited Partners could receive less than the full Exchange
Value of their Partnership Interests and Host REIT could receive
an overall higher percentage of the ownership of the Operating
Partnership.
. Determination of Exchange Value. The deemed value of OP Units
that each PHLP Limited Partner will receive (if such PHLP Limited
Partner elects to retain OP Units rather than receive a Note) will
equal the Exchange Value of such PHLP Limited Partner's
Partnership Interest. The Exchange Value of PHLP will be its
Continuation Value, which is the greatest of its Adjusted
Appraised Value, Continuation Value and Liquidation Value, each of
which is determined according to a different method of valuation
and involves numerous estimates and assumptions. There is no
assurance that the Exchange Value of PHLP will equal the fair
market value of the Hotels and other assets contributed by PHLP.
Host REIT, on the other hand, will receive a number of OP Units
equal to the number of shares of Host common stock outstanding on
the Closing Date (and, if Host has outstanding shares of preferred
stock at the time of the REIT Conversion, a corresponding number
of preferred partnership interests in the Operating Partnership),
which should fairly represent the market value of Host REIT but
may not be equal to the fair market or net asset value of the
Hotels and other assets that Host will contribute to the Operating
Partnership. See "Determination of Exchange Values and Allocation
of OP Units."
. Valuation of OP Units. The value of an OP Unit, for purposes of
the Mergers and the REIT Conversion, will be deemed to be equal to
the value of a share of Host common stock immediately prior to the
REIT Conversion minus the amount of cash and the estimated value
of the SLC common stock or other property to be distributed with
respect to each share of Host common stock in connection with the
REIT Conversion. There is no assurance that, following the REIT
Conversion, the value of the publicly traded Common Shares (and
therefore the value of the OP Units) will in fact equal or exceed
the deemed value of the OP Units used for purposes of the Mergers.
These factors could result in the PHLP Limited Partners receiving
OP Units with an actual value that is less than either the deemed
value of the OP Units for purposes of the Mergers or the fair
market value of their Partnership Interests.
. Determination of the Value of the Notes. At the same time that he
votes on the Merger, each PHLP Limited Partner can also elect to
receive, in exchange for OP Units, an unsecured, seven-year Note
with a principal amount equal to the Note Election Amount of his
Partnership Interest, which is based upon numerous assumptions and
estimates. The deemed value of the OP Units will exceed the
principal amount of the corresponding Notes to be received by the
PHLP Limited Partners (because the Exchange Value is higher than
the Note Election Amount), and there is no assurance that the Note
a Limited Partner receives will have a value equal to the fair
market value of the PHLP Limited Partner's share of the Hotels and
other assets owned by PHLP. There will be no public market for the
Notes.
PHLP Supp - 3
<PAGE>
If the Notes are sold, they may sell at prices substantially below
their issuance price. Noteholders are likely to receive the full
face amount of a Note only if they hold the Note to maturity,
which is December 15, 2005, or if the Operating Partnership repays
the Notes prior to maturity. Because the Notes are unsecured
obligations of the Operating Partnership, they will be effectively
subordinated to all secured debt of the Operating Partnership and
all obligations of both the Participating Partnerships and the
Operating Partnership's other subsidiaries. See "Description of
the Notes." As of March 27, 1998, on a pro forma basis assuming
the Full Participation Scenario, the Operating Partnership would
have had aggregate consolidated debt of approximately $4.6 billion
to which the Notes were effectively subordinated or which rank
equally with such Notes.
. Fundamental Change in Nature of Investment; Potential
Underperformance. The Mergers and the REIT Conversion involve a
fundamental change in the nature of a PHLP Limited Partner's
investment from holding an interest in PHLP which has a fixed
portfolio of eight Hotels and has never distributed cash flow from
the operation of such Hotels to its Limited Partners, to holding
an interest in an operating real estate company with a portfolio
of approximately 120 Hotels that collects and distributes to its
limited partners rents received from the Lessees (which will bear
the risks and receive the direct benefits of the Hotels'
operations), has the ability to acquire additional hotels, is able
to reinvest proceeds from sales or refinancings of existing Hotels
in other hotels and has a publicly traded general partner. In
addition, each PHLP Limited Partner's investment will change from
one that allows a PHLP Limited Partner to receive a return of
capital in the form of distributions from any net proceeds of a
sale or refinancing of PHLP's assets to an investment in which a
Limited Partner likely would realize a return of capital only
through the exercise of the Unit Redemption Right. Although it is
expected that the PHLP Limited Partners will receive added
benefits from an investment in the Operating Partnership, a PHLP
Limited Partner's share of the liquidation proceeds, if any, from
the sale of PHLP's Hotels could be higher than the amount realized
upon exercise of the Unit Redemption Right (or payments on any
Note received by a PHLP Limited Partner who elects to receive such
Note). An investment in the Operating Partnership may not
outperform an investment in PHLP. See "Comparison of Ownership of
Partnership Interests, OP Units and Common Shares -- Nature of
Investment."
. Exposure to Risks from Other Hotels. As a result of the Mergers,
PHLP Limited Partners who elect to receive OP Units will own
interests in a much larger partnership with a broader range of
assets than PHLP individually. A material adverse change affecting
the Operating Partnership's assets will affect all Limited
Partners regardless of whether a particular Limited Partner
previously was an investor in such affected assets. PHLP owns
discrete assets, and the Mergers and the REIT Conversion will
significantly diversify the types and geographic locations of the
Hotels in which the PHLP Limited Partners will have interests. As
a result, the Hotels owned by the Operating Partnership may be
affected differently by economic and market conditions than those
Hotels owned by PHLP.
. PHLP Limited Partners Have No Cash Appraisal Rights. PHLP Limited
Partners who vote against the Merger will not have a right to
receive cash based upon an appraisal of their Partnership
Interests.
. Uncertainties as to the Size and Leverage of the Operating
Partnership. Host is an existing operating company that regularly
issues and repays debt, acquires additional hotels and disposes of
existing hotels. Also, some or all of the Partnerships may elect
not to participate in a Merger. In that case, Host may contribute
its interests in such Partnerships to a Non-Controlled Subsidiary,
which is subject to corporate-level income taxation, rather than
the Operating Partnership. In addition, outside partners in
certain Private Partnerships may not consent to a lease of their
partnership's Hotel(s). Host also may repurchase outstanding
securities or issue new debt or equity securities prior to the
consummation of the Mergers and the REIT Conversion. For these
reasons, the PHLP Limited Partners cannot know at the time they
vote on a Merger the exact size and amount of leverage of the
Operating Partnership.
. Other Uncertainties at the Time of Voting. There are several
other uncertainties at the time the PHLP Limited Partners must
vote on the Merger, including (i) the exact Exchange Value for
PHLP (which will be adjusted for changes in lender and capital
expenditure reserves,
PHLP Supp - 4
<PAGE>
indebtedness, deferred maintenance and other items prior to the
Closing Date), (ii) the deemed value of the OP Units for purposes
of the Merger which, together with the Exchange Value, will
determine the number of OP Units the PHLP Limited Partners will
receive and (iii) the exact principal amount of the Notes that may
be received in exchange for OP Units. For these reasons, the PHLP
Limited Partners cannot know at the time they vote on the Merger
these important aspects of the Merger.
. Lack of Control over Hotel Operations. Due to current federal
income tax law restrictions on a REIT's ability to derive revenues
directly from the operation of a hotel, the Operating Partnership
will lease virtually all of its consolidated Hotels to the
Lessees, which will operate the Hotels by continuing to retain the
Managers pursuant to the Management Agreements. The Operating
Partnership will not operate the Hotels or participate in the
decisions affecting the daily operations of the Hotels. Although
the Operating Partnership's subsidiaries will have certain rights
as lessors under the Leases (including control over decisions
relating to capital expenditures) and will remain obligated under
the Management Agreements, the Operating Partnership will have
only a limited ability to require the Lessees or the Managers to
operate or manage the Hotels in any particular manner or to govern
any particular aspect of their day-to-day operation or management.
Therefore, the Operating Partnership will be dependent for its
revenue upon the ability of the Lessees and the Managers to
operate and manage the Hotels.
. Expiration of Leases. The Leases will expire seven to ten years
after the Closing Date, and there can be no assurance that such
Leases will be renewed (or if renewed, will be renewed on terms as
favorable to the Operating Partnership). If the Leases are not
renewed, the Operating Partnership will be required to find other
lessees, which lessees must meet certain requirements set forth in
the Management Agreements. There can be no assurance that
satisfactory lessees could be found or as to the terms and
conditions on which the Operating Partnership would be able to
renew the Leases or enter into new leases with such lessees.
. Requisite Vote of PHLP Limited Partners Binds All PHLP Limited
Partners. For PHLP, approval of the Merger is by a majority of the
Partnership Interests that are eligible to be voted, as described
in "Voting Procedures -- Required Vote and Other Conditions." Such
approval will cause PHLP to participate in the Merger and will
bind all PHLP Limited Partners, including PHLP Limited Partners
who voted against or abstained from voting with respect to the
Merger.
. Risks of Lodging Industry. The profitability of the Hotels is
subject to general economic conditions, the management abilities
of the Managers (primarily Marriott International), competition,
the desirability of particular locations and other factors
relating to the operation of the Hotels. The full-service segment
of the lodging industry, in which virtually all of the Hotels
operate, is highly competitive, and the Hotels generally operate
in geographical markets that contain numerous competitors. The
Hotels' success will be dependent, in large part, upon their
ability to compete in such areas as access, location, quality of
accommodations, room rate structure, the quality and scope of food
and beverage facilities and other services and amenities. The
lodging industry, including the Hotels (and thus the Operating
Partnership), may be adversely affected in the future by (i)
national and regional economic conditions, (ii) changes in travel
patterns, (iii) taxes and government regulations which influence
or determine wages, prices, interest rates, construction
procedures and costs, (iv) the availability of credit and (v)
other factors beyond the control of the Operating Partnership.
. Risks of Leverage. The Operating Partnership will have
substantial indebtedness. As of March 27, 1998, on a pro forma
basis assuming the Full Participation Scenario, the Operating
Partnership would have had outstanding indebtedness totaling $4.6
billion, which represents a 44% debt-to-total market
capitalization ratio on a pro forma basis at such date (based upon
a price per Common Share of Host REIT of $20.00). The Operating
Partnership's business is capital intensive and it will have
significant capital requirements in the future. The Operating
Partnership's leverage level could affect its ability to (i)
obtain financing in the future, (ii) undertake refinancings on
terms and subject to conditions deemed acceptable by the Operating
Partnership, (iii) make distributions to partners, (iv) pursue its
acquisition strategy or (v) compete effectively or operate
successfully under adverse economic conditions.
PHLP Supp - 5
<PAGE>
. No Limitation on Debt. There are no limitations in Host REIT's or
the Operating Partnership's organizational documents which limit
the amount of indebtedness either may incur, although both the
Notes and the Operating Partnership's other debt instruments will
contain certain restrictions on the amount of indebtedness that
the Operating Partnership may incur.
. Rental Revenues from Hotels Subject to Rights of Lenders. In
accordance with the mortgage loan agreements with respect to
outstanding indebtedness of certain Hotel Partnerships, the rental
revenues received by such Hotel Partnerships under certain Leases
first will be used to satisfy the debt service on such outstanding
indebtedness and any cash flow remaining thereafter will be
available to satisfy other obligations of the Hotel Partnership
(including paying property taxes and insurance, funding the
required FF&E reserves for the Hotels and capital improvements)
and to make distributions to partners, including Host REIT.
. Ownership Limitations. No person may own, actually or
constructively (as determined under the applicable Code
provisions), (i) in excess of 9.8% of the number or value of
outstanding Common Shares of Host REIT or (ii) in excess of 4.9%
of the OP Units (other than Host REIT and The Blackstone Group),
subject to waiver or modification by Host REIT or the Operating
Partnership, as the case may be, in certain limited circumstances.
. Timing of REIT Conversion. If the REIT Conversion does not occur
in time for Host REIT to elect REIT status effective January 1,
1999, the effectiveness of Host REIT's election could be delayed
to January 1, 2000, which would result in Host REIT continuing to
pay corporate-level income taxes in 1999 and could cause the
Blackstone Acquisition not to be consummated.
. Effect of Subsequent Events upon Recognition of Gain. Even though
the PHLP Limited Partners (other than those who elect to receive a
Note in exchange for OP Units) generally are not expected to
recognize significant taxable gain at the time of the Mergers,
there are a variety of events and transactions (including the sale
of one or more of the Hotels currently owned by PHLP or the
reduction of indebtedness securing one or more of the Hotels) that
could cause a PHLP Limited Partner to recognize all or a part of
the gain that otherwise has been deferred through the REIT
Conversion. In this regard, the refinancing of the existing debt
secured by PHLP's Hotels (the "Mitsui Bank Debt"), which matures
in December 1998 but which may be extended through December 1999,
could result, depending upon the circumstances, in the recognition
of significant taxable gain by PHLP Limited Partners. See "Federal
Income Tax Considerations-- Tax Treatment of PHLP Limited Partners
Who Hold OP Units Following the Merger." Certain Hotels (including
the Blackstone Hotels and the Hotel owned by Atlanta Marquis)
will be covered by agreements with third parties which will
restrict the Operating Partnership's ability to dispose of those
properties or refinance their debt. As for the remaining initial
properties (including the Hotels owned by PHLP), the partnership
agreement of the Operating Partnership, which is substantially in
the form attached hereto as Appendix A (the "Partnership
Agreement"), does not impose any restrictions on the Operating
Partnership's ability to dispose of the Hotels or to refinance
debt secured by the Hotels. In addition, the Partnership Agreement
expressly provides that Host REIT, as general partner of the
Operating Partnership, is not required to take into account the
tax consequences of the limited partners in deciding whether to
cause the Operating Partnership to undertake specific transactions
and the limited partners have no right to approve or disapprove
such transactions. See "Description of OP Units --Sales of
Assets."
. Sale of Personal Property May Result in Gain to PHLP Limited
Partners. In order to facilitate the participation of PHLP in the
Merger without adversely affecting the Host REIT's qualification
as a REIT, the Operating Partnership will require, as part of the
Merger, that PHLP sell a portion of the personal property
associated with its Hotels to a Non-Controlled Subsidiary. This
sale will be a taxable transaction and may result in an allocation
of a relatively modest amount of ordinary recapture income by PHLP
to PHLP Limited Partners. This income will be allocated to each
PHLP Limited Partner in the same proportion and to the same extent
that such PHLP Limited Partner was allocated any deductions
directly or indirectly giving rise to the treatment of such gains
as recapture income. A PHLP Limited Partner who receives such an
allocation of recapture income would not be entitled to any
special distribution from PHLP in connection with the sale of
personal property.
PHLP Supp - 6
<PAGE>
. Election to Receive Notes. A PHLP Limited Partner who elects to
receive a Note in connection with the Mergers in exchange for his
OP Units will be treated as having made a taxable disposition of
his Partnership Interest. The Limited Partner may be eligible to
defer only a small portion, but not all, of that gain under the
"installment sale" rules. A Limited Partner with a "negative
capital account" with respect to his Partnership Interest who
elects to receive a Note will recognize "phantom income" in that
amount at the time of the Mergers in any event. See "Federal
Income Tax Considerations -- Tax Treatment of PHLP Limited
Partners Who Exercise Their Right to Make the Note Election."
. Failure of Host REIT to Qualify as a REIT for Tax Purposes.
Taxation of Host REIT as a corporation if it fails to qualify as a
REIT, and Host REIT's subsequent liability for federal, state and
local taxes on its income and property, would, among other things,
have the effect of reducing cash available for distribution to
Host REIT's shareholders and materially reducing the value of the
Common Shares and OP Units.
. Failure of the Operating Partnership to Qualify as a Partnership
for Tax Purposes. Taxation of the Operating Partnership as a
corporation if it fails to qualify as a partnership and the
Operating Partnership's subsequent liability for federal, state
and local income taxes, would, among other things, have the effect
of reducing cash available for distribution to holders of OP
Units, would cause Host REIT to fail to qualify as a REIT for tax
purposes and would cause the holders of OP Units to recognize
substantial taxable gain at the time the Operating Partnership
ceases to qualify as a partnership.
. Change in Tax Laws. No assurance can be provided that new
legislation, Treasury Regulations, administrative interpretations
or court decisions will not significantly change the tax laws with
respect to Host REIT's qualification as a REIT or the federal
income tax consequences of such qualification.
Expected Benefits of the REIT Conversion
The General Partner believes that participating in the REIT Conversion
would likely be beneficial to the PHLP Limited Partners for the reasons set
forth below. This information is qualified by and should be read in conjunction
with the information in the Consent Solicitation under "Background and Reasons
for the Mergers and the REIT Conversion -- Expected Benefits of the Mergers."
These benefits, which should be viewed as alternatives to continuing the
business and operations of PHLP, are expected to include:
. Value of OP Units to be Received in the Merger. PHLP Limited
Partners who elect to receive OP Units in the Merger will receive
OP Units with a deemed value of $5,040 per Partnership Unit.
. Enhanced Liquidity of Investment. The REIT Conversion will offer
PHLP Limited Partners significantly enhanced liquidity with
respect to their investments in PHLP because, after the expiration
of the Initial Holding Period, PHLP Limited Partners will be able
to exercise their Unit Redemption Right at any time, subject to
certain limited exceptions. Host has approximately 204 million
shares of common stock outstanding and the closing price on the
NYSE on May 28, 1998 was $19.4375 per share (reflecting a total
common equity market capitalization of approximately $4 billion).
The exercise of the Unit Redemption Right, however, generally
would result in recognition of taxable income or gain at that
time.
. Public Market Valuation of Assets. Trading has been extremely
limited in the Partnership Units of PHLP. In contrast, the General
Partner believes that by exchanging interests in PHLP, which is a
non-traded limited partnership, for interests in a publicly traded
real estate company focused primarily on a more diverse and
growing full-service hotel portfolio, the PHLP Limited Partners
will have the opportunity to participate in the recent trend of
ownership of real estate through a publicly traded entity, which,
in many instances, has resulted in market valuations of public
real estate companies in excess of the estimated net asset values
of those companies. There can be no assurance, however, that the
Common Shares of Host REIT will trade at a premium to the private
market values of the Operating Partnership's assets or that the
relative pricing differential will not change or be eliminated in
the future. Also, the initial benefit of Host's
PHLP Supp - 7
<PAGE>
conversion to a REIT will not be shared by the PHLP Limited
Partners if and to the extent that such initial benefit is
reflected in the market valuation of Host's common stock prior to
the REIT Conversion.
. Regular Quarterly Cash Distributions. The General Partner expects
that the Operating Partnership will make regular quarterly cash
distributions to holders of OP Units. PHLP has never distributed
cash to its Limited Partners, thus the ability of the PHLP Limited
Partners to receive quarterly and regular distributions would be
enhanced. For additional information regarding historical and
estimated future distributions for PHLP and the other
Partnerships, see "Background and Reasons for the Mergers and the
REIT Conversion -- Reasons for the Mergers."
. Substantial Tax Deferral. The General Partner expects that PHLP
Limited Partners who do not elect to receive a Note in exchange
for OP Units generally should be able to obtain the benefits of
the Merger while continuing to defer recognition for federal
income tax purposes of at least a substantial portion, if not all,
of the gain with respect to their Partnership Interests that
otherwise would be recognized in the event of a liquidation of
PHLP or a sale or other disposition of its assets in a taxable
transaction (although PHLP Limited Partners may recognize a
relatively modest amount of ordinary income as the result of
required sales of personal property to a Non-Controlled Subsidiary
in order to facilitate Host REIT's qualification as a REIT).
Thereafter, such PHLP Limited Partners generally should be able to
defer at least a substantial portion of such built-in gain until
they elect to exercise their Unit Redemption Right or one or more
of the Hotels currently owned by PHLP are sold or otherwise
disposed of in a taxable transaction by the Operating Partnership
or the Mitsui Bank Debt now secured by such Hotels is repaid,
prepaid or substantially reduced. The federal income tax
consequences of the Merger are highly complex and, with respect to
each PHLP Limited Partner, are dependent upon many variables,
including the particular circumstances of such PHLP Limited
Partner. See "Federal Income Tax Considerations -- Tax
Consequences of the Merger." Each PHLP Limited Partner is urged
to consult with its own tax advisors as to the consequences of a
Merger in light of its particular circumstances.
. Enhanced Ability of the Operating Partnership to Refinance the
Mitsui Bank Debt. The Mitsui Bank Debt of $172.7 million as of
December 31, 1997, must be refinanced no later than December 1999.
There is no assurance, however, that such refinancing, either by
PHLP on a standalone basis or the Operating Partnership following
the Merger, will not require that PHLP Limited Partners recognize
at least a substantial portion of the taxable gain that otherwise
has been deferred through the Merger. In connection with an IRS
ruling that the Operating Partnership has requested, see "Federal
Income Tax Considerations -- Tax Consequences of the Merger --
Deemed Cash Distribution and Resulting Taxable Gain," it is
expected that the former PHLP Limited Partners will reduce the
amount of "phantom income" they are allocated, thereby reducing
their taxable gains. There can be no assurance, however, that the
Operating Partnership will receive the ruling and, if received,
the exact impact it will have on an individual PHLP Limited
Partner.
. Risk Diversification. Participation in the Merger, as well as
future hotel acquisitions by the Operating Partnership, will
reduce the dependence of PHLP Limited Partners upon the
performance of, and the exposure to the risks associated with,
PHLP's Hotels and spread such risk over a broader and more varied
portfolio, including more diverse geographic locations and
multiple brands. See "Business and Properties -- Business
Objectives."
. Reduction in Leverage and Interest Costs. It is expected that the
Operating Partnership will have a significantly lower leverage to
value ratio than PHLP currently, which has outstanding debt
balances in excess of the Appraised Values of its Hotels,
resulting in significant interest and debt service savings and
greater financial stability. In addition, the Mitsui Bank Debt
currently matures in December 1998 with the right to extend the
maturity to December 1999. There can be no assurance, however,
that PHLP can either extend the debt maturity beyond December 1999
or refinance such debt on favorable terms in the absence of the
Merger or that the Operating Partnership could extend or refinance
such debt if the Merger is consummated. The Operating Partnership
and the General Partner believe, however, that PHLP will face
greater difficulties in finding a satisfactory replacement for
such debt than the Operating Partnership, given the Operating
Partnership's larger size, greater diversity of assets and extent
of its relationship with lenders.
PHLP Supp - 8
<PAGE>
. Growth Potential. The General Partner believes that the PHLP
Limited Partners, by owning interests in a publicly traded, real
estate company focused primarily on a more diverse and growing
upscale and luxury full-service hotel portfolio, will be able to
participate in growth opportunities that would not otherwise be
available to them.
. Greater Access to Capital. With publicly traded equity
securities, a larger base of assets and a substantially greater
equity value than PHLP individually, Host REIT expects to have
greater access to the capital necessary to fund the Operating
Partnership's operations and to consummate acquisitions on more
attractive terms than would be available to PHLP individually.
This greater access to capital should provide greater financial
stability to the Operating Partnership and reduce the level of
risk associated with refinancing existing loans upon maturity, as
compared to PHLP individually.
DETERMINATION OF EXCHANGE VALUE OF PHLP AND ALLOCATION OF OP UNITS
General. The Exchange Value of PHLP will be equal to the greatest of its
Adjusted Appraised Value, Continuation Value and Liquidation Value, each of
which has been determined as follows:
. Adjusted Appraised Value. The General Partner has retained AAA to
determine the market value of each of the Hotels as of March 1, 1998 (the
"Appraised Value"). The "Adjusted Appraised Value" of PHLP equals the
Appraised Value of its Hotels, adjusted as of the Final Valuation Date
for lender reserves, capital expenditure reserves, existing indebtedness
(including a "mark to market" adjustment to reflect the market value of
such indebtedness), certain deferred maintenance costs, deferred
management fees and transfer and recordation taxes and fees.
. Continuation Value. The "Continuation Value" of PHLP represents AAA's
estimate, as adopted by the General Partner, of the discounted present
value, as of January 1, 1998, of the PHLP limited partners' share of
estimated future cash distributions and estimated net sales proceeds
(plus lender reserves), assuming that PHLP continues as an operating
business for twelve years and its assets are sold on December 31, 2009
for their then estimated market value.
. Liquidation Value. The "Liquidation Value" of PHLP represents the General
Partner's estimate of the net proceeds to PHLP limited partners resulting
from the assumed sale as of December 31, 1998 of the Hotels of PHLP, each
at its Adjusted Appraised Value (after eliminating any "mark to market"
adjustment and adding back the deduction for transfer taxes and fees, if
any, made in deriving the Adjusted Appraised Value), less (i) estimated
liquidation costs, expenses and contingencies equal to 2.5% of Appraised
Value and (ii) prepayment penalties or defeasance costs, as applicable.
Final determination of the Exchange Value of PHLP will be made as of the
end of the four week accounting period ending at least 20 days prior to the
Closing Date (the "Final Valuation Date") and will be equal to the greatest of
Adjusted Appraised Value, Continuation Value and Liquidation Value as of such
date. Adjusted Appraised Value, Continuation Value and Liquidation Value will
be adjusted as of the Final Valuation Date (i) to reflect the amount of lender
and capital expenditure reserves and the amount of deferred management fees as
of such date, (ii) to increase the Adjusted Appraised Value by any amounts
actually expended by PHLP after the Initial Valuation Date to perform deferred
maintenance previously subtracted in determining the estimated Adjusted
Appraised Value of PHLP and (iii) to reflect any changes in PHLP's other
reserves, such as for litigation expenses and indemnification costs and any
revised estimates of transfer and recordation taxes and fees.
PHLP Supp - 9
<PAGE>
Appraised Value. PHLP's Hotels were appraised as of March 1, 1998 by AAA,
an independent, nationally recognized hotel valuation and financial advisory
firm experienced in the appraisals of lodging properties such as PHLP's Hotels.
Each appraisal (an "Appraisal") was reviewed by an MAI appraiser and certified
by such MAI appraiser as having been prepared in accordance with the
requirements of the Standards of Professional Practice of the Appraisal
Institute and the Uniform Standards of Professional Appraisal Practice of the
Appraisal Foundation.
The purpose of each Appraisal is to provide an estimate of the "Market
Value" of the related Hotel. "Market Value" means the most probable price which
a property should bring in a competitive and open market under all conditions
requisite to a fair sale, the buyer and seller each acting prudently and
knowledgeably and assuming the price is not affected by undue stimuli. Implicit
in this definition is the consummation of a sale as of a specified date and the
passing of title from seller to buyer under conditions whereby: (i) the buyer
and seller are equally motivated; (ii) both parties are well informed or well
advised, and each is acting in what he considers his own best interest; (iii) a
reasonable time frame is allowed for exposure in the open market; (iv) payment
is made in terms of cash in U.S. dollars or in terms of financial arrangements
comparable thereto; and (v) the price represents the normal consideration for
the property sold unaffected by special or creative financing or sales
concessions granted by anyone associated with the sale. AAA made site visits at
a majority of PHLP's Hotels for purposes of the Appraisals.
In preparing the Appraisals, AAA relied primarily on the income
capitalization method of valuation, and then compared the value estimated by
this method with recent sales of comparable properties, as a check on the
reasonableness of the value determined through the income capitalization method.
AAA employed the following procedures for determining the Appraised Value of
each Hotel:
. Historical 1997 and Projected Year's Earnings. AAA reviewed the
historical 1997 net operating income (i.e., income before interest,
taxes, depreciation and amortization) ("NOI") prior to incentive
management fees and certain capital expenditures for each Hotel. AAA also
prepared a projection of the NOI prior to incentive management fees and
certain capital expenditures for each Hotel for the twelve month period
ending February 28, 1999 (the "Projected Year"), using historical
financial information for each Hotel, budget information, a survey with
the manager of each Hotel addressing the physical condition of each
Hotel, local market conditions (including business mix, demand
generators, future trends and predictability of business), changes in the
competitive environment, comparison with direct competitors of the Hotel
and risk factors relating to each Hotel. The resulting gross margin
(ratio of total revenues to NOI prior to incentive management fees) was
checked against AAA's database of the gross margins for similar hotels
for reasonableness.
. Impact of Incentive Management Fees. AAA estimated a normalized annual
amount of incentive management fees payable under the applicable
management agreement and subtracted this amount from the NOI prior to
incentive management fees and certain capital expenditures for 1997 and
the Projected Year.
. Impact of Owner Funded Capital Expenditures. AAA estimated normalized
annual amounts of owner funded capital expenditures (over and above the
FF&E reserve) based in part on projected owner funded capital
expenditures estimated in the Engineering Study. The normalized amounts
were then subtracted from the NOI prior to owner funded capital
expenditures for 1997 and the Projected Year.
. Capitalization of Adjusted NOI. AAA then capitalized the amount resulting
from the foregoing adjustments ("Adjusted NOI") for 1997 and the
Projected Year by dividing such amounts by capitalization rates that AAA
determined to be appropriate. A capitalization rate represents the
relationship between net operating income and sales prices of income
producing property. AAA selected the capitalization rates based upon its
review of current published surveys reflecting the opinions of investors
and participants such as REITs, hotel acquisition/management companies
and pension funds, lenders, brokers and consultants as to current
PHLP Supp - 10
<PAGE>
capitalization rates, and its own database of capitalization rates
reflected in recent transactions, adjusted for factors specific to the
individual Hotel, such as location, physical condition, reserve policies,
local market volatility and competition, guest mix, renovation influences
and other income characteristics. AAA used separate capitalization rates
that it deemed appropriate to capitalize 1997 historical Adjusted NOI and
estimated Projected Year's Adjusted NOI. AAA then estimated the value of
each Hotel based upon each of the values estimated by capitalizing 1997
and Projected Year's Adjusted NOI and its professional judgment. The
following table sets forth the effective capitalization rates for 1997
and Projected Year's Adjusted NOI resulting from AAA's estimated
Appraised Values of PHLP's Hotels.
RESULTING EFFECTIVE CAPITALIZATION RATES FOR APPRAISALS OF PHLP'S HOTELS
PROJECTED YEAR (ENDING
1997 FEBRUARY 28, 1999)
---- ----------------------
9.2 - 9.8% 9.7 - 10.6%
The resulting Appraised Value of PHLP's Hotels, as estimated by AAA, is
$265,800,000.
. Comparison with Comparable Sales. AAA checked the Appraised Value of
each Hotel derived by the foregoing procedures against its database of
comparable sale transactions for reasonableness.
With respect to PHLP's Hotels, five properties were encumbered by ground
leases as of the date of the Appraisals. Accordingly, the Appraised Values of
such Hotels have been decreased to reflect the encumbrance of the ground leases
and the interests of the ground lessors in the operating cash flows of such
Hotels. The Appraised Values assume all contractual provisions for FF&E
reserves are adequate and have not been reduced to reflect deferred maintenance
or environmental remediation costs with respect to PHLP's Hotels (but estimated
deferred maintenance costs have been deducted in estimating the Adjusted
Appraised Value of each of PHLP's Hotels). The Appraised Values did not take
into account the costs that might be incurred in selling the Hotels (but
estimated costs for transfer and recordation taxes and fees have been deducted
in estimating the Adjusted Appraised Value of each Hotel).
The Appraisals are not guarantees of present or future values and no
assurance can be given as to the actual value of PHLP's Hotels. The Appraisals
should be read in conjunction with other information, such as, but not limited
to, the audited financial statements of PHLP.
The Appraised Values, and the assumptions underlying the projections on
which the Appraised Values are based, are contingent upon a series of future
events, the outcomes of which are not necessarily within the Operating
Partnership's control and cannot be determined at this time. There can be no
assurance that another appraiser would not have arrived at a different result.
Some of the assumptions inevitably will not materialize, and unanticipated
events and circumstances will occur subsequent to the date of the Appraisals.
Furthermore, the actual results achieved from PHLP's Hotels will vary from the
results projected in the Appraisals and the variations may be material.
PHLP Supp - 11
<PAGE>
Adjusted Appraised Value. The Adjusted Appraised Value of PHLP was
determined by totaling the Appraised Values of all of the Hotels of PHLP and
then making various adjustments to the aggregate Appraised Value, as described
below.
. Mortgage and Other Debt. The estimated principal balance and accrued
interest as of the Closing Date (assumed to be December 31, 1998) of all
mortgage and other debt of PHLP has been subtracted from the Appraised
Value.
. Deferred Maintenance Costs. The estimated cost to complete any deferred
maintenance items identified in the Engineering Study relating to the
Hotels of PHLP have been subtracted from the Appraised Value. The
adjustments for this item will be reduced at the Final Valuation Date to
reflect amounts expended after the Initial Valuation Date to perform such
deferred maintenance. No adjustments have been made for previously
budgeted capital expenditures or deferred maintenance costs estimated in
the Engineering Study that are reflected in the cash flow projections
used for purposes of estimating Appraised Values.
. Transfer Taxes and Fees. The estimated transfer and recordation taxes and
fees required to be paid by PHLP in connection with the Merger have been
subtracted from the Appraised Value. The actual transfer and recordation
taxes and fees will be paid by the Operating Partnership as part of the
Merger Expenses.
The following table sets forth the adjustments to the aggregate Appraised
Values made to derive the estimated Adjusted Appraised Value for PHLP as of the
Initial Valuation Date.
CALCULATION OF ESTIMATED ADJUSTED APPRAISED VALUE FOR PHLP
AS OF THE INITIAL VALUATION DATE
(IN THOUSANDS, EXCEPT PER PARTNERSHIP UNIT AMOUNT)
<TABLE>
<CAPTION>
<S> <C>
Appraised Value $ 265,800
Mortgage debt (161,136)
Other debt (128,102)
Deferred management fees (34,151)
Deferred maintenance costs (5,212)
Transfer taxes (814)
Estimated Adjusted Appraised
Value Value $ (63,615)
=========
Limited partners' share $ 0
Per Partnership Unit $ 0
</TABLE>
Continuation Value. AAA estimated the Continuation Value of PHLP using the
following methodology:
. Estimated Future Cash Distributions. AAA prepared estimates of future
partnership cash flow for PHLP for the 12-year period from January 1,
1998 through December 31, 2009 based upon the estimated 1998 NOI before
incentive management fees used in the Appraisals and for each subsequent
year applying an assumed annual stabilized growth rate (as shown in the
table below) developed by AAA for this analysis. For each year in the
projection period, AAA estimated the amount of cash available for
distribution to PHLP's limited partners after payment of all management
fees, debt service, owner funded capital expenditures based on the
Engineering Study and other partnership expenses and after application of
the applicable partnership agreement provisions. AAA assumed that PHLP's
FF&E reserve was adequate and understood that Host determined that
there were no reserve shortfalls or surpluses.
. Refinancing Assumptions. AAA assumed that the first mortgage debt would
be refinanced with interest rate of 8.0% per annum and a 25-year
amortization schedule and the second mortgage debt would be refeinanced
with an 8.5% interest rate per annum and a 25-year amortization schedule,
with estimated refinancing costs of 1% of the refinanced amount being
added to the principal balance of the loan, since cash flow of PHLP was
estimated to be insufficient to pay such costs.
. Determination of Residual Value. To estimate the residual value of the
PHLP limited partners' interest in PHLP at the end of the 12-year period,
AAA assumed that the PHLP Hotels would be sold as of December 31, 2009 at
their then market value. AAA estimated the market value of each Hotel as
of such date by applying an exit capitalization rate that it deemed
appropriate, using the factors described above in connection with the "--
Appraised Value," which are set forth in the table below, to the
estimated Adjusted NOI for 2009 (estimated as described above). AAA then
subtracted estimated sales costs of 2.0% of the estimated market value,
added lender reserves, and subtracted the estimated outstanding principal
balance of debt as of December 31, 2009 and deferred management fees to
arrive at net sales proceeds available for distribution to partners. AAA
then determined what portion of such estimated net sales proceeds would
be distributable to PHLP's limited partners under the various partnership
and debt agreements.
PHLP Supp - 12
<PAGE>
. Discounting Distributions to Present Value. As a final step, AAA
discounted the estimated future cash distributions to PHLP's limited
partners from operations and estimated net sales proceeds to their
present value as of January 1, 1998, using a discount rate of 20% per
annum. AAA believes that this discount rate reflects the return on
investment that investors expect from leveraged investments of this
nature.
The growth rate and exit capitalization rate used to determine the
estimated Continuation Value for PHLP are as set forth below:
GROWTH RATE, EXIT CAPITALIZATION RATE
AND ESTIMATED CONTINUATION VALUE FOR PHLP
<TABLE>
<CAPTION>
ESTIMATED
CONTINUATION VALUE
GROWTH RATE EXIT CAPITALIZATION RATE (2009) (PER PARTNERSHIP UNIT)
----------- ------------------------------ ----------------------
<S> <C> <C>
3.6% 10.1% $5,040
</TABLE>
Liquidation Value. The Liquidation Value of PHLP was estimated by the
General Partner and represents the estimated value of PHLP if all of its assets
were sold as of December 31, 1998. Such value was based upon the Adjusted
Appraised Value of PHLP, with the following adjustments: (i) the "mark to
market" adjustment used to estimate the Adjusted Appraised Value was eliminated
and instead prepayment or defeasance costs that would be payable under existing
debt agreements (regardless of whether the debt in fact can be prepaid on
December 31, 1998) were deducted from the Appraised Value; and (ii) the
deduction for transfer and recordation taxes used to estimate the Adjusted
Appraised Value was eliminated and instead an amount equal 2.5% of the Appraised
Value of PHLP's Hotel(s) was subtracted from the Appraised Value for estimated
liquidation costs, expenses and contingencies. The General Partner then
determined the portion of the estimated Liquidation Value that would be
distributable to PHLP's limited partners under the terms of the partnership
agreement and other contractual arrangements.
The following table sets forth the adjustments made to the Adjusted
Appraised Value to estimate the Liquidation Value of PHLP as of the Initial
Valuation Date:
CALCULATION OF ESTIMATED LIQUIDATION VALUE OF PHLP
AS OF THE INITIAL VALUATION DATE
(IN THOUSANDS, EXCEPT PER PARTNERSHIP UNIT AMOUNT)
<TABLE>
<CAPTION>
<S> <C>
Appraised Value $ 265,800
Mortgage debt (161,136)
Other debt (128,102)
Deferred management fees (34,151)
Deferred maintenance costs (5,212)
Sales costs (6,645)
Estimated Liquidation Value $ (69,446)
=========
Limited partners' share $ 0
Per Partnership Unit $ 0
</TABLE>
Estimated Exchange Value. The following table sets forth the estimated
Exchange Value of PHLP (based upon the Appraised Values of PHLP's Hotels as of
March 1, 1998 and the estimated adjustments described above) and the estimated
Note Election Amount for PHLP, all on a per Partnership Unit basis. The
estimated Exchange Value for PHLP (which will be received by each PHLP Limited
Partner retaining OP Units in the Merger) is equal to its Continuation Value.
The estimated Note Election Amount for PHLP (which will be received by PHLP
Limited Partners electing to receive Notes in exchange for OP Units) is equal
to 60% of the Exchange Value for PHLP. The estimated values set forth below may
increase or decrease as a result of various adjustments, which will be finally
calculated as of the Final Valuation Date but will not change as a result of
less than all of the Partnerships participating in the Mergers.
<PAGE>
ESTIMATED EXCHANGE VALUE OF PHLP
PER PARTNERSHIP UNIT(1)
<TABLE>
<CAPTION>
ESTIMATED ESTIMATED ESTIMATED ESTIMATED ESTIMATED
ADJUSTED APPRAISED CONTINUATION LIQUIDATION EXCHANGE NOTE ELECTION
VALUE VALUE VALUE VALUE(2) AMOUNT(3)
------------------ ------------- ------------- --------- --------------
<S> <C> <C> <C> <C>
$ 0 $5,040 $0 $5,040 $3,024
</TABLE>
_________________
(1) A Partnership Unit in PHLP represents an original investment of $10,000.
(2) The estimated Exchange Value is equal to the greatest of estimated Adjusted
Appraised Value, estimated Continuation Value and estimated Liquidation
Value.
(3) The principal amount of Notes is equal to the greater of (i) the
Liquidation Value or (ii) 60% of the Exchange Value (the "Note Election
Amount").
Valuation of OP Units Allocated to PHLP's Limited Partners. Each PHLP
Limited Partner will receive OP Units with a deemed value equal to the Exchange
Value of such PHLP Limited Partner's Partnership Interests. The value of an OP
Unit for this purpose will be deemed to be equal to (i) the average of the
closing price of shares of Host common stock on the NYSE for the 10 trading days
ending on the third trading day prior to the record date for the distribution of
SLC common stock to Host shareholders minus (ii) the amount of cash and the
estimated value, as determined by Host's Board of Directors in good faith and in
reliance in part upon an opinion of an independent financial advisor, of the SLC
common stock or other property to be distributed with respect to each share of
Host common stock (currently estimated to aggregate approximately $___ - $____
per share) in connection with the REIT Conversion. The closing price per share
of Host common stock on May 28, 1998 was $19.4375.
PHLP Limited Partners who receive OP Units will receive cash distributions
from PHLP for all of 1998 and, if the Merger does not occur in 1998, any portion
of 1999 prior to the Merger for which period they do not receive a cash
distribution from the Operating Partnership.
No fractional OP Units will be issued. Fractional amounts less than or
equal to 0.50 of an OP Unit will be rounded down to the next whole number and
fractional amounts greater than 0.50 will be rounded up to the next whole number
of OP Units.
PHLP Supp - 13
<PAGE>
Cash Distributions
Historical Cash Distributions Paid by PHLP. PHLP has never paid any cash
distributions to its Limited Partners.
Compensation and Distributions to the General Partner. Under PHLP's
partnership agreement, the General Partner does not receive fees or compensation
in connection with managing the affairs of PHLP but the General Partner and its
affiliates are reimbursed for certain costs and expenses incurred on behalf of
PHLP. The following information has been prepared to compare the amount of
reimbursements paid and cash distributions made by PHLP to the General Partner
and its affiliates to the amounts that would have been paid if the reimbursement
and distribution structure which will be in effect after the REIT Conversion had
been in effect for the periods presented.
Following the REIT Conversion, Host REIT will be operated as a self-
administered REIT and as a result no reimbursements or other compensation will
be received by the General Partner.
During the First Quarter 1998 and fiscal years 1997, 1996 and 1995 amounts
actually paid by PHLP to the General Partner are shown below under "Historical"
and the estimated amounts that would have been paid had the REIT Conversion been
in effect for the periods presented (assuming the Full Participation Scenario)
are shown under "Pro Forma."
Historical and Pro Forma Reimbursements and Distributions
to the General Partner and its Affiliates
(in thousands)
<TABLE>
<CAPTION>
First Quarter Fiscal Year
--------------- ---------------------------------------
1998 1997 1996 1995
---- ---- ---- ----
<S> <C> <C> <C> <C>
Historical
Principal and interest
payments on loans $ 5,350 $ 9,845 $ 9,358 $ 11,820
Reimbursements 103 259 218 88
Distributions -- -- -- --
---------- ---------- --------- ----------
Total Historical $ 5,453 $ 10,104 $ 9,576 $ 11,908
========== ========== ========= ==========
Pro Forma
Reimbursements $ -- $ -- $ -- $ --
Distributions attributable to Units/(1)/ N/A N/A N/A N/A
---------- ---------- --------- ----------
Total Pro Forma $ -- $ -- $ -- $ --
========== ========== ========= ==========
</TABLE>
- -----------
(1) The OP Units to be received by Host in connection with the REIT Conversion
will be equal to the number of shares of Host's common stock outstanding
and not allocated based upon its interest in any of the Partnerships,
including PHLP. Thus, the distributions received by Host and its
affiliates by way of their interests in the Partnerships, including PHLP,
cannot be determined on a pro forma basis.
PHLP Supp - 14
<PAGE>
Certain Information Regarding the Hotels Owned by PHLP
<TABLE>
<CAPTION>
Number of Date
Name of Hotel Location of Hotel Rooms Opened
- ------------- ----------------- --------- ------
<S> <C> <C> <C>
Albuquerque Marriott Hotel Albuquerque, NM 411 1982
Greensboro-High Point Marriott Hotel Greensboro, NC 299 1983
Houston Marriott Medical Center Hotel Houston, TX 386 1984
Marriott Mountain Shadows Resort Scottsdale, AZ 337 1959
Miami Biscayne Bay Hotel Miami, FL 605 1983
Raleigh Marriott Hotel Raleigh, NC 375 1982
Seattle Sea-Tac Airport Marriott Hotel Seattle, WA 459 1981
Tampa Westshore Marriott Hotel Tampa, FL 310 1981
-----
TOTAL 3,182
=====
</TABLE>
The table below sets forth certain performance information for PHLP's
Hotels for the indicated periods.
<TABLE>
<CAPTION>
First Quarter Fiscal Year
---------------------------- -----------------------------------------------
1998 1997 1997 1996 1995/(1)/
---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Average daily rate .............. $ 125.99 $ 115.67 $ 105.40 $ 95.98 $ 94.86
Occupancy ....................... 81.1% 84.0% 78.5% 79.4% 79%
REVPAR .......................... $ 102.18 $ 97.16 $ 82.74 $ 76.21 $ 74.94
% REVPAR change ................. 5.2% -- 8.6% 1.7% --
</TABLE>
- ---------
(1) 1995 information includes statistics on one Dallas hotel which was sold on
August 22, 1995. The % REVPAR change for 1995 is not shown as the Point
Clear and Tampa Hotels were foreclosed upon and the Tampa and Raleigh
Hotels were subsequently purchased in 1994 making 1994 and 1995 information
incomparable.
Albuquerque Marriott Hotel, Albuquerque, New Mexico
The Albuquerque Marriott Hotel is located on a leased parcel of land of
approximately six acres in the northeastern suburbs of Albuquerque in a
residential, office and commercial development called Uptown.
The Hotel, which opened in July 1982, consists of a 16-story guest room
tower. The facilities include 411 guest rooms, two restaurants, one lobby bar
and cocktail service in the lobby. There is approximately 13,800 square feet of
space for conventions and banquets. Parking is provided for approximately 500
cars. In addition, the Hotel offers an indoor/outdoor pool, hydrotherapy pool,
sauna, health club and gift shop.
Competition. Studies indicate that currently six hotels with
approximately 1,800 rooms directly compete with the Albuquerque Marriott Hotel
in the Albuquerque market.
Ground Lease. The Hotel site is subject to a ground lease with an
initial term expiring in July 2032 and with three renewal options of 10 years
each. The ground lease provides for annual rent equal to the greater of (i) 3.5%
of annual gross room sales or (ii) $155,000 for the first 10 years and $165,000
thereafter during the initial term of the lease. For periods subsequent to the
initial term of the lease, annual rent will equal the greatest of (i) 3.5% of
annual gross room sales, (ii) $165,000 or (iii) 10% of the fair market value of
the land, determined in each case as of each renewal date of the lease.
Greensboro-High Point Marriott Hotel, Greensboro, North Carolina
PHLP Supp - 15
<PAGE>
The Greensboro-High Point Marriott Hotel is located on approximately 15
acres of leased land on the grounds of the Greensboro-High Point Regional
Airport which serves the cities of Greensboro, High Point and Winston-Salem.
The Hotel, which opened in June 1983, is a six-story tower containing
299 guest rooms including a concierge floor, two restaurants, a lounge and
approximately 9,000 square feet of space for banquets and conventions. Parking
for 500 cars is provided. In addition, the Hotel has two lighted tennis courts,
an indoor/outdoor pool with a 1,200-square foot deck for banquet functions, a
hydrotherapy pool, a gift shop, and a health club.
Competition. Studies indicate that currently three hotels containing
approximately 1,500 rooms directly compete with the Greensboro-High Point
Marriott Hotel in the Greensboro market.
Ground Lease. The Hotel site is subject to a ground lease from the
Greensboro-High Point Airport Authority with an initial term expiring in June
2008 and with an option to extend for an additional 15 years. Additional renewal
options totaling 20 years are available if the Hotel is expanded to 500 rooms.
The lease calls for an annual rent equal to the greater of (i) 2.25% of the
annual gross room sales plus 2% of the annual gross alcoholic beverage sales
plus 1% of the annual gross food sales or (ii) $127,000.
During the first extended term, the percentage rental for the annual
gross room sales will be increased to 3% and, if on the first day of the
extended term the Hotel contains fewer than 400 rooms, the percentage rentals
for alcoholic beverage and food sales will increase to 2.5% and 1.25%,
respectively.
Houston Marriott Medical Center Hotel, Houston, Texas
The Houston Marriott Medical Center Hotel is located in the Texas
Medical Center in Houston, Texas, on a leased site of 23,670 square feet, and is
situated directly opposite the main building of the Methodist Hospital and
adjoins the Scurlock Towers which houses the Total Health Care Center of
Methodist Hospital and approximately 200 doctors' offices.
The Hotel, which opened in August 1984, includes 386 guest rooms, two
concierge floors, two restaurants and a lounge. There is approximately 8,500
square feet of space with facilities for conventions and banquets. Parking is
available for approximately 380 cars in an adjacent parking structure.
Additional facilities within the Hotel include an indoor pool, a hydrotherapy
pool, a gift shop and a health club.
Competition. Studies indicate that currently six hotels containing
approximately 1,600 rooms directly compete with the Houston Marriott Medical
Center Hotel in the Houston market.
Ground Lease. The land on which the Hotel is located is subject to a
ground lease with an initial term expiring in August 2009 with five 10-year
renewal options. The lease provides for annual rental equal to the greater of
(i) $160,000 or (ii) 3% of the first $15 million of annual gross room sales plus
3.25% of annual gross room sales in excess of $15 million.
Marriott's Mountain Shadows Resort, Scottsdale, Arizona
The Mountain Shadows Resort Hotel is located on approximately 25 acres
of fee-owned land in Scottsdale, approximately 10 miles north of the Phoenix Sky
Harbor International Airport. Host Marriott owns land adjacent to the site, on
which an 18-hole executive-style golf course is located.
Mountain Shadows opened in 1959 and was acquired by PHLP in 1982. A
major renovation program was completed in 1983. The Hotel contains 337 guest
rooms as well as three pools, two hydrotherapy pools, eight lighted tennis
courts and a fitness center. Hotel guests have full privileges at the Mountain
Shadows Golf Club which offers an 18-hole executive-style golf course. In
addition, guests of the Hotel have access to the Camelback Inn Country Club
owned by Marriott International (which is approximately two miles from the Hotel
and offers two 18-hole championship golf courses) and the Camelback Inn spa
located on the Camelback
PHLP Supp - 16
<PAGE>
Inn resort grounds. Dining facilities at the Hotel include a family restaurant,
a specialty seafood restaurant and an outdoor terrace. The Hotel's restaurants
can accommodate seating for 430. In addition, the Mountain Shadows Golf Club
offers a restaurant/snack bar, bar and patio area. The Hotel has more than
15,000 square feet of space for conventions and banquets. Parking is available
for approximately 740 cars.
Competition. Studies indicate that currently five hotels containing
approximately 1,500 rooms directly compete with Marriott's Mountain Shadows
Resort in the Scottsdale market.
Miami Biscayne Bay Hotel, Miami, Florida
The Miami Biscayne Bay Hotel is located on a leased parcel of land of
approximately 1.9 acres plus space and facilities in an adjacent building in a
residential and commercial project located on Biscayne Bay in downtown Miami.
The Hotel, which opened in December 1983, is a 31-story tower which has
605 guest rooms, one restaurant, an indoor lounge and cocktail service in the
lobby. Approximately 14,000 square feet of space with facilities for conventions
and banquets is available. Parking is provided for 288 cars. In addition, the
Hotel has an outdoor pool, a recreation deck, a game room, a gift shop and a
health club.
Competition. Studies indicate that currently five hotels containing
approximately 2,500 rooms directly compete with the Miami Biscayne Bay Hotel in
the Miami market.
Ground Lease. The Hotel site is subject to a ground lease with an
initial term expiring in December 2008, with renewal options for five successive
10-year periods. The lease calls for annual rental of the greater of (i) $1.0
million or (ii) 4% of annual gross room sales plus 3% of annual gross food and
beverage sales.
Raleigh Marriott Hotel, Raleigh, North Carolina
The Raleigh Marriott Hotel is located on approximately 10 acres of
fee-owned land at the entrance to Crabtree Valley Mall in northwest Raleigh. The
Raleigh-Durham Airport and the Research Triangle Park are located 10 and 17
miles west of the site, respectively. Downtown Raleigh is two miles east of the
site.
The Hotel, which opened in March 1982, includes 375 guest rooms, one
restaurant, a cocktail lounge and approximately 8,300 square feet of space for
conventions and banquets. Parking for approximately 571 cars is provided. In
addition, the Hotel offers an indoor/outdoor pool, a concierge lounge, sauna and
hydrotherapy facilities, a health club and a gift shop.
Competition. Studies indicate that currently three hotels with
approximately 900 rooms directly compete with the Raleigh Marriott Hotel in the
Raleigh market.
Seattle Marriott Hotel Sea-Tac Airport, Seattle, Washington
The Seattle Marriott Hotel is located on nine acres of fee-owned land
near the entrance to the Seattle-Tacoma International Airport. The Hotel is
approximately ten miles from downtown Seattle and approximately three miles from
Interstate 5, the major north-south route through Washington.
The Hotel, which opened in January 1981, consists of a nine-story tower
and three five-story wings surrounding a landscaped atrium. The facilities
include 459 guest rooms, a restaurant, an atrium cocktail service bar, three
ballrooms totaling 18,500 square feet, and meeting and conference rooms. In
addition, the Hotel has two hydrotherapy pools, a health club, a sauna, an
indoor pool, a gift shop, a game room and parking for 550 cars.
Competition. Studies indicate that currently four hotels containing
approximately 1,500 rooms directly compete with the Seattle Marriott Hotel
Sea-Tac Airport in the Seattle market.
PHLP Supp - 17
<PAGE>
Tampa Westshore Hotel, Tampa, Florida
The Tampa Westshore Hotel is located on a leased parcel of land of
approximately seven acres in a major office development just off I-75 on North
Westshore Boulevard. The Hotel is approximately two miles from the Tampa
International Airport and five miles from downtown Tampa.
The Hotel, which opened in July 1981, consists of a 13-story hotel
tower, a one-and-one-half story lobby and meeting space. The facilities include
310 guest rooms, a restaurant, a sports bar, a concierge lounge and
approximately 8,400 square feet of space for conventions and banquets. Parking
for more than 400 cars is provided. In addition, the Hotel has an indoor/outdoor
pool, a hydrotherapy pool, a health club, a game room, and a gift shop.
Competition. Studies indicate that currently 11 hotels containing
approximately 3,200 rooms directly compete with the Tampa Westshore Hotel in the
Tampa market.
Ground Lease. The Hotel is subject to a ground lease with an initial
term expiring in July 2006 with five 10-year renewal options. The lease provides
for a percentage rent equal to the greater of (i) 3% of gross room sales plus 1%
of gross food sales plus 1% of gross alcoholic beverage sales or (ii) $96,000
per year.
Amendments to PHLP's Partnership Agreement
In order to allow the Hotels of PHLP to be leased to SLC in connection
with the Merger and the REIT Conversion, PHLP's partnership agreement must be
amended. Currently, there is no provision in PHLP's partnership agreement to
allow PHLP's Hotels to be leased. Therefore, Section 5.02B of PHLP's partnership
agreement must be amended to amend and restate paragraph 5.02B(ii) to read as
follows:
(vi) sell, lease or otherwise dispose of (or consent to the sale,
lease or other disposition of), directly or indirectly, in one
transaction or a series of related transactions any or all of
the Hotels.
Other Amendments. Amendments to certain terms and sections of PHLP's
----------------
partnership agreement would be made in order to (i) delete certain obsolete
references to entities and agreements that are no longer in existence, (ii)
update PHLP's partnership agreement to reflect the passage of time since the
formation of PHLP and (iii) make any other amendments to PHLP's partnership
agreement deemed necessary or advisable, in the sole discretion of the General
Partner, in connection with the consummation of the Mergers and the REIT
Conversion. The General Partner does not believe that these amendments would
affect the rights of the PHLP Limited Partners in any material respect nor the
duties and obligations of the General Partner. These changes are included, along
with the other proposed amendments, in the copy of PHLP's partnership agreement,
as proposed to be amended, which is attached hereto. The amended PHLP
partnership agreement is marked to indicate the revisions made to the existing
PHLP partnership agreement and should be read in its entirety. Deleted
provisions are contained in brackets and struck through and added provisions are
in bold type and underlined.
The vote required for such amendment is a majority of the outstanding
limited partnership interests. The General Partner owns .06% of the limited
partnership interests and may vote such interests in connection with the
amendments.
THE GENERAL PARTNER RECOMMENDS THAT PHLP LIMITED PARTNERS VOTE TO
APPROVE THE REQUESTED AMENDMENTS TO PHLP'S PARTNERSHIP AGREEMENT.
FAIRNESS
FAIRNESS ANALYSIS
The General Partner believes that the terms of the Merger provide
substantial benefits and are fair to the Limited Partners of PHLP and recommends
that all Limited Partners of PHLP consent to the Merger. The General Partner
bases this recommendation primarily on (i) its view that the expected benefits
of the Merger for the PHLP Limited Partners outweigh the risks and potential
detriments of the Merger to the PHLP Limited Partners (see "Background and
Reasons for the Mergers and the REIT Conversion -- Reasons for the Mergers" and
"Risk Factors"), (ii) its view that the value of the OP Units allocable to the
PHLP Limited Partners on the basis of the Exchange Value established for PHLP
represents fair consideration for the Partnership Interests held by the PHLP
Limited Partners and is fair to the PHLP Limited Partners from a financial point
of view, and (iii) the Fairness Opinion of AAA stating that (a) the
methodologies and underlying assumptions used to determine the Exchange Value,
the Adjusted Appraised Value, the Continuation Value and the Liquidation Value
of PHLP and each other Partnership, including, without limitation, the
assumptions used to determine the various adjustments to the Appraised Values of
the Hotels, are fair and reasonable, from a financial point of view, to the
Limited Partners of PHLP and each other Partnership and (b) the methodologies
used to determine the value of an OP Unit and to allocate the equity interest in
the Operating Partnership to be received by the PHLP Limited Partners and the
Limited Partners of each Other Partnership are fair and reasonable to the PHLP
Limited Partners and the Limited Partners of each other Partnership.
PHLP Supp - 18
<PAGE>
The Merger is not conditioned upon the consummation of the other Mergers.
The General Partner has considered this fact in evaluating the fairness of the
Merger. The General Partner believes that the fairness of the Merger will not
be materially affected by the presence or absence of any other individual
Partnership or by any particular combination of other Partnerships and that the
Merger will be fair to the PHLP Limited Partners, individually and as a whole,
if it is consummated with any combination of other Participating Partnerships.
The General Partner bases this belief primarily on the fact that the
consideration to be paid to the PHLP Limited Partners has been established based
upon PHLP's Exchange Value, without regard to any possible combination of other
Partnerships.
In reaching the conclusions implicit in the above recommendation, the
General Partner has taken into account the following considerations:
. The General Partner has concluded that the Exchange Value for PHLP,
which is equal to the greatest of its Adjusted Appraised Value,
Continuation Value and Liquidation Value, represents fair
consideration for the Partnership Interests of the PHLP Limited
Partners in the Merger in relation to PHLP. The General Partner also
has concluded that the Exchange Value established for the PHLP Limited
Partners fairly reflects the value of the assets held by PHLP. In
addition, the Fairness Opinion supports these conclusions.
. The General Partner has concluded that the potential benefits of the
Merger to the PHLP Limited Partners, as described under "Background
and Reasons for the Mergers and the REIT Conversion -- Reasons for the
Mergers," outweigh the potential risks and detriments of the Merger
for the PHLP Limited Partners, as described in "Risk Factors."
. The Fairness Opinion, in the view of the General Partner, supports the
fairness of the Merger, even though it includes qualifications,
limitations and assumptions relating to its scope and other factors
that PHLP Limited Partners should consider carefully.
. Host will contribute its wholly owned full-service hotel assets, its
interests in the Hotel Partnerships and its other assets (excluding
its senior living assets) to the Operating Partnership in exchange for
(i) a number of OP Units equal to the number of outstanding shares of
common stock of Host, (ii) preferred partnership interests in the
Operating Partnership corresponding to any shares of Host preferred
stock outstanding at the time of the REIT Conversion and (iii) the
assumption by the Operating Partnership of certain liabilities of
Host. Following these contributions, the Operating Partnership and its
subsidiaries will directly own all of Host's wholly-owned hotels and
all of Host's interests in the Hotel Partnerships and other assets.
Host REIT will not receive any compensation for its services as
general partner to the Operating Partnership following the REIT
Conversion and will benefit from the operations of the Operating
Partnership only to the extent of the distributions received based
upon its percentage interest in the Operating Partnership to the same
extent as the other limited partners. Because Host REIT will share in
the value of the Operating Partnership solely through distributions
and not through any separate compensation structure, the General
Partner believes that this is a factor supporting the fairness of the
Merger to the PHLP Limited Partners.
. The General Partner believes that the value of the consideration to be
received by the PHLP Limited Partners in the Merger is fair in
relation to the value which would be derived by such Limited Partners
under any of the alternatives described under "Background and Reasons
for the Mergers and the REIT Conversion -- Alternatives to the
Mergers," especially since the Exchange Value of PHLP is equal to its
Continuation Value. The General Partner does not believe that the
sale of any of PHLP's Hotels and liquidation of PHLP will obtain for
PHLP Limited Partners as much value as the value to be received by
such PHLP Limited Partners following the Merger. In addition, while
the Continuation Values of certain of the Partnerships, including
PHLP, are higher than the Adjusted Appraised Values of such
Partnerships, the General Partner believes that the Merger provides
substantial benefits to PHLP Limited Partners, including those
benefits described under "Background and Reasons for the Mergers and
the REIT Conversion--Reasons for the Mergers," especially enhanced
liquidity and regular quarterly cash distributions. The General
Partner believes that the following benefits are of the greatest value
and importance to the PHLP Limited Partners:
. Enhanced Liquidity. The Mergers and the REIT Conversion will
offer PHLP Limited Partners significantly enhanced liquidity
with respect to their investments in PHLP because, after the
expiration of the Initial Holding Period, PHLP Limited Partners
will be able to exercise their Unit Redemption Right at any
time, subject to certain limited exceptions. Host has
approximately 204 million shares of common stock outstanding
and the closing price on the NYSE on May 28, 1998 was $19.4375
per share (reflecting a total common equity market
capitalization of approximately $4 billion). The exercise of
the Unit Redemption Right, however, generally would result in
recognition of taxable income or gain at that time.
. Public Market Valuation. The General Partner believes that by
exchanging interests in PHLP a non-traded limited partnership
for interests in a publicly traded real estate company focused
primarily on a more diverse and growing full-service hotel
portfolio, the PHLP Limited Partners will have the opportunity
to participate in the recent trend of ownership of real estate
through a publicly traded entity, which, in many instances, has
resulted in market valuations of public real estate companies
in excess of the estimated net asset values of those companies.
. Regular Quarterly Cash Distributions. The General Partner
expects that the Operating Partnership will make regular
quarterly cash distributions to holders of OP Units.
. Substantial Tax Deferral. The General Partner expects that PHLP
Limited Partners who do not elect to receive Notes generally
should be able to obtain the benefits of the Merger while
continuing to defer recognition for federal income tax purposes
of at least a substantial portion, if not all, of the gain with
respect to their Partnership Interests that otherwise would be
recognized in the event of a liquidation of PHLP or a sale or
other disposition of its assets in a taxable transaction
(although PHLP Limited Partners may recognize a relatively
modest amount of ordinary income as the result of required
sales of personal property to a Non-Controlled Subsidiary in
order to facilitate Host REIT's qualification as a REIT).
PHLP Supp - 19
<PAGE>
. The General Partner believes that the economic terms of the leases of
the PHLP Hotels are fair and reasonable from the standpoint of the
Operating Partnership.
The General Partner believes that the factors described above, which
support the fairness of the Merger to the PHLP Limited Partners, when weighed
against the factors that may be disadvantageous, taken as a whole, indicate that
the Merger is fair to the PHLP Limited Partners.
AAA, an independent financial advisory firm with substantial real estate
and partnership transaction experience, was engaged by the General Partner and
the other General Partners to perform the Appraisals and to render the Fairness
Opinion that (i) the methodologies and underlying assumptions used to determine
the Exchange Value, the Adjusted Appraised Value, the Continuation Value and the
Liquidation Value of PHLP and each other Partnership, including, without
limitation, the assumptions used to determine the various adjustments to the
Appraised Values of the Hotels, are fair and reasonable, from a financial point
of view, to the PHLP Limited Partners and the Limited Partners of each other
Partnership, and (ii) the methodologies used to determine the value of an OP
Unit and to allocate the equity in the Operating Partnership to be received by
the PHLP Limited Partners and the Limited Partners of each Partnership are fair
and reasonable to the PHLP Limited Partners and the Limited Partners of each
other Partnership. The Fairness Opinion is addressed to each Partnership and it
may be relied upon by each of the PHLP Limited Partners and the Limited Partners
of the other Partnerships. The full text of the Fairness Opinion, which
contains a description of the assumptions and qualifications applicable to the
review and analysis by AAA, is set forth in Appendix B to the Consent
Solicitation and should be read in its entirety. The material assumptions and
qualifications to the Fairness Opinion are summarized below, although this
summary does not purport to be a complete description of the various inquiries
and analyses undertaken by AAA in rendering the Fairness Opinion. Arriving at a
fairness opinion is a complex analytical process not necessarily susceptible to
partial analysis or amenable to summary description. For a more complete
description of the assumptions and qualifications that limit the scope of the
Fairness Opinion, see " Qualifications to Fairness Opinion" and " Assumptions"
below.
Although the General Partner advised AAA that certain assumptions were
appropriate in its view, the General Partner imposed no conditions or
limitations on the scope of the investigation by AAA or the methods and
procedures to be followed by AAA in rendering the Fairness Opinion. The fees
and expenses of AAA will be treated as a Merger Expense and will be paid by the
Operating Partnership. In addition, the General Partner has agreed to indemnify
AAA against certain liabilities. See "-- Compensation and Material
Relationships."
QUALIFICATIONS TO FAIRNESS OPINION. In the Fairness Opinion, AAA
specifically states that it did not: (a) specifically consider other
methodologies for allocation of the OP Units, (b) address or conclude that other
methodologies for allocation of the OP Units to PHLP and the other Partnerships
might not have been more favorable to the Limited Partners in certain of the
Partnerships, (c) negotiate with PHLP, the other Partnerships or Host,
(d) participate in establishing the terms of the Merger and the other Mergers,
(e) provide an opinion as to the terms and conditions of the Merger and the
other Mergers other than those explicitly stated in the Fairness Opinion, (f)
make any independent review of the capital expenditure estimates set forth in
the Engineering Study, (g) make any estimates of PHLP's and each other
Partnership's contingent liabilities.
In connection with preparing the Fairness Opinion, AAA was not engaged to,
and consequently did not, prepare any written report or compendium of its
analysis for internal or external use beyond the analysis set forth in Appendix
B. AAA will not deliver any additional written opinion of the analysis, other
than to update the written opinion if requested by the Operating Partnership.
PHLP Supp - 20
<PAGE>
EXPERIENCE OF AAA. AAA is the world's largest independent valuation
consulting firm and is regularly and continually engaged in the valuation of
commercial real estate and businesses and their securities in connection with
tender offers, mergers and acquisitions, recapitalizations and reorganizations,
divestitures, employee stock ownership plans, leveraged buyout plans, private
placements, limited partnerships, estate and corporate matters, other financial
advisory matters and other valuation purposes.
AAA was selected because of its experience in the valuation of businesses
and their securities in connection with tender offers, mergers and acquisitions,
recapitalizations and reorganizations, including transactions involving hotel
partnerships. In addition, Host and its affiliates have previously engaged AAA
to provide appraisals and fairness opinions in connection with other
transactions. The General Partner and the other General Partners considered
several other firms for purposes of performing the appraisals and rendering the
Fairness Opinion, but selected AAA for the foregoing reasons.
SUMMARY OF MATERIALS CONSIDERED AND INVESTIGATION UNDERTAKEN. As a basis
for rendering for Fairness Opinion, AAA has made such reviews, studies and
analyses as it deemed necessary and pertinent in order to provide it with a
reasonable basis for the Fairness Opinion, including, but not limited to, the
following: (i) reviewed the transaction documents and SEC reporting and/or
filing documents, including drafts of the Form S-4 for the Mergers; (ii)
provided the Market Value of each Hotel owned by each Partnership in a separate
short form appraisal report and each such report was reviewed and certified by
an MAI appraiser as to its preparation in accordance with the requirements of
the Standards of Professional Practice of the Appraisal Institute and the
Uniform Standards of Professional Appraisal Practice of the Appraisal
Foundation; as part of the Appraisals, AAA reviewed historical operating
statements, 1998 budget and year-to-date results, and other financial
information as it deemed necessary as a basis for the Fairness Opinion and the
Appraisals also considered market transactions of similar lodging properties as
appropriate as a basis for the Market Value of each Hotel; (iii) reviewed the
methodologies used by each of the General Partners in their determination of the
Exchange Value of each Partnership, including the nature and amount of all
adjustments to the Appraised Values in determining such Exchange Values; AAA
reviewed and tested for the fairness and reasonableness of all adjustments as
well as for consideration of all adjustments deemed to be appropriate by AAA;
(iv) reviewed the methodologies used by each of the General Partners in their
determination of the value of an OP Unit and the allocation of the equity
interest in the Operating Partnership to be received by the limited partners of
each Partnership, and AAA reviewed and tested for the fairness and
reasonableness of the methods and measurements made by the General Partners; (v)
reviewed the General Partners' determination of the Liquidation Value of each
Partnership, and AAA reviewed and tested for the fairness and reasonableness of
all adjustments proposed by the General Partners, as well as for consideration
of all adjustments deemed appropriate by AAA; (vi) provided an estimate of the
Continuation Value of each Partnership based upon the estimated present value of
expected benefits to be received by each limited partner interest as though the
Mergers did not occur and each Partnership's assets were sold within a twelve
year period; AAA, as part of its analysis and review, determined appropriate
rates of growth in house profit or net operating income, as well as reviewed
other key variables affecting partnership cash flows and other
economic/financial factors affecting the Partnerships' expected operations and
results;(vii) reviewed the terms of the ground leases of the Hotels and the
partnership agreement of each Partnership; (viii) reviewed audited and unaudited
historical income statements, balance sheets and statements of sources and uses
of funds of each Partnership and Host and pro forma financial information for
Host REIT; (ix) reviewed audited and unaudited historical operating statements
of each Hotel, as well as current operating statements and budgets; (x)
conducted real estate valuation and financial due diligence with respect to the
Partnerships and their underlying assets, liabilities and equity; (xi) reviewed
internal Marriott International, Host and Partnership financial analyses and
other internally generated data for each Hotel; and (xii) discussed all of the
foregoing information, where appropriate, with management of Marriott
International, Host and the Partnerships, and their respective employees.
ASSUMPTIONS. In rendering its opinion, AAA relied, without independent
verification, on the accuracy and completeness in all material respects of
certain relevant publicly available information and information provided to AAA
by the Host and the Hotels. AAA assumed that all information furnished by Host,
the Hotels and the Partnerships and their representatives, upon which AAA
relied, presented and accurate description in all material respects of the
current and prospective status of the Hotels and the Partnerships from an
operational and financial point of view. AAA also noted that the Fairness
Opinion was based upon financial, economic, market and other considerations as
they existed and could be evaluated on the date thereof.
PHLP Supp - 21
<PAGE>
CONCLUSIONS. AAA concluded that, based upon and subject to its analysis
and assumptions and limiting conditions, and as of the date of the Fairness
Opinion: (i) the methodologies used to determine the Exchange Value, the
Adjusted Appraised Value, the Continuation Value and the Liquidation Value each
Partnership, including, without limitation, the assumptions used to determine
the various adjustments to the Appraised Values of each of the Hotels, are fair
and reasonable, from a financial point of view, to the PHLP Limited Partners and
the Limited Partners of each Partnership, and (ii) the methodologies used to
determine the value of an OP Unit and to allocate the equity interest in the
Operating Partnership to be received by the PHLP Limited Partners and the
Limited Partners of each Partnership are fair and reasonable to the Limited
Partners of each Partnership.
COMPENSATION AND MATERIAL RELATIONSHIPS. AAA has been paid a fee of
$________ for its services as described herein, including the Appraisals and
preparing to deliver the Fairness Opinion. In addition, AAA will be reimbursed
for all reasonable out-of-pocket expenses, including legal fees, and will be
indemnified against certain liabilities, including certain liabilities under the
securities laws. The fee was negotiated between Host, the General Partners and
AAA. Payment of the fee to AAA is not dependent upon completion of the Mergers.
AAA has been previously engaged by Host and its affiliates to provide fairness
opinions in connection with other transactions.
Voting Procedures
The consent of PHLP Limited Partners holding more than 50% of the
outstanding limited partnership interests is required for participation in the
Merger. The General Partner holds 0.06% of the outstanding limited partnership
interests. The General Partner may vote is limited partnership interests in
connection with the Merger.
A PHLP Limited Partner may mark the Consent Form to vote "FOR,"
"AGAINST" or "ABSTAIN" with respect to participation in the Merger by PHLP. The
failure of a PHLP Limited Partner to vote will have the same effect as if such
Limited Partner had voted his Partnership Interests "AGAINST" the Merger. A
Consent Form that is properly signed but not marked will be voted FOR the
Merger. The voting procedures applicable to PHLP Limited Partners are set forth
in the Consent Solicitation under the heading "Voting Procedures -- Required
Vote and Other Conditions."
Federal Income Tax Considerations
In addition to the federal income tax considerations discussed in the
sections of the Consent Solicitation entitled "Federal Income Tax
Considerations" and "Risk Factors -- Federal Income Tax Risks," PHLP Limited
Partners should read carefully the following discussion of federal income tax
considerations applicable specifically to the PHLP Limited Partners. The
information included in this discussion is based upon various factual
assumptions and information which are believed by the Operating Partnership and
the General Partner to be reliable. However, some of these assumptions
inevitably will not materialize, and unanticipated events and circumstances will
occur. Therefore, there likely will be differences between the information
provided herein, including the numerical data and estimates, and actual results,
and the variations may be material and adverse.
Applicability of Tax Opinions
Hogan & Hartson L.L.P. ("Hogan & Hartson"), counsel to Host REIT, Host
and the Operating Partnership, has provided to Host REIT and the Operating
Partnership an opinion letter (substantially in the form of Appendix C to the
Consent Solicitation) as to certain federal income tax consequences to the
Operating Partnership and the PHLP Limited Partners resulting from the Mergers
and the REIT Conversion. The opinion letter is based upon certain assumptions
and certain representations provided by Host REIT, Host, the Operating
Partnership and the General Partners. These representations generally involve
factual matters relating to the organization, ownership and operations
(including the income, assets,
PHLP Supp - 22
<PAGE>
businesses, liabilities and properties) of the Partnerships and Hotels
contributed to the Operating Partnership by Host and the Blackstone Entities
prior to the Mergers and of Host REIT, the Operating Partnership and the Hotel
Partnerships following the Mergers and the REIT Conversion. In addition, on the
Closing Date, Hogan & Hartson expects to provide to Host REIT and the Operating
Partnership an opinion letter (substantially in the form of Appendix D to the
Consent Solicitation) as to the qualification and taxation of Host REIT as a
REIT under the Code following the REIT Conversion. See "Federal Income Tax
Considerations -- Summary of Tax Opinions" in the Consent Solicitation.
Each opinion provided by Hogan & Hartson in the opinion letter that is
substantially in the form of Appendix C to the Consent Solicitation is
applicable to the PHLP Limited Partners.
The opinions already rendered by Hogan & Hartson are based on the Code
and Treasury Regulations in effect on the date hereof, current administrative
interpretations and positions of the IRS and existing court decisions, and the
opinions to be rendered by Hogan & Hartson on the Closing Date will be based on
the same authorities as of the Closing Date. No assurance can be given that
future legislation, Treasury Regulations, administrative interpretations and
court decisions will not significantly change the law or the above conclusions
reached by counsel. In addition, any such change could apply retroactively to
transactions preceding the date of change. Moreover, opinions of counsel merely
represent counsel's best judgment with respect to the probable outcome on the
merits and are not binding on the IRS or the courts. Accordingly, even if there
is no change in applicable law, no assurance can be provided that such opinions
(which do not bind the IRS or the courts) will not be challenged by the IRS or
will be sustained by a court if so challenged. With the one exception described
below (see "-- Tax Consequences of the Merger -- Deemed Cash Distribution and
Resulting Taxable Gain") and in the Consent Solicitation under "Federal Income
Tax Considerations -- Tax Consequences of the Mergers -- IRS Ruling Request
Regarding Allocation of Partnership Liabilities," neither Host REIT, the
Operating Partnership nor the General Partners have requested or plan to request
any rulings from the IRS concerning the tax consequences of the Mergers or the
treatment of either the Operating Partnership or Host REIT subsequent to the
REIT Conversion.
Tax Consequences of the Merger
Overview. Hogan & Hartson has provided an opinion to the effect that,
--------
except for any gain attributable to the sale of personal property by PHLP to a
Non-Controlled Subsidiary in connection with the REIT Conversion, the Merger
will not result in the recognition of taxable gain or loss at the time of the
Merger to a PHLP Limited Partner (i) who does not exercise his Unit Redemption
Right on a date sooner than the date two years after the date of the
consummation of the Merger; (ii) who does not receive a cash distribution (or a
deemed cash distribution resulting from relief from liabilities, including as a
result of any repayment of the Mitsui Bank Debt) in connection with the Merger
or the REIT Conversion in excess of his aggregate adjusted basis in his PHLP
Partnership Units at the time of the Merger; (iii) who does not elect to receive
a Note in exchange for his OP Units in connection with the Merger (the "Note
Election"); (iv) who is not required to recognize gain by reason of the exercise
by another PHLP Limited Partner of his right to make the Note Election (which,
in counsel's opinion, described below, should not be the result of such
election); and (v) who does not have his "at risk" amount fall below zero as a
result of the Merger or the REIT Conversion. See "Federal Income Tax
Considerations -- Summary of Tax Opinions" in the Consent Solicitation.
With respect to the foregoing exceptions to nonrecognition treatment,
the Operating Partnership and the General Partner believe as follows: (i) a PHLP
Limited Partner who acquired his PHLP Partnership Units in the original offering
of such Partnership Units and who has held such Partnership Units at all times
since would not be considered to receive, as a result of the Merger, a
distribution (or a deemed cash distribution resulting from relief from
liabilities) that exceeds his aggregate adjusted basis in his PHLP Partnership
Units at the time of the Merger, and would not have his "at risk" amount fall
below zero as a result of the Merger, and (ii) a portion of the personal
property associated with six of the eight Hotels owned by PHLP will need to be
sold to a Non-Controlled Subsidiary in connection with the REIT Conversion,
which will result in the recognition of a relatively modest amount of income by
the PHLP Limited Partners. See "Federal Income Tax Considerations -- Tax
Consequences of the Mergers -- Overview" in the Consent
PHLP Supp - 23
<PAGE>
Solicitation and "Tax Allocations upon the Sale of Certain Personal Property
Associated with the PHLP Hotels" below.
With respect to the effects of a PHLP Limited Partner's election to
receive a Note in exchange for his OP Units in connection with the Merger, Hogan
& Hartson is of the opinion that, although the matter is not free from doubt, a
PHLP Limited Partner who does not elect to receive a Note in connection with the
Merger should not be required to recognize gain by reason of another PHLP
Limited Partner's exercise of such right. With respect to the exercise of a Unit
Redemption Right, Hogan & Hartson is of the opinion that it is more likely than
not that a PHLP Limited Partner's exercise of his Unit Redemption Right more
than one year after the date of consummation of the Merger but less than two
years after such date will not cause the Merger itself to be a taxable
transaction for the PHLP Limited Partner (or the other PHLP Limited Partners).
See "Federal Income Tax Considerations -- Summary of Tax Opinions" in the
Consent Solicitation. Opinions of counsel, however, do not bind the IRS or the
courts, and no assurances can be provided that such opinions will not be
challenged by the IRS or will be sustained by a court if so challenged.
Deemed Cash Distribution and Resulting Taxable Gain. With respect to
---------------------------------------------------
his PHLP Partnership Units, a PHLP Limited Partner will receive no actual cash
distribution in connection with the Merger but would be deemed to receive a cash
distribution in connection with the Merger to the extent that his share of
Operating Partnership liabilities immediately after the Merger and the REIT
Conversion is less than his share of PHLP liabilities immediately prior to the
Merger. For example, any repayment of the Mitsui Bank Debt or debt encumbering
other Hotels may result in a deemed cash distribution to the PHLP Limited
Partners. See "Federal Income Tax Considerations -- Tax Consequences of the
Mergers -- Relief from Liabilities/Deemed Cash Distribution" in the Consent
Solicitation. Even if the Mitsui Bank Debt or debt encumbering other Hotels is
not repaid or refinanced in connection with the Merger and the REIT Conversion,
a PHLP Limited Partner's share of indebtedness following the Merger and the REIT
Conversion may decrease in comparison to the Limited Partner's estimated
aggregate share of PHLP indebtedness as of December 31, 1998 (calculated based
on the assumption that the Merger did not occur) by reason of the manner in
which the debt allocation rules work when multiple assets with different levels
of leverage are consolidated into a single partnership. However, the prepayment
of indebtedness owed by PHLP to the General Partner or its affiliates in
connection with the Merger will not result in a deemed cash distribution to the
PHLP Limited Partners.
A PHLP Limited Partner, however, would recognize taxable gain as a
result of any deemed cash distribution only to the extent that the deemed cash
distribution were to exceed his adjusted tax basis in his PHLP Partnership Units
immediately prior to the Merger. As noted above, the Operating Partnership and
the General Partner believe, based upon and subject to the assumptions and other
limitations described below, that a PHLP Limited Partner who acquired his PHLP
Partnership Units in the original offering of such Partnership Units and has
held the Partnership Units at all times since the offering will have an adjusted
tax basis in excess of the deemed cash distribution that might occur in
connection with the Merger and the REIT Conversion. Therefore, such a PHLP
Limited Partner should not recognize gain due to such deemed cash distribution
resulting from the relief from liabilities in connection with the Merger and the
REIT Conversion.
The adjusted tax basis of a PHLP Limited Partner who did not acquire
his PHLP Partnership Units in the original offering of such Partnership Units or
who has not held his PHLP Partnership Units at all times since such offering
could vary materially from that of a PHLP Limited Partner who did so. If a PHLP
Limited Partner has an adjusted tax basis in his PHLP Partnership Units (per
PHLP Partnership Unit) that is substantially less than the adjusted tax basis of
a PHLP Limited Partner who acquired his PHLP Partnership Units in the original
offering of such Partnership Units and has held such Partnership Units at all
times since, he could (although it is unlikely) recognize gain due to any deemed
cash distribution resulting from the relief from liabilities in connection with
the Merger and the REIT Conversion.
The Mitsui Bank Debt currently matures in December 1998, but PHLP has
the right to extend the maturity of the debt to December 22, 1999. There can be
no assurance that either PHLP or the Operating Partnership could refinance the
Mitsui Bank Debt at maturity (whether extended or not) with mortgage
PHLP Supp - 24
<PAGE>
indebtedness secured only by the PHLP Hotels that would qualify as nonrecourse
liabilities allocable to the PHLP Limited Partners for purposes of determining
their adjusted tax basis in their partnership interests (either in PHLP or in
the Operating Partnership following the Merger). The Operating Partnership and
the General Partner believe, however, that PHLP will face the same, if not
greater, difficulties with regard to obtaining such refinancing if PHLP does not
participate in the Merger and that the Operating Partnership, given the
magnitude and diversity of its assets and the extent of its relationships with
lenders, may be in a better position than PHLP to obtain satisfactory
replacement financing. Moreover, the Operating Partnership's current long-term
financing strategy is to have as little debt as possible that is secured by
individual Hotels and to have as much debt as possible in the form of unsecured
debt, held either by the public or by institutional investors, which debt may or
may not be recourse to Host REIT, as general partner of the Operating
Partnership. In view of these considerations and the potential adverse
consequences to Limited Partners in certain Partnerships, including the PHLP
Limited Partners, the Operating Partnership has requested from the IRS a ruling
to the effect that such unsecured indebtedness of the Operating Partnership that
is issued initially to institutional investors and is not recourse to Host REIT
(i) would qualify as "nonrecourse liabilities" for purposes of Code Section 752,
(ii) to the extent the proceeds thereof are applied to repay existing
nonrecourse mortgage indebtedness secured by one or more Hotels (including the
Mitsui Bank Debt), would be considered to be "secured" by those Hotels for
purposes of allocating the liabilities for tax basis purposes (and thus would be
allocable, at least in substantial part, to the former Limited Partners in the
Partnership owning those Hotels, including the PHLP Limited Partners), and (iii)
would constitute "qualified nonrecourse financing" secured by such Hotels for
purposes of Code Section 465. The IRS has recently issued a ruling to that
effect to another taxpayer, and has indicated to the Operating Partnership's
representatives that it is favorably inclined to issue that ruling to the
Operating Partnership.
Each PHLP Limited Partner will gradually begin to recognize income over
the term of his ownership of OP Units (beginning, perhaps, in his first year of
ownership of OP Units) attributable to deemed cash distributions resulting from
the relief from liabilities, as the aggregate principal amount of nonrecourse
indebtedness encumbering (or deemed to encumber) the Hotels amortizes in
accordance with its terms. The Operating Partnership will make regular quarterly
cash distributions to the PHLP Limited Partners that may or may not be
sufficient to allow the PHLP Limited Partners to pay the federal and state
income tax owed on the income allocated to such Limited Partners by reason of
the amortization of the debt secured by the PHLP Hotels.
Even if PHLP does not participate in the Merger, the General Partner
has estimated that the PHLP Limited Partners will be required to recognize
intaxable year 1998 income of approximately $5,000 per PHLP Partnership Unit, as
of December 31, 1998, resulting, in part, from the amortization of the Mitsui
Bank Debt and the General Partner expects that PHLP will not make cash
distributions to the Limited Partners sufficient to pay such additional taxes.
Section 465(e) Recapture. As discussed in the Consent Solicitation, see
------------------------
"Federal Income Tax Considerations -- Tax Consequences of the Mergers -- Section
465(e) Recapture," the "at risk" rules of Section 465 of the Code generally
apply to limit the use of partnership losses by a partner. Under Section 465(e)
of the Code, a partner may be required to include in gross income, or
"recapture," losses previously allowed to such partner with respect to his
investment in a partnership if the amount for which the partner is "at risk" in
relation to his investment in the partnership is less than zero at the close of
the taxable year. The "at risk" rules generally do not apply to losses
attributable to real property placed in service prior to January 1, 1987 by the
taxpayer or to losses attributable to a partnership in which the taxpayer
acquired his interests before that date (the "grandfather" rule). Thus, the "at
risk" rules have not been applicable to date to those PHLP Limited Partners who
acquired their Partnership Units at the time of the original offering in July of
1982 or at any time prior to January 1, 1987 and who have held those Partnership
Units since the date of the acquisition. The PHLP Limited Partners, however,
will become subject to the "at risk" rules as a result of the Merger and their
receipt of OP Units in connection therewith (since the OP Units do not qualify
for the "grandfather" rule).
It is possible that the consummation of the Merger and the REIT
Conversion or the repayment of certain "qualified nonrecourse financing" of the
Operating Partnership, the Hotel Partnerships or the Hotels
PHLP Supp - 25
<PAGE>
contributed to the Operating Partnership by the Blackstone Entities at the time
of or following the Merger and the REIT Conversion could, singularly or in
combination, cause a PHLP Limited Partner's amount at risk in relation to his
investment in PHLP (and, after the Merger, in the Operating Partnership) to be
reduced below zero, resulting in an income inclusion to the Limited Partner
under Section 465(e) of the Code. Currently, a sufficient portion of the current
debt of PHLP constitutes "qualified nonrecourse financing" so that the PHLP
Limited Partners have positive at risk amounts, and the Operating Partnership
expects that most of the current debt with respect to the other Hotel
Partnerships and the Hotels contributed by the Blackstone Entities that will be
assumed by the Operating Partnership as part of the Merger and the REIT
Conversion should qualify as "qualified nonrecourse financing." The Operating
Partnership and the General Partner believe, based upon and subject to the
assumptions and other limitations described below, that a PHLP Limited Partner
who acquired his PHLP Partnership Units in the original offering of such
Partnership Units and has held the Partnership Units at all times since will
have a positive at risk amount immediately following the Merger and the REIT
Conversion.
It is possible, however, that a former PHLP Limited Partner's at risk
amount could decline in the future, either because of the allocation of losses
from the Operating Partnership to that former PHLP Limited Partner or because of
cash distributions by the Operating Partnership to that former PHLP Limited
Partner in excess of the taxable income allocable to him with respect to his OP
Units. Moreover, there can be no assurance that debt incurred by the Operating
Partnership in the future to refinance the Mitsui Bank Debt or outstanding
mortgage debt of the other Hotel Partnerships or the Hotels contributed by the
Blackstone Entities will qualify as "qualified nonrecourse financing." If,
however, the Operating Partnership were to obtain the requested ruling from the
IRS and were to refinance existing mortgage indebtedness of the Partnerships
with the type of indebtedness described in the ruling, such indebtedness should
constitute "qualified nonrecourse financing" for purposes of the "at risk"
rules.
Impact of Assumption of PHLP Liabilities by the Operating Partnership.
---------------------------------------------------------------------
As described in the Consent Solicitation, see "Federal Income Tax Considerations
- -- Tax Consequences of the Mergers -- Disguised Sale Regulations," a PHLP
Limited Partner will recognize gain to the extent he is treated as having sold
all or part of his PHLP Partnership Interest in a "disguised sale." For purposes
of these rules, certain reductions in a partner's share of partnership
liabilities are treated as a transfer of money or other property from the
partnership to the partner which may give rise to a disguised sale, even if that
reduction would not otherwise result in a taxable deemed cash distribution in
excess of the partner's basis in his partnership interest. However, if a
transfer of property by a partner to a partnership is not otherwise treated as
part of a disguised sale, then any reduction in the partner's share of
"qualified liabilities" also will not be treated as part of a disguised sale. A
"qualified liability" in connection with a transfer of property to a partnership
includes (i) any liability incurred more than two years prior to the earlier of
the transfer of the property or the date the partner agrees in writing to the
transfer, as long as the liability has encumbered the transferred property
throughout the two-year period; (ii) a liability that was not incurred in
anticipation of the transfer of the property to a partnership, but that was
incurred by the partner within the two-year period prior to the earlier of the
date the partner agrees in writing to transfer the property or the date the
partner transfers the property to a partnership and that has encumbered the
transferred property since it was incurred; (iii) a liability that is traceable
under the Treasury Regulations to capital expenditures with respect to the
property; and (iv) a liability that was incurred in the ordinary course of the
trade or business in which property transferred to the partnership was used or
held, but only if all the assets related to that trade or business are
transferred, other than assets that are not material to a continuation of the
trade or business. However, a recourse liability is not a "qualified liability"
unless the amount of the liability does not exceed the fair market value of the
transferred property (less any other liabilities that are senior in priority and
encumber such property or any allocable liabilities described in (iii) or (iv),
above) at the time of transfer.
The General Partner believes that all liabilities of PHLP fall into one
of the four categories of "qualified liabilities" described above and,
accordingly, that the mere assumption by the Operating Partnership of the
outstanding liabilities of PHLP will not give rise to a "disguised sale" by any
of the PHLP Limited Partners.
Tax Treatment of PHLP Limited Partners Who Hold OP Units Following the
Merger
PHLP Supp - 26
<PAGE>
Initial Basis in Units. In general, a PHLP Limited Partner will have an
----------------------
initial tax basis in his OP Units received in the Merger with respect to his
PHLP Partnership Units equal to the basis in his PHLP Partnership Units at the
time of the Merger, reduced to reflect any deemed cash distributions resulting
from a reduction in his share of PHLP liabilities and increased to reflect his
share of other liabilities of the Operating Partnership and any gain required to
be recognized in connection with the Merger and the REIT Conversion (including
income attributable to the sale of a portion of the personal property associated
with the six PHLP Hotels, as described below under " -- Tax Allocations upon the
Sale of Certain Personal Property Associated with the PHLP Hotels"). For a
discussion of the federal income tax considerations for a PHLP Limited Partner
from a reduction in basis that may result from the Merger and the REIT
Conversion, see "Federal Income Tax Considerations -- Tax Treatment of Limited
Partners Who Hold OP Units Following the Mergers -- Initial Tax Basis of OP
Units" in the Consent Solicitation.
Tax Allocations with Respect to Contributed Hotels upon a Sale of PHLP
----------------------------------------------------------------------
Hotels. Pursuant to Section 704(c) of the Code, income, gain, loss and deduction
- ------
attributable to appreciated or depreciated property that is contributed to a
partnership must be allocated for federal income tax purposes in a manner such
that the contributor is charged with, or benefits from, the unrealized gain or
unrealized loss associated with the property at the time of contribution. The
amount of such unrealized gain or unrealized loss is generally equal to the
difference between the fair market value of the contributed property at the time
of contribution and the adjusted tax basis of such property at the time of
contribution (referred to as the "Book-Tax Difference"). The Operating
Partnership and the General Partner estimate, based upon and subject to the
assumptions and other limitations described below, that the aggregate Book-Tax
Difference with respect to the PHLP Hotels will be $________ upon the
consummation of the Merger.
If the Operating Partnership were to sell all of the PHLP Hotels, the
former partners of PHLP (including Host REIT with respect to Host's interest in
PHLP) would be specially allocated by the Operating Partnership an aggregate
amount of taxable gain equal to the Book-Tax Difference with respect to the PHLP
Hotels ($ ____ in the aggregate if the PHLP Hotels were sold immediately after
the consummation of the Merger, according to the estimate in the previous
paragraph). The share of such gain allocable to a PHLP Limited Partner who
acquired his PHLP Partnership Units in the original offering of such Partnership
Units and held such Partnership Units at all times since would be $___ per PHLP
Partnership Unit. The share of such gain of a PHLP Limited Partner who did not
acquire his PHLP Partnership Units in the original offering of such Partnership
Units or who has not held his PHLP Partnership Units at all times since such
offering could vary materially from this amount. If the Operating Partnership
were to sell a PHLP Hotel with a Book-Tax Difference, the remaining Book-Tax
Difference at the time the Hotel is sold would be required to be allocated
exclusively to the former PHLP Limited Partners and the General Partner, even
though the proceeds of such sale would be allocated proportionately among all
the partners in the Operating Partnership (and would likely be retained by the
Operating Partnership, rather than distributed to holders of OP Units and Common
Shares of Host REIT). The PHLP Limited Partners would not be entitled to any
special distributions from the Operating Partnership in connection with such a
sale, and thus would not necessarily receive cash distributions from the
Operating Partnership sufficient to pay such additional taxes. Although the
Partnership Agreement does not impose any restrictions upon the Operating
Partnership preventing it from causing the sale of any or all of the PHLP Hotels
at any time following the Merger, the Operating Partnership does not have
current plans to pursue a sale of any of the PHLP Hotels. See "Federal Income
Tax Considerations -- Tax Treatment of Limited Partners Who Hold OP Units
Following the Mergers -- Sale of Individual Hotels" in the Consent Solicitation.
Tax Allocations upon the Sale of Certain Personal Property Associated
---------------------------------------------------------------------
with the PHLP Hotels. As discussed in the Consent Solicitation, see "Federal
- --------------------
Income Tax Considerations -- Federal Income Taxation of Host REIT Following the
REIT Conversion -- Income Tests Applicable to REITs" and "-- Taxable Income
Attributable to Sales of Personal Property in Connection with the REIT
Conversion," if the rent attributable to personal property leased in connection
with the lease of each Hotel is greater than 15% of the total rent received
under the lease of such Hotel, the portion of the rent attributable to the
personal property will not constitute qualifying income to Host REIT (the "15%
Personal Property Test"). The Operating Partnership and the General Partner have
determined that the percentage of rent attributable to the personal property to
be leased in connection with the lease of the six PHLP Hotels (other than the
Tampa and Raleigh Hotels)
PHLP Supp - 27
<PAGE>
would not satisfy the 15% Personal Property Test. The 15% Personal Property Test
is a mechanical test that is based not on the relative fair market value of the
assets subject to lease, or the relative fair rental value of those assets, but,
rather, is based on the average relative adjusted tax bases of the assets
subject to the lease. Accordingly, immediately prior to the Merger, the
Operating Partnership will require PHLP, if it chooses to participate in the
Merger, to sell to a Non-Controlled Subsidiary a portion of the personal
property associated with those six PHLP Hotels. This sale, which will be a
taxable transaction, will result in the recognition by PHLP (and the allocation
to the PHLP Limited Partners) of a relatively modest amount of taxable gain to
the extent of the difference, if any, between the fair market value of the
personal property at the time of the sale and the adjusted tax basis of such
property at that time. The actual amount of such gain will be determinable only
at the time of the sale and will be affected by the specific personal property
selected to be sold and the fair market value and adjusted basis of that
personal property. However, the Operating Partnership and the General Partner
believe that such gain, in the aggregate, could be in the range of approximately
$____ to $____; based on this estimate, the share of such gain allocable to a
PHLP Limited Partner who acquired his PHLP Partnership Units in the original
offering of such Partnership Units and held such Partnership Units at all times
since could range from $____ to $____ per PHLP Partnership Unit. Pursuant to the
PHLP partnership agreement, all of such taxable gain will be characterized as
ordinary recapture income and will be allocated by PHLP to the former PHLP
Limited Partners in the same proportions and to the same extent that such
Limited Partners were allocated any deductions directly or indirectly giving
rise to the treatment of such gains as recapture income prior to the Merger. The
PHLP Limited Partners would not be entitled to any special distributions from
PHLP in connection with such a sale of personal property.
Tax Allocations with Respect to Contributed Hotels Generally. The tax
------------------------------------------------------------
allocations of depreciation to the PHLP Limited Partners may change
significantly as a result of the Merger and the REIT Conversion for two reasons.
First, as described above, pursuant to Section 704(c) of the Code, depreciation
and deductions attributable to the PHLP Hotels will be required to be allocated
for federal income tax purposes in a manner such that the PHLP Limited Partners
are charged with the Book-Tax Difference associated with the PHLP Hotels at the
time of the consummation of the Merger. Consequently, a PHLP Limited Partner
will be allocated less depreciation with respect to the PHLP Hotels than would
be the case if the Merger had not occurred and the PHLP Limited Partner had
continued to hold his PHLP Partnership Units. (On the other hand, a former PHLP
Limited Partner will be allocated depreciation with respect to other Hotels
acquired by the Operating Partnership in connection with the Merger and the REIT
Conversion, including the Hotels owned by the other Hotel Partnerships and the
Hotels being contributed to the Operating Partnership by Host and the Blackstone
Entities in connection with the Merger and the REIT Conversion.) Second, the
Merger will cause the technical termination under Section 708(b)(1)(B) of the
Code of PHLP and each of the other Hotel Partnerships that participates in the
Merger. Section 168(i)(7) of the Code provides, in effect, that when a
partnership terminates under Section 708(b)(1)(B) of the Code, the partnership
must begin new depreciation periods for its property. As a result, the remaining
bases of the real estate components of the PHLP Hotels and the Hotels held by
the other Hotel Partnerships will be depreciated over 39 years, rather than over
the remaining current lives of such Hotels (which range from less than one year
to 39 years). See "Federal Income Tax Considerations -- Tax Treatment of Limited
Partners Who Hold OP Units Following the Mergers -- Effect of Mergers on
Depreciation" in the Consent Solicitation.
In light of the complexity of the governing rules affecting the
calculation and allocation of depreciation with respect to properties
contributed to a partnership, particularly when a number of those properties are
subject to the separate adjustments required in connection with a technical
termination under Section 708 of the Code, the number of Hotels that the
Operating Partnership will be acquiring in connection with the Mergers and the
REIT Conversion, and the impact on these calculations of other outside events,
including equity offerings by Host or Host REIT and other acquisitions
undertaken by Host, Host REIT or the Operating Partnership prior to or in
connection with the REIT Conversion, the Operating Partnership and the General
Partner believe that it is impossible to predict with any degree of precision
the impact that the Mergers and the REIT Conversion will have on the future
depreciation (and, consequently, the amount of taxable income) allocable to a
PHLP Limited Partner.
PHLP Supp - 28
<PAGE>
Impact on Passive Activity Losses of an Investment in a Publicly Traded
-----------------------------------------------------------------------
Partnership. The passive loss limitation rules generally provide that
- -----------
individuals, estates, trusts and certain closely held corporations and personal
service corporations can only deduct losses from passive activities (generally
activities in which the taxpayer does not materially participate, which would
include the Operating Partnership for PHLP Limited Partners) to the extent that
such losses are not in excess of the taxpayer's income from passive activities
or investments. A PHLP Limited Partner would be able to offset losses from other
passive activities against income from the Operating Partnership that is
considered passive income (but not portfolio income) so long as the Operating
Partnership is not treated as a publicly traded partnership. The Operating
Partnership and the General Partner believe, however, that there is a
substantial risk that the Operating Partnership will be treated as a publicly
traded partnership for purposes of the passive loss limitation rules. In this
event, any losses or deductions of the Operating Partnership allocable to a PHLP
Limited Partner after the Merger could not be used to offset passive income from
other passive activities. Similarly, losses from other passive activities
(including losses attributable to PHLP for periods prior to the Merger) could
not be applied to offset income of the Operating Partnership allocated to a PHLP
Limited Partner. A PHLP Limited Partner, however, would be able to offset any
passive losses from his other investments against any gain recognized by the
PHLP Limited Partner as a result of the Merger.
State and Local Taxes. PHLP Limited Partners holding OP Units will be
---------------------
subject to state and local taxation in a number of jurisdictions in which the
Operating Partnership directly or indirectly holds real property and would be
required to file periodic tax returns in those jurisdictions. In this regard,
immediately following the Merger and the REIT Conversion, the Operating
Partnership expects that it will own properties in approximately 28 states
across the United States and the District of Columbia. Currently, PHLP owns,
directly and indirectly, properties in only six states. See "Federal Income Tax
Considerations -- Tax Treatment of Limited Partners Who Hold OP Units Following
the Merger -- State and Local Taxes" in the Consent Solicitation.
Assumptions Used in Determining Tax Consequences of the Merger
In preparing the discussion set forth above, the Operating Partnership
and the General Partner made several key assumptions, which are described below.
If any such assumption is not accurate with respect to a particular PHLP Limited
Partner, the tax consequences of the Merger to such PHLP Limited Partner could
be substantially different from those reflected above. ACCORDINGLY, EACH PHLP
LIMITED PARTNER IS STRONGLY URGED TO CONSULT WITH HIS OWN TAX ADVISOR TO
DETERMINE THE IMPACT OF SUCH PHLP LIMITED PARTNER'S PARTICULAR TAX SITUATION ON
THE ANTICIPATED TAX CONSEQUENCES OF PARTICIPATING IN THE MERGER.
First, with respect to a PHLP Limited Partner's basis in his PHLP
Partnership Units prior to the Merger, the Operating Partnership and the General
Partner assumed that a PHLP Limited Partner acquired his PHLP Partnership Units
in the original offering of such Partnership Units and has held such Partnership
Units at all times since the offering (the "Original Limited Partner's Adjusted
Basis"). In general, each PHLP Limited Partner had an initial tax basis in his
PHLP Partnership Units ("Initial Basis") equal to his cash investment in PHLP
(plus his proportionate share of PHLP's nonrecourse liabilities at the time he
acquired his PHLP Partnership Units). A PHLP Limited Partner's Initial Basis
generally has been increased by (a) such Limited Partner's share of PHLP taxable
income and (b) any increases in his share of liabilities of PHLP. Generally,
such Limited Partner's Initial Basis has been decreased (but not below zero) by
(i) his share of PHLP cash distributions, (ii) any decreases in his share of
liabilities of PHLP, (iii) his share of losses of PHLP and (iv) his share of
nondeductible expenditures of PHLP that are not chargeable to capital. Because
"syndication costs" are chargeable to capital and not deductible for tax
purposes, a PHLP Limited Partner's basis in his PHLP Partnership Units
effectively would include his share of the syndication costs incurred by PHLP at
formation.
The General Partner has set forth on Appendix E to the Consent
Solicitation for PHLP (i) the Original Limited Partner's Adjusted Basis as of
December 31, 1997 for each such PHLP Limited Partner, and (ii) an estimate of
such PHLP Limited Partner's Original Limited Partner's Adjusted Basis as of
December 31, 1998 (computed without regard to the Merger and based upon the
assumptions set forth in
PHLP Supp - 29
<PAGE>
Appendix C to the Consent Solicitation). The General Partner also has set
forth on Appendix E to the Consent Solicitation for each PHLP Limited Partner
whose adjusted basis in his PHLP Partnership Interest is the same as the
Original Limited Partner's Adjusted Basis (i) the PHLP liabilities allocable to
such PHLP Limited Partner as of December 31, 1997, and (ii) an estimate of the
PHLP liabilities allocable to such Limited Partner as of December 31, 1998
(computed without regard to the Merger and based upon the assumptions set forth
in Appendix C to the Consent Solicitation).
The adjusted tax basis of a PHLP Limited Partner who did not acquire
his PHLP Partnership Units in the original offering of such Partnership Units
could vary materially from that of a PHLP Limited Partner who did so for various
reasons. If a PHLP Limited Partner has an adjusted tax basis in his PHLP
Partnership Units that is less than the Original Limited Partner's Adjusted Tax
Basis, the Merger might result in the receipt by the PHLP Limited Partner of a
deemed distribution of cash in excess of his adjusted tax basis in his PHLP
Partnership Units, which could (although it is unlikely) result in the
recognition of income or gain.
Second, the Operating Partnership and the General Partner assumed that
the method expected to be used by the Operating Partnership to allocate
liabilities among the partners will be respected for federal income tax
purposes. The Operating Partnership will allocate liabilities associated with
the PHLP Hotels as described in "Federal Income Tax Considerations -- Tax
Consequences of the Merger -- Relief from Liabilities/Deemed Cash Distribution"
in the Consent Solicitation. If the method used by the Operating Partnership
were not respected for federal income tax purposes and the nonrecourse
liabilities actually allocable to a PHLP Limited Partner are less than the
amount assumed by the Operating Partnership and the General Partner, the Merger
might result in the receipt by such PHLP Limited Partner of a deemed
distribution of cash that is greater than the deemed distribution of cash
expected to be received by such PHLP Limited Partner as described above in "Tax
Consequences of the Merger -- Deemed Cash Distribution and Resulting Taxable
Gain." For a PHLP Limited Partner who did not acquire his PHLP Partnership Units
in the original offering of such Partnership Units or who did not hold such
Partnership Units at all times since, this deemed distribution of cash could
exceed his adjusted tax basis in his PHLP Partnership Units, which could
(although it is unlikely) result in the recognition of income or gain.
Third, the Operating Partnership and the General Partner assumed that
the maturity date of the Mitsui Bank Debt will be extended to December 22, 1999,
as is currently planned.
Finally, the Operating Partnership and the General Partner assumed that
the Merger will be treated for federal income tax purposes as the transfer by
the PHLP Limited Partners of their interests in the Hotel Partnerships to the
Operating Partnership in exchange for OP Units. There can be no assurance,
however, that the IRS will not seek to recharacterize each Merger as either (i)
the liquidation of a Partnership followed by the distribution by the Partnership
of its assets to its partners and the subsequent transfers by such partners of
such assets to the Operating Partnership in exchange for OP Units, or (ii) the
transfer by a Partnership of its assets to the Operating Partnership in exchange
for OP Units (and possibly Notes) and the subsequent distribution of such OP
Units (and possibly Notes) to its partners. If the Merger is recharacterized in
the manner described in (ii) in the preceding sentence, the tax consequences of
the Merger to the PHLP Limited Partners likely would be materially affected.
EACH PHLP LIMITED PARTNER IS STRONGLY URGED TO CONSULT WITH HIS OWN TAX
ADVISOR TO DETERMINE THE IMPACT OF SUCH PHLP LIMITED PARTNER'S PARTICULAR TAX
SITUATION ON THE ANTICIPATED TAX CONSEQUENCES OF PARTICIPATING IN THE MERGER.
THE TAX CONSEQUENCES OF PARTICIPATING IN THE MERGER TO A PARTICULAR PHLP LIMITED
PARTNER COULD VARY SUBSTANTIALLY FROM THE CONSEQUENCES DESCRIBED ABOVE.
Tax Treatment of PHLP Limited Partners Who Exercise Their Right to Make
the Note Election
A PHLP Limited Partner who exercises his right to make the Note
Election and receive a Note in connection with the Merger will be treated as
having made a taxable disposition of his OP Units. The
PHLP Supp - 30
<PAGE>
amount realized in connection with such disposition will equal the sum of the
"issue price" of the Note (i.e., the face amount of the Note, currently
estimated as $3,024 per PHLP Partnership Unit) plus the portion of PHLP
liabilities allocable to the PHLP Limited Partner for federal income tax
purposes immediately prior to the disposition of the OP Units (estimated as
$_____ per PHLP Partnership Unit as of December 31, 1998). To the extent the
amount realized exceeds the PHLP Limited Partner's adjusted basis in his PHLP
Partnership Units, the PHLP Limited Partner will recognize gain. The Operating
Partnership and the General Partner estimate (assuming the PHLP Limited Partner
acquired his PHLP Partnership Units at the time of the original offering and has
held such Partnership Units at all times since the offering) that the amount of
gain that would be recognized by a PHLP Limited Partner who made the Note
Election would be approximately $________ per PHLP Partnership Unit, as of
December 31, 1998. For a discussion of the federal income tax rates applicable
to the net capital gain from the sale of a capital asset, see "Federal Income
Tax Considerations -- Tax Treatment of Limited Partners Who Hold OP Units
Following the Mergers -- Disposition of OP Units by Limited Partners" in the
Consent Solicitation. In this regard, the General Partner estimates that, as of
December 31, 1998, if PHLP sold all of its Hotels in a fully taxable transaction
for a net amount, after payment of liabilities, equal to the Note Election
Amount of PHLP, the "unrecognized Section 1250 gain" per PHLP Partnership Unit
would be $______ and the gain subject to tax as ordinary income under Code
Section 1245 per PHLP Partnership Unit would be $______. A PHLP Limited Partner
who makes the Note Election would be able to treat any per Partnership Unit
passive activity loss carryforward with respect to the activities of PHLP, to
the extent the sum of such losses exceeds his passive activity income for 1998,
as losses that are not from a passive activity and, therefore, not subject to
the passive activity loss limitation rules. For purposes of determining the gain
recognized by a Limited Partner as a result of making the Note Election, an
Original Limited Partner's Adjusted Basis will reflect such Limited Partner's
share of the syndication costs incurred by his Partnership at formation.
A PHLP Limited Partner who elects to receive a Note may be eligible to
defer only a small portion of that gain under the "installment sale" rules.
Those rules, however, will not permit the PHLP Limited Partner to defer all of
the gain, and, to the extent that the face amount of the Note (and any other
installment obligations received by the taxpayer during the year) outstanding at
the end of the taxable year in which the Merger occur exceeds $5,000,000, will
require that the PHLP Limited Partner who defers gain pay to the IRS interest on
the resulting tax that has been deferred. The PHLP Limited Partner will not be
eligible to defer gain recognized upon the receipt of the Note to the extent
that his share of PHLP liabilities at the time of the Merger exceeds his
adjusted tax basis in his PHLP Partnership Units immediately prior to the Merger
(that is, to the extent that he has a "negative capital account" for tax
purposes). In addition, the PHLP Limited Partner will not be eligible to defer
gain to the extent that such gain would be taxed as ordinary income under
Sections 1245 and 1250 of the Code. Lastly, if a PHLP Limited Partner disposes
of his Note, any gain that had been deferred would be recognized in the year of
disposition.
THE SPECIFIC TAX ATTRIBUTES OF A PARTICULAR PHLP LIMITED PARTNER COULD
HAVE A MATERIAL IMPACT ON THE TAX CONSEQUENCES OF THE MERGER, AND THE SUBSEQUENT
OWNERSHIP AND DISPOSITION OF NOTES. THEREFORE, IT IS ESSENTIAL THAT PHLP LIMITED
PARTNERS CONSIDERING ELECTING TO RECEIVE NOTES CONSULT WITH THEIR OWN TAX
ADVISORS WITH REGARD TO THE APPLICATION OF THE FEDERAL INCOME TAX LAWS TO SUCH
PHLP LIMITED PARTNERS' RESPECTIVE PERSONAL TAX SITUATIONS, AS WELL AS ANY TAX
CONSEQUENCES ARISING UNDER THE LAWS OF ANY STATE, LOCAL, OR FOREIGN TAXING
JURISDICTION.
Tax Consequences if PHLP Does Not Participate in the Merger
If PHLP does not participate in the Merger, the PHLP Limited Partners
would not have any tax consequences resulting from the Merger. The consequences
of continued ownership of PHLP Partnership Units will be the same as would have
resulted if the Merger had not been proposed.
* * *
The above description is not exhaustive of all possible tax
considerations associated with the Merger and the REIT Conversion. This summary
does not discuss foreign tax considerations, nor does it discuss all of the
aspects of federal income taxation or state and local taxation that may be
relevant to PHLP Limited
PHLP Supp - 31
<PAGE>
Partners in light of their particular circumstances. EACH PHLP LIMITED PARTNER
IS STRONGLY URGED TO CONSULT WITH HIS OWN TAX ADVISOR TO DETERMINE THE IMPACT OF
SUCH PHLP LIMITED PARTNER'S PARTICULAR TAX SITUATION ON THE ANTICIPATED TAX
CONSEQUENCES OF PARTICIPATING IN THE MERGER.
PHLP Supp - 32
<PAGE>
SELECTED FINANCIAL DATA
The following table presents selected historical financial data derived
from the audited financial statements for the five most recent fiscal years in
the period ended December 31, 1997 and the unaudited financial statements for
the First Quarter 1998 and the First Quarter 1997. The following data should be
read in conjunction with the financial statements and the notes thereto,
Management's Discussion and Analysis of Financial Condition and Results of
Operations and the other financial information included elsewhere herein.
<TABLE>
<CAPTION>
First Quarter Fiscal Year
---------------------- ------------------------------------------------------------
1998 1997 1997 1996 1995 1994 1993
(unaudited) (amounts in thousands, except per Partnership Unit/(1)/)
<S> <C> <C> <C> <C> <C> <C> <C>
Revenues................................ $ 16,533 $ 15,914 $ 50,323 $ 45,853 $ 50,598 $ 43,777 $ 45,994
Operating profit........................ 8,280 8,708 21,056 21,898 23,442 9,863 10,593
Income (loss) before
extraordinary item(2)............... 2,338 3,040 (2,825) (1,841) 20,045 (22,741) (21,729)
Net income (loss)....................... 2,338 3,040 (2,825) (1,841) 166,348 24,427 (4,581)
Distributions...........................
General partner..................... -- -- -- -- -- -- --
Limited partner..................... -- -- -- -- -- -- --
Per Partnership Unit:
Net income (loss)................... 1,286 1,672 (1,554) (1,013) 88,187 8,601 (2,519)
Distributions ...................... -- -- -- -- -- -- --
EBITDA(3) (unaudited)................... 10,346 10,148 30,201 28,214 30,802 18,538 20,288
Cash provided by
operating activities................ 6,418 7,190 20,886 19,384 14,812 3,480 5,764
Cash used in (provided by) investing
activities.......................... (2,229) (2,236) (7,754) (10,249) 37,237 (36,472) -
Cash used in (provided by) financing
activities.......................... (6,354) (8,627) (15,178) (10,046) (53,793) 37,156 (4,372)
Increase (decrease) in cash and
cash equivalents.................... (2,165) (3,673) (2,046) (911) (1,744) 4,164 1,392
Ratio of earnings to fixed
charges(4) (unaudited).............. 1.37x 1.51x -- -- -- -- --
Deficiency of earnings to fixed
charges(4) (unaudited............... -- -- 2,825 1,841 4,541 22,741 21,729
Total assets at book value.............. 178,986 182,025 178,224 179,867 176,521 196,061 203,251
Cash and cash equivalents............... 1,017 1,555 3,182 5,228 6,139 7,883 3,719
Total debt(5)........................... 291,932 298,957 298,442 304,564 308,519 359,186 401,829
Total liabilities....................... 323,770 323,282 325,346 324,164 318,977 506,865 538,482
Partner's deficit:
Limited partners ................... (109,966) (106,474) (112,280) (109,483) (107,660) (266,396) (281,878)
General partner..................... (34,818) (34,783) (34,842) (34,814) (34,796) (44,408) (53,353)
Book value per Partnership
Unit (unaudited) (1)................ (61,092) (59,152) (62,378) (60,824) (59,811) (147,998) (156,599)
Exchange Value per Partnership
Unit (unaudited) (1)................ 5,040 -- -- -- -- -- --
</TABLE>
- ----------------
(1) A Partnership Unit represents a $10,000 original investment in PHLP.
(2) In 1995, an extraordinary gain of $46,303,000 was recognized as a result
of the forgiveness of deferred base and incentive management fees in
connection with the Bank Loan restructuring. In 1994 and 1993,
$47,168,000 and $17,148,000 respectively, of gains on early debt
extinguishment resulting from the foreclosure of the S&L Hotels were
recognized as extraordinary items.
(3) EBITDA consists of the sum of net income, interest expense, and
depreciation and amortization. EBITDA data is presented because such data
is used by certain investors to determine the Partnership's ability to
meet debt service requirements. The Partnership considers EBITDA to be an
indicative measure of the Partnership's operating performance due to the
significance of the Partnership's long-lived assets and because EBITDA
can be used to measure the Partnership's ability to service debt, fund
capital expenditures and expand its business; however, such information
should not be considered as an alternative to net income, operating
profit, cash flows from operations, or any other operating or liquidity
performance measure prescribed by generally accepted accounting
principles. Cash expenditures for various long-term assets and interest
expense have been, and will be, incurred which are not reflected in the
EBITDA presentations.
(4) The ratio of earnings to fixed charges is computed by dividing net income
before interest expense and other fixed charges by total fixed charges,
including interest expense, amortization of debt issuance costs and the
portion of rent expense that is
PHLP Supp-33
<PAGE>
deemed to represent interest. The deficiency of earnings to fixed charges
is largely the result of depreciation and amortization of $8,430,000,
$5,473,000, $5,912,000, $7,219,000 and $6,859,000 for the fiscal years
1997, 1996, 1995, 1994 and 1993, respectively.
(5) Total debt includes amounts due to Host of $122,738,000, $120,958,000,
$125,475,000, $124,348,000, $122,176,000, $114,186,000 and $79,983,000 as
of March 27, 1998 and March 28, 1997 and December 31, 1997, 1996 and
1995, respectively.
Management's Discussion and Analysis of Financial Condition and Results of
Operations
Results of Operations
First Quarter 1998 Compared to First Quarter 1997
The following chart summarizes REVPAR and the percentage change in
REVPAR for each Partnership Hotel:
First Quarter
---------------- %
1998 1997 Change
------ ------ ------
Mountain Shadows $ 162 $ 167 (3%)
Miami Biscayne Bay 126 113 12%
Tampa Westshore 120 113 6%
Seattle 92 79 16%
Houston Medical Center 89 84 6%
Greensboro 82 78 5%
Raleigh Crabtree 82 77 6%
Albuquerque 63 74 (15%)
------- ------ -----
Combined Average $ 102 $ 98 4%
====== ===== =====
Hotel Revenues: Hotel revenues increased 4% to $16.5 million for the
First Quarter 1998 when compared to the same period in 1997. The increase in
revenues was primarily due to the increases in REVPAR at six of the eight Hotels
for the First Quarter 1998. REVPAR, or revenue per available room, represents
the combination of the average daily room rate charged and the average daily
occupancy achieved and is a commonly used indicator of hotel performance
(although it is not a GAAP, or generally accepted accounting principles, measure
of revenue). For the First Quarter 1998, the combined average room rate
increased 9% to $126, while combined average occupancy decreased three
percentage points to 81%, when compared to the same period in 1997.
Operating Costs and Expenses: Operating costs and expenses increased
15% to $8.3 million for the First Quarter 1998 when compared to the same period
in 1997. The principal components of this category are discussed below:
Management Fees and Ground Rent: Incentive management fees, base
management fees, and ground rent are calculated generally as a percentage of
Hotel sales or Hotel revenues. The increases in these expenses for First Quarter
1998 are directly related to the increases in Hotel sales and Hotel revenues for
First Quarter 1998.
Depreciation: Depreciation expense increased in the First Quarter 1998 due
to property and equipment additions as well as a change in the estimated useful
lives of certain assets.
Operating Profit: Operating profit decreased 5% to $8.3 million for the
First Quarter 1998, when compared to the same period of 1997 due to the increase
in operating costs and expenses which was offset partially by the increase in
revenues.
Interest Expense: Interest expense increased 4% to $6.1 million for the
First Quarter 1998, when compared to the same period in 1997 primarily due to
increased interest expense on the Bank Loan. The weighted average interest rate
on the Bank Loan was 8.3% for the First Quarter 1998, as compared to 7.4% for
the comparable period in 1997.
PHLP Supp-34
<PAGE>
Net Income: Net income decreased 23% to $2.3 million for the First
Quarter 1998, when compared to the same period in 1997 due to the decrease in
operating profit combined with the increase in interest expense.
Individual hotel first quarter operating results are discussed below:
Mountain Shadows Resort
First Quarter 1998 revenues at the Mountain Shadows Resort decreased 8%
to $3.4 million when compared to the same period in 1997 primarily due to a 3%
decrease in REVPAR. Although the average room rate increased 4% to $193, average
occupancy decreased six percentage points to 84% for the First Quarter 1998. The
Hotel experienced a decline in occupancy due to mild winter weather across the
country as well above average rainfall and below average temperatures in the
Scottsdale region during the First Quarter 1998. The decline in occupancy also
contributed to a decrease in food and beverage revenues of 5% or $43,000. In
order to improve its occupancy for the remainder of 1998, the Hotel recently
added another marketing associate to its sales force and is continuing to mail
newsletters and group business bonus offers to customers. Additionally, in early
1998, the Hotel replaced the carpet in its ballroom.
Miami Biscayne Bay Hotel
First Quarter 1998 revenues for the Miami Biscayne Bay Hotel increased
16% to $4.3 million when compared to the same period in 1997. REVPAR increased
12% to $126 due to a 19% increase in the average room rate to $143 offset by a
six percentage point decrease in average occupancy to 88%. The Hotel continued
to reduce its lower-rated airline contract roomnights and replace them with
higher-rated transient roomnights in the First Quarter 1998. This change in
customer mix allowed the Hotel to increase its average room rate and REVPAR.
First Quarter 1998 food and beverage revenues increased 22% to $601,000 when
compared to the First Quarter 1997 primarily due to an increase in catering
business. Additionally, the Hotel plans to renovate its lobby, restaurant, and
lounge during the summer of 1998.
Tampa Marriott Westshore Hotel
Revenues at the Tampa Marriott Westshore Hotel for the First Quarter
1998 remained stable at $1.8 million when compared to the same period in 1997.
REVPAR improved 6% to $120 as the average room rate increase of 12% to $135 was
offset by the average occupancy decrease of four percentage points to 89%. Room
revenues for the First Quarter 1998 increased 6% primarily due to the increase
in REVPAR. Food and beverage revenues decreased 34%, or $103,000, to $199,000
during the First Quarter 1998 due to a loss of catering business associated with
the closing of the Hotel's outdoor pavilion tent.
Seattle/Tacoma Airport Hotel
Revenues at the Seattle/Tacoma Airport Hotel increased 22% to $2.2
million for the First Quarter 1998 when compared to the same period in 1997
primarily due to a 16% improvement in REVPAR to $92. The average room rate
increased 4% to $115 over the First Quarter 1997, and average occupancy
increased eight percentage points to 80%. In the First Quarter 1998, the Hotel
focused on obtaining more higher-rated corporate weekday business, and it also
reduced the availability of corporate discounted rates. The Hotel was able to
increase its average room rate due to the strong demand in the Seattle area.
Food and beverage revenues also increased by 28%, or $141,000, to $649,000
during the First Quarter 1998. The Hotel implemented revenue-maximizing
strategies, such as requiring large groups to purchase one catered meal per day,
in the food and beverage area during the First Quarter 1998. The Hotel completed
renovations of its Snoqualmie Ballroom and Yukon Landing Restaurant in February
1998. The outlook for the remainder of 1998 remains strong as the Hotel will
continue to focus on increasing its weekday business.
Houston Medical Center Hotel
Revenues at the Houston Medical Center Hotel increased 6% to $1.7
million in the First Quarter 1998 when compared to the same period in 1997.
REVPAR increased 6% to $89 as the average room rate increased
PHLP Supp-35
<PAGE>
12% to $107 and average occupancy decreased four percentage points to 83%. The
increase in the average room rate was due to an increase in the corporate room
rate. The decrease in average occupancy was due to the decline in overall demand
in the region. The increase in REVPAR contributed to a 7%, or $142,000, increase
in rooms revenue. During the summer of 1998, the Hotel plans to complete a rooms
renovation that will replace the bedspreads, drapery, upholstery, carpet, and
furniture in all its guest rooms.
Greensboro Hotel
The Greensboro Hotel reported a 22% increase in revenues to $1.1
million for the First Quarter 1998 when compared to the same period in 1997. The
increase in revenues was due to increases in rooms revenues as well as food and
beverage revenues. Rooms revenues increased 6% to $1.5 million primarily due to
an increase in REVPAR of 5% to $82. REVPAR increased due to a 7% increase in the
average room rate to approximately $108 offset by a one percentage point
decrease in average occupancy to 76%. Food and beverage revenues increased 84%
to $222,000 due to an increase in group catering sales. In 1998, the Hotel will
replace the fixtures and tiles in all its guest bathrooms.
Raleigh Crabtree Valley Hotel
Revenues at the Raleigh Crabtree Valley Hotel remained stable at $1.2
million over the comparable prior year period. First Quarter 1998 rooms revenues
increased 5%, or $85,000, to $1.8 million when compared to the First Quarter
1997. REVPAR increased 6% to $82 due to a 6% increase in the average room rate
to $102. Average occupancy remained stable at 80%. The Hotel increased its
corporate room rate by $10 in January 1998. The increase in rooms revenues was
offset by an increase in sales and marketing expenses and repairs and
maintenance expenses. The Hotel increased its sales and marketing staff to help
it aggressively compete for and maintain its market share, and in the First
Quarter 1998, the Hotel incurred nonrecurring repairs and maintenance expenses.
In February 1998, the Hotel completed the expansion of its restaurant as well as
the conversion of its lounge into additional meeting space. Additionally, the
Hotel plans to complete the construction of its business center in the second
quarter of 1998.
Albuquerque Hotel
First Quarter 1998 revenues for the Albuquerque Hotel decreased 33% to
$800,000 when compared to the same period in 1997 due to a decrease in rooms
revenues and food and beverage revenues. Year-to-date REVPAR decreased 15% to
approximately $63 when compared to the same period in 1997. The Hotel's average
room rate decreased 1% to $93, and its average occupancy decreased eleven
percentage points to 68%. These decreases directly resulted from a decline in
city-wide conventions in the Albuquerque region in the First Quarter 1998. To
address the decline in demand, the Albuquerque Convention and Visitors Bureau
has retained an outside consulting firm to evaluate options, such as expanding
the city's convention center. The Hotel continues to evaluate its pricing
strategies to ensure it is competing effectively in the market, and during 1998,
the Hotel plans to renovate its Allies American Grille Restaurant.
The following chart summarizes REVPAR, or revenues per available room,
and the percentage change in REVPAR from the prior year for each Hotel owned by
the Partnership as of the end of the First Quarter 1998. The percentage change
in REVPAR for the Raleigh and Tampa Hotels from 1994 to 1995 is not shown
because these Hotels were not owned by the Partnership for the entire year in
1994.
PHLP Supp-36
<PAGE>
<TABLE>
<CAPTION>
First Quarter 1998 1997 1996 1995
------------------- ----------------------- --------------------- ----------------------
REVPAR % Change REVPAR % Change REVPAR % Change REVPAR % Change
------ -------- ------ -------- ------ -------- ------ --------
<S> <C> <C>
Mountain Shadows...... $ 162 (3%) $ 105 6% $ 99 5% $ 94 7%
Seattle............... 92 16 91 11 82 4 79 11
Tampa Westshore....... 120 6 87 9 80 10 73 N/A
Greensboro............ 82 5 80 7 75 (1) 76 7
Miami Biscayne Bay.... 126 12 80 13 71 1 70 9
Raleigh Crabtree
Valley............... 82 6 76 6 72 9 66 N/A
Houston Medical
Center............... 89 6 75 12 67 5 64 2
Albuquerque........... 63 (15) 70 1 69 3 67 0
</TABLE>
1997 Compared to 1996
Mountain Shadows
The Mountain Shadows Resort's revenues increased 10% to $6.8 million in
1997 when compared to 1996 due primarily to a 6% increase in REVPAR to $105. The
increase in REVPAR was due to an 11% increase in the average room rate to $138
offset by a four percentage point decrease in average occupancy to 76%. The
increase in the average room rate was attributable to the increases in the
Hotel's corporate rate by $15 to $151 and in the group rates by $9 to $135. The
decrease in average occupancy was related to unexpected group cancellations
during the second quarter of 1997. In 1997, the Hotel combined its sales center
with two other Marriott properties in the Scottsdale region which improved its
sales and marketing efficiency. Additionally during 1997, the Hotel completed a
renovation of its Cactus Flower Restaurant and its Shells Seafood Restaurant. In
early 1998, the Hotel replaced the carpet in the ballroom.
Seattle
The Seattle Marriott Hotel reported an increase in revenues of 14% to
$9.7 million for 1997 when compared to the prior year due to an 11% increase in
REVPAR to $91. The increase in REVPAR was due to a $12 increase in the average
room rate to $117. The Hotel's average occupancy remained stable at 78%. The
increase in average room rate is the result of the Hotel's ability to increase
room rates with little to no price resistance due to the strong transient demand
in the Seattle area. The Hotel's food and beverage revenues increased $365,000
or 17% to $2.5 million when compared to 1996. This increase is attributable to
the increase in catering sales. The Hotel completed renovations of its
Snoqualmie Ballroom and Yukon Restaurant in February 1998. In addition, the
Hotel will be adding coffee makers, reading chairs, and ergonomic workstations
to its guest rooms in 1998. The current outlook for the Seattle area remains
strong due to continued growth of large companies such as Boeing and Microsoft
in the region.
Tampa Westshore
The Tampa Marriott Westshore Hotel experienced a 2% increase in
revenues to $4.6 million in 1997 as compared to 1996. REVPAR increased 9% to $87
in 1997 due to an $8 increase in the average room rate to $108 coupled with a
two percentage point increase in average occupancy to 81%. Rooms revenues
increased 7%, or $500,000, in 1997 when compared to 1996. This increase was
partially offset by an increase in repairs and maintenance expense related to
the air conditioning system. In 1998, the Hotel plans to replace the cooling
tower related to the air conditioning system. In early 1997, the Hotel completed
the third phase of the rooms renovation project that replaced the furniture in
approximately 108 guest rooms. All the guest rooms now feature new furniture.
During the summer of 1998, the Hotel plans to replace the guest room carpet,
draperies, and bedspreads. These improvements will enable the Hotel to compete
more effectively in the Tampa market in the future.
PHLP Supp-37
<PAGE>
Greensboro
In 1997, the Greensboro Hotel's revenues increased 4% to $4.7 million
when compared to 1996. REVPAR increased 7% to $80 due to increases in the
average room rate of $3 to $101 and in average occupancy of three percentage
points to 79%. The increase in occupancy was primarily due to the addition of
2,000 new contract roomnights. During 1997, the Hotel filled an open Director of
Marketing position that has helped increase revenues at the Hotel, especially
revenue from group and contract sales. In early 1997 the Hotel renovated the
restaurant, and in 1998 the Hotel will replace fixtures and tiles in all its
guest bathrooms. The Partnership expects the Greensboro market to continue to
improve in 1998 due to the increased popularity of the North Carolina furniture
market.
Miami Biscayne Bay
Miami Biscayne Bay Hotel revenues for 1997 increased an impressive 18%
to $9.1 million when compared to 1996 due primarily to increased rooms revenues.
REVPAR for 1997 increased 13% to $80 when compared to 1996 due to a $10 increase
in average room rate to $97 and a one percentage point increase in average
occupancy to 83%. In 1997, the Hotel reduced its lower-rated airline contract
roomnights by approximately 19,000 roomnights and replaced a majority of these
roomnights with higher-rated corporate roomnights. During 1997, the Hotel sold
64% corporate-rated rooms and 36% group and contract-rated rooms as compared to
1996 when the Hotel sold 55% corporate-rated rooms and 45% group and
contract-rated rooms. During 1997, the Hotel replaced the furniture in its guest
rooms. During the summer of 1998, the Hotel plans to renovate the lobby,
restaurant and lounges.
Raleigh
In 1997, revenues increased 4% to $5.2 million for the Raleigh Hotel as
compared to 1996. REVPAR increased 6% to $76 due to a 7% increase in the average
room rate to $94. Average occupancy declined slightly to 81%. The increase in
average room rate was due to a $10 increase in the corporate rate in 1997 to
$119 as well as increases in some of the Hotel's special corporate rates. During
1997, the Hotel began projects to expand its restaurant and to convert its
lounge to additional meeting space. These projects will be completed in early
1998. Additionally, the Hotel plans to replace its ballroom carpeting and create
a Hotel business center in 1998. The Hotel currently is marketing to local
universities to attract weekend business during the fall sports season.
Houston Medical Center
Revenues for the Houston Medical Center Hotel increased an impressive
20% to $5.4 million in 1997 when compared to 1996. REVPAR increased 12% to $75
due to a 12% increase in average room rate to $97 and a one percentage point
increase in average occupancy to 78%. The Hotel increased its corporate room
rate by $20 to $149 in 1997. Rooms revenues increased 13% due to the increase in
the average room rate. In 1998, the Hotel plans to complete a rooms renovation
that will replace the bedspreads, drapery, upholstery, carpet, and furniture in
all its guest rooms. This renovation will enable the Hotel to have a more
competitive product, and the General Partner anticipates that it will allow the
Hotel to increase its average room rate further in the future.
Albuquerque
Although REVPAR increased $1 to $70, revenues for the Albuquerque Hotel
decreased slightly in 1997 to $4.8 million when compared to the prior year. The
increase in REVPAR was due to the 13% increase in average room rate to $97
offset significantly by the eight percentage point decrease in average occupancy
to 72%. The decrease in revenues was due to the increase in salaries and wages
expenses related to the addition of a director of group sales and the increase
in sales promotion costs. These costs were necessary to address the declining
average occupancy. During 1998, the Hotel plans to replace a major portion of
the roof on the building and renovate the Allies American Grille restaurant.
PHLP Supp-38
<PAGE>
1997 Compared to 1996 Combined Results of Operations
Hotel Revenues: Hotel revenues increased 10% to $50.3 million in 1997
primarily due to an increase in REVPAR at each of the Partnership's Hotels in
1997 when compared to 1996.
Hotel Sales: Hotel sales increased 5% to $150.5 million in 1997 due to
increased rooms sales in 1997. The combined average room rate increased
10% to $105 while combined average occupancy remained stable at 79%.
Direct Hotel Expenses: Direct hotel expenses increased 3% to $100.2
million in 1997. The increase in direct hotel expenses is due to higher
variable costs related to the increase in hotel sales. However, direct
hotel expenses as a percentage of hotel sales decreased to 67% in 1997
from 68% in 1996.
Depreciation: Depreciation increased in 1997 due to property and
equipment additions, and the change in the estimated useful lives of certain
assets.
Management Fees: Incentive and base management fees increased 12% to
$8.4 million and 5% to $4.5 million, respectively, in 1997 due to the
corresponding increase in hotel sales.
Net Loss: Net loss increased 53% to $2.8 million in 1997. The increase
in net loss primarily is attributable to increased depreciation expense on the
Partnership's property and equipment and an increase in management fees in 1997
as compared to 1996.
1996 Compared to 1995
Mountain Shadows
REVPAR for 1996 increased 5% to $99. This increase was due to a 3%
increase in the average room rate to $124 combined with a two percentage point
increase in occupancy to 80%. Hotel revenues for 1996 increased 4% to $6.2
million. The increase in average room rate and hotel revenues is due to the
Hotel's successful efforts in shifting business from lower rated group business
to higher transient rates. The Hotel's marketing promotions include a newsletter
to 3,000 past customers as well as newspaper advertising in key cities such as
Los Angeles, Chicago and New York.
Seattle
Hotel revenues increased 7% to $8.5 million in 1996 when compared to
the prior year due to an increase in REVPAR of 4% to $82. The increase in REVPAR
was due to a $6 increase in average room rate to $105 partially offset by a one
percentage point decrease in occupancy to 78%. The increase in the average room
rate is the result of the strong transient demand in the growing Seattle
economy. The local economy is tied to the global aerospace industry as well as
the availability of raw timber products. Current projections for each of these
industries are strong and indicate steady growth and reliability.
Tampa Westshore
The Tampa Westshore Hotel experienced a 10% increase in REVPAR to $80
for 1996 as compared to 1995. This increase was due to a 6% increase in the
average room rate to $100 coupled with a two percentage point increase in
average occupancy to 79%. The increase in average room rate is attributable to
strong market demand and the successful efforts of Hotel management in
restricting discounted corporate rates. An increase in transient business
contributed to the increase in average occupancy. In early 1997, the Hotel
completed the third phase of a rooms renovation project which replaced the
furniture in approximately 108 guest rooms. All 311 guest rooms now have new
furniture which will enable the Hotel to compete more effectively in the Tampa
market.
PHLP Supp-39
<PAGE>
Greensboro
For 1996, REVPAR decreased slightly to $75 when compared to 1995. The
average room rate increased 6% to $98; however, this increase was offset by a
six percentage point decline in average occupancy to 76% as a result of new
competition in the Greensboro area. Hotel revenues decreased 5% to $4.5 million
primarily due to the decline in occupancy. In 1996, the Hotel facade was
painted, and in early 1997 a renovation of the restaurant was completed.
Miami Biscayne Bay
REVPAR for 1996 increased slightly to $71 when compared to 1995 due to
a four and one-half percentage point increase in average occupancy to 82%
partially offset by a 3% decrease in the average room rate to $87. The increase
in average occupancy was due to the addition of a new contract with United
Airlines for 13,000 room nights in 1996. Hotel revenues decreased 7% to $7.7
million primarily due a decrease in catering profits as a result of business
associated with the 1995 Superbowl not recurring in 1996. During 1996, the Hotel
installed new carpet in the ballrooms and in selected corridors. During 1997,
the remaining corridors will receive new carpet, and 285 rooms will undergo a
redo which will include new carpet and mattresses.
Raleigh
In 1996, REVPAR increased 9% to $72, due to a 9% increase in average
room rate to $88 while the average occupancy remained stable at 82%. The
increase in average room rate was due to a $10 increase in the corporate rate in
1996. Hotel revenues increased 16% to $5 million primarily due to the increase
in average room rates. During 1996, the Hotel completed a rooms renovation which
replaced the furniture in 375 guest rooms.
Houston Medical Center
REVPAR for 1996 increased 5% to $67 when compared to 1995 due to the 2%
increase in average room rate to $87 and a two percentage point increase in
average occupancy to 77%. Hotel revenues increased 10% to $4.5 million in 1996.
These increases were due to strong demand in the medical markets, increased
business due to city wide conventions and success in shifting lower rated
business to higher corporate rates.
Albuquerque
Hotel revenues for 1996 increased slightly to $5.0 million when
compared to the prior year primarily due a 3% increase in REVPAR to $69. The
increase in REVPAR is primarily due to a one and one-half percentage point
increase in average occupancy to 80% as a result of increased transient demand
in the Albuquerque market. The average room rate remained stable at $86. The
Hotel is focusing its marketing efforts on increasing weekend group business.
During 1997, the Hotel will complete a renovation of its meeting rooms.
1996 Compared to 1995 Combined Results of Operations
Hotel Revenues: Hotel revenues decreased 9% to $45.9 million in 1996
primarily due to the sale of the Dallas Hotel in 1995. For the eight hotels
which were owned by the Partnership continuously throughout 1996 and 1995
(Albuquerque, Greensboro, Houston, Miami Biscayne Bay, Mountain Shadows,
Raleigh, Seattle, and Tampa (the "Combined Hotels")), Combined Hotel revenues
increased 4% in 1996 due to an increase in Combined Hotel sales.
Hotel Sales: Hotel sales decreased 6% to $143.3 million in 1996 due to
the sale of the Dallas Hotel in 1995. Combined Hotel sales increased 5% in 1996
through a 1% increase in the Combined Hotel average room rate to $96 and a
slight increase in the Combined Hotel average occupancy to 79%.
PHLP Supp-40
<PAGE>
Direct Hotel Expenses: Direct hotel expenses decreased 5% to $97.5
million in 1996 due to the sale of the Dallas Hotel. Combined direct hotel
expenses increased 5% in 1996. The increase in Combined direct hotel expenses is
due to an increase in variable costs related to the increase in Combined Hotel
sales. Furthermore, direct hotel expenses as a percentage of Hotel sales
increased to 68% in 1996 from 67% in 1995.
Management Fees: Incentive and base management fees decreased 14% to $7.5
million and 6% to $4.3 million, respectively, in 1996 due to a corresponding
decrease in hotel sales. Property Taxes: Property taxes decreased 25% to $3.1
million in 1996 due to the sale of the Dallas Hotel in 1995.
Interest Expense: Interest expense decreased 16% to $24.6 million in 1996
due to lower principal balances in 1996 and a lower average interest rate on the
Bank Loan in 1996.
Net Income: Net income decreased 109% to a net loss of $1.8 million in
1996. The decrease is due to the recognition of the gain on the sale of the
Dallas Hotel of $24.6 million and the gain on forgiveness of deferred fees of
$146.3 million in 1995.
Capital Resources and Liquidity
The Partnership's financing needs have historically been funded through
loan agreements with independent financial institutions, Host Marriott
Corporation ("Host Marriott") and its affiliates or Marriott International, Inc.
("Marriott International") and its affiliates. The general partner believes that
the Partnership will have sufficient capital resources and liquidity to continue
to conduct its business in the ordinary course.
Principal Sources and Uses of Cash
The Partnership reported a decrease in cash and cash equivalents of $2.2
million for the First Quarter 1998. This decrease was due to the use of cash for
investing and financing activities partially offset by cash provided by
operating activities. The Partnership reported a decrease in cash and cash
equivalents of $2.0 million for 1997. This decrease was due to the use of cash
for investing and financing activities partially offset by cash provided by
operating activities.
The Partnership's principal source of cash is cash from operations.
Total cash provided by operations decreased $772,000, to $6.4 million, for the
First Quarter 1998, when compared to the First Quarter 1997. Total cash provided
by operations increased $1.5 million, to $20.9 million, for 1997 due to improved
Hotel operating results. Total cash provided by operations was $19.4 million and
$14.8 million for 1996 and 1995, respectively.
The Partnership's principal uses of cash are to (i) pay for capital
expenditures and to fund the property improvement funds, (ii) make deposits to
restricted cash accounts, (iii) pay debt service on the Partnership's mortgage
debt, and (iv) pay amounts owed to Host Marriott and Marriott International.
Cash used in investing activities was $2.2 million for the First Quarter
1998 and the First Quarter 1997. Cash used in investing activities for the First
Quarter 1998, included capital expenditures of $594,000, primarily related to
furniture, fixtures, and equipment ("FF&E") renewals and replacements at the
Hotels. Cash used in investing activities decreased to $7.8 million in 1997 from
$10.2 million in 1996. Cash used in investing activities included cash paid for
FF&E of $7.3 million in 1997 compared to $9.9 million in 1996. Cash used in
investing activities was $10.2 million in 1996, and cash provided by investing
activities was $37.2 million in 1995 due to proceeds received from the gain on
the sale of the Dallas Hotel.
Cash used in financing activities was $6.4 million and $8.6 million for
the First Quarter 1998, and the First Quarter 1997, respectively. Cash used in
financing activities for the First Quarter 1998, included repayments to Host
Marriott and affiliates of $4.1 million and repayments on the Partnership's
mortgage
PHLP Supp-41
<PAGE>
debt of $3.8 million. Cash used in financing activities increased to $15.2
million in 1997 from $10.0 million in 1996. Cash used in financing activities
for 1997 included repayments on the Partnership's mortgage debt of $7.2 million,
repayments to Host Marriott and affiliates of $6.1 million, and net deposits to
restricted cash accounts of $1.8 million. Cash used in financing activities was
$10.0 million and $53.8 million in 1996 and 1995, respectively. In 1995, the
Partnership repaid $59 million on its mortgage on the Bank Hotels primarily from
proceeds from the sale of the Dallas Hotel and from a $10 million advance from
Host Marriott under the Bank Guaranty.
No cash was distributed to the partners during the First Quarter 1998,
or the First Quarter 1997. No cash was distributed to the Partners for the years
ended December 31, 1997, 1996 and 1995. Amounts owed by the Partnership to Host
Marriott and Marriott International are significant, and it will be many years
before cash from operations would be available to the Partners.
Capital Expenditures
It is anticipated that shortfalls in the property improvement fund for
the six hotels financed with the Bank Loan, as defined below, will occur in
1998. The General Partner is currently working with the Manager and the lender
to resolve the expected shortfalls.
Debt
The Partnership's financing needs are funded through loan agreements
with (i) The Mitsui Trust and Banking Company (the "Bank Lender"), (ii) Host
Marriott and its affiliates, and (iii) Marriott International and its
affiliates.
Total Partnership interest expense increased 4% to $6.1 million for the
First Quarter 1998, when compared to the same period in 1997 primarily due to
increased interest expense on the mortgage loan (the "Bank Loan"). The weighted
average interest rate on the Bank Loan was 8.3% for the First Quarter 1998, as
compared to 7.4% for the comparable period in 1997.
The Bank Loan matures on December 22, 1998; however, an additional
one-year extension is available. In order to extend the Bank Loan maturity date
until December 22, 1999, the Partnership must provide notice of its intent to
extend the loan along with adequate debt service coverage tests to the lender by
June 22, 1998. Based on current debt service coverage tests, the Partnership
expects to be able to exercise the additional one-year extension of the loan
upon its maturity on December 22, 1998.
Pursuant to the terms of the restated Bank Loan, operating profit, as
defined, and the subordinated portion of the base management fee in excess of
debt service for the six hotels financed with the Bank Loan must be held in a
collateral account with the lender. After the end of each fiscal year, excess
cash remaining in the collateral account is applied to repay Bank Loan
principal, advances under the $26 million debt service guaranty (the "Bank
Guaranty") provided by Host Marriott and, depending upon the unadvanced balance
of the Bank Guaranty, deferred base management fees to Marriott International.
As a result, on February 23, 1998, the Partnership repaid $3.8 million in
principal on the Bank Loan, $2.2 million to Host Marriott on the Bank Guaranty,
and $1.5 million to Marriott International for deferred base management fees
using amounts in the collateral account. As of March 27, 1998, the balance of
the Bank Loan was $168.9 million, $21.6 million was available under the Bank
Guaranty, and deferred base management fees payable to Marriott International
were $2.4 million.
In connection with the restructuring of the Bank Loan, Host Marriott
agreed to provide an additional guaranty (the "Interest Guaranty") for $12
million to cover any shortfalls in the payment of interest after application of
all cash flow available for debt service. Advances with respect to interest will
be made first under the Interest Guaranty and then under the Bank Guaranty or an
equivalent "backup" guaranty provided by Marriott International. No amounts have
been advanced under the Interest Guaranty. Additionally, in early 1998, in
accordance with the terms of the Interest Guaranty, the amount available was
reduced from $8 million to $4 million.
PHLP Supp-42
<PAGE>
Host Marriott advanced funds (the "Host FF&E Loans") to the Partnership
from 1991 through 1994 for the purchase of FF&E. The loans are secured by
payments from Marriott International under leases from the Partnership for FF&E
replacements. On February 9, 1998, Marriott International repaid $1.5 million of
principal to the Partnership on these leases, and the Partnership subsequently
repaid $1.4 million of principal to Host Marriott on the Host FF&E Loans.
Therefore, as of March 27, 1998, the balance of the Host FF&E Loans was $1.5
million.
Inflation
For the three fiscal years ended December 31, 1997, the rate of
inflation has been relatively low and, accordingly, has not had a significant
impact on the Partnership's revenues and net losses before extraordinary items.
However, the Hotel's room rates and occupancy levels are sensitive to inflation,
and the amount of the Partnership's interest expense under floating rate debt
for a particular year will be affected by changes in short-term interest rates.
PHLP Supp-43
<PAGE>
FINANCIAL STATEMENTS
PHLP Supp-44
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
TO THE PARTNERS OF POTOMAC HOTEL LIMITED PARTNERSHIP:
We have audited the accompanying balance sheet of Potomac Hotel Limited
Partnership, a Delaware limited partnership, (the "Partnership") as of December
31, 1997 and 1996, and the related statements of operations, changes in
partners' deficit and cash flows for each of the three years in the period ended
December 31, 1997. These financial statements referred to below are the
responsibility of the General Partner'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 an 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, the financial statements referred to above present fairly, in
all material respects, the financial position of Potomac Hotel Limited
Partnership as of December 31, 1997 and 1996, and the results of its operations
and its cash flows for each of the three years in the period ended December 31,
1997, in conformity with generally accepted accounting principles.
ARTHUR ANDERSEN LLP
Washington, D.C.,
March 4, 1998
PHLP supp-45
<PAGE>
Potomac Hotel Limited Partnership
Balance Sheets
December 31, 1997 and 1996
(in thousands)
<TABLE>
<CAPTION>
1997 1996
--------------- ---------------
ASSETS
<S> <C> <C>
Property and equipment, net............................................... $ 154,253 $ 155,412
Due from Marriott International, Inc. and affiliates...................... 10,173 10,870
Restricted cash........................................................... 6,351 4,507
Property improvement funds................................................ 3,792 3,141
Deferred financing costs, net............................................. 473 709
Cash and cash equivalents................................................. 3,182 5,228
------------ ----------
$ 178,224 $ 179,867
============ =============
LIABILITIES AND PARTNERS' DEFICIT
LIABILITIES
Mortgage debt ........................................................... $ 172,667 $ 179,837
Due to Host Marriott Corporation and affiliates........................... 125,549 124,370
Incentive and base management fees due to
Marriott International, Inc............................................ 25,868 17,172
Due to Marriott International, Inc. and affiliates........................ 398 1,956
Accrued interest and other liabilities.................................... 864 829
------------ -------------
Total Liabilities...................................................... 325,346 324,164
------------ -------------
PARTNERS' DEFICIT
General Partner
Capital contribution................................................... 172,093 172,093
Cumulative net losses.................................................. (20,408) (20,380)
Cumulative withdrawals................................................. (186,527) (186,527)
------------ -------------
(34,842) (34,814)
------------ -------------
Limited Partners
Capital contributions, net of offering costs........................... 15,600 15,600
Cumulative net losses.................................................. (127,880) (125,083)
------------ -------------
(112,280) (109,483)
------------ -------------
Total Partners' Deficit................................................ (147,122) (144,297)
------------ -------------
$ 178,224 $ 179,867
============ =============
</TABLE>
See Notes to Financial Statements.
PHLP Supp-46
<PAGE>
Potomac Hotel Limited Partnership
Statements of Operations
For the Years Ended December 31, 1997, 1996 and 1995
(in thousands, except per Unit amounts)
<TABLE>
<CAPTION>
1997 1996 1995
---------- ---------- ----------
<S> <C> <C> <C>
REVENUES
Hotel (Note 3) ......................................................... $ 50,323 $ 45,853 $ 50,598
---------- ----------- -----------
OPERATING COSTS AND EXPENSES
Depreciation............................................................. 8,430 5,473 5,912
Incentive management fee................................................. 8,408 7,477 8,651
Base management fee...................................................... 4,515 4,300 4,597
Property taxes........................................................... 3,071 3,081 4,082
Ground rent, insurance and other......................................... 4,843 3,624 3,914
---------- ----------- -----------
29,267 23,955 27,156
---------- ------------ -----------
OPERATING PROFIT........................................................... 21,056 21,898 23,442
Interest expense......................................................... (24,596) (24,582) (29,431)
Other revenue............................................................ 715 843 1,448
Gain on sale of Dallas Hotel............................................. -- -- 24,586
---------- ------------ -----------
NET (LOSS) INCOME BEFORE EXTRAORDINARY ITEM................................ (2,825) (1,841) 20,045
EXTRAORDINARY ITEM
Gain on forgiveness of deferred fees..................................... -- -- 146,303
---------- ------------ -----------
NET (LOSS) INCOME $ (2,825) $ (1,841) $ 166,348
=========== ============== ===========
ALLOCATION OF NET (LOSS) INCOME
General Partner.......................................................... $ (28) $ (18) $ 7,612
Limited Partners......................................................... (2,797) (1,823) 158,736
---------- ------------ -----------
$ (2,825) $ (1,841) $ 166,348
========== ============= ===========
NET (LOSS) INCOME BEFORE EXTRAORDINARY ITEM
PER LIMITED PARTNER UNIT (1,800 UNITS)................................... $ (1,554) $ (1,013) $ 7,720
========== ============= ===========
NET (LOSS) INCOME PER LIMITED PARTNER
UNIT (1,800 UNITS)....................................................... $ (1,554) $ (1,013) $ 88,187
========== ============= ===========
</TABLE>
See Notes to Financial Statements.
PHLP Supp-47
<PAGE>
Potomac Hotel Limited Partnership
Statements of Changes in Partners' Deficit
For the Years Ended December 31, 1997, 1996 and 1995
(in thousands)
<TABLE>
<CAPTION>
General Limited
Partner Partners Total
------- -------- -----
<S> <C> <C> <C>
Balance, December 31, 1994...................................................... $ (44,408) $ (266,396) $ (310,804)
Net income.................................................................... 7,612 158,736 166,348
Capital contribution from forgiveness of debt................................. 2,000 -- 2,000
---------- ----------- -----------
Balance, December 31, 1995...................................................... (34,796) (107,660) (142,456)
Net loss...................................................................... (18) (1,823) (1,841)
---------- ----------- -----------
Balance, December 31, 1996...................................................... (34,814) (109,483) (144,297)
Net loss...................................................................... (28) (2,797) (2,825)
---------- ----------- -----------
Balance, December 31, 1997...................................................... $ (34,842) $ (112,280) $ (147,122)
========== =========== ===========
</TABLE>
See Notes to Financial Statements.
PHLP Supp-48
<PAGE>
Potomac Hotel Limited Partnership
Statements Of Cash Flows
For the Years Ended December 31, 1997, 1996 and 1995
(in thousands)
<TABLE>
<CAPTION>
1997 1996 1995
---------- ----------- ----------
<S> <C> <C> <C>
OPERATING ACTIVITIES
Net (loss) income................................................................... $ (2,825) $ (1,841) $ 166,348
Extraordinary item.................................................................. -- -- (146,303)
--------- ---------- -------
Net (loss) income before extraordinary item......................................... (2,825) (1,841) 20,045
Noncash items:
Deferred incentive and base management fees...................................... 8,696 7,737 9,435
Depreciation .................................................................... 8,430 5,473 5,912
Interest on amounts due to Host Marriott Corporation and affiliates.............. 7,084 6,892 6,235
Amortization of financing costs as interest...................................... 236 237 310
Loss on disposition of property and equipment.................................... -- 136 103
Interest on amounts due to an affiliate of Marriott International, Inc........... -- 29 --
Gain on sale of the Dallas Hotel................................................. -- -- (24,586)
Changes in operating accounts:
Due from/to Marriott International, Inc. and affiliates.......................... (985) 541 (2,719)
Accrued interest and other liabilities........................................... 250 180 77
--------- ---------- -----------
Cash provided by operating activities......................................... 20,886 19,384 14,812
------ ---------- ----------
INVESTING ACTIVITIES
Additions to property and equipment, net............................................ (7,271) (9,924) (4,976)
Change in property improvement funds................................................ (651) (63) (2,590)
Working capital received from (funded to) Marriott International, Inc.
and affiliates, net............................................................. 168 (262) 400
Net proceeds from sale of the Dallas Hotel............................................ -- -- 44,403
--------- ---------- -----------
Cash (used in) provided by investing activities............................... (7,754) (10,249) 37,237
--------- ---------- -----------
FINANCING ACTIVITIES
Principal repayments on mortgage debt............................................... (7,170) (6,163) (59,000)
(Repayments to) advances from Host Marriott Corporation and affiliates, net......... (6,120) (4,670) 3,319
Change in restricted cash........................................................... (1,844) (1,559) (2,948)
(Repayments to) advances from affiliates of Marriott International, Inc............. (44) (37) 350
Collection of amounts due from Marriott International, Inc.......................... -- 2,383 5,755
Payment of financing costs.......................................................... -- -- (1,112)
Increase in amounts due from Marriott International, Inc............................ -- -- (157)
--------- ---------- -----------
Cash used in financing activities............................................. (15,178) (10,046) (53,793)
--------- ------- -----------
DECREASE IN CASH AND CASH EQUIVALENTS................................................. (2,046) (911) (1,744)
CASH AND CASH EQUIVALENTS at beginning of year........................................ 5,228 6,139 7,883
--------- --------- --------
CASH AND CASH EQUIVALENTS at end of year.............................................. $ 3,182 $ 5,228 $ 6,139
========= ========= ========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid for mortgage and other interest........................................... $ 17,046 $ 17,528 $ 22,555
========= ========= ========
NONCASH FINANCING ACTIVITIES:
Forgiveness of obligations due to General Partner
accounted for as a capital contribution......................................... $ -- $ -- $ 2,000
========= ========= ========
</TABLE>
See Notes to Financial Statements.
PHLP Supp-49
<PAGE>
Potomac Hotel Limited Partnership
Notes to Financial Statements
For the Years Ended December 31, 1997 and 1996
NOTE 1. THE PARTNERSHIP
Description of the Partnership
Potomac Hotel Limited Partnership (the "Partnership") was formed in Delaware on
December 17, 1981, to acquire, develop, own, and operate up to 11 Hotels (the
"Hotels"). On July 16, 1982, 1,800 limited partnership interests ("Units") were
sold pursuant to a public offering at $10,000 per unit. The Partnership
commenced operations on July 17, 1982. The Hotels are operated as part of the
Marriott full-service hotel system and are managed by Marriott International,
Inc. ("Marriott International") or Marriott Hotel Services, Inc. ("MHSI"), which
is a subsidiary of Marriott International, (collectively the "Managers"). The
sole general partner of the Partnership is Host Marriott Corporation ("Host
Marriott" or the "General Partner").
The General Partner contributed five existing hotels (including one undergoing
substantial renovation), three hotels under construction, and sites for three
hotels planned to be developed to the Partnership in exchange for $186,527,000
and a 1% General Partner interest. These funds were borrowed by the Partnership
under a loan agreement (see Note 6). The Partnership completed the development
and construction of its final hotel during 1984. On January 31, 1986, the
Partnership sold its 307-room Denver West Hotel to Host Marriott in accordance
with provisions of the loan agreement and the partnership agreement. As
discussed in Note 6, foreclosures on the Raleigh, Tampa, and Point Clear Hotels
occurred in 1993 and 1994. In 1994, the Partnership repurchased the Raleigh and
Tampa Hotels using proceeds from two loans advanced by a subsidiary of Host
Marriott. On August 22, 1995, the Partnership sold its Dallas Hotel to a
wholly-owned subsidiary of Host Marriott and used the proceeds to repay a
portion of its mortgage debt in connection with the restructuring of the Bank
Loan, as described in Note 6. As of December 31, 1997, the Partnership owned and
operated eight hotels located in the following cities: Albuquerque, New Mexico;
Greensboro, North Carolina; Houston, Texas; Miami, Florida; Raleigh, North
Carolina; Scottsdale, Arizona; Seattle, Washington; and Tampa, Florida.
Partnership Allocations and Distributions
The partnership agreement provides for the distribution of cash and the
allocation, for tax purposes, of operating income, gains and losses, and
deductions and credits among the partners. Except for all cash proceeds
attributable to the replacement of furniture, fixtures and equipment ("FF&E") as
well as depreciation and interest on indebtedness (all of which are specially
allocated to the General Partner by the partnership agreement), profits and
losses are allocated between the partners as follows:
Profits Losses
------- ------
General Partner 25% 1%
Limited Partners 75% 99%
Any future distributions of cash will be made in the same percentages that
profits and losses are allocated.
Gains (for financial statement purposes) from the sale or other disposition of
Partnership property are allocated (i) first, to the partners with negative
capital accounts in proportion to their capital investment balances and (ii)
thereafter 25% to the General Partner and 75% to the limited partners.
PHLP Supp - 50
<PAGE>
NOTE 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Accounting
The Partnership records are maintained on the accrual basis of accounting, and
its fiscal year coincides with the calendar year.
Use of 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 disclosures 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.
Working Capital and Supplies
Pursuant to the terms of the Partnership's management agreements discussed in
Note 8, the Partnership is required to provide the Managers with working capital
and supplies to meet the operating needs of the Hotels. The Managers convert
cash advanced by the Partnership into other forms of working capital consisting
primarily of operating cash, inventories, and trade receivables and payables
which are maintained and controlled by the Managers. Upon the termination of the
agreements, it is expected that the working capital and supplies will be
converted into cash and returned to the Partnership or transferred to a
subsequent owner or operator for consideration. As a result of these conditions,
the individual components of working capital and supplies controlled by the
Managers are not reflected in the accompanying balance sheet.
Revenues and Expenses
Hotel revenues represent house profit of the Partnership's Hotels since the
Partnership has delegated substantially all of the operating decisions related
to the generation of house profit of the Hotels to the Managers. House profit
reflects hotel operating results which flow to the Partnership as property owner
and represents gross hotel sales less property-level expenses, excluding
depreciation, base and incentive management fees, property taxes, ground rent,
insurance, and certain other costs, which are disclosed separately in the
statement of operations.
On November 20, 1997, the Emerging Issues Task Force ("EITF") of the Financial
Accounting Standards Board reached a consensus on EITF 97-2, "Application of
FASB Statement No. 94 and APB Opinion No. 16 to Physician Practice Management
Entities and Certain Other Entities with Contractual Management Arrangements."
EITF 97-2 addresses the circumstances in which a management entity may include
the revenues and expenses of a managed entity in its financial statements.
The Partnership is assessing the impact of EITF 97-2 on its policy of excluding
the property-level revenues and operating expenses of the Hotels from its
statements of operations.
PHLP Supp - 51
<PAGE>
Property and Equipment
Property and equipment is recorded at the cost incurred directly by the
Partnership or at the cost incurred by the General Partner in the case of those
assets contributed by the General Partner. Depreciation is computed using the
straight-line method over the estimated useful lives of the assets as follows:
Buildings and improvements 40 years
Leasehold improvements 40 years
Furniture and equipment 4-10 years
The Partnership assesses impairment of its real estate properties based on
whether estimated undiscounted future cash flows from such properties will be
less than their net book value. If a property is impaired, its basis is adjusted
to fair market value.
Deferred Financing Costs
Deferred financing costs consist of legal and accounting fees and other costs
incurred in connection with obtaining Partnership financing. Financing costs are
amortized using the straight-line method, which approximates the effective
interest rate method, over the life of the mortgage debt. As of December 31,
1997 and 1996, deferred financing costs totaled $1,256,000. Accumulated
amortization of deferred financing costs as of December 31, 1997 and 1996, was
$783,000 and $547,000, respectively.
Cash and Cash Equivalents
The Partnership considers all highly liquid investments with a maturity of three
months or less at date of purchase to be cash equivalents.
Income Taxes
Provision for federal and state income taxes has not been made in the
accompanying financial statements because the Partnership does not pay income
taxes but, rather, allocates profits and losses to the individual partners.
Significant differences exist between the net income or loss for financial
reporting purposes and the net income or loss as reported in the Partnership's
tax return. These differences are due primarily to the use for tax purposes of
differing useful lives and accelerated depreciation methods for assets,
differing bases in contributed capital, and differing timings of the recognition
of management fee expenses. As a result of these differences, the excess of the
net liabilities reported on a tax basis over the net liabilities reported in the
accompanying financial statements was $36 million as of December 31, 1997, and
$46 million as of December 31, 1996.
Statement of Financial Accounting Standards
In 1996, the Partnership adopted Statement of Financial Accounting Standards
("SFAS") No. 121 "Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to be Disposed of." Adoption of SFAS No. 121 did not have an
effect on its financial statements.
Reclassifications
Certain reclassifications were made to the prior years financial statements to
conform to the current year presentation.
PHLP Supp - 52
<PAGE>
NOTE 3. REVENUES
Hotel revenues consist of the following hotel operating results for the three
years ended December 31 (in thousands):
<TABLE>
<CAPTION>
1997 1996 1995
---------- ---------- ----------
<S> <C> <C> <C>
HOTEL SALES
Rooms.......................................................................... $ 95,761 $ 89,916 $ 94,654
Food and beverage.............................................................. 43,385 42,111 46,605
Other.......................................................................... 11,348 11,315 11,977
---------- ---------- ----------
150,494 143,342 153,236
---------- ---------- ----------
HOTEL EXPENSES
Departmental direct costs
Rooms....................................................................... 23,556 22,619 23,443
Food and beverage........................................................... 33,231 32,863 35,569
Other hotel operating expenses................................................. 43,384 42,007 43,626
---------- ---------- ----------
100,171 97,489 102,638
---------- ---------- ----------
HOTEL REVENUES.................................................................... $ 50,323 $ 45,853 $ 50,598
========== ========== ==========
</TABLE>
NOTE 4. PROPERTY AND EQUIPMENT
Property and equipment consists of the following as of December 31 (in
thousands):
<TABLE>
<CAPTION>
1997 1996
------------- -------------
<S> <C> <C>
Land................................................................... $ 10,444 $ 10,444
Building and improvements.............................................. 194,661 191,449
Furniture and equipment................................................ 26,758 22,699
------------- -------------
231,863 224,592
Less accumulated depreciation.......................................... (77,610) (69,180)
------------- -------------
$ 154,253 $ 155,412
============= =============
</TABLE>
NOTE 5. ESTIMATED FAIR VALUE OF FINANCIAL INSTRUMENTS
The estimated fair values of financial instruments are shown below. The fair
values of financial instruments not included in this table are estimated to be
equal to their carrying amounts.
<TABLE>
<CAPTION>
As of December 31, 1997 As of December 31, 1996
----------------------- -----------------------
Estimated Estimated
Carrying Fair Carrying Fair
Amount Value Amount Value
------ ----- ------ -----
(in thousands) (in thousands)
Debt and Other Liabilities
<S> <C> <C> <C> <C>
Mortgage debt...................................................... $172,667 $173,474 $179,837 $177,695
Due to Host Marriott Corporation and affiliates.................... 122,356 40,803 118,280 41,313
Due to Marriott International, Inc. and affiliates................. 26,168 3,208 17,515 2,086
</TABLE>
The estimated fair value of mortgage debt is based on the expected future debt
service payments, discounted at estimated market rates adjusted for the presence
of debt service guaranties. "Due to Host Marriott Corporation and affiliates"
and "Due to Marriott International, Inc. and affiliates" are valued based on the
expected future payments from operating cash flow discounted at risk adjusted
rates.
PHLP Supp - 53
<PAGE>
NOTE 6. DEBT
Host Marriott Guaranty
The Partnership originally entered into a loan agreement dated January 14, 1982,
(the "Original Loan") which funded up to $348 million to finance the acquisition
and development of the Hotels. In connection with the Original Loan, the General
Partner agreed to advance up to $42.6 million to cover debt service shortfalls
(the "Host Marriott Guaranty"). The General Partner advanced a total of $33.4
million under the Host Marriott Guaranty. The Partnership repaid $22.3 million
and $5 million from the proceeds of the S&L Loan and the Bank Loan,
respectively, as defined below. Therefore, as of December 31, 1997, $6.1 million
plus accrued interest was outstanding related to the Host Marriott Guaranty.
Savings and Loan Association Loan
On February 28, 1985, the Partnership borrowed $103 million (the "S&L Loan")
from a savings and loan association (the "S&L Lender") to refinance the loans on
three of its hotels located in Raleigh, North Carolina; Tampa, Florida; and
Point Clear, Alabama (the "S&L Hotels") and to repay a portion of the Host
Marriott Guaranty ($22.3 million). The S&L Loan, with an original maturity of
March 1, 2000, bore interest at 2.75% over the monthly average rate on six-month
Treasury Bills (subject to a 9% floor and a 16% ceiling). For the years 1989
through 1992, the S&L Lender, the Manager, and the General Partner agreed to
several modifications including (i) reductions in the interest rate, (ii)
reductions in the base management fees paid to the Manager, (iii) increases in
the debt service guaranty provided by Host Marriott (the "S&L Guaranty"), and
(iv) Host Marriott's subordination of cash flow generated from the Host Marriott
owned 66-room addition to the Raleigh Hotel.
Bank Loan
On December 22, 1987, the Partnership borrowed $245 million (the "Bank Loan")
from The Mitsui Trust and Banking Company (the "Bank Lender") to repay the
outstanding indebtedness on seven of its Hotels (the "Bank Hotels"), a portion
of the Host Marriott Guaranty ($5.0 million), and related transaction costs. The
Bank Loan bore interest at an effective fixed rate of 10.37% and required
monthly interest payments with the entire principal balance due at maturity.
The Bank Loan was secured by first priority liens on the Bank Hotels and all
related assets, including working capital and supplies advanced to the Manager
for each Bank Hotel. The Bank Loan established a priority for distributions of
cash from operations, prohibited the Partnership from creating any other liens
on the Bank Hotels, and restricted the Partnership from incurring certain other
indebtedness. The Bank Loan was non-recourse to the Partnership and its
partners, but was supported by a $26 million Host Marriott guaranty (the "Bank
Guaranty") and an equivalent Marriott International "backup" guaranty (to be
funded only if Host Marriott did not fund its guaranty).
The Bank Loan matured on December 22, 1994, with a principal balance of $245
million, and was not repaid at that time because the Partnership had
insufficient funds to do so. On December 22, 1994, the Partnership entered into
a forbearance agreement with the Bank Lender under which the Bank Lender agreed
not to exercise its rights and remedies for nonpayment of the Bank Loan on the
maturity date until February 24, 1995. The forbearance agreement was
subsequently extended until August 22, 1995, to allow the Partnership time to
solicit the consent of its limited partners regarding the sale of the Dallas
Hotel to a subsidiary of the General Partner in connection with the
restructuring of the Bank Loan. In exchange for the Bank Lender's agreement to
forbear, the Partnership made monthly interest payments at the one-month London
Interbank Offered Rate ("LIBOR") rate plus two percentage points for the period
December 22, 1994, through June 21, 1995, and at the one-month LIBOR rate plus
two-and-one-quarter percentage points for the period June 22, 1995, through
August 21, 1995.
Restructured Bank Loan
PHLP Supp - 54
<PAGE>
On August 22, 1995, the General Partner and the Bank Lender successfully
completed the restructuring and extension of the Bank Loan. The principal terms
of the restructured Bank Loan are as follows: (i) the General Partner advanced
$10 million under the Bank Guaranty, which was used to pay down principal on the
Bank Loan (advances under the Bank Guaranty bear interest at an annual rate
equal to the prime rate, as announced by Bankers Trust Company); (ii) the
Partnership used $44 million of proceeds from the sale of the Dallas Hotel to
repay principal on the Bank Loan; (iii) the maturity of the Bank Loan was
extended to December 22, 1997, with two additional one-year extensions available
if certain debt service coverage tests are met; (iv) semi-annual payments of
interest at the six-month LIBOR rate plus 1.5 percentage points and annual
payments of principal of $5 million during the first three years of the
restructured loan and $6 million during any extension periods; (v) the General
Partner's liability under the Bank Guaranty remained at $26 million (subject to
a credit for the advance of $10 million described in (i) above); (vi) Marriott
International continued its "backup" guaranty ( the "Marriott International
Backup Guaranty"), under which Marriott International agreed to advance any
amounts not advanced by Host Marriott under the Bank Guaranty; (vii) Host
Marriott (but not Marriott International) agreed to an additional guaranty (the
"Interest Guaranty") for $12 million to cover any shortfalls in the payment of
interest after application of all cash flow available for debt service (advances
in respect to interest will be made first under the Interest Guaranty then under
the Bank Guaranty or the Marriott International Backup Guaranty); (viii) the
Interest Guaranty is to be reduced each year by $4 million less any Interest
Guaranty advances as of the date such reduction is to occur and the Interest
Guaranty will be increased by $4 million for each extension period, if
applicable (the remaining liability under the Bank Guaranty and the Marriott
International Backup Guaranty in any event must at least be equal to the
scheduled amortization payments due during the extension periods); (ix) all
Partnership cash relating to the Bank Hotels (including the Bank Hotels property
improvement fund and the subordinated base management fees) collateralize the
Bank Loan; (x) the Bank Lender was paid a fee of $573,000 for the successful
restructuring of the Bank Loan; and (xi) the Bank Lender required Marriott
International to terminate the management agreement related to the Bank Hotels
(the "Marriott International Management Agreement") and to forgive the deferred
balances of base and incentive management fees outstanding as of December 31,
1994. The Partnership recorded an extraordinary gain of $146.3 million in 1995
to recognize the gain which resulted from the forgiveness of the deferred fees.
In addition, the Bank Lender required a portion of the base management fee equal
to 1% of gross Bank Hotel sales and a portion of the property improvement fund
contribution equal to 1% of gross Bank Hotel sales to be subordinated to the
payment of debt service.
The Bank Loan was scheduled to mature on December 22, 1997; however, two
one-year extensions were available. As required under the Bank Loan, on June 19,
1997, the Partnership provided notice to the lender of its intent to extend the
loan along with a debt service coverage ratio calculation with a required ratio
greater than 1.2 and successfully extended the Bank Loan maturity to December
22, 1998. An additional one-year extension is available under the Bank Loan, and
in order to extend the loan to December 22, 1999, the Partnership must provide
notice of its intent to extend the loan along with adequate debt service
coverage tests to the lender by June 22, 1998. Based on current debt service
coverage tests, the Partnership expects to be able to exercise the additional
one-year extension of the loan upon its maturity on December 22, 1998.
Pursuant to the terms of the restated Bank Loan, operating profit, as defined,
and the subordinated portion of the base management fee from the Bank Hotels in
excess of debt service must be held in a collateral account with the Bank
Lender. After the end of each fiscal year, excess cash remaining in the
collateral account is applied as follows: (i) 50% to repay Bank Loan principal
and (ii) 50% to pay principal and interest on advances under the Bank Guaranty,
until the unadvanced portion of the Bank Guaranty is replenished to a balance of
$20.0 million. Thereafter, excess cash in the collateral account is applied as
follows: (i) 50% to repay Bank Loan principal, (ii) 25% to pay principal and
interest on advances under the Bank Guaranty, and (iii) 25% to repay deferred
base management fees to Marriott International.
As of December 31, 1997 and 1996, the principal balance of the Bank Loan was
$172.7 million and $179.8 million, respectively. As of December 31, 1997 and
1996, $8.5 million and $10.0 million including accrued interest, respectively,
was outstanding pursuant to the Bank Guaranty. On February 23, 1998, in
accordance with the cash flow priorities described in the preceding paragraph,
the Partnership repaid $3.8
PHLP Supp - 55
<PAGE>
million in principal on the Bank Loan, $2.2 million to Host Marriott on the Bank
Guaranty, and $1.5 million to Marriott International for deferred base
management fees using amounts in the collateral account. Therefore, as of
February 23, 1998, the balance on the Bank Loan was $168.9 million, $21.6
million was available under the Bank Guaranty, and deferred base management fees
payable to Marriott International were $2.1 million. The weighted average
interest rate on the Bank Loan was 7.46% for 1997, 7.26% for 1996, and 7.89% for
1995. At December 31, 1997, the interest rate on the Bank Loan was 8.25%. The
weighted average interest rate on the Bank Guaranty was 8.44% for 1997, 8.27%
for 1996, and 8.85% for 1995. At December 31, 1997, the interest rate on the
Bank Guaranty was 8.50%.
No amounts were advanced under the Interest Guaranty during 1997. Additionally
on December 22, 1997, in accordance with the terms of the Interest Guaranty, the
amount available was increased from $4 million to $8 million, and in early 1998,
the amount available was reduced to $4 million.
Raleigh and Tampa Loans
The Partnership repurchased the Raleigh Hotel and the Tampa Hotel on May 20,
1994, and July 11, 1994, respectively, with funding provided by non-recourse
loans to the Partnership from a wholly-owned subsidiary of Host Marriott.
The non-recourse loan for the Raleigh Hotel totaled $19.4 million to cover the
$18.7 million purchase price and closing costs. Under the terms of the loan,
$14.0 million of principal ("Raleigh Note A") bears interest at a fixed rate of
10% and requires quarterly payments of interest and principal, based on a
25-year amortization schedule, with a balloon payment due at maturity on May 20,
2001. The remaining principal of $5.4 million ("Raleigh Note B") bears interest
at a fixed rate of 11.5% and matures on May 20, 2006. Cash flow from the Raleigh
Hotel is used to pay debt service in the following order of priority: (i)
interest on Raleigh Note A, (ii) principal on Raleigh Note A, and (iii) interest
on Raleigh Note B. The remaining cash flow is used to pay principal on Raleigh
Note B. If cash flow is insufficient to pay interest on Raleigh Note B, the
unpaid interest rolls into the Raleigh Note B principal balance annually. As of
December 31, 1997 and 1996, the Raleigh Note A principal balance was $13.5
million, and the Raleigh Note B principal balance was $3.8 million and $4.8
million, respectively.
The non-recourse loan for the Tampa Hotel totaled $16.3 million to cover the
$15.7 million purchase price and closing costs. Under the terms of the loan,
$10.0 million of principal ("Tampa Note A") bears interest at a fixed rate of
10% and requires quarterly payments of interest and principal, based on a
25-year amortization schedule, with a balloon payment due at maturity on July
11, 2001. The remaining principal of $6.3 million ("Tampa Note B") bears
interest at a fixed rate of 11.5% and matures on July 11, 2006. Cash flow from
the Tampa Hotel is used to pay debt service in the following order of priority:
(i) interest on Tampa Note A, (ii) principal on Tampa Note A, and (iii) interest
on Tampa Note B. The remaining cash flow is used to pay principal on Tampa Note
B. If cash flow is insufficient to pay interest on Tampa Note B, the unpaid
interest rolls into the Tampa Note B principal balance annually. As of December
31, 1997 and 1996, the Tampa Note A principal balance was $9.7 million, and the
Tampa Note B principal balance was $5.4 million and $6.1 million, respectively.
Both of the Raleigh and Tampa loans are secured by a first priority lien on the
building; land (the Partnership's leasehold interest in the case of the Tampa
Hotel); furniture, fixtures and equipment; and working capital and supplies
advanced to the Manager.
PHLP Supp-56
<PAGE>
As of December 31, 1997, required principal payments related to the Raleigh and
Tampa Loans are as follows (in thousands):
Year
----
1998...............................$ 325
1999............................... 357
2000............................... 393
2001............................... 22,125
2002............................... --
Thereafter......................... 9,200
---------------
$ 32,400
===============
Furniture, Fixtures and Equipment Loans
Prior to December 22, 1994, the Bank Loan and Marriott International Management
Agreement, as defined in Note 8, required the Partnership to deposit funds in an
escrow account (based on a percentage, ranging from 1% to 5%, of Bank Hotel
sales) to be used to replace FF&E at the Bank Hotels. Additionally, the Bank
Loan required the General Partner to fund up to $30 million of these reserves,
if necessary (the "FF&E Guaranty"). The Marriott International Management
Agreement contained a similar reserve requirement for the S&L Hotels.
Host Marriott advanced funds (the "Host FF&E Loans") for the purchase of FF&E
for the Bank Hotels from 1991 through 1994 pursuant to the FF&E Guaranty and
also provided loans for the purchase of FF&E at the S&L Hotels for 1991 and
1992. The Host FF&E Loans bear interest at the prime rate and are to be repaid
in annual installments over six years. As of December 31, 1997 and 1996, $2.9
million and $5.2 million was outstanding under the Host FF&E Loans. The weighted
average interest rate was 8.44% for 1997, 8.27% for 1996 and 8.85% for 1995. At
December 31, 1997, the interest rate was 8.50%.
As of December 31, 1997, required principal payments related to the Host FF&E
Loans are as follows (in thousands):
Year
----
1998................$ 2,600
1999................ 300
-----------
$ 2,900
===========
Subsequent to year-end, the Partnership repaid $1.4 million of principal to Host
Marriott on the Host FF&E Loans, thereby reducing the balance on the Host FF&E
Loans to $1.5 million.
These loans are non-recourse to the Partnership and its partners and are secured
by payments from Marriott International under the FF&E Leases, as defined in
Note 8. Interest expense on these loans is offset by lease payments received
under the Marriott International FF&E Leases. As of December 31, 1997 and 1996,
Marriott International owed $2.9 million plus accrued interest to the
Partnership pursuant to these agreements with the final installment due on
December 31, 1999. Subsequent to year-end, Marriott International repaid $1.5
million of principal to the Partnership on the Marriott International FF&E
Leases.
Since 1995 the Bank Hotels' FF&E funding requirements have been met through
contributions to a property improvement fund for the combined Bank Hotels. Since
its acquisition date in 1994, the FF&E funding requirements for the Tampa Hotel
have been met through the establishment of a property improvement fund for the
Hotel. However, the Raleigh Hotel required additional funds, as described below.
See Note 8 for further details on the property improvement funds.
PHLP Supp-57
<PAGE>
Raleigh Hotel Furniture, Fixtures and Equipment Loans
In 1995, Host Marriott and MHSI each provided an unsecured loan to the
Partnership in the amount of $350,000 ("Raleigh $350,000 FF&E Loans") to fund
costs of a softgoods rooms renovation at the Raleigh Hotel in excess of amounts
available in the Hotel's property improvement fund. Each Raleigh $350,000 FF&E
Loan was fully advanced to the Partnership by January 24, 1995. The Raleigh
$350,000 FF&E Loans bear interest at the prime rate. Payments on the loans are
made each accounting period from a portion of the property improvement fund
contribution equal to 1% of gross Hotel sales and are applied first to interest
and then to principal. The Raleigh $350,000 FF&E Loans are due and payable on
the earlier of the termination of the Raleigh management agreement or December
31, 2005. Interest accrued in 1995 was added to the principal balance of each of
the loans. As of December 31, 1997 and 1996, $298,000 and $342,000,
respectively, was due on each of the Raleigh $350,000 FF&E Loans. The weighted
average interest rate was 8.44% for 1997, 8.27% for 1996, and 8.85% for 1995. At
December 31, 1997, the interest rate on the Raleigh $350,000 FF&E Loans was
8.50%.
In 1996, Host Marriott provided another unsecured loan to the Partnership in the
amount of $700,000 ("Raleigh $700,000 FF&E Loan") to fund costs of a casegoods
rooms renovation at the Raleigh Hotel in excess of the amounts available in the
Hotel's property improvement fund. The Raleigh $700,000 FF&E Loan was fully
advanced to the Partnership by December 9, 1996. The Raleigh $700,000 FF&E Loan
bears interest at the prime rate plus 0.5%. Payments on the loan are made each
accounting period from a portion of the property improvement fund contribution
equal to 1% of gross Hotel sales and are applied first to interest and then to
principal. The Raleigh $700,000 FF&E Loan is due and payable on the earlier of
the termination of the Raleigh management agreement or December 31, 2003. As of
December 31, 1997 and 1996, $571,000 and $658,000, respectively, was due on the
Raleigh $700,000 FF&E Loan. The weighted average interest rate was 8.94% for
1997 and 8.75% for 1996. At December 31, 1997, the interest rate was 9.00%.
Other Loans
As of December 31, 1997, the Partnership also owed Host Marriott $88.8 million
including accrued interest, as follows: (i) $64.4 million related to the
original Host Marriott Guaranty and the S&L Guaranty; (ii) $8.5 million related
to the Bank Guaranty; (iii) $5.4 million related to working capital advances;
(iv) $8.9 million for capital improvements at the Point Clear, Alabama Hotel;
and (v) $1.6 million from Host Marriott's subordination of cash flow from the
66-room Raleigh addition. All of the above-mentioned advances bear interest at
the prime rate as announced by Bankers Trust Company with a weighted average
interest rate of 8.44% for 1997, 8.27% for 1996, and 8.85% for 1995. At December
31, 1997, the interest rate was 8.50%.
All Partnership indebtedness, including the Bank Loan, guaranty advances, other
General Partner loans, and deferred base and incentive management fees, which is
outstanding upon dissolution of the Partnership must be repaid before any cash
distributions can be made to the partners.
NOTE 7. LEASES
The Partnership's five ground leases have lease terms expiring in 2006 (Tampa),
2008 (Greensboro and Miami), 2009 (Houston), and 2032 (Albuquerque) and contain
one or more renewal options that allow the Partnership to extend the leases from
15 to 50 additional years. The leases generally provide for minimum base rentals
as well as additional ground rentals which are calculated as a percentage of
sales in excess of minimum base rentals. Total ground rental expense for the
three years ended December 31 consisted of (in thousands):
1997 1996 1995
----------- ----------- --------
Minimum rentals.......................$ 1,548 $ 1,548 $ 1,548
Additional rentals based on sales..... 719 706 664
----------- ----------- --------
$ 2,267 $ 2,254 $ 2,212
=========== =========== ========
PHLP Supp-58
<PAGE>
Minimum rentals for the five Hotels operating under noncancelable leases for
real estate for future years (exclusive of percentage rentals) are as follows
(in thousands):
Minimum
Year Rental
------ ----------
1998....................$ 1,548
1999.................... 1,548
2000.................... 1,548
2001.................... 1,548
2002.................... 1,548
Thereafter................. 13,216
-----------
Total minimum lease payments $ 20,956
===========
NOTE 8. MANAGEMENT AGREEMENTS
Marriott International Management Agreement
On July 16, 1982, the Partnership entered into a management agreement with
Marriott International (the "Marriott International Management Agreement") to
manage and operate the Hotels for a term of 25 years from the opening of each
Hotel with renewal terms, at the option of Marriott International, of up to an
additional 50 years. The Marriott International Management Agreement provided
for payment of base management fees equal to a percentage of sales ranging from
7% to 8% depending on the length of time the Hotel had been open as well as
incentive management fees equal to a percentage of hotel operating profit, as
defined, ranging from 20% to 90% depending on the level of returns from
operating profit paid to the Partnership. In connection with obtaining the Bank
Loan, the Marriott International Management Agreement was amended on December
22, 1987, with respect to the Bank Hotels to provide for the payment of base
management fees only after payment of debt service on the Bank Loan. If funds
available after debt service were insufficient to pay all base management fees
related to the Bank Hotels, the fees were deferred without interest and payable
in future years. The Partnership and the S&L Lender also modified the Marriott
International Management Agreement with respect to the S&L Hotels, providing for
reductions in the base management fees for 1989 through 1993. As of December 31,
1994, the balance of deferred base management fees was $47.5 million. Payment of
the incentive management fees was dependent upon the availability of cash flow
after debt service, and incentive management fees were payable only after
repayment of certain debt service guaranty advances and certain priority returns
to the Partnership expressed as a percentage of limited partner invested equity.
Through December 31, 1994, no incentive management fees had been paid since
inception. As of December 31, 1994, deferred incentive management fees were
$98.8 million. In connection with the Bank Loan restructuring in 1995, the
Marriott International Management Agreement was terminated and the deferred
balances of base and incentive management fees outstanding as of December 31,
1994, were forgiven. The Partnership recorded an extraordinary gain of $146.3
million in 1995 to recognize the gain which resulted from the forgiveness of the
deferred fees.
Until the termination of the Marriott International Management Agreement,
Marriott International entered into leases (the "FF&E Leases") from the
Partnership for all FF&E replacements for terms of up to six years. Lease
payments represent an amount approximately equal to the principal amortization,
interest, and fees associated with indebtedness incurred by the Partnership to
finance the replacements and any sales and use taxes, personal property taxes,
insurance premiums, and additional costs incurred by the Partnership in
connection with the acquisition and use of such replacements. As of December 31,
1997 and 1996, Marriott International was obligated to pay $2.9 million and $5.2
million, respectively, to the Partnership under these agreements.
PHLP Supp - 59
<PAGE>
Bank Hotels Management Agreement
Effective December 31, 1994, in connection with the Bank Loan restructuring, the
Partnership entered into a new management agreement (the "Bank Hotels Management
Agreement") with Marriott International. This agreement provides for an initial
term of 25 years from the opening date, as specified in the agreement, of each
Bank Hotel with renewal terms at the option of Marriott International of up to
an additional 50 years. The Bank Hotels Management Agreement provides Marriott
International with a base management fee of 3% of gross Bank Hotel sales. In
accordance with the restructured Bank Loan, a portion of the base management fee
equal to 1% of gross Bank Hotel sales (the "Subordinated Base Management Fee")
is subordinate to the payment of debt service on the Bank Loan and repayment of
certain advances under the Bank Guaranty. As a result, the Subordinated Base
Management Fee is set aside in a collateral account to be made available for the
payment of (i) debt service on the Bank Loan, (ii) debt service on the Bank
Guaranty, and (iii) depending upon the balance of the Bank Guaranty, deferred
base management fees. Any unpaid base management fees are deferred without
interest and are payable in future years. As of December 31, 1997 and 1996,
deferred base management fees were $3.6 million and $2.4 million, respectively.
On February 23, 1998, the Partnership repaid $1.5 million to Marriott
International for deferred base management fees. Therefore, as of February 23,
1998, deferred base management fees were $2.1 million.
The Manager will continue to earn incentive management fees equal to 20% of
hotel operating profit, as defined, and additional incentive management fees,
after certain returns to the Partnership, ranging from 10% to 70% of hotel
operating profit depending upon the level of returns achieved by the
Partnership. Payment of incentive management fees will continue to be fully
subordinated to the payment of debt service and to the replenishment of all
guaranties. As of December 31, 1997 and 1996, deferred incentive management fees
were $22.2 million and $14.8 million, respectively.
The Bank Hotels Management Agreement also requires the Partnership to maintain a
property improvement fund (the "Bank Hotels Property Improvement Fund") to
ensure that the physical condition and product quality of the Bank Hotels are
maintained. Contributions to the Bank Hotels Property Improvement Fund are equal
to 5% of gross Bank Hotel sales.
On February 24, 1995, the Partnership, the Bank Lender, and Marriott
International entered into a cash collateral agreement with terms effective
January 1, 1995, whereby all Partnership cash relating to the Bank Hotels
(including the Bank Hotels Property Improvement Fund and the Subordinated Base
Management Fees) was pledged as collateral for the Bank Loan. Pursuant to the
cash collateral agreement, a portion of the Bank Hotels Property Improvement
Fund contribution equal to 4% of gross Bank Hotel sales is to be deposited into
an escrow account for the FF&E needs of the Bank Hotels. This escrow balance as
of December 31, 1997 and 1996, was $2.8 million and $2.4 million, respectively.
The remaining portion of the Bank Hotels Property Improvement Fund contribution
equal to 1% of gross Bank Hotel sales is to be deposited into a restricted cash
account which is subordinated to the payment of current debt service on the Bank
Loan. Any balance remaining in the restricted cash account at the end of each
year, after payment of debt service, will be released from any restrictions. As
of December 31, 1997 and 1996, the balance in the restricted cash account was
$1.1 million. The balance in the fund was not required for 1997 or 1996 debt
service and was transferred to the Bank Hotels Property Improvement Fund in
early 1998 and 1997, respectively.
Raleigh and Tampa Management Agreements
Upon the Partnership's reacquisition of the Raleigh and Tampa Hotels, the
Partnership entered into new management agreements (the "MHSI Agreements") with
MHSI for each of the Hotels. These agreements provide for payments to MHSI as
follows: (i) a base management fee equal to 3% of gross Hotel sales and (ii) an
incentive management fee equal to 20% of operating profit, as defined. The MHSI
Agreements provide for an initial term expiring on December 31, 2009. MHSI may
renew each agreement at its option, for up to two successive eight-year terms.
The Partnership may terminate the Raleigh or Tampa management agreement after
June 18, 1999, and July 16, 1999, respectively, if specified minimum operating
results for
PHLP Supp - 60
<PAGE>
each Hotel are not achieved. However, MHSI can prevent termination by waiving
its base management fee with respect to each Hotel for a two-year period.
The MHSI Agreements provide for a priority return to the Partnership equal to
10.75% of the owner's investment, plus ground rent in the case of the Tampa
Hotel. As of December 31, 1997, the Raleigh and Tampa owner's investment was
$19.6 million and $16.8 million, respectively. The MHSI Agreement for Raleigh
provides for a portion of the base management fee payable to MHSI equal to 1% of
gross Hotel sales to be subordinated to the first 10% of the 10.75% priority
return for five years from the effective date of the Raleigh agreement. Any
unpaid base management fees will accrue and are payable from any excess
operating profit; however, any deferred base management fees remaining on June
18, 1999, will be waived. As of December 31, 1997 and 1996, no base management
fees were deferred under the Raleigh management agreement.
Incentive management fees are payable from 40% of available cash flow, as
defined. Any unpaid incentive management fees for the Raleigh and Tampa Hotels
are waived annually. In 1997, incentive management fees paid for the Raleigh and
Tampa Hotels were $567,000 and $350,000, respectively. In 1996, incentive
management fees paid for the Raleigh and Tampa Hotels were $574,000 and
$315,000, respectively.
Each MHSI Agreement provides for the establishment of a property improvement
fund ("Property Improvement Fund") for each Hotel. Contributions to the Property
Improvement Fund equal 5% of gross Hotel sales from each Hotel. However,
effective August 1996, MHSI and the Partnership agreed to increase the
contribution from 5% to 7% for the Raleigh Hotel until an additional $300,000
was deposited to cover the cost of certain renovations. This increase was in
effect until the fourth quarter of 1997. In addition, a portion of the
contribution for the Raleigh Hotel equal to 2% of gross Hotel sales is used to
pay interest and principal on the Raleigh $350,000 FF&E Loans and the Raleigh
$700,000 FF&E Loan. As of December 31, 1997, the balances of the Raleigh and
Tampa Property Improvement Funds were $727,000 and $232,000, respectively. As of
December 31, 1996, the balances of the Raleigh and Tampa Property Improvement
Funds were $678,000 and $67,000, respectively.
General
Pursuant to the terms of the management agreements, the Managers are required to
furnish the Hotels with certain services ("Chain Services") which generally are
provided on a central or regional basis to all hotels in the Marriott hotel
system. Chain Services include central training, advertising and promotion, a
national reservation system, computerized payroll and accounting services, and
such additional services, as needed, which may be performed more efficiently on
a centralized basis. Costs and expenses incurred in providing such services are
allocated among all domestic hotels managed, owned, or leased by Marriott
International or its subsidiaries. In addition, the Hotels also participate in
Marriott International's Marriott Rewards Program ("MRP"). This program was
formerly called the Honored Guest Awards Program. The cost of this program is
charged to all hotels in the Marriott hotel system based on the MRP sales at
each hotel. The total amount of Chain Services and MRP costs charged to the
Partnership was $7.3 million in 1997, $7.1 million in 1996, and $7.6 million in
1995.
Pursuant to the terms of the management agreements, the Partnership is required
to provide the Managers with working capital and supplies to meet the operating
needs of the Hotels. In 1995, in conjunction with the sale of the Dallas Hotel,
$946,000 was reimbursed by the Dallas Hotel to the Partnership. These funds were
used to pay interest and principal on working capital advances from Host
Marriott. Additionally during 1995, Marriott International returned $400,000 in
working capital to the Partnership. During 1996, the Partnership advanced
$262,000 to Marriott International for working capital. During 1997, $168,000 in
working capital was returned to the Partnership. Therefore, as of December 31,
1997 and 1996, $5.1 million and $5.3 million, respectively, has been advanced to
the Managers for working capital and supplies for the Hotels.
PHLP Supp - 61
<PAGE>
NOTE 9. RELATED PARTY TRANSACTIONS
A 66-guest room addition to the Raleigh Hotel was completed and opened on July
18, 1987. The $3.4 million addition was operated as part of the Raleigh Hotel
but was owned by Host Marriott. Host Marriott subordinated its receipt of cash
flow generated from the Host Marriott-owned Raleigh addition (the "Addition
Deferral") to the payment of debt service on the S&L Loan for the years 1991
through 1993. The Addition Deferral bears interest at the prime rate. The
weighted average interest rate was 8.44% for 1997, 8.27% for 1996, and 8.85% for
1995. The balance of the Addition Deferral including accrued interest at
December 31, 1997 and 1996, was $1.6 and $1.5 million, respectively. Except for
the balance of $1.6 million, the Partnership's rights and obligations under the
Addition Deferral arrangement terminated with the Raleigh Hotel foreclosure.
Additionally, the 66-room addition was purchased by the Partnership when the
Raleigh Hotel was repurchased during 1994.
On June 28, 1995, the Partnership assigned its right of first refusal to
purchase the Point Clear Hotel to a subsidiary of Host Marriott, which
subsequently purchased the Hotel. In exchange, Host Marriott agreed to forgive
$2 million of accrued interest on certain advances to the Partnership, which has
been accounted for as a capital contribution by the General Partner.
On August 22, 1995, the Partnership sold the Dallas Hotel to a subsidiary of
Host Marriott. The proceeds from the sale of the Dallas Hotel were used to repay
$44 million of the Bank Loan.
PHLP Supp - 62
<PAGE>
Potomac Hotel Limited Partnership
Condensed Statements of Operations
(Unaudited)
(in thousands, except per Unit amounts)
<TABLE>
<CAPTION>
Twelve Weeks Ended
-----------------------------------
March 27, March 28,
1998 1997
---------------- ---------------
<S> <C> <C>
HOTEL REVENUES (Note 3).................................................................$ 16,533 $ 15,914
---------------- ---------------
OPERATING COSTS AND EXPENSES
Incentive management fee............................................................. 3,245 3,060
Depreciation......................................................................... 1,945 1,263
Base management fee.................................................................. 1,243 1,197
Ground rent, insurance and other..................................................... 1,003 879
Property taxes ...................................................................... 817 807
---------------- ---------------
8,253 7,206
---------------- ---------------
OPERATING PROFIT ...................................................................... 8,280 8,708
Interest expense..................................................................... (6,063) (5,845)
Other revenues ...................................................................... 121 177
---------------- ---------------
NET INCOME..............................................................................$ 2,338 $ 3,040
================ ===============
ALLOCATION OF NET INCOME
General Partner......................................................................$ 24 $ 31
Limited Partners..................................................................... 2,314 3,009
---------------- ---------------
$ 2,338 $ 3,040
================ ===============
NET INCOME PER LIMITED PARTNER UNIT (1,800 Units).......................................$ 1,286 $ 1,672
================ ===============
</TABLE>
See Notes to Condensed Financial Statements.
PHLP Supp - 63
<PAGE>
Potomac Hotel Limited Partnership
Condensed Balance Sheets
(in thousands)
<TABLE>
<CAPTION>
March 27, December 31,
1998 1997
---------------- ---------------
(unaudited)
<S> <C> <C>
ASSETS
Property and equipment, net..........................................................$ 152,884 $ 154,253
Due from Marriott International, Inc. and affiliates................................. 12,881 10,173
Other assets......................................................................... 5,845 4,265
Restricted cash...................................................................... 6,359 6,351
Cash and cash equivalents............................................................ 1,017 3,182
---------------- ---------------
$ 178,986 $ 178,224
================ ===============
LIABILITIES AND PARTNERS' DEFICIT
LIABILITIES
Mortgage debt........................................................................$ 168,909 $ 172,667
Due to Host Marriott Corporation and affiliates...................................... 122,738 125,549
Incentive and base management fees due to Marriott International, Inc................ 27,493 25,868
Due to Marriott International, Inc. and affiliates................................... 382 398
Accrued interest and other liabilities............................................... 4,248 864
---------------- ---------------
Total Liabilities................................................................. 323,770 325,346
---------------- ---------------
PARTNERS' DEFICIT
General Partner...................................................................... (34,818) (34,842)
Limited Partners..................................................................... (109,966) (112,280)
---------------- ---------------
Total Partners' Deficit........................................................... (144,784) (147,122)
---------------- ---------------
$ 178,986 $ 178,224
================ ===============
</TABLE>
See Notes to Condensed Financial Statements.
PHLP Supp - 64
<PAGE>
POTOMAC HOTEL LIMITED PARTNERSHIP
CONDENSED STATEMENTS OF CASH FLOWS
(Unaudited)
(in thousands)
<TABLE>
<CAPTION>
Twelve Weeks Ended
-----------------------------------
March 27, March 28,
1998 1997
---------------- ---------------
<S> <C> <C>
OPERATING ACTIVITIES
Net income...........................................................................$ 2,338 $ 3,040
Noncash items ...................................................................... 5,261 5,893
Changes in operating accounts........................................................ (1,181) (1,743)
---------------- ---------------
Cash provided by operating activities............................................. 6,418 7,190
---------------- ---------------
INVESTING ACTIVITIES
Change in property improvement funds................................................. (1,635) (820)
Additions to property and equipment, net............................................. (594) (1,506)
Working capital received from Marriott International, Inc. and affiliates, net....... -- 90
---------------- ---------------
Cash used in investing activities................................................. (2,229) (2,236)
---------------- ---------------
FINANCING ACTIVITIES
Repayments to Host Marriott Corporation and affiliates, net.......................... (4,078) (4,825)
Principal repayments on mortgage debt................................................ (3,758) (2,171)
Collection of amounts due from Marriott International, Inc........................... 1,504 --
Repayments to an affiliate of Marriott International, Inc............................ (14) (10)
Change in restricted cash............................................................ (8) (1,621)
---------------- ---------------
Cash used in financing activities................................................. (6,354) (8,627)
---------------- ---------------
DECREASE IN CASH AND CASH EQUIVALENTS................................................... (2,165) (3,673)
CASH AND CASH EQUIVALENTS at beginning of period........................................ 3,182 5,228
---------------- ---------------
CASH AND CASH EQUIVALENTS at end of period..............................................$ 1,017 $ 1,555
================ ===============
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid for mortgage and other interest............................................$ 1,279 $ 1,149
================ ===============
</TABLE>
See Notes to Condensed Financial Statements.
PHLP Supp - 65
<PAGE>
POTOMAC HOTEL LIMITED PARTNERSHIP
NOTES TO CONDENSED FINANCIAL STATEMENTS
(Unaudited)
1. The accompanying condensed financial statements have been prepared by
Potomac Hotel Limited Partnership (the "Partnership") without audit.
Certain information and footnote disclosures normally included in financial
statements presented in accordance with generally accepted accounting
principles have been condensed or omitted from the accompanying statements.
The Partnership believes the disclosures made are adequate to make the
information presented not misleading. However, the condensed financial
statements should be read in conjunction with the Partnership's financial
statements and notes thereto included in the Partnership's Form 10-K for
the fiscal year ended December 31, 1997. In the opinion of the Partnership,
the accompanying unaudited condensed financial statements reflect all
adjustments (which include only normal recurring adjustments) necessary to
present fairly the financial position of the Partnership as of March 27,
1998; the results of operations for the First Quarter 1998 and the First
Quarter 1997; and the statement of cash flows for the First Quarter 1998
and the First Quarter 1997. Interim results are not necessarily indicative
of fiscal year performance because of seasonal and short-term variations.
For financial reporting purposes, the Partnership's net income is allocated
99% to the limited partners and 1% to Host Marriott Corporation (the
"General Partner"). Significant differences exist between the net income
for financial reporting purposes and the net income for Federal income tax
reporting purposes. These differences are due primarily to the use for tax
purposes of differing useful lives and accelerated depreciation methods,
differing tax bases in contributed capital, and differing timings in the
recognition of management fee expense.
2. Certain reclassifications were made to the prior quarter financial
statements to conform to the current quarter presentation.
3. Hotel revenues represent house profit of the Partnership's hotels since the
Partnership has delegated substantially all of the operating decisions
related to the generation of house profit of the hotels to the manager.
House profit reflects hotel operating results which flow to the Partnership
as property owner and represents gross hotel sales less property-level
expenses, excluding depreciation, base and incentive management fees,
property taxes, ground rent, insurance, and certain other costs, which are
disclosed separately in the condensed statement of operations.
Hotel revenues consist of the following hotel operating results (in
thousands):
<TABLE>
<CAPTION>
Twelve Weeks Ended
------------------------------
March 27, March 28,
1998 1997
------------- -------------
<S> <C> <C>
HOTEL SALES
Rooms.................................................................................$ 27,264 $ 25,935
Food and beverage..................................................................... 11,094 10,927
Other................................................................................. 3,072 3,047
------------- -------------
41,430 39,909
------------- -------------
HOTEL EXPENSES
Departmental direct costs
Rooms............................................................................... 5,974 5,580
Food and beverage................................................................... 8,093 8,129
Other hotel operating expenses........................................................ 10,830 10,286
------------- -------------
24,897 23,995
------------- -------------
HOTEL REVENUES..........................................................................$ 16,533 $ 15,914
============= =============
</TABLE>
PHLP Supp - 66
<PAGE>
4. On April 17, 1998, Host Marriott Corporation ("Host Marriott"), the General
Partner of the Partnership, announced that its Board of Directors has
authorized the company to reorganize its business operations to qualify as
a real estate investment trust ("REIT") to become effective as of January
1, 1999. As part of the REIT conversion, Host Marriott expects to form a
new operating partnership (the "Operating Partnership") and limited
partners in certain Host Marriott full-service hotel partnerships and joint
ventures, including the Partnership, are expected to be given an
opportunity to receive, on a tax-deferred basis, Operating Partnership
units in the new Operating Partnership in exchange for their current
partnership interest.
PHLP Supp - 67
<PAGE>
PART II. INFORMATION NOT REQUIRED IN PROSPECTUS
Item 20. Indemnification of Trustees and Officers.
The Declaration of Trust of Host REIT authorizes it, to the maximum extent
permitted by Maryland law, to obligate itself to indemnify and to pay or
reimburse reasonable expenses in advance of final disposition of a proceeding to
(a) any present or former trustee or officer or (b) any individual who, while a
trustee of Host REIT and at the request of Host REIT, serves or has served
another real estate investment trust, corporation, partnership, joint venture,
trust, employee benefit plan or any other enterprise from and against any claim
or liability to which such person may become subject or which such person may
incur by reason of his or her status as a present or former Trustee or officer
of Host REIT. The Bylaws of Host REIT obligate it, to the maximum extent
permitted by Maryland law, to indemnify and to pay or reimburse reasonable
expenses in advance of final disposition of a proceeding to (a) any present or
former trustee or officer who is made party to the proceeding by reason of his
service in that capacity or (b) any individual who, while a trustee or officer
of Host REIT and at the request of Host REIT, serves or has served another real
estate investment trust, corporation, partnership, joint venture, trust,
employee benefit plan or any other enterprise as a trustee, director, officer or
partner of such real estate investment trust, corporation, partnership, joint
venture, trust, employee benefit plan or other enterprise and who is made a
party to the proceeding by reason of his service in that capacity, against any
claim or liability to which he may become subject by reason of such status. The
Declaration of Trust and Bylaws also permit Host REIT to indemnify and advance
expenses to any person who served as a predecessor of Host REIT in any of the
capacities described above and to any employee or agent of Host REIT or a
predecessor of Host REIT. The Bylaws require Host REIT to indemnify a trustee
or officer who has been successful, on the merits or otherwise, in the defense
of any proceeding to which he is made a party by reason of his service in that
capacity.
The Maryland REIT Law permits a Maryland real estate investment trust to
indemnify and advance expenses to its trustees, officers, employees and agents
to the same extent as permitted by the MGCL for trustees and officers of
Maryland corporations. Host REIT will indemnify its present and former trustees
and officers, among others, against judgments, penalties, fines, settlements and
reasonable expenses actually incurred by them in connection with any proceeding
to which they may be made a party by reason of their service in those or other
capacities unless it is established that (a) the act or omission of the trustee
or officer was material to the matter giving rise to the proceeding and (i) was
committed in bad faith or (ii) was the result of active and deliberate
dishonesty, (b) the trustee or officer actually received an improper personal
benefit in money, property or services or (c) in the case of any criminal
proceeding, the trustee or officer had reasonable cause to believe that the act
or omission was unlawful. However, under Maryland law, Host REIT may not
indemnify for an adverse judgment in a suit by or in the right of the
corporation. The Bylaws of Host REIT require it, as a condition to advancing
expenses, to obtain (a) a written affirmation by the trustee or officer of his
good faith belief that he has met the standard of conduct necessary for
indemnification by Host REIT as authorized by the Bylaws and (b) a written
statement by or on his behalf to repay the amount paid or reimbursed by Host
REIT if it shall ultimately be determined that the standard of conduct was not
met.
Item 21. Exhibits and Financial Statement Schedules.
Financial Statement Schedules
- -----------------------------
Page
----
Report of Independent Public Accountants on Financial
Statement Schedules...................................................... S-1
Schedule III - Real Estate and Accumulated Depreciation................... S-2
II-1
<PAGE>
<TABLE>
<CAPTION>
Exhibits
- ---------
<S> <C> <C>
2.1** -- Form of Agreement and Plan of Merger between the Partnerships
and the Merger Partnerships
3.1 -- Form of Amended and Restated Agreement of Limited Partnership of Host Marriott, L.P.
3.2 -- Amended and Restated Agreement of Limited Partnership dated December 31, 1997 of Atlanta Marriott Marquis II
Limited Partnership (incorporated by reference to Exhibit 2.a of Atlanta Marriott Marquis II Limited Partnership's
Form 10-K for the year ended December 31, 1997)
3.3** -- Amended and Restated Agreement of Limited Partnership dated June 12, 1989, of Mutual Benefit Chicago
Marriott Suite Hotel Partners, L.P.
3.4** -- Second Amended and Restated Agreement of Limited Partnership dated September 26, 1997 of Desert Springs Marriott
Limited Partnership (incorporated by reference to Exhibit 3.2 of Desert Springs Marriott Limited Partnership's Form
10-Q for the quarter ended September 30, 1997)
3.5** -- Second Amended and Restated Agreement of Limited Partnership dated April 3, 1997 of Hanover Marriott Limited
Partnership
3.6** -- Amended and Restated Agreement of Limited Partnership dated February 7, 1990 of Marriott Diversified
American Hotels, L.P.
3.7** -- Amended and Restated Agreement of Limited Partnership dated November 27, 1985 of Marriott Hotel Properties
Limited Partnership (incorporated by reference to Exhibit 3(a) of Marriott Hotel Properties Limited Partnership's
Form 10 dated September 29, 1986)
3.8** -- Amended and Restated Agreement of Limited Partnership dated June 14, 1996 of Marriott Hotel Properties
II Limited Partnership (incorporated by reference to Exhibit 3.1 of Marriott Hotel Properties II Limited
Partnership's Form 10-K for the year ended December 31, 1996)
3.9** -- Amended and Restated Agreement of Limited Partnership dated July 16, 1982 of Potomac Hotel Limited
Partnership (incorporated by reference to Exhibit 3. of Potomac Hotel Limited Partnership's Form 10-K for the
year ended December 31, 1994)
3.10** -- Certificate of Incorporation dated ___________, 1998 of HMC Real Estate Corporation, the general partner of Host
Marriott, L.P.
3.11** -- Bylaws dated ___________, 1998 of HMC Real Estate Corporation, the general partner
4.1** -- Form of Indenture between Host Marriott, L.P. and [Indenture Trustee]
4.2** -- Form of Note
5.1** -- Opinion of Hogan & Hartson L.L.P. regarding legality of the securities being registered
8.1** -- Opinion of Hogan & Hartson L.L.P. regarding certain tax matters
10.1** -- Form of Management Agreement
10.2** -- Form of Lease
12.1** -- Computation of Ratios of Earnings to Fixed Charges
21.1** -- List of Subsidiaries of Host Marriott, L.P.
23.1** -- Consent of Hogan & Hartson L.L.P. (included in Exhibit 5.1)
23.2 -- Consent of Arthur Andersen LLP
23.3 -- Consent of American Appraisal Associates
25.1** -- Statement of Eligibility and Qualification of [Trustee] [bound separately
99.1** -- Appraisal of Houston Marriott Medical Center Hotel by American Appraisal Associates, Inc. dated March 1, 1998
99.2** -- Appraisal of Seattle Marriott Hotel, Sea-Tac by American Appraisal Associates, Inc. dated March 1, 1998
99.3** -- Appraisal of Marriott's Desert Springs Resort & Spa by American Appraisal Associates, Inc. dated March 1, 1998
99.4** -- Appraisal of Raleigh Marriott Crabtree Valley by American Appraisal Associates, Inc. dated March 1, 1998
99.5** -- Appraisal of Atlanta Marriott Marquis by American Appraisal Associates, Inc. dated March 1, 1998
99.6** -- Appraisal of Greensboro-High Point Marriott by American Appraisal Associates, Inc. dated March 1, 1998
99.7** -- Appraisal of San Ramon Marriott at Bishop Ranch by American Appraisal Associates, Inc. dated March 1, 1998
99.8** -- Appraisal of Marriott Rivercenter by American Appraisal Associates, Inc. dated March 1, 1998
99.9** -- Appraisal of New Orleans Marriott Hotel by American Appraisal Associates, Inc. dated March 1, 1998
99.10** -- Appraisal of Santa Clara Marriott by American Appraisal Associates, Inc. dated March 1, 1998
99.11** -- Appraisal of Fairview Park Marriott by American Appraisal Associates, Inc. dated March 1, 1998
99.12** -- Appraisal of Detroit Marriott Livonia Hotel by American Appraisal Associates, Inc. dated March 1, 1998
99.13** -- Appraisal of Biscayne Bay Marriott Hotel & Marina by American Appraisal Associates, Inc. dated March 1, 1998
99.14** -- Appraisal of Marriott's Mountain Shadow Resort & Golf Club by American Appraisal Associates, Inc. dated March 1,
1998
99.15** -- Appraisal of Southfield Marriott Hotel by American Appraisal Associates, Inc. dated March 1, 1998
99.16** -- Appraisal of Marriott At Research Triangle Park by American Appraisal Associates, Inc. dated March 1, 1998
99.17** -- Appraisal of Tampa Marriott Westshore by American Appraisal Associates, Inc. dated March 1, 1998
99.18** -- Appraisal of Albuquerque Marriott by American Appraisal Associates, Inc. dated March 1, 1998
99.19** -- Appraisal of Fullerton Marriott Hotel by American Appraisal Associates, Inc. dated March 1, 1998
99.20** -- Appraisal of Dayton Marriott by American Appraisal Associates, Inc. dated March 1, 1998
99.21** -- Appraisal of Marriott's Harbor Beach Resort by American Appraisal Associates, Inc. dated March 1, 1998
99.22** -- Appraisal of Marriott's Orlando World Center by American Appraisal Associates, Inc. dated March 1, 1998
99.23** -- Appraisal of Chicago Marriott Suites O'Hare by American Appraisal Associates, Inc. dated March 1, 1998
99.24** -- Appraisal of Hanover Marriott Hotel by American Appraisal Associates, Inc. dated March 1, 1998
99.25** -- Fairness Opinion dated ____________, 1998 of American Appraisal Associates, Inc.
- ----------------
</TABLE>
** To be filed by amendment.
Item 22. Undertakings.
The undersigned registrant hereby undertakes as follows: that prior to any
public reoffering of the securities registered hereunder through use of a
prospectus which is part of this registration statement, by any person or party
who is deemed to be an underwriter within the meaning of Rule 145(c), the issuer
undertakes that such reoffering prospectus will contain the information called
for by the applicable registration form with respect to reofferings by persons
who may be deemed underwriters, in addition to the information called for by the
other Items of the applicable form.
II-2
<PAGE>
The registrant undertakes that every prospectus (i) that is filed pursuant
to the immediately preceding paragraph or (ii) that purports to meet the
requirements of section 10(a)(3) of the Act and is used in connection with an
offering of securities subject to Rule 415, will be filed as a part of an
amendment to the registration statement and will not be used until such
amendment is effective, and that, for purposes of determining any liability
under the Securities Act of 1933, as amended, each such post-effective amendment
shall be deemed 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.
Insofar as indemnification for liabilities arising under the Securities Act
of 1933, as amended, may be permitted to trustees, 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 such indemnification is against public policy as expressed
in the 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 trustee, officer or controlling
person of the registrant in the successful defense of any action, suit or
proceeding) is asserted by such trustee, 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.
The undersigned registrant hereby undertakes to file an application for the
purpose of determining the eligibility of the trustee to act under subsection
(a) of Section 310 of the Trust Indenture Act in accordance with the rules and
regulations prescribed by the Commission under Section 305(b)(2) of the Trust
Indenture Act.
The undersigned registrant hereby undertakes to respond to requests for
information that is incorporated by reference into the prospectus pursuant to
Items 4, 10(b), 11 or 13 of this Form, within one business day of receipt of
such request, and to send the incorporated documents by first class mail or
other equally prompt means. This includes information contained in documents
filed subsequent to the effective date of the registration statement through the
date of responding to the request.
The undersigned registrant hereby undertakes to supply by means of a post-
effective amendment all information concerning a transaction, and the company
being acquired involved therein, that was not the subject of and included in the
registration statement when it became effective.
II-3
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Act, the registrant has duly
caused this registration statement to be signed on its behalf by the
undersigned, thereunto duly authorized, in the City of Bethesda, State of
Maryland, on May 29, 1998.
HOST MARRIOTT, L.P.
BY: HMC Real Estate Corporation,
as general partner of Host Marriott, L.P.
By: /s/ Robert E. Parsons, Jr.
----------------------------
Name: Robert E. Parsons, Jr.
-----------------------
Title: President and Director
Pursuant to the requirements of the Securities Act of 1933, as amended,
this registration statement has been signed by the following persons in the
capacities and on the dates indicated.
<TABLE>
<CAPTION>
Signature Title Date
--------- ----- ----
<S> <C> <C>
/s/ Robert E. Parsons, Jr. President and Director May 29, 1998
- --------------------------- (Chief Executive Officer and
Robert E. Parsons, Jr. Chief Financial Officer)
/s/ Donald D. Olinger Vice President May 29, 1998
- --------------------------- (Chief Accounting Officer)
Donald D. Olinger
/s/ Christopher G. Townsend Vice President and Director May 29, 1998
- ---------------------------
Christopher G. Townsend
</TABLE>
II-4
<PAGE>
To Host Marriott Corporation:
We have audited in accordance with generally accepted auditing standards, the
financial statements of Host Marriott Hotels (the "Company") included in this
registration statement and have issued our report thereon dated May 22, 1998.
Our audit was made for the purpose of forming an opinion on the basic financial
statements taken as a whole. The schedule included on pages S-2 through S-3 is
the responsibility of the Company's management and is presented for purposes of
complying with the Securities and Exchange Commission's rules and is not part of
the basic financial statements. This schedule has been subjected to the auditing
procedures applied in the audit of the basic financial statements and, in our
opinion, fairly states in all material respects the financial data required to
be set forth therein in relation to the basic financial statements taken as a
whole.
Arthur Andersen LLP
Washington, D.C.
May 22, 1998
S-1
<PAGE>
SCHEDULE III
PAGE 1 OF 2
HOST MARRIOTT HOTELS
REAL ESTATE AND ACCUMULATED DEPRECIATION
JANUARY 2, 1998
(IN MILLIONS)
<TABLE>
<CAPTION>
Gross Amount at
Initial Costs January 2, 1998
------------------- -----------------------------
Subsequent
Buildings & Costs Buildings &
Description Debt Land Improvements Capitalized Land Improvements Total
- -------------------------------------- ------- ----- ------------ ----------- ------- ------------ -------
<S> <C> <C> <C> <C> <C> <C> <C>
Full-service hotels:
New York Marriott Marquis Hotel,
New York, NY....................... $ 282 $ - $ 520 $ 36 $ - $ 556 $ 556
San Francisco Moscone Center,
San Francisco, CA.................. - - 278 8 - 286 286
Other full-service properties,
each less than 5% of total......... 1,502 394 3,030 446 404 3,466 3,870
------- ----- ------- ----- ----- ------- -------
Total full-service.............. 1,784 394 3,828 490 404 4,308 4,712
Other properties, each less than
5% of total.......................... - 14 14 3 14 17 31
------- ----- ------- ----- ----- ------- -------
Total........................... $ 1,784 $ 408 $ 3,842 $ 493 $ 418 $ 4,328 $ 4,743
======= ===== ======= ===== ===== ======= =======
<CAPTION>
Date of
Accumulated Completion of Date Depreciation
Description Depreciation Construction Acquired Life
- -------------------------------------- ------------ ------------- ---------- --------------
<S> <C> <C> <C> <C>
Full-service hotels:
New York Marriott Marquis Hotel,
New York, NY....................... $ (127) 1986 N/A 40
San Francisco Moscone Center,
San Francisco, CA.................. (42) 1989 N/A 40
Other full-service properties,
each less than 5% of total......... (312) various various 40
------
Total full-service.............. (481)
Other properties, each less than
5% of total.......................... (17) various N/A various
------
Total........................... $ (498)
======
</TABLE>
<PAGE>
SCHEDULE III
PAGE 2 OF 2
HOST MARRIOTT HOTELS
REAL ESTATE AND ACCUMULATED DEPRECIATION
JANUARY 2, 1998
(IN MILLIONS)
NOTES:
(A) The change in total cost of properties for the fiscal years ended January 2,
1998, January 3, 1997 and December 29, 1995 is as follows:
<TABLE>
<CAPTION>
<S> <C>
Balance at December 30, 1994............................................... $ 2,787
Additions:
Acquisitions........................................................... 356
Capital expenditures................................................... 25
Transfers from construction in progress................................ 185
Deductions:
Dispositions and other................................................. (367)
-------
Balance at December 29, 1995............................................... 2,986
Additions:
Acquisitions........................................................... 1,087
Capital expenditures................................................... 77
Transfers from construction-in-progress................................ 28
Deductions:
Dispositions and other................................................. (322)
-------
Balance at January 3, 1997................................................. 3,856
Additions:
Acquisitions........................................................... 920
Capital expenditures................................................... 112
Deductions:
Dispositions and other................................................. (145)
-------
Balance at January 2, 1998................................................. $ 4,743
=======
(B) The change in accumulated depreciation and amortization of real estate
assets for the fiscal years ended January 2, 1998, January 3, 1997 and
December 29, 1995 is as follows:
Balance at December 30, 1994............................................... $ 333
Depreciation and amortization............................................ 65
Dispositions and other................................................... (24)
-------
Balance at December 29, 1995............................................... 374
Depreciation and amortization............................................ 96
Dispositions and other................................................... (59)
-------
Balance at January 3, 1997................................................. 411
Depreciation and amortization............................................ 118
Dispositions and other................................................... (31)
-------
Balance at January 2, 1998................................................. $ 498
=======
(C) The aggregate cost of properties for Federal income tax purposes is
approximately $3,998 million at January 2, 1998.
(D) The total cost of properties excludes construction-in-progress properties.
</TABLE>
<PAGE>
Exhibit 3.1
-----------------------------------------
FORM OF
FIRST AMENDED AND RESTATED
AGREEMENT OF LIMITED PARTNERSHIP
OF
HOST MARRIOTT, L.P.
-----------------------------------------
<PAGE>
TABLE OF CONTENTS
ARTICLE I DEFINED TERMS...................................................... 1
ARTICLE II ORGANIZATIONAL MATTERS............................................15
Section 2.1 Organization..............................................15
Section 2.2 Name......................................................15
Section 2.3 Registered Office and Agent; Principal Office.............15
Section 2.4 Term......................................................16
ARTICLE III PURPOSE..........................................................16
Section 3.1 Purpose and Business......................................16
Section 3.2 Powers....................................................16
ARTICLE IV CAPITAL CONTRIBUTIONS AND ISSUANCES OF PARTNERSHIP
INTERESTS..............................................................17
Section 4.1 Capital Contributions of the Partners; Restatement
of Capital Accounts on the Date Hereof.......................17
Section 4.2 Issuances of Partnership Interests........................17
Section 4.3 No Preemptive Rights......................................19
Section 4.4 Other Contribution Provisions.............................19
Section 4.5 No Interest on Capital....................................20
ARTICLE V DISTRIBUTIONS......................................................20
Section 5.1 Requirement and Characterization of Distributions.........20
Section 5.2 Amounts Withheld..........................................23
Section 5.3 Distributions Upon Liquidation............................23
Section 5.4 Revisions to Reflect Issuance of Partnership Interests....23
ARTICLE VI ALLOCATIONS.......................................................23
Section 6.1 Allocations For Capital Account Purposes..................23
Section 6.2 Revisions to Allocations to Reflect Issuance of
Partnership Interests........................................24
ARTICLE VII MANAGEMENT AND OPERATIONS OF BUSINESS............................25
Section 7.1 Management................................................25
Section 7.2 Certificate of Limited Partnership........................29
Section 7.3 Title to Partnership Assets...............................30
Section 7.4 Reimbursement of the General Partner......................30
Section 7.5 Outside Activities of the General Partner;
Relationship of Shares to Units; Funding Debt................32
Section 7.6 Transactions with Affiliates..............................33
Section 7.7 Indemnification...........................................34
Section 7.8 Liability of the General Partner..........................36
Section 7.9 Other Matters Concerning the General Partner..............37
Section 7.10 Reliance by Third Parties.................................38
Section 7.11 Restrictions on General Partner's Authority...............38
Section 7.12 Loans by Third Parties....................................39
ARTICLE VIII RIGHTS AND OBLIGATIONS OF LIMITED PARTNERS......................39
Section 8.1 Limitation of Liability...................................39
Section 8.2 Management of Business....................................39
Section 8.3 Outside Activities of Limited Partners....................40
Section 8.4 Return of Capital.........................................40
Section 8.5 Rights of Limited Partners Relating to the Partnership....40
-i-
<PAGE>
Section 8.6 Unit Redemption Right.....................................42
ARTICLE IX BOOKS, RECORDS, ACCOUNTING AND REPORTS............................45
Section 9.1 Records and Accounting....................................45
Section 9.2 Fiscal Year...............................................45
Section 9.3 Reports...................................................45
ARTICLE X TAX MATTERS........................................................46
Section 10.1 Preparation of Tax Returns................................46
Section 10.2 Tax Elections.............................................46
Section 10.3 Tax Matters Partner.......................................46
Section 10.4 Organizational Expenses...................................48
Section 10.5 Withholding...............................................48
ARTICLE XI TRANSFERS AND WITHDRAWALS.........................................49
Section 11.1 Transfer..................................................49
Section 11.2 Transfers of Partnership Interests of General Partner.....49
Section 11.3 Limited Partners' Rights to Transfer......................50
Section 11.4 Substituted Limited Partners..............................52
Section 11.5 Assignees.................................................52
Section 11.6 General Provisions........................................53
ARTICLE XII RESTRICTION ON OWNERSHIP OF UNITS................................55
Section 12.1 Definitions...............................................55
Section 12.2 Ownership Limitation on Units.............................56
Section 12.3 Exceptions to the Ownership Limitation....................59
Section 12.4 Transfer of Units in Trust................................59
Section 12.5 Enforcement...............................................61
Section 12.6 Non-Waiver................................................61
ARTICLE XIII ADMISSION OF PARTNERS...........................................61
Section 13.1 Admission of a Successor General Partner..................61
Section 13.2 Admission of Additional Limited Partners..................62
Section 13.3 Amendment of Agreement and Certificate of
Limited Partnership.........................................62
ARTICLE XIV DISSOLUTION AND LIQUIDATION......................................63
Section 14.1 Dissolution...............................................63
Section 14.2 Winding Up................................................64
Section 14.3 Compliance with Timing Requirements of Regulations........65
Section 14.4 Rights of Limited Partners................................65
Section 14.5 Notice of Dissolution.....................................66
Section 14.6 Cancellation of Certificate of Limited Partnership........66
Section 14.7 Reasonable Time for Winding Up............................66
Section 14.8 Waiver of Partition.......................................66
Section 14.9 Liability of Liquidator...................................66
ARTICLE XV AMENDMENT OF PARTNERSHIP AGREEMENT; MEETINGS......................66
Section 15.1 Amendments................................................66
Section 15.2 Meetings of the Partners..................................68
ARTICLE XVI GENERAL PROVISIONS...............................................69
Section 16.1 Addresses and Notice......................................69
Section 16.2 Titles and Captions.......................................69
Section 16.3 Pronouns and Plurals......................................69
-ii-
<PAGE>
Section 16.4 Further Action...........................................70
Section 16.5 Binding Effect...........................................70
Section 16.6 Creditors................................................70
Section 16.7 Waiver...................................................70
Section 16.8 Counterparts.............................................70
Section 16.9 Applicable Law...........................................70
Section 16.10 Invalidity of Provisions.................................71
Section 16.11 Power of Attorney........................................71
Section 16.12 Entire Agreement.........................................72
Section 16.13 No Rights as Shareholders................................72
Section 16.14 Limitation to Preserve REIT Status.......................72
-iii-
<PAGE>
EXHIBIT A
---------
PARTNERS AND PARTNERSHIP INTERESTS
EXHIBIT B
---------
CAPITAL ACCOUNT MAINTENANCE
EXHIBIT C
---------
SPECIAL ALLOCATION RULES
EXHIBIT D
---------
NOTICE OF REDEMPTION
EXHIBIT E
---------
VALUE OF CONTRIBUTED PROPERTY
-iv-
<PAGE>
FIRST AMENDED AND RESTATED
AGREEMENT OF LIMITED PARTNERSHIP
OF
HOST MARRIOTT, L.P.
THIS FIRST AMENDED AND RESTATED AGREEMENT OF LIMITED PARTNERSHIP, dated as
of _______ __, 1998, is entered into by and among Host Marriott Trust, a
Maryland real estate investment trust, as the General Partner of Host Marriott,
L.P. (the "Partnership"), and the parties appearing on Exhibit A attached
hereto, as Limited Partners, together with any other Persons who become Partners
of the Partnership as provided herein.
WHEREAS, the Partnership was formed on April 15, 1998, and, on April 15,
1998 the Partnership adopted an agreement of limited partnership (the "Prior
Agreement");
WHEREAS, the General Partner has been admitted to the partnership as an
additional General Partner pursuant to the terms of the Prior Agreement;
WHEREAS, HMC Real Estate Corporation, a Delaware corporation and the
initial General Partner of the Partnership, has converted its General
Partnership Interest into a Limited Partnership Interest and withdrawn from the
Partnership as General Partner effective as of the date hereof;
WHEREAS, Christopher G. Townsend, an individual residing in the State of
Maryland and the initial Limited Partner, has relinquished its Limited
Partnership Interest and such Limited Partnership Interest has been canceled;
and
WHEREAS, the Partners desire to (i) continue the business of the
Partnership pursuant to this Agreement, (ii) to admit certain Persons as Limited
Partners of the Partnership and (iii) reflect the withdrawal of the initial
General Partner and initial Limited Partner from the Partnership in their
capacities as such;
NOW, THEREFORE, in consideration of the mutual covenants set forth herein,
and for other good and valuable consideration, the receipt and sufficiency of
which are hereby acknowledged, the parties hereto hereby amend and restate the
Prior Agreement in its entirety and agree to continue the Partnership as a
limited partnership under the Delaware Revised Uniform Limited Partnership Act,
as amended from time to time, as follows:
ARTICLE I
DEFINED TERMS
The following definitions shall be for all purposes, unless otherwise
clearly indicated to the contrary, applied to the terms used in this Agreement.
"704(c) Value" of any Contributed Property means the fair market value
------------
of such property at the time of contribution as determined by the General
Partner using such
<PAGE>
reasonable method of valuation as it may adopt; provided, however, subject to
--------- -------
Exhibit B, the General Partner shall, in its sole and absolute discretion, use
- ---------
such method as it deems reasonable and appropriate to allocate the aggregate of
the 704(c) Value of Contributed Properties in a single or integrated transaction
among each separate property on a basis proportional to its respective fair
market value. The 704(c) Values of the Contributed Properties contributed to the
Partnership as of the date hereof are set forth on Exhibit E.
---------
"Act" means the Delaware Revised Uniform Limited Partnership Act, as
---
it may be amended from time to time, and any successor to such statute.
"Additional Limited Partner" means a Person admitted to the
--------------------------
Partnership as a Limited Partner pursuant to Section 13.2 hereof and who is
shown as such on the books and records of the Partnership.
"Adjusted Capital Account" means the Capital Account maintained for
------------------------
each Partner as of the end of each Partnership Year (i) increased by any amounts
which such Partner is obligated to restore pursuant to any provision of this
Agreement or is deemed to be obligated to restore pursuant to the penultimate
sentences of Regulations Sections 1.704-2(g)(1) and 1.704-2(i)(5) and (ii)
decreased by the items described in Regulations Sections 1.704-
1(b)(2)(ii)(d)(4), 1.704-1(b)(2)(ii)(d)(5) and 1.704-1(b)(2)(ii)(d)(6). The
foregoing definition of Adjusted Capital Account is intended to comply with the
provisions of Regulations Section 1.704-1(b)(2)(ii)(d) and shall be interpreted
consistently therewith.
"Adjusted Capital Account Deficit" means, with respect to any Partner,
--------------------------------
the deficit balance, if any, in such Partner's Adjusted Capital Account as of
the end of the relevant Partnership Year.
"Adjusted Property" means any property the Carrying Value of which has
-----------------
been adjusted pursuant to Exhibit B.
---------
"Adjustment Date" has the meaning set forth in Section 4.2.B.
---------------
"Affiliate" means, with respect to any Person, (i) any Person directly
---------
or indirectly controlling, controlled by or under common control with such
Person, (ii) any Person owning or controlling ten percent (10%) or more of the
outstanding voting interests of such Person, (iii) any Person of which such
Person owns or controls ten percent (10%) or more of the voting interests or
(iv) any officer, director, general partner, trustee or members of the Immediate
Family of such Person or any Person referred to in clauses (i), (ii), and (iii)
above. For purposes of this definition, "control," when used with respect to
any Person, means the power to direct the management and policies of such
Person, directly or indirectly, whether through the ownership of voting
securities, by contract or otherwise, and the terms "controlling" and
"controlled" have meanings correlative to the foregoing. Notwithstanding the
foregoing, neither (i) a corporation whose common stock is listed on a national
securities exchange or authorized for inclusion on the Nasdaq National Market,
or any subsidiary thereof, or (ii) Blackstone Real Estate Advisors II L.P. or
any of its Affiliates, shall be an "Affiliate" of the General Partner Entity or
any Affiliate thereof unless a Person (or Persons if such Persons would be
treated as part of the same group for
-2-
<PAGE>
purposes of Section 13(d) or 13(g) of the Securities Exchange Act of 1934)
directly or indirectly owns twenty percent (20%) or more of the outstanding
common stock of the General Partner Entity and such other corporation.
"Agreed Value" means (i) in the case of any Contributed Property
------------
contributed to the Partnership as of the date hereof, the amount set forth on
Exhibit E as the Agreed Value of such Property; (ii) in the case of any other
- ---------
Contributed Property, the 704(c) Value of such property as of the time of its
contribution to the Partnership, reduced by any liabilities either assumed by
the Partnership upon such contribution or to which such property is subject when
contributed; and (iii) in the case of any property distributed to a Partner by
the Partnership, the Partnership's Carrying Value of such property at the time
such property is distributed, reduced by any indebtedness either assumed by such
Partner upon such distribution or to which such property is subject at the time
of distribution as determined under Section 752 of the Code and the regulations
thereunder.
"Agreement" means this First Amended and Restated Agreement of Limited
---------
Partnership, as it may be amended, supplemented or restated from time to time.
"Appraised Value" means, with respect to any hotel, the value set
---------------
forth in the appraisal of such hotel utilized by the General Partner in
determining the number of Units to be issued to any Limited Partner.
"Assignee" means a Person to whom one or more Units have been
--------
transferred in a manner permitted under this Agreement, but who has not become a
Substituted Limited Partner, and who has the rights set forth in Section 11.5.
"Available Cash" means, with respect to any period for which such
--------------
calculation is being made:
(a) all cash revenues and funds received by the Partnership from
whatever source (excluding the proceeds of any Capital Contribution to the
extent determined by the General Partner) plus the amount of any reduction
(including, without limitation, a reduction resulting because the General
Partner determines such amounts are no longer necessary) in reserves of the
Partnership, which reserves are referred to in clause (b)(iv) below;
(b) less the sum of the following (except to the extent made with the
proceeds of any Capital Contribution):
(i) all interest, principal and other debt payments made
during such period by the Partnership,
(ii) all cash expenditures (including capital expenditures)
made by the Partnership during such period,
(iii) investments in any entity (including loans made thereto)
to the extent that such investments are permitted under this Agreement and are
not otherwise described in clauses (b)(i) or (ii), and
-3-
<PAGE>
(iv) the amount of any increase in reserves established
during such period which the General Partner determines is necessary or
appropriate in its sole and absolute discretion.
Notwithstanding the foregoing, Available Cash shall not include any
cash received or reductions in reserves, or take into account any disbursements
made or reserves established, after commencement of the dissolution and
liquidation of the Partnership.
"Book-Tax Disparities" means, with respect to any item of Contributed
--------------------
Property or Adjusted Property, as of the date of any determination, the
difference between the Carrying Value of such Contributed Property or Adjusted
Property and the adjusted basis thereof for federal income tax purposes as of
such date. A Partner's share of the Partnership's Book-Tax Disparities in all
of its Contributed Property and Adjusted Property will be reflected by the
difference between such Partner's Capital Account balance as maintained pursuant
to Exhibit B and the hypothetical balance of such Partner's Capital Account
---------
computed as if it had been maintained strictly in accordance with federal income
tax accounting principles.
"Business Day" means any day except a Saturday, Sunday or other day on
------------
which commercial banks in the City of New York are authorized or required by law
to close.
"Capital Account" means the Capital Account maintained for a Partner
---------------
pursuant to Exhibit B. The initial Capital Account balance for each Partner who
---------
is a Partner on the date hereof shall be the amount set forth opposite such
Partner's name on Exhibit A hereto.
---------
"Capital Contribution" means, with respect to any Partner, any cash,
--------------------
cash equivalents or the Agreed Value of Contributed Property which such Partner
contributes or is deemed to contribute to the Partnership pursuant to Section
4.1 or 4.2.
"Carrying Value" means (i) with respect to a Contributed Property or
--------------
Adjusted Property, the 704(c) Value of such property reduced (but not below
zero) by all Depreciation with respect to such Contributed Property or Adjusted
Property, as the case may be, charged to the Partners' Capital Accounts and (ii)
with respect to any other Partnership property, the adjusted basis of such
property for federal income tax purposes, all as of the time of determination.
The Carrying Value of any property shall be adjusted from time to time in
accordance with Exhibit B, and to reflect changes, additions (including capital
---------
improvements thereto) or other adjustments to the Carrying Value for
dispositions and acquisitions of Partnership properties, as deemed appropriate
by the General Partner.
"Cash Amount" means an amount of cash equal to the Value on the
-----------
Valuation Date of the Shares Amount.
"Certificate" means the Certificate of Limited Partnership relating to
-----------
the Partnership filed in the office of the Secretary of State of the State of
Delaware, as amended from time to time in accordance with the terms hereof and
the Act.
-4-
<PAGE>
"Class A" has the meaning set forth in Section 5.1.C.
-------
"Class A Share" has the meaning set forth in Section 5.1.C.
-------------
"Class A Unit" means any Unit that is not specifically designated by
------------
the General Partner as being of another specified class of Units.
"Class B" has the meaning set forth in Section 5.1.C.
-------
"Class B Share" has the meaning set forth in Section 5.1.C.
-------------
"Class B Unit" means a Unit that is specifically designated by the
------------
General Partner as being a Class B Unit.
"Code" means the Internal Revenue Code of 1986, as amended and in
----
effect from time to time, as interpreted by the applicable regulations
thereunder. Any reference herein to a specific section or sections of the Code
shall be deemed to include a reference to any corresponding provision of future
law.
"Common Shares" means the common shares of beneficial ownership (or
-------------
other comparable equity interests) of the General Partner Entity.
"Consent" means the consent or approval of a proposed action by a
-------
Partner given in accordance with Section 15.2.
"Consent of the Outside Limited Partners" means the Consent of Limited
---------------------------------------
Partners (excluding for this purpose any Limited Partnership Interests held (i)
by the General Partner or the General Partner Entity, (ii) any Person of which
the General Partner or the General Partner Entity directly or indirectly owns or
controls more than fifty percent (50%) of the voting interests, (iii) any Person
directly or indirectly owning or controlling more than fifty percent (50%) of
the outstanding voting interests of the General Partner or the General Partner
Entity and (iv) any Person of which a Person described in clause (iii) directly
or indirectly owns or controls more than fifty percent (50%) of the voting
interest) holding Percentage Interests that are greater than fifty percent (50%)
of the aggregate Percentage Interest of all Limited Partners who are not
excluded for the purposes hereof.
"Contributed Property" means each property or other asset contributed
--------------------
to the Partnership, in such form as may be permitted by the Act, but excluding
cash contributed or deemed contributed to the Partnership. Once the Carrying
Value of a Contributed Property is adjusted pursuant to Exhibit B, such property
---------
shall no longer constitute a Contributed Property for purposes of Exhibit B, but
---------
shall be deemed an Adjusted Property for such purposes.
"Conversion Factor" means 1.0; provided that, if the General Partner
----------------- -------------
Entity (i) declares or pays a dividend on its outstanding Shares in Shares or
makes a distribution to all holders of its outstanding Shares in Shares, (ii)
subdivides its outstanding Shares or (iii) combines its outstanding Shares into
a smaller number of Shares, the Conversion Factor shall be adjusted by
multiplying the Conversion Factor by a fraction, the numerator
-5-
<PAGE>
of which shall be the number of Shares issued and outstanding on the record date
for such dividend, distribution, subdivision or combination (assuming for such
purposes that such dividend, distribution, subdivision or combination has
occurred as of such time) and the denominator of which shall be the actual
number of Shares (determined without the above assumption) issued and
outstanding on the record date for such dividend, distribution, subdivision or
combination; and provided further that if an entity shall cease to be the
-------- -------
General Partner Entity (the "Predecessor Entity") and another entity shall
become the General Partner Entity (the "Successor Entity"), the Conversion
Factor shall be adjusted by multiplying the Conversion Factor by a fraction, the
numerator of which is the Value of one Share of the Predecessor Entity,
determined as of the date when the Successor Entity becomes the General Partner
Entity, and the denominator of which is the Value of one Share of the Successor
Entity, determined as of that same date. (For purposes of the second provision
in the preceding sentence, if any shareholders of the Predecessor Entity will
receive consideration in connection with the transaction in which the Successor
Entity becomes the General Partner Entity, the numerator in the fraction
described above for determining the adjustment to the Conversion Factor (that
is, the Value of one Share of the Predecessor Entity) shall be the sum of the
greatest amount of cash and the fair market value (as determined in good faith
by the General Partner) of any securities and other consideration that the
holder of one Share in the Predecessor Entity could have received in such
transaction (determined without regard to any provisions governing fractional
shares). Any adjustment to the Conversion Factor shall become effective
immediately after the effective date of the event retroactive to the record
date, if any, for the event giving rise thereto, it being intended that (x)
adjustments to the Conversion Factor are to be made to avoid unintended dilution
or anti-dilution as a result of transactions in which Shares are issued,
redeemed or exchanged without a corresponding issuance, redemption or exchange
of Units and (y) if a Specified Redemption Date shall fall between the record
date and the effective date of any event of the type described above, that the
Conversion Factor applicable to such redemption shall be adjusted to take into
account such event.
"Convertible Funding Debt" has the meaning set forth in Section 7.5.F.
------------------------
"Debt" means, as to any Person, as of any date of determination, (i)
----
all indebtedness of such Person for borrowed money or for the deferred purchase
price of property or services, (ii) all amounts owed by such Person to banks or
other Persons in respect of reimbursement obligations under letters of credit,
surety bonds and other similar instruments guaranteeing payment or other
performance of obligations by such Person, (iii) all indebtedness for borrowed
money or for the deferred purchase price of property or services secured by any
lien on any property owned by such Person, to the extent attributable to such
Person's interest in such property, even though such Person has not assumed or
become liable for the payment thereof, and (iv) obligations of such Person
incurred in connection with entering into a lease which, in accordance with
generally accepted accounting principles, should be capitalized.
"Declaration of Trust" means the Declaration of Trust of the General
--------------------
Partner filed with the State Department of Assessments and Taxation in the State
of Maryland on __________ __, 1998, as amended or restated from time to time.
-6-
<PAGE>
"Deemed Partnership Interest Value" means, as of any date with respect
---------------------------------
to any class of Partnership Interests, the Deemed Value of the Partnership
Interest of such class multiplied by the applicable Partner's Percentage
Interest of such class.
"Deemed Value of the Partnership Interest" means, as of any date with
----------------------------------------
respect to any class of Partnership Interests, (a) if the common shares of
beneficial interest (or other comparable equity interests) of the General
Partner Entity are Publicly Traded (i) the total number of shares of beneficial
interest (or other comparable equity interest) of the General Partner Entity
corresponding to such class of Partnership Interest (as provided for in Section
4.2.B) issued and outstanding as of the close of business on such date
(excluding any treasury shares) multiplied by the Value of a share of such
beneficial interest (or other comparable equity interest) on such date divided
-------
by (ii) the Percentage Interest of the General Partner Entity, held directly or
- --
indirectly through another entity, in such class of Partnership Interests on
such date, and (b) otherwise, the aggregate Value of such class of Partnership
Interests determined as set forth in the fourth and fifth sentences of the
definition of Value. For purposes of clause (a) of the preceding sentence,
"Value" means the average of the daily market price of such corresponding shares
of beneficial interest (or other comparable equity interests) of the General
Partner Entity for such number of consecutive trading days or the Business Day
immediately preceding the date with respect to which Value must be determined
(which number of days or the Business Day shall be determined by the General
Partner in its sole discretion), with the market price for each such trading day
being the closing price, regular way, on such day, or if no such sale takes
place on such day, the average of the closing bid and asked prices on such day.
Notwithstanding any of the foregoing, with respect to any class or series of
Partnership Interests that is entitled to a preference as compared to the class
of Partnership Interests corresponding to common shares of beneficial interests
(or other comparable equity interests) of the General Partner Entity, "Value"
means the stated liquidation preference or value of such class or series of
Partnership Interests provided in the instrument establishing such class or
series of Partnership Interests (unless otherwise provided in such instrument).
"Depreciation" means, for each fiscal year, an amount equal to the
------------
federal income tax depreciation, amortization, or other cost recovery deduction
allowable with respect to an asset for such year, except that if the Carrying
Value of an asset differs from its adjusted basis for federal income tax
purposes at the beginning of such year or other period, Depreciation shall be an
amount which bears the same ratio to such beginning Carrying Value as the
federal income tax depreciation, amortization, or other cost recovery deduction
for such year bears to such beginning adjusted tax basis; provided, however,
-------- -------
that if the federal income tax depreciation, amortization, or other cost
recovery deduction for such year is zero, Depreciation shall be determined with
reference to such beginning Carrying Value using any reasonable method selected
by the General Partner.
"Distribution Period" has the meaning set forth in Section 5.1.C.
-------------------
"ERISA" means the Employee Retirement Income Security Act of 1974, as
-----
amended.
-7-
<PAGE>
"ERISA Plan Investor" means (i) a Plan, (ii) a trust which was
-------------------
established pursuant to a Plan, or a nominee for such trust or Plan, or (iii) an
entity whose underlying assets include assets of a Plan by reason of such Plan's
investment in such entity.
"Exchange Act" means the Securities Exchange Act of 1934, as amended.
------------
"Funding Debt" means the incurrence of any Debt by or on behalf of the
------------
General Partner Entity for the purpose of providing funds to the Partnership.
"General Partner" means Host Marriott Trust, a Maryland real estate
---------------
investment trust, or any of its successors as a general partner of the
Partnership.
"General Partner Entity" means the General Partner; provided, however,
---------------------- -----------------
that if (i) the common shares of beneficial interest (or other comparable equity
interests) of the General Partner (i.e., the Shares that would otherwise
correspond to the Class A Units) are at any time not Publicly Traded and (ii)
the common shares of beneficial interest (or other comparable equity interests)
of an entity that owns, directly or indirectly, fifty percent (50%) or more of
the common shares of beneficial interest (or other comparable equity interests)
of the General Partner are Publicly Traded, the term "General Partner Entity"
shall refer to such entity whose common shares of beneficial interest (or other
comparable equity securities) are Publicly Traded. If both requirements set
forth in clauses (i) and (ii) above are not satisfied, then the term "General
Partner Entity" shall mean the General Partner.
"General Partner Payment" has the meaning set forth in Section 16.14.
-----------------------
"General Partnership Interest" means a Partnership Interest held by
----------------------------
the General Partner that is a general partnership interest. A General
Partnership Interest may be expressed as a number of Units.
"Immediate Family" means, with respect to any natural Person, such
----------------
natural Person's spouse, parents, descendants, nephews, nieces, brothers and
sisters.
"Incapacity" or "Incapacitated" means, (i) as to any individual
---------- -------------
Partner, death, total physical disability or entry by a court of competent
jurisdiction adjudicating such Partner incompetent to manage his or her Person
or estate, (ii) as to any corporation which is a Partner, the filing of a
certificate of dissolution, or its equivalent, for the corporation or the
revocation of its charter, (iii) as to any partnership or limited liability
company which is a Partner, the dissolution and commencement of winding up of
the partnership or limited liability company, (iv) as to any estate which is a
Partner, the distribution by the fiduciary of the estate's entire interest in
the Partnership, (v) as to any trustee of a trust which is a Partner, the
termination of the trust (but not the substitution of a new trustee) or (vi) as
to any Partner, the bankruptcy of such Partner. For purposes of this
definition, bankruptcy of a Partner shall be deemed to have occurred when (i)
the Partner commences a voluntary proceeding seeking liquidation, reorganization
or other relief under any bankruptcy, insolvency or other similar law now or
hereafter in effect, (ii) the Partner is adjudged as bankrupt or insolvent, or a
final and nonappealable order for relief under any bankruptcy, insolvency or
similar law now or hereafter in effect has been entered against the Partner,
(iii) the Partner executes and delivers a general assignment
-8-
<PAGE>
for the benefit of the Partner's creditors, (iv) the Partner files an answer or
other pleading admitting or failing to contest the material allegations of a
petition filed against the Partner in any proceeding of the nature described in
clause (ii) above, (v) the Partner seeks, consents to or acquiesces in the
appointment of a trustee, receiver or liquidator for the Partner or for all or
any substantial part of the Partner's properties, (vi) any proceeding seeking
liquidation, reorganization or other relief under any bankruptcy, insolvency or
other similar law now or hereafter in effect has not been dismissed within one
hundred twenty (120) days after the commencement thereof, (vii) the appointment
without the Partner's consent or acquiescence of a trustee, receiver of
liquidator has not been vacated or stayed within ninety (90) days of such
appointment or (viii) an appointment referred to in clause (vii) is not vacated
within ninety (90) days after the expiration of any such stay.
"Indemnitee" means (i) any Person made a party to a proceeding by
----------
reason of its status as (A) the General Partner, (B) a Limited Partner and
Affiliates thereof or (C) a trustee, director or officer of the Partnership or
the General Partner and (ii) such other Persons (including Affiliates of the
General Partner, a Limited Partner or the Partnership) as the General Partner
may designate from time to time (whether before or after the event giving rise
to potential liability), in its sole and absolute discretion.
"Initial Holding Period" means the period commencing on the date
----------------------
hereof and ending on the date on which the Unit Redemption Right first becomes
available under Section 8.6.
"IRS" means the Internal Revenue Service, which administers the
---
internal revenue laws of the United States.
"Limited Partner" means any Person named as a Limited Partner of the
---------------
Partnership in Exhibit A, as such Exhibit may be amended from time to time, or
---------
any Substituted Limited Partner or Additional Limited Partner, in such Person's
capacity as a Limited Partner in the Partnership.
"Limited Partnership Interest" means a Partnership Interest of a
----------------------------
Limited Partner of the Partnership representing a fractional part of the
Partnership Interests of all Limited Partners and includes any and all benefits
to which the holder of such a Partnership Interest may be entitled as provided
in this Agreement, together with all obligations of such Person to comply with
the terms and provisions of this Agreement. A Limited Partnership Interest may
be expressed as a number of Units.
"Liquidating Event" has the meaning set forth in Section 14.1.
-----------------
"Liquidator" has the meaning set forth in Section 14.2.A..
----------
"Marriott International" means Marriott International, Inc., a
----------------------
Delaware corporation.
"Net Income" means, for any taxable period, the excess, if any, of the
----------
Partnership's items of income and gain for such taxable period over the
Partnership's items of loss and deduction for such taxable period. The items
included in the calculation of Net
-9-
<PAGE>
Income shall be determined in accordance with Exhibit B. If an item of income,
---------
gain, loss or deduction that has been included in the initial computation of Net
Income is subjected to the special allocation rules in Exhibit C, Net Income or
---------
the resulting Net Loss, whichever the case may be, shall be recomputed without
regard to such item.
"Net Loss" means, for any taxable period, the excess, if any, of the
--------
Partnership's items of loss and deduction for such taxable period over the
Partnership's items of income and gain for such taxable period. The items
included in the calculation of Net Loss shall be determined in accordance with
Exhibit B. If an item of income, gain, loss or deduction that has been included
- ---------
in the initial computation of Net Loss is subjected to the special allocation
rules in Exhibit C, Net Loss or the resulting Net Income, whichever the case may
---------
be, shall be recomputed without regard to such item.
"New Securities" mean (i) any rights, options, warrants or convertible
--------------
or exchangeable securities having the right to subscribe for or purchase shares
of beneficial interest (or other comparable equity interest) of the General
Partner, excluding grants under any Share Option Plan, or (ii) any Debt issued
by the General Partner that provides any of the rights described in clause (i).
"Nonrecourse Built-in Gain" means, with respect to any Contributed
-------------------------
Properties or Adjusted Properties that are subject to a mortgage or negative
pledge securing a Nonrecourse Liability, the amount of any taxable gain that
would be allocated to the Partners pursuant to Section 2.B of Exhibit C if such
---------
properties were disposed of in a taxable transaction in full satisfaction of
such liabilities and for no other consideration.
"Nonrecourse Deductions" has the meaning set forth in Regulations
----------------------
Section 1.704-2(b)(1), and the amount of Nonrecourse Deductions for a
Partnership Year shall be determined in accordance with the rules of Regulations
Section 1.704-2(c).
"Nonrecourse Liability" has the meaning set forth in Regulations
---------------------
Section 1.752-1(a)(2).
"Notice of Redemption" means a Notice of Redemption substantially in
--------------------
the form of Exhibit D.
---------
"OpCo" means [insert the name of a taxable corporation that would,
----
among other things, directly or indirectly, (i) lease hotel properties from the
Partnership and its subsidiaries, (ii) own the "senior living services" business
currently owned by HMC Senior Communities, Inc., (iii) contract for the
operation of the properties under management agreements with third party
managers and (iv) pay the Partnership rent that will qualify as "rents from real
property" under Section 856(d) of the Code in the case of Host Marriott Trust,
and as "real property rent" under Section 7704(d) of the Code in the case of the
Partnership].
"Partner" means the General Partner or a Limited Partner, and
-------
"Partners" means the General Partner and the Limited Partners.
- ---------
"Partner Minimum Gain" means an amount, with respect to each Partner
--------------------
Nonrecourse Debt, equal to the Partnership Minimum Gain that would result if
such
-10-
<PAGE>
Partner Nonrecourse Debt were treated as a Nonrecourse Liability, determined in
accordance with Regulations Section 1.704-2(i)(3).
"Partner Nonrecourse Debt" has the meaning set forth in Regulations
------------------------
Section 1.704-2(b)(4).
"Partner Nonrecourse Deductions" has the meaning set forth in
------------------------------
Regulations Section 1.704-2(i)(2), and the amount of Partner Nonrecourse
Deductions with respect to a Partner Nonrecourse Debt for a Partnership Year
shall be determined in accordance with the rules of Regulations Section 1.704-
2(i)(2).
"Partnership" means the limited partnership formed under the Act upon
-----------
the terms and conditions set forth in this Agreement, or any successor to such
limited partnership.
"Partnership Interest" means a Limited Partnership Interest or the
--------------------
General Partnership Interest and includes any and all rights and benefits to
which the holder of such a Partnership Interest may be entitled as provided in
this Agreement, together with all obligations of such Person to comply with the
terms and provisions of this Agreement. A Partnership Interest may be expressed
as a number of Units.
"Partnership Minimum Gain" has the meaning set forth in Regulations
------------------------
Section 1.704-2(b)(2), and the amount of Partnership Minimum Gain, as well as
any net increase or decrease in Partnership Minimum Gain, for a Partnership Year
shall be determined in accordance with the rules of Regulations Section 1.704-
2(d).
"Partnership Record Date" means the record date established by the
-----------------------
General Partner either (i) for the distribution of Available Cash pursuant to
Section 5.1 hereof, which record date shall be the same as the record date
established by the General Partner Entity for a distribution to its shareholders
of some or all of its portion of such distribution, or (ii) if applicable, for
determining the Partners entitled to vote on or consent to any proposed action
for which the consent or approval of the Partners is sought pursuant to Section
15.2 hereof.
"Partnership Year" means the fiscal year of the Partnership, which
----------------
shall end on the Friday falling closest to December 31 of each year.
"Percentage Interest" means, as to a Partner holding a class of
-------------------
Partnership Interests, its interest in such class, determined by dividing the
Units of such class owned by such Partner by the total number of Units of such
class then outstanding as specified in Exhibit A, as such exhibit may be amended
---------
from time to time, multiplied by the aggregate Percentage Interest allocable to
such class of Partnership Interests. If the Partnership shall at any time have
outstanding more than one class of Partnership Interests, the Percentage
Interest attributable to each class of Partnership Interests shall be determined
as set forth in Section 4.2.B.
"Person" means an individual, corporation, limited liability company,
------
partnership, estate, trust (including a trust qualified under Sections 401(a) or
501(c)(17) of the Code), a portion of a trust permanently set aside for or to be
used exclusively for the
-11-
<PAGE>
purposes described in Section 642(c) of the Code, association, private
foundation within the meaning of Section 509(a) of the Code, joint stock company
or other entity and also includes a group as that term is used for purposes of
Section 13(d)(3) of the Exchange Act.
"Plan" means (i) an employee benefit plan subject to Title I of ERISA
----
or (ii) a plan as defined in Section 4975(e) of the Code.
"Predecessor Entity" has the meaning set forth in the definition of
------------------
"Conversion Factor" herein.
"Publicly Traded" means listed or admitted to trading on the New York
---------------
Stock Exchange, the American Stock Exchange or another national securities
exchange or designated for quotation on the Nasdaq National Market, or any
successor to any of the foregoing.
"Qualified REIT Subsidiary" means any Subsidiary of the General
-------------------------
Partner that is a "qualified REIT subsidiary" within the meaning of Section
856(i) of the Code.
"Recapture Income" means any gain recognized by the Partnership
----------------
(computed without regard to any adjustment required by Section 734 or Section
743 of the Code) upon the disposition of any property or asset of the
Partnership, which gain is characterized as ordinary income because it
represents the recapture of deductions previously taken with respect to such
property or asset.
"Redeeming Partner" has the meaning set forth in Section 8.6.A.
-----------------
"Redemption Amount" means either the Cash Amount or the Shares Amount,
-----------------
as determined by the General Partner, in its sole and absolute discretion;
provided that, if the Shares are not Publicly Traded at the time a Redeeming
- -------------
Partner exercises its Unit Redemption Right, the Redemption Amount shall be paid
only in the form of the Cash Amount unless the Redeeming Partner, in its sole
and absolute discretion, consents to payment of the Redemption Amount in the
form of the Shares Amount. A Redeeming Partner shall have no right, without the
General Partner's consent, in its sole and absolute discretion, to receive the
Redemption Amount in the form of the Shares Amount.
"Regulation" or "Regulations" means the Income Tax Regulations
---------- -----------
promulgated under the Code, as such regulations may be amended from time to time
(including corresponding provisions of succeeding regulations).
"REIT" means a real estate investment trust under Section 856 of the
----
Code.
"REIT Requirements" have the meaning set forth in Section 5.1.A.
-----------------
"Residual Gain" or "Residual Loss" means any item of gain or loss, as
------------- -------------
the case may be, of the Partnership recognized for federal income tax purposes
resulting from a sale, exchange or other disposition of Contributed Property or
Adjusted Property, to the extent such item of gain or loss is not allocated
pursuant to Section 2.B.1(a) or 2.B.2(a) of Exhibit C to eliminate Book-Tax
---------
Disparities.
-12-
<PAGE>
"Safe Harbor" has the meaning set forth in Section 11.6.F.
-----------
"Securities Act" means the Securities Act of 1933, as amended.
--------------
"Share" means a share of beneficial interest (or other comparable
-----
equity interest) of the General Partner Entity. Shares may be issued in one or
more classes or series in accordance with the terms of the Declaration of Trust
(or, if the General Partner is not the General Partner Entity, the
organizational documents of the General Partner Entity). If there is more than
one class or series of Shares, the term "Shares" shall, as the context requires,
be deemed to refer to the class or series of Shares that correspond to the class
or series of Partnership Interests for which the reference to Shares is made.
When used with reference to Class A Units or Class B Units (including, without
limitation, for purposes of the definition of "Conversion Factor"), the term
"Shares" refers to common shares of beneficial interest (or other comparable
equity interest) of the General Partner Entity.
"Shares Amount" means a number of Shares equal to the product of the
-------------
number of Units offered for redemption by a Redeeming Partner times the
Conversion Factor; provided that, if at any time the General Partner Entity
-------------
issues to all holders of such class of Shares rights, options, warrants or
convertible or exchangeable securities entitling such holders to subscribe for
or purchase Shares or any other securities or property (collectively, the
"rights"), then the Shares Amount shall also include such rights that a holder
of that number of Shares would have been entitled to receive had it owned such
Shares at the time such rights were issued.
"Share Option Plan" means any equity incentive plan of the General
-----------------
Partner, the Partnership and/or any Affiliate of the Partnership.
"Specified Redemption Date" means, except as otherwise provided in any
-------------------------
agreement between the Partnership and any Partner, the tenth Business Day after
receipt by the General Partner of a Notice of Redemption; provided that, if the
-------------
Shares are not Publicly Traded, the Specified Redemption Date means the
thirtieth Business Day after receipt by the General Partner of a Notice of
Redemption.
"Subsidiary" means, with respect to any Person, any corporation,
----------
limited liability company, trust, partnership or joint venture, or other entity
of which a majority of (i) the voting power of the voting equity securities or
(ii) the outstanding equity interests is owned, directly or indirectly, by such
Person.
"Substituted Limited Partner" means a Person who is admitted as a
---------------------------
Limited Partner to the Partnership pursuant to Section 11.4.
"Successor Entity" has the meaning set forth in the definition of
----------------
"Conversion Factor" herein.
"Terminating Capital Transaction" means any sale or other disposition
-------------------------------
of all or substantially all of the assets of the Partnership for cash or a
related series of transactions that, taken together, result in the sale or other
disposition of all or substantially all of the assets of the Partnership for
cash.
-13-
<PAGE>
"Termination Transaction" has the meaning set forth in Section 11.2.B.
-----------------------
"Unit" means a fractional, undivided share of the Partnership
----
Interests of all Partners issued pursuant to Sections 4.1 and 4.2, and includes
Class A Units, Class B Units and any other classes or series of Units
established after the date hereof. The number of Units outstanding and the
Percentage Interests in the Partnership represented by such Units are set forth
in Exhibit A, as such Exhibit may be amended from time to time. The ownership
---------
of Units shall be evidenced by a certificate in a form approved by the General
Partner.
"Unit Redemption Right" has the meaning set forth in Section 8.6.
---------------------
"Unrealized Gain" attributable to any item of Partnership property
---------------
means, as of any date of determination, the excess, if any, of (i) the fair
market value of such property (as determined under Exhibit B) as of such date,
---------
over (ii) the Carrying Value of such property (prior to any adjustment to be
made pursuant to Exhibit B) as of such date.
---------
"Unrealized Loss" attributable to any item of Partnership property
---------------
means, as of any date of determination, the excess, if any, of (i) the Carrying
Value of such property (prior to any adjustment to be made pursuant to Exhibit
-------
B) as of such date, over (ii) the fair market value of such property (as
determined under Exhibit B) as of such date.
---------
"Valuation Date" means the date of receipt by the General Partner of a
--------------
Notice of Redemption or, if such date is not a Business Day, the first Business
Day thereafter.
"Value" means, with respect to any outstanding Shares of the General
-----
Partner Entity that are Publicly Traded, the average of the daily market price
for the ten consecutive trading days immediately preceding the date with respect
to which value must be determined. The market price for each such trading day
shall be the closing price, regular way, on such day, or if no such sale takes
place on such day, the average of the closing bid and asked prices on such day.
If the outstanding Shares of the General Partner Entity are Publicly Traded and
the Shares Amount includes rights that a holder of Shares would be entitled to
receive, then the Value of such rights shall be determined by the General
Partner acting in good faith on the basis of such quotations and other
information as it considers, in its reasonable judgment, appropriate. If the
Shares of the General Partner Entity are not Publicly Traded, the Value of the
Shares Amount per Unit offered for redemption (which will be the Cash Amount per
Unit offered for redemption payable pursuant to Section 8.6.A) means the amount
that a holder of one Unit would receive if each of the assets of the Partnership
were to be sold for its fair market value on the Specified Redemption Date, the
Partnership were to pay all of its outstanding liabilities, and the remaining
proceeds were to be distributed to the Partners in accordance with the terms of
this Agreement. Such Value shall be determined by the General Partner, acting
in good faith and based upon a commercially reasonable estimate of the amount
that would be realized by the Partnership if each asset of the Partnership (and
each asset of each partnership, limited liability company, trust, joint venture
or other entity in which the Partnership owns a direct or indirect interest)
were sold to an unrelated purchaser in an arms' length transaction where neither
the purchaser nor the seller were under economic
-14-
<PAGE>
compulsion to enter into the transaction (without regard to any discount in
value as a result of the Partnership's minority interest in any property or any
illiquidity of the Partnership's interest in any property). In connection with
determining the Deemed Value of the Partnership Interest for purposes of
determining the number of additional Units issuable upon a Capital Contribution
funded by an underwritten public offering or an arm's length private placement
of shares of beneficial interest (or other comparable equity interest) of the
General Partner, the Value of such shares shall be the public offering or arm's
length private placement price per share of such class of beneficial interest
(or other comparable equity interest) sold.
ARTICLE II
ORGANIZATIONAL MATTERS
Section 2.1 Organization
The Partnership is a limited partnership organized pursuant to the
provisions of the Act and upon the terms and conditions set forth in the Prior
Agreement. The Partners hereby agree to continue the business of the
Partnership upon the terms and conditions set forth in this Agreement. Except
as expressly provided herein to the contrary, the rights and obligations of the
Partners and the administration and termination of the Partnership shall be
governed by the Act. The Partnership Interest of each Partner shall be personal
property for all purposes.
Section 2.2 Name
The name of the Partnership is Host Marriott, L.P. The Partnership's
business may be conducted under any other name or names deemed advisable by the
General Partner, including the name of the General Partner or any Affiliate
thereof. The words "Limited Partnership," "L.P.," "Ltd." or similar words or
letters shall be included in the Partnership's name where necessary for the
purposes of complying with the laws of any jurisdiction that so requires. The
General Partner in its sole and absolute discretion may change the name of the
Partnership at any time and from time to time and shall notify the Limited
Partners of such change in the next regular communication to the Limited
Partners.
Section 2.3 Registered Office and Agent; Principal Office
The address of the registered office of the Partnership in the State
of Delaware shall be located at 1013 Centre Road, County of New Castle,
Wilmington, Delaware 19805, and the registered agent for service of process on
the Partnership in the State of Delaware at such registered office shall be The
Prentice-Hall Corporation System, Inc. The principal office of the Partnership
shall be 10400 Fernwood Road, Bethesda, Maryland 20817-1109, or such other
place as the General Partner may from time to time designate by notice to the
Limited Partners. The Partnership may maintain offices at such other place or
places within or outside the State of Delaware as the General Partner deems
advisable.
-15-
<PAGE>
Section 2.4 Term
The term of the Partnership commenced on April 15, 1998, the date the
Certificate was filed in the office of the Secretary of State of the State of
Delaware in accordance with the Act, and shall continue until December 31, 2098,
unless it is dissolved sooner pursuant to the provisions of Article XIV or as
otherwise provided by law.
ARTICLE III
PURPOSE
Section 3.1 Purpose and Business
The purpose and nature of the business to be conducted by the
Partnership is (i) to conduct any business that may be lawfully conducted by a
limited partnership organized pursuant to the Act; provided, however, that such
-------- -------
business shall be limited to and conducted in such a manner as to permit the
General Partner Entity at all times to be classified as a REIT, unless the
General Partner Entity ceases to qualify or is not qualified as a REIT for any
reason or reasons not related to the business conducted by the Partnership, (ii)
to enter into any corporation, partnership, joint venture, trust, limited
liability company or other similar arrangement to engage in any of the foregoing
or the ownership of interests in any entity engaged, directly or indirectly, in
any of the foregoing and (iii) to do anything necessary or incidental to the
foregoing. In connection with the foregoing, the Partners acknowledge that the
status of the General Partner Entity as a REIT inures to the benefit of all the
Partners and not solely to the General Partner Entity or its Affiliates.
Section 3.2 Powers
The Partnership is empowered to do any and all acts and things
necessary, appropriate, proper, advisable, incidental to or convenient for the
furtherance and accomplishment of the purposes and business described herein and
for the protection and benefit of the Partnership, including, without
limitation, full power and authority, directly or through its ownership interest
in other entities, to enter into, perform and carry out contracts of any kind,
borrow money and issue evidences of indebtedness, whether or not secured by
mortgage, deed of trust, pledge or other lien, acquire, own, manage, improve and
develop real property, and lease, sell, transfer and dispose of real property;
provided, however, that the Partnership shall not take, or refrain from taking,
- -----------------
any action which, in the judgment of the General Partner, in its sole and
absolute discretion, (i) could adversely affect the ability of the General
Partner Entity to continue to qualify as a REIT, (ii) could subject the General
Partner Entity to any additional taxes under Section 857 or Section 4981 of the
Code or (iii) could violate any law or regulation of any governmental body or
agency having jurisdiction over the General Partner or its securities, unless
such action (or inaction) shall have been specifically consented to by the
General Partner in writing.
-16-
<PAGE>
ARTICLE IV
CAPITAL CONTRIBUTIONS AND ISSUANCES
OF PARTNERSHIP INTERESTS
Section 4.1 Capital Contributions of the Partners; Restatement of Capital
Accounts on the Date Hereof
HMC Real Estate Corporation and Christopher G. Townsend previously
made Capital Contributions to the Partnership. Pursuant to the Act and the
Prior Agreement, the initial General Partner has converted its General
Partnership Interest into a Limited Partnership Interest and has withdrawn as
General Partner from the Partnership and the Limited Partnership Interest of
Christopher G. Townsend has been canceled. On the date hereof, the Partners
made the Capital Contributions described in Exhibit E. On the date hereof the
---------
Partnership shall be recapitalized so that the Partners shall own Units in the
amounts set forth in Exhibit A and shall have a Percentage Interest in the
---------
Partnership as set forth in Exhibit A, which Percentage Interest shall be
---------
adjusted in Exhibit A from time to time by the General Partner to the extent
---------
necessary to reflect accurately redemptions, Capital Contributions, the issuance
of additional Units or similar events having an effect on a Partner's Percentage
Interest. To the extent the Partnership acquires any property by the merger of
any other Person into the Partnership, Persons who receive Partnership Interests
in exchange for their interests in the Person merging into the Partnership shall
become Partners and shall be deemed to have made Capital Contributions as
provided in the applicable merger agreement (or if not so provided, as
determined by the General Partner in its sole discretion) and as set forth in
Exhibit A. A number of Units held by the General Partner equal to one percent
- ---------
(1%) of all outstanding Units (as of the date hereof) shall be the General
Partnership Interest of the General Partner. All other Units held by the
General Partner shall be deemed to be Limited Partnership Interests and shall be
held by the General Partner in its capacity as a Limited Partner in the
Partnership. Except as provided in Sections 7.5 and 10.5 hereof, the Partners
shall have no obligation to make any additional Capital Contributions or provide
any additional funding to the Partnership (whether in the form of loans,
repayments of loans or otherwise). No Partner shall have any obligation to
restore any deficit that may exist in its Capital Account, either upon a
liquidation of the Partnership or otherwise.
Section 4.2 Issuances of Partnership Interests
A. General. The General Partner is hereby authorized to cause the
-------
Partnership from time to time to issue to Partners (including the General
Partner and its Affiliates) or other Persons (including, without limitation, in
connection with the contribution of property to the Partnership) Units or other
Partnership Interests in one or more classes, or in one or more series of any of
such classes, with such designations, preferences and relative, participating,
optional or other special rights, powers and duties, including rights, powers
and duties senior to Limited Partnership Interests, all as shall be determined,
subject to applicable Delaware law, by the General Partner in its sole and
absolute discretion, including, without limitation, (i) the allocations of items
of Partnership income, gain, loss, deduction and credit to each such class or
series of Partnership Interests, (ii) the right of each such class or series of
Partnership Interests to share in
-17-
<PAGE>
Partnership distributions and (iii) the rights of each such class or series of
Partnership Interests upon dissolution and liquidation of the Partnership;
provided that, except in connection with the issuance of Units on the date
- -------------
hereof, no such Units or other Partnership Interests shall be issued to (w) the
General Partner, (x) the General Partner Entity or (y) any Person that owns,
directly or indirectly, fifty percent (50%) or more of the common shares of
beneficial interest (or other comparable equity interests) of the General
Partner Entity unless either (a) the Partnership Interests are issued in
connection with the grant, award or issuance of Shares or other equity interests
in the General Partner Entity having designations, preferences and other rights
such that the economic interests attributable to such Shares or other equity
interests are substantially the same as the designations, preferences and other
rights (except voting rights) of the Partnership Interests issued to the General
Partner in accordance with this Section 4.2.A or (b) the additional Partnership
Interests are issued to all Partners holding Partnership Interests in the same
class in proportion to their respective Percentage Interests in such classes
(considering the Class A Units and Class B Units as one class for such
purposes). If the Partnership issues Partnership Interests pursuant to this
Section 4.2.A, the General Partner shall make such revisions to this Agreement
(including but not limited to the revisions described in Section 5.4, Section
6.2 and Section 8.6) as it deems necessary to reflect the issuance of such
Partnership Interests.
B. Percentage Interest Adjustments in the Case of Capital
------------------------------------------------------
Contributions for Units. Upon the acceptance of additional Capital
- -----------------------
Contributions in exchange for Units and if the Partnership shall have
outstanding more than one class of Partnership Interests, the Percentage
Interest attributable to the additional Units issued by the Partnership shall be
equal to a fraction, the numerator of which is equal to the aggregate amount of
cash, if any, plus the Agreed Value of Contributed Property, if any, contributed
with respect to such additional Units and the denominator of which is equal to
the sum of (i) the Deemed Value of the Partnership Interests for all outstanding
classes (computed as of the Business Day immediately preceding the date on which
the additional Capital Contributions are made (an "Adjustment Date")) plus (ii)
the aggregate amount of cash, if any, plus the Agreed Value of Contributed
Property, if any, contributed to the Partnership on such Adjustment Date in
respect of such additional Units. For purposes of foregoing, Class A Units and
Class B Units shall be considered one class. The Percentage Interest of each
other Partner holding Partnership Interests not making a full pro rata Capital
Contribution shall be adjusted to a fraction the numerator of which is equal to
the sum of (a) the Deemed Partnership Interest Value of such Limited Partner
(computed as of the Business Day immediately preceding the Adjustment Date) plus
(b) the amount of additional Capital Contributions (such amount being equal to
the amount of cash, if any, plus the Agreed Value of Contributed Property, if
any, so contributed), if any, made by such Partner to the Partnership in respect
of such Partnership Interest as of such Adjustment Date and the denominator of
which is equal to the sum of (I) the Deemed Value of the Partnership Interests
of all outstanding classes (computed as of the Business Day immediately
preceding such Adjustment Date) plus (II) the aggregate amount of the additional
Capital Contributions contributed to the Partnership on such Adjustment Date in
respect of such additional Partnership Interests. For purposes of calculating a
Partner's Percentage Interest pursuant to this Section 4.2.B, cash Capital
Contributions by a General Partner will be deemed to equal the cash contributed
by such General Partner plus (A) in the case of cash contributions funded by an
offering of any equity interests in or
-18-
<PAGE>
other securities of the General Partner, the offering costs attributable to the
cash contributed to the Partnership, and (B) in the case of Units issued
pursuant to Section 7.5.E, an amount equal to the difference between the Value
of the Shares sold pursuant to any Share Option Plan and the net proceeds of
such sale.
C. Classes of Units. From and after the date hereof, subject to
----------------
Section 4.2.A above, the Partnership shall have two classes of Units entitled
"Class A Units" and "Class B Units." Either Class A Units or Class B Units, at
the election of the General Partner, in its sole and absolute discretion, may be
issued to newly admitted Partners in exchange for the contribution by such
Partners of cash, real estate partnership interests, stock, notes or other
assets or consideration; provided, that all Units issued to Partners on the
--------
Closing Date shall be Class A Units; and, provided further, that any Unit that
----------------
is not specifically designated by the General Partner as being of a particular
class shall be deemed to be a Class A Unit. Each Class B Unit shall be
converted automatically into a Class A Unit on the day immediately following the
Partnership Record Date for the Distribution Period (as defined in Section
5.1.C) in which such Class B Unit was issued, without the requirement for any
action by either the Partnership or the Partner holding the Class B Unit.
D. Certain Restrictions on Issuances of Units or Other Partnership
---------------------------------------------------------------
Interests. Notwithstanding the foregoing, in no event may the General Partner
- ---------
cause the Partnership to issue to Partners (including the General Partner and
its Affiliates) or other Persons any Units or other Partnership Interests (i) if
such issuance would cause the Partnership Interests of "benefit plan investors"
to become "significant," as those terms are used in 29 C.F.R. (S)2510.3-101(f),
or any successor regulation thereto, or would cause the Partnership to become,
with respect to any employee benefit plan subject to Title I of ERISA, a "party-
in-interest" (as defined in Section 3(14) of ERISA) or, with respect to any plan
defined in Section 4975(e) of the Code, a "disqualified person" (as defined in
Section 4975(e) of the Code), or (ii) if such issuance would, in the opinion of
counsel to the Partnership, cause any portion of the assets of the Partnership
to constitute assets of any ERISA Plan Investor pursuant to 29 C.F.R.
(S)2510.3-101, or any successor regulation thereto.
Section 4.3 No Preemptive Rights
Except to the extent expressly granted by the Partnership pursuant to
another agreement, no Person shall have any preemptive, preferential or other
similar right with respect to (i) additional Capital Contributions or loans to
the Partnership or (ii) issuance or sale of any Units or other Partnership
Interests.
Section 4.4 Other Contribution Provisions
If any Partner is admitted to the Partnership and is given a Capital
Account in exchange for services rendered to the Partnership, such transaction
shall be treated by the Partnership and the affected Partner as if the
Partnership had compensated such Partner in cash, and the Partner had
contributed such cash to the capital of the Partnership.
-19-
<PAGE>
Section 4.5 No Interest on Capital
No Partner shall be entitled to interest on its Capital Contributions
or its Capital Account.
ARTICLE V
DISTRIBUTIONS
Section 5.1 Requirement and Characterization of Distributions
A. General. The Partnership shall distribute at least quarterly an
-------
amount equal to one hundred percent (100%) of Available Cash of the Partnership
during such quarter or shorter period to the Partners who are Partners on the
Partnership Record Date with respect to such quarter or shorter period as
provided in Sections 5.1.B, 5.1.C and 5.1.D. Notwithstanding anything to the
contrary contained herein, in no event may a Partner receive a distribution of
Available Cash with respect to a Unit for a quarter or shorter period if such
Partner is entitled to receive a distribution with respect to a Share for which
such Unit has been redeemed or exchanged. Unless otherwise expressly provided
for herein or in an agreement at the time a new class of Partnership Interests
is created in accordance with Article IV hereof, no Partnership Interest shall
be entitled to a distribution in preference to any other Partnership Interest.
The General Partner shall make such reasonable efforts, as determined by it in
its sole and absolute discretion and consistent with the qualification of the
General Partner Entity as a REIT, to distribute Available Cash (a) to Limited
Partners so as to preclude any such distribution or portion thereof from being
treated as part of a sale of property of the Partnership by a Limited Partner
under Section 707 of the Code or the Regulations thereunder; provided that, the
-------------
General Partner and the Partnership shall not have liability to a Limited
Partner under any circumstances as a result of any distribution to a Limited
Partner being so treated, and (b) to the General Partner in an amount sufficient
to enable the General Partner Entity to pay shareholder dividends that will (1)
satisfy the requirements for qualification as a REIT under the Code and the
Regulations (the "REIT Requirements") of, and (2) avoid any federal income or
excise tax liability for, the General Partner Entity.
B. Method. (i) Each holder of Partnership Interests that is entitled
------
to any preference in distribution shall be entitled to a distribution in
accordance with the rights of any such class of Partnership Interests (and,
within such class, pro rata in proportion to the respective Percentage Interests
on such Partnership Record Date); and
(ii) To the extent there is Available Cash remaining after the payment
of any preference in distribution in accordance with the foregoing clause (i),
with respect to Partnership Interests that are not entitled to any preference in
distribution, pro rata to each such class in accordance with the terms of such
class as set forth in this Agreement or otherwise established by the General
Partner pursuant to Section 4.2 (and, within each such class, pro rata in
proportion to the respective Percentage Interests on such Partnership Record
Date).
C. Distributions When Class B Units Are Outstanding. If for any
-------------------------------------------------
quarter or shorter period with respect to which a distribution is to be made (a
"Distribution
-20-
<PAGE>
Period") Class B Units are outstanding on the Partnership Record Date for such
Distribution Period, the General Partner shall allocate the Available Cash with
respect to such Distribution Period available for distribution with respect to
the Class A Units and Class B Units collectively between the Partners who are
holders of Class A Units ("Class A") and the Partners who are holders of Class B
Units ("Class B") as follows:
(1) Class A shall receive that portion of the Available
Cash (the "Class A Share") determined by multiplying the amount
of Available Cash by the following fraction:
A x Y
-------------------------------
(A x Y)+(B x X)
(2) Class B shall receive that portion of the Available
Cash (the "Class B Share") determined by multiplying the amount
of Available Cash by the following fraction:
B x X
-------------------------------
(A x Y)+(B x X)
(3) For purposes of the foregoing formulas, (i) "A"
equals the number of Class A Units outstanding on the Partnership
Record Date for such Distribution Period; (ii) "B" equals the
number of Class B Units outstanding on the Partnership Record
Date for such Distribution Period; (iii) "Y" equals the number of
days in the Distribution Period; and (iv) "X" equals the number
of days in the Distribution Period for which the Class B Units
were issued and outstanding.
The Class A Share shall be distributed pro rata among Partners holding
Class A Units on the Partnership Record Date for the Distribution Period in
accordance with the number of Class A Units held by each Partner on such
Partnership Record Date; provided that, in no event may a Partner receive a
-------------
distribution of Available Cash with respect to a Class A Unit if a Partner is
entitled to receive a distribution with respect to a Share for which such Class
A Unit has been redeemed or exchanged. The Class B Share shall be distributed
pro rata among the Partners holding Class B Units on the Partnership Record Date
for the Distribution Period in accordance with the number of Class B Units held
by each Partner on such Partnership Record Date. In no event shall any Class B
-21-
<PAGE>
Units be entitled to receive any distribution of Available Cash for any
Distribution Period ending prior to the date on which such Class B Units are
issued.
D. Distributions When Class B Units Have Been Issued on Different
--------------------------------------------------------------
Dates. If Class B Units which have been issued on different dates are
- -----
outstanding on the Partnership Record Date for any Distribution Period, then the
Class B Units issued on each particular date shall be treated as a separate
series of Units for purposes of making the allocation of Available Cash for such
Distribution Period among the holders of Units (and the formula for making such
allocation, and the definitions of variables used therein, shall be modified
accordingly). Thus, for example, if two series of Class B Units are outstanding
on the Partnership Record Date for any Distribution Period, the allocation
formula for each series, "Series B\\1\\" and "Series B\\2\\" would be as
follows:
(1) Series B\\1\\ shall receive that portion of the
Available Cash determined by multiplying the amount of Available
Cash by the following fraction:
B\\1\\ x X\\1\\
-------------------------------------------
(A x Y)+(B\\1\\ x X\\1\\)+(B\\2\\ x X\\2\\)
(2) Series B\\2\\ shall receive that portion of the
Available Cash determined by multiplying the amount of Available
Cash by the following fraction:
B\\2\\ x X\\2\\
-------------------------------------------
(A x Y)+(B\\1\\ x X\\1\\)+(B\\2\\ x X\\2\\)
(3) For purposes of the foregoing formulas the
definitions set forth in Section 5.1.C.3 remain the same except
that (i) "B\\1\\" equals the number of Units in Series B\\1\\
outstanding on the Partnership Record Date for such Distribution
Period; (ii) "B\\2\\" equals the number of Units in Series B\\2\\
outstanding on the Partnership Record Date for such Distribution
Period; (iii) "X\\1\\" equals the number of days in the
Distribution Period for which the Units in Series B\\1\\ were
issued and outstanding; and (iv) "X\\2\\" equals the number of
days in the Distribution Period for which the Units in Series
B\\2\\ were issued and outstanding.
-22-
<PAGE>
Section 5.2 Amounts Withheld
All amounts withheld pursuant to the Code or any provisions of any
state or local tax law and Section 10.5 with respect to any allocation, payment
or distribution to the General Partner, the Limited Partners or Assignees shall
be treated as amounts distributed to the General Partner, Limited Partners or
Assignees, as the case may be, pursuant to Section 5.1 for all purposes under
this Agreement.
Section 5.3 Distributions Upon Liquidation
Proceeds from a Terminating Capital Transaction shall be distributed
to the Partners in accordance with Section 14.2.A.
Section 5.4 Revisions to Reflect Issuance of Partnership Interests
If the Partnership issues Partnership Interests to the General Partner
or any Additional Limited Partner pursuant to Article IV hereof, the General
Partner shall make such revisions to this Article V and Exhibit A as it deems
---------
necessary to reflect the issuance of such additional Partnership Interests
without the requirement for any other consents or approvals of any other
Partner.
ARTICLE VI
ALLOCATIONS
Section 6.1 Allocations For Capital Account Purposes
For purposes of maintaining the Capital Accounts and in determining
the rights of the Partners among themselves, the Partnership's items of income,
gain, loss and deduction (computed in accordance with Exhibit B) shall be
---------
allocated among the Partners in each taxable year (or portion thereof) as
provided herein below.
A. Net Income. After giving effect to the special allocations set
----------
forth in Section 1 of Exhibit C, Net Income shall be allocated (i) first, to the
---------
General Partner to the extent that Net Losses previously allocated to the
General Partner pursuant to the last sentence of Section 6.1.B exceed Net Income
previously allocated to the General Partner pursuant to this clause (i) of
Section 6.1.A, (ii) second, to the holders of any Partnership Interests that are
entitled to any preference in distribution in accordance with the rights of any
such class of Partnership Interests until each such Partnership Interest has
been allocated, on a cumulative basis pursuant to this clause (ii), Net Income
equal to the amount of distributions received which are attributable to the
preference of such class of Partnership Interests (and, within such class, pro
rata in proportion to the respective Percentage Interests as of the last day of
the period for which such allocation is being made) and (iii) third, with
respect to Partnership Interests that are not entitled to any preference in the
allocation of Net Income, pro rata to each such class in accordance with the
terms of such class as set forth in this Agreement or otherwise established by
the General Partner pursuant to Section 4.2 (and, within such class, pro rata in
proportion to
-23-
<PAGE>
the respective Percentage Interests as of the last day of the period for which
such allocation is being made).
B. Net Losses. After giving effect to the special allocations set
----------
forth in Section 1 of Exhibit C, Net Losses shall be allocated (i) first, to the
---------
holders of any Partnership Interests that are entitled to any preference in
distribution in accordance with the rights of any such class of Partnership
Interests to the extent that any prior allocations of Net Income to such class
of Partnership Interests pursuant to Section 6.1.A (ii) exceed, on a cumulative
basis, distributions with respect to such Partnership Interests pursuant to
clause (i) of Section 5.1.B (and, within such class, pro rata in proportion to
the respective Percentage Interests as of the last day of the period for which
such allocation is being made) and (ii) second, with respect to classes of
Partnership Interests that are not entitled to any preference in distribution,
pro rata to each such class in accordance with the terms of such class as set
forth in this Agreement or otherwise established by the General Partner pursuant
to Section 4.2 (and, within such class, pro rata in proportion to the respective
Percentage Interests as of the last day of the period for which such allocation
is being made); provided that Net Losses shall not be allocated to any Limited
-------------
Partner pursuant to this Section 6.1.B to the extent that such allocation would
cause such Limited Partner to have an Adjusted Capital Account Deficit (or
increase any existing Adjusted Capital Account Deficit) at the end of such
taxable year (or portion thereof). All Net Losses in excess of the limitations
set forth in this Section 6.1.B shall be allocated to the General Partner.
C. Allocation of Nonrecourse Debt. For purposes of Regulation
------------------------------
Section 1.752-3(a), the Partners agree that Nonrecourse Liabilities of the
Partnership in excess of the sum of (i) the amount of Partnership Minimum Gain
and (ii) the total amount of Nonrecourse Built-in Gain shall be allocated by the
General Partner by taking into account the facts and circumstances relating to
each Partner's respective interest in the profits of the Partnership. For this
purpose, the General Partner shall have the sole and absolute discretion in any
fiscal year to allocate such excess Nonrecourse Liabilities among the Partners
in any manner permitted under Code Section 752 and the Regulations thereunder.
D. Recapture Income. Any gain allocated to the Partners upon the
----------------
sale or other taxable disposition of any Partnership asset shall, to the extent
possible after taking into account other required allocations of gain pursuant
to Exhibit C, be characterized as Recapture Income in the same proportions and
---------
to the same extent as such Partners have been allocated any deductions directly
or indirectly giving rise to the treatment of such gains as Recapture Income.
Section 6.2 Revisions to Allocations to Reflect Issuance of Partnership
Interests
If the Partnership issues Partnership Interests to the General Partner
or any Additional Limited Partner pursuant to Article IV hereof, the General
Partner shall make such revisions to this Article VI and Exhibit A as it deems
---------
necessary to reflect the terms of the issuance of such Partnership Interests,
including making preferential allocations to
-24-
<PAGE>
classes of Partnership Interests that are entitled thereto. Such revisions shall
not require the consent or approval of any other Partner.
ARTICLE VII
MANAGEMENT AND OPERATIONS OF BUSINESS
Section 7.1 Management
A. Powers of the General Partner. Except as otherwise expressly
-----------------------------
provided in this Agreement, all management powers over the business and affairs
of the Partnership are and shall be exclusively vested in the General Partner,
and no Limited Partner shall have any right to participate in or exercise
control or management power over the business and affairs of the Partnership.
The General Partner may not be removed by the Limited Partners with or without
cause (unless the Shares of the General Partner Entity corresponding to Class A
Units are not Publicly Traded, in which case the General Partner may be removed
for cause). In addition to the powers now or hereafter granted a general
partner of a limited partnership under applicable law or which are granted to
the General Partner under any other provision of this Agreement, the General
Partner, subject to Section 7.11, shall have full power and authority to do all
things deemed necessary or desirable by it to conduct the business of the
Partnership, to exercise all powers set forth in Section 3.2 and to effectuate
the purposes set forth in Section 3.1, including, without limitation:
(1) the making of any expenditures, the lending or borrowing of
money (including, without limitation, making prepayments on
loans and borrowing money to permit the Partnership to make
distributions to its Partners in such amounts as are
required under Section 5.1.E or will permit the General
Partner Entity (so long as the General Partner Entity
qualifies as a REIT) to avoid the payment of any federal
income tax (including, for this purpose, any excise tax
pursuant to Section 4981 of the Code) and to make
distributions to its shareholders sufficient to permit the
General Partner Entity to maintain its REIT status), the
assumption or guarantee of, or other contracting for,
indebtedness and other liabilities, the issuance of
evidences of indebtedness (including the securing of same by
mortgage, deed of trust or other lien or encumbrance on the
Partnership's assets) and the incurring of any obligations
the General Partner Entity deems necessary for the conduct
of the activities of the Partnership;
(2) the making of tax, regulatory and other filings, or
rendering of periodic or other reports to governmental or
other agencies having jurisdiction over the business or
assets of the Partnership;
(3) the acquisition, disposition, mortgage, pledge, encumbrance,
hypothecation or exchange of any or all of the assets of the
-25-
<PAGE>
Partnership (including the exercise or grant of any
conversion, option, privilege or subscription right or other
right available in connection with any assets at any time
held by the Partnership) or the merger or other combination
of the Partnership with or into another entity on such terms
as the General Partner deems proper;
(4) the use of the assets of the Partnership (including, without
limitation, cash on hand) for any purpose consistent with
the terms of this Agreement and on any terms it sees fit,
including, without limitation, the financing of the conduct
of the operations of the General Partner, the Partnership or
any of the Partnership's Subsidiaries, the lending of funds
to other Persons (including, without limitation, the
Partnership's Subsidiaries) and the repayment of obligations
of the Partnership and its Subsidiaries and any other Person
in which the Partnership has an equity investment and the
making of capital contributions to its Subsidiaries;
(5) the management, operation, leasing, landscaping, repair,
alteration, demolition or improvement of any real property
or improvements owned by the Partnership or any Subsidiary
of the Partnership or any Person in which the Partnership
has made a direct or indirect equity investment;
(6) the negotiation, execution, and performance of any
contracts, conveyances or other instruments that the General
Partner considers useful or necessary to the conduct of the
Partnership's operations or the implementation of the
General Partner's powers under this Agreement, including
contracting with contractors, developers, consultants,
accountants, legal counsel, other professional advisors and
other agents and the payment of their expenses and
compensation out of the Partnership's assets;
(7) the mortgage, pledge, encumbrance or hypothecation of any
assets of the Partnership, and the use of the assets of the
Partnership (including, without limitation, cash on hand)
for any purpose consistent with the terms of this Agreement
and on any terms it sees fit, including, without limitation,
the financing of the conduct or the operations of the
General Partner or the Partnership, the lending of funds to
other Persons (including, without limitation, any
Subsidiaries of the Partnership) and the repayment of
obligations of the Partnership, any of its Subsidiaries and
any other Person in which it has an equity investment;
-26-
<PAGE>
(8) the distribution of Partnership cash or other Partnership
assets in accordance with this Agreement;
(9) the holding, managing, investing and reinvesting of cash and
other assets of the Partnership;
(10) the collection and receipt of revenues and income of the
Partnership;
(11) the selection, designation of powers, authority and duties
and the dismissal of employees of the Partnership
(including, without limitation, employees having titles such
as "president," "vice president," "secretary" and
"treasurer") and agents, outside attorneys, accountants,
consultants and contractors of the Partnership and the
determination of their compensation and other terms of
employment or hiring;
(12) the maintenance of such insurance for the benefit of the
Partnership and the Partners as it deems necessary or
appropriate;
(13) the formation of, or acquisition of an interest (including
non-voting interests in entities controlled by Affiliates of
the Partnership or third parties) in, and the contribution
of property to, any further limited or general partnerships,
joint ventures, limited liability companies or other
relationships that it deems desirable (including, without
limitation, the acquisition of interests in, and the
contributions of funds or property to, or making of loans
to, its Subsidiaries and any other Person in which it has an
equity investment from time to time, or the incurrence of
indebtedness on behalf of such Persons or the guarantee of
the obligations of such Persons); provided that, as long as
the General Partner has determined to continue to qualify as
a REIT, the Partnership may not engage in any such
formation, acquisition or contribution that would cause the
General Partner to fail to qualify as a REIT;
(14) the control of any matters affecting the rights and
obligations of the Partnership, including the settlement,
compromise, submission to arbitration or any other form of
dispute resolution or abandonment of any claim, cause of
action, liability, debt or damages due or owing to or from
the Partnership, the commencement or defense of suits, legal
proceedings, administrative proceedings, arbitrations or
other forms of dispute resolution, the representation of the
Partnership in all suits or legal proceedings,
administrative proceedings, arbitrations or other forms of
dispute resolution, the incurring of legal expense and the
indemnification of any
-27-
<PAGE>
Person against liabilities and contingencies to the extent
permitted by law;
(15) the determination of the fair market value of any
Partnership property distributed in kind, using such
reasonable method of valuation as the General Partner may
adopt;
(16) the exercise, directly or indirectly, through any attorney-
in-fact acting under a general or limited power of attorney,
of any right, including the right to vote, appurtenant to
any assets or investment held by the Partnership;
(17) the exercise of any of the powers of the General Partner
enumerated in this Agreement on behalf of or in connection
with any Subsidiary of the Partnership or any other Person
in which the Partnership has a direct or indirect interest,
individually or jointly with any such Subsidiary or other
Person;
(18) the exercise of any of the powers of the General Partner
enumerated in this Agreement on behalf of any Person in
which the Partnership does not have any interest pursuant to
contractual or other arrangements with such Person;
(19) the making, executing and delivering of any and all deeds,
leases, notes, deeds to secure debt, mortgages, deeds of
trust, security agreements, conveyances, contracts,
guarantees, warranties, indemnities, waivers, releases or
other legal instruments or agreements in writing necessary
or appropriate in the judgment of the General Partner for
the accomplishment of any of the powers of the General
Partner enumerated in this Agreement;
(20) the distribution of cash to acquire Units held by a Limited
Partner in connection with a Limited Partner's exercise of
its Unit Redemption Right under Section 8.6; and
(21) the amendment and restatement of Exhibit A to reflect
---------
accurately at all times the Capital Contributions and
Percentage Interests of the Partners as the same are
adjusted from time to time to the extent necessary to
reflect redemptions, Capital Contributions, the issuance of
Units, the admission of any Additional Limited Partner or
any Substituted Limited Partner or otherwise, which
amendment and restatement, notwithstanding anything in this
Agreement to the contrary, shall not be deemed an amendment
of this Agreement, as long as the matter or event being
reflected in Exhibit A otherwise is authorized by this
---------
Agreement.
-28-
<PAGE>
B. No Approval by Limited Partners. Except as provided in Section
-------------------------------
7.11, each of the Limited Partners agrees that the General Partner is authorized
to execute, deliver and perform the above-mentioned agreements and transactions
on behalf of the Partnership without any further act, approval or vote of the
Partners, notwithstanding any other provision of this Agreement, the Act or any
applicable law, rule or regulation, to the full extent permitted under the Act
or other applicable law. The execution, delivery or performance by the General
Partner or the Partnership of any agreement authorized or permitted under this
Agreement shall not constitute a breach by the General Partner of any duty that
the General Partner may owe the Partnership or the Limited Partners or any other
Persons under this Agreement or of any duty stated or implied by law or equity.
C. Insurance. At all times from and after the date hereof, the
---------
General Partner may cause the Partnership to obtain and maintain (i) casualty,
liability and other insurance on the properties of the Partnership and (ii)
liability insurance for the Indemnitees hereunder and (iii) such other insurance
as the General Partner, in its sole and absolute discretion, determines to be
necessary.
D. Working Capital and Other Reserves. At all times from and after
----------------------------------
the date hereof, the General Partner may cause the Partnership to establish and
maintain working capital reserves in such amounts as the General Partner, in its
sole and absolute discretion, deems appropriate and reasonable from time to
time, including upon liquidation of the Partnership under Article XIII.
E. No Obligation to Consider Tax Consequences of Limited Partners.
--------------------------------------------------------------
In exercising its authority under this Agreement, the General Partner may, but
shall be under no obligation to, take into account the tax consequences to any
Partner (including the General Partner) of any action taken (or not taken) by
any of them. The General Partner is acting on behalf of the Partnership's
Limited Partners and its shareholders collectively. The General Partner and the
Partnership shall not have liability to a Limited Partner for monetary damages
or otherwise for losses sustained, liabilities incurred or benefits not derived
by such Limited Partner in connection with such decisions, provided that the
General Partner has acted in good faith and pursuant to its authority under this
Agreement.
Section 7.2 Certificate of Limited Partnership
The initial General Partner has previously filed the Certificate with
the Secretary of State of Delaware. To the extent that such action is
determined by the General Partner to be reasonable and necessary or appropriate,
the General Partner shall file amendments to and restatements of the Certificate
and do all the things to maintain the Partnership as a limited partnership (or a
partnership in which the limited partners have limited liability) under the laws
of the State of Delaware and each other state, the District of Columbia or other
jurisdiction in which the Partnership may elect to do business or own property.
Subject to the terms of Section 8.5.A(4), the General Partner shall not be
required, before or after filing, to deliver or mail a copy of the Certificate
or any amendment thereto to any Limited Partner. The General Partner shall use
all reasonable efforts to cause to be filed such other certificates or documents
as may be reasonable and necessary or appropriate for the formation,
continuation, qualification and operation of a
-29-
<PAGE>
limited partnership (or a partnership in which the limited partners have limited
liability) in the State of Delaware and any other state, the District of
Columbia or other jurisdiction in which the Partnership may elect to do business
or own property.
Section 7.3 Title to Partnership Assets
Title to Partnership assets, whether real, personal or mixed and
whether tangible or intangible, shall be deemed to be owned by the Partnership
as an entity, and no Partners, individually or collectively, shall have any
ownership interest in such Partnership assets or any portion thereof. Title to
any or all of the Partnership assets may be held in the name of the Partnership,
the General Partner or one or more nominees, as the General Partner may
determine, including Affiliates of the General Partner. The General Partner
hereby declares and warrants that any Partnership assets for which legal title
is held in the name of the General Partner or any nominee or Affiliate of the
General Partner shall be held by that entity for the use and benefit of the
Partnership in accordance with the provisions of this Agreement. All
Partnership assets shall be recorded as the property of the Partnership in its
books and records, irrespective of the name in which legal title to such
Partnership assets is held.
Section 7.4 Reimbursement of the General Partner
A. No Compensation. Except as provided in this Section 7.4 and
---------------
elsewhere in this Agreement (including the provisions of Articles V and VI
regarding distributions, payments and allocations to which it may be entitled),
the General Partner shall not receive payment from the Partnership or otherwise
be compensated for its services as general partner of the Partnership.
B. Responsibility for Partnership and General Partner Expenses.
------------------------------------------------------------
The Partnership shall
be responsible for and shall pay all expenses relating to the Partnership's
organization, the ownership of its assets and its operations and the Partnership
shall be responsible for and shall pay or reimburse all expenses and discharge
all liabilities of any nature whatsoever that the General Partner may incur
(including, without limitation, expenses related to the operations of the
General Partner and to the management and administration of any Subsidiaries
of the General Partner permitted under Section 7.5.A or the Partnership
or Subsidiaries of the Partnership, such as auditing expenses and
filing fees); provided that, (i) the amount of any such reimbursement shall be
-------------
reduced by (x) any interest earned by the General Partner with respect to bank
accounts or other instruments or accounts held by it on behalf of the
Partnership as permitted in Section 7.5.A (which interest is considered to
belong to the Partnership and shall be paid over to the Partnership to the
extent not applied to reimburse the General Partner for expenses hereunder); and
(y) any amount derived by the General Partner from any investments permitted in
Section 7.5.A; (ii) the Partnership shall not be responsible for any taxes that
the General Partner would not have been required to pay if is qualified as a
REIT for federal income tax purposes or any taxes imposed on the General Partner
by reason of its failure to distribute to its shareholders an amount equal to
its taxable income; (iii) the Partnership shall not be responsible for expenses
or liabilities incurred by the General Partner in connection with any business
or assets of the General Partner other than its ownership of Partnership
Interests or operation of the business of the Partnership or ownership of
interest in Qualified REIT Subsidiaries to the extent permitted in Section
7.5.A; and (iv) the Partnership shall not be responsible for any expenses or
liabilities of the General Partner that are excluded from the scope of the
indemnification provisions of Section 7.7.A by reason of the provisions of
clause (i), (ii) or (iii) thereof. The General Partner shall determine in good
faith the amount of expenses incurred by it related to the ownership of
Partnership Interests or operation of, or for the benefit of, the Partnership.
If certain expenses are incurred that are related both to the ownership of
Partnership Interests or operation of, or for the benefit of the Partnership and
to the ownership of other assets (other than Qualified REIT Subsidiaries as
permitted under Section 7.7.A) or the operation of other businesses, such
expenses will be allocated to the Partnership and such other entities (including
the General Partner) owning such other assets or businesses in such a manner as
the General Partner in its sole and absolute discretion deems
-30-
<PAGE>
fair and reasonable. Such reimbursements shall be in addition to any
reimbursement to the General Partner pursuant to Section 10.3.C and as a result
of indemnification pursuant to Section 7.7. All payments and reimbursements
hereunder shall be characterized for federal income tax purposes as expenses of
the Partnership incurred on its behalf, and not as expenses of the General
Partner.
C. Partnership Interest Issuance Expenses. The General Partner shall
--------------------------------------
also be reimbursed for all expenses it incurs relating to any issuance of
Partnership Interests, Shares, Debt of the Partnership or Funding Debt of the
General Partner or rights, options, warrants or convertible or exchangeable
securities pursuant to Article IV (including, without limitation, all costs,
expenses, damages and other payments resulting from or arising in connection
with litigation related to any of the foregoing), all of which expenses are
considered by the Partners to constitute expenses of, and for the benefit of,
the Partnership.
D. Purchases of Shares by the General Partner. If the General
------------------------------------------
Partner exercises its rights under the Declaration of Trust to purchase Shares
or otherwise elects to purchase from its shareholders Shares in connection with
a share repurchase or similar program or for the purpose of delivering such
Shares to satisfy an obligation under any dividend reinvestment or equity
purchase program adopted by the General Partner, any employee equity purchase
plan adopted by the General Partner or any similar obligation or arrangement
undertaken by the General Partner in the future, the purchase price paid by the
General Partner for those Shares and any other expenses incurred by the General
Partner in connection with such purchase shall be considered expenses of the
Partnership and shall be reimbursable to the General Partner, subject to the
conditions that: (i) if those Shares subsequently are to be sold by the General
Partner, the General Partner shall pay to the Partnership any proceeds received
by the General Partner for those Shares (provided that a transfer of Shares for
Units pursuant to Section 8.6 would not be considered a sale for such purposes),
and (ii) if such Shares are not retransferred by the General Partner within
thirty (30) days after the purchase thereof, the General Partner shall cause the
Partnership to cancel a number of Units (rounded to the nearest whole Unit) held
by the General Partner equal to the product attained by multiplying the number
of those Shares by a fraction, the numerator of which is one and the denominator
of which is the Conversion Factor, which Units shall be treated as having been
redeemed by the Partnership for the payment made by the Partnership to the
General Partner with respect to the corresponding Shares.
E. Reimbursement not a Distribution. Except as set forth in the
--------------------------------
succeeding sentence, if and to the extent any reimbursement made pursuant to
this Section 7.4 is determined for federal income tax purposes not to constitute
a payment of expenses of the Partnership, the amount so determined shall
constitute a guaranteed payment with respect to capital within the meaning of
Section 707(c) of the Code, shall be treated consistently therewith by the
Partnership and all Partners and shall not be treated as a distribution for
purposes of computing the Partners' Capital Accounts. Amounts deemed paid by
the Partnership to the General Partner in connection with the redemption of
Units pursuant to clause (ii) of subparagraph (D) above shall be treated as a
distribution for purposes of computing the Partner's Capital Accounts.
-31-
<PAGE>
Section 7.5 Outside Activities of the General Partner; Relationship of Shares
to Units; Funding Debt
A. General. Without the Consent of the Outside Limited Partners, the
-------
General Partner shall not, directly or indirectly, enter into or conduct any
business other than in connection with the ownership, acquisition and
disposition of Partnership Interests as a General Partner or Limited Partner and
the management of the business of the Partnership and such activities as are
incidental thereto. Without the Consent of the Outside Limited Partners, the
assets of the General Partner shall be limited to Partnership Interests and
permitted debt obligations of the Partnership (as contemplated by Section
7.5.F), so that Shares and Units are completely fungible except as otherwise
specifically provided herein; provided, that the General Partner shall be
--------
permitted to hold such bank accounts or similar instruments or accounts in its
name as it deems necessary to carry out its responsibilities and purposes as
contemplated under this Agreement and its organizational documents (provided
that accounts held on behalf of the Partnership to permit the General Partner to
carry out its responsibilities under this Agreement shall be considered to
belong to the Partnership and the interest earned thereon shall, subject to
Section 7.4.B, be applied for the benefit of the Partnership); and, provided
--------
further, that the General Partner shall be permitted to acquire, directly or
- -------
through a Qualified REIT Subsidiary or limited liability company, up to a one
percent (1%) equity interest in any partnership or limited liability company at
least ninety-nine percent (99%) of the equity of which is owned, directly or
indirectly, by the Partnership so that for every $1 distributed to the General
Partner or its Subsidiary at least $99 is distributed to the Partnership. The
General Partner and any of its Affiliates may acquire Limited Partnership
Interests and shall be entitled to exercise all rights of a Limited Partner
relating to such Limited Partnership Interests.
B. Repurchase of Shares. If the General Partner exercises its rights
--------------------
under the Declaration of Trust to purchase Shares or otherwise elects to
purchase from its shareholders Shares, then the General Partner shall cause the
Partnership to purchase from the General Partner that number of Units of the
appropriate class equal to the product obtained by multiplying the number of
Shares purchased by the General Partner times a fraction, the numerator of which
is one and the denominator of which is the Conversion Factor, on the same terms
and for the same aggregate price that the General Partner purchased such Shares.
C. Forfeiture of Shares. If the Partnership or the General Partner
--------------------
acquires Shares as a result of the forfeiture of such Shares under a restricted
share, share bonus or any other similar share plan, then the General Partner
shall cause the Partnership to cancel, without payment of any consideration to
the General Partner, that number of Units equal to the number of Shares so
acquired, and, if the Partnership acquired such Shares, it shall transfer such
Shares to the General Partner for cancellation.
D. Issuances of Shares. After the date hereof, the General Partner
-------------------
shall not grant, award or issue any additional Shares (other than Shares issued
pursuant to Section 8.6 hereof or pursuant to a dividend or distribution
(including any share split) of Shares to all of its shareholders that results in
an adjustment to the Conversion Factor pursuant to clause (i), (ii) or (iii) of
the definition thereof), other equity securities of the
-32-
<PAGE>
General Partner, New Securities or Convertible Funding Debt unless (i) the
General Partner shall cause, pursuant to Section 4.2.A hereof, the Partnership
to issue to the General Partner Partnership Interests or rights, options,
warrants or convertible or exchangeable securities of the Partnership having
designations, preferences and other rights, all such that the economic interests
are substantially the same as those of such additional Shares, other equity
securities, New Securities or Convertible Funding Debt, as the case may be, and
(ii) the General Partner transfers to the Partnership, as an additional Capital
Contribution, the proceeds from the grant, award or issuance of such additional
Shares, other equity securities, New Securities or Convertible Funding Debt, as
the case may be, or from the exercise of rights contained in such additional
Shares, other equity securities, New Securities or Convertible Funding Debt, as
the case may be. Without limiting the foregoing, the General Partner is
expressly authorized to issue additional Shares, other equity securities, New
Securities or Convertible Funding Debt, as the case may be, for less than fair
market value, and the General Partner is expressly authorized, pursuant to
Section 4.2.A hereof, to cause the Partnership to issue to the General Partner
corresponding Partnership Interests (for example, and not by way of limitation,
the issuance of Shares and corresponding Units pursuant to a share purchase plan
providing for purchases of Shares, either by employees or shareholders, at a
discount from fair market value or pursuant to employee share options that have
an exercise price that is less than the fair market value of the Shares, either
at the time of issuance or at the time of exercise), as long as (a) the General
Partner concludes in good faith that such issuance is in the interests of the
General Partner and the Partnership and (b) the General Partner transfers all
proceeds from any such issuance or exercise to the Partnership as an additional
Capital Contribution.
E. Share Option Plan. If at any time or from time to time, the
-----------------
General Partner sells Shares pursuant to any Share Option Plan, the General
Partner shall transfer the net proceeds of the sale of such Shares to the
Partnership as an additional Capital Contribution in exchange for an amount of
additional Units equal to the number of Shares so sold divided by the Conversion
Factor.
F. Funding Debt. The General Partner may incur a Funding Debt,
------------
including, without limitation, a Funding Debt that is convertible into Shares or
otherwise constitutes a class of New Securities ("Convertible Funding Debt"),
subject to the condition that the General Partner lend to the Partnership the
net proceeds of such Funding Debt; provided, that Convertible Funding Debt shall
be issued pursuant to Section 7.5.D above; and, provided further, that the
General Partner shall not be obligated to lend the net proceeds of any Funding
Debt to the Partnership in a manner that would be inconsistent with the General
Partner's ability to remain qualified as a REIT. If the General Partner enters
into any Funding Debt, the loan to the Partnership shall be on comparable terms
and conditions, including interest rate, repayment schedule, costs and expenses
and other financial terms, as are applicable with respect to or incurred in
connection with such Funding Debt.
Section 7.6 Transactions with Affiliates
A. Transactions with Certain Affiliates. Except as expressly
------------------------------------
permitted by this Agreement with respect to any non-arms'-length transaction
with an Affiliate, the
-33-
<PAGE>
Partnership shall not, directly or indirectly, sell, transfer or convey any
property to, or purchase any property from, or borrow funds from, or lend funds
to, any Partner or any Affiliate of the Partnership or the General Partner that
is not also a Subsidiary of the Partnership, except pursuant to transactions
that are on terms that are fair and reasonable and no less favorable to the
Partnership than would be obtained from an unaffiliated third party.
B. Conflict Avoidance. The General Partner is expressly authorized
------------------
to enter into, in the name and on behalf of the Partnership, a noncompetition
arrangement and other conflict avoidance agreements with various Affiliates of
the Partnership and the General Partner, and OpCo and Marriott International and
any Affiliates thereof on such terms as the General Partner, in its sole and
absolute discretion, believes is advisable.
C. Benefit Plans Sponsored by the Partnership. The General Partner,
------------------------------------------
in its sole and absolute discretion and without the approval of the Limited
Partners, may propose and adopt on behalf of the Partnership employee benefit
plans funded by the Partnership for the benefit of employees of the General
Partner, the Partnership, Subsidiaries of the Partnership or any Affiliate of
any of them.
Section 7.7 Indemnification
A. General. The Partnership shall indemnify each Indemnitee to the
-------
fullest extent provided by the Act from and against any and all losses, claims,
damages, liabilities, joint or several, expenses (including, without limitation,
attorneys' fees and other legal fees and expenses), judgments, fines,
settlements and other amounts arising from or in connection with any and all
claims, demands, actions, suits or proceedings, civil, criminal, administrative
or investigative, incurred by the Indemnitee and relating to the Partnership or
the General Partner or the operation of, or the ownership of property by, any of
them as set forth in this Agreement in which any such Indemnitee may be
involved, or is threatened to be involved, as a party or otherwise, unless it is
established by a final determination of a court of competent jurisdiction that:
(i) the act or omission of the Indemnitee was material to the matter giving rise
to the proceeding and either was committed in bad faith or was the result of
active and deliberate dishonesty, (ii) the Indemnitee actually received an
improper personal benefit in money, property or services or (iii) in the case of
any criminal proceeding, the Indemnitee had reasonable cause to believe that the
act or omission was unlawful. Without limitation, the foregoing indemnity shall
extend to any liability of any Indemnitee, pursuant to a loan guarantee,
contractual obligation for any indebtedness or other obligation or otherwise,
for any indebtedness of the Partnership or any Subsidiary of the Partnership
(including, without limitation, any indebtedness which the Partnership or any
Subsidiary of the Partnership has assumed or taken subject to), and the General
Partner is hereby authorized and empowered, on behalf of the Partnership, to
enter into one or more indemnity agreements consistent with the provisions of
this Section 7.7 in favor of any Indemnitee having or potentially having
liability for any such indebtedness. The termination of any proceeding by
judgment, order or settlement does not create a presumption that the Indemnitee
did not meet the requisite standard of conduct set forth in this Section 7.7.A.
The termination of any proceeding by conviction or upon a plea of nolo
contendere or its equivalent, or an entry of an order of probation prior to
judgment, creates a rebuttable presumption that the Indemnitee acted in
-34-
<PAGE>
a manner contrary to that specified in this Section 7.7.A with respect to the
subject matter of such proceeding. Any indemnification pursuant to this Section
7.7 shall be made only out of the assets of the Partnership, and any insurance
proceeds from the liability policy covering the General Partner and any
Indemnitee, and neither the General Partner nor any Limited Partner shall have
any obligation to contribute to the capital of the Partnership or otherwise
provide funds to enable the Partnership to fund its obligations under this
Section 7.7.
B. Advancement of Expenses. Reasonable expenses incurred or expected
-----------------------
to be incurred by an Indemnitee shall be paid or reimbursed by the Partnership
in advance of the final disposition of any and all claims, demands, actions,
suits or proceedings, civil, criminal, administrative or investigative made or
threatened against an Indemnitee upon receipt by the Partnership of (i) a
written affirmation by the Indemnitee of the Indemnitee's good faith belief that
the standard of conduct necessary for indemnification by the Partnership as
authorized in this Section 7.7.A has been met and (ii) a written undertaking by
or on behalf of the Indemnitee to repay the amount if it shall ultimately be
determined that the standard of conduct has not been met.
C. No Limitation of Rights. The indemnification provided by this
-----------------------
Section 7.7 shall be in addition to any other rights to which an Indemnitee or
any other Person may be entitled under any agreement, pursuant to any vote of
the Partnership, as a matter of law or otherwise, and shall continue as to an
Indemnitee who has ceased to serve in such capacity unless otherwise provided in
a written agreement pursuant to which such Indemnitee is indemnified.
D. Insurance. The Partnership may purchase and maintain insurance on
---------
behalf of the Indemnitees and such other Persons as the General Partner shall
determine against any liability that may be asserted against or expenses that
may be incurred by such Person in connection with the Partnership's activities,
regardless of whether the Partnership would have the power to indemnify such
Indemnitee or Person against such liability under the provisions of this
Agreement.
E. Benefit Plan Fiduciary. For purposes of this Section 7.7, (i)
----------------------
excise taxes assessed on an Indemnitee, or for which the Indemnitee is otherwise
found liable, in connection with an ERISA Plan Investor pursuant to applicable
law shall constitute fines within the meaning of this Section 7.7 and (ii)
actions taken or omitted by the Indemnitee in connection with an ERISA Plan
Investor in the performance of its duties shall be deemed to be for a purpose
which is not opposed to the best interests of the Partnership.
F. No Personal Liability for Partners. In no event may an Indemnitee
----------------------------------
subject any of the Partners to personal liability by reason of the
indemnification provisions set forth in this Agreement.
G. Interested Transactions. An Indemnitee shall not be denied
-----------------------
indemnification in whole or in part under this Section 7.7 because the
Indemnitee had an interest in the transaction with respect to which the
indemnification applies if the transaction was otherwise permitted by the terms
of this Agreement.
-35-
<PAGE>
H. Benefit. The provisions of this Section 7.7 are for the benefit
-------
of the Indemnitees, their employees, officers, directors, trustees, heirs,
successors, assigns and administrators and shall not be deemed to create any
rights for the benefit of any other Persons. Any amendment, modification or
repeal of this Section 7.7, or any provision hereof, shall be prospective only
and shall not in any way affect the limitation on the Partnership's liability to
any Indemnitee under this Section 7.7 as in effect immediately prior to such
amendment, modification or repeal with respect to claims arising from or related
to matters occurring, in whole or in part, prior to such amendment, modification
or repeal, regardless of when such claims may arise or be asserted.
I. Indemnification Payments Not Distributions. If and to the extent
------------------------------------------
any payments to the General Partner pursuant to this Section 7.7 constitute
gross income to the General Partner (as opposed to the repayment of advances
made on behalf of the Partnership), such amounts shall constitute guaranteed
payments within the meaning of Section 707(c) of the Code, shall be treated
consistently therewith by the Partnership and all Partners, and shall not be
treated as distributions for purposes of computing the Partners' Capital
Accounts.
J. Exception to Indemnification. Notwithstanding anything to the
----------------------------
contrary in this Agreement, the General Partner shall not be entitled to
indemnification hereunder for any loss, claim, damage, liability or expense for
which the General Partner is obligated to indemnify the Partnership under any
other agreement between the General Partner and the Partnership.
Section 7.8 Liability of the General Partner
A. General. Notwithstanding anything to the contrary set forth in
-------
this Agreement, the General Partner shall not be liable for monetary damages to
the Partnership, any Partners or any Assignees for losses sustained, liabilities
incurred or benefits not derived as a result of errors in judgment or mistakes
of fact or law or of any act or omission unless the General Partner acted, or
failed to act, in bad faith and the act or omission was material to the matter
giving rise to the loss, liability or benefit not derived.
B. Obligation to Consider Interests of General Partner Entity. The
----------------------------------------------------------
Limited Partners expressly acknowledge that the General Partner, in considering
whether to dispose of any of the Partnership assets, shall take into account the
tax consequences to the General Partner Entity of any such disposition and shall
have no liability whatsoever to the Partnership or any Limited Partner for
decisions that are based upon or influenced by such tax consequences.
C. No Obligation to Consider Separate Interests of Limited Partners
----------------------------------------------------------------
or Shareholders. The Limited Partners expressly acknowledge that the General
- ---------------
Partner is acting on behalf of the Partnership and the General Partner's
shareholders collectively, that the General Partner is under no obligation to
consider the separate interests of the Limited Partners (including, without
limitation, the tax consequences to Limited Partners or Assignees) in deciding
whether to cause the Partnership to take (or decline to take) any actions, and
that the General Partner shall not be liable for monetary damages for losses
-36-
<PAGE>
sustained, liabilities incurred or benefits not derived by Limited Partners in
connection with such decisions, provided that the General Partner has acted in
good faith and pursuant to its authority under this Agreement.
D. Actions of Agents. Subject to its obligations and duties as
-----------------
General Partner set forth in Section 7.1.A, the General Partner may exercise any
of the powers granted to it by this Agreement and perform any of the duties
imposed upon it hereunder either directly or by or through its agents. The
General Partner shall not be responsible for any misconduct or negligence on the
part of any such agent appointed by the General Partner in good faith.
E. Effect of Amendment. Notwithstanding any other provision
-------------------
contained herein, any amendment, modification or repeal of this Section 7.8 or
any provision hereof shall be prospective only and shall not in any way affect
the limitations on the General Partner's liability to the Partnership and the
Limited Partners under this Section 7.8 as in effect immediately prior to such
amendment, modification or repeal with respect to claims arising from or
relating to matters occurring, in whole or in part, prior to such amendment,
modification or repeal, regardless of when such claims may arise or be asserted.
Section 7.9 Other Matters Concerning the General Partner
A. Reliance on Documents. The General Partner may rely and shall be
---------------------
protected in acting or refraining from acting upon any resolution, certificate,
statement, instrument, opinion, report, notice, request, consent, order, bond,
debenture or other paper or document believed by it in good faith to be genuine
and to have been signed or presented by the proper party or parties.
B. Reliance on Advisors. The General Partner may consult with legal
--------------------
counsel, accountants, appraisers, management consultants, investment bankers and
other consultants and advisers selected by it, and any act taken or omitted to
be taken in reliance upon the opinion of such Persons as to matters which the
General Partner reasonably believes to be within such Person's professional or
expert competence shall be conclusively presumed to have been done or omitted in
good faith and in accordance with such opinion.
C. Action Through Agents. The General Partner shall have the right,
---------------------
in respect of any of its powers or obligations hereunder, to act through any of
its duly authorized officers and a duly appointed attorney or attorneys-in-fact.
Each such attorney shall, to the extent provided by the General Partner in the
power of attorney, have full power and authority to do and perform all and every
act and duty which is permitted or required to be done by the General Partner
hereunder.
D. Actions to Maintain REIT Status or Avoid Taxation of the General
----------------------------------------------------------------
Partner Entity. Notwithstanding any other provisions of this Agreement or the
- --------------
Act, any action of the General Partner on behalf of the Partnership or any
decision of the General Partner to refrain from acting on behalf of the
Partnership undertaken in the good faith belief that such action or omission is
necessary or advisable in order (i) to protect the ability of the General
Partner Entity to continue to qualify as a REIT or (ii) to allow the
-37-
<PAGE>
General Partner Entity to avoid incurring any liability for taxes under Section
857 or 4981 of the Code, is expressly authorized under this Agreement and is
deemed approved by all of the Limited Partners.
Section 7.10 Reliance by Third Parties
Notwithstanding anything to the contrary in this Agreement, any Person
dealing with the Partnership shall be entitled to assume that the General
Partner has full power and authority, without consent or approval of any other
Partner or Person, to encumber, sell or otherwise use in any manner any and all
assets of the Partnership, to enter into any contracts on behalf of the
Partnership and to take any and all actions on behalf of the Partnership, and
such Person shall be entitled to deal with the General Partner as if the General
Partner were the Partnership's sole party in interest, both legally and
beneficially. Each Limited Partner hereby waives any and all defenses or other
remedies which may be available against such Person to contest, negate or
disaffirm any action of the General Partner in connection with any such dealing,
in each case except to the extent that such action does or purports to impose
liability on the Limited Partner. In no event shall any Person dealing with the
General Partner or its representatives be obligated to ascertain that the terms
of this Agreement have been complied with or to inquire into the necessity or
expedience of any act or action of the General Partner or its representatives.
Each and every certificate, document or other instrument executed on behalf of
the Partnership by the General Partner or its representatives shall be
conclusive evidence in favor of any and every Person relying thereon or claiming
thereunder that (i) at the time of the execution and delivery of such
certificate, document or instrument, this Agreement was in full force and
effect, (ii) the Person executing and delivering such certificate, document or
instrument was duly authorized and empowered to do so for and on behalf of the
Partnership, and (iii) such certificate, document or instrument was duly
executed and delivered in accordance with the terms and provisions of this
Agreement and is binding upon the Partnership.
Section 7.11 Restrictions on General Partner's Authority
A. Consent Required. The General Partner may not take any action in
----------------
contravention of an express prohibition or limitation of this Agreement without
the written Consent of (i) all Partners adversely affected or (ii) such lower
percentage of the Limited Partnership Interests as may be specifically provided
for under a provision of this Agreement or the Act. THE PRECEDING SENTENCE SHALL
NOT APPLY TO ANY LIMITATION OR PROHIBITION IN THIS AGREEMENT THAT EXPRESSLY
AUTHORIZES THE GENERAL PARTNER TO TAKE ACTION (EITHER IN ITS DISCRETION OR IN
SPECIFIED CIRCUMSTANCES) SO LONG AS THE GENERAL PARTNER ACTS WITHIN THE SCOPE OF
SUCH AUTHORITY.
B. Sale of All Assets of the Partnership. Except as provided in
-------------------------------------
Article XIV and subject to the provisions of Section 7.11.C, the General Partner
may not, directly or indirectly, cause the Partnership to sell, exchange,
transfer or otherwise dispose of all or substantially all of the Partnership's
assets in a single transaction or a series of related transactions (including by
way of merger (including a triangular merger), consolidation or other
combination with any other Persons) without the Consent of the Partners holding
at least a majority of the then outstanding Units (including any Units held by
the General Partner).
-38-
<PAGE>
C. Voting Rights of Limited Partners During the Initial Holding
------------------------------------------------------------
Period.
- ------
(1) During the Initial Holding Period, if a vote of the shareholders
of the General Partner is required, then (i) a sale of all or substantially all
of the assets of the Partnership, (ii) a merger involving the Partnership and
(iii) any issuance of Units in connection with an issuance of Common Shares
representing 20% or more of the outstanding Common Shares of the General Partner
which would require shareholder approval under the rules of the New York Stock
Exchange, would require the approval of a majority of all outstanding Units (or,
in the case of clause (iii), a majority of the Units that are voted, provided
that at least a majority of the Units are voted), including Units held by the
General Partner, voting as a single class with the General Partner voting its
Units in the same proportion as its shareholders vote.
(2) During the Initial Holding Period, any taxable sale or sales of
hotels representing more than 10% of the aggregate Appraised Value of the
hotels of any partnership the interests in which were contributed to the
Partnership in exchange for Units would require, in addition to any other
approval requirements, the approval of a majority of all outstanding Units held
by Persons who formerly were limited partners of such partnership, voting as a
separate class.
Section 7.12 Loans by Third Parties
The Partnership may incur Debt, or enter into similar credit,
guarantee, financing or refinancing arrangements for any purpose (including,
without limitation, in connection with any acquisition of property) with any
Person that is not the General Partner upon such terms as the General Partner
determines appropriate (subject to Section 7.6); provided that, the Partnership
-------------
shall not incur any Debt that is recourse to the General Partner, except to the
extent otherwise agreed to by such General Partner in its sole discretion.
ARTICLE VIII
RIGHTS AND OBLIGATIONS OF LIMITED PARTNERS
Section 8.1 Limitation of Liability
The Limited Partners shall have no liability under this Agreement
except as expressly provided in this Agreement, including Section 10.5 and
Section 14.3, or under the Act.
Section 8.2 Management of Business
No Limited Partner or Assignee (other than the General Partner, any of
its Affiliates or any officer, director, employee, partner, agent or trustee of
the General Partner, the Partnership or any of their Affiliates, in their
capacity as such) shall take part in the operation, management or control
(within the meaning of the Act) of the Partnership's business, transact any
business in the Partnership's name or have the power to sign documents for or
otherwise bind the Partnership. The transaction of any such
-39-
<PAGE>
business by the General Partner, any of its Affiliates or any officer, director,
employee, partner, agent or trustee of the General Partner, the Partnership or
any of their Affiliates, in their capacity as such, shall not affect, impair or
eliminate the limitations on the liability of the Limited Partners or Assignees
under this Agreement.
Section 8.3 Outside Activities of Limited Partners
Subject to Section 7.5 hereof, and subject to any agreements entered
into pursuant to Section 7.6.C hereof and to any other agreements entered into
by a Limited Partner or its Affiliates with the Partnership or a Subsidiary, any
Limited Partner (other than the General Partner) and any officer, director,
employee, agent, trustee, Affiliate or shareholder of any Limited Partner shall
be entitled to and may have business interests and engage in business activities
in addition to those relating to the Partnership, including business interests
and activities in direct or indirect competition with the Partnership. Neither
the Partnership nor any Partners shall have any rights by virtue of this
Agreement in any business ventures of any Limited Partner or Assignee. None of
the Limited Partners nor any other Person shall have any rights by virtue of
this Agreement or the partnership relationship established hereby in any
business ventures of any other Person (other than the General Partner to the
extent expressly provided herein), and such Person (other than the General
Partner) shall have no obligation pursuant to this Agreement to offer any
interest in any such business ventures to the Partnership, any Limited Partner
or any such other Person, even if such opportunity is of a character which, if
presented to the Partnership, any Limited Partner or such other Person, could be
taken by such Person.
Section 8.4 Return of Capital
Except pursuant to the right of redemption set forth in Section 8.6,
no Limited Partner shall be entitled to the withdrawal or return of its Capital
Contribution, except to the extent of distributions made pursuant to this
Agreement or upon termination of the Partnership as provided herein. No Limited
Partner or Assignee shall have priority over any other Limited Partner or
Assignee either as to the return of Capital Contributions (except as permitted
by Section 4.2.A) or, except to the extent provided by Exhibit C or as permitted
---------
by Sections 4.2.A, 5.1.B(i), 6.1.A(ii) and 6.1.B(i), or otherwise expressly
provided in this Agreement, as to profits, losses, distributions or credits.
Section 8.5 Rights of Limited Partners Relating to the Partnership
A. General. In addition to other rights provided by this Agreement
-------
or by the Act, and except as limited by Section 8.5.D, each Limited Partner
shall have the right, for a purpose reasonably related to such Limited Partner's
interest as a limited partner in the Partnership, upon written demand with a
statement of the purpose of such demand and at such Limited Partner's own
expense:
(1) to obtain a copy of the most recent annual and quarterly
reports filed with the Securities and Exchange Commission by
the General Partner Entity pursuant to the Exchange Act;
-40-
<PAGE>
(2) to obtain a copy of the Partnership's federal, state and
local income tax returns for each Partnership Year;
(3) to obtain a current list of the name and last known
business, residence or mailing address of each Partner;
(4) to obtain a copy of this Agreement, the Certificate and the
Declaration of Trust and all amendments thereto, together
with executed copies of all powers of attorney pursuant to
which this Agreement, the Certificate, the Declaration of
Trust and all amendments thereto have been executed; and
(5) to obtain true and full information regarding the amount of
cash and a description and statement of any other property
or services contributed by each Partner and which each
Partner has agreed to contribute in the future, and the date
on which each became a Partner.
B. Notice of Conversion Factor. The Partnership shall promptly
---------------------------
notify each Limited Partner (i) upon request of the then current Conversion
Factor and (ii) of any changes to the Conversion Factor.
C. Notice of Extraordinary Transaction of the General Partner Entity.
------------------------------------------------------------------
The General Partner Entity shall not make any extraordinary distributions of
cash or property to its shareholders or effect a merger (including, without
limitation, a triangular merger), consolidation or other combination with or
into another Person, a sale of all or substantially all of its assets or any
other similar extraordinary transaction without providing written notice to the
Limited Partners of its intention to make such distribution or effect such
merger, consolidation, combination, sale or other extraordinary transaction at
least twenty (20) Business Days prior to the record date to determine equity
holders eligible to receive such distribution or to vote upon the approval of
such merger, sale or other extraordinary transaction (or, if no such record date
is applicable, at least twenty (20) Business Days before consummation of such
merger, sale or other extraordinary transaction), which notice shall describe in
reasonable detail the action to be taken. This provision for such notice shall
not be deemed (i) to permit any transaction that otherwise is prohibited by this
Agreement or requires a Consent of the Partners or (ii) to require a Consent of
the Limited Partners to a transaction that does not otherwise require Consent
under this Agreement. Each Limited Partner agrees, as a condition to the
receipt of the notice pursuant hereto, to keep confidential the information set
forth therein until such time as the General Partner Entity has made public
disclosure thereof and to use such information during such period of
confidentiality solely for purposes of determining whether to exercise the Unit
Redemption Right; provided, however, that a Limited Partner may disclose such
-------- -------
information to its attorney, accountant and/or financial advisor for purposes of
obtaining advice with respect to such exercise so long as such attorney,
accountant and/or financial advisor agrees to receive and hold such information
subject to this confidentiality requirement.
-41-
<PAGE>
D. Confidentiality. Notwithstanding any other provision of this
---------------
Section 8.5, the General Partner may keep confidential from the Limited
Partners, for such period of time as the General Partner determines in its sole
and absolute discretion to be reasonable, any information that (i) the General
Partner reasonably believes to be in the nature of trade secrets or other
information the disclosure of which the General Partner in good faith believes
is not in the best interests of the Partnership or could damage the Partnership
or its business or (ii) the Partnership is required by law or by agreements with
unaffiliated third parties to keep confidential, provided that this Section
8.5.D shall not affect the twenty (20) Business Day requirements set forth in
Section 8.5.C above.
Section 8.6 Unit Redemption Right
A. General. (i) Subject to Section 8.6.C, Section 8.6.D and Section
-------
8.6.E, at any time on or after one year following the date of the initial
issuance thereof (which, in the event of the transfer of a Unit, shall be deemed
to be the date that the Unit was issued to the original recipient thereof for
purposes of this Section 8.6), the holder of a Unit (if other than the General
Partner or the General Partner Entity or any Subsidiary of either the General
Partner or the General Partner Entity) shall have the right (the "Unit
Redemption Right") to require the Partnership to redeem such Unit, with such
redemption to occur on the Specified Redemption Date and at a redemption price
equal to and in the form of the Cash Amount to be paid by the Partnership. Any
such Unit Redemption Right shall be exercised pursuant to a Notice of Redemption
delivered to the Partnership (with a copy to the General Partner) by the Limited
Partner who is exercising the Unit Redemption Right (the "Redeeming Partner").
A Limited Partner may exercise the Unit Redemption Right from time to time,
without limitation as to frequency, with respect to part or all of the Units
that it owns, as selected by the Limited Partner, provided that, a Limited
-------------
Partner may not exercise the Unit Redemption Right for less than one thousand
(1,000) Units unless such Redeeming Partner then holds less than one thousand
(1,000) Units, in which event the Redeeming Partner must exercise the Unit
Redemption Right for all of the Units held by such Redeeming Partner, and
provided further that, with respect to a Limited Partner which is an entity,
- ---------------------
such Limited Partner may exercise the Unit Redemption Right for less than one
thousand (1,000) Units without regard to whether or not such Limited Partner is
exercising the Unit Redemption Right for all of the Units held by such Limited
Partner as long as such Limited Partner is exercising the Unit Redemption Right
on behalf of one or more of its equity owners in respect of one hundred percent
(100%) of such equity owners' interests in such Limited Partner. For purposes
hereof, a Class A Unit issued upon conversion of a Class B Unit shall be deemed
to have been issued when the Class B Unit was issued.
(ii) The Redeeming Partner shall have no right with respect to
any Units so redeemed to receive any distributions paid in respect of a
Partnership Record Date occurring after the Specified Redemption Date of such
Units.
(iii) The Assignee of any Limited Partner may exercise the rights
of such Limited Partner pursuant to this Section 8.6, and such Limited Partner
shall be deemed to have assigned such rights to such Assignee and shall be bound
by the exercise of such rights by such Limited Partner's Assignee. In connection
with any exercise of such
-42-
<PAGE>
rights by such Assignee on behalf of such Limited Partner, the Cash Amount shall
be paid by the Partnership directly to such Assignee and not to such Limited
Partner.
(iv) If the General Partner provides notice to the Limited
Partners, pursuant to Section 8.5.C hereof, the Unit Redemption Right shall be
exercisable, without regard to whether the Units have been outstanding for any
specified period, during the period commencing on the date on which the General
Partner provides such notice and ending on the record date to determine
shareholders eligible to receive such distribution or to vote upon the approval
of such merger, sale or other extraordinary transaction (or, if no such record
date is applicable, at least twenty (20) Business Days before the consummation
of such merger, sale or other extraordinary transaction). If this subparagraph
(iv) applies, the Specified Redemption Date is the date on which the Partnership
and the General Partner receive notice of exercise of the Unit Redemption Right,
rather than ten (10) Business Days after receipt of the notice of redemption.
B. General Partner Assumption of Right. (i) If a Limited Partner has
-----------------------------------
delivered a Notice of Redemption, the General Partner may, in its sole and
absolute discretion (subject to the limitations on ownership and transfer of
Shares set forth in the Declaration of Trust) and upon providing written notice
to the Limited Partners at least three (3) Business Days in advance, elect to
assume directly and satisfy a Unit Redemption Right by paying to the Redeeming
Partner either the Cash Amount or the Shares Amount, as the General Partner
determines in its sole and absolute discretion (provided that, payment of the
-------------
Redemption Amount in the form of Shares shall be in Shares registered for resale
under Section 12 of the Exchange Act and listed for trading on the exchange or
national market on which the Shares are Publicly Traded, AND THE ISSUANCE OF
SHARES UPON REDEMPTION SHALL BE REGISTERED UNDER THE SECURITIES ACT OR, AT THE
ELECTION OF THE GENERAL PARTNER, RESALE OF THE SHARES ISSUED UPON REDEMPTION
SHALL BE REGISTERED (SO LONG AS THE REDEEMING PARTNER PROVIDES ALL INFORMATION
REQUIRED FOR SUCH REGISTRATION),and, provided further that, if the Shares are
---------------------
not Publicly Traded at the time a Redeeming Partner exercises its Unit
Redemption Right, the Redemption Amount shall be paid only in the form of the
Cash Amount unless the Redeeming Partner, in its sole and absolute discretion,
consents to payment of the Redemption Amount in the form of the Shares Amount),
on the Specified Redemption Date, whereupon the General Partner shall acquire
the Units offered for redemption by the Redeeming Partner and shall be treated
for all purposes of this Agreement as the owner of such Units. Unless the
General Partner, in its sole and absolute discretion, shall exercise its right
to assume directly and satisfy the Unit Redemption Right, the General Partner
shall not have any obligation to the Redeeming Partner or to the Partnership
with respect to the Redeeming Partner's exercise of the Unit Redemption Right.
If the General Partner shall exercise its right to satisfy the Unit Redemption
Right in the manner described in the first sentence of this Section 8.6.B and
shall fully perform its obligations in connection therewith, the Partnership
shall have no right or obligation to pay any amount to the Redeeming Partner
with respect to such Redeeming Partner's exercise of the Unit Redemption Right,
and each of the Redeeming Partner, the Partnership and the General Partner
shall, for federal income tax purposes, treat the transaction between the
General Partner and the Redeeming Partner as a sale of the Redeeming Partner's
Units to the General Partner. Nothing contained in this Section 8.6.B shall
imply any right of the General Partner to require any Limited Partner to
exercise the Unit Redemption Right afforded to such Limited Partner pursuant to
Section 8.6.A.
-43-
<PAGE>
(ii) If the General Partner determines to pay the Redeeming
Partner the Redemption Amount in the form of Shares, the total number of Shares
to be paid to the Redeeming Partner in exchange for the Redeeming Partner's
Units shall be the applicable Shares Amount. If this amount is not a whole
number of Shares, the Redeeming Partner shall be paid (i) that number of Shares
which equals the nearest whole number less than such amount plus (ii) an amount
of cash which the General Partner determines, in its reasonable discretion, to
represent the fair value of the remaining fractional Share which would otherwise
be payable to the Redeeming Partner.
(iii) Each Redeeming Partner agrees to execute such documents as
the General Partner may reasonably require in connection with the issuance of
Shares upon exercise of the Unit Redemption Right.
(iv) Any Shares issued in accordance with this Section 8.6.B will
be duly and validly authorized and will be validly issued, fully paid and
nonassessable and will not be subject to any preemptive rights.
C. Exceptions to Exercise of Unit Redemption Right. Notwithstanding
-----------------------------------------------
the provisions of Sections 8.6.A and 8.6.B, a Partner shall not be entitled to
exercise the Unit Redemption Right pursuant to Section 8.6.A if (but only as
long as) the delivery of Shares to such Partner on the Specified Redemption Date
would be (i) prohibited under those portions of the Declaration of Trust
relating to restrictions on ownership and transfer of Shares or (ii) prohibited
under applicable federal or state securities laws or regulations (in each case
regardless of whether the General Partner would in fact assume and satisfy the
Unit Redemption Right).
D. No Liens on Units Delivered for Redemption. Each Limited Partner
------------------------------------------
covenants and agrees with the General Partner that all Units delivered for
redemption shall be delivered to the Partnership or the General Partner, as the
case may be, free and clear of all liens, and, notwithstanding anything
contained herein to the contrary, neither the General Partner nor the
Partnership shall be under any obligation to acquire Units which are or may be
subject to any liens. Each Limited Partner further agrees that, if any state or
local property transfer tax is payable as a result of the transfer of its Units
to the Partnership or the General Partner, such Limited Partner shall assume and
pay such transfer tax.
E. Additional Partnership Interests; Modification of Holding Period.
----------------------------------------------------------------
If the Partnership issues Partnership Interests to any Additional Limited
Partner pursuant to Article IV, the General Partner shall make such revisions to
this Section 8.6 as it determines are necessary to reflect the issuance of such
Partnership Interests (including setting forth any restrictions on the exercise
of the Unit Redemption Right with respect to such Partnership Interests which
differ from those set forth in this Agreement), provided that no such revisions
shall materially adversely affect the rights of any other Limited Partner to
exercise its Unit Redemption Rights without that Limited Partner's prior written
consent. In addition, the General Partner may, with respect to any holder or
holders of Units, at any time and from time to time, as it shall determine in
its sole discretion, reduce or waive the length of the period prior to which
such holder or holders may not exercise the Unit Redemption Right.
-44-
<PAGE>
ARTICLE IX
BOOKS, RECORDS, ACCOUNTING AND REPORTS
Section 9.1 Records and Accounting
The General Partner shall keep or cause to be kept at the principal
office of the Partnership appropriate books and records with respect to the
Partnership's business, including, without limitation, all books and records
necessary to provide to the Limited Partners any information, lists and copies
of documents required to be provided pursuant to Section 9.3. Any records
maintained by or on behalf of the Partnership in the regular course of its
business may be kept on, or be in the form of, punch cards, magnetic tape,
photographs, micrographics or any other information storage device, provided
that the records so maintained are convertible into clearly legible written form
within a reasonable period of time. The books of the Partnership shall be
maintained, for financial and tax reporting purposes, on an accrual basis in
accordance with generally accepted accounting principles.
Section 9.2 Fiscal Year
The fiscal year of the Partnership shall end on the Friday falling
closest to December 31 of each year.
Section 9.3 Reports
A. Annual Reports. As soon as practicable, but in no event later
--------------
than the date on which the General Partner Entity mails its annual report to its
equity holders, the General Partner shall cause to be mailed to each Limited
Partner an annual report, as of the close of the most recently ended Partnership
Year, containing financial statements of the Partnership and its Subsidiaries,
or of the General Partner Entity if such statements are prepared solely on a
consolidated basis with the Partnership, for such Partnership Year, presented in
accordance with generally accepted accounting principles, such statements to be
audited by a nationally recognized firm of independent public accountants
selected by the General Partner Entity.
B. Quarterly Reports. If and to the extent that the General Partner
-----------------
Entity mails quarterly reports to its shareholders, as soon as practicable, but
in no event later than the date on such reports are mailed, the General Partner
Entity shall cause to be mailed to each Limited Partner a report containing
unaudited financial statements, as of the last day of such fiscal quarter, of
the Partnership, or of the General Partner Entity if such statements are
prepared solely on a consolidated basis with the Partnership, and such other
information as may be required by applicable law or regulation, or as the
General Partner determines to be appropriate.
C. General Partner Entity Communications to Equity Holders. The
--------------------------------------------------------
General Partner shall cause to be mailed to each Limited Partner a copy of each
written report, proxy statement or other communication sent to holders of
Shares. Such materials
-45-
<PAGE>
will be sent to each Limited Partner on the same date on which they are first
sent to holders of Shares.
ARTICLE X
TAX MATTERS
Section 10.1 Preparation of Tax Returns
The General Partner shall arrange for the preparation and timely
filing of all returns of Partnership income, gains, deductions, losses and other
items required of the Partnership for federal and state income tax purposes and
shall use all reasonable efforts to furnish, within ninety (90) days of the
close of each taxable year, the tax information reasonably required by Limited
Partners for federal and state income tax reporting purposes.
Section 10.2 Tax Elections
Except as otherwise provided herein, the General Partner shall, in its
sole and absolute discretion, determine whether to make any available election
pursuant to the Code (including, without limitation, the election under Section
754 of the Code). The General Partner shall have the right to seek to revoke
any such election upon the General Partner's determination in its sole and
absolute discretion that such revocation is in the best interests of the
Partners.
Section 10.3 Tax Matters Partner
A. General. The General Partner shall be the "tax matters partner"
-------
of the Partnership for federal income tax purposes. Pursuant to Section
6223(c)(3) of the Code, upon receipt of notice from the IRS of the beginning of
an administrative proceeding with respect to the Partnership, the tax matters
partner shall furnish the IRS with the name, address, taxpayer identification
number and profit interest of each of the Limited Partners and any Assignees;
provided, however, that such information is provided to the Partnership by the
- -------- -------
Limited Partners.
B. Powers. The tax matters partner is authorized, but not required:
------
(1) to enter into any settlement with the IRS with respect to
any administrative or judicial proceedings for the
adjustment of Partnership items required to be taken into
account by a Partner for income tax purposes (such
administrative proceedings being referred to as a "tax
audit" and such judicial proceedings being referred to as
"judicial review"), and in the settlement agreement the tax
matters partner may expressly state that such agreement
shall bind all Partners, except that such settlement
agreement shall not bind any Partner (i) who (within the
time prescribed pursuant to the Code and Regulations) files
a statement with the IRS providing that the
-46-
<PAGE>
tax matters partner shall not have the authority to enter
into a settlement agreement on behalf of such Partner or (ii)
who is a "notice partner" (as defined in Section 6231(a)(8)
of the Code) or a member of a "notice group" (as defined in
Section 6223(b)(2) of the Code);
(2) if a notice of a final administrative adjustment at the
Partnership level of any item required to be taken into
account by a Partner for tax purposes (a "final adjustment")
is mailed to the tax matters partner, to seek judicial
review of such final adjustment, including the filing of a
petition for readjustment with the Tax Court or the filing
of a complaint for refund with the United States Claims
Court or the District Court of the United States for the
district in which the Partnership's principal place of
business is located;
(3) to intervene in any action brought by any other Partner for
judicial review of a final adjustment;
(4) to file a request for an administrative adjustment with the
IRS at any time and, if any part of such request is not
allowed by the IRS, to file an appropriate pleading
(petition or complaint) for judicial review with respect to
such request;
(5) to enter into an agreement with the IRS to extend the period
for assessing any tax which is attributable to any item
required to be taken into account by a Partner for tax
purposes, or an item affected by such item; and
(6) to take any other action on behalf of the Partners of the
Partnership in connection with any tax audit or judicial
review proceeding to the extent permitted by applicable law
or regulations.
The taking of any action and the incurring of any expense by the tax
matters partner in connection with any such proceeding, except to the extent
required by law, is a matter in the sole and absolute discretion of the tax
matters partner and the provisions relating to indemnification of the General
Partner set forth in Section 7.7 shall be fully applicable to the tax matters
partner in its capacity as such.
C. Reimbursement. The tax matters partner shall receive no
-------------
compensation for its services. All third-party costs and expenses incurred by
the tax matters partner in performing its duties as such (including legal and
accounting fees and expenses) shall be borne by the Partnership. Nothing herein
shall be construed to restrict the Partnership from engaging an accounting firm
and/or law firm to assist the tax matters partner in discharging its duties
hereunder, so long as the compensation paid by the Partnership for such services
is reasonable.
-47-
<PAGE>
Section 10.4 Organizational Expenses
The Partnership shall elect to deduct expenses, if any, incurred by it
in organizing the Partnership ratably over a sixty (60) month period as provided
in Section 709 of the Code.
Section 10.5 Withholding
Each Limited Partner hereby authorizes the Partnership to withhold
from or pay on behalf of or with respect to such Limited Partner any amount of
federal, state, local, or foreign taxes that the General Partner determines that
the Partnership is required to withhold or pay with respect to any amount
distributable or allocable to such Limited Partner pursuant to this Agreement,
including, without limitation, any taxes required to be withheld or paid by the
Partnership pursuant to Section 1441, 1442, 1445 or 1446 of the Code. Any
amount paid on behalf of or with respect to a Limited Partner shall constitute a
loan by the Partnership to such Limited Partner, which loan shall be repaid by
such Limited Partner within fifteen (15) days after notice from the General
Partner that such payment must be made unless (i) the Partnership withholds such
payment from a distribution which would otherwise be made to the Limited Partner
or (ii) the General Partner determines, in its sole and absolute discretion,
that such payment may be satisfied out of the available funds of the Partnership
which would, but for such payment, be distributed to the Limited Partner. Any
amounts withheld pursuant to the foregoing clauses (i) or (ii) shall be treated
as having been distributed to such Limited Partner. Each Limited Partner hereby
unconditionally and irrevocably grants to the Partnership a security interest in
such Limited Partner's Partnership Interest to secure such Limited Partner's
obligation to pay to the Partnership any amounts required to be paid pursuant to
this Section 10.5. If a Limited Partner fails to pay any amounts owed to the
Partnership pursuant to this Section 10.5 when due, the General Partner may, in
its sole and absolute discretion, elect to make the payment to the Partnership
on behalf of such defaulting Limited Partner, and in such event shall be deemed
to have loaned such amount to such defaulting Limited Partner and shall succeed
to all rights and remedies of the Partnership as against such defaulting Limited
Partner (including, without limitation, the right to receive distributions).
Any amounts payable by a Limited Partner hereunder shall bear interest at the
base rate on corporate loans at large United States money center commercial
banks, as published from time to time in The Wall Street Journal, plus four (4)
percentage points (but not higher than the maximum lawful rate under the laws of
the State of Maryland) from the date such amount is due (i.e., fifteen (15) days
after demand) until such amount is paid in full. Each Limited Partner shall
take such actions as the Partnership or the General Partner shall request to
perfect or enforce the security interest created hereunder.
-48-
<PAGE>
ARTICLE XI
TRANSFERS AND WITHDRAWALS
Section 11.1 Transfer
A. Definition. The term "transfer," when used in this Article XI
----------
with respect to a Partnership Interest or a Unit, shall be deemed to refer to a
transaction by which a General Partner purports to assign all or any part of its
General Partnership Interest to another Person or by which a Limited Partner
purports to assign all or any part of its Limited Partnership Interest to
another Person, and includes a sale, assignment, gift, pledge, encumbrance,
hypothecation, mortgage, exchange or any other disposition by law or otherwise.
The term "transfer" when used in this Article XI does not include any redemption
or repurchase of Units by the Partnership from a Partner or acquisition of Units
from a Limited Partner by the General Partner pursuant to Section 8.6 or
otherwise. No part of the interest of a Limited Partner shall be subject to the
claims of any creditor, any spouse for alimony or support, or to legal process,
and may not be voluntarily or involuntarily alienated or encumbered except as
may be specifically provided for in this Agreement.
B. General. No Partnership Interest shall be transferred, in whole
-------
or in part, except in accordance with the terms and conditions set forth in this
Article XI. Any transfer or purported transfer of a Partnership Interest not
made in accordance with this Article XI shall be null and void.
Section 11.2 Transfers of Partnership Interests of General Partner
A. General. The General Partner may not transfer any of its
-------
Partnership Interest (including both its General Partnership Interest and its
Limited Partnership Interest) except in connection with a transaction described
in Section 11.2.B or as otherwise expressly permitted under this Agreement, nor
shall the General Partner withdraw as General Partner except in connection with
a transaction described in Section 11.2.B.
B. Specific Transactions Prohibited. The General Partner Entity
--------------------------------
shall not engage in any merger (including a triangular merger), consolidation or
other combination with or into another Person (other than any transaction
following the consummation of which the shareholders of the surviving entity are
substantially identical to the shareholders of the General Partner Entity), sale
of all or substantially all of its assets or any reclassification,
recapitalization or change of outstanding Shares (other than a change in par
value, or from par value to no par value, or as a result of a subdivision or
combination as described in the definition of "Conversion Factor") ("Termination
Transaction"), unless (i) the Termination Transaction has been approved by the
Consent of the Partners holding at least a majority of the then outstanding
Units (including any Units held by the General Partner), (ii) following such
merger or other consolidation, substantially all of the assets of the surviving
entity consist of Units and (iii) in connection with which all Limited Partners
either will receive, or will have the right to receive, for each Unit an amount
of cash, securities, or other property equal to the product of the
-49-
<PAGE>
Conversion Factor and the greatest amount of cash, securities or other property
paid to a holder of Shares, if any, corresponding to such Unit in consideration
of one such Share at any time during the period from and after the date on which
the Termination Transaction is consummated; provided that, if, in connection
-------------
with the Termination Transaction, a purchase, tender or exchange offer shall
have been made to and accepted by the holders of more than sixty-six and two-
thirds percent (66 2/3%) of the outstanding Shares, or such other percentage
required for the approval of mergers under the charter documents of the General
Partner Entity, each holder of Units shall receive, or shall have the right to
receive without any right of Consent set forth above in this subsection B, the
greatest amount of cash, securities, or other property which such holder would
have received had it exercised the Unit Redemption Right and received Shares in
exchange for its Units immediately prior to the expiration of such purchase,
tender or exchange offer and had thereupon accepted such purchase, tender or
exchange offer. The General Partner shall not enter into an agreement or other
arrangement providing for or facilitating the creation of a General Partner
Entity other than the General Partner, unless the successor General Partner
Entity executes and delivers a counterpart to this Agreement in which such
General Partner Entity agrees to be fully bound by all of the terms and
conditions contained herein that are applicable to a General Partner Entity.
Section 11.3 Limited Partners' Rights to Transfer
A. General. Except to the extent expressly permitted in Sections
-------
11.3.B and 11.3.C or in connection with the exercise of a Unit Redemption Right
pursuant to Section 8.6, a Limited Partner may not transfer all or any portion
of its Partnership Interest, or any of such Limited Partner's rights as a
Limited Partner, without the prior written consent of the General Partner. Any
transfer otherwise permitted under Sections 11.3.B and 11.3.C shall be subject
to the conditions set forth in Section 11.3.D, 11.3.E and 11.3.F, and all
permitted transfers shall be subject to Section 11.5.
B. Incapacitated Limited Partners. If a Limited Partner is subject
------------------------------
to Incapacity, the executor, administrator, trustee, committee, guardian,
conservator or receiver of such Limited Partner's estate shall have all the
rights of a Limited Partner, but not more rights than those enjoyed by other
Limited Partners, for the purpose of settling or managing the estate and such
power as the Incapacitated Limited Partner possessed to transfer all or any part
of its interest in the Partnership. The Incapacity of a Limited Partner, in and
of itself, shall not dissolve or terminate the Partnership.
C. Permitted Transfers. A Limited Partner may transfer, with or
-------------------
without the consent of the General Partner, all or a portion of its Partnership
Interest (i) in the case of a Limited Partner who is an individual, to a member
of his Immediate Family, any trust formed for the benefit of himself and/or
members of his Immediate Family, or any partnership, limited liability company,
joint venture, corporation or other business entity comprised only of himself
and/or members of his Immediate Family and entities the ownership interests in
which are owned by or for the benefit of himself and/or members of his Immediate
Family, (ii) in the case of a Limited Partner which is a trust, to the
beneficiaries of such trust, (iii) in the case of a Limited Partner which is a
partnership, limited liability company, joint venture, corporation or other
business entity to which Units were transferred pursuant to clause (i) above, to
its partners, owners or stockholders, as
-50-
<PAGE>
the case may be, who are members of the Immediate Family of or are actually the
Person(s) who transferred Units to it pursuant to clause (i) above, (iv) in the
case of a Limited Partner which acquired Units as of the date hereof and which
is a partnership, limited liability company, joint venture, corporation or other
business entity, to its partners, owners, stockholders or Affiliates thereof, as
the case may be, or the Persons owning the beneficial interests in any of its
partners, owners or stockholders or Affiliates thereof (it being understood that
this clause (iv) will apply to all of each Person's Partnership Interests
whether the Units relating thereto were acquired on the date hereof or
hereafter), (v) in the case of a Limited Partner which is a partnership, limited
liability company, joint venture, corporation or other business entity other
than any of the foregoing described in clause (iii) or (iv), in accordance with
the terms of any agreement between such Limited Partner and the Partnership
pursuant to which such Partnership Interest was issued, (vi) pursuant to a gift
or other transfer without consideration, (vii) pursuant to applicable laws of
descent or distribution, (viii) to another Limited Partner and (ix) pursuant to
a grant of security interest or other encumbrance effectuated in a bona fide
---- ----
transaction or as a result of the exercise of remedies related thereto, subject
to the provisions of Section 11.3.F hereof. A trust or other entity will be
considered formed "for the benefit" of a Partner's Immediate Family even though
some other Person has a remainder interest under or with respect to such trust
or other entity.
D. No Transfers Violating Securities Laws. The General Partner may
--------------------------------------
prohibit any transfer of Units by a Limited Partner unless it receives a written
opinion of legal counsel (which opinion and counsel shall be reasonably
satisfactory to the Partnership) to such Limited Partner to the effect that such
transfer would not require filing of a registration statement under the
Securities Act or would not otherwise violate any federal or state securities
laws or regulations applicable to the Partnership or the Unit or, at the option
of the Partnership, an opinion of legal counsel to the Partnership to the same
effect.
E. No Transfers Affecting Tax Status of Partnership. No transfer of
------------------------------------------------
Units by a Limited Partner (including a redemption or exchange pursuant to
Section 8.6) may be made to any Person if (i) in the opinion of legal counsel
for the Partnership, it would result in the Partnership being treated as an
association taxable as a corporation for federal income tax purposes (except as
a result of the redemption or exchange for Shares of all Units held by all
Limited Partners other than the General Partner or the General Partner Entity or
any Subsidiary of either the General Partner or the General Partner Entity or
pursuant to a transaction expressly permitted under Section 7.11.B or Section
11.2), (ii) in the opinion of legal counsel for the Partnership, it likely would
cause the General Partner Entity to no longer qualify as a REIT or would subject
the General Partner Entity to any additional taxes under Section 857 or Section
4981 of the Code or (iii) such transfer is effectuated through an "established
securities market" or a "secondary market (or the substantial equivalent
thereof)" within the meaning of Section 7704 of the Code.
F. No Transfers to Holders of Nonrecourse Liabilities. No pledge or
--------------------------------------------------
transfer of any Units may be made to a lender to the Partnership or any Person
who is related (within the meaning of Section 1.752-4(b) of the Regulations) to
any lender to the Partnership whose loan constitutes a Nonrecourse Liability
without the consent of the
-51-
<PAGE>
General Partner, in its sole and absolute discretion, if the deemed exercise by
such lender or Person of all of its rights under the pledge or Unit transfer
agreement would result in such lender or Person owning Units in violation of the
Ownership Limitation set forth in Section 12.2.A of this Agreement; provided
--------
that, as a condition to such consent the lender will be required to enter into
- ----
an arrangement with the Partnership and the General Partner to exchange or
redeem for the Redemption Amount any Units in which a security interest is held
simultaneously with the time at which such lender would be deemed to be a
partner in the Partnership for purposes of allocating liabilities to such lender
under Section 752 of the Code.
Section 11.4 Substituted Limited Partners
A. Consent of General Partner. No Limited Partner shall have the
--------------------------
right to substitute a transferee as a Limited Partner in its place. The General
Partner shall, however, have the right to consent to the admission of a
transferee of the interest of a Limited Partner pursuant to this Section 11.4 as
a Substituted Limited Partner, which consent may be, given or withheld by the
General Partner in its sole and absolute discretion. The General Partner's
failure or refusal to permit a transferee of any such interests to become a
Substituted Limited Partner shall not give rise to any cause of action against
the Partnership or any Partner.
B. Rights of Substituted Limited Partner. A transferee who has been
-------------------------------------
admitted as a Substituted Limited Partner in accordance with this Article XI
shall have all the rights and powers and be subject to all the restrictions and
liabilities of a Limited Partner under this Agreement. The admission of any
transferee as a Substituted Limited Partner shall be conditioned upon the
transferee executing and delivering to the Partnership an acceptance of all the
terms and conditions of this Agreement (including, without limitation, the
provisions of Section 16.11) and such other documents or instruments as may be
required to effect the admission.
C. Amendment of Exhibit A. Upon the admission of a Substituted
----------------------
Limited Partner, the General Partner shall amend Exhibit A to reflect the name,
---------
address, Capital Account, number of Units and Percentage Interest of such
Substituted Limited Partner and to eliminate or adjust, if necessary, the name,
address, Capital Account and Percentage Interest and interest of the predecessor
of such Substituted Limited Partner.
Section 11.5 Assignees
If the General Partner, in its sole and absolute discretion, does not
consent to the admission of any permitted transferee under Section 11.3 as a
Substituted Limited Partner, as described in Section 11.4, such transferee shall
be considered an Assignee for purposes of this Agreement. An Assignee shall be
entitled to all the rights of an assignee of a limited partnership interest
under the Act, including the right to receive distributions from the Partnership
and the share of Net Income, Net Losses, gain, loss and Recapture Income
attributable to the Units assigned to such transferee, and shall have the rights
granted to the Limited Partners under Section 8.6, but shall not be deemed to be
a holder of Units for any other purpose under this Agreement, and shall not be
entitled to vote such
-52-
<PAGE>
Units in any matter presented to the Limited Partners for a vote (such Units
being deemed to have been voted on such matter in the same proportion as all
other Units held by Limited Partners are voted). If any such transferee desires
to make a further assignment of any such Units, such transferee shall be subject
to all the provisions of this Article XI to the same extent and in the same
manner as any Limited Partner desiring to make an assignment of Units.
Section 11.6 General Provisions
A. Withdrawal of Limited Partner. No Limited Partner may withdraw
-----------------------------
from the Partnership other than as a result of a permitted transfer of all of
such Limited Partner's Units in accordance with this Article XI or pursuant to
redemption of all of its Units under Section 8.6.
B. Termination of Status as Limited Partner. Any Limited Partner who
----------------------------------------
shall transfer all of its Units in a transfer permitted pursuant to this Article
XI or pursuant to redemption of all of its Units under Section 8.6 shall cease
to be a Limited Partner.
C. Timing of Transfers. Transfers pursuant to this Article XI may
-------------------
only be made upon three Business Days prior notice, unless the General Partner
otherwise agrees.
D. Allocations. If any Partnership Interest is transferred during
-----------
any quarterly segment of the Partnership's fiscal year in compliance with the
provisions of this Article XI or redeemed or transferred pursuant to Section
8.6, Net Income, Net Losses, each item thereof and all other items attributable
to such interest for such fiscal year shall be divided and allocated between the
transferor Partner and the transferee Partner by taking into account their
varying interests during the fiscal year in accordance with Section 706(d) of
the Code, using the interim closing of the books method (unless the General
Partner, in its sole and absolute discretion, elects to adopt a daily, weekly or
a monthly proration period, in which event Net Income, Net Losses, each item
thereof and all other items attributable to such interest for such fiscal year
shall be prorated based upon the applicable method selected by the General
Partner). Solely for purposes of making such allocations, each of such items
for the calendar month in which the transfer or redemption occurs shall be
allocated to the Person who is a Partner as of midnight on the last day of said
month. All distributions of Available Cash attributable to any Unit with
respect to which the Partnership Record Date is before the date of such
transfer, assignment or redemption shall be made to the transferor Partner or
the Redeeming Partner, as the case may be, and, in the case of a transfer or
assignment other than a redemption, all distributions of Available Cash
thereafter attributable to such Unit shall be made to the transferee Partner.
E. Additional Restrictions. In addition to any other restrictions on
-----------------------
transfer herein contained, including without limitation the provisions of this
Article XI and Article VII, in no event may any transfer or assignment of a
Partnership Interest by any Partner (including pursuant to Section 8.6) be made
without the express consent of the General Partner, in its sole and absolute
discretion, (i) to any person or entity who lacks
-53-
<PAGE>
the legal right, power or capacity to own a Partnership Interest; (ii) in
violation of applicable law; (iii) of any component portion of a Partnership
Interest, such as the Capital Account, or rights to distributions, separate and
apart from all other components of a Partnership Interest; (iv) if in the
opinion of legal counsel to the Partnership such transfer would cause a
termination of the Partnership for federal or state income tax purposes (except
as a result of the redemption or exchange for Shares of all Units held by all
Limited Partners other than the General Partner, the General Partner Entity, or
any Subsidiary of either, or pursuant to a transaction expressly permitted under
Section 7.11.B or Section 11.2); (v) if in the opinion of counsel to the
Partnership, such transfer would cause the Partnership to cease to be classified
as a partnership for federal income tax purposes (except as a result of the
redemption or exchange for Shares of all Units held by all Limited Partners
other than the General Partner, the General Partner Entity, or any Subsidiary of
either, or pursuant to a transaction expressly permitted under Section 7.11.B or
Section 11.2); (vi) if such transfer would cause the Partnership Interests of
"benefit plan investors" to become "significant," as those terms are used in 29
C.F.R. (S) 2510.3-101(f), or any successor regulation thereto, or would cause
the Partnership to become, with respect to any employee benefit plan subject to
Title I of ERISA, a "party-in-interest" (as defined in Section 3(14) of ERISA)
or, with respect to any plan defined in Section 4975(e) of the Code, a
"disqualified person" (as defined in Section 4975(e) of the Code); (vii) if such
transfer would, in the opinion of counsel to the Partnership, cause any portion
of the assets of the Partnership to constitute assets of any ERISA Plan Investor
pursuant to 29 C.F.R. (S) 2510.3-101, or any successor regulation thereto;
(viii) if such transfer requires the registration of such Partnership Interest
pursuant to any applicable federal or state securities laws; (ix) if such
transfer is effectuated through an "established securities market" or a
"secondary market (or the substantial equivalent thereof)" within the meaning of
Section 7704 of the Code or such transfer causes the Partnership to become a
"publicly traded partnership," as such term is defined in Section 469(k)(2) or
Section 7704(b) of the Code (provided that, this clause (ix) shall not be the
-------------
basis for limiting or restricting in any manner the exercise of the Unit
Redemption Right under Section 8.6 unless, and only to the extent that, outside
tax counsel provides to the General Partner an opinion to the effect that, in
the absence of such limitation or restriction, there is a significant risk that
the Partnership will be treated as a "publicly traded partnership" and, by
reason thereof, taxable as a corporation); (x) if such transfer subjects the
Partnership or the activities of the Partnership to regulation under the
Investment Company Act of 1940, the Investment Advisors Act of 1940 or ERISA,
each as amended; (xi) if such transfer could reasonably be expected to cause the
General Partner Entity to fail to remain qualified as a REIT; or (xii) if in the
opinion of legal counsel for the transferring Partner (which opinion and counsel
shall be reasonably satisfactory to the Partnership) or legal counsel for the
Partnership, such transfer would cause the General Partner Entity to fail to
continue to qualify as a REIT or subject the General Partner Entity to any
additional taxes under Section 857 or Section 4981 of the Code.
F. Avoidance of "Publicly Traded Partnership" Status. The General
-------------------------------------------------
Partner shall monitor the transfers of interests in the Partnership to determine
(i) if such interests are being traded on an "established securities market" or
a "secondary market (or the substantial equivalent thereof)" within the meaning
of Section 7704 of the Code and (ii) whether additional transfers of interests
would result in the Partnership being unable to qualify for at least one of the
"safe harbors" set forth in Regulations Section 1.7704-1 (or
-54-
<PAGE>
such other guidance subsequently published by the IRS setting forth safe harbors
under which interests will not be treated as "readily tradable on a secondary
market (or the substantial equivalent thereof)" within the meaning of Section
7704 of the Code) (the "Safe Harbors"). The General Partner shall take all steps
reasonably necessary or appropriate to prevent any trading of interests or any
recognition by the Partnership of transfers made on such markets and, except as
otherwise provided herein, to insure that at least one of the Safe Harbors is
met; provided, however, that the foregoing shall not authorize the General
Partner to limit or restrict in any manner the right of any holder of a Unit to
exercise the Unit Redemption Right in accordance with the terms of Section 8.6
unless, and only to the extent that, outside tax counsel provides to the General
Partner an opinion to the effect that, in the absence of such limitation or
restriction, there is a significant risk that the Partnership will be treated as
a "publicly traded partnership" and, by reason thereof, taxable as a
corporation.
ARTICLE XII
RESTRICTION ON OWNERSHIP OF UNITS
Section 12.1 Definitions
For the purpose of this Article XII, the following terms shall have
the following meanings:
"Charitable Beneficiary" means one or more beneficiaries of the
----------------------
Charitable Trust as determined pursuant to Section 12.4.G, provided that each
-------- ----
such organization must be described in Sections 501(c)(3), 170(b)(1)(A) and
170(c)(2) of the Code and that no such organization constitute ownership of
Units (including Units owned by it by reason of its being a Charitable
Beneficiary) that exceed the Ownership Limitation.
"Charitable Trust" means any trust provided for in Section 12.2.B and
----------------
Section 12.4.F.
"Charitable Trustee" means the Person unaffiliated with the
------------------
Partnership and a Prohibited Owner that is appointed by the Partnership to serve
as trustee of the Charitable Trust.
"Constructive Ownership" means ownership of Units by a Person, whether
----------------------
the interest in Units is held directly or indirectly (including by a nominee),
and shall include interests that would be treated as owned through the
application of Section 318(a) of the Code, as modified by Section 856(d)(5) of
the Code. The terms "Constructive Owner," "Constructively Owns" and
"Constructively Owned" shall have the correlative meanings.
"Initial Date" means the date upon which the Certificate is filed for
------------
record with the Secretary of State of the State of Delaware.
"Market Price" means, for any date, with respect to any class or
------------
series of outstanding Shares, the Closing Price for such Shares on such date.
The "Closing Price" on any date shall mean the last sale price on such date for
such Shares, regular way, or, in case no such sale takes place on such day, the
average of the closing bid and asked prices, regular
-55-
<PAGE>
way, for such Shares, in either case as reported in the principal consolidated
transaction reporting system with respect to securities listed or admitted to
trading on the New York Stock Exchange or, if such Shares are not listed or
admitted to trading on the New York Stock Exchange, as reported on the principal
consolidated transaction reporting system with respect to securities listed on
the principal national securities exchange on which such Shares are listed or
admitted to trading or, if such Shares are not listed or admitted to trading on
any national securities exchange, the last quoted price, or, if not so quoted,
the average of the high bid and low asked prices in the over-the-counter market,
as reported by the Nasdaq National Market or, if such system is no longer in
use, the principal other automated quotation system that may then be in use or,
if such Shares are not quoted by any such organization, the average of the
closing bid and asked prices as furnished by a professional market maker making
a market in such Shares selected by the General Partner or, in the event that no
trading price is available for such Shares, the fair market value of such
Shares, as determined in good faith by the General Partner.
"Ownership Limitation" has the meaning set forth in Section 12.2.A.
--------------------
"Prohibited Owner" means, with respect to any purported Transfer, any
----------------
Person who, but for the provisions of Section 12.2.B, would Beneficially or
Constructively Own Units.
"Restriction Termination Date" means the first day after the Initial
----------------------------
Date on which the General Partner determines that it is no longer in the best
interests of the General Partner Entity to attempt to, or continue to, qualify
as a REIT or that compliance with the restrictions and limitations on Beneficial
Ownership, Constructive Ownership and Transfers of Units set forth herein is no
longer required in order for the General Partner Entity to qualify as a REIT.
"Transfer" means any issuance, sale, transfer, gift, assignment,
--------
devise or other disposition, as well as any other event that causes any Person
to acquire Constructive Ownership, or any agreement to take any such actions or
cause any such events, of Units or the right to vote or receive distributions on
Units, including (i) a change in the capital structure of the Partnership, (ii)
a change in the relationship between two or more Persons which causes a change
in ownership of Units by application of Section 318 of the Code, as modified by
Section 856(d)(5), (iii) the granting or exercise of any option or warrant (or
any disposition of any option or warrant), pledge, security interest or similar
right to acquire Units, (iv) any disposition of any securities or rights
convertible into or exchangeable for Units or any interest in Units or any
exercise of any such conversion or exchange right and (v) Transfers of interests
in other entities that result in changes in Constructive Ownership of Units; in
each case, whether voluntary or involuntary, whether owned of record or
Constructively Owned and whether by operation of law or otherwise. The terms
"Transferring" and "Transferred" shall have the correlative meanings.
Section 12.2 Ownership Limitation on Units
A. Basic Restriction. No Person (other than the General Partner and
-----------------
the wholly owned subsidiaries (direct and indirect) of the General Partner) may
Constructively
-56-
<PAGE>
Own more than 4.9% by value of any class of Partnership Interests (the
"Ownership Limitation").
B. Transfers in Trust. If any Transfer of Units occurs which, if
------------------
effective, would result in any Person (excluding the General Partner and the
wholly owned subsidiaries (direct and indirect) of the General Partner)
Constructively Owning Units in violation of the Ownership Limitation,
(1) then that number of Units the Constructive Ownership of which
otherwise would cause such Person to violate the Ownership Limitation (rounded
up to the next whole Unit) shall be automatically transferred to a Charitable
Trust for the benefit of a Charitable Beneficiary, as described in Section 12.4,
effective as of the close of business on the Business Day prior to the date of
such Transfer, and such Person shall acquire no rights in such Units; or
(2) if the transfer to the Charitable Trust described in clause
(1) of this sentence would not be effective for any reason to prevent the
violation of the Ownership Limitation, then the Transfer of that number of Units
that otherwise would cause any Person to violate the Ownership Limitation shall
be void ab initio, and the intended transferee shall acquire no rights in such
Units.
C. Notice of Restricted Transfer. Any Person who acquires or
-----------------------------
attempts or intends to acquire Constructive Ownership of Units that reasonably
could be expected to violate the Ownership Limitation, or any Person who would
have owned Units that resulted in a transfer to the Charitable Trust pursuant to
the provisions of Section 12.4.A, shall immediately give written notice to the
Partnership of such event, or in the case of such a proposed or attempted
transaction, give at least 15 days prior written notice, and shall provide to
the Partnership such other information as the Partnership may request in order
to determine the effect, if any, of such acquisition or ownership on the General
Partner Entity's status as a REIT.
D. Legend. Each certificate for Units shall bear substantially the
------
following legend:
The interests represented by this certificate are subject to
restrictions on Constructive Ownership and Transfer for the purpose of
the General Partner Entity's maintenance of its status as a Real
Estate Investment Trust (a "REIT") under the Internal Revenue Code of
1986, as amended (the "Code"). Subject to certain further
restrictions and except as expressly provided in the Partnership
Agreement of the Partnership, no Person may Constructively Own Units
of the Partnership in excess of 4.9 percent (in value) of the
outstanding Units of the Partnership (the "Ownership Limitation").
Any Person who Constructively Owns or attempts to Constructively Own
Units in excess or in violation of the Ownership Limitation must
immediately notify the Partnership. If the Ownership Limitation is
violated, the Units represented hereby will be
-57-
<PAGE>
automatically transferred to a Charitable Trustee of a Charitable
Trust for the benefit of one or more Charitable Beneficiaries. In
addition, upon the occurrence of certain events, attempted Transfers
in violation of the Ownership Limitation described above may be void
ab initio. A Person who attempts to Constructively Own Units in
violation of the Ownership Limitation described above shall have no
claim, cause of action, or any recourse whatsoever against a
transferor of such Units. All capitalized terms in this legend have
the meanings defined in the Partnership Agreement of the Partnership,
as the same may be amended from time to time, a copy of which,
including the restrictions on transfer and ownership, will be
furnished to each holder of Units of the Partnership on request and
without charge.
Instead of the foregoing legend, the certificate may state that
the Partnership will furnish a full statement about certain restrictions on
transferability to a Partner on request and without charge.
E. Increase in Ownership Limitation. The General Partner may from
--------------------------------
time to time increase the Ownership Limitation, as provided in this Section
12.2.E. Prior to the modification of the Ownership Limitation pursuant to this
Section 12.2.E, the General Partner may require such opinions of counsel,
affidavits, undertakings or agreements as it may deem necessary or advisable in
order to determine or ensure the General Partner Entity's status as a REIT if
the modification in the Ownership Limitation were to be made.
F. Ambiguity. In the case of an ambiguity in the application of any
---------
of the provisions of this Section 12.2, Section 12.3 or Section 12.4 or any
definition contained in Section 12.1, the General Partner shall have the power
to determine the application of the provisions of this Section 12.2, Section
12.3 or Section 12.4 with respect to any situation based on the facts known to
it. If Section 12.2, Section 12.3 or Section 12.4 requires an action by the
General Partner and this Agreement fails to provide specific guidance with
respect to such action, the General Partner shall have the power to determine
the action to be taken so long as such action is not contrary to the provisions
of Sections 12.1, 12.2, 12.3 and 12.4.
G. Remedies for Breach. If the General Partner shall at any time
-------------------
determine in good faith that a Transfer or other event has taken place that
results in a violation of the Ownership Limitation or that a Person intends to
acquire or has attempted to acquire Constructive Ownership of any Units in
violation of the Ownership Limitation (whether or not such violation is
intended), the General Partner shall take such action as it deems advisable to
refuse to give effect to or to prevent such Transfer or other event, including,
without limitation, causing the Partnership to redeem Units, refusing to give
effect to such Transfer on the books of the Partnership or instituting
proceedings to enjoin such Transfer or other event; provided, however, that any
-------- -------
Transfer or attempted Transfer or other event in violation of the Ownership
Limitation shall automatically result in the transfer to the Charitable Trust
described above, and, where applicable, such Transfer (or other event)
-58-
<PAGE>
shall be void ab initio as provided above irrespective of any action (or non-
action) by the General Partner.
H. Remedies Not Limited. Nothing contained in this Section 12.2
--------------------
shall limit the authority of the General Partner Entity to take such other
action as it deems necessary or advisable to protect the General Partner Entity
and the interests of its shareholders in preserving the General Partner Entity's
status as a REIT.
Section 12.3 Exceptions to the Ownership Limitation
A. Exception by Request. The General Partner, in its sole and
--------------------
absolute discretion, may grant to any Person who makes a request therefor an
exception to the Ownership Limitation with respect to the ownership of any
series or class of Units, subject to the following conditions and limitations:
(i) the General Partner shall have determined that assuming such Person would
Beneficially Own or Constructively Own the maximum amount of Units permitted as
a result of the exception to be granted, the Partnership would not be classified
as an association taxable as a corporation pursuant to Section 7704 of the Code
and would not otherwise cause the General Partners to fail to qualify as a REIT;
and (ii) such Person provides the General Partner such representations and
undertakings, if any, as the General Partner may, in its sole and absolute
discretion, determine to be necessary in order for it to make the determination
that the conditions set forth in clause (i) above of this Section 12.3 have been
and/or will continue to be satisfied (including, without limitation, an
agreement as to a reduced Ownership Limitation for such Person with respect to
the Constructive Ownership of one or more other classes of Units not subject to
the exception), and such Person agrees that any violation of such
representations and undertakings or any attempted violation thereof will result
in the application of Section 12.2.G with respect to Units held in excess of the
Ownership Limitation with respect to such Person (determined without regard to
the exception granted such Person under this subparagraph (A)).
B. Opinion. Prior to granting any exception or exemption pursuant to
-------
subparagraph (A), the General Partner may require a ruling from the IRS or an
opinion of counsel, in either case in form and substance satisfactory to the
General Partner, in its sole and absolute discretion, as it may deem necessary
or advisable in order to determine or ensure the General Partner Entity's status
as a REIT; provided, however, that the General Partner shall not be obligated to
-------- -------
require obtaining a favorable ruling or opinion in order to grant an exception
hereunder.
Section 12.4 Transfer of Units in Trust
A. Ownership in Trust. Upon any purported Transfer that would result
------------------
in a transfer of Units to a Charitable Trust, such Units shall be deemed to have
been transferred to the Charitable Trustee as trustee of a Charitable Trust for
the exclusive benefit of one or more Charitable Beneficiaries. Such transfer to
the Charitable Trustee shall be deemed to be effective as of the close of
business on the Business Day prior to the purported Transfer or other event that
results in the transfer to the Charitable Trust pursuant to Section 12.2.B. The
Charitable Trustee shall be appointed by the Partnership and shall be a Person
unaffiliated with the Partnership and any Prohibited Owner. Each
-59-
<PAGE>
Charitable Beneficiary shall be designated by the Partnership as provided in
subparagraph G.
B. Status of Units Held by the Charitable Trustee. Units held by the
----------------------------------------------
Charitable Trustee shall be issued and outstanding Units of the Partnership.
The Prohibited Owner shall have no rights in the Units held by the Charitable
Trustee. The Prohibited Owner shall not benefit economically from ownership of
any Units held in trust by the Charitable Trustee, shall have no rights to
distributions with respect to such Units, shall not have Unit Redemption Rights
with respect to such Units and shall not possess any rights to vote or other
rights attributable to the Units held in the Charitable Trust. The Prohibited
Owner shall have no claim, cause of action, or any other recourse whatsoever
against the purported transferor of such Units.
C. Distribution and Voting Rights. The Charitable Trustee shall have
------------------------------
all voting rights and rights to distributions with respect to Units held in the
Charitable Trust, which rights shall be exercised for the exclusive benefit of
the Charitable Beneficiary. Any distribution paid prior to the discovery by the
Partnership that Units have been transferred to the Charitable Trustee by the
recipient thereof shall be paid with respect to such Units to the Charitable
Trustee upon demand and any distribution authorized but unpaid shall be paid
when due to the Charitable Trustee. Any distributions so paid over to the
Charitable Trustee shall be held in trust for the Charitable Beneficiary. The
Prohibited Owner shall have no voting rights with respect to Units held in the
Charitable Trust and, subject to Delaware law, effective as of the date that
Units have been transferred to the Charitable Trustee, the Charitable Trustee
shall have the authority (at the Charitable Trustee's sole discretion) (i) to
rescind as void any vote cast by a Prohibited Owner prior to the discovery by
the Partnership that Units have been transferred to the Charitable Trustee and
(ii) to recast such vote in accordance with the desires of the Charitable
Trustee acting for the benefit of the Charitable Beneficiary; provided, however,
-------- -------
that if the Partnership has already taken irreversible action, then the
Charitable Trustee shall not have the power to rescind and recast such vote.
Notwithstanding the provisions of Section 11.3 and this Section 12.4, until the
Partnership has received notification that Units have been transferred into a
Charitable Trust, the Partnership shall be entitled to rely on its Unit transfer
and other Partnership records for purposes of preparing lists of Partners
entitled to vote at meetings, determining the validity and authority of proxies
or consents and otherwise conducting votes of Partners.
D. Rights Upon Liquidation. Upon any voluntary or involuntary
-----------------------
liquidation, dissolution or winding up of or any distribution of the assets of
the Partnership, the Charitable Trustee shall be entitled to receive, ratably
with each other holder of Units of the class or series of Units that is held in
the Charitable Trust, that portion of the assets of the Partnership available
for distribution to the holders of such class or series (and, within such class,
pro rata in proportion to the respective Percentage Interests of such holders).
The Charitable Trustee shall distribute any such assets received in respect of
the Units held in the Charitable Trust in any liquidation, dissolution or
winding up of, or distribution of the assets of the Partnership, in accordance
with Section 12.4.E.
E. Redemption of Units Held by Charitable Trustee. Within 20 days of
----------------------------------------------
receiving notice from the Partnership that Units have been transferred to the
Charitable Trust, the Partnership shall redeem the Units held in the Charitable
Trust in accordance
-60-
<PAGE>
with Section 8.6.B. Upon such redemption, the interest of the Charitable
Beneficiary in the Units redeemed shall terminate and the Charitable Trustee
shall distribute the net proceeds of the redemption to the Prohibited Owner and
to the Charitable Beneficiary as provided in this Section 12.4.E. The Prohibited
Owner shall receive the lesser of (1) the price paid by the Prohibited Owner for
the Units or, if the Prohibited Owner did not give value for the Units in
connection with the event causing the Units to be held in the Charitable Trust
(e.g., in the case of a gift, devise or other such transaction), the fair market
value (based on the Market Price of the Shares of the General Partner) of the
Units on the day of the event causing the Units to be held in the Charitable
Trust and (2) the price per Unit received by the Charitable Trustee from the
redemption or other disposition of the Units held in the Charitable Trust. Any
net proceeds in excess of the amount payable to the Prohibited Owner shall be
immediately paid to the Charitable Beneficiary. If, prior to the discovery by
the Partnership that Units have been transferred to the Charitable Trustee, such
Units are redeemed by a Prohibited Owner, then (i) such Units shall be deemed to
have been redeemed on behalf of the Charitable Trust and (ii) to the extent that
the Prohibited Owner received an amount for such Units that exceeds the amount
that such Prohibited Owner was entitled to receive pursuant to this Section
12.4.E, such excess shall be paid by the Prohibited Owner to the Charitable
Trustee upon demand.
F. Designation of Charitable Beneficiaries. By written notice to the
---------------------------------------
Charitable Trustee, the Partnership shall designate one or more nonprofit
organizations to be the Charitable Beneficiary of the interest in the Charitable
Trust such that (i) Units held in the Charitable Trust would not violate the
Ownership Limitation and (ii) each such organization must be described in
Sections 501(c)(3), 170(b)(1)(A) or 170(c)(2) of the Code and that no such
organization constitutes Ownership of Units (including Units owned by it by
reason of its being a Charitable Beneficiary) that exceeds the Ownership
Limitation.
Section 12.5 Enforcement
The Partnership is authorized specifically to seek equitable relief,
including injunctive relief, to enforce the provisions of this Article XII.
Section 12.6 Non-Waiver
No delay or failure on the part of the Partnership in exercising any
right hereunder shall operate as a waiver of any right of the Partnership, as
the case may be, except to the extent specifically waived in writing.
ARTICLE XIII
ADMISSION OF PARTNERS
Section 13.1 Admission of a Successor General Partner
A successor to all of the General Partner's General Partnership
Interest pursuant to Section 11.2 who is proposed to be admitted as a successor
General Partner shall be admitted to the Partnership as the General Partner,
effective upon such transfer. Any such transferee shall carry on the business
of the Partnership without dissolution. In
-61-
<PAGE>
each case, the admission shall be subject to such successor General Partner
executing and delivering to the Partnership a written acceptance of all of the
terms and conditions of this Agreement and such other documents or instruments
as may be required to effect the admission.
Section 13.2 Admission of Additional Limited Partners
A. General. No Person shall be admitted as an Additional Limited
-------
Partner without the consent of the General Partner, which consent shall be given
or withheld in the General Partner's sole and absolute discretion. A Person who
makes a Capital Contribution to the Partnership in accordance with this
Agreement, including without limitation, under Section 4.2.B, or who exercises
an option to receive Units shall be admitted to the Partnership as an Additional
Limited Partner only with the consent of the General Partner and only upon
furnishing to the General Partner (i) evidence of acceptance in form
satisfactory to the General Partner of all of the terms and conditions of this
Agreement, including, without limitation, the power of attorney granted in
Section 16.11 and (ii) such other documents or instruments as may be required in
the discretion of the General Partner to effect such Person's admission as an
Additional Limited Partner. The admission of any Person as an Additional
Limited Partner shall become effective on the date upon which the name of such
Person is recorded on the books and records of the Partnership, following the
consent of the General Partner to such admission.
B. Allocations to Additional Limited Partners. If any Additional
------------------------------------------
Limited Partner is admitted to the Partnership on any day other than the first
day of a Partnership Year, then Net Income, Net Losses, each item thereof and
all other items allocable among Partners and Assignees for such Partnership Year
shall be allocated among such Additional Limited Partner and all other Partners
and Assignees by taking into account their varying interests during the
Partnership Year in accordance with Section 706(d) of the Code, using the
interim closing of the books method (unless the General Partner, in its sole and
absolute discretion, elects to adopt a daily, weekly or monthly proration
method, in which event Net Income, Net Losses, and each item thereof would be
prorated based upon the applicable period selected by the General Partner).
Solely for purposes of making such allocations, each of such items for the
calendar month in which an admission of any Additional Limited Partner occurs
shall be allocated among all the Partners and Assignees including such
Additional Limited Partner. All distributions of Available Cash with respect to
which the Partnership Record Date is before the date of such admission shall be
made solely to Partners and Assignees other than the Additional Limited Partner,
and all distributions of Available Cash thereafter shall be made to all the
Partners and Assignees including such Additional Limited Partner.
Section 13.3 Amendment of Agreement and Certificate of Limited Partnership
For the admission to the Partnership of any Partner, the General
Partner shall take all steps necessary and appropriate under the Act to amend
the records of the Partnership and, if necessary, to prepare as soon as
practical an amendment of this Agreement (including an amendment of Exhibit A)
---------
and, if required by law, shall prepare
-62-
<PAGE>
and file an amendment to the Certificate and may for this purpose exercise the
power of attorney granted pursuant to Section 16.11.
ARTICLE XIV
DISSOLUTION AND LIQUIDATION
Section 14.1 Dissolution
The Partnership shall not be dissolved by the admission of Substituted
Limited Partners or Additional Limited Partners or by the admission of a
successor General Partner in accordance with the terms of this Agreement. Upon
the withdrawal of the General Partner, any successor General Partner shall
continue the business of the Partnership. The Partnership shall dissolve, and
its affairs shall be wound up, upon the first to occur of any of the following
("Liquidating Events"):
(i) the expiration of its term as provided in Section 2.4
hereof;
(ii) an event of withdrawal of the General Partner, as defined
in the Act (other than an event of bankruptcy), unless, within ninety (90) days
after the withdrawal a "majority in interest" (as defined below) of the
remaining Partners Consent in writing to continue the business of the
Partnership and to the appointment, effective as of the date of withdrawal, of a
substitute General Partner;
(iii) through December 31, 2058, an election to dissolve the
Partnership made by the General Partner with the consent of Limited Partners who
hold ninety percent (90%) of the outstanding Units held by Limited Partners
(including Units held by the General Partner);
(iv) an election to dissolve the Partnership made by the
General Partner, in its sole and absolute discretion after December 31, 2058;
(v) entry of a decree of judicial dissolution of the
Partnership pursuant to the provisions of the Act;
(vi) the sale of all or substantially all of the assets and
properties of the Partnership for cash or for marketable securities; or
(vii) a final and non-appealable judgment is entered by a court
of competent jurisdiction ruling that the General Partner is bankrupt or
insolvent, or a final and non-appealable order for relief is entered by a court
with appropriate jurisdiction against the General Partner, in each case under
any federal or state bankruptcy or insolvency laws as now or hereafter in
effect, unless prior to or at the time of the entry of such order or judgment a
"majority in interest" (as defined below) of the remaining Partners Consent in
writing to continue the business of the Partnership and to the appointment,
effective as of a date prior to the date of such order or judgment, of a
substitute General Partner.
-63-
<PAGE>
As used herein, a "majority in interest" shall refer to Partners
(excluding the General Partner) who hold more than fifty percent (50%) of the
outstanding Percentage Interests not held by the General Partner.
Section 14.2 Winding Up
A. General. Upon the occurrence of a Liquidating Event, the
-------
Partnership shall continue solely for the purposes of winding up its affairs in
an orderly manner, liquidating its assets and satisfying the claims of its
creditors and Partners. No Partner shall take any action that is inconsistent
with, or not necessary to or appropriate for, the winding up of the
Partnership's business and affairs. The General Partner (or, if there is no
remaining General Partner, any Person elected by a majority in interest of the
Limited Partners (the "Liquidator")) shall be responsible for overseeing the
winding up and dissolution of the Partnership and shall take full account of the
Partnership's liabilities and property and the Partnership property shall be
liquidated as promptly as is consistent with obtaining the fair value thereof,
and the proceeds therefrom (which may, to the extent determined by the General
Partners, include equity or other securities of the General Partners or any
other entity) shall be applied and distributed in the following order:
(1) First, to the payment and discharge of all of the
Partnership's debts and liabilities to creditors other than
the Partners;
(2) Second, to the payment and discharge of all of the
Partnership's debts and liabilities to the General Partners;
(3) Third, to the payment and discharge of all of the
Partnership's debts and liabilities to the Limited Partners;
(4) Fourth, to the holder of Partnership Interests that are
entitled to any preference in distribution upon liquidation
in accordance with the rights of any such class or series of
Partnership Interests (and, within each such class or
series, to each holder thereof pro rata in proportion to its
respective Percentage Interest); and
(5) The balance, if any, to the Partners in accordance with
their Capital Accounts, after giving effect to all
contributions, distributions, and allocations for all
periods.
The General Partner shall not receive any additional compensation for
any services performed pursuant to this Article XIV.
B. Deferred Liquidation. Notwithstanding the provisions of Section
--------------------
14.2.A which require liquidation of the assets of the Partnership, but subject
to the order of priorities set forth therein, if prior to or upon dissolution of
the Partnership the Liquidator determines that an immediate sale of part or all
of the Partnership's assets would be impractical or would cause undue loss to
the Partners, the Liquidator may, in its sole and absolute discretion, defer for
a reasonable time the liquidation of any assets except
-64-
<PAGE>
those necessary to satisfy liabilities of the Partnership (including to those
Partners as creditors) or distribute to the Partners, in lieu of cash, as
tenants in common and in accordance with the provisions of Section 14.2.A,
undivided interests in such Partnership assets as the Liquidator deems not
suitable for liquidation. Any such distributions in kind shall be made only if,
in the good faith judgment of the Liquidator, such distributions in kind are in
the best interest of the Partners, and shall be subject to such conditions
relating to the disposition and management of such properties as the Liquidator
deems reasonable and equitable and to any agreements governing the operation of
such properties at such time. The Liquidator shall determine the fair market
value of any property distributed in kind using such reasonable method of
valuation as it may adopt.
Section 14.3 Compliance with Timing Requirements of Regulations
Subject to Section 14.4, if the Partnership is "liquidated" within the
meaning of Regulations Section 1.704-1(b)(2)(ii)(g), distributions shall be made
under this Article XIV to the General Partner and Limited Partners who have
positive Capital Accounts in compliance with Regulations Section 1.704-
1(b)(2)(ii)(b)(2). If any Partner has a deficit balance in its Capital Account
(after giving effect to all contributions, distributions and allocations for all
taxable years, including the year during which such liquidation occurs), such
Partner shall have no obligation to make any contribution to the capital of the
Partnership with respect to such deficit, and such deficit shall not be
considered a debt owed to the Partnership or to any other Person for any purpose
whatsoever. In the discretion of the General Partner, a pro rata portion of the
distributions that would otherwise be made to the General Partner and Limited
Partners pursuant to this Article XIV may be: (A) distributed to a trust
established for the benefit of the General Partner and Limited Partners for the
purposes of liquidating Partnership assets, collecting amounts owed to the
Partnership and paying any contingent or unforeseen liabilities or obligations
of the Partnership or of the General Partner arising out of or in connection
with the Partnership (in which case, the assets of any such trust shall be
distributed to the General Partner and Limited Partners from time to time, in
the reasonable discretion of the General Partner, in the same proportions as the
amount distributed to such trust by the Partnership would otherwise have been
distributed to the General Partner and Limited Partners pursuant to this
Agreement); or (B) withheld to provide a reasonable reserve for Partnership
liabilities (contingent or otherwise) and to reflect the unrealized portion of
any installment obligations owed to the Partnership, provided that such withheld
amounts shall be distributed to the General Partner and Limited Partners as soon
as practicable.
Section 14.4 Rights of Limited Partners
Except as otherwise provided in this Agreement, each Limited Partner
shall look solely to the assets of the Partnership for the return of its Capital
Contributions and shall have no right or power to demand or receive property
other than cash from the Partnership. Except as otherwise expressly provided in
this Agreement, no Limited Partner shall have priority over any other Limited
Partner as to the return of its Capital Contributions, distributions or
allocations.
-65-
<PAGE>
Section 14.5 Notice of Dissolution
If a Liquidating Event occurs or an event occurs that would, but for
provisions of an election or objection by one or more Partners pursuant to
Section 14.1, result in a dissolution of the Partnership, the General Partner
shall, within thirty (30) days thereafter, provide written notice thereof to
each of the Partners and to all other parties with whom the Partnership
regularly conducts business (as determined in the discretion of the General
Partner).
Section 14.6 Cancellation of Certificate of Limited Partnership
Upon the completion of the liquidation of Partnership cash and
property as provided in Section 14.2, the Partnership shall be terminated and
the Certificate and all qualifications of the Partnership as a foreign limited
partnership in jurisdictions other than the State of Delaware shall be canceled
and such other actions as may be necessary to terminate the Partnership shall be
taken.
Section 14.7 Reasonable Time for Winding Up
A reasonable time shall be allowed for the orderly winding up of the
business and affairs of the Partnership and the liquidation of its assets
pursuant to Section 14.2, to minimize any losses otherwise attendant upon such
winding up, and the provisions of this Agreement shall remain in effect among
the Partners during the period of liquidation.
Section 14.8 Waiver of Partition
Each Partner hereby waives any right to partition of the Partnership's
property.
Section 14.9 Liability of Liquidator
The Liquidator shall be indemnified and held harmless by the
Partnership in the same manner and to the same degree as an Indemnitee may be
indemnified pursuant to Section 7.7.
ARTICLE XV
AMENDMENT OF PARTNERSHIP AGREEMENT; MEETINGS
Section 15.1 Amendments
A. General. Amendments to this Agreement may be proposed by a
-------
General Partner or by any Limited Partners holding twenty-five percent (25%) or
more of the Partnership Interests. Following such proposal (except an amendment
governed by Section 15.1.B), the General Partner shall submit any proposed
amendment to the Limited Partners. The General Partner shall seek the written
vote of the Partners on the proposed amendment or shall call a meeting to vote
thereon and to transact any other business that it may deem appropriate. For
purposes of obtaining a written vote, the General Partner
-66-
<PAGE>
may require a response within a reasonable specified time, but not less than
fifteen (15) days, and failure to respond in such time period shall constitute a
vote in the same proportion as the votes of the Partners who responded in a
timely manner. Except as provided in Section 15.1.B, 15.1.C or 15.1.D, a
proposed amendment shall be adopted and be effective as an amendment hereto if
it is approved by the General Partner and it receives the Consent of Partners
holding a majority of the Percentage Interests of the Limited Partners
(including Limited Partnership Interests held by the General Partner).
B. Amendments Not Requiring Limited Partner Approval. Notwithstanding
-------------------------------------------------
Section 15.1.A but subject to Section 15.1.C, the General Partner shall have the
power, without the consent of the Limited Partners, to amend this Agreement as
may be required to facilitate or implement any of the following purposes:
(1) to add to the obligations of the General Partner or
surrender any right or power granted to the General Partner
or any Affiliate of the General Partner for the benefit of
the Limited Partners;
(2) to reflect the admission, substitution, termination or
withdrawal of Partners in accordance with this Agreement
(which may be effected through the replacement of Exhibit A
---------
with an amended Exhibit A);
---------
(3) to set forth the designations, rights, powers, duties and
preferences of the holders of any additional Partnership
Interests issued pursuant to Article IV;
(4) to reflect a change that does not adversely affect the
Limited Partners in any material respect, or to cure any
ambiguity, correct or supplement any provision in this
Agreement not inconsistent with law or with other provisions
of this Agreement, or make other changes with respect to
matters arising under this Agreement that will not be
inconsistent with law or with the provisions of this
Agreement; and
(5) to satisfy any requirements, conditions, or guidelines
contained in any order, directive, opinion, ruling or
regulation of a federal, state or local agency or contained
in federal, state or local law.
The General Partner shall notify the Limited Partners in writing when
any action under this Section 15.1.B is taken in the next regular communication
to the Limited Partners or within 90 days of the date thereof, whichever is
earlier.
C. Amendments Requiring Limited Partner Approval (Excluding General
----------------------------------------------------------------
Partners). Notwithstanding Section 15.1.A, without the Consent of the Outside
- --------
Limited Partners, the General Partner shall not amend Section 4.2.A, Section
5.1.E, Section 7.1.A (second sentence only), Section 7.4, Section 7.5, Section
7.6, Section 7.8, Section 7.10 (second sentence only), Section 7.11.B, Section
7.11.C, Section 8.5, Section 9.3,
-67-
<PAGE>
Section 11.2, Section 14.1 (other than Section 14.1(iii) which can be amended
only with a Consent of ninety percent (90%) of the Units (including Units held
by the General Partner)), Section 14.5, this Section 15.1.C or Section 15.2.
D. Other Amendments Requiring Certain Limited Partner Approval.
-----------------------------------------------------------
Notwithstanding anything in this Section 15.1 to the contrary, this Agreement
shall not be amended with respect to any Partner adversely affected without the
Consent of such Partner adversely affected if such amendment would (i) convert a
Limited Partner's interest in the Partnership into a general partner's interest,
(ii) modify the limited liability of a Limited Partner or require the Limited
Partner to make additional Capital Contributions or provide additional funding
to the Partnership, (iii) amend Section 4.1 (last two sentences only), (iv)
amend Section 7.11.A, (v) amend Article V, Article VI, clauses (1)-(5) of
Section 14.2.A or Section 14.3 (except as permitted pursuant to Sections 4.2,
5.4, 6.2 and 15.1(B)(3)), (vi) amend Section 8.3, (vii) amend Section 8.6 or any
defined terms set forth in Article I that relate to the Unit Redemption Right
(except as permitted in Section 8.6.E), (viii) amend Section 10.5, Section
11.2.B, Section 11.3.A, Section 11.3.B, Section 11.3.C., Section 11.4.B or
Section 11.5 (second sentence only), (ix) amend Section 16.1, (x) amend Article
XII (other than as reasonably necessary to maintain the General Partner Entity's
qualification as a REIT) or (xi) amend this Section 15.1.D. This Section 15.1.D
does not require unanimous consent of all Partners adversely affected unless the
amendment is to be effective against all Partners adversely affected.
E. Amendment and Restatement of Exhibit A Not An Amendment.
-------------------------------------------------------
Notwithstanding anything in this Article XV or elsewhere in this Agreement to
the contrary, any amendment and restatement of Exhibit A hereto by the General
---------
Partner to reflect events or changes otherwise authorized or permitted by this
Agreement, whether pursuant to Section 7.1.A(21) hereof or otherwise, shall not
be deemed an amendment of this Agreement and may be done at any time and from
time to time, as necessary by the General Partner without the Consent of the
Limited Partners.
Section 15.2 Meetings of the Partners
A. General. Meetings of the Partners may be called by the General
-------
Partner and shall be called upon the receipt by the General Partner of a written
request by Limited Partners holding twenty-five percent (25%) or more of the
Partnership Interests. The call shall state the nature of the business to be
transacted. Notice of any such meeting shall be given to all Partners not less
than seven (7) days nor more than thirty (30) days prior to the date of such
meeting. Partners may vote in person or by proxy at such meeting. Whenever the
vote or Consent of Partners is permitted or required under this Agreement, such
vote or Consent may be given at a meeting of Partners or may be given in
accordance with the procedure prescribed in Section 15.1.A. Except as otherwise
expressly provided in this Agreement, the consent of holders of a majority of
the Percentage Interests held by Limited Partners (including Limited Partnership
Interests held by the General Partner) shall control.
B. Actions Without a Meeting. Any action required or permitted to be
-------------------------
taken at a meeting of the Partners may be taken without a meeting if a written
consent setting forth the action so taken is signed by a majority of the
Percentage Interests of the
-68-
<PAGE>
Partners (or such other percentage as is expressly required by this Agreement).
Such consent may be in one instrument or in several instruments, and shall have
the same force and effect as a vote of a majority of the Percentage Interests of
the Partners (or such other percentage as is expressly required by this
Agreement). Such consent shall be filed with the General Partner. An action so
taken shall be deemed to have been taken at a meeting held on the date on which
written consents from the required Percentage Interests have been filed with the
General Partner.
C. Proxy. Each Limited Partner may authorize any Person or Persons
-----
to act for him by proxy on all matters in which a Limited Partner is entitled to
participate, including waiving notice of any meeting, or voting or participating
at a meeting. Every proxy must be signed by the Limited Partner or its
attorney-in-fact. No proxy shall be valid after the expiration of eleven (11)
months from the date thereof unless otherwise provided in the proxy. Every
proxy shall be revocable at the pleasure of the Limited Partner executing it,
such revocation to be effective upon the Partnership's receipt of written notice
thereof.
D. Conduct of Meeting. Each meeting of Partners shall be conducted
------------------
by the General Partner or such other Person as the General Partner may appoint
pursuant to such rules for the conduct of the meeting as the General Partner or
such other Person deem appropriate.
ARTICLE XVI
GENERAL PROVISIONS
Section 16.1 Addresses and Notice
Any notice, demand, request or report required or permitted to be
given or made to a Partner or Assignee under this Agreement shall be in writing
and shall be deemed given or made when delivered in person or when sent by first
class United States mail or by other means of written communication to the
Partner or Assignee at the address set forth in Exhibit A or such other address
---------
as the Partners shall notify the General Partner in writing.
Section 16.2 Titles and Captions
All article or section titles or captions in this Agreement are for
convenience only. They shall not be deemed part of this Agreement and in no way
define, limit, extend or describe the scope or intent of any provisions hereof.
Except as specifically provided otherwise, references to "Articles" "Sections"
and "Exhibits" are to Articles, Sections and Exhibits of this Agreement.
Section 16.3 Pronouns and Plurals
Whenever the context may require, any pronoun used in this Agreement
shall include the corresponding masculine, feminine or neuter forms, and the
singular form of nouns, pronouns and verbs shall include the plural and vice
versa.
-69-
<PAGE>
Section 16.4 Further Action
The parties shall execute and deliver all documents, provide all
information and take or refrain from taking action as may be necessary or
appropriate to achieve the purposes of this Agreement.
Section 16.5 Binding Effect
This Agreement shall be binding upon and inure to the benefit of the
parties hereto and their heirs, executors, administrators, successors, legal
representatives and permitted assigns.
Section 16.6 Creditors
Other than as expressly set forth herein with regard to any
Indemnitee, none of the provisions of this Agreement shall be for the benefit
of, or shall be enforceable by, any creditor of the Partnership.
Section 16.7 Waiver
No failure by any party to insist upon the strict performance of any
covenant, duty, agreement or condition of this Agreement or to exercise any
right or remedy consequent upon a breach thereof shall constitute waiver of any
such breach or any other covenant, duty, agreement or condition.
Section 16.8 Counterparts
This Agreement may be executed in counterparts, all of which together
shall constitute one agreement binding on all the parties hereto,
notwithstanding that all such parties are not signatories to the original or the
same counterpart. Each party shall become bound by this Agreement immediately
upon affixing its signature hereto.
Section 16.9 Applicable Law
This Agreement shall be construed and enforced in accordance with and
governed by the laws of the State of Delaware, without regard to the principles
of conflicts of law.
-70-
<PAGE>
Section 16.10 Invalidity of Provisions
If any provision of this Agreement is or becomes invalid, illegal or
unenforceable in any respect, the validity, legality and enforceability of the
remaining provisions contained herein shall not be affected thereby.
Section 16.11 Power of Attorney
A. General. Each Limited Partner and each Assignee who accepts Units
-------
(or any rights, benefits or privileges associated therewith) is deemed to
irrevocably constitute and appoint the General Partner, any Liquidator and
authorized officers and attorneys-in-fact of each, and each of those acting
singly, in each case with full power of substitution, as its true and lawful
agent and attorney-in-fact, with full power and authority in its name, place and
stead to:
(1) execute, swear to, acknowledge, deliver, file and record in
the appropriate public offices (a) all certificates,
documents and other instruments (including, without
limitation, this Agreement and the Certificate and all
amendments or restatements thereof) that the General Partner
or any Liquidator deems appropriate or necessary to form,
qualify or continue the existence or qualification of the
Partnership as a limited partnership (or a partnership in
which the limited partners have limited liability) in the
State of Delaware and in all other jurisdictions in which
the Partnership may conduct business or own property, (b)
all instruments that the General Partner or any Liquidator
deem appropriate or necessary to reflect any amendment,
change, modification or restatement of this Agreement in
accordance with its terms, (c) all conveyances and other
instruments or documents that the General Partner or any
Liquidator deems appropriate or necessary to reflect the
dissolution and liquidation of the Partnership pursuant to
the terms of this Agreement, including, without limitation,
a certificate of cancellation, (d) all instruments relating
to the admission, withdrawal, removal or substitution of any
Partner pursuant to, or other events described in, Article
XI, XII or XIII hereof or the Capital Contribution of any
Partner and (e) all certificates, documents and other
instruments relating to the determination of the rights,
preferences and privileges of Partnership Interests; and
(2) execute, swear to, acknowledge and file all ballots,
consents, approvals, waivers, certificates and other
instruments appropriate or necessary, in the sole and
absolute discretion of the General Partner or any
Liquidator, to make, evidence, give, confirm or ratify any
vote, consent, approval, agreement or other action which is
made or given by the Partners hereunder or is consistent
with the terms of this Agreement or
-71-
<PAGE>
appropriate or necessary, in the sole discretion of the
General Partner or any Liquidator, to effectuate the terms
or intent of this Agreement.
Nothing contained in this Section 16.11 shall be construed as
authorizing the General Partner or any Liquidator to amend this Agreement except
in accordance with Article XV hereof or as may be otherwise expressly provided
for in this Agreement.
B. Irrevocable Nature. The foregoing power of attorney is hereby
------------------
declared to be irrevocable and a power coupled with an interest, in recognition
of the fact that each of the Partners will be relying upon the power of the
General Partner or any Liquidator to act as contemplated by this Agreement in
any filing or other action by it on behalf of the Partnership, and it shall
survive and not be affected by the subsequent Incapacity of any Limited Partner
or Assignee and the transfer of all or any portion of such Limited Partner's or
Assignee's Units and shall extend to such Limited Partner's or Assignee's heirs,
successors, assigns and personal representatives. Each such Limited Partner or
Assignee hereby agrees to be bound by any representation made by the General
Partner or any Liquidator, acting in good faith pursuant to such power of
attorney; and each such Limited Partner or Assignee hereby waives any and all
defenses which may be available to contest, negate or disaffirm the action of
the General Partner or any Liquidator, taken in good faith under such power of
attorney. Each Limited Partner or Assignee shall execute and deliver to the
General Partner or the Liquidator, within fifteen (15) days after receipt of the
General Partner's or Liquidator's request therefor, such further designation,
powers of attorney and other instruments as the General Partner or the
Liquidator, as the case may be, deems necessary to effectuate this Agreement and
the purposes of the Partnership.
Section 16.12 Entire Agreement
This Agreement contains the entire understanding and agreement among
the Partners with respect to the subject matter hereof and supersedes any prior
written oral understandings or agreements among them with respect thereto.
Section 16.13 No Rights as Shareholders
Nothing contained in this Agreement shall be construed as conferring
upon the holders of the Units any rights whatsoever as partners or shareholders
of the General Partner Entity, including, without limitation, any right to
receive dividends or other distributions made to shareholders of the General
Partner Entity or to vote or to consent or receive notice as shareholders in
respect to any meeting of shareholders for the election of trustees of the
General Partner Entity or any other matter.
Section 16.14 Limitation to Preserve REIT Status
To the extent that any amount paid or credited to the General Partner
or any of its officers, directors, trustees, employees or agents pursuant to
Section 7.4 or Section 7.7 would constitute gross income to the General Partner
for purposes of
-72-
<PAGE>
Section 856(c)(2) or 856(c)(3) of the Code (a "General Partner Payment") then,
notwithstanding any other provision of this Agreement, the amount of such
General Partner Payment for any fiscal year shall not exceed the lesser of:
(i) an amount equal to the excess, if any, of (a) 4.20% of the
General Partner's total gross income (but not including the amount of any
General Partner Payments) for the fiscal year which is described in subsections
(A) though (H) of Section 856(c)(2) of the Code over (b) the amount of gross
income (within the meaning of Section 856(c)(2) of the Code) derived by the
General Partner from sources other than those described in subsections (A)
through (H) of Section 856(c)(2) of the Code (but not including the amount of
any General Partner Payments); or
(ii) an amount equal to the excess, if any of (a) 25% of the
General Partner's total gross income (but not including the amount of any
General Partner Payments) for the fiscal year which is described in subsections
(A) through (I) of Section 856(c)(3) of the Code over (b) the amount of gross
income (within the meaning of Section 856(c)(3) of the Code) derived by the
General Partner from sources other than those described in subsections (A)
through (I) of Section 856(c)(3) of the Code (but not including the amount of
any General Partner Payments);
provided, however, that General Partner Payments in excess of the
-----------------
amounts set forth in subparagraphs (i) and (ii) above may be made if the General
Partner, as a condition precedent, obtains an opinion of tax counsel that the
receipt of such excess amounts would not adversely affect the General Partner's
ability to qualify as a REIT. To the extent General Partner Payments may not be
made in a year due to the foregoing limitations, such General Partner Payments
shall carry over and be treated as arising in the following year, provided,
---------
however, that such amounts shall not carry over for more than five years, and if
- -------
not paid within such five year period, shall expire; provided further, that (i)
----------------
as General Partner Payments are made, such payments shall be applied first to
carry over amounts outstanding, if any, and (ii) with respect to carry over
amounts for more than one Partnership Year, such payments shall be applied to
the earliest Partnership Year first.
-73-
<PAGE>
IN WITNESS WHEREOF, the parties hereto have executed this Agreement as
of the date first written above.
GENERAL PARTNER:
HOST MARRIOTT TRUST
By:
----------------------------
Name:
Title:
LIMITED PARTNERS:
By:
----------------------------
as Attorney-in-Fact for the
Limited Partners
-74-
<PAGE>
EXHIBIT A
PARTNERS AND PARTNERSHIP INTERESTS
<TABLE>
<CAPTION>
Class A Class B Agreed Initial Percentage
Name and Address of Partner Partnership Units Partnership Units Capital Account Interest
- --------------------------- ----------------- ----------------- --------------- ----------
<S> <C> <C> <C> <C>
GENERAL PARTNER:
LIMITED PARTNERS:
TOTAL 100.00%
================= ================= =============== ==========
</TABLE>
<PAGE>
EXHIBIT B
CAPITAL ACCOUNT MAINTENANCE
1. Capital Accounts of the Partners
--------------------------------
A. The Partnership shall maintain for each Partner a separate Capital
Account in accordance with the rules of Regulations Section l.704-l(b)(2)(iv).
Such Capital Account shall be increased by (i) the amount of all Capital
Contributions and any other deemed contributions made by such Partner to the
Partnership pursuant to this Agreement and (ii) all items of Partnership income
and gain (including income and gain exempt from tax) computed in accordance with
Section 1.B hereof and allocated to such Partner pursuant to Section 6.1 of the
Agreement and Exhibit C thereof, and decreased by (x) the amount of cash or
---------
Agreed Value of all actual and deemed distributions of cash or property made to
such Partner pursuant to this Agreement and (y) all items of Partnership
deduction and loss computed in accordance with Section 1.B hereof and allocated
to such Partner pursuant to Section 6.1 of the Agreement and Exhibit C thereof.
---------
B. For purposes of computing the amount of any item of income, gain,
deduction or loss to be reflected in the Partners' Capital Accounts, unless
otherwise specified in this Agreement, the determination, recognition and
classification of any such item shall be the same as its determination,
recognition and classification for federal income tax purposes determined in
accordance with Section 703(a) of the Code (for this purpose all items of
income, gain, loss or deduction required to be stated separately pursuant to
Section 703(a) (1) of the Code shall be included in taxable income or loss),
with the following adjustments:
(1) Except as otherwise provided in Regulations Section 1.704-
1(b)(2)(iv)(m), the computation of all items of income, gain,
loss and deduction shall be made without regard to any election
under Section 754 of the Code which may be made by the
Partnership, provided that the amounts of any adjustments to the
adjusted bases of the assets of the Partnership made pursuant to
Section 734 of the Code as a result of the distribution of
property by the Partnership to a Partner (to the extent that
such adjustments have not previously been reflected in the
Partners' Capital Accounts) shall be reflected in the Capital
Accounts of the Partners in the manner and subject to the
limitations prescribed in Regulations Section l.704-1(b)(2)(iv)
(m)(4).
(2) The computation of all items of income, gain, and deduction
shall be made without regard to the fact that items described in
Sections 705(a)(l)(B) or 705(a)(2)(B) of the Code are not
includable in gross income or are neither currently deductible
nor capitalized for federal income tax purposes.
(3) Any income, gain or loss attributable to the taxable disposition
of any Partnership property shall be determined as if the
adjusted basis of such property as of such date of disposition
were equal in amount to
<PAGE>
the Partnership's Carrying Value with respect to such property
as of such date.
(4) In lieu of the depreciation, amortization, and other cost
recovery deductions taken into account in computing such taxable
income or loss, there shall be taken into account Depreciation
for such fiscal year.
(5) In the event the Carrying Value of any Partnership Asset is
adjusted pursuant to Section 1.D hereof, the amount of any such
adjustment shall be taken into account as gain or loss from the
disposition of such asset.
(6) Any items specially allocated under Section 2 of Exhibit C
---------
hereof shall not be taken into account.
C. Generally, a transferee (including any Assignee) of a Unit shall
succeed to a pro rata portion of the Capital Account of the transferor;
provided, however, that, if the transfer causes a termination of the Partnership
under Section 708(b)(l)(B) of the Code, the Partnership's properties shall be
deemed, solely for federal income tax purposes, to have been distributed in
liquidation of the Partnership to the holders of the Partnership units
(including the transferee) and recontributed by such Persons in reconstitution
of the Partnership. In such event, the Carrying Values of the Partnership
properties shall be adjusted immediately prior to such deemed distribution
pursuant to Section 1.D(2) hereof. The Capital Accounts of such reconstituted
Partnership shall be maintained in accordance with the principles of this
Exhibit B.
- ----------
D. (1) Consistent with the provisions of Regulations Section 1.704-
1(b)(2)(iv)(f), and as provided in Section 1.D(2), the Carrying
Values of all Partnership assets shall be adjusted upward or
downward to reflect any Unrealized Gain or Unrealized Loss
attributable to such Partnership property, as of the times of
the adjustments provided in Section 1.D(2) hereof, as if such
Unrealized Gain or Unrealized Loss had been recognized on an
actual sale of each such property and allocated pursuant to
Section 6.1 of the Agreement.
(2) Such adjustments shall be made as of the following times: (a)
immediately prior to the acquisition of an additional interest
in the Partnership by any new or existing Partner in exchange
for more than a de minimis Capital Contribution; (b) immediately
prior to the distribution by the Partnership to a Partner of
more than a de minimis amount of property as consideration for
an interest in the Partnership; and (c) immediately prior to the
liquidation of the Partnership within the meaning of Regulations
Section 1.704-l(b)(2)(ii)(g), provided however that adjustments
pursuant to clauses (a) and (b) above shall be made only if the
General Partner determines that such adjustments are necessary
or appropriate to reflect the relative economic interests of the
Partners in the Partnership.
B-2
<PAGE>
(3) In accordance with Regulations Section 1.704- l(b)(2)(iv)(e),
the Carrying Value of Partnership assets distributed in kind
shall be adjusted upward or downward to reflect any Unrealized
Gain or Unrealized Loss attributable to such Partnership
property, as of the time any such asset is distributed.
(4) In determining Unrealized Gain or Unrealized Loss for purposes
of this Exhibit B, the aggregate cash amount and fair market
---------
value of all Partnership assets (including cash or cash
equivalents) shall be determined by the General Partner using
such reasonable method of valuation as it may adopt, or in the
case of a liquidating distribution pursuant to Article XIV of
the Agreement, shall be determined and allocated by the
Liquidator using such reasonable methods of valuation as it may
adopt. The General Partner, or the Liquidator, as the case may
be, shall allocate such aggregate fair market value among the
assets of the Partnership in such manner as it determines in its
sole and absolute discretion to arrive at a fair market value
for individual properties.
E. The provisions of the Agreement (including this Exhibit B and the
---------
other Exhibits to the Agreement) relating to the maintenance of Capital Accounts
are intended to comply with Regulations Section 1.704-1(b), and shall be
interpreted and applied in a manner consistent with such Regulations. In the
event the General Partner shall determine that it is prudent to modify the
manner in which the Capital Accounts, or any debits or credits thereto
(including, without limitation, debits or credits relating to liabilities which
are secured by contributed or distributed property or which are assumed by the
Partnership, the General Partner, or the Limited Partners) are computed in order
to comply with such Regulations, the General Partner may make such modification
without regard to Article XV of the Agreement, provided that it is not likely to
have a material effect on the amounts distributable to any Person pursuant to
Article XIV of the Agreement upon the dissolution of the Partnership. The
General Partner also shall (i) make any adjustments that are necessary or
appropriate to maintain equality between the Capital Accounts of the Partners
and the amount of Partnership capital reflected on the Partnership's balance
sheet, as computed for book purposes, in accordance with Regulations Section
l.704-l(b)(2)(iv)(q), and (ii) make any appropriate modifications in the event
unanticipated events might otherwise cause this Agreement not to comply with
Regulations Section l.704-1(b).
2. No Interest
-----------
No interest shall be paid by the Partnership on Capital Contributions or on
balances in Partners' Capital Accounts.
3. No Withdrawal
-------------
No Partner shall be entitled to withdraw any part of its Capital
Contribution or Capital Account or to receive any distribution from the
Partnership, except as provided in Articles IV, V, VII, XIII and XIV of the
Agreement.
B-3
<PAGE>
EXHIBIT C
SPECIAL ALLOCATION RULES
1. Special Allocation Rules.
-------------------------
Notwithstanding any other provision of the Agreement or this Exhibit C, the
---------
following special allocations shall be made in the following order:
A. Minimum Gain Chargeback. Notwithstanding the provisions of Section 6.1
------------------------
of the Agreement or any other provisions of this Exhibit C, if there is a net
---------
decrease in Partnership Minimum Gain during any Partnership Year, each Partner
shall be specially allocated items of Partnership income and gain for such year
(and, if necessary, subsequent years) in an amount equal to such Partner's share
of the net decrease in Partnership Minimum Gain, as determined under Regulations
Section 1.704-2(g). Allocations pursuant to the previous sentence shall be made
in proportion to the respective amounts required to be allocated to each Partner
pursuant thereto. The items to be so allocated shall be determined in accordance
with Regulations Section 1.704-2(f)(6). This Section 1.A is intended to comply
with the minimum gain chargeback requirements in Regulations Section 1.704-2(f)
and for purposes of this Section 1.A only, each Partner's Adjusted Capital
Account Deficit shall be determined prior to any other allocations pursuant to
Section 6.1 of this Agreement with respect to such Partnership Year and without
regard to any decrease in Partner Minimum Gain during such Partnership Year.
B. Partner Minimum Gain Chargeback. Notwithstanding any other provision
--------------------------------
of Section 6.1 of this Agreement or any other provisions of this Exhibit C
---------
(except Section 1.A hereof), if there is a net decrease in Partner Minimum Gain
attributable to a Partner Nonrecourse Debt during any Partnership Year, each
Partner who has a share of the Partner Minimum Gain attributable to such Partner
Nonrecourse Debt, determined in accordance with Regulations Section 1.704-2(i)
(5), shall be specially allocated items of Partnership income and gain for such
year (and, if necessary, subsequent years) in an amount equal to such Partner's
share of the net decrease in Partner Minimum Gain attributable to such Partner
Nonrecourse Debt, determined in accordance with Regulations Section 1.704-2(i)
(5). Allocations pursuant to the previous sentence shall be made in proportion
to the respective amounts required to be allocated to each General Partner and
Limited Partner pursuant thereto. The items to be so allocated shall be
determined in accordance with Regulations Section 1.704-2(i) (4). This Section
1.B is intended to comply with the minimum gain chargeback requirement in such
Section of the Regulations and shall be interpreted consistently therewith.
Solely for purposes of this Section 1.B, each Partner's Adjusted Capital Account
Deficit shall be determined prior to any other allocations pursuant to Section
6.1 of the Agreement or this Exhibit with respect to such Partnership Year,
other than allocations pursuant to Section 1.A hereof.
C. Qualified Income Offset. In the event any Partner unexpectedly
------------------------
receives any adjustments, allocations or distributions described in Regulations
Sections 1.704-l(b)(2)(ii)(d)(4), l.704-1(b)(2)(ii)(d)(5), or 1.704-
l(b)(2)(ii)(d)(6), and after giving effect to the allocations required under
Sections 1.A and 1.B hereof with respect to such Partnership Year, such Partner
has an Adjusted Capital Account Deficit, items of
<PAGE>
Partnership income and gain (consisting of a pro rata portion of each item of
Partnership income, including gross income and gain for the Partnership Year)
shall be specifically allocated to such Partner in an amount and manner
sufficient to eliminate, to the extent required by the Regulations, its Adjusted
Capital Account Deficit created by such adjustments, allocations or
distributions as quickly as possible. This Section 1.C is intended to constitute
a "qualified income offset" under Regulations Section 1.704-1(b)(2)(ii)(d) and
shall be interpreted consistently therewith.
D. Gross Income Allocation. In the event that any Partner has an
------------------------
Adjusted Capital Account Deficit at the end of any Partnership Year (after
taking into account allocations to be made under the preceding paragraphs hereof
with respect to such Partnership Year), each such Partner shall be specially
allocated items of Partnership income and gain (consisting of a pro rata portion
of each item of Partnership income, including gross income and gain for the
Partnership Year) in an amount and manner sufficient to eliminate, to the extent
required by the Regulations, its Adjusted Capital Account Deficit.
E. Nonrecourse Deductions. Except as may otherwise be expressly
-----------------------
[provided] by the General Partner pursuant to Section 4.2 with respect to other
classes of Units, Nonrecourse Deductions for any Partnership Year shall be
allocated only to the Partners holding Class A Units and Class B Units in
accordance with their respective Percentage Interests. If the General Partner
determines in its good faith discretion that the Partnership's Nonrecourse
Deductions must be allocated in a different ratio to satisfy the safe harbor
requirements of the Regulations promulgated under Section 704(b) of the Code,
the General Partner is authorized, upon notice to the Limited Partners, to
revise the prescribed ratio for such Partnership Year to the numerically closest
ratio which would satisfy such requirements.
F. Partner Nonrecourse Deductions. Any Partner Nonrecourse Deductions
-------------------------------
for any Partnership Year shall be specially allocated to the Partner who bears
the economic risk of loss with respect to the Partner Nonrecourse Debt to which
such Partner Nonrecourse Deductions are attributable in accordance with
Regulations Sections 1.704-2(b)(4) and 1.704-2(i).
G. Code Section 754 Adjustments. To the extent an adjustment to the
-----------------------------
adjusted tax basis of any Partnership asset pursuant to Section 734(b) or 743(b)
of the Code is required, pursuant to Regulations Section 1.704-l(b)(2)(iv)(m),
to be taken into account in determining Capital Accounts, the amount of such
adjustment to the Capital Accounts shall be treated as an item of gain (if the
adjustment increases the basis of the asset) or loss (if the adjustment
decreases such basis), and such item of gain or loss shall be specially
allocated to the Partners in a manner consistent with the manner in which their
Capital Accounts are required to be adjusted pursuant to such Section of the
Regulations.
2. Allocations for Tax Purposes
----------------------------
A. Except as otherwise provided in this Section 2, for federal income
tax purposes, each item of income, gain, loss and deduction shall be allocated
among the Partners in the same manner as its correlative item of "book" income,
gain, loss or
C-2
<PAGE>
deduction is allocated pursuant to Section 6.1 of the Agreement and Section 1 of
this Exhibit C.
---------
B. In an attempt to eliminate Book-Tax Disparities attributable to a
Contributed Property or Adjusted Property, items of income, gain, loss, and
deduction shall be allocated for federal income tax purposes among the Partners
as follows:
(1) (a) In the case of a Contributed Property, such items
attributable thereto shall be allocated among the Partners
consistent with the principles of Section 704(c) of the
Code to take into account the variation between the 704(c)
Value of such property and its adjusted basis at the time
of contribution (taking into account Section 2.C of this
Exhibit C); and
---------
(b) any item of Residual Gain or Residual Loss attributable
to a Contributed Property shall be allocated among the
Partners in the same manner as its correlative item of
"book" gain or loss is allocated pursuant to Section 6.1
of the Agreement and Section 1 of this Exhibit C.
---------
(2) (a) In the case of an Adjusted Property, such items shall
(i) first, be allocated among the Partners in a manner
consistent with the principles of Section 704(c) of
the Code to take into account the Unrealized Gain or
Unrealized Loss attributable to such property and
the allocations thereof pursuant to Exhibit B;
---------
(ii) second, in the event such property was originally a
Contributed Property, be allocated among the
Partners in a manner consistent with Section 2.B(1)
of this Exhibit C; and
---------
(b) any item of Residual Gain or Residual Loss attributable to
an Adjusted Property shall be allocated among the Partners
in the same manner its correlative item of "book" gain or
loss is allocated pursuant to Section 6.1 of the Agreement
and Section 1 of this Exhibit C.
---------
(3) all other items of income, gain, loss and deduction shall be
allocated among the Partners the same manner as their
correlative item of "book" gain or loss is allocated pursuant to
Section 6.1 of the Agreement and Section 1 of this Exhibit C.
---------
C. To the extent Regulations promulgated pursuant to Section 704(c) of
the Code permit a partnership to utilize alternative methods to eliminate the
disparities between the Carrying Value of property and its adjusted basis, the
General Partner shall, subject to the following, have the authority to elect the
method to be used by the Partnership and such election shall be binding on all
Partners. With respect to the Contributed Property transferred to the
Partnership as of the date hereof, the
C-3
<PAGE>
Partnership shall elect to use the "traditional method" set forth in Treasury
Regulation (S) 1.704-3(b).
C-4
<PAGE>
EXHIBIT D
NOTICE OF REDEMPTION
The undersigned hereby irrevocably (i) redeems _________ Units in Host
Marriott, L.P. in accordance with the terms of the First Amended and Restated
Agreement of Limited Partnership of Host Marriott, L.P., as amended, and the
Unit Redemption Right referred to therein, (ii) surrenders such Units and all
right, title and interest therein and (iii) directs that the Cash Amount or
Shares Amount (as determined by the General Partner) deliverable upon exercise
of the Unit Redemption Right be delivered to the address specified below, and if
Shares are to be delivered, such Shares be registered or placed in the name(s)
and at the address(es) specified below. The undersigned hereby represents,
warrants and certifies that the undersigned (a) has marketable and unencumbered
title to such Units, free and clear of the rights of or interests of any other
person or entity, (b) has the full right, power and authority to redeem and
surrender such Units as provided herein and (c) has obtained the consent or
approval of all persons or entities, if any, having the right to consult or
approve such redemption and surrender.
Dated: __________ Name of Limited Partner:_______________________
----------------------------------
(Signature of Limited Partner)
----------------------------------
(Street Address)
----------------------------------
(City) (State) (Zip Code)
Signature Guaranteed by:
----------------------------------
If Shares are to be issued, issue to:
Name:
Please insert social security or identifying number:
<PAGE>
EXHIBIT E
VALUE OF CONTRIBUTED PROPERTY
Contributed Property 704(c) Value Agreed Value
- -------------------- ------------ ------------
.............................$ $
.............................
------------ -----------
Subtotal.....................$ $
------------ -----------
.............................$ $
.............................
----------- -----------
Subtotal.....................$ $
----------- -----------
.............................$ $
.............................
------------ -----------
Subtotal.....................$ $
------------ -----------
.............................$ $
.............................
------------ -----------
Subtotal.....................$ $
------------ -----------
.............................$ $
.............................
------------ -----------
Subtotal.....................$ $
------------ -----------
.............................$ $
.............................
------------ -----------
Subtotal.....................$ $
------------ -----------
TOTAL CONTRIBUTED PROPERTY.............$ $
============ ===========
<PAGE>
Exhibit 23.2
CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS
As independent public accountants, we hereby consent to the use of our
reports and to all references to our firm included in or made a part of this
registration statement.
ARTHUR ANDERSEN LLP
Washington, D.C.
May 28, 1998
<PAGE>
Exhibit 23.3
CONSENT OF APPRAISER
We hereby consent to the references made to us, our appraisals and/or fairness
opinion by Host Marriott, L.P. in the Prospectus/Consent Solicitation Statement
constituting a part of this Registration Statement on Form S-4. In addition we
consent to the filing of our appraisal reports and fairness opinion referred to
therein as exhibits to the Registration Statement. In giving such consent, we
do not thereby admit that we come within the category of persons whose consent
is required under Section 7 of the Securities Act of 1933, as amended, or the
rules and regulations of the Securities and Exchange Commission thereunder.
AMERICAN APPRAISAL ASSOCIATES, INC.
By /s/ Ronald M. Goergen
---------------------------------
Ronald M. Goergen
President
Milwaukee, Wisconsin
May 29, 1998
